Money Supply Growth Accelerates Into Year-End

So much for fighting inflation.

Despite the Fed’s announcement that quantitative easing tapering would begin this month, money supply growth appears to be accelerating.

In the latest period, M2 increased by $193 billion, eclipsing the $21 trillion mark. This represents a 0.91% month-on-month increase. That annualizes to 11.6%. This is above the six-month average indicating money supply growth is accelerating.

Last week, a technical price analysis showed gold and silver looking very bullish and ready to break out. A Brainard nomination could have pushed both metals through the next major resistance level. Unfortunately, the opposite occurred, Powell’s reappointment hammered both metals down through several support layers.

The magnitude of the move was both surprising and disappointing.

As the analysis below shows, the money supply has been growing at a record pace for nearly two years. This occurred under Powell. Brainard may have proven to be more dovish, but the data shows that Powell is still the most dovish Fed chair ever. Anyone who understands the impact of money supply growth should be buying and not selling precious metals.

Figure: 1 MoM M2 Change

The table below shows the change in M2 over different period lengths. All numbers have been annualized for consistency. As can be seen, the growth in M2 is accelerating compared to the recent 6 month period but is still below the 1 year and 3-year average growth rates.

Figure: 2 M2 Growth Rates

M2 used to be published weekly, so the chart below shows the noisier weekly data that is not seasonally adjusted by the Fed (the chart and table above are seasonally adjusted).

The most recent week available, ending Nov. 1, showed growth of $151B. The drawdowns this month were not as big as last month.

Figure: 3 WoW M2 Change

The “Wenzel” 13 Week Money Supply

The late Robert Wenzel of Economic Policy Journal used a modified calculation to track money supply. He used a trailing 13-week average growth rate annualized as defined in his book The Fed Flunks. He specifically used the weekly data that was not seasonally adjusted.

The objective of this analysis is to normalize the choppy data and get a better sense of the general money supply trend. In the table below, decelerating trends are in red and accelerating trends in green. Money supply growth has now been accelerating for 7 weeks in a row.

The money supply has exited its deceleration phase that was in place over the summer. This acceleration should help support the stock market and economy.

Figure: 4 WoW Trailing 13 week average supply growth

The plot below helps show the seasonality of the money supply and compare the current year to previous years. The range of the y axis has been capped at 25% so that the massive spike in 2020 up to 60%+ does not skew the graph.

As shown, the trend has moved past the annual summer dip that occurs every year except 2020. The red line looks to potentially mirror the path taken last year or even set a new growth rate record for this time of year.

It will be interesting to watch how the Fed tapering might affect the money supply growth rate. If the growth rate turns back down and begins decelerating it could prove very dangerous for the market. Especially considering the seasonal components of the market.

Figure: 5 Yearly 13 Week Overlay

Historical Perspective

The charts below are designed to put the current trends into a historical perspective. The orange bars represent annualized percentage change rather than a raw dollar amount. As can be seen, even the recent periods remain quite elevated compared to pre-Covid, driving total M2 above $21T in the most recent period.

Figure: 6 M2 with Growth Rate

Taking a historical look at the 13-week annualized average also shows the unprecedented growth seen over the past 18 months. This chart overlays the log return of the S&P. Mr. Wenzel proposed that large drops in money supply could be a sign of stock market pullbacks.

His theory, derived from Murray Rothbard, states that when the market experiences a shrinking growth rate of the money supply (or even negative) it can create liquidity issues in the stock market, leading to a sell-off. While not a perfect predictive tool, many of the dips in money supply precede market dips. Specifically the major dips in 2002 and 2008 from 10% down to 0%.

It could also be argued the pullback in 2018 could be due to an extended lead up of low Money Supply growth compared to previous years. More recently, the stock market has been moving sideways as money supply growth has fallen rapidly compared to the prior year. With the money supply growth picking up in recent weeks, the stock market was able to make new all-time highs.

Figure: 7 13 Week M2 Annualized and S&P 500

Finally, it is important to consider the massive liquidity buildup in the system. The Fed offers Reverse Repurchase Agreements (reverse repos). Essentially this is a tool that allows financial institutions to swap cash for instruments on the Fed balance sheet.

Current Reverse Repo hit a record $1.6T on Sept 30, dwarfing the old records of ~$500B in 2016-2017. The latest rate is 1.57T. The reverse repos typically top out at quarter-end before coming back down rapidly. However, unlike past periods, the recent pullbacks after quarter-end are much smaller in magnitude, staying elevated throughout the quarter. This shows the massive liquidity difference in the current environment.

Figure: 8 Fed Reverse Repurchase Agreements

What it means for Gold and Silver

Inflation is an expansion of the money supply that generally leads to higher prices. Therefore, gold and silver can be used as protective assets to protect against dollar devaluation (higher prices). Money Supply has been growing at alarming rates for years now, and absolutely exploded over the last 2 years. This has started to show up in the highly doctored CPI.

Considering this massive expansion seen in M2, it is impossible to believe the current price increases will be transitory.

Data Source: https://fred.stlouisfed.org/series/M2SL and also series WM2NS and RRPONTSYD. Historical data changes over time so numbers of future articles may not match exactly. M1 is not used because the calculation was recently changed and backdated to March 2020, distorting the graph.

Data Updated: Monthly on fourth Tuesday of the month on 3-week lag

Most recent data: Nov 01, 2021

Interactive charts and graphs can always be found on the Exploring Finance dashboard: https://exploringfinance.shinyapps.io/USDebt/