Sunday, 02 March 2014 00:00

Money Velocity In United States At A 60 Year Low

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A good indicator of real economic activity is the money velocity. The money velocity in the United States is currently at a 60-year low as evident from the chart. The important question therefore arises – Can expansionary monetary policies help real economic activity?


Money velocity in US for 2014


The second chart, which gives the excess reserves of depository institutions with the Fed, can help answering the question.


Excess Reserves of Depository Institutions With Fed


While the Fed is pursuing expansionary monetary policies, the banking system is risk averse. Instead of lending money, banks find it more attractive to park the excess reserves with the Fed and earn a 0.25% interest on the same. Therefore, the Fed is trying to ease credit while the banking system is tightening credit.

This scenario is exactly the opposite of the scenario between June 2004 and October 2007. During this period, the Fed increased interest rates from 1% to 5.25%, in order to slow the pace of credit growth. On the other hand, banks eased lending standards and credit growth went through the roof with rising interest rates. What follows is that the Fed’s policies are blunt. It is therefore not a great idea to experiment with monetary policies.

We can come up with an article to show that expansionary monetary policies have done more harm than good to the “Real Economy”. This is especially true with respect to “Real Inflation” and volatility across asset classes globally.

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