The Final Push for World Government

U.S. Money Supply Plunges at 1930s Pace as Obama Eyes Fresh Stimulus

The stock of money in the US fell from $14.2 trillion to $13.9 trillion in the three months to April, amounting to an annual rate of contraction of 9.6pc

May 26, 2010

London Telegraph - The M3 money supply in the United States is contracting at an accelerating rate that now matches the average decline seen from 1929 to 1933, despite near zero interest rates and the biggest fiscal blitz in history.

The M3 figures - which include broad range of bank accounts and are tracked by British and European monetarists for warning signals about the direction of the US economy a year or so in advance - began shrinking last summer. The pace has since quickened.

The stock of money fell from $14.2 trillion to $13.9 trillion in the three months to April, amounting to an annual rate of contraction of 9.6pc. The assets of insitutional money market funds fell at a 37pc rate, the sharpest drop ever.

"It’s frightening," said Professor Tim Congdon from International Monetary Research. "The plunge in M3 has no precedent since the Great Depression. The dominant reason for this is that regulators across the world are pressing banks to raise capital asset ratios and to shrink their risk assets. This is why the US is not recovering properly," he said.

The US authorities have an entirely different explanation for the failure of stimulus measures to gain full traction. They are opting instead for yet further doses of Keynesian spending, despite warnings from the IMF that the gross public debt of the US will reach 97pc of GDP next year and 110pc by 2015.

Larry Summers, President Barack Obama’s top economic adviser, has asked Congress to "grit its teeth" and approve a fresh fiscal boost of $200bn to keep growth on track.

"We are nearly 8m jobs short of normal employment. For millions of Americans the economic emergency grinds on," he said.

David Rosenberg from Gluskin Sheff said the White House appears to have reversed course just weeks after Mr Obama vowed to rein in a budget deficit of $1.5 trillion (9.4pc of GDP) this year and set up a commission to target cuts.

"You truly cannot make this stuff up. The US governnment is freaked out about the prospect of a double-dip," he said.

The White House request is a tacit admission that the economy is already losing thrust and may stall later this year as stimulus from the original $800bn package starts to fade.

Recent data have been mixed. Durable goods orders jumped 2.9pc in April but house prices have been falling for several months and mortgage applications have dropped to a 13-year low. The ECRI leading index of US economic activity has been sliding continuously since its peak in October, suffering the steepest one-week drop ever recorded in mid-May.

Mr Summers acknowledged in a speech this week that the eurozone crisis had shone a spotlight on the dangers of spiralling public debt. He said deficit spending delays the day of reckoning and leaves the US at the mercy of foreign creditors. Ultimately, "failure begets failure" in fiscal policy as the logic of compound interest does its worst.

However, Mr Summers said it would be "pennywise and pound foolish" to skimp just as the kindling wood of recovery starts to catch fire. He said fiscal policy comes into its own at at time when the economy "faces a liquidity trap" and the Fed is constrained by zero interest rates.

Mr Congdon said the Obama policy risks repeating the strategic errors of Japan, which pushed debt to dangerously high levels with one fiscal boost after another during its Lost Decade, instead of resorting to full-blown "Friedmanite" monetary stimulus.

"Fiscal policy does not work. The US has just tried the biggest fiscal experiment in history and it has failed. What matters is the quantity of money and in extremis that can be increased easily by quantititave easing. If the Fed doesn’t act, a double-dip recession is a virtual certainty," he said.

Mr Congdon said the dominant voices in US policy-making - Nobel laureates Paul Krugman and Joe Stiglitz, as well as Mr Summers and Fed chair Ben Bernanke - are all Keynesians of different stripes who "despise traditional monetary theory and have a religious aversion to any mention of the quantity of money." The great opus by Milton Friedman and Anna Schwartz - The Monetary History of the United States - has been left to gather dust.

Mr Bernanke no longer pays attention to the M3 data. The bank stopped publishing the data five years ago, deeming it too erratic to be of much use.

This may have been a serious error since double-digit growth of M3 during the US housing bubble gave clear warnings that the boom was out of control. The sudden slowdown in M3 in early to mid-2008 - just as the Fed talked of raising rates - gave a second warning that the economy was about to go into a nosedive.

Mr Bernanke built his academic reputation on the study of the credit mechanism. This model offers a radically different theory for how the financial system works. While so-called "creditism" has become the new orthodoxy in US central banking, it has not yet been tested over time and may yet prove to be a misadventure.

Paul Ashworth at Capital Economics said the decline in M3 is worrying and points to a growing risk of deflation.

"Core inflation is already the lowest since 1966, so we don’t have much margin for error here. Deflation becomes a threat if it goes on long enough to become entrenched," he said.

However, Mr Ashworth warned against a mechanical interpretation of money supply figures.

"You could argue that M3 has been going down because people have been taking their money out of accounts to buy stocks, property and other assets," he said.

