Don’t show this St. Louis Fed article to Nick Rowe
A commenter sent me a paper from the St. Louis Fed:
This view can also be represented by the so-called “quantity theory of money,” which relates the general price level, the total goods and services produced in a given period, the total money supply and the speed (velocity) at which money circulates in the economy in facilitating transactions in the following equation:
MV = PQ
In this equation:
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M stands for money.
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V stands for the velocity of money (or the rate at which people spend money).
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P stands for the general price level.
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Q stands for the quantity of goods and services produced.
Oh, so that’s the quantity theory of money. In fairness, they do mention stable velocity later on. But stable velocity is the QTM, it’s where you start the explanation. They continue:
And why then would people suddenly decide to hoard money instead of spend it? A possible answer lies in the combination of two issues:
- A glooming economy after the financial crisis
- The dramatic decrease in interest rates that has forced investors to readjust their portfolios toward liquid money and away from interest-bearing assets such as government bonds
In this regard, the unconventional monetary policy has reinforced the recession by stimulating the private sector’s money demand through pursuing an excessively low interest rate policy (i.e., the zero-interest rate policy).
If only the Fed had joined the ECB in raising interest rates back in 2011. Then we would have had a much faster recovery.
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9. September 2014 at 13:56
“A commenter sent me a paper from the St. Louis Fred:”
Fred or Fed?
9. September 2014 at 13:58
Thanks Tom, I’m still jet lagged.
9. September 2014 at 14:06
“And why then would people suddenly decide to hoard money instead of spend it?”
Because swimming naked when the tide goes out sucks?
9. September 2014 at 14:26
There are variations of the quantity theory of money. One is constant velocity.
Another variation, the one I think is right, is this: The amount of money spent is primarily determined by how much money exists.
This variation of the QTM does not make any assumption of constant velocity over a period of time. It also does not assume that an increase (decrease) in the quantity of money must immediately or within a definite time span bring about an increase (decrease) in spending.
It is a very limited theory.
This QTM explains why NGDP is higher today than it was in say 1950.
9. September 2014 at 14:30
“If only the Fed had joined the ECB in raising interest rates back in 2011. Then we would have had a much faster recovery.”
Higher interest rates do not mean tighter money. A guy named Sumner said that.
9. September 2014 at 14:32
Aaaargh! Too late!
I really really wonder what young economists are learning in grad skool nowadays. Do they learn the math, but no economics?
9. September 2014 at 16:47
Probably, a reverse causality? A fall in the velocity caused the Great Recession, so the Fed has pursued QEs (I will leave to your judgment whether they have been really expansionary). Howver, the authors of the article interpret the data all backwards, I guess?
9. September 2014 at 16:49
Or I, should have said the Great Recession caused the fall in the velocity. The reverse causality I mentioned lies between that and QEs.
9. September 2014 at 17:13
‘Do they learn the math, but no economics?’
I’ve encountered a number of economists for whom that appears to be the case.
9. September 2014 at 18:03
Wait…so I own a portfolio of bonds, and interest rates fall…that makes my bonds more valuable, and throwing off a yield I cannot get anymore in a bank account or fresh bonds. So I am forced to sell the bonds I own?
10. September 2014 at 05:33
Why has the 10-year U.S. treasury suddenly surged to 2.54%?……
10. September 2014 at 06:11
Lorenzo from Oz wrote the long essay below. Deserves to be read multiple times!
http://skepticlawyer.com.au/2014/08/27/ahistorical-pomposity-and-gnostic-sneering-why-academics-write-deep-crap-about-neoliberalism
10. September 2014 at 06:51
The dramatic decrease in interest rates that has forced investors to readjust their portfolios toward liquid money and away from interest-bearing assets such as government bonds
I especially like this assertion in conjunction with the one that everything is money because everything bears interest now.
The illusion of low nominal interest rates will be remembered as the second-greatest folly of the early 21st.
10. September 2014 at 08:49
TravisV:
Lorenzo argued central banks adopting inflating targeting is paet of the “neoliberalization” movement. It is actually the reverse, because in order to bring about constant and perpetual price inflation, it was necessary for the government to abandon the last vestiges of the gold standard which up to then put a check on how much the government could inflate money for itself (central banks are governmental institutions).
Now this is not to say that price inflation targeting was the reason or impetus for leaving the last link to gold, it is that fiat money is necessary for constant and perpetual price inflation to be feasible as a central bank target.
Constant and perpetual price inflation targeting of course requires constant and perpetual central bank “OMOs”.
What ended up happining with the “neoliberalization” movement was in large part a shift from treasury “management” to federal reserve “management.” It is only in this historical sense that more fed management is associated with the neoliberalization movement. But in terms of “liberalizing the economy away from state control”, central banks adopting price inflation targeting is certainly not an act of market liberalization.
10. September 2014 at 08:58
Pretty good article otherwise. Lots of good points.
10. September 2014 at 09:04
Wow, veey good article in fact.
10. September 2014 at 10:24
The current condition:
M = People don’t have enough money (unemployment and poor income growth) both in the US and worldwide. Further, I think macro needs to look more globally these days, and maybe it is China that is hoarding money supply.
V = IMO Depends on M, and M is still poor right now
P = Prices are stable with downward pressure due to plenty of productive capacity
Q = There is plenty of stuff for people to consume and a ton of global capacity to produce stuff, people willing but unable to produce stuff and not enough M to buy it and in turn cause any excess demand.
10. September 2014 at 13:54
Back at:
http://www.themoneyillusion.com/?p=27475
“CMA, Anyone can hold base money.”
That is not right. Only banks can hold central bank reserves. Any entity can hold currency.
10. September 2014 at 14:07
Currency is base money.
10. September 2014 at 17:34
Travis, Lorenzo’s article is great. I did a brief post over at Econlog.
10. September 2014 at 19:31
I am mostly agreeing with Matt.
Too much M can (does not have to) make V go up too. Big change in PQ upwards.
Too little M can (does not have to) make V go down too. Big change in PQ downwards.
“M = People don’t have enough money (unemployment and poor income growth) both in the US and worldwide. Further, I think macro needs to look more globally these days, and maybe it is China that is hoarding money supply.”
I think that should be some to most people do not have enough M. What do economic “stats” like the savings rate look like if china and the USA are combined?
10. September 2014 at 19:38
For 90% Of Americans: There Has Been No Recovery
http://www.advisorperspectives.com/dshort/guest/Lance-Roberts-140910-No-Recovery-for-90-Percent.php
imo, Lance Roberts has good insights.
11. September 2014 at 05:03
Yes Fed up, great last point. When you go back to 2007-2008 when our trade deficit was around 6% of GDP, I assume that drove China’s savings rate up. China is getting dollar savings via trade and just parking that money. QE may have changed the composition of that savings to shorter term vehicles. Nonetheless, I think we have to look at central bank actions in a more global perspective.
I want to expand on Q a little more. Even if U.S. M doubled, I feel there is enough world capacity for Q to keep up, and prices would remain unchanged. I think U.S. M would need to increase significantly before you see much price movement. Globally, from a fiscal and central bank perspective, money is tight and Q potential is big.
13. September 2014 at 07:24
Wow. The St. Louis Fed has really gone downhill.