For the past year, money supply growth in the United States has been consistently negative, marking a notable shift from the high growth rates seen in previous years. As of October 2023, the year-over-year (YoY) decline in money supply was –9.33%, slightly improved from September’s –10.49%, but still significantly lower than October 2022’s positive rate of 2.14%. Historically, such a drastic reduction in money supply growth is rare, with similar declines not seen since the Great Depression era.

The “true” money supply measure (TMS), developed by Murray Rothbard and Joseph Salerno, aims to provide a more accurate view of money supply fluctuations than traditional metrics like M2. In recent months, TMS has declined more rapidly than M2, with TMS growth falling by –3.35% in October 2023, mirroring the previous month’s rate.

Money Supply Trends

1. Historical Context

   • 1994: The last significant negative trend in money supply was seen in the period from November 1994 to January 1996, lasting fifteen months.
   • 2022-2023: The recent downturn has lasted for twelve consecutive months, showcasing one of the steepest declines in recent history.

2. Comparison with Depression-Era Declines

   • Current Decline: The money supply has shrunk by approximately $2.8 trillion since its peak in April 2022, a 13.1% drop.
   • Depression-Era: In comparison, the money supply fell by 12% from $73 billion in mid-1929 to $64 billion by the end of 1932.

Impact on the Economy

Economic Indicators:

Money Supply and Monetary Policy

The Federal Reserve’s approach to controlling the money supply greatly influences the economic landscape. The Fed initiated a series of interest rate hikes, bringing the federal funds rate to 5.50% by early December, the highest since 2001. This has resulted in increased short-term interest rates, with 3-month Treasury yields reaching 5.6% in October. Higher interest rates typically lead to reduced borrowing by businesses and consumers, contributing to the contraction in money supply.

Interest Rates:

• 30-year Mortgage Rate: 7.62% in October, the highest since November 2000.

Commercial Bankruptcies

Bankruptcy filings have surged, highlighting the financial distress faced by many businesses:

• November 2023: Commercial Chapter 11 filings reached 842, a 141% increase from November 2022.
• Total Bankruptcies: There were 37,860 filings in November, a 21% increase from the same month the previous year.

Lending and Borrowing

With higher interest rates, securing loans for both businesses and private consumption has become more expensive. For example, the average rate for 30-year mortgages hit 7.62% in October.

Inflation and Wage Concerns

Despite some economists suggesting that inflation pressures have eased, many workers feel their earnings are not keeping pace with rising living costs. This sentiment hints at underlying economic strain that could worsen if inflationary pressures resurface.

Contraction in the money supply and rising interest rates imply an economic downturn might be on the horizon. The Federal Reserve’s monetary policies, including adjustments to interest rates, play a crucial role in managing this complex economic landscape. The understanding and monitoring of money supply metrics such as TMS and M2 are vital for predicting future economic trends and stability.

Frequently Asked Questions

What are the differences between M1, M2, and M3 money supply?

M1 includes the most liquid forms of cash such as physical currency, demand deposits, and checking accounts. M2 encompasses all of M1 plus savings accounts, money market securities, and other time deposits, which are less liquid but still easily convertible to cash. M3 consists of M2 plus larger, less liquid assets such as large time deposits, institutional money market funds, and other large liquid assets. More details can be found on this explanation of money supply measures.

How is the money supply measured in the economy?

The money supply is typically measured using different aggregates like M1, M2, and M3. These measurements provide a comprehensive view of the amount of money available in the economy. While M1 looks at the most liquid physical forms of money, M2 and M3 take into account other forms of near-money or less liquid assets. The Federal Reserve often publishes these figures.

What role does the central bank play in controlling the money supply?

The central bank, such as the Federal Reserve in the United States, plays a crucial role in managing the money supply. It uses tools like open market operations, the discount rate, and reserve requirements to influence the amount of money circulating in the economy. By doing so, the central bank aims to control inflation, stabilize the currency, and achieve other economic goals.

What impact does a change in the money supply have on inflation and interest rates?

Changes in the money supply can significantly affect inflation and interest rates. An increase in the money supply often leads to higher inflation, as more money chases the same amount of goods and services, driving up prices. Conversely, a decrease can help to lower inflation. Interest rates are also impacted; typically, more money in circulation leads to lower interest rates, while less money can result in higher rates. For more context, refer to this article on money supply and its impacts.

How are the components of money supply categorized?

The components of the money supply are categorized based on their liquidity. M1 includes items that can be quickly converted to cash, such as physical currency and checking accounts. M2 adds savings accounts and small time deposits, which are less liquid but still easily convertible. M3 further includes large time deposits and other large liquid assets. Each component represents a different level of access and usability in economic transactions.

What factors can lead to an increase or decrease in the money supply?

Several factors can influence the money supply. Central bank policies, such as altering the reserve requirements or adjusting interest rates, can increase or decrease the money in circulation. Economic activities such as loan creation by banks can also impact the money supply. Additionally, government policies, public spending, and changes in overall demand for money contribute to variations in the money supply.