As a card-carrying monetarist, I argued the steady money growth case vigorously in years past, and it is still my conviction that a central bank ignores money growth at its peril...

Everything Milton argued about money stock control is true, but the effect of inflation expectations on the practice of monetary policy itself was, I believe, a missing element in the analysis...

...I believe that the Fed’s actual adjustments of its federal funds rate target have yielded superior outcomes since 1982 to what we would have observed under steady money growth. I also believe that advances in knowledge permit us to say with some confidence that these gains are not just an accident of Alan Greenspan’s special skills and intuition.

We're accustomed to finding the roots of inflation in too much money chasing too few goods. For too long, however, we've brushed aside the issue of whose goods. Just our own? At one time, maybe -- but not in today's globalized economy.

In teaching inflation's causes and cures, economics professors have for generations invoked the famous Equation of Exchange. With mathematical clarity, it tells us that prices are directly linked to the amount of money in circulation and the speed at which we spend it. So print money faster than the economy grows and the value of a dollar will fall.

Luckily, transaction velocity remains relatively stable over the years, allowing us to conclude that inflation mainly depends on money growth, an instrument of policy, and the pace of economic expansion.

But we're now in an age of globalization. Freer movement of goods, services, people and ideas stretches production to the far reaches of the planet. China, India and other newcomers with huge labor resources and productive capacity are becoming important players. Each year, the part of our economy isolated from global competition becomes smaller.

It seems unlikely that inflation would remain a purely domestic affair in our globalizing economy. Research by a handful of economists like Harvard's Ken Rogoff has found important links between foreign production and U.S. inflation. The empirical studies are changing some minds on the subject of globalization and inflation, but we also need new doctrine -- an equation of exchange for the new economy.

Money growth doesn't feed quickly into inflation, Poole said.  He also commented that in his opinion sweep accounts had made the M1 measure "useless."

From Q&A session, as reported by Market News

As Milton Friedman famously said many years ago, “Inflation is always and everywhere a monetary phenomenon.” Unfortunately, given the lack of a stable relationship between money growth and inflation, the pure monetarist view has taken a beating since then. However, Friedman was right that inflation is, ultimately, something that central banks determine, at least on average, over time.

Indeed, when different measures of the money supply were established, it was with an eye toward determining the liquidity of the underlying assets; as an example, components of M1 were considered more liquid than those in M2. It is in this sense that some observers view the stock of money as a measure of liquidity, and changes in these measures as roughly equivalent to changes in liquidity. I doubt, however, that traditional monetary aggregates can adequately capture the form and structure of liquidity many observe in the financial markets today.

The closest the Federal Reserve came to a "monetarist experiment" began in October 1979, when the FOMC under Chairman Paul Volcker adopted an operating procedure based on the management of non-borrowed reserves.11 The intent was to focus policy on controlling the growth of M1 and M2 and thereby to reduce inflation, which had been running at double-digit rates.  As you know, the disinflation effort was successful and ushered in the low-inflation regime that the United States has enjoyed since.  However, the Federal Reserve discontinued the procedure based on non-borrowed reserves in 1982. 

Why have monetary aggregates not been more influential in U.S. monetary policymaking, despite the strong theoretical presumption that money growth should be linked to growth in nominal aggregates and to inflation?  In practice, the difficulty has been that, in the United States, deregulation, financial innovation, and other factors have led to recurrent instability in the relationships between various monetary aggregates and other nominal variables. 

...Board staff developed the so-called P* (P-star) model, based on M2, which used the quantity theory of money and estimates of long-run potential output and velocity (the ratio of nominal income to money) to predict long-run inflation trends.  The P* model received considerable attention both within and outside the System; indeed, a description of the model was featured in a front-page article in the New York Times. ¹³

Unfortunately, over the years the stability of the economic relationships based on the M2 monetary aggregate has also come into question.  One such episode occurred in the early 1990s, when M2 grew much more slowly than the models predicted. Indeed, the discrepancy between actual and predicted money growth was sufficiently large that the P* model, if not subjected to judgmental adjustments, would have predicted deflation for 1991 and 1992.  Experiences like this one led the FOMC to discontinue setting target ranges for M2 and other aggregates after the statutory requirement for reporting such ranges lapsed in 2000.

