Earlier this week, my pal Larry Kudlow showed a chart of M1. His purpose was to demonstrate that the growth of the money supply was modest, therefore future inflation expectations would/should subside. Hence, this would leave the Fed free to slash rates much further.
The unspoken subtext was this was needed to bail out a weakening economy and an increasingly volatile stock market.
If you want to prove that the Fed has been stingy, M1 is the wrong data
point to use — it paints a misleading portrait of money supply, as the nearby chart reveals. The
Fed, as we have seen, has been doing their work not via the printing press, but rather through the
Repo Credit market. The near daily repos, along with a little help from their Euro-buddies (who just injected half a trillion dollars of short term notes into their system.
M1 is merely physical currency, plus demand accounts. What you really need to see is M3, which includes eurodollars and repurchase agreements. (Hey, what do you know! The Fed no longer reports M3. What an astounding coincidence!).
Forget the printed dollars and focus on the rapid creation of credit by the Fed — not actual paper dollars for the metaphorical helicopter drop, but actual credit — and we discover an even uglier truth: The Adjusted Monetary Base (See St. Louis Fed chart below) is collapsing EVEN AS MZM GROWTH IS MOVING TO NEW HIGHS. As Bill King points out, this means that "Capital is now being destroyed faster than credit can grow."
Net net, all these liquidity injections are merely moderating the collapsing credit facilities, and not actually injecting much in the way of credit into the economy.
Credit Collapsing Faster than it can be created:
Signs of economic of economic weakness abound, despite the massive injections of credit and liquidity.
Deep down inside, I suspect Larry realizes that much of the "boom" from 2002 til ’07 was driven by the absurdly cheap money — and not tax cuts, as has been argued by many on his show. Just about everything from share buybacks to M&A to private equity bids to the Housing boom and MEW driven consumer spending to weak dollar led export boom were functions of ultra-low rates. Now, that cycle has ended, and we are seeing the repercussions of the irresponsible policies of Alan Greenspan.
Time and time again we observe that *TANSTAAFL . . .
UPDATE: December 21, 2007 1:55pm
Here’s the requested shadow Fed M3 chart:
*TANSTAAFL: "There Ain’t No Such Thing As A Free Lunch"
Research Division, Federal Reserve Bank of St. Louis