The widely followed measure of the nation's money supply, called M1, rose by $5 billion during the week ended Sept. 7 after falling during the month of August.

Many Wall Street analysts had predicted the steep rise in M1, which consists of cash, checking accounts and NOW accounts, largely because Social Security payments which are deposited into bank accounts were disbursed at the beginning of the month. Analysts said that despite the jump in M1, money supply increase is still within the growth targets set by the Federal Reserve Board and there is little worry that the Fed would tighten policy leading to higher interest rates.

Some analysts earlier in the week had predicted the money supply could grow by as much as $10 billion, Markstein said. The money supply may drop by $1 billion during the next reporting week, Markstein said.

In addition to the Social Security payouts, the money supply was also pushed up by spending during the Labor Day holiday and back to school purchases, said Bernard M. Markstein III, a senior financial economist for Chase Econometrics Associates Inc.

"The Fed's going to continue exactly what they're doing, holding steady," Markstein said. However, he said at the Fed's Federal Open Market Committee meeting on Oct. 4--where decisions concerning monetary policy are made--Markstein said, "I expect they'll begin loosening" policy. The Fed's target range for M1 growth is between 5 percent and 9 percent.

"All money figures are within target range," Markstein said. "Even with this large M1, it's within target range."

The money supply will probably inch back down, economists said, because the Social Security payments will probably be transferred out of checking accounts into non-checking time deposits which are outside of the realm of M1.

In a separate report, the Fed said the nation's factories operated at 76.7 percent of their capacity in August, a 0.7 percent rise, pushed up largely by the most furious automobile production since June 1979. With utilities and mines included, overall capacity utilization rose 0.9 percent during the month.

The operating rate for factories, mines and utilities was the highest since November 1981. However. that still wasn't as high as the 81.7 percent rate reached in July 1981 when the recession started. Capacity utilization only nears 90 percent at time of war.

Some of the increase in capacity utilization is because of the shrinkage of potential production in some industries brought about by plant closings. For example, the auto industry operated at 78.6 percent of its capaity in August while the automakers' capacity to produce cars shrank by half a percent during the second quarter, the Fed said.