Despite these difficulties, the Federal Reserve will continue to monitor and analyze the behavior of money.  Although a heavy reliance on monetary aggregates as a guide to policy would seem to be unwise in the U.S. context, money growth may still contain important information about future economic developments.  Attention to money growth is thus sensible as part of the eclectic modeling and forecasting framework used by the U.S. central bank.

The distribution of economic data by the Research department of the Federal Reserve Bank of St. Louis can be traced back at least to May 1961. At that time, Homer Jones, then director of research, sent out a memo with three tables attached showing rates of change of the money supply (M1), money supply plus time deposits, and money supply plus time deposits plus short-term government securities. His memo indicated that he “would be glad to hear from anyone who thinks such time series have value, concerning promising applications or interpretations.” Recollections of department employees from that time were that the mailing list was about 100 addressees.

Apparently Homer received significant positive feedback, since various statistical releases emerged from this initial effort. Among these were Weekly Financial Data, subsequently U.S. Financial Data; Bank Reserves and Money, subsequently Monetary Trends; National Economic Trends (1967) and International Economic Trends (1978), all of which continue to this date. In April 1989, before a subscription price was imposed, the circulation of U.S. Financial Data had reached almost 45,000. A Business Week article published in 1967 commented about Homer that “while most leading monetary economists don’t buy his theories, they eagerly subscribe to his numbers.”  As an aside, as a Chicago Ph.D. I both bought the theories and subscribed to the data publications.

I always thought the high point of my career was once when I was testifying before the Congress in the Humphrey Hawkins saying and the headline {in one paper was} “Federal Reserve Tightens”. The headline in New York Times is “Federal Reserve Eases” and all I was trying to do was explain the complexity of the real world and people read into what you say, what they think in that particular case. I'm sure there were some monetarists who thought we -- I don't remember which side they were on -- who thought we were tightening or easing and some interest rate people who thought the opposite.

 So, it was what they read into the testimony, not what was said. But, I do think that actions speak louder then words and the words should as little as possible, confuse things.

How can we control the average price level over time? To paraphrase a famous economist, Irving Fisher, the average price level doesn't rise because of the goods; it rises because of the money.  Simply put, if growth in money exceeds its demand, its purchasing power will depreciate. This is inflation. It affects all prices and wages, and ultimately it has only one origin, the central bank. This is because the central bank is solely responsible for managing the nation's money supply.

When the primary battle against inflation started in 1979, there was a strong case for paying great attention to the rate of money growth as a measure of the thrust of monetary policy. Money growth is not irrelevant to assessing inflation risks today, but the emphasis has changed. For a variety of reasons, and especially because expectations of low inflation are so entrenched in the markets, short-run money growth is an inadequate indicator for monetary policy purposes. What we need to do instead is to extract as best we can evidence of possible inflationary pressures from a variety of other sources of information.

By the time I arrived at the Fed, however, the discussions about the ranges for the money supply were the only times the words money supply were uttered at FOMC meetings. The discussion about the ranges was generally mechanical and disinterested, with the main objective being to avoid making any changes to them that would suggest that the Committee was paying more attention to the monetary aggregates than they had recently.

I confess to feeling very uneasy that money plays practically no role in policy discussions in the Federal Reserve today. I am one of the few members of the FOMC who ever mentions money during the meetings.

There is nothing inherent in our objective for price stability and what we are trying to do about the purchasing power of money that says that when we have a favorable supply shock we should raise our money growth objectives. There’s no more reason to do that than to cut the money growth targets if we had an adverse supply shock.  We wouldn’t do that. I’m sure that back in the 1970s or the 1980s we didn’t argue for lowering our targets. What we want to do is to view the transitory effects of the acceleration in productivity growth in a lower reported rate of inflation or transitory decline in the price level as an increase in the purchasing power of money. It would be a one-time decline in the price level--I don’t want to use that “D” word. And then when the supply shock goes away, we would return toward the sort of balanced equilibrium that we would have been in.