Understanding the US Money Supply: Growth or Decline?

The concept of the US money supply is a complex and evolving topic that continues to intrigue economists and the general public. Figures may suggest an increase in wealth, but physical holdings often tell a different story. This article aims to clarify the current state of the US money supply, explore the implications of quantitative easing (QE), and discuss the relationship between money supply and inflation.

What Determines the US Money Supply?

One of the key debates surrounding the US money supply is whether it is increasing or decreasing. According to the credit theory of money, the money supply is not static but fluctuates based on economic factors and central bank policies. Some argue that the money supply has been steadily increasing, while others suggest that it has decreased in terms of tangible holdings.

The Role of Quantitative Easing (QE)

Numerous factors influence the US money supply. One of the most significant is the practice of quantitative easing (QE) by the Federal Reserve. Since the financial crisis of 2008, the Fed has implemented several rounds of QE, which has led to an increase in the money supply. As of the time of writing, Biden’s administration has printed a larger portion of the money supply in the last few years, totaling approximately 80% since he took office. This increase is partly attributed to the unprecedented economic challenges faced during his tenure.

M2 and M3: Measures of Money Supply Growth

Various measures of the money supply exist, such as M1, M2, and M3. M2 includes cash, checking deposits, and savings deposits, while M3 also includes large time deposits and institutional money market funds. Over the past nine years, the money supply, as measured by M2, has grown at an average annual rate of 5.9%. For M3, the growth rate has been slightly lower at 4.9%. These rates are considered meaningful, especially when accounting for real growth and inflation.

The Relationship Between Money Supply and Inflation

The official policy of the Federal Reserve aims to maintain a 2% annual inflation target. To achieve this, the Fed usually increases the money supply by approximately 5% per year if the economy is growing at about 3%. However, it is important to note that the relationships involved are more complex than this simplistic explanation. Factors such as velocity of money and other economic variables play critical roles in determining the effectiveness of monetary policy.

Monetary Policy and the Money Supply Curve

In terms of the supply curve, we can assume it to be inelastic to changes in interest rates. This means that the supply of money does not depend on the interest rate but rather on other factors such as central bank policies and economic conditions. Therefore, the money supply curve is typically depicted as a vertical line in standard economic diagrams, indicating that supply is not responsive to changes in the interest rate.

Is the Money Supply Increasing or Decreasing?

The traditional view is that the money supply is increasing under the guidance of the Federal Reserve. This increase is necessary to sustain the target inflation rate and accommodate economic growth. However, this growth comes with the risk of inflation, which the Fed must monitor and control. As long as the Fed continues to prioritize its 2% inflation target, the money supply will likely remain on an increasing trajectory.

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For a better visualization, the graph below shows the growth rate of M3 (on the left side) and the money supply (on the right side). This can help in understanding the trends in the US money supply over time.

Conclusion

The US money supply is a dynamic element of the economy, influenced by various factors including quantitative easing, inflation targets, and economic growth. While the figures may suggest a steady increase, it is important to consider the tangible impact on personal wealth and the broader economic implications. As the Fed continues to manage monetary policy, the ongoing debate about the money supply will undoubtedly continue.