M2 Infinity and Beyond

M2 Reaches New High: Inflation Pressures, Cycles, and the Fed’s Signaling Breakdown

This milestone is more than just a numerical peak—it's a signpost in a larger economic story that intertwines fiscal policy, inflation, monetary cycles, and a deepening disconnect between market expectations and Federal Reserve signaling.

M2 and the Long-Term Trend

The first chart above shows that M2 (which includes cash, checking deposits, and easily convertible near money) has steadily grown since the 1960s. The dotted line reflects the long-term trend using the Hodrick-Prescott (HP) filter, a tool often used in macroeconomics to separate cyclical components from long-term growth. The HP filter minimizes the sum of the squared deviations of the actual series from its trend component, penalizing rapid changes in the growth rate of the trend itself.

What’s remarkable is how dramatically M2 surged past its trend following the 2020 COVID-19 pandemic, surpassing the magnitude of growth seen even during the 2008 Global Financial Crisis (GFC). Although the money supply dipped briefly in 2023, recent data shows a return to expansion—now exceeding $22 trillion and continuing upward.

This renewed expansion isn’t happening in isolation. It's converging with growing inflation pressures, tariff threats, and political interference in interest rate policy—all while the Fed is maintaining an ambiguous stance.

Inflation Pressure is Real: M2 + Tariffs = A Dangerous Mix

A key signal of concern is inflation expectations. The University of Michigan’s survey shows a 100% increase in inflation expectations in early 2025—despite historically high interest rates. This suggests that inflation is no longer just a lagging artifact of pandemic-era stimulus, but may now be feeding on current policy distortions and fiscal shocks.

One major fiscal pressure point is tariffs. As former President Donald Trump positions for a possible return to the White House, he has signaled plans to impose aggressive tariffs on imports. Markets are preemptively pricing in these costs, which will almost certainly drive consumer prices higher regardless of what the Fed does with rates.

The real issue isn’t just the tariffs or the money supply, but the combination of the two. When expansionary fiscal policy (via tariffs or subsidies) is combined with monetary expansion, the inflationary effect is multiplied. The rising M2, paired with inflationary fiscal rhetoric, is a recipe for persistent upward price pressures.

M2 Growth Cycles: The Monetary Boom-Bust Rhythm

The second chart displays deviations of M2 from its HP-filtered long-term trend. It clearly highlights monetary expansion phases, including:

• The 2008 GFC: Modest stimulus led to a short-lived bump in M2 growth.
  

• Post-2020 COVID stimulus: Massive injections of liquidity caused a vertical leap in the money supply, far surpassing historical norms.
  

• Current phase (2024–2025): While not as explosive as 2020, the recent upward cycle is notably stronger than the 2008 GFC stimulus period.
  

This indicates that monetary growth is once again outpacing structural economic output, a dangerous condition that usually precedes inflation surges.

The Hodrick-Prescott filter, used here to isolate cyclical growth, reveals that the economy may be entering a new monetary regime. If M2 continues growing above its trend, inflation could become entrenched—especially if the Fed is unable or unwilling to counteract it with higher rates or balance sheet reduction.

The Fed vs Trump: A Signaling Breakdown

Despite the inflation threat, the Federal Reserve has recently paused interest rate hikes, holding the Federal Funds Rate at around 4.33%, even as inflation expectations spike. This chart also introduces a contrasting view: Donald Trump publicly advocates for rates closer to 1%, a stark divergence from the Fed's current policy stance.

This sets the stage for a classic signaling game with asymmetric information—a concept from game theory applied in monetary economics. In such games:

• The Fed is the signal sender, using interest rate decisions to influence inflation expectations.
  

• The market is the receiver, interpreting these signals to price assets and adjust behavior.
  

But what happens when the signal is no longer credible?

The answer may be unfolding before us. Despite high rates, inflation expectations are rising, not falling. This suggests the signal has been broken. Fiscal policy threats (e.g., tariffs) and political pressure are overpowering traditional monetary cues. As a result:

The Fed’s signal is out of service.

This breakdown of monetary signaling could trigger a dangerous feedback loop—where inflation expectations become self-fulfilling, and the Fed loses control over price stability.

CPI: The Real-Time Impact

The Consumer Price Index (CPI) reflects the lived reality of Americans. Although CPI growth slowed in 2023, the chart shows renewed momentum through 2024 and into 2025. Several monthly prints exceed 0.5%, signaling that inflation may be reaccelerating.

While not as explosive as 2021, these month-over-month gains compound over time. Annualized, even 0.4% monthly inflation results in 5% yearly inflation—well above the Fed’s 2% target.

This is further evidence that high interest rates alone are not anchoring inflation expectations. If M2 keeps growing and tariffs increase input costs, CPI will likely reflect those pressures in the coming months.

Conclusion: Policy Crossroads Ahead

M2 reaching a new all-time high is more than a data point—it’s a macroeconomic alarm bell. The convergence of:

• Sustained M2 growth above long-term trend,
  

• Rising inflation expectations,
  

• Tariff-driven cost shocks, and
  

• A broken Fed signaling mechanism,
  

...is creating a perfect storm for persistent inflation.

The use of the Hodrick-Prescott methodology to track long-term monetary cycles provides a clear picture: we are in another above-trend phase of M2 expansion, more aggressive than anything post-GFC.

Meanwhile, monetary policy is caught in a signaling game riddled with asymmetric information. The market no longer fully believes the Fed’s signals. And with political actors like Trump calling for dramatic rate cuts, the situation may become even more volatile.

As inflation expectations surge, it’s time to ask: can the Fed regain credibility before inflation becomes systemic again?

Or will the market continue to ignore its signals—because the signal is, quite literally, out of service?

Sources & References

Board of Governors of the Federal Reserve System (US), Federal Funds Effective Rate [DFF], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/DFF, August 14, 2025.

Board of Governors of the Federal Reserve System (US), M2 [M2NS], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/M2NS, August 14, 2025.

CNBC. (2025). Consumer prices rise 2.7% annually in July, less than expected amid tariff worries. https://www.cnbc.com/2025/08/12/cpi-inflation-report-july-2025.html 

University of Michigan, University of Michigan: Inflation Expectation [MICH], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/MICH, August 14, 2025.