What is our true inflation rate?

Question

the U.K.’s broadest measure of money supply surged at an annual rate of 14.5% last month. Not only was that up from 11.4% a year earlier, it was also the fastest rate of growth since 1990.
Meanwhile, money supply in the 12-nation Eurozone climbed at an 8.5% year-over-year rate. In the past, the European Central Bank has called a rate of 4.5% risky!

In China, money is pouring out of every nook and cranny. That country’s broad money supply measure jumped 17.1% in October, up from 16.8% a month earlier.

I could go on and on, too — Australia saw an 11.3% increase, vs. 8.8% a year earlier, while Canada’s money supply growth hit a nine-month high.

Our Federal Reserve stopped publishing its measure a year ago, claiming the data wasn’t that important.

Other central banks have made similar moves:

The Reserve Bank of Australia just increased its benchmark interest rate to 6.25%, the third hike this year.


The European Central Bank has raised rates five times in past year.

The European Central Bank has raised rates five times in the past year. It also strongly hinted at more increases down the road.


And the Bank of England has resumed its rate-hiking campaign after being on hold for a year. Rates climbed to 4.75% in August and 5% this month.
Yet money is still piling up in vaults around the world. Want proof?

China’s foreign reserves just crossed the $1 trillion mark. They’re accumulating at the astonishing rate of $30 million per hour!

Reserves in the Middle East and North Africa (key oil producing regions) jumped $43 billion in 2003, $60 billion in 2004, and a whopping $126 billion in 2005.

Russia’s reserves have expanded an eye-popping 57% so far this year, hitting $274 billion.

It’s piling up in private hands, too. Banks, brokers, and pension funds are all swimming in a pool of dollars that they need to invest.

That’s fueling a massive wave of deals that make the leveraged buyouts of the 1980s look like child’s play.

Answer 1

Technically, money supply is not inflation - but it is empirically associated with inflation.

Inflation is typically taken from a consumer price index from a fixed basket of goods and services. While UK M1 rose 14.5% on broad measures for September 2006 (but only 5.1% on narrower measures), consumer prices rose 2.4% in October '06 (vs. 2.3% last year).



You are right to point out that the market is awash in liquidity. Money comes from numerous sources - at its basic core bills, coins, checking and savings. But the broader money supply (which is the one that matters) includes many other supplies - like the capital markets.

Where is all this cash coming from?

First and foremost, it is coming from loose monetary policy, residual from low interst rate environment post-9/11. As interest rates went to 40-year lows in the US, Japan and Europe, borrowing costs got so cheap as to be extremely cheap. This trigger asset reflation in real estate and commodities. Indirectly, it also help spur corporate earnings growth (double digit in the US, whereupon 7% is more like the average growth). The asset reflation also gave consumer a base to start borrowing from, dipping into equity saved up in their houses.

Secondly, the typical brake on liquidity - government bonds - has not been working. Typically, centralized banks and treasuries issues more paper in order to soak up excess liquidity in the system. For example, the US had to issue lots of new debt in 2005 to cover the costs of post-9/11 security and the two wars. However, large trade imbalances have lead Asian and Gulf countries to purchase large amounts of these issues to 1) stabilize interest rates in countries with fixed or quasi-fixed currency regimes (e.g. China) or keep interest rates stable in those markets with floating currencies.

So money supply has surged but without the surge in wages (revenue-side inflation) or prices (cost-side inflation). How? Basically, we are seeing a tsunami of capital formation - not at the consumer level - but at the corporate, government and asset level. We are already seeing the side-effects of this capital formation through the emergence of private-equities, rise of hedge funds and record pace of corporate earnings.

While we b*tch and moan about inflation at 3-4%, clearly we have short memories. Woe were the days back in the 80s when itnerest rates were in the twenties or the seventies when we had to wait in line for gasoline and prices went up so fast that they didn't bother posting the price.

Everything is relative. It hurts pretty bad going from a very long period of almost no inflation to "normal" inflation.

By the way... the US still publishes its M1 and M2, but discontinued M3.

Answer 2

Good question Grassy, I don't know the answer even though I am accountant major, all I know is it is to high!