M3, R.I.P.

Now it’s official. The M3 money-supply series is dead and buried. The official word from the Fed and its minions: it’s no big deal, really. (For some background on M3 and its scheduled demise, see our previous post here.)
In yesterday’s weekly release of money supply data, the central bank said of the newly defunct series: “M3 does not appear to convey any additional information about economic activity that is not already embodied in M2 and has not played a role in the monetary policy process for many years. Consequently, the Board judged that the costs of collecting the underlying data and publishing M3 outweigh the benefits.”
Maybe this is the Fed’s contribution for reducing the government budget deficit. In any case, Edward Nelson of the St. Louis Fed agrees with the powers that be back in Washington, explaining that a wider definition of money supply, which is M3’s raison d’etre relative to M2, isn’t always better. Writing in the April issue of the St. Louis bank’s Monetary Trends, Nelson asserts that a “broader definition of money is not necessarily always preferable….Monetary analysis needs to draw the line between money and nonmoney assets, and some financial instruments lack sufficient similarities with traditional money to merit inclusion in a monetary aggregate.”

Not everyone agrees, although it seems that the majority of dismal scientists don’t seem to have a problem with sending M3 to the guillotine. That’s a conclusion we draw from the fact that so few economists are calling on the Fed to reverse its decision. In any case, Congressman Ron Paul is one of the few who’d like to see the publication of M3 data roll on. (Our recent interview with Paul on the topic of M3 and his legislation can be found here.)
But for the moment, M3 is gone, and the odds of it being resurrected don’t look good. Does that mean that the true nature of money supply and, by extension, insight on inflationary trends will remain shrouded in mystery? Let’s hope the answer is no, if only because M3’s final message was noticeably different from that of M2. To cite the Fed’s numbers, M3’s seasonally adjusted annual rate of growth has been materially faster than M2’s. For the 12 months through February 2006, for instance, M3 advanced by 8.0%, well above the 4.7% climb posted by M2. Is that something to worry about? No, the Fed tells us. The answer will suffice if inflation doesn’t rise from current levels. But if pricing pressures mount in the months and years ahead, the subject of M3 may reach out from the grave and pose some awkward questions for the central bank.
© 2006 by James Picerno

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