US money supply growing fast

Alasdair Macleod – 22 October 2011

With all the troubles of Europe hogging the headlines, commentators are ignoring money supply in the US, which is growing strongly, with the broad measure of M2 growing by over 10% for the last 12 months. Furthermore, the annualised growth rate over the last six months has been above 15%. The story told by the True Money Supply, otherwise known as Austrian Money Supply, confirms this.

The reason for using TMS is simple. According to the Ludwig von Mises Institute, it represents the amount of money in the economy available for exchange. Furthermore, it is designed to clearly show any expansion that results solely from central bank injections of cash and commercial banks’ credit creation, by excluding anything that has to be converted into cash first, such as credit and money market funds. It is therefore a pure measure of money in the economy available to be used for transactions, more pure than official MZM, M0 or any other central bank ‘M’ measures.

In economic theory this is important, because money is simply a commodity that happens to be used exclusively as a medium of exchange. And as a commodity, its value ultimately depends on its supply and the demand for it. By using TMS we keep the relationship between actual money and prices pure from other arguable factors.

The growth in US dollar TMS over the long-term is shown in the chart below. From this chart it can be seen that following a pause in its long-term trend at the time of the 2007-08 financial crisis, TMS has been growing strongly ever since.

The bulk of the growth has been in check deposits (customer current accounts) and savings deposits (instant access accounts) at the banks. Some commentators point out that this reflects cash not being spent and cash representing risk-averse hoarding. But this opinion ignores the fact that the cash is being used, because the banks have lent it to the government, and the government is distributing it into the economy.

So this cash does amount to extra supply of money, which will be gradually reflected in a fall in its purchasing power. Given that the acceleration in TMS dates back to 2009, we are already seeing this, with, which applies an unbiased statistical rigour to key statistics, estimating actual inflation to be running considerably higher than official estimates.

The other aspects (other than of money that is) of the pricing effects of supply-and-demand is the variability of demand for individual goods. And here, the picture – as always – is uneven. Welfare, defence and healthcare spending by government maintain demand for energy, food, defence and healthcare-related items. Banking and related financial services are also doing well, despite balance sheet problems, as they are closest to the source of the new money (in this case, the Federal Reserve). Much of the rest, as business surveys and unemployment statistics confirm, is patchy at best. So there are identifiable winners and losers in pricing, and the expansion of TMS is feeding through to those goods, demand for which is supported by government spending.

With this monetary background, it is likely that the big headache for 2012 will be persistent and rising price inflation for the US and other economies tied to the dollar. So we can expect stagflation to be in everyone’s vocabulary in the New Year, which will inevitably lead to pressure for interest rates to rise sooner rather than later.

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Alasdair started his career as a stockbroker in 1970 on the London Stock Exchange. In those days, trainees learned everything: from making the tea, to corporate finance, to evaluating and dealing in equities and bonds. They learned rapidly through experience about things as diverse as mining shares and general economics. It was excellent training, and within nine years Alasdair had risen to become senior partner of his firm. Subsequently, Alasdair held positions at director level in investment management, and worked as a mutual fund manager. He also worked at a bank in Guernsey as an executive director. For most of his 40 years in the finance industry, Alasdair has been de-mystifying macro-economic events for his investing clients. The accumulation of this experience has convinced him that unsound monetary policies are the most destructive weapon governments use against the common man. Accordingly, his mission is to educate and inform the public in layman’s terms what governments do with money and how to protect themselves from the consequences.

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