Question

Since 2008, the money supply has almost quadrupled, going from $1.4t to $5.3t. At the same time, the Real GDP (the actual amount of goods and services produced by the economy has increased by a modest 23%, equivalent to an average growth of just under 2% per year.  

We expect that a large increase in the money supply without a corresponding increase in the Real GDP would cause a very large increase in inflation. In fact, since 2008 inflation has been quite low, averaging under 2% a year.

Our Monetary Exchange equation isn’t wrong. How do you explain this apparent contradiction? What happened to keep inflation so low while the money supply went way up? I am not looking for precise numerical calculations, but rather a thorough explanation of what happened to keep inflation so low.

Question 2: Money, Reserves and Inflation (8 points out of 20) This chart shows actual numbers for the US economy since 1984. M1 Money Supply and Excess Reserves (Sillions) $5,500 $5,000 I $4,500 $4,000 $3,500 $3,000 $2,500 $2,000 $1,500 $1,000 $500 $0 1984 1985 1986 1987 1988 1989 0661 1661 7661 1661 1661 5661 9661 LGGT ZIOZ EIOZ VOZ 2015 2016 2017 2018 2019 2020 2021 Mi Money Supply Excess Reserves Source: StLouisFed.org Since 2008, the money supply has almost quadrupled, going from $1.4t to $5.3t. At the same time, the Real GDP (the actual amount of goods and services produced by the economy has increased by a modest 23%, equivalent to an average growth of just under 2$ per year. We expect that a large increase in the money supply without a corresponding increase in the Real GDP would cause a very large increase in inflation. In fact, since 2008 inflation has been quite low, averaging under 21 a year. Our Monetary Exchange equation isn't wrong. How do you explain this apparent contradiction? What happened to keep inflation so low while the money supply went way up? I am not looking for precise numerical calculations, but rather a thorough explanation of what happened to keep inflation so low.

Answer 1

Reasons why the inflation remained low depsite massive monetary stimulus in 2008's are:

1. Most of the money did not entered the economy:

In order to increase inflation money supply should have increased in the economy as per monetary exchange equation. However most of the monetary stimulus of Fed did not entered into the economy and rather went to Banks increasing their reserves (as it can be seen from the excess reserves curve) and other parts of it went to asset market (making asset valuations peak again and boosting stock market rather). Therefore if money did not entered into active economy (goods market) it did not lead to increase in inflation.

2. Subdued global growth:

When the global growth is strong, demand rises and price also rises but due to decrease in global growth there was less demand in the global economy, hence inflation did not picked up.

3. Lower crude oil prices also led to less increase in the prices of goods and cheaper gasoline therefore inflation remained muted since 2008's.

Please Upvote and Support!!