In last month’s note from International Monetary Research Ltd. it was suggested that “money growth trends in the main countries are not far from perfection at present”. Not much has changed in the last few weeks to alter that assessment, although it has to be said that in most of the six jurisdictions (apart from India and perhaps China) the signs are of a slight acceleration in money growth. (In my view, the ideal annual rate of increase in money in the high-growth developing economies [i.e., China and India] lies in the 10% – 14% bracket, while the corresponding figure for the developed countries [i.e., the USA, the Eurozone, Japan and the UK] is between 2% and 5%, perhaps 6% at most.) Contrary to much tattle from the commentariat, aided and abetted by the Bank for International Settlements, “quantitative easing” in the Eurozone has been a clear and significant success. Macroeconomic conditions have improved markedly since late 2014, with Germany in particular contributing to the demand revival. (German broad money growth in recent months has been at very high annualised rates of over 7%. No wonder the Bundesbank is worried!)
As for most of 2016, the oil price is being seen in financial markets as a proxy for global demand conditions. With Brent spot moving through the $50-a-barrel level, confidence is growing that demand in the main economies should be sufficient to deliver at least trend growth (say, 3% – 3½%) in world output in 2016. In my view, nothing in the recent banking and monetary policy developments to justifies a radically different view about 2017. If anything, my surmise is that virtually zero interest rates will encourage higher money growth, but the worry remains the regulatory attack on the banks. It would, be nice if the delinquent economies of 2015 and 2016 (Russia, Brazil, Venezuela), where output has been falling, see political changes/transformations and a return to output growth in 2017 or 2018
Money trends in spring 2016 in the main countries/jurisdictions
What are the latest money growth trends in the main countries? And what is the message for global economic activity over the next year or so, and for inflation/deflation over the medium term thereafter? The table below summarizes the key numbers. For detail, it is recommended that the reader looks at the individual country comments below. Beneath the table I make an overall assessment, and later make some comments on recent banking and monetary developments in the USA and the UK.
In the 60 years to 2007 the main driver in today’s developed economies of growth in bank balance sheets, and hence of the bank deposits which constitute the bulk of the broadly-defined quantity of money, was new bank lending to the private sector. (When banks increase their loan portfolios, they add identical sums to both sides of their balance sheets. The new loan is a claim on the borrower and an extra asset, while the borrower has a new deposit which is an additional bank liability. The borrower spends the deposit, which is then money in another agent’s hands. The money can then circulate an indefinitely large number of times.) For most of this 60-year period financial systems were being liberalized, and ratios of capital to risk assets, and of cash and other liquid assets to total assets, were falling. That allowed the banks to make reasonable profits, even as loan margins were reduced. Meanwhile the growth of inter-bank lending enabled banks to enter new territories and to lend, even if they did not have branch networks to collect deposits.
These processes were checked by the drastic and abrupt change in bank regulations which came with and after the Lehman collapse in September 2008. The change in bank regulations – agreed at an international level under G20 auspices and implemented with technical help from the BIS – consisted in official demands for higher rates of both capital and cash/liquidity to assets, and for less dependence on wholesale inter-bank funding. In most jurisdictions the stock of bank lending to the private sector fell heavily for a period of some years from 2008.
The first country to break from this pattern was the USA which from 2013 has seen resumed growth in bank lending to the private sector. The pace of growth has been fairly consistently above 5% at an annual rate in recent quarters, somewhat ahead of the growth of broad money. The numbers differ from month to month, but it seems reasonable to me to project 5%-a-year growth in US broad money into 2017. Given the long-run relationship between real money and real output, steady growth in demand is to be expected while broad money growth is at this sort of figure, and it is difficult to see why marginal changes in Fed funds rate (of 25 basis points) should make much difference. (But a sharp tightening of bank regulation would matter much more.)
Signs are now emerging that the UK also is breaking out of the credit contraction/stagnation consequent on the Great Recession. In the three months to March the annualised growth rate of M4Lx (which means lending by monetary institutions, i.e., banks and building societies, excluding lending to and by intermediate other financial corporations) was an impressive 11.0%. Changes in tax – specifically, stamp duty on buy-to-let home purchases – were a special stimulatory influence here. Even so the number needs to be noticed.
If bank lending to the private sector continues to expand in the USA and the UK at rates in excess of 5% annualised, broad money growth will remain robust, the economies will recover further and central banks will need to “normalise” monetary policy. In other words, central bank rates will rise towards at least the 2% – 3% levels that have historically been regarded as routine…..Yes, the data need to be watched!