Thread: US M3 Money Supply Contraction Points to Deflation

US M3 Money Supply Contraction Points to Deflation
Economics / Money Supply
Aug 19, 2008 - 12:53 PM

By: Mike_Shedlock

The Telegraph is reporting Sharp US money supply contraction points to Wall Street crunch ahead.

The US money supply has experienced the sharpest contraction in modern history, heightening the risk of a Wall Street crunch and a severe economic slowdown in coming months.



Data compiled by Lombard Street Research shows that the M3 ''broad money" aggregates fell by almost $50bn (£26.8bn) in July, the biggest one-month fall since modern records began in 1959. "Monthly data for July show that the broad money growth has almost collapsed," said Gabriel Stein, the group's leading monetary economist.

On a three-month basis, the M3 growth rate has fallen from almost 19pc earlier this year to just 2.1pc (annualised) for the period from May to July. This is below the rate of inflation, implying a shrinkage in real terms.

The growth in bank loans has turned negative to a halt since March. "It's obviously worrying. People either can't borrow, or don't want to borrow even if they can," said Mr Stein.

My Comment : What would be more worrying would be if banks kept lending in a world where asset prices are plunging. Those with good credit do not want to borrow and those with bad credit can't borrow. This is actually a good development. Banks need to raise capital, as opposed to lending recklessly in a word of overcapacity in nearly everything.

Monetarists say it is the sharpness of the drop that is most disturbing, rather than the absolute level. Moves of this speed are extremely rare.

My Comment : Stein and others have this backwards. The drop is not or rather should not be disturbing. Nor should it have been unexpected. The reason a huge plunge was expected by me has to do with why M3 was soaring in the first place. M3 was soaring because institutions and consumers were telling credit lines and parking the money in money market funds. Those screaming inflation, or hyperinflation missed the boat on this big time. Now that those credit lines have been tapped or shut off, it is perfectly logical to see M3 plunge.

The overall debt burden in the US economy is currently at record levels, raising concerns that a recession - if it occurs - could set off a sharp downward spiral.

My Comment : A recession is here, and at this point it is silly to assume otherwise.

Monetarists insist that shifts in M3 are a lead indicator of asset prices moves, typically six months or so ahead. If so, the latest collapse points to a grim autumn for Wall Street and for the American property market. As a rule of thumb, the data gives a one-year advance signal on economic growth, and a two-year signal on future inflation.

My Comment : M3 has proven to be a poor leading indicator. Housing has been crashing for three years, equity prices in general have been sinking for 9 months and financials have been sinking like a rock for a year. The US recession started in December of 2007 or January of 2008, some 8-9 months ago. Pray tell what about M3 is leading?

M3 surged after the onset of the credit crunch, but this was chiefly a distortion caused by the near total paralysis in parts of the American commercial paper market. Borrowers were forced to take out bank loans instead. The commercial paper market has yet to recover.

My Comment : I have been talking about this all year. The bottom line is that one has to look not only at what M3 is doing, but why it is doing it. Nearly everyone got this wrong. Please see MZM, M3 Show Flight to Safety for more details.

Please see TMS: A Truer Money Supply? for a discussion of a far better monetary aggregate to watch than M3. Here is a snip from the latter.

People are failing to take into consideration why M3 is soaring. And right now the why is extremely important. The answer is businesses are tapping credit lines for fear they cannot tap them later. They are parking that money in institutional money market accounts and in response M3 and MZM have been soaring. These certainly are not inflationary conditions.

What cannot go on indeed has not gone on. Deflation is here even as misguided screams of inflation from those looking in the rear view mirror are now echoing around the world.

On August 10th I wrote The Future Is Frugality . I will add to that The Future Is Now .

By Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com

http://marketoracle.net/Article5939.html

there are too many links to post. Please go to the link above to view them

US Money Supply and the Bond Market Blackhole

Interest-Rates / Money Supply
Aug 19, 2008 - 04:41 PM
By: Rob_Kirby

With a show of hands, how many people really believe the U.S. Bureau of Labor Statistics when they report that inflation is running at 2 – 4 %?

I'm not seeing very many hands.

