money are followed by anof inflation.

1{ECOVERY FROM the slowdown of 1969-70 hascontinued. Total spending has risen at a 7 per centannual rate since the second quarter of 1970, after a4 per cent rate of increase in the three previousquarters. The growth rate in real output, adjusted forstrikes and other irregular forces, has steadily in-creased since the first quarter of 1970. In the secondquarter of this year, it is estimated that total spendingis increasing at about a 10 per cent rate and real out-put is rising at about a 5 per cent rate.1

Retail sales have risen markedly since last Novem-ber, following a two-year period of sluggishness, andhousing starts have risen substantially since last fall.The composite of leading business indicators has risenat a 15 per cent annual rate since last September.Industrial production, after rebounding from the au-tomobile strike, increased gradually in March andApril. By contrast, industrial production declinedabout 3 per cent in the year preceding the strike.

Indications of the course of inflation are mixed.Consumer prices have risen at a 4 per cent annualrate since June of last year, compared with 6 per centfrom mid4969 to mid-1970, However, there has beenlittle, if any, improvement in the wholesale scctor.Average hourly earnings in manufacturing, adjustedfor interindustry shifts and changes in overtime, haverisen at an 8 per cent rate since last August, comparedwith a 6.4 per cent increase in the previous year.

Monetary restraint was applied in 1969 to reducethe inflationary pressures. During 1969, the moneystock rose about 3 per cent, down from the 7.6 percent rate of the previous two years. Growth in totalspending slowed about six months later. After a stilllonger lag, the rate of advance in some price indica-tors began receding gradually.

tSee the “Quarterly Economic Trends” release of this Bank,May 26, 1971, p. 6.

Page 2

Since early 1970, monetary policies have been re-laxed considerably. During 1970 money increased 5.4per cent. Spending and production have been stimu-lated, despite the auto strike and cutbacks in Govern-ment defense spending, Early this year the growthrate in money again accelerated. Concern is develop-ing over whether the rate of monetary expansion hasbecome too rapid.2

This article discusses the recent rate of moneygrowth and attempts to place it in some historicalperspective. The accompanying note discusses someproblems in measuring money growth.

Recent Grc-wth ot 2.loney

In the four months from January to May, the moneystock rose at a 14 per cent annual rate to a level ofabout $224 billion. The rapid rise did not depend onan unusual jump in any one month. On the contrary,month-to-month annual rates of increase were 15 percent, 12 per cent, 10 per cent, and 18 per cent,respectively,

Since last November, money has risen at a 10 percent annual rate and since September, at an 8 per centrate. For the entire fifteen-month period from Feb-ruary last year, which began a marked and sustainedincrease in the rate of growth, to May this year,money grew at an average 7.6 per cent annual rate.

Coinpanson.s b~zthPrcczou.s Rates

The recent rates of money expansion are relativelyrapid compared with other periods since the earlyl950’s. The 10 per cent annual rate since November,and the 7,6 per cent rate since February 1970, com-pare with a 3 per cent rate from January 1969 toFebruary 1970, a previous period of a relatively

2See dissents in the “Record of Policy Actions of the FederalOpen Market Committee,” contained in the Federal ReserveBulletin for February 1971, pp. 118-19; for April 1971, p.327; and for May 1971, p. 397.

How Fast is Money Growing?by NORMAN N. BOWSHER

Concern has been expressed about the progress this nation is making in thestruggle against inflation. In recent months money has been rising at a veryrapid pace. Experience has demonstrated that prolonged, rapid increases of

excessive rise in spending and an intensification

FEDERAL RESERVE BANK OF ST. LOUIS JUNE 1971

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Mula’ttLr\ des’eInp~ot Ills hi,ne ~igoiht’.oa effects on L~LiIlOlIUnod t’otIio~pi’link ore1

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Page 3

FEDERAL RESERVE BANK OF ST. LOUIS

1964 to 1965, and 2.7 per cent, 3,2 per cent, 4.0 percent, 4,7 per cent, and 5.3 per cent, respectively, insuccessive years.

The trend growth in money was 2.3 per cent peryear from 1951 to 1965. This trend was sufficient toaccommodate the growth in business and financialtransactions caused by the expansion of real output.

(:oniva.risons lVith (it/icr Recovem Poriods

The economy is now in the process of recoveringfrom a mild recession. Some stimulation might be ap-propriate during a recession, but the 10 per cent rateof growth of money since last November is snore rapidthan during other recovery periods.

