GK Research, October 22, 2013, 9 pgs., graphics,
A very clear description discussing the idea that money circulates in an
economy based on the standard economists' theory about the relation of 'money'
to economic activity as expressed in Fischer's formula MV=PQ. The author claims
that M is a dependent variable in this tautology. He includes 11 vivid graphs
that purport to demonstrate the results of this 'velocity', actually they
depict relationships between his GVI and market variables.
I disagree with the concept that 'money' circulates. What the author provides
in this article is his history of how he created a surrogate he uses to assist
in predicting future market moves and some of the results he has obtained. That
is an excellent idea. So his graphs actually depict changes in market variables
in relation to his personal surrogate rather than of 'velocity' itself.
Rather, I believe that 'money' is a metric - that quantifies 'value' and what
is taking place is the relative expansion and contraction of the things
(material and immaterial) being valued - relative to the per capita desire to
have them - , the expansion and contraction of the size 'Quantity' or amount of
relative 'value' assigned to each thing in people's mind, and the quantity -
hence size - of the metric itself. Since 'value' is a subjective assessment of
relative desirability of each thing being 'valued' - relative to all other such
things and relative in time and space; the metric in which 'value' is
quantified also is relative in time and space and its own desirability.
"velocity' then, being the first derivative of position is a measure of
the rate of speed by which the Quantity of 'money' expands or contracts, rather
than if its movement. What is really important is the 2nd derivative, the
acceleration in the movement. All this I discuss in other reviews and essays.
However, lets study the article.
Mr. Gave begins by noting that his concept follows that of Irving
Fisher. He believes that this circulation of 'money' is important and this rate
- actually the changes in this rate at which 'money' circulates is related to
changes in prices of financial assets. Note, he writes 'financial assets'. But
what is a 'financial asset' in contrast to non-financial assets? Seems to me
that there is a huge difference. The relative 'value' assigned by people of a
non-financial asset in comparison with another such asset is quantified in
terms of another financial asset (money). But the 'value' of financial assets
in people's mind itself is relative to its desirability by people to have it
terms of time and space and relative to the number of people who have or use it
and the number of transactions (exchanges) they want to accomplish with its
The author here enumerates some of the indicators Irving Fischer
proposed as significant.
- Higher real rates accompanied by a fall in the nominal rate
- A widening spread between yields on corporate and government bonds
- Falling bank share prices
- Falling commodity prices
- A decline in the private sector's money supply (credit)
- Under performance of financial stocks relative to the broad market
- Rising banking system non-performing loans.
Indeed all of these are significant metrics - quantifications of the results of
actions in the real world. It is those actions that are based on decisions
which are the causes of changes in the relative size of the results in the
exchange market. They are all measures of results. Note the inclusion of
"a decline in the private sector's money supply" - which it the
amount of credit. But credit is an asset created by and accounted for by
creation of a debt - liability. When a debt is paid off the associated credit
vanishes as well. Falling bank share prices are a reflection of the under
performance of financial stocks relative to the broad market. And this is
influenced by the rising value of the banking system's non-performing loans
which is a result of debts (promises to produce) being canceled without being
actually extinguished by an increase in quantity of new production greater than
consumption. The widening spread between yields on corporate versus government
bonds is a reflection of the public's opinion about the relative ability of the
corporate and government sectors to extinguish its debts by new production.
Mr. Gave continues by expressing his previous (and continued) belief
that V is an independent variable. But his problem in using this 'variable' as
a predictive indicator about market issues is that V is calculated and it is
only published by the government after the fact. So he created a surrogate
indicator based on the published ratio V=PQ/M at a previous time and its
relation to then other metrics such as mortgage rates, bank loans, yield
spreads and many others. All of these are published in real time or at least at
a sufficient lead time to be used to estimate futures - predictions. This
proprietary indicator he named GVI. So he is not actually attempting to
quantify V - velocity. He is able to change his number for GVI daily. His
charts then compare GVI with other significant market variables over time.
The first chart he shows depicts the change between GVI and OECD over
the time interval 1996 - 2012. And also depicts the time interval for which
official recessions were declared. The fit in the time period of the recession
and the time period in which his GVI and the OECD indicator (offset by 6
months) correspond is excellent.
In the accompanying text he claims success. And continues with a comment about
Fischer's thinking: "while it is impossible to forecast shifts in economic
velocity (note economic and not monetary) we can monitor changes in the
velocity of money on a real time basis by closely following certain market
prices, and then aggregating them into a single indicator our GVI.
Note he now writes 'changes in velocity of money". Velocity is the first
derivative of position and changes in velocity means acceleration which is the
second derivative of position.
His conclusion is stated: "I conclude that the GVI is a 'good
enough' proxy for economic velocity and I will try to show its relationship
with a certain number of economic or financial variables."
I don't doubt that empirical experience over the years has show the validity of
his conclusion. But I note - he is NOT attempting to measure or use 'velocity'
of money itself. He has changed his pitch from 'velocity' of money to
'velocity' of economic activity. He actually is not relating 'velocity' of
economic activity to market events but rather CHANGE in 'velocity' of economic
activity - that is acceleration of the change - second derivative of position
(or quantity). But the position or quantity is itself a ratio between quantity
of money (that has various definitions of its content) and PQ which also has
various definitions. This ratio can be and is a result of the relative change
in the value of M versus that of PQ. I do not doubt that changes in the ratio
and especially changes in the rate of change of their ratio reflect (but do not
cause) changes in the relative values of M - P and Q.
I dispute that all this is only due to a hypothetical change in something
called 'velocity of money.' Perhaps this is purely a semantic argument. But the
terms used obfuscate rather than elucidate the real causes of changes in market
He accompanies presentation of the following graphs which depict
changes over different time spans of GVI and various significant market
activity with text commentary. These include INSEE business survey data - long
price rates - MSCI index of global equities - movements of global equities
diffusion index - Swedish stock market index - Baa bond spreads - an index of
the changes of a 50-50 portfolio an US treasury strip prices - asset allocation
decisions - and his conclusions from analyzing these charts. His text
explanations of the charts and what conclusions one should draw from them are
clear. His final conclusions are his advice to investors on how to allocate
their investments between different categories such as equities, bonds, real
estate, and cash in accordance with their personal assessment of their risk in
each case. Specifically, he cautions investors as of 2013 that there is
considerable risk in the market which indicates they should favor calls on long
term government bonds.
Was he correct? I don't remember. What does his GVI indicate today? I
don't know that either. But some indication can be found in his essay -
The Velocity of Money in The Time of Covid-19
L Randall Wray - MMT I include in my review a lengthy list of
references about money.
L. Randall Wray - Credit and State - Theory of Money: The
Contributions of A. Mitchell Innes This is an even more book, but I have
hardly begun comments on it.