April 2014
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M3 Inflation and Ireland: Deflation Sets In

My thought bubble on M3 Inflation is going to be developed further as time goes on. The basic premise is that the annual growth rate of money supply (M3) minus the amount money can earn in a year (short term interest rates) will approximate a ‘true’ measure of inflation/deflation. This type of measure is needed because the standard measure of inflation currently used by government statistical agencies around the world is hopelessly flawed.

Having constructed an M3 inflation measure for Australia over the last several decades the picture is one that if put to the average joe on the street would much more accord with how they ‘feel’ inflation in their everyday lives. The measure for Australia shows much higher levels of inflation over the last decade and also several short periods of deflation in the two decades before that.

This is still only a thought bubble with no peer review as yet, I am an academic economist with an honours degree, a PhD and some publications in econimics, but currently non-practising. I can come up with these ideas free from the constraints many non-orthodox economists must deal with on a day to day basis.

So the thought bubble will be expanded to Ireland. Basically the same methodology, annual growth in M3 minus short term bank interbank interest rates (90 days). With the monetary unification of the European Union the classic measures of M3 for each member country became obsolete overnight. However, Ireland has constructed it’s own measure of M3. The measure is known as the Irish contribution to the equivalent euro-area aggregate M3.

The Iriish Central Bank put a great deal of thought into how a new measure for M3 could be constructed given the financial implication of the Maastricht treaty. The following document is one example, http://www.centralbank.ie/data/QrtBullFiles/2003%2003%20Money%20Supply%20in%20Ireland.pdf.

So let us cut to the chase and have a look at M3 Inflation in Ireland. The following graph clearly show that with my measure of M3 Inflation, Ireland lurched into a sever period of deflation in 2008 and has slowly been clawing back ever since. The deflation rate plunged to levels of 15% .

M3 Inflation Ireland

Source: Data compiled from http://www.centralbank.ie/frame_main.asp?pg=sta_late.asp&nv=sta_nav.asp

So what is the story for Australia? As this blog has explained in earlier posts, the deflation episode for Australia is yet to happen. For comparisons sake I constructed a graph of each countries M3 Inflation over the same period from 2004. The good news for Australia from this graph is that the inflationary period does not seem to be anywhere near as severe as what happened in Ireland. One would assume that the resulting deflation may not be as severe as well. To repeat the often quoted copout line, only time will tell.

M3 Inflation in Ireland and Australia

Source: Data compiled from http://www.centralbank.ie/frame_main.asp?pg=sta_late.asp&nv=sta_nav.asp and http://www.rba.gov.au/statistics/tables/index.html

  • cja

    So do you think Australia’s about to deflate? Looks that way from what you have written here.

    I was wondering about what effect the size of the economy has on this. Australia’s economy is about 5 times larger than Ireland’s, so even though they may not be as pronounced, would these smaller percentage changes in money supply have a larger comparative effect?

  • http://profiles.google.com/thomaskline2 Thomas Kline

    This downturn will be steeper and sharper than 89-91. Debt levels are at crazy levels today, much worse than during the nineties.

    Australia has a major debt problem that needs to be addressed. But at the moment it’s not even being acknowledged by the mainstream press.

    The housing sector is doomed. The party is over and everyone knows it. Vendors are taking their overpriced homes off the market and putting them up for rent because they can’t even sell! Australian has been running a Ponzi scheme with our assets, our resources and our future? It’s unsustainable. Everyone knows auction results have fallen into a black hole (see http://australianpropertyforum.com/blog/main/3541120 ) and it’s got so bad now that even the spruikers can’t fudge the figures up above 50%. Melbourne was at 48% last weekend. Dire. The housing market is in severe trouble, no two ways about it.

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