Data for the above chart is from the Fed’s H.6 Money Stock Report, released January 24.
Monetary Definitions
- M1 consists of (1) currency outside the U.S. Treasury, Federal Reserve Banks, and the vaults of depository institutions; (2) demand deposits at commercial banks (excluding those amounts held by depository institutions, the U.S. government, and foreign banks and official institutions) less cash items in the process of collection and Federal Reserve float; and (3) other liquid deposits, consisting of other checkable deposits (or OCDs, which comprise negotiable order of withdrawal, or NOW, and automatic transfer service, or ATS, accounts at depository institutions, share draft accounts at credit unions, and demand deposits at thrift institutions) and savings deposits (including money market deposit accounts). Seasonally adjusted M1 is constructed by summing currency, demand deposits, and other liquid deposits, each seasonally adjusted separately.
- M2 consists of M1 plus (1) small-denomination time deposits (time deposits in amounts of less than $100,000) less individual retirement account (IRA) and Keogh balances at depository institutions; and (2) balances in retail money market funds (MMFs) less IRA and Keogh balances at MMFs. Seasonally adjusted M2 is constructed by summing small-denomination time deposits and retail MMFs, each seasonally adjusted separately, and adding the result to seasonally adjusted M1.
- ODL is described below
A Better Definition of Money and Lacy Hunt’s Thoughts on When a Recession Will Start
I discussed ODL in A Better Definition of Money and Lacy Hunt’s Thoughts on When a Recession Will Start
The main difference between ODL and M2 is that ODL does not include currency or retail money market funds.
Currency is accepted at an increasingly fewer number of business establishments and simply cannot be used for very large sized transactions. Retail money market funds never became an important medium of exchange. Both are becoming a far less used medium of exchange.
ODL has the additional advantage that it is the main source of funding for bank loans and investments, making ODL both a monetary and credit aggregate. Friedman would not be surprised that the need to change the best definition of what constitutes money would change over the years.
The above blocks courtesy of Lacy Hunt at Hoisington Management.
M1, M2, Other Deposit Liabilities Detail Since 2019
M1, M2, Other Deposit Liabilities Percent Change From Year Ago
The Fed’s QE panic attack during and after the Covid pandemic seriously distorted percentage changes in M1 money supply.
M2, Other Deposit Liabilities Percent Change From Year Ago
Monetary Distortions
In the mid-1990s the Greenspan Fed hugely distorted the M1 measure of money via Sweep Account Programs.
Sweeps are the process by which banks take money from checking accounts and move it to accounts that pay interest. The interest did not go to consumers, of course, but to banks.
Simply put, unbeknown to depositors, money people think is in their checking accounts and is supposedly available on demand is not there.
For a while, the St. Louis Fed published Sweep Data, then stopped in 2012.
I believe increasing use of Sweeps kept year-over-year M1 negative from June of 1995 all the way to February of 1998.
Reverse Repos
Reverse repos explain the surge in M1 relative to M2 in the lead chart.
The Fed has seriously distorted money supply. and in the process is giving huge amounts of free money to financial institutions.
With M1 so distorted let’s return to ODL.
M2, Other Deposit Liabilities Percent Change From Year Ago Detail
Not Since 1932
Lacy Hunt On What It Means
From the last quarter of 2021 to the same quarter in 2022, nominal ODL is estimated to have declined at record 2.8% annual rate, the largest yearly drop in history. In real terms, ODL also contracted at a record pace.
Based upon the Fed’s monthly $96 billion balance sheet reduction and the monetary policy lags, the rate of ODL decline will accelerate in at least the first half of 2023.
If the Fed sticks with its plan to raise the Federal Funds rate another 75 basis points, the rate of decrease in ODL will be sufficient to neutralize the money mountain of 2020/21 by the second quarter of 2023, when taking velocity into consideration.
The above is from Lacy Hunt prior to the H.6 release on Tuesday.
Both Lacy and I think a recession started in November or December.
For more details, please see A Better Definition of Money and Lacy Hunt’s Thoughts on When a Recession Will Start.
Loose Ends
Long-time readers may recall that I came up with M’ (pronounced M-Prime) as a way of reconstructing M1.
M’ was my way of coming up with a better version of money that was supposedly available on demand but really isn’t.
The process became impossible when the St. Louis Fed stopped publishing Sweeps data. Once again, money you think is in your account and is supposedly available on demand, really isn’t.
Lacy’s ODL is not to be confused with the Fed’s reporting of “other liquid deposits.”
In retrospect, a name like M2-, M2′, or “Prime M2” might better name to convey the Lacy’s message.
Free Money
Finally, through all these manipulations the Fed bailed out banks over time whereas the ECB with its negative rates didn’t. How much free money?
Please see How Much Free Taxpayer Money is the Fed Giving to Banks? for details.
Confused? The Central Bankers want it that way.
This post originated at MishTalk.Com
Please Subscribe!
