Is Shrinking Money Supply Deflationary?

Macro Perspectives

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There has been a lot of chatter about the shrinking money supply;

• Reuters reports the "money supply falling at the fastest rate since the 1930s."

• Goldman Sachs points out money supply "has been shrinking for the first time since 1949."

These are references of the deflationary depression era. Let's take a look ...

Indeed, money supply has been contracting on a year-over-year basis since last December. And what is historically associated with a contraction in the supply of money and credit (which is not contracting, but slowing)? Deflation.

So, some think this contraction in money supply is signaling a deflationary bust. What are they ignoring?

Consider this: The massive monetary and fiscal response to the pandemic (plus the subsequent agenda spending binge) ramped the money supply by 40% in just two years. That was almost a decade's worth of money supply growth (on an absolute basis), dumped onto the economy in a span of two years.

With that context, this is the chart of money supply that matters ...

As you can see in the chart, the level of money supply remains significantly elevated. If we extrapolate out the pre-pandemic trend growth in money supply, the economy still has more than $3 trillion in excess money sloshing around.

That's why we continue to have hot nominal growth (a nearly 9% annual rate of GDP growth last quarter).

I wish you an excellent start to the day and a wonderful weekend!