Velocity of Money
There is (at least) one measure of economic health that is hitting all-time lows – one that suggests that the monetary policies of the last 8 years may not be having as much of an inflationary effect (beyond financial assets) as many are speculating. This measure is referred to as the velocity of money.
The velocity of money loosely refers to the number of times a dollar is spent to buy goods or services (i.e. contributes to GDP) over some rolling period. It is calculated directly by taking the ratio of quarterly nominal GDP to money supply. The assumption is that injecting money into the system should be met with a proportional increase in consumption, as those extra dollars are used to consume more goods and services. A common measure of money supply - M2 - is defined to be the sum of all cash, checking deposits, and money market funds. This is a popular measure used in economic analysis, as these categories directly capture all liquid money available for consumption:
The implications of this trajectory are unclear. As are many topics in macroeconomics, theories about what this measure represents is hotly contested. The only definitive statement that can be made is that growth in GDP has not kept pace with the growth in M2, and the differential has pushed this measure to all-time lows! Whenever a major measure of monetary policy is reaching new extreme levels it should draw scrutiny from the investment community.
One major message that could be gleaned from this is that inflation expectations may be a bit optimistic given some of the structural challenges that still exist within the U.S. economy. Yes, lots of new cash has been created through stimulus and QE, but that money is not translating into new economic growth. This could be due to a myriad of both old and new issues creeping up on the market – stagnating wage growth for uneducated workers, an increasing student loan burden (nearly $30,000[i] for new grads), a decreasing workforce participation rate, and home prices/rent again becoming a significant portion of the inflation number. The year over year (“YOY”) rise in the shelter category stood at 3.2%, while consumer items such as apparel, televisions, software, PCs, and telephone hardware are all facing steep YOY price decreases. Combined with the dramatically declining M2 velocity, a weak Q2 outlook from corporate earnings calls, and economic data that is mixed at best, the picture that is painted is quite bleak.
The Fed may - yet again - be behind the curve.
"The Institute For College Access and Success." Home. N.p., n.d. Web. 25 May 2016.
IMPORTANT INFORMATION: This material is for information purposes only. The views expressed are those of the author(s) as of the date noted and not necessarily of the Firm and are subject to change based on market or other conditions without notice. The information should not be construed as investment advice or a recommendation to buy or sell any security or investment product. It does not take into account an investor's particular objectives, risk tolerance, tax status, investment horizon, or other potential limitations. All material has been obtained from sources believed to be reliable, but the accuracy cannot be guaranteed. We do not seek to endorse any investment products or financial services described herein. Any information about a product or service should be confirmed with its sponsor. Any remote links herein are provided only for your convenience and Braver Capital has no interest in, responsibility for, or control of the information on the linked website. We make no promises or warranties, expressed nor implied, including the accuracy of and fitness for a particular purpose of the content on any linked website. In no way will Braver Capital be liable for any damages resulting from use of these links under any circumstances.