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What is 'M2'

M2 is a measure of the money supply that includes all elements of M1 as well as "near money." M1 includes cash and checking deposits, while near money refers to savings deposits, money market securities, mutual funds and other time deposits. These assets are less liquid than M1 and not as suitable as exchange mediums, but they can be quickly converted into cash or checking deposits.

!--break--M2 is a broader money classification than M1, because it includes assets that are highly liquid but are not cash. A consumer or business typically doesn't use savings deposits and other non-M1 components of M2 when making purchases or paying bills, but it could convert them to cash in relatively short order. M1 and M2 are closely related, and economists like to include the more broadly defined definition for M2 when discussing the money supply, because modern economies often involve transfers between different account types. For example, a business may transfer $10,000 from a money market account to its checking account. This transfer would increase M1, which doesn’t include money market funds, while keeping M2 stable, since M2 contains money market accounts.

The Money Supply

The money supply measures the amount of monetary assets available in an economy. This is an important metric in macroeconomics, because it can dictate inflation and interest rates. Inflation and interest rates have major ramifications for the general economy, as these heavily influence employment, consumer spending, business investment, currency strength and trade balances. In the United States, the Federal Reserve publishes money supply data every Thursday at 4:30 p.m., but this only covers M1 and M2. Data on large time deposits, institutional money market funds, and other large liquid assets is published on a quarterly basis, and it is included in the M3 money supply measurement.

Changes in Money Supply

M2 in the United States has grown along with the economy, rising from $4.6 trillion in January 2000 to $12.8 trillion in June 2016. The supply never shrank year-over-year at any point in that period. The most extreme growth occurred in September 2001, January 2009 and January 2012, when the rate of M2 expansion topped 10%. These accelerated periods coincided with recessions and economic weakness, during which expansionary monetary policy was deployed by the central bank.

In response to economic weakness, central banks often enact policy that increases the money supply, promotes inflation and reduces interest rates. This creates incentive for businesses to invest and for consumers to maintain their purchase activities. The Phillips Curve illustrates an inverse relationship between interest rates and unemployment, and the Federal Reserve's mandate is to balance these two important macroeconomic statistics. M2 provides important insight into the direction, extremity and efficacy of central bank policy.

BREAKING DOWN 'M2'

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