What Is M2 Money Supply, and Why Should Investors Care?

Investors are always on the lookout for ways to understand what’s happening in the market. One tool that’s been getting more attention lately?

M2 money supply. It’s a key measure of how much money is floating around in the economy, and that can tell you a lot about what might happen with stocks.

If you’ve never paid much attention to M2 before, now’s a good time to start.

First, What Is M2?

M2 is a broad way to measure the amount of money in the economy. It includes:

• M1: Cash, checking accounts, and other money that’s easy to access
• Savings accounts: Less liquid than checking, but still available
• Money market funds: Investment accounts that are relatively safe and offer modest returns
• Small time deposits: Certificates of deposit (CDs) under $100,000

In short, M2 includes money that’s either being spent, saved, or invested.

It’s a solid snapshot of the economy’s liquidity. When M2 is growing, there’s more money in the system. When it shrinks, cash becomes tighter.

How this Ties into the Stock Market

Here’s the idea. More money in the system means investors have more cash to put into stocks. When M2 is rising, stock prices often go up. But when M2 slows down or starts to shrink, stocks tend to struggle, especially in riskier areas like tech.

Liquidity Drives the Market

Markets move more based on liquidity than on company earnings or valuations.

• When M2 rises, it’s often thanks to government stimulus or monetary policies like Quantitative Easing (QE). That money doesn’t just sit in savings. It moves into stocks, real estate, and other investments. Tech stocks, in particular, tend to benefit.
• When M2 falls, it’s usually because of tighter policies or interest rate hikes. Liquidity dries up, investors get more cautious, and stock prices can dip.

We saw this in action during COVID-19. M2 shot up as governments pumped money into the economy. Stocks, especially in tech, soared. Then, as the Fed started raising rates and tightening things up in 2022, M2 growth slowed. And the stock market pulled back, with the Nasdaq taking a hit.

What This Means for Your Investment Strategy

How can tracking M2 help you make smarter decisions?

1. Spotting Market Trends: If M2 is climbing fast, there’s usually more fuel for a stock rally. If it’s shrinking, it might be time to get more defensive.
2. Understanding Cycles: M2 can sometimes be a better indicator of market direction than traditional metrics like earnings or GDP. Watching liquidity trends helps financial planners stay ahead of the curve.
3. Adjusting Portfolios: When M2 is rising, growth-oriented assets like stocks and real estate might make sense. When it’s falling, shifting toward bonds, cash, or commodities could be a safer play.

A Simple Rule: Follow the Liquidity

At the end of the day, Raoul Pal’s message is clear. Liquidity is king. If you keep an eye on M2, you can better understand what’s driving markets, not just today but in the months to come.

Key Takeaways

• M2 shows how much money is circulating in the economy.
• A rising M2 often leads to higher stock prices.
• A falling M2 can signal market slowdowns.
• Watching M2 can help you adjust your investment strategy before the market moves.

Adding M2 to your macro toolbox won’t give you all the answers, but it can help you make more informed decisions.

Could Recessions Become a Thing of the Past?

There’s a growing idea among some economists. Maybe recessions, as we’ve known them, are becoming less common or even avoidable. The reason? Central banks have more power than ever to keep the economy on track, thanks to tools like money printing and massive debt purchases.

Let’s break it down.

Central Banks: The New Market Stabilizers

Today’s central banks, like the Federal Reserve, the European Central Bank (ECB), and the Bank of Japan, can do something previous generations couldn’t. They can create large amounts of money to buy government debt and other financial assets.

This process, known as Quantitative Easing or QE, puts more money into the economy, lowers borrowing costs, and pushes asset prices higher. In tough times, central banks act as a kind of safety net. They buy debt and keep markets from freezing up.

The Idea of Unlimited Debt

This theory hinges on one big assumption. Central banks can keep creating money and buying debt without running into major problems.

In theory, this allows them to:

• Inject money to keep the economy growing
• Step in during crises to avoid recessions
• Keep interest rates low to boost spending and borrowing

But does this mean we can truly avoid economic downturns?

What a “No Recession” World Might Look Like

1. Flooding the Market With Cash: When trouble hits, like a stock market drop or rising unemployment, central banks could respond by pushing more money into the system. This helps keep demand steady and gives investors confidence.
2. Markets Feel Safer: If investors believe central banks will always step in, they may worry less about downturns. That can keep markets stable even during economic stress.
3. Governments Spend Freely: If central banks are buying up debt, governments may feel more comfortable running large deficits. They can spend more to stimulate growth without the usual fears of a debt crisis.

But There Are Real Risks

This approach isn’t without downsides.

1. Inflation: Printing too much money can lead to rising prices, shrinking the value of your dollars.
2. Asset Bubbles: When central banks keep buying, asset prices can get inflated beyond their true value. That can make markets more fragile.
3. Over-Reliance on Support: Businesses and governments might stop making tough choices if they know help is always coming.
4. Political Pushback: Using money printing to fund spending can become controversial and erode trust in the system.

So, Is This the End of Recessions?

Maybe not. But we might be entering a new era where central banks play a bigger role in softening economic cycles. Instead of boom-and-bust patterns, we could see more drawn-out slowdowns and quicker recoveries, at least when central banks are willing to act.

Still, nothing comes without trade-offs. Too much intervention can cause new problems, from inflation to market instability.

Final Thoughts

Whether you’re watching the M2 money supply or thinking about the long-term role of central banks, one thing is clear. Money moves markets. Understanding how liquidity works, and how central banks influence it, can help you stay ahead of the curve.

Recessions may not disappear completely. But how we deal with them is changing. And for investors, staying informed is the first step toward making better decisions.

Need help navigating all of this?

At SJB Global our goal is to  help individuals and families build investment strategies that make sense, no matter what the markets are doing, our team is here to help guide you with clear, personalised advice.
Contact us today to schedule a free consultation and find out how we can help you feel more confident about your financial future.

Site Sources

• Investopedia – M2 Money Supply
• https://tradingeconomics.com/united-states/money-supply-m2