What’s of interest today.

Roughly the equivalent of half of the $8 trillion of QE injected by the U.S. Fed into the banking system is back sitting on deposit with the Fed, earning riskless interest, and doing nothing.

That means it’s doing nothing for the real economy and main street.

Add to that a skinned down ~$980 billion bipartisan fiscal spending proposal (over 10 years) in the U.S. instead of a $3 trillion bill, and you realise there’s $6 trillion that’s not going to ‘slosh around’ the real economy.

It’s either frozen, or won’t actually happen, or might happen over 10 years.

But it’s been factored into markets.

This makes me wonder where the long term sticky consumer price inflation everyone is talking about is going to come from - unless of course the banks start lending again and main street (not wall street) starts borrowing again.

Here’s a couple of thoughts and charts to pass the time on lockdown Wednesday.

The velocity of money.

Using the U.S. as the best example (because it prints the world’s reserve currency) one of the many charts I look at to judge the impact of money flows on the real U.S. economy is the velocity of money.

That is, the number of times a dollar is spent on goods and services in a specified time period.

It measures how productive your money supply is and how hot main street is. It can help to predict inflation, rather than just looking at breakeven inflation rates, which today are controlled by the Fed.

M2 velocity uses M1 (money notes, coins, travellers cheques, deposits) plus small cash deposits of less than $100k and money market funds (i.e., readies).

So, if the liquidity injection courtesy of QE is stimulatory, we should be able to see it expressed in M2 velocity, right?

Wrong. In the U.S., money velocity is the lowest it has ever been, other than for in pandemic Q2 last year.

It’s literally halved since the tech wreck. And since then there’s been $8 trillion of QE plus a tonne of helicopter welfare money dropped down chimney holes by governments around the world.

Why?

• Massive increase in the monetary base to around $6 trillion? A larger denominator/smaller numerator?

• e-commerce and the Amazon effect on consumer good prices, with less being spent on like for like items?

• Recent lockdowns, supply chain bottlenecks, ageing population, retirees who are missing out on bank/bond yields so they’re not spending, etc?

Sure, but part of the reason velocity of money is still low is that roughly the equivalent of half of the $8 trillion injected by the Fed via QE into the banking system is sitting on deposit with the Fed, and earning riskless interest. It has not been fractionalised and on-lent. The central banking system is no longer an effective policy transfer mechanism.

And a lot of the money that did escape the banking system has been borrowed by large corporations and diverted into buy-backs and dividends for shareholders - and other wall street uses.

It’s even more bizarre because all reserve requirements were removed as part of the Fed’s pandemic response. The Fed said lend, lend lend!

Frozen, hoarded, chopped - but still factored into equity markets. Yes, well……

So, we have a frozen $3.9 trillion……………………doing nothing in cold storage. And a fiscal spending bill chopped down by 2/3rd.

And the part about QE that doesn’t work for main street is the banking system’s optionality to do nothing with it, instead of on-lending the extra liquidity.

There’s safety for banks behind the wall.

Add to that a pandemic, loss of jobs and shuttering of businesses in some industries, and you also have some strong reasons to suggest a lower propensity to borrow and build.

To me, this suggests that the sporadic inflation we are seeing now in parts of the world is not due to gains in productivity and real demand - given the charts point to disinflation - but rather, it’s more to do with transient effects from COVID/lockdowns and broken supply chains.

Meanwhile, on the other side of the wall, QE is alive and well and creating massive wealth for wall street and its customers.

Maybe Biden can unfreeze the Fiscal taps with a few more blows of the hammer, if the Republicans let him.

In the meantime, I’ll still see you in the market, no doubt about that.

Mike.