Recessions occurred in 1949, 1954, 1958, and 1960,and there ‘was a marked slowing of activity in 1966-67.During the recession of 1949, money growth acceler-ated, and from November 1949 to April 1953 moneygrew at a 4,3 per cent annual rate. From April 1954to May 1955 and from January 1958 to June 1959,money again grew at the accelerated rate of 4.3

per cent. In each of these recessions, monetaryactions were considered to he aggressively stinuu-lative at the time; in each ease the acceleration ofmoney growth was followed within a few months byan upturn in the growth rate of spending and produc-tion, Also, inflation generally became stronger about ayear later, and the rate of monetary expansion ap-peared, in retrospect, to have been too rapid.

Page 4

Money growth accelerated again (luring the reces-sion of 1960. The rate of nioney growth, beginning in1960, was more moderate than those dnring the threeearlier recovery periods, and was continued longer.Money, after declining from mid-1959 to mid-1960,rose at a 3 per cent average rate for about 5 years,from June 1960 to May 1965, The economic recoveryafter 1960 was iess pronounced than after the threeprevious recessions, hut the expansion occurred with-out great imbalances or an intensification of infla-tionarv pressures. By late 1961 and early 1965, pro-duction was approaching the limits of capacity andexpanding at near the maximum sustainable pace.The economy was then given an upward jolt by asharp increase in Federal spending and the accom-panying large monetary injections of 1965, 1967, and1968.

During the slowdown in spending and productionof late 1966 and early 1967, money growth acceleratedto a 7.6 per cent annual rate, and this rate was main-tained through 1968. Total spending spurted afterabout a six-month lag, and inflationary pressures in-tensified more quickly and to a greater extent thanafter any of the previous recessions,

Percentile Comparisons

JUNE 1971

Comparison of monetary increases in some recent

periods — the last three months, the last six, the lastnine, and the last twelve — with all earlier periods

of similar length may provide additional insight intohow rapid recent monetary growth has been. In the

last three months, money has risen at a 13 per centannual rate. This is in the 100th percentile of all con-

secutive three-month periods since january 1950. Infact, money rose faster in both the January-to-Apriland the February-to-May 1971 periods than in any ofthe other 255 three-month periods.

In the last six months, money has risen at a 10 percent annual rate, This also is in the 100th percentile ofall consecutive six-month periods since January 1950,The 8 per cent rise in money over the last nine monthsplaces it in the 99th percentile of all nine-month

periods, The 7 per cent growth of money in the lasttwelve months is in the 95th percentsle.

Sizable monetary injections might be appropriateunder extremely depressed economic conditions forbrief periods. At the present time, excess capacity inthe nation is moderate, and price increases continueat near peak rates. Unemployment, svhich averaged

5.7 per cent in the last twelve months, was in the 79thpercentile of all twelve-month periods since January

FEDERAL RESERVE BANK OF ST. LOUIS JUNE 1971

1950. Overall prices rose 5 per cent in the last fourquarters, which is in the 90th percentile of all four-

quarter changes.

Quantity oJ M000y Dcrn.unacd

The supply of money should be just sufficient toaccommodate increasing public desires to hold moneyas an asset when spending rises at a rate consistentwith potential output. If money rises more rapidlythan the amnount demanded (given current interestrates, incomes, wealth, and other pertinent condi-tions), the public will tend to increase current expen-ditures in an attempt to reduce the excess cashbalances. Conversely, if the money supply risesless rapidly than does the amount the public wishesto hold, they will decrease current expenditures inan attemnpt to build up cash balances.

The aggregate amount of money demanded cannotbe measured precisely. Relating past changes in themoney stock with the accompanying and laggedchanges in spending is, in effeet, a method for esti-mating the past growth in the demand for money tohold. Such studies indicate that the growth in moneydemanded in the United States has been relativelysteady at about a 3 per cent annual rate since the late1940’s, Whenever the money stock rose at a 2 per centrate or slower for an extended period, economic acti-vity tended to slow. On the other hand, whenevermoney rose at a 4 per cent rate or faster for an cx-

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tended period, spending tended to rise more rapidlyand, in time, price increases accelerated.

It is possible that the amount of money demandedhas changed recently, so that earlier relahonships nolonger hold. Economic studies indicate that theamount of money demanded as an asset depends on anumber of factors, particularly interest rates, real in-come and wealth, and prices, as well as the technologyof minimizing cash balances.

