Wednesday, August 20, 2008

M3 Collapsing - This Should Scare You

Thanks goes to Ron for this. This caused my jaw to drop to the floor. I don't know if it will get any attention in the U.S. but this I think has profound implications. In my mind, I have been slowly moving towards the possibility that deflation may actually be the bigger problem not inflation over the next 24 months. This seems to add possible credence to that argument.

The US money supply has experienced the sharpest contraction in modern history, heightening the risk of a Wall Street crunch and a severe economic slowdown in coming months.

Data compiled by Lombard Street Research shows that the M3 ''broad money" aggregates fell by almost $50bn (£26.8bn) in July, the biggest one-month fall since modern records began in 1959.


The M3 data measures both cash and a wide range of bank instruments. It tends to provide an early warning signal of major shifts in the economy, although the US Federal Reserve took the controversial decision to stop reporting the statistics in 2005 on the grounds that the modern financial system had rendered the data obsolete.

Monetarists insist that shifts in M3 are a lead indicator of asset prices moves, typically six months or so ahead. If so, the latest collapse points to a grim autumn for Wall Street and for the American property market. As a rule of thumb, the data gives a one-year advance signal on economic growth, and a two-year signal on future inflation.

Growth is still positive at an annualized 2.1% which is down from 19% at the beginning of the year. I had no idea that the growth of the money supply was cliff diving in this manner. There are a few economist who believe that the money supply worldwide is set for a major contraction as central banks are not forced to pump billions in liquidity into their currency to support the U.S. trade deficit since the trade deficit is collapsing on the collapsing U.S. consumer. The theory goes that this will cause worldwide growth to grind to a screeching halt over the next 12 months.

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