High-Powered Money (100 Years Of Stability)

When I studied economics, the term ‘high-powered money’ was often used synonymously with the monetary base, which consists of currency plus bank deposits at the Fed. This asset was called “high-powered” for three reasons:

1. It is determined exogenously by the monetary authority.
2. It is non-interest-bearing.
3. It is the medium of account.

As a result of these three factors, high-powered money is a sort of “hot potato”. When the Fed injects new high-powered money into the economy for reasons other than responding to an increased demand for liquidity, the public tries to get rid of excess cash balances by spending them. Prices and NGDP rise until the public is again content to hold the newly enlarged supply of high-powered money.

Today, bank deposits at the Fed earn interest and thus are no longer high-powered money. Only currency remains high-powered.

$100 bills comprise about 80% of US high-powered money

The stock of high-powered money has risen by roughly 265 times over the past 100 years, from about $6.45 billion in early 1919 to just over $1.7 trillion today. NGDP has risen by almost the same proportion, leaving the high-powered money to NGDP ratio at roughly 8.2%, even after 100 years! People seem to want to hold about the same fraction of income in the form of high-powered money as they did 100 years ago. As a result, you might say that the Fed caused NGDP to grow 265-fold by increasing the stock of high-powered money 265-fold.

Actually, it’s a bit more complicated than that. The demand for high-powered money had fallen to 5.6% of GDP right before the Great Recession, and the fortuitous coincidence of almost no change in the ratio over 100 years is actually due to two offsetting factors. Technological progress reduced the demand for high-powered money over time, and very low interest rates plus increased foreign demand for US currency recently boosted the demand for high-powered money.

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Gary Anderson 2 months ago Contributor's comment

So true. If the MMT folks think excess reserves are increasing the money supply they are deluded. As Jeffrey P Snider has said, excess bankreserves are sterilized dead money, exchanged for bonds. Of course the MMT people promise to back off when they see inflation. Question is, how much inflation do they have to see before they back off?