Are Money Growth and Inflation Still Related?

Gerald P. Dwyer Jr. and R.W. Hafer
Economic Review, Vol. 84, No. 2, 1999

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Despite the long history and the substantial evidence supporting the conclusion that persistent changes in the price level are associated with changes in the money supply, the predicted association remains disputed. Is it debated because the empirical relationship holds over time periods so long that it may be uninformative for practitioners and policymakers, who are more concerned about inflation next month or next year? If it takes a generation for the relationship between money growth and inflation to become apparent, it would not be surprising that central bankers and practitioners put little weight on recent money growth.

It is not clear, though, that it takes a generation. The authors of this article reconsider the link between money growth and inflation, using two types of evidence. The first, based on the behavior of five countries' price levels and money stocks over much of the twentieth century, provides a perspective over time. The second uses two recent five-year periods for a number of countries for which collecting comparable data covering long periods is not feasible. A positive, proportional relationship between the price level and money relative to real income is evident in data over long periods of time and over shorter periods for many countries.

Does the behavior of inflation justify ignoring money growth when attempting to estimate future inflation? The evidence in this article indicates not.

June 1999