Thursday, April 28, 2022

Inflation, A Milton Friedman Chart

 Milton Friedman once famously said:

“Inflation is always and everywhere a monetary phenomenon, in the sense that it is and can be produced only by a more rapid increase in the quantity of money than in output.”

IMHO his statement is self-evident.

How is the US doing in this respect? Is the currently soaring inflation due to the pandemic "supply chain disruptions" and the war in Ukraine? Or is it "a more rapid increase in the quantity of money than in output"?  I believe that the chart below makes things perfectly clear.

The line is the ratio of M3/GDP in current dollars, ie by Friedman's definition above, "the quantity of money" divided by "output".  Notice how the line has varied very little for 50 years between 0.5 and 0.6, until around 2010 when the Great Debt Crisis forced the Fed to pump much more money into the system.

M3/GDP ($/$)

The pandemic then threw money creation into overdrive, as QE printed money in unprecedented quantities, justified (?) by the Modern (?) Monetary Theory (MMT) which claimed that the money tsunami is perfectly ok because GDP growth will eventually catch up. 

Well.... MMT is not working, at least not yet: the ratio soared to 0.90 and doesn't show any signs of going down fast, despite record GDP.  Instead, inflation soared - as Milton Friedman would expect.

==> It is all the more urgent for the Fed to start QT-ing in size.


  1. I see it as:

    The fed has printed M0; this will eventually increase M3; which will eventually increase inflation.

    Currently, M3 has not caught up with M0, and inflation has not caught up with M3. Thus, if we stop all printing now, inflation should be 300% to 600% in the next few years.

    If inflation is purely a monetary affair, QT in size would require removing 5/6 of the current monetary base (M0). I think doing so will result in ww3. Not super power vs super power... but local power vs local power vs local power...

    Its not just the U.S.; countries outside the U.S. are even more vulnerable to QT. To a certain extent, the Russia Ukraine saga is just the start. When political regimes feel threatened, they often resort to force... Fun times boys. =)

    1. But you need to subtract output (gdp) from monetary growth akoc, inflation would be the result.

    2. Correct, Camabron! Here’s a quick and dirty calculation: before COVID QE, M3/GDP was at 0.7; it has now jumped to 0.9, ie an increase of 29%. I think that’s the absolute maximum and for some goods and services we have already seen it (eg energy, food).

      I don’t expect CPI to reach that, maybe 50% of this, at most. And that’s before QT.

    3. Interesting! Thanks and regards to you!

    4. my numbers would look something like this:

      M0 about 6 times
      GDP since great financial crisis,... I would put at 1.5 times
      That leaves a 4 times jump in M0 vs GDP.

      M3 vs GDP has only jumped twice... i.e. if we assume money equal inflation, M3 will jump another 2 times over the next few years...

      also a lot of the GDP is probably inflated... if we allow for that, M3 vs GDP might jump 2.5 times...

      if inflation follows M3, we are looking a 2 x 2 = 400% inflation....

      I am noob on this... if it is wrong, can help me correct? Thanks.

    5. You've inaccurately described MMT by caricaturing it. They propose to restrain inflation with much higher tax rates on high incomes, especially on passive income, and possibly wealth. This would pull the money out of the economy on the back end.

      Not an MMTer myself, due to my view that resource constraints are clearly kicking in, and global industrial civilization is in inexorable, long-term decline. It follows, to me anyway, the only alternative to uncontrolled collapse (and conflict) is a controlled demolition. Unfortunately, the latter will not happen, so disaster it is.

      Still, let's not misrepresent others' views. You could at least read Kelton's book.

    6. Hey anon... thanks for writing.... If you don't mind my asking, if money is going to be pulled out of the system through taxation, why bother with the printing in the first place... we could just do the traditional tax and spend... in that case, what would be the whole point of MMT?

    7. The whole point is timing: print now (as much as you want) and tax later. Theoretically, it works; but practically it is nearly impossible because tax hikes are extremely unpopular and, thus, politically untenable.

      Proof: under MMT US tax rates should already be much higher in order to dampen private spending and inflation. But, they aren’t…

    8. ah... I understand now!!!! =)

      so, the argue of MMT is that inflation is not instantaneous. There is a lag between printing and inflation. If we exploit the lag, it is possible to avoid a recession, while also avoiding inflation. i.e. magic... =)

    9. This comment has been removed by the author.

  2. or to put it in another way... MMT proposes to shift the burden of monetary policy from the speculators (who are affected by interest rates) to the producers (who are affected by taxes)... that is if the status quo taxation system is maintained...

    evil bastards... but I really love the deviousness of the thinking... =)