Does "Printing" Money Cause Inflation? Not Necessarily...

The big financial news of the past week was that the consumer price index (CPI), a broad measure of inflation, jumped to 4.2% yoy in April, up from 2.6% in March--the highest level since...2008. Cue the frantic headlines in the financial press. Never mind, that (i) the change is coming off a low base due to the Covid-19 lockdown and (ii) that in 2008 we were in the midst of the Great Recession. Yes, inflation was higher even during that recession than it is today, which tells you how much of a disinflationary environment we've been living in the past dozen years. When the Fed says any inflation is likely to be transitory, we are inclined to agree with them.

But investors know better, of course, and the financial press that caters to them are screaming about how we are on the precipice of runaway inflation. Why? Is it because of ultra accommodative monetary policy? Umm, no...the market is okay with that...throwing a major tantrum last time yields rose. Free money is great! (to be fair not everyone agrees...hedge funds have long complained about low rates). No the "real" danger are the massive stimulatory fiscal policies designed to help lower-income Americans, which they feel will end very badly. Paul Krugman's recent column has a couple of interesting charts that say otherwise.

First, while there was a relationship between money supply (blue line) and CPE--the measure of "core" inflation the Fed follows--in the 1970s and 1980s, there has been little, if any, correlation between money supply and CPE over the last 30 years.  

What's going on? The classic definition of inflation is "too much money chasing too few goods." And that shows up in the "velocity" of money, technically the ratio of GDP to money supply, but more colloquially how quickly money changes hands. Well, the velocity of money has plunged in the last 20 years. So while money supply has spiked, GDP hasn't, growing at an anemic 2% per year.  

Moreover, most, of that growth, as we know, has accrued to the top 1%, which has resulted in asset price inflation. We mention that because Biden's policies are geared towards giving lower-income households economic relief as this cool chart from the NYT shows. Middle and lower-income families are more likely to spend than save. That could increase the velocity of money and economic growth, which would be good. But runaway inflation? Nah, demographics and other powerful structural factors will keep inflation in check.