Academic journal article Atlantic Economic Journal

The Recent Behavior of M2 Velocity?

Academic journal article Atlantic Economic Journal

The Recent Behavior of M2 Velocity?

Article excerpt

There have been numerous references in recent Federal Reserve Open Market Committee minutes concerning the unusual behavior of M2 velocity. Normally, when interest rates decline (along with the opportunity cost of holding M2 balances), V2 also declines. However, in the recent upturn, M2 opportunity costs (as measured by the Cleveland FR Bank) declined significantly, while V2 rose consistently through the period.

A fresh perspective on V2 movements can be gained if one ignores the usual demand for money approach and concentrates instead on the actual turnover rate for GDP transactions. In the case of M2, virtually all this turnover resides in its M1 components. Money market deposit accounts and money market mutual funds are the only M2 components that can be used directly in GDP transactions, and their turnover rate for all types of transactions is very low. With this in mind, it is useful to express V2 as a weighted average of its M1 and non-M1 components:

|Mathematical Expression Omitted~.

This is obviously an identity since both terms in the numerator are equal to V2. Nevertheless, it is useful to consider V2 in terms of GDP/M1 |center dot~ M1/M2. Although V1 has plunged about 10 percent during the current upturn (1991:2-92:4), the effect of this on V2 was more than offset by a rise in M1/M2 of about 16.5 percent, thereby allowing V2 to increase by about 4. …

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