Economists are eyeing the increase in the money supply as inflation fears rise

Economists are eyeing the increase in the money supply as inflation fears rise

So far, the growth in money supply has not been a large driver of inflation pressures, in large part because cash is being held by banks as deposits. Federal Reserve Chairman Jerome Powell on Wednesday said the Fed would adjust policy if inflation expectations moved too high, and the central bank shifted its first projected rate increase from 2024 to 2023. The Fed has also played down the link between money supply and inflation, and Powell said in February that the money measures have not been important determinants of inflation “for a long time.”

“This money supply growth is just so much faster than anything we’ve seen,” said Desmond Lachman, resident fellow at the American Enterprise Institute. “It’s a reflection of a huge amount of pent-up demand in the economy… it’s difficult for me to see how you don’t get inflation.” The measure has been running between 22% and 31% each month since April 2020, fueled by unprecedented economic stimulus from the Federal Reserve and U.S. government. That compares with annual growth of around 3-7% that was common from 2015 to early 2020.

Money supply https://fingfx.thomsonreuters.com/gfx/mkt/yxmpjadyyvr/Divisia%20Index.JPG Money supply – which measures outstanding currency and liquid assets – rose 12% year-over-year in April, according to The Center for Financial Stability’s Divisia M4 index including Treasuries.

The worry is that companies, investors and consumers will draw on their deposits and boost spending while banks increase lending as the economy reopens. Some economists worry that such a confluence of factors could cause demand to grow at a faster rate than economic output, pushing prices higher. Money supply growth was a factor behind high inflation in the 1970s, as the government ran up fiscal deficits and the Fed adopted loose monetary policies in an effort to boost employment. Story continues

This time around, however, banks are struggling with record deposits after the U.S. government ramped up fiscal spending, while the Federal Reserve is buying unprecedented amounts of bonds. Indeed, the central bank’s bond purchases after the financial crisis failed to spark the inflation some expected, with the economy taking years to recover and money supply falling at that time.

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