There are recurring claims in the public debate and the media that central banks (including the ECB) do not pay sufficient attention to the money supply and therefore have overlooked the inflation surge in 2022–23. This article therefore examines why central banks in advanced economies no longer regulate the money supply and what factors are driving changes in the relationship between the money supply and the inflation. The analysis has revealed a highly volatile and at times even negative empirical relationship between the money supply and the future inflation in Lithuania and across the euro area. However, this relationship may temporarily strengthen during periods of elevated inflation, such as in 2022–23. Monetary policy and fiscal support enabled businesses and households to weather the supply and income shocks caused by the COVID-19 crisis, as well as the surge in energy and food prices following Russia’s war against Ukraine. Policymakers had to make decisions in real time amid considerable uncertainty, and the risk of under-stimulating the economy was extremely high and could have been very costly. Although the recently elevated risk of supply shocks underscores the need to pay due attention to money supply growth and its underlying drivers, the money supply is no longer a suitable primary guide for monetary policy in advanced economies. Based on a comprehensive analysis and projections of a wide range of indicators, including the money supply, the ECB adopts monetary policy decisions aimed at maintaining inflation at its 2% medium-term target in the euro area.
The views expressed are those of the author(s) and do not necessarily represent those of the Bank of Lithuania.
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