Events may soon tell us whether this is benign or malign. It is certainly remarkable.

** While the Fed does not publish M3, it still publishes the underlying components. The indicator is reconstructed accurately for clients by Dr John Williams. See it here.

Flashback: Bad News, We're Back to 1931; Good News, It's Not 1933 Yet

January 25, 2009

Telegraph - Barack Obama inherits an economy already contracting at an annual rate of 6pc, much like the mid-Depression year of 1931 (-6.4pc).

This may beat Germany (-7pc) Japan (-12pc) and Korea (-22pc) over the fourth quarter. But that merely underlines the dangers ahead as the collapse of global trade chokes the mini-boom in US exports, setting off another stage of the crisis.

The US is losing 500,000 jobs a month. Brazil lost 650,000 in December. Beijing says 10m Chinese have lost their jobs since the crunch began. Japan's exports fell 35pc last month, year-on-year. The central bank is printing money furiously, buying bonds to prevent a relapse into deflation.

So yes, it is like early 1931. Citigroup and Bank of America have more or less disintegrated. JP Morgan's health is failing fast. General Motors and Chrysler survive only on life-support from the US taxpayer.

But it is not yet like 1933. That second leg down was the result of "liquidation" policies by a Dickensian leadership blind to the dangers of debt deflation. By then the Gold Standard had degenerated into an instrument of torture. It forced the Fed to raise rates from 1.5pc to 3.5pc in October 1931 to stem gold loss, with predictable results for shattered banks.

It is worth glancing at the front page of New York Times on Monday March 6, 1933 to see what the world looked like three days after Franklin Roosevelt moved into the White House.

The newspaper splashed with the story that FDR had closed the US banking system – invoking the Trading with Enemies Act – and ordered the confiscation of private gold. From left to right, the headlines read: "Hitler Bloc Wins A Reich Majority, Rules Prussia"; "Japanese Push On In Fierce Fighting, China Closes Wall, Nanking Admits Defeat"; "City Scrip To Replace Currency"; "President Takes Steps Under Sweeping Law of War Time"; "Prison For Gold Hoarders".

President Obama faces a happier world. The liberal economic order is still in tact, if fraying at the edges. Capital and ships move freely. North America and Europe talk the same political language. China has so far proved a dependable pillar of the international system.

But then the world seemed benign enough in early 1931. It is the second phase of depression that does terrible things.

Roosevelt took over a country where the economic machinery had completely broken down.

• The New York Stock Exchange and the Chicago Board of Trade had closed.


• Thirty-two states had shut their banks. Texas had restricted withdrawals to $10 a day.


• Few states could borrow on the bond markets.


• Illinois and much of the South had stopped paying teachers. Schools closed for months.


• An army of 25,000 famished war veterans squatting in view of Congress had been charged by troopers of the 3rd US cavalry with naked sabres – led by a Major George Patton.


• Armed farmers threatening revolution had laid siege to a string of Prairie cities.


• A mob had stormed the Nebraska Capitol.


• Minnesota's governor was recruiting Communists only for the state militia.
• Lawyers attempting to enforce foreclosures were shot.


• More than 100,000 New Yorkers applied to go to the Soviet Union when Moscow advertised for 6,000 skilled workers.

We forget how close America came to open revolt. Eleanor Roosevelt feared the country was beyond saving. Her husband kept the faith. He channelled the anger against Wall Street, diffusing it.

"The practices of the unscrupulous money-changers stand indicted in the court of public opinion," he began his presidency.

The Fed was an ideological deadweight. Bowing to pressure from Congress, it began to purchase bonds in mid-1932 to boost the money supply, but then recoiled, before retreating into pitiful self-justification. A third of the rescue funds in Hoover's Reconstruction Finance Corporation had been embezzled.

Today there has been no such failure of US institutional imagination, even if, as George Soros argues, the Treasury's policies have been "haphazard and capricious."

The twin blasts of fiscal and monetary stimulus have been massive. In short order the Fed has slashed rates to zero. It is now conjuring money out of thin air on an industrial scale, buying $600bn of mortgage bonds to force down the cost of home loans, and propping up the commercial paper market to avoid mass corporate default. Ben Bernanke, a Depression junkie, is proceeding with a messianic sense of certainty. The wash of money should ensure that the next 18 months will not mimic the cascade of disasters from late 1931 to early 1933. [Note that this was written 16 months ago in January 2009.]

It buys time. But it does not solve the deeper problem, which is that a West addicted to Ponzi credit has put off the day of reckoning with ever more extreme monetary policy with each downturn, stealing prosperity from the future.

It will be an extremely delicate task to right the ship again. Central banks will have to extricate themselves from their venture into the bond markets without setting off a bond debacle in 2010 or 2011. Governments will have to map out of a path of Puritan discipline for year after year.

This will be Barack Obama's grim test of statesmanship.