<p>None, you are misreading the passage. The paragraph does <strong>not</strong> say that increase in M2 will lead to deflation.</p>
<p>As the paragraph clearly states the deflation is most likely because of the severity of the 'shock'. Shock here is not the increase in the money supply it is the recession. Fall in real output is deflationary.</p>
<p>According to standard textbook equation of exchange  (see for example Blanchard et al Macroeconomics an European perspective)  price level <span class="math-container">$P$</span> is given by:</p>
<p><span class="math-container">$$P=MV/Y$$</span></p>
<p>where <span class="math-container">$M$</span> is money supply, <span class="math-container">$V$</span> velocity and <span class="math-container">$Y$</span> output. This equation is an oversimplification as in more advanced models also expectations of these variables and other factors play a role (see Romer's Advanced Macroeconomics or <a href="https://www.brookings.edu/wp-content/uploads/1998/06/1998b_bpea_krugman_dominquez_rogoff.pdf" rel="nofollow noreferrer">Krugman (1998)</a>), but for this question more complex model would arguably be an overkill.</p>
<p>As the equation shows price level (change of which gives you inflation) increases with <span class="math-container">$M$</span> but also decreases with <span class="math-container">$Y$</span>. The article in the Financial Times simply states that although <span class="math-container">$M$</span> increased considerably deflation is still expected due to the fall in <span class="math-container">$Y$</span> (i.e. the shock).</p>

CC BY-SA 4.0
2020-08-13T04:51:58.920Z
Right on.  I didn't see the shock was being referenced.  The references have been very nice.  Thank you!  (For the record, the simplified model seems to be given in chapter 8 of Blanchard et al. and further discussed in chapter 10.)
user12406990
CC BY-SA 4.0
2020-08-13T01:50:35.793Z
2020-08-13T02:09:33.037Z
2020-08-13T02:09:33.037Z
1muflon1
<blockquote>
<p>The year-on-year growth in M2 — a broad measure of US money supply —
has rocketed this year due to the efforts of monetary and fiscal
policymakers to reduce the economic damage caused by the pandemic.
Although the severity of the shock makes deflation the most likely
short-term outcome, Mr Wilson argued that there is now a “greater
likelihood for inflationary pressures to build”.
Source: <a href="https://www.ft.com/content/9f9db6c2-b03b-4a97-acfe-2a6220b6dd29" rel="nofollow noreferrer">Financial Times</a>, August 10th, 2020.</p>
</blockquote>
<p>What fact in macroeconomics explain deflation being the most likely short-term outcome of an increase in M2?  A reference would be appreciated. Thank you.</p>

<macroeconomics><monetary-policy><money-supply>
Why is deflation a likely short-term of an increase in M2?
user12406990
# Why is deflation a likely short-term of an increase in M2?

(Asked by: username_0 on 2020-08-13)

> The year-on-year growth in M2 — a broad measure of US money supply —
> has rocketed this year due to the efforts of monetary and fiscal
> policymakers to reduce the economic damage caused by the pandemic.
> Although the severity of the shock makes deflation the most likely
> short-term outcome, Mr Wilson argued that there is now a “greater
> likelihood for inflationary pressures to build”.
> Source: [Financial Times](https://www.ft.com/content/9f9db6c2-b03b-4a97-acfe-2a6220b6dd29), August 10th, 2020.

What fact in macroeconomics explain deflation being the most likely short-term outcome of an increase in M2? A reference would be appreciated. Thank you.

**Tags:** macroeconomics, monetary-policy, money-supply

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## 1 answers

### Answer by username_1 on 2020-08-13. Score: 1 | Accepted answer

None, you are misreading the passage. The paragraph does **not** say that increase in M2 will lead to deflation.

As the paragraph clearly states the deflation is most likely because of the severity of the 'shock'. Shock here is not the increase in the money supply it is the recession. Fall in real output is deflationary.

According to standard textbook equation of exchange (see for example Blanchard et al Macroeconomics an European perspective) price level $P$ is given by:

$$P=MV/Y$$

where $M$ is money supply, $V$ velocity and $Y$ output. This equation is an oversimplification as in more advanced models also expectations of these variables and other factors play a role (see Romer's Advanced Macroeconomics or [Krugman (1998)](https://www.brookings.edu/wp-content/uploads/1998/06/1998b_bpea_krugman_dominquez_rogoff.pdf)), but for this question more complex model would arguably be an overkill.

As the equation shows price level (change of which gives you inflation) increases with $M$ but also decreases with $Y$. The article in the Financial Times simply states that although $M$ increased considerably deflation is still expected due to the fall in $Y$ (i.e. the shock).

> **Comments:**
> **username_0**: Right on.  I didn't see the shock was being referenced.  The references have been very nice.  Thank you!  (For the record, the simplified model seems to be given in chapter 8 of Blanchard et al. and further discussed in chapter 10.)  

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