Like these reports? I hope so, and if you do, please Subscribe to MishTalk Email Alerts.
Subscribers get an email alert of each post as they happen. Read the ones you like and you can unsubscribe at any time.
If you have subscribed and do not get email alerts, please check your spam folder.
Mish
The O/N RRP turns inside money into outside money. Contrary to
the FED’s spurious accounting, re: “the bond underlying the repo transaction is
still recorded on the Fed balance sheet”, O/N RRPs are contractionary.
That, of course, is an accounting error according to the Federal
Reserve Bank of Chicago’s “Modern Money Mechanics”. “If the buyer of a reverse
repo or a security sold by the Fed is a nonbank (which 90% of RRPs are), and
pays for the purchase using its bank account, the money supply is directly
affected”.
percentage points in excess inflation in the United States and 1.1 percentage points in Germany.
In Panel B, we dig deeper into foreign exposure and derive a measure of “international spillover” of U.S.
fiscal stimulus. In particular, we isolate the share of U.S. stimulus in foreign exposure for several countries
and compute the associated excess inflation in those countries. Our estimation implies that U.S. fiscal stimulus
was associated with excess inflation of about 2.3 percentage points in Canada and 0.6 percentage points in the
United Kingdom. For reference, we present the inflation impact of exposure to domestic and foreign fiscal
stimulus for all countries in Appendix Appendix 1, Table Appendix 1.1.”
to Nobel Laureates Dr. Milton Friedman and Dr. Anna Schwartz’s “A Program
for Monetary Stability”: the distributed lag effects of monetary flows
have been mathematical constants for > 100 years.
The G.6 release fell to President Bill Clinton’s “Paperwork
Reduction Act of 1995”: From the Federal Register:
“The usefulness of the FR 2573 data in understanding the
behavior of the monetary aggregates has diminished in recent years as the
distinction between transaction accounts and savings accounts has become
increasingly blurred (And that’s also what Chairman Alan Greenspan said about
M1). But Vt would have stuck out like a sore thumb with the boom in real-estate.
Further, the emphasis on monetary aggregates as policy
targets has decreased. In addition, respondent participation has declined over
the last several years. For these reasons, the Federal Reserve proposes to
discontinue the survey and the related statistical release.”
That was exactly why the G.6 Debit and Demand Deposit
Turnover statistical release should not have been discontinued by Ed Fry (then
the BOG’s longest running time series).
Vi is a “residual
calculation – not a real physical observable and measurable statistic.” Income
velocity may be a “fudge factor,” but the transactions velocity of
circulation is a tangible figure.
I.e., income
velocity, Vi, is endogenously derived and therefore contrived (N-gDp divided by
M) whereas Vt, the transactions’ velocity of circulation, is an “independent”
exogenous force acting on prices.
Money demand is
viewed as a function of its opportunity cost-the foregone interest income of holding
lower-yielding money balances (a liquidity preference curve). As this cost of
holding money falls, the demand for money rises (and velocity decreases).
Dig deeper. As Dr.
Philip George says: “The velocity of money is a function of interest rates”
Dig deeper. As Dr.
Philip George puts it: “Changes in velocity have nothing to do with the speed
at which money moves from hand to hand but are entirely the result of movements
between demand deposits and other kinds of deposits.”
to Nobel Laureate Dr. Milton Friedman, there is no “fool in the
shower”
“Extrait du Bulletin de ISI of 1937”. – History and forms.
Irving Fisher (1925) was the first to use and discuss the concept of a
distributed lag.
In a later paper (1937, p. 323), American Yale Professor
Irving Fisher stated that the basic problem in applying the theory of
distributed lags:
“is to find the ’best’ distribution of lag, by which is
meant the distribution such that … the total combined effect [of the lagged
values of the variables taken with a distributed lag has] … the highest
possible correlation with the actual statistical series … with which we wish to
compare it.”
…Thus, we wish to find the distribution of lag that
maximizes the explanation of “effect” by “cause” in a statistical sense”.
new money, not existing deposits.
only way to activate monetary savings (and all monetary savings originate within the payment’s system), put savings back to work (complete the circular
flow of income), is for the saver-holder to invest/spend directly/indirectly
outside of the payment’s system. And saver-holders never transfer their funds outside the banks unless they’re hoarding currency or converting to other national currencies, e.g., FDI, FPI.
outside of the payment’s system for me.
From the standpoint of the member banking system, the DFIs
(as contrasted to financial intermediaries or the non-banks, NBFIs) never loan
out, and can’t loan out, existing funds in any deposit classification (saved or
otherwise), or the owner’s equity, or any liability item.
When DFIs grant loans to, or purchase securities from, the
non-bank public, they acquire title to earning assets by initially, the
creation of an equal volume of new money (demand deposits) – somewhere in the
banking system.
The non-bank public includes every institution (including
shadow-banks), the U.S. Treasury, the U.S. Government, State, and other
Governmental Jurisdictions, and every person, etc., except the commercial and
the Reserve banks.