Let’s start with another interesting fact from the commercial banking industry: 92 percent of the banks in the country hold 10 percent of the total banking assets in the country as of March 31, 2011 (FDIC banking statistics) but this total ($1,181.0 billion in total assets) is only 60% of the cash assets in the whole banking system on August 3, 2011 (Federal Reserve H.8 release) and only72 percent of the Reserves at Federal Reserve Banks on August 3, 2011 (Federal Reserve H.4.1 release) and only 74 percent of the Excess Reserves in the banking system for the two-week average ending August 10, 2011 (Federal Reserve H.3 release).
In other words, the total assets residing in 92 percent of the commercial banks in the United States is substantially less than the amount of excess reserves pumped into the banking system by the Federal Reserve since August 2008. (link)
Now let’s look at the recent behavior of the money stock measures. Both measures of the money stock (M1 and M2) experienced accelerating rates of growth over the past year, with the acceleration increasing over the past several months.
The M1 money stock measure was growing at a year-over-year rate of 16.1 percent in July, up from 10.0 percent in January 2011 and 5.4 percent in the summer of 2010. The M2 money stock measure is growing year-over-year in July 2011 at 8.3 percent, up from 4.3 percent in January and around 2.5 percent in the summer of 2010.
Is this a sign that the Fed’s quantitative easing (QE2) is working or is it a result of something else going on in the economy?
Generally when the money stock measures are growing, commercial bank lending is fueling the growth. Banks loans are put into demand deposits to spend and this spending spurs on the economy.
It is hard to find much loan growth in the commercial banking sector at this time. Thus, it is hard to conclude that the increase in the growth rates of the two money stock measures results from the Fed’s injection of reserves into the banking system.
The path that I have been following over the past two years is that the extremely weak condition of the economy and the extremely low interest rates are causing a “dis-intermediation” of sorts as people move their funds from interest bearing assets into transaction-related accounts to either be able to pay for necessities because cash flows are low due to unemployment or other situations of financial distress, or, because interest rates are so low on savings or money market accounts that it is doesn’t pay for wealth-holders to keep money in these latter types of accounts.
What we see is that demand deposit accounts at commercial banks have exploded. In July, the year-over-year rate of growth of this component of the money stock has increased dramatically to over 37.0 percent, up from just 21.0 percent in March of this year. Other checkable deposits at depository institutions have also increased by not at such a rapid pace.
Along with this we still see substantial drops in “savings” categories. Small-denomination time deposits have fallen at a 20.0 percent rate, year-over-year. Retail money funds have dropped by over 6.0 percent, year-over-year, and institutional money funds are still declining at more than a 4.0 percent, year-over-year rate.
Funds are still moving from (formerly) interest earning accounts to transaction-type accounts.
One further indication that some of this is due to “economic stress” is that the amount of currency in circulation is increasing. In July, currency in circulation was more than 9.0 percent higher than it was a year ago. This is up from around 7.0 percent earlier this year.
My basic point here is that although the growth rate of both money stock measures are increasing, that this information does not indicate that Federal Reserve monetary policy is working or that economic growth will benefit from this expansion.
The money stock measures are experiencing increasing rates of growth due to the fact that the economy is extremely weak and that interest rates are extremely low. People…and businesses…are just re-allocating their funds so that their money is easier to get for spending purposes (distress) or that other assets are earning so little it doesn’t pay to keep funds in those accounts…or both.
In my view, there is no cause for hope for an economic recovery in the current monetary statistics.