Does Economic Growth Require an Expansion of the Money Supply?

The relationship between economic growth and money supply expansion has long been a subject of debate among economists and policymakers. In 2025, this discussion has taken on renewed urgency as central banks navigate the complexities of endogenous money creation and its implications for stability. The U.S. Federal Reserve's evolving toolkit, coupled with shifting dynamics in M1 and M2 money supply metrics, offers a lens through which to examine how growth naturally drives money supply-and why excessive intervention risks distorting markets.

Endogenous Money Creation: A Paradigm Shift

Traditional exogenous models of money supply assume that central banks directly control the quantity of money in an economy. However, endogenous money theory posits that money is generated internally through economic

systems playing a central role in its creation according to theory. This perspective challenges the notion of rigid control, emphasizing instead the dynamic interplay between credit demand, liquidity needs, and institutional frameworks. For instance, the Federal Reserve's 2025 ample reserves strategy-relying on overnight reverse repo facilities (ON RRP) and interest on reserve balances (IORB)-reflects an acknowledgment of this endogeneity. By ensuring a sufficiently large ex ante supply of reserves, the Fed minimizes daily volatility in short-term interest rates while allowing market forces to shape liquidity demand according to the Federal Reserve.

This approach aligns with the reality that modern economies generate money through transactions, lending, and investment. As businesses expand and consumers spend, the demand for liquidity rises organically, necessitating a corresponding increase in the money supply. The Fed's tools, however, are not designed to suppress this natural process but to manage its transmission. For example, adjustments to IORB rates in 2025-lowered to 3.90%-demonstrate how policymakers adapt to shifting conditions without overriding the endogenous mechanisms at play according to the Federal Reserve.

M1/M2 Dynamics: Growth and Constraints

The U.S. money supply metrics in 2025 underscore this interplay. As of September 2025, M1 reached $18,912.8 billion, while M2 stood at $22,195.4 billion, with a year-over-year growth rate of 4.8% according to data. These figures reflect a gradual expansion consistent with the Fed's transition from balance sheet reduction to a neutral stance. Notably, this growth has coincided with a median forecast of 2.7% annualized GDP growth in the third quarter of 2025, driven by business investment and consumer demand according to market analysis.

However, the Fed's management of reserves and its focus on maintaining stable money market operations highlight the tension between endogenous dynamics and policy intervention. While the ample reserves framework aims to smooth fluctuations, it also risks creating dependencies. For instance, the ON RRP facility has become a "safety valve" for absorbing excess liquidity, potentially reducing the need for market-driven adjustments in credit allocation according to the Federal Reserve. This raises questions about whether such interventions distort the natural signals that guide investment and resource allocation.

Market Distortions and the 2025 Thesis

The 2025 thesis on money supply expansion and hard assets further complicates the picture. Excess liquidity-particularly since the 2008 financial crisis-has driven asset prices upward across sectors, including real estate, stocks, and gold, even in the absence of robust real economic growth according to analysis. This phenomenon has led to a situation where all major asset classes rise simultaneously, diverging from historical patterns where price movements were more diversified. The surplus of money has also distorted market signals, as liquidity injections prevent prolonged declines and alter traditional interplays between asset classes according to analysis.

For example, the U.S. economy's 2.7% GDP growth in 2025 has occurred alongside a headline CPI of 3.0%, exceeding the Fed's 2% target according to market data. This suggests that while economic activity is expanding, inflationary pressures persist, partly due to the persistent liquidity in the system. The challenge for policymakers lies in balancing the need to support growth with the risk of overstimulating asset markets.

The Risks of Excessive Intervention

The debate over intervention is further sharpened by proposals like Project 2025, which advocates for a return to the gold standard and a reduction in the Fed's authority according to analysis. Such a shift would replace the central bank's dual mandate of maximum employment and price stability with a sole focus on the latter. While proponents argue this would curb inflation, it risks undermining the Fed's ability to respond to economic fluctuations and provide discretionary support to financial institutions.

Critically, excessive intervention-whether through rigid monetary rules or overreliance on tools like ON RRP-can distort market signals and create misallocations. For instance, prolonged low interest rates and liquidity injections have inflated asset valuations, potentially masking structural weaknesses in the real economy according to analysis.

Conclusion: Balancing Endogeneity and Stability

The 2025 experience illustrates that economic growth naturally drives money supply expansion, but the role of central banks remains pivotal in ensuring stability. The Fed's ample reserves framework and adaptive tools have mitigated volatility, yet they also highlight the fine line between supporting endogenous processes and distorting market dynamics. As M1 and M2 metrics continue to evolve, policymakers must remain vigilant against the unintended consequences of intervention-particularly in hard asset markets, where liquidity-driven distortions are most pronounced.

Ultimately, the challenge lies in harmonizing the flexibility of endogenous money creation with the discipline required to maintain long-term stability. This requires not only technical expertise but also a philosophical commitment to balancing growth, equity, and resilience in an increasingly complex global economy.