As GoldMoney's James Turk recently reported,
“To give you a true picture of just how bad inflation has become, here is what John Williams of Shadow Government Statistics reports in his latest newsletter : "The SGS-Alternate Consumer Inflation Measure, which reverses gimmicked changes to official CPI reporting methodologies back to 1980, rose to a 28-year high of roughly 13.4% in July, up from 12.6% in June." It's no wonder that the demand for precious metal coins and small bars is so strong.â€

Economic slowdown: World markets fall sharply amid fears that credit crunch has further to run· Widening money market spreads signal more gloom

· Former IMF chief warns that 'worst is yet to come'

Larry Elliott, economics editor
The Guardian,
Wednesday August 20 2008

Share prices dropped sharply on the world's financial markets yesterday amid fears that the year-long credit crunch is entering a dangerous new phase marked by a severe economic slowdown and failing banks.

The FTSE 100 index fell by almost 2.5% as financial market traders braced themselves for a fresh bout of turbulence triggered by concern that weakening growth in Europe, North America and Asia would add to the problems of western banks.

Analysts pointed to widening spreads in money markets as a sign that the mood was becoming gloomier after a period in which trading conditions had showed tentative signs of returning to normal. A fall of 129.8 points in the FTSE 100 to 5320.4 was mirrored by a drop of almost 3% in Japan, and declines of well over 2% on the Frankfurt and Paris bourses.

Ken Rogoff, the former chief economist at the International Monetary Fund, added to market jitters by warning that the worst of the crisis was yet to come.

"The US is not out of the woods. I think the financial crisis is at the halfway point, perhaps. I would even go further to say 'the worst is to come'," he told a financial conference in Singapore.

"We're not just going to see mid-sized banks go under in the next few months, we're going to see a whopper, we're going to see a big one - one of the big investment banks or big banks," Rogoff said.
His comments came amid speculation that the US government would in effect be forced to nationalise Fannie Mae and Freddie Mac - the two biggest US housing finance groups and as new figures for housing starts and producer prices suggested that the world's biggest economy was in the grip of stagflation.

After a fall of more than 180 points on Monday, shares on Wall Street slipped further in early trading yesterday. Lehman Brothers was down more than 6% after reports from analysts that it would be forced into a fresh $4bn (£2bn) write-down from losses on the US real estate market.

The US commerce department in Washington reported an 11% drop in housing starts between June and July - dousing hopes that the market might be stabilising after the most severe property slump since the Great Depression. With the US awash with unsold homes, builders began work on 965,000 properties last month - a 30% fall on July 2007.

Meanwhile, data from the US labor department provided evidence of last month's rise in oil prices to a peak of $147 a barrel. The producer price index - a measure of the cost pressures facing American manufacturers - was 9.8% higher in July than it was a year earlier. It is the fastest annual rate of growth since 1981.

Even excluding food and energy - the two items that have been mainly responsible for growing upward pressure on the cost of living - producer prices were still 3.5% higher than a year earlier, the fastest rate of increase since 1991.

Richard Fisher, head of the Dallas Federal Reserve, said: "We are in the midst of a fierce correction from a period of indiscriminate behaviour in the credit markets, a surfeit of homebuilding, a global avalanche of cheap labour and correspondingly cheap imports, and other unsustainable financial and economic activity."

But Fisher - seen as one of the Fed's hawks - warned that the fight against rising inflation had to take precedence over cuts in interest rates to boost growth.

"Unless the python that is the US economy can quickly pass the recent burst of cost-push pressures, we risk a reinforcing spreading of inflationary impulses and expectations," he told the Progress & Freedom Foundation thinktank.

"Should this happen and the Fed were to fail to address it, we would run the risk of losing the public's confidence in our ability to constrain inflation," he said.

Gabriel Stein, at Lombard Street Research, said credit growth in the US had remained strong until the late spring but had since weakened sharply.

"The demand for loans is not there, nor are banks willing to extend credit even if it were. If this weakness becomes entrenched over the autumn, it is a clear sign of very weak American output growth in 2009," he said.

http://www.guardian.co.uk/business/2008 ... ketturmoil