Courtesy of Mish.
Several people have written recently telling me that price inflation is under control only because the velocity of money (the alleged rate at which money circulates) is falling.
Reader Mark pinged me with this statement “Falling velocity is deflationary. It indicates people are saving their cash.” Others have expressed similar opinions, typically in reference to this chart by the Fed.
Velocity
Discussion of Ratios
That chart looks ominous. Is it?
First, please note the chart says velocity is a “ratio”. A ratio of what?
Velocity = Value of Transactions/Supply of Money.
The value of transactions = Price * Transactions.
In other words
V = (P)(T/M) where where V stands for velocity, P stands for average prices, T stands for volume of transactions, and M stands for the money supply.
Multiplying both sides by M yields the frequently cited equation: M(V) = P(T).
Economists use real GDP as a measure of P(T)….
