Several recent articles have made the case that monetary policy should not ignore information about the stance of monetary policy found in a properly specified measure of the money supply. Properly specified means (1) appropriately grouping monetary assets into aggregates based on how money-like they are and (2) recognizing that there are both retail and institutional money assets. Standard measures of money like M2 ignore both issues. The graph above shows monetary aggregates from the Center for Financial Stability that do account for both.
Peter Ireland made the case for these measures at the most recent Shadow Open Market Committee while Doug Irwin did so on the pages of the Financial Times. Steve Hanke, meanwhile, invokes them to warn that the Fed may be undermining their growth by imposing stricter bank capital requirements. My own thoughts on properly measuring money can be found to right under the "Safe Assets, Money, and the Great Recession" header.
Update I: Just to be clear, I am not advocating money supply targeting. I still prefer a NGDP level target.
Update II: Michael Belongia reminds me that the targeting the money supply--an intermediate target--should not be confused with the ultimate goal of monetary policy, stable NGDP growth. Point taken. See his paper with Peter Ireland where they show how the Fed could implement NGDP targeting by stabilizing a Divisia measure of the money supply.
Fascinating work by the CFS folks.
ReplyDeleteThe issue of what is the money supply and if it is growing, and also the issue of what is inflation and can it be measured accurately raise interesting questions.
Are we dodging phantoms? Are we genuflecting to chimeras?
I think so. It may be we don't know what is the money supply exactly, or what is really happening (so precisely as down to 2 percent+-) on prices.
So I think that leads us back to NGDP targeting, but with a special emphasis indicators of economic output.
The decisive money supply is the aggregate sum of all decision makers in response to the question "how much money can I now spend"?
ReplyDeleteHow much money does one have? When one has an equity line of credit to home owned equity, that home equity is certainly part of the amount of money one has available to spend, as is the total credit limit on all credit cards.
I doubt that any of M4, M4-, or M3 include home equity, so they are less relevant to the house price bubble and pop. "Net worth" graphs show that better.
There needs to be more work done in "Asset-price money influence", because as home equity rises, both the amount of money available (M) and the willingness to spend it (V) go up -- and conversely. As house prices drop, both M from home equity and V drop.
Good theory for predicting what would happen needs to account for these messy, not easily tractable truths.