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Non-Inflationary Benchmarks of Money
Milton Friedman famously said, “inflation is always and everywhere a monetary phenomenon,” emphasizing that persistent inflation occurs when money grows consistently faster than real output. This relationship provides the basis for Money’s Non-Inflationary Benchmark (MNIB) which is the rate of money growth consistent with the productive capacity of the economy and the Federal Reserve’s inflation target, adjusted for the trend in the velocity of money (V). The calculation is as follows:
Beyond Money Growth: Inflation, Output, and the Role of Velocity
Friedman’s framework links long-term money growth to real economic growth (employment and productivity). When Friedman recognized that inflation also depends on V, he made no allowance since he believed it was stable. Since 1900, there have been five V regimes (Chart 1). M2 V decreased by 0.47% per year from 1900–1952, then averaged from 1952–1984. This small change, combined with technical redefinition, has no economic significance. V then increased by 1.44% per year (1984-1997), decreased by 2.62% (1997-2021), and increased 4.16% (2021–mid 2026). The stability of the 1950s–1984 shaped Friedman’s view of V as stable. This shows whether the MNIB based on real growth should also account for changes in V.
Chart 1
Inflation Does Not Mean Return
History shows stable prices require an active and credible monetary regime, not just time or mean returns. When Paul Volcker was chairman of the Federal Reserve in 1979, 12-month PCE inflation was about 9.3%, the federal funds rate averaged 10.9%, and M2 grew by 8.5%—about 3 points above the 5.5% MNIB for the period. This is relevant because M2 V has been stable for decades. While the labor force and productivity mix were different, the scale of monetary surplus was and is the same. Recently, M2 grew at an annualized rate of 6.5% (Dec. 2025-Sep. 2026), with the MNIB now around 3%-3.5% after adjusting for growth, the Fed’s 2% target, and up V. Volcker saw the incremental rate increase as insufficient, so in 1979 Fedhaus, its overhauling, 1979 October. bank reserve control and money growth.
The Powell-led Fed (2018-2026) reflects the risk of suspending monetary restraint after inflation exceeds its target. PCE inflation rose above 2% in March 2021, but the Fed waited until March 2022 to raise rates. In the breach of 2021, M2 increases by about 24%-20 points above the MNIB of 4% (assuming V is stable). The Pandemic-driven fall in V initially absorbed some of the excess, but V rose in late 2021 and continued higher in 2022, increasing spending pressure. At the time of the first rate hike, PCE was at 6.1% (triple target), but the funds rate remained at 0%-0.25%. In January 2022, M2 is still up 11.7%, almost eight points above MNIB. As V rises, MNIB declines further. The Fed’s delay gave the mean return time, but inflation remained above 2% for 66 straight months, reaching 3.4% in August 2026.
Research shows the persistence of inflation varies and does not go away on its own. Unanchored expectations make price and wage shocks more persistent, requiring active monetary policy (Tetlow, 2018). IMF studies show inflationary shocks last longer with weak expectations but decline more quickly under a credible monetary regime. Countries with strong inflation targets see less persistence. Reversion means depending on the credibility of the institution.
Post-pandemic evidence supports this. The Fed’s 2024 study finds inflation to be more inertial in major economies, even adjusting for energy and supply shocks. The Bank of England found that short-term household inflation expectations recently produced a persistent nonlinear effect that boosted trend inflation. US firm-level data show businesses often overreact to marginal costs, pushing inflation further back. Other research shows short-term inflation expectations shape price and wage decisions. Collectively, these findings show that higher past inflation can be embedded in expectations and behavior, making it more persistent and more difficult to reduce (Hajdini et al., 2025; Abberger et al., 2024).
Demographic Issues
Demographic changes directly affect monetary policy. Slower population and labor force growth reduces the economy’s ability to absorb more money without chronic inflation and lower MNIB. Meanwhile, deglobalization, rising capital demand, weak savings, and heavy borrowing are strengthening inflation and pushing long-term rates higher.
The CBO, Census Bureau, and private analysts project slower U.S. population growth due to weaker fertility, aging, and immigration. January 2026 CBO projects growth to be lower, with deaths exceeding births by 2030. Recent declines in immigration may make the forecast more optimistic. More visa restrictions could reduce net immigration. Since the projections depend heavily on immigration, small changes have large long-term effects.
The US labor force has shrunk modestly since January. Labor is one of the two potential components of real GDP growth. Although short-term immigration data does not directly measure net population growth, it does signal demographic change. If current policies persist, population growth will remain below projections.
Productivity Issues
Some believe that advances in AI, automation, and computing will rapidly accelerate US productivity. While these technologies have potential, translating them into higher aggregate productivity is difficult given the structure of the US economy. Government spending is about 35.3% of GDP, and service jobs outnumber goods-producing jobs 5.3 to 1 (as of September 2026). Most of the employment growth is in labor-intensive sectors – health care, social assistance, hospitality – where productivity gains are harder to come by. Even if AI makes significant gains, it may not reach enough dominant sectors to shift aggregate growth.
A less visible productivity-reducing force is loss of economies of scale. Globalization expands markets and specialization, but the downside – through trade barriers, fragmentation, and duplicative supply chains – reduces scale and increases the need for capital. More resources are now going towards political or policy goals than economic efficiency.
Table 1
As Bastiat notes, economic decisions have both visible and invisible effects.
Can major technological advances overcome these structural restrictions? Despite steady innovation, long-run US productivity growth remains close to 2% (Table 1). A large government footprint, a service-heavy economy, shrinking yields, and rising federal interest costs all work against faster aggregate productivity growth. Some sectors may benefit, but broad benefits are unlikely.
Conclusion
Third quarter developments reaffirmed our view that the US economy is facing significant capital shortages in the new, post-disinflation era. The powerful forces that restrained inflation from 1990 to 2020 – globalization, expanding labor supply, abundant productive capacity, falling capital costs, and declining V money – have diminished or reversed. Today, employment growth is stagnant or declining, globalization is fragmenting, supply chains are becoming more expensive, and rising capital needs for technology, energy, defense, and reindustrialization are colliding with low domestic savings. Average net national saving is below the historical norm in the first half of 2026.
The federal budget deficit is projected to approach 6% of GDP by 2026 – too high for this stage of the expansion. In the last expansion of the last cycle, the deficit was smaller. Current large deficits are eroding national savings, leaving less capital for private investment and increasing competition for funds.
Monetary conditions add to the challenge. With limited productivity gains and an unstable workforce, real GDP growth potential is about 2%. Adding the Fed’s 2% inflation target yields a nominal growth potential of 4%. However, as M2 V increases, the MNIB is around 3%. M2 growth since the end of 2025 has been 6.5% or approximately double MNIB, nominal risking spending outpacing productive capacity and keeping inflation above the target.
Yields on long-term government bonds in several major economies are near their highest levels in decades, increasing competition for global savings. Higher foreign yields could divert funds from US Treasuries, while fiscal and inflationary concerns abroad could spill over, raising risk premiums. These cross-border effects are reinforcing upward pressure on US borrowing costs.
Together, these factors indicate higher yields for long-term Treasury bonds (more than 20 years). Low saving and heavy government debt are driving the real rate, while the risk of rapid money growth is leading to a wage-price spiral and expected inflation. Fiscal uncertainty and inflation volatility increase the risk premium. Temporary factors may lower inflation, but until money growth is in line with the MNIB – reflecting potential output, the Fed’s 2% target, and V – more inflation risks and rising yields will remain.
Van R. Hoisington
Lacy H. Hunt, Ph.D.
Original Post
Editor’s Note: The bullet points for this article were selected by the Seeking Alpha editors.