Guest Post: Analyze This – The Fed Is Not Printing Enough Money!

Submitted by Alexander Gloy of Lighthouse Investment Management

Analyze This – The Fed Is Not Printing Enough Money!

Before you trash me in the comments, hear me out.

It started off with Ray Dalio’s “beautiful deleveraging”, which inspired this post.

Since the financial crisis, the Fed has increased its balance sheet from $900 billion to $2.9 trillion (red line in below chart). The difference is $2 trillion (or 13% of GDP).

When the asset side of the Fed’s balance sheet grows, so must liabilities. The Fed’s liabilities consist mostly of money in circulation. So we can assume that $2 trillion in additional money has been pumped into the economy.

Or has it?

When the Fed buys bonds, it does so from “Primary Dealers” (21 global financial institutions). They hand over the bonds and get a corresponding credit on their account with the Fed. The Primary Dealers might then purchase some other securities with that money (which then gets credited to another bank’s account with the Fed).

And that’s where the buck stops. Three quarters of the money “printed” never make it into the economy. They remain as excess reserves (reserves in excess of banks’ minimum reserve requirements, blue line) in accounts at the Fed.

Hence, of $2 trillion additional money, only $500 billion (yellow line) ended up outside the Fed. Why? Banks could use those reserves for lending, but there is no demand for additional loans (from customers with sufficient debt bearing capabilities).

So if the money can’t find its way out of the Fed – how is money created then? What is money?

To understand, we have to take the example of buying a car.

In the US, literally nobody purchases a car with money form a savings account. The ability to purchase a car depends on the availability of credit. No credit, no car.

Credit availability depends on issuance of debt. Take a look at debt outstanding by ABS (asset-backed securities) issuers over the last 30 years:

ABS Credit market debt outstanding fell from $4.5 trillion at the peak in April 2007 to $2 trillion. That’s a decline of $2.5 trillion. This is money not available for purchases. It dwarfs the $500 billion pumped into the economy by the Fed.

Debt is money. The amount of debt outstanding controls the amount of money available for purchases, and hence for the size of the economy.

In addition ABS issuers there is debt by households, non-financial and financial corporations as well as the government sector. By adding them up you get the big picture: the total credit market debt outstanding (TCMDO):

TCMDO is the blue line, on a log scale. The red line is the change in the annual growth rate of TCMDO, measured from the prior post-recession peak growth rate. You will notice that every recession over the last 60 years, with the exception of 1970, coincides with a slowing of the growth rate by at least 2%-points. The red triangle depicts the 1987 crash, which followed a period of serious slowing in the rate of TCMDO growth.

Up until 2009, total credit market debt outstanding has never declined. The ratio of TCMDO to GDP continued higher and higher, at accelerating speed:

Has debt-to-GDP, or the debt-bearing capability of the US economy, hit a ceiling?

Look at how little additional GDP (blue area, below) we obtained in comparison to ever increasing amounts of additional debt (red area):

The dotted black line is the marginal utility of debt (right-hand scale). Think of it like this: how much additional GDP do you get out of one dollar of additional debt (in %). In 1992, for example, you get $0.30 in additional GDP for every additional dollar of debt.

Problem: this marginal utility of debt has trended lower and lower over the years, and actually reached zero in 2009.

Meaning: you can add as much debt as you want, and it still won’t give you any additional GDP.

To repeat: no amount of additional debt seems to be able to get economic growth going again.

That is a dramatic revelation. We might have reached the maximum debt-bearing capability of the economy. If true, no growth is possible unless debt-to-GDP levels fell back to sustainable levels (in order to restart the debt cycle). This could take years.

At this point, the only way to reset the debt cycle is to get rid of debt.

Ray Dalio correctly describes the three options available:

1. Austerity: this would be painful and take quite some time (the Europeans are going down this path)

2. Restructuring: requires write-downs and losses for bond investors (which are not being allowed to happen for fear of systemic risk)

3. Printing money: Inflation. Better yet: hyper-inflation. You have to destroy the value of debt fast enough before debt service costs, due to rising interest rates, drive the government into insolvency.

In the US, (1) and (2) are not happening. That leaves (3).

As shown above, the amounts needed for the Fed to be able to create inflation are much, much higher than what we have seen so far. And it is not guaranteed to work. Destroying the trust in the value of a fiat currency is a dangerous experiment with mostly adverse consequences.

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No. 468: August Employment and Unemployment, M3

(SGS Subscription required) • A Move to Open-Ended Monetization of Treasuries?
• Payroll Jobs Down by 261,000, Household-Survey Employment Down by 86,000,
Since President Obama’s January 2009 Inauguration
• BLS Did Not Publish Actual July-to-August Unemployment Rate Change
• August Unemployment: 8.1% (U.3), 14.7% (U.6), 22.8% (
• M3 Annual Growth Notches Higher
• Jump in Reported Inflation Likely in Week Ahead

Calamity Economy Strikes Again, But Hope Is Back In Vogue

Wolf Richter

Hope was once again in vogue Thursday night in President Obama’s acceptance speech, after having gone the way of the green shoots. Hope has been swirling around the financial markets as well as the Fed keeps dangling QE3 out in front of them. And ECB President Mario Draghi injected a mega-dose of it with his bond-buying promise. It goosed the markets even more and powered them to multi-year highs.