Interest rates are currently at relatively high levelshistorically. Since an increase in interest rates raisesthe opportunity cost of holding money, the amount ofmoney demanded has probably declined. A reversaloccurred last fall and winter with the decline ofinterest rates from their peak levels, but most rateshave risen again since March.

Real income has changed little since mid-1969. Bycomparison, the upward trend of real income was 4per cent per year from 1957 to 1969. With the slowergrowth of income (and wealth), other things equal,it might he expected that the growth in the amountof money demanded also has slowed.

Inflation has been ‘trone in recent years and infla-tion and inflationary expectations have several effectson the amount of money demanded. Since inflation

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Page 5

FEDERAL RESERVE BANK OF ST. LOUIS

reduces the real value of money, the amount desiredas a store of value declines, On the other hand, asprices for goods and services increase, the amount ofmoney demanded by individuals and businesses fortransactions probably rises. However, supplyingmoney in response to an inflation-induced increase inthe amount of money demanded tends to accommo-date the inflation malady. The rate of inflation may

have been gradually receding for about a year, slow-ing the increase in the amount of money demandedfor transactions because of rising prices.

This review of recent developments in the forcesthought to be most influential in determining thequantity of money demanded suggests that only littlechange has occurred in the trend of money demandedin the last year. If this is true, past relationships be-t\veen the quantity of money supplied and the sub-sequent growth in spending can be expected to con-tinue with little change. To the extent that there havebeen any changes in the past year, some accelerationin the growth in the amount of money demandedprobably occurred in 1970 with the decline in marketrates. More recently, most forces seem to be slowingthe growth rate in the amount of money demanded,indicating that the growth rate of total spending willbe faster in the near future relative to growth in thequantity of money supplied.

A~ir~dc4tProjections

Evaluation of whether a rate of money growth istoo rapid depends on the likely economic impact.Assumning a 9 per cent annual rate of money growth,which is slightly less than that experienced since lastNovember, a very rapid economic expansion is likelyin the near future, At this rate of monetary injection,this Bank’s model indicates that growth in total spend-ing for goods and services would accelerate from therecent 7 per cent annual rate to about a 10 or 11 percent rate in the latter part of l972.~ Deviations ofspending from the model projections seem more likelyto occur on the high side than on the’ low, Typically,when money has risen very rapidly for an extendedperiod, the growth in velocity of money also has risenafter a two or three quarter lag,4 The model has notcaptured fully the increases of velocity in previousrecovery periods.

tmFor details on the model, see “A Monetarist Model for Eco-

nomic Stabilization,” April 1970 Review of this Bank, pp.7-25, For current proiections of this model, see the “Quar-terly Economic Trends” melease of this Bank,

4See “Changes in the Velocity- of Money,” Reprint No. 4 of thisBank.

Page 6

JUNE 1971

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Growth in real product ss ith a 9 per cent rate ofincreme of money would accelerate from the recent1 per cent annual rate of increasc to Thout a 6 per c’’ntrate late next year, according to this Bank’s model.Fhi, would bc abo~d a sustuntbk tate givd n thetrend gross th of productive capacity, estimated to beibout 4 per cent per year.

By utilizing idle resources, a greater-than-sustain-able rate of production growth could be accommo-dated for a short period with the current rate ofinflation changing little. The model indicates little orno increase in the rate of price advance for the nexts’ear and a half, even with the 9 per cent moneygrowth. However, the model indicates that inflationwould intensify markedly after 1972 under such astimulative policy. Resisting inflation at a later time,then, \vOuld lead to greater costs in reduced outputgro\vth than presently.

interest Rate Considerations

Although money has expanded sharply, most inter-est rates have risen in recent months. Interest rates onhighest-grade corporate bonds rose from 7.1 per cent

FEDERAL RESERVE BANK OF ST. LOUIS JUNE 1971

in February to 7,7 per cent in early June. Concernhas been expressed that a rise in interest rates, par-ticularly long-term rates, might choke off the economicrecovery.”

Market interest rates are the prices at \vhich thequantity of credit supplied and the quantity de-manded are equated. Monetary actions affect boththe demand for and supply of credit. An increase inthe stock of money and bank credit adds directly tothe supply of loanable funds, tending to cause interestrates in the short run to be lower than they otherwisewould be.

