Concerns about M3 Contracting

Note that this article has been expanded upon and revised and is now posted on Seeking Alpha here.

In today's news Europe and Japan continue to warn of and fear deflation and in the U.S. news you can barely ever find the word, though our M3 trackers are also finding a contraction of M3 over the past few months.

And, why was it that our Fed stopped reporting M3 in '06? Maybe it's time to take a look at the most recent chart from Shadow Stats.

Money Supply

M1: M1 includes funds that are readily accessible for spending.
M2: Equals M1 + savings deposits, time deposits less than $100,000 and money market deposit accounts for individuals. M2 represents money and "close substitutes" for money.
M3: Equals M2 + large time deposits, institutional money-market funds, short-term repurchase agreements, along with other larger liquid assets.
(abbreviated definitions from Wikipedia)

And the only other available M3 U.S. chart that I am aware of is from Now and Futures and here is their short term graph:



And, their long term graph:



And, then, this interesting one goes back to 1915:



And, this from George Washington's blog post today sums things up. Pay special attention to what I have highlighted in red:

"Money Multipliers Have Collapsed Everywhere...Confidence Is Missing. I Don't See Any Way To Stabilise M3 In Such Circumstances"
from Washingtonblog

Former officials are often more honest than current ones, since they aren't under pressure to spread happy talk.

Former European Central Bank chief economist Otmar Issing recently said what current officials aren't addressing:

Nobody can be sure that we have a self-sustaining recovery. The challenges facing the ECB are tremendous. "Money multipliers have collapsed everywhere. What M3 is telling us is that confidence is missing. I don't see any way to stabilise M3 in such circumstances.

As Ambrose Evans-Pritchard notes:

Data from the European Central Bank shows that the M3 broad money supply has contracted over the last six months, confounding expectations that ultra-low interest rates would soon boost monetary growth. Loans to the private sector fell 0.3pc from a year earlier, the first such decline since the data started in 1983. The M3 figures include a wide range of bank accounts...

The picture is even starker in America where M3 has shrunk at an annual rate of 6.5pc over the last three months, a pace of contraction not seen since the 1930s. US bank loans have plummeted since May.

(While the Fed stopped reporting M3 in 2006, people are still tracking it).

How can M3 have collapsed when governments world-wide are printing money faster than IHOP can cook pancakes?

Well, professor Tim Congdon from International Monetary Research says:

A key reason for credit contraction is pressure on banks to raise their capital ratios... "The current drive to make banks less leveraged and safer is having the perverse consequence of destroying money balances," he said. "It strengthens the deflationary forces in the world economy. That increases the risks of a double-dip recession in 2010."

But isn't it good that governments are requiring banks to raise their capital rations?

Sure, but unless they force the banks to write off their bad debts, they will remain giant black holes, and will never be adequately capitalized. If they are never adequately capitalized, they will never release money out into the economy through loans and other economic activity which increases M3.

As just one example, remember that the nominative amount of outstanding derivatives dwarfs the size of the global economy. As another example, remember that several of the too big to fails have close to a trillion dollars each in toxic assets in off-book SIVs.

IMF chief Dominique Strauss-Kahn says that the history of financial crises shows that "speedy recovery" depends on "cleansing banks' balance sheets of toxic assets". "The message of all financial crises is that policy-makers' priority must be to stop the quantity of money falling and, ideally, to get it rising again," he said.

As many people have repeatedly written (including me), the world's governments must restore sound economic fundamentals - which includes forcing banks to write down their bad assets - instead of cranking up the printing presses and trying to paper over all of the problems.

When will the politicians listen? Will they wait until after the next huge market crash? When there are tent cities everywhere? After their governments default and they essentially lose sovereignty under "austerity measures" imposed by the IMF, World Bank or other agency?

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