Then came the jobs report. Only 96,000 non-farm jobs had been created—assuming that number is credible, despite the statistical cosmetic surgeries that are used to beautify it. Worse, June and July were revised lower by 41,000 jobs. The unemployment rate, which dropped from 8.3% to 8.1%, is just noise, and it remains unclear if it measures anything at all. But it will be THE number, the political number, that President Obama will focus on, and if all goes according to plan, it will obligingly drop to 7.9% before the election.

But the jobs report also contained the Employment-Population Ratio. By comparing the number of employed people to all people over sixteen, it outlines in unvarnished brutality the real employment situation. And it goes back to when dirt was young.

From 1948 through the mid-sixties, it bounced up and down between 55% and 57%. As women entered the workforce in greater numbers, it zigzagged to 64.7% in April 2000. Then it declined, with some ups and downs, to 62.9% by January 2008—and fell off a cliff. In December 2009, it hit bottom at 58.2%.

At the time, the Fed’s printing press had been running white-hot for a year. Congress was shoveling stimulus money in every direction. Federal deficits had ballooned beyond $1 trillion for the second year in a row. The new President had gotten his feet on the ground. Stock markets were rocking higher. But the employment-population ratio hit a low not seen since May 1983.

So then the magnificent jobs recovery started. And in August 2012, when our national debt blew through the $16 trillion mark, the employment-population ratio was … 58.3%.

Just about where it was in December 2009, when the unemployment rate hovered around 10%—and now it’s 8.1%. Miracles of statistical cosmetic surgery.

It is true, I suppose, that since December 2009, quite a few jobs have been created. I can see that in San Francisco and Silicon Valley. It’s just that the population has grown at about the same pace, and the job market as seen by the average job seeker hasn’t improved much.

The graph is also a visual depiction of what the Pew Research Center calls “The Lost Decade of the Middle Class,” during which “the middle class has shrunk in size” and has “fallen backward in income and wealth.”

It’s convenient to blame President Bush for the precipitous decline of the employment-population ratio under his watch, or President Obama for the continued decline and the long stall. But Presidents don’t have a lot of power in managing the economy—Congress and the Fed are the go-to places for complaints in that department.

Purposefully overshadowed by the jobs report was Intel. After having already dialed back hopes in July, it slashed its third-quarter revenue outlook by 7.7%. Ominously, it saw weakness in the enterprise segment and in emerging markets. On Wednesday, it was FedEx that had cut its outlook due to lower shipping volumes. Last week it was the International Air Transport Association that had gored hope: in July, air-freight was 3.2% lower worldwide than last year, and 3.6% lower for North American airlines. July was also the month when bellwether UPS issued disappointing quarterly results. It appears the “recovery” has run its course.

And that despite the gargantuan stimulus of a Federal deficit that has been over $1 trillion for five years in a row—thanks to our ever so effective Congress, abetted by the Fed. But occasionally, even slick politicians accidentally say something meaningful. This time it was German Chancellor Angela Merkel who’d wondered out loud if politicians can win elections “if we don’t always spend more than we take in.”

The answer, Mrs. Merkel, at least in the US, is no. And so we’re stuck with huge deficits and our calamity economy. But then there’s always the hope that the Fed will print us more moolah so that the financial markets will rock, despite the economy [read…. Monsters With Acronyms: From A Nation of Investors To A Nation of Fed Watchers].

The US is no longer the safest place to invest, as China and India rise to superpower status, says Don Coxe, a strategic advisor to the BMO Financial Group. And financial products based on mathematical formulas are “the equivalent of mixing sewer water with tap water and claiming that because there was more tap water than sewer water in the glass, it was safe to drink.” Read the pungent interview…. “Invest in What China Needs to Buy.”

The Zero Hedge Daily Round Up #122 – 07/09/2012

So you spent a long hard week at the office filing papers that have no meaning inherent meaning to your pointless life. You’re going to explode if you see another data sheet. The boss throws a pile of *bleh* on your desk; just before you’re about to leave. Standing outside your front window, you simply can’t take it anymore. The lies. The bullshit. Bernanke’s fucking beard… Well don’t worry! Bathe yourself with my smooth “menthol equivalent” voice, and let the comforting reality do the rest. Perhaps also be open minded about how you were fired from your job last week. This is The Zero Hedge Daily Round Up.

1. Why U.S. unemployment is a lie. 8.1% vs 11.7%. 2. Oil exports: China super power. 3. QE3 baby! 4. Construction workers non-constructive. 5. U.S. under-employed a farce. 6. Apple challenged by Asian patent suit. 7. 100% negative PMI. 8. NYSE is not reality. 9. CNBC: Your ass is mine.

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