I think this is a good approach to explaining velocity. Like most economic concepts, explaining "velocity" should start with each individual understanding that his individual desire (demand) to hold money is unique to him. Then to grasp velocity economy-wide, you can abstract to consider the aggregate of all individuals' demand. But there is a big problem with typical velocity measurements like the one in the graph: Their proxy for the numerator (spending or income) is typically GDP, which is mostly consumer and government spending, but this excludes lots of non-GDP spending, such as buying houses and financial investments. I suspect one reason the current velocity measure is so historically low is that much of the recent massive increase in M2 has been spent in non-GDP transactions, which helps explain why CPI increases stayed low for so long but asset prices soared.
"Velocity is the inverse of the percentage of income that people keep in the form of money." I think you are just bring in the old Cambridge equation, really just the equation of exchange rearranged but conceptually lends itself to a supply and demand framework. Also, I would add some very important words here. "....that people desire to keep in the form on money" (for any given definition of money). In order to make sense of concepts like "excess supply of money" or "excess demand from money", students need to understand that money supply represents actual holdings by the public whereas money demand represents desired holdings by the public.
Sir please do more core economics posts rather than behavioral posts. Thanks.
I think this is a good approach to explaining velocity. Like most economic concepts, explaining "velocity" should start with each individual understanding that his individual desire (demand) to hold money is unique to him. Then to grasp velocity economy-wide, you can abstract to consider the aggregate of all individuals' demand. But there is a big problem with typical velocity measurements like the one in the graph: Their proxy for the numerator (spending or income) is typically GDP, which is mostly consumer and government spending, but this excludes lots of non-GDP spending, such as buying houses and financial investments. I suspect one reason the current velocity measure is so historically low is that much of the recent massive increase in M2 has been spent in non-GDP transactions, which helps explain why CPI increases stayed low for so long but asset prices soared.
"Velocity is the inverse of the percentage of income that people keep in the form of money." I think you are just bring in the old Cambridge equation, really just the equation of exchange rearranged but conceptually lends itself to a supply and demand framework. Also, I would add some very important words here. "....that people desire to keep in the form on money" (for any given definition of money). In order to make sense of concepts like "excess supply of money" or "excess demand from money", students need to understand that money supply represents actual holdings by the public whereas money demand represents desired holdings by the public.
This is the best way I've heard it explained. It also makes a good case for NGDPLT or free banking!
Probably the most productive way tp look at the equation of exchange is Friedman´s Thermostat Analogy.
https://marcusnunes.substack.com/p/the-monetary-policy-tango
I will *definitely* use this post if I ever get to teach principles of macro again.