Ad Majorem Dei Gloriam

Essential thinking for reading Catholics.

Friday, November 09, 2012

The trouble with money.

If I had to name a pet peeve over the next/last few days it'd be the savage innumeracy of the American public in general and the self-styled intelligentsia. As legendary humorist IowaHawk noted: "The bad news: we're all about to get boned. The good news: 51% of us will deserve it."

There are of course, multiple reasons why there are gravely distressing scenarios likely to play out in the global/US economy. Given the laws of arithmetic find even lesser acceptance among our betters than the prospect of Sharia, I can only hope the following analysis of monetary policy is sufficiently simplified.


The U.S. M1/M2 Money Supply data was published Thursday by the Fed and that got me going through the growth trend.

Non-Seasonally Adjusted (NSA) M2 continues to grow at an annualized +/-8% rate, based on a "straight-line curve fit" over the last 6 months.

This +/-8% rate will not be sufficient to reignite the US economy, but there are some areas of the US housing sector that could benefit, given that the Fed is buying up Mortgage Backed Securities, like a Colorado voter in the Twinkies section of a 7-Eleven, with the hot-off-the-press QE3 money. Any sensate person analyzing this will realize such a money growth rate will not be adequate to lift the overall US economy.

In all likelihood, the US economy and stock market will remain in the same doldrums for a while. Now, if the M2 growth rate stays at 8% or drops, eventually the market will crash. The ONLY way a market rally will manifest itself is if/when the growth rate accelerates for a sufficient period of time. (More on that below.) 

The ABC theory (Austrian Business Cycle) one of the tenets of Neo-Classical economic thinking (to which I adhere and you should also) serves to clarify how growth happens in response to growth in an economy's  money supply. In other words, the growth of the money supply must accelerate (i.e. the rate of increase must also increase) to keep a growth period going.

Now, let's put our +/-8% growth in perspective.

The record (all rates are annualized) of US M2 growth for the past 30 months:
6/10 – 6/11:            6.8%
6/11 – 8/11:          24% (2 months)
8/11 – 3/12:            7.3% (7 months)
3/12 – 5/12:            0% (2 months)
5/12 – Present:        8%

The 2 months of 24% growth was the, er, "printing flurry" that was manifested as a boomlet in the US stock markets and caused some measures of economic activity to (artificially, IMCO) pick up in the US. After that printing flurry, the money supply only grew at a 7.3% rate. Then, the hangover: earlier this year U.S. M2 growth evaporated to 0%. The money supply grew at about 8% afterwards.

WARNING: Arithmetic follows.

If you take the 2 months at 0% and average them in with the last 6 months at 8%, then average M2 growth for the combined last 8 months is +/-6%. The more eagle-eyed among you will suspect this to be actually less than the 7.3% for the 7 months before that. This means we are actually in a period of decelerating money growth. As a result, US markets and economy are showing signs of weakness. (There are some exceptions in the housing sector.)

Consider this. US banks now have almost $1.5 Trillion in excess reserves. (Remember what I said before about liquidity?) Natch, the Fed has an unstoppable capacity to print new money and they are adding $40 Billion/month from QE3 program with no end in sight. This means the US money supply could accelerate (unpredictably...whee!) at any given time if for some reason the US banks started lending again, or if the Federal Reserve goes on a printing jag.

If this occurs, it shows up in the Money Supply and US Banking Reserve reports issued by the Federal Reserve. Short version? US markets are not likely to grow in the near future, but things could change fast. Interest rates will eventually rise when price inflation spikes. (Remember, all that "extra" money has to fit to all the goods and services produced by an economy, which translates to higher prices.) That +/-8% rate of money printing on the heels of the last printing will, sooner or later, cause inflation to return, and that will make bond prices swoon.

The above provides a useful glance why US economic data has been disappointing, especially of late when – in contrast to earlier this year and late 2011, when there were hopes of a "real" US recovery (which were borne of a surge in money supply over 2010 and the first half of 2011). The problem here, as I'm sure you've figured out, is that the "natural" growth (i.e., absent Quantitative Easing) in M2 remains very disappointing.

The more tepid the money supply growth is, the more likely it is that we see a stock market and broader economic downturn that would be deeper and longer-lasting than the one from 2008.


  • At 1:00 PM, November 09, 2012 , Blogger gnelson said...

    I think it would be a lot easier to understand economics, if instead of saying 'quantitative easing', they'd say printing money, and instead of M2, they'd say, 'all the money that's getting pushed around.'

    Anyways, I think I understood enough of your post to say, "That really stinks."

  • At 1:41 PM, November 09, 2012 , Blogger Joe said...

    Short version is that money needs to grow at a certain rate, and at a certain degree of steadiness. The current climate will not allow for either, and the consequences for this are grave indeed.


Post a Comment

Subscribe to Post Comments [Atom]

<< Home