Economics: Good News From The Inflation Front

 (Drivebycuriosity) - The financial markets and the Federal Reserve are obsessed with the US inflation rate. The disappointing numbers from January spooked the markets again and send stock prices south. The Fed stubbornly declares that more interest rates hikes are necessary to fight inflation and to reach their inflation target of 2%. A long way to go?

 

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But there are good news. Yesterday we learned that M2, the gauge for the US money volume, fell again in January. M2 shrank 1,7% YoY. The images above show the monetary growth rates which already peaked February 2021 and turned negative December 2022 (plus 27%). 

 

 

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Inflation is following with a lag of about a year and peaked in June 2022. The shrinking money volume will curb inflation further (scottgrannis ).

 

                         Flooded Economy

The causal connection between money and inflation is known since the 16th century at least!

Nicolaus Copernicus described already in the year 1522 how "too much money" causes inflation. His "quantity theory of money" is based on observation. The Spaniards had conquered today`s Latin America and looted the silver stocks. They send the precious metal to Europe where is was used as money. As a result the European money volume jumped, meeting a restrained supply of goods (agriculture, hand works) &  services. The flood of money raised suddenly the demand for scarce goods & services and caused a rise of the price level.

 

A similar process happened in the years 2020 & 2021. The US government flooded the economy with stimulus checks in the value of trillions of dollars (American Rescue Plan), supported by huge bond purchases by the Federal Reserve. The government money landed directly on the bank accounts of the Americans, blowing up the money volume M2 (bank notes & coins & deposits at banks).  

Over two years the US money volume M2 jumped about 40% as a result. The money deluge met a constraint supply of goods & services, partly because of Covid 19. It is no surprise that prices increased so much (marginalrevolution).

The source for the inflation, the monetary growth, doesn`t fizz any more. Now the falling monetary growth rates are curbing inflation - with a time lag. Milton Friedman, Karl Brunner, Allan Meltzer and other economists described already in the 1960s the complex connection between money and inflation. Apparently they are forgotten.