M3, where art thou?
With quantitative easing under way, money supply is going to become an increasingly important gauge.
Morgan Stanley notes the measure will be a key indicator of when ‘QE’ actually starts to kick in. Before adopting QE, all excess reserves created by the Fed were being hoarded by banks. Rather than increasing, the so-called money multiplier (the link between the Fed’s balance sheet and the money supply) had actually plummeted. The only other time this has happened is during the Great Depression, say Morgan Stanley. But there is reason to be optimistic. They write:
…there now appear to be some tentative signs of a turnaround. In the latest weekly data reported by the Fed, M1 jumped a whopping US$44 billion. And this follows on the heels of a US$33 billion jump in the prior week. To be sure, the monetary aggregates can be quite volatile, and special factors such as the recent hike in the deposit insurance cap can lead to short-term distortions, but going forward we will be watching the growth in the money supply in order to gauge the effectiveness of QE.
Worth noting is this chart which Morgan Stanley says shows QE is off to a stellar start in the US, the UK and the ECB (much stronger and faster than in Japan).
Of course with all eyes on money supply it’s worth remembering the Fed abolished its measure of M3 on March 23, 2006 - saying it was no longer relevant. The statement read:
M3 does not appear to convey any additional information about economic activity that is not already embodied in M2 and has not played a role in the monetary policy process for many years. Consequently, the Board judged that the costs of collecting the underlying data and publishing M3 outweigh the benefits.
This didn’t go down well with everybody, one of main critics being congressman Ron Paul. He stated before congress his belief M3 was actually the best description of how quickly the Fed was creating new money and credit. We quote:
Common sense tells us that a government central bank creating new money out of thin air depreciates the value of each dollar in circulation.
Some other institutions agreed, among them Capital Economics and Lombard Street Research. They continue to track the measure according to the Fed’s old models as best they can....MORE
Chartmeisters have a general rule "The longer the base, the bigger the move". I have to be careful here, I am predisposed to be short but I've gotta say, this chart is looking more and more like a pop to the upside.