Steve Hanke's 'Golden Growth Rate' and the Current U.S. Money Supply Landscape
Why Steve Hanke's 6% "golden growth rate" for money supply may be the key to understanding today's inflation risks, and what comes next.
Steve Hanke, a professor of applied economics at Johns Hopkins University, has long advocated for a monetarist approach to understanding inflation. Central to his framework is the "golden growth rate" of the money supply, particularly M2, which he posits should expand at approximately 6% annually to support stable economic growth without triggering inflation. This rate aligns with the Quantity Theory of Money, suggesting a direct relationship between money supply growth and inflation.
The Golden Growth Rate Explained
Hanke's "golden growth rate" is derived from the equation of exchange: MV = PY, where:
M represents the money supply
V denotes the velocity of money
P stands for the price level
Y signifies real GDP
Assuming a stable velocity (V) and a target real GDP growth (Y) of around 3%, a 6% annual increase in M2 would correspond to a 3% inflation rate (P), aligning with many central banks' inflation targets.
Recent Trends in U.S. Money Supply
In the wake of the COVID-19 pandemic, the U.S. experienced an unprecedented surge in M2 growth, reaching approximately 26% year-over-year in 2020. This rapid expansion was a response to economic shutdowns and fiscal stimulus measures. However, by late 2024, M2 growth had decelerated significantly, with reports indicating a year-over-year growth rate of 2.6%, falling below Hanke's recommended 6% threshold.
Implications of Deviating from the Golden Growth Rate
The initial overshoot in money supply growth contributed to inflationary pressures, as predicted by the Quantity Theory of Money. Conversely, the subsequent undershooting raises concerns about potential deflationary trends or economic stagnation. Hanke emphasizes that maintaining the golden growth rate is crucial for economic stability, cautioning against both excessive and insufficient money supply growth.
Visualizing the Data
In a study updating earlier research, Hanke and his colleagues analysed data from 147 countries between 1990 and 2021. They found a strong correlation (0.944) between M2 growth rates and inflation, reinforcing the importance of controlled money supply expansion.
Conclusion
Steve Hanke's concept of a golden growth rate for the money supply serves as a guideline for monetary policy aimed at achieving price stability and sustainable economic growth. The recent fluctuations in U.S. M2 growth highlight the challenges of adhering to this benchmark, underscoring the need for careful monetary management to avoid the pitfalls of both inflation and deflation.