[quote]The money was never “in” the stock market. To the extent you “pulled [money] out” of the stock market, that means that you sold your stocks — which means that someone else took money from their bank account and gave it to you in exchange for your stocks. It just moved from their bank account to yours.[/quote]

That is true, but that money may have been in circulation before, you drew it out of circulation and parked it in a savings account with no intention to spend it in foreseeable future.

[quote]
Regarding the concept of circulation, how is money in a checking account any more “in circulation” than money in a savings account? In fact, depending on how you are defining it, money is never really in “circulation” — that is to say, it goes immediately from one owner (in their bank acct or whatever) to another.[/quote]

Let’s step back a bit. What causes inflation? Inflation occurs when demand for products at a given price level exceeds supply. Why would growth in money supply have the potential to drive inflation? Because rising money supply means more money in consumers’ hands chasing the same quantity of products, but only if they have that money (it does not sit in bank reserves somewhere) and they are willing to spend that money. Money that sits in savings accounts does not contribute to consumer demand and has no effect on price levels.

By analogy, raising the number of cars in the country can lead to more traffic, higher utilization of freeways, more gasoline tax collection, etc. but only if the increase in that number is not outweighed by the increase in the number of cars standing on cinder blocks in people’s backyards.

[quote]they define money as anything that is immediately redeemable at par. So savings accounts would count, but money markets would not (bc money markets are in fact debt instruments). [/quote]

That’s basically M2 less small time deposits:

http://research.stlouisfed.org/fred2/graph/?chart_type=line&s%5B1%5D%5Bid%5D=M2MSL&s%5B1%5D%5Brange%5D=10yrs

It’s a little better than pure M2, but has the same problems.

Instead of looking at abstract money indices, it’s better to look at the amount of money people earn, and that (up to the fluctuations in velocity and saving preferences) would give you a real picture of changes in “true” money supply and inflation:

(don’t forget to subtract 1%/year to adjust for population growth)