A rise in the money stock also has expansionaryeffects on the total demand for goods and services.\Vhen dollar balances and credit are increased rap-idly, given existing assets, incomes, prices, and inter-est rates, the public attempts to exchange some of the“excess mnoney” for goods and services. This tends, intime, to cause an increase in total spending, produc-tion, and prices. With expectations of greater salesand a higher rate of inflation, demands for credit maybe expanded at a faster rate than the supply of creditcreated, and net upward pressure on interest ratesresults. The rise in rates in recent months is probablya reflection of a very rapid monetary stimnulation ofdemands for credit rather than evidence of any mone-tary restraint.0

asee Wall Street Journal, “Interest Rates Reverse DownwardTrend; Stir Fears for the Economy,” May 25, 1971, p. 1; amidBen Wehemman, ‘Fed Baffled as to How to Get RatesDown,” American Banker, May 24, 1971, p. 1,

0For additional analysis of the interaction of monetary actions,inflation, ann interest rates, see “The Road to AcceleratingInflation is Paved with Good Intentions,” in this Reciew,pp, 9-15,

Interest rates perform a function in our economicsystem simnilar to that of prices of goods and services.They allocate scarce resources amnong competing users,but have little bearing on the level of total resourceutilization. As such, high market interest rates shouldhe viewed as having abotit the same implications foreconomic stabilization as higher market prices oncommodities or services.

Additional perspective on the recent rate of nioneygrowth can be obtained by comparing trends overlonger periods, covering several monetary cycles.From early 1952 to mid-1964, the money stock grewat an average 1.9 per cent average annual rate.Within this twelve and a half year period, severalcyclical upswings in money growth occurred, andspending, production, and emnploymnent increased rap-idly. At other timnes, the money stock drifted downrelative to the trend, and, with a brief lag, spendingand production slowed and unemployment rose. Over-all prices in this period rose at a relatively slow 1.8per cent annual rate.

Since niid-l964, money has risen at a faster 5.3 percent average annual rate. Early in the period, asmoney accelerated to the new trend, and later, asmoney moved up relative to the trend, spending,production, and eniploymerit received a temporarystimulus. But as money moved down relative to thetrend, sluggishness and slack reappeared. The rate ofoverall price increase has accelerated from the 1.8per cent rate of the Fifties and early Sixties to a 5.3per cent rate since mid-1969,

Unemploymnent experience was about the samewhether the trend growth of money was 1.9 per cent(1952-64) or 5.3 per cent (1964-71) - Both trend pe-riods contained some relatively high and some rela-tively low unemnployment rates. The trend growth ofmnoney apparently bad its chief imnpact on the trend ofspending growth and the rate of price advance. Ithas been the shorter-run movemnents around thetrends which have apparently had the greatest im-pact on cyclical changes in spending, production, andemployment.

Conck.aions

Recent growth rates of money have been veryrapid, as measured in a number of ways. Experiencehas demonstrated that large, prolonged injections ofmoney will be followed by an excessive rise in spend-ing and an intensification of inflationary pressures.Largest increases of money have usually occurred

Trands oj Mo•rmc~y Crowth

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FEDERAL RESERVE BANK OF ST. LOUIS

during periods of economic slack for the purpose ofstimulating spending, but from 1960 to early 1965 abalanced recovery and expansion occurred whilemoney rose moderately. Experience also indicatesthat when money growth accelerates for a prolongedperiod and then ceases to accelerate, as it must if theeconomic system is to survive, growth in productionslows and unemploymnent increases at higher rates ofinflation.

T\vo lessons seem to emerge from the money ex-perience of the past tsvo decades. First, if the upwardthrust of inflation is to be halted, the trend growth ofmoney mnust be reduced to a moderate rate. The pre-cise rate depends on the growth of money demanded

JUNE 1971

under conditions of anticipated price stability (per-haps about a 3 or 4 per cent annual rate). However,money has risen rapidly in the last six months, rais-ing slightly the growth trend of money for the pastseveral years arid indicating likely intensification ofinflation in the near fuhire if continued much longer.

Second, changes in the trend growth of moneyshould be gradual, and short-run movements aroundthe trend should be slight, because marked move-ments away from a previous trend have usually beenfollowed by destabilizing changes in spending. Thesharp money growth in recent months has deviatedsignificantly upward from the previous trend, indicat-ing a faster-than-sustainable rate of increase in pro-duction in the near future,