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Money Supply Growth Surges Anew

Nonborrowed Reserves Plummet Further

SGS Will Continue Abandoned Government Economic Indicators Service

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PLEASE NOTE: The SGS-Ongoing M3 annual growth rates have been updated for full-month reporting of January and for the latest Federal Reserve revisions. The new data have been posted to the Alternate Data Series tab at www.shadowtats.com. Also, please see the ANNOUNCEMENT below as to the SGS continuation of the Department of Commerce’s Economic Indicators Service.
– Best wishes to all, John Williams

Financial Crises Intensify

With New York Governor Eliot Spitzer telling bond insurers that they have less than a week to find new capital, following a failed municipal bond auction, the bond insurer ratings crisis is coming to a head. "Bonds sold by U.S. municipal borrowers with rates set through periodic auctions failed to attract enough buyers as banks including Goldman Sachs Group Inc., and Citicorp Inc. that run the bidding won’t commit their own capital to the debt [Bloomberg, Feb. 13]."

My betting remains that a private investor will enter the fray and save the day, with covert backing of the Fed. Federal Reserve Chairman Ben Bernanke cannot afford to have any part of the system fail, and, accordingly will create whatever cash is needed to keep the system afloat. If not resolved, this circumstance offers significant systemic risk.

Directly tied to the above are the solvency problems within the banking system. Bank solvency has been papered over by the Fed with its Term Auction Facility (TAF), but the underlying problems do not seem to be improving.

Nonborrowed Reserves in Freefall. Nonborrowed reserves (see January SGS newsletter) have moved sharply into negative territory in the latest reporting, with the daily average for the two weeks ended February 13th at minus $19.6 billion (not seasonally adjusted). While total reserves of U.S. depository institutions are stable and at normal levels, and the banking system appears functional, lending at the Fed’s discount window through the new term auction facility (TAF) has risen to a record $60 billion. That lending dwarfs total reserves of a seasonally-adjusted $42.1 ($40.9 unadjusted) billion and suggests that the banking system remains unstable in its still-unfolding solvency/liquidity crisis. If the crisis were over, TAF lending would be at zero — not exploding by $20 billion per month — and banks again would be willing to lend to each other in the overnight markets.

A comment by the Federal Reserve Board (February 7, 2008) on the "Recent Declines in Nonborrowed Reserves," goes through the mechanics and arithmetic of why nonborrowed reserves are negative. It does not, however, address the disquieting implications for the financial system of the soaring TAF lending. Following is the Fed’s comment:

"The H.3 statistical release indicates that nonborrowed reserves of depository institutions have declined substantially since mid-December to a level that is now negative. This development reflects the provision of a large volume of reserves through the Term Auction Facility (TAF) and has no adverse implications for the availability of reserves to the banking system.

"By definition, nonborrowed reserves are equal to total reserves minus borrowed reserves. Borrowed reserves are equal to credit extended through the Federal Reserve’s regular discount window programs as well as credit extended through the TAF. To maintain a level of total reserves consistent with the Federal Open Market Committee’s target federal funds rate, increases in borrowed reserves must generally be met by a commensurate decrease in nonborrowed reserves, which is accomplished through a reduction in the Federal Reserve’s holdings of securities and other assets. The negative level of nonborrowed reserves is an arithmetic result of the fact that TAF borrowings are larger than total reserves."

In his Senate testimony on February 14th, however, Mr. Bernanke touched upon some of the underlying bank solvency issues. Cutting through the happy Fed-speak, the problems that led to setting up the TAF and that continue to justify the expanding TAF lending are tied to questions of bank solvency (a.k.a. balance sheet pressures/capacity and liquidity):

"The banking system has been highly profitable in recent years and entered this episode [crisis] with strong capital positions. Some institutions have responded to their recent losses by raising additional capital.  Notwithstanding these positive factors, the unexpected losses and the increased pressure on their balance sheets have prompted banks to become protective of their liquidity and balance sheet capacity and, thus, to become less willing to provide funding to other market participants, including other banks."

Money Supply Growth on the Rise. In tandem with surging TAF lending, late-January and early-February reporting, and benchmark revisions to large time deposits, have upped the estimates on annual growth for recent months for the SGS-Ongoing M3 series. Respective annual growth estimates have revised upward to 15.2% from 15.0% in October 2007, to 15.6% from 15.4% in November, to 15.1% from 15.0% in December, and to 15.5% from 15.2% in January. If the reporting for the first four-to-six days of February held for the month, annual growth would come in around 16%. Accordingly there is some risk for a sharp upside jump in the February M3 annual growth rate, possibly within striking distance of an all-time high.

Economic Data Games. The Department of Commerce (DOC) has decided to shut down its popular economic indicators site "due to budgetary constraints." No data series are being discontinued, but Uncle Sam is making it more difficult for the public to access the data easily, at the same time that a politically uncomfortable recessionary inflation is starting to surface in official reporting. The budgetary reason given for the action appears to be nonsense. As announced below, Shadow Government Statistics will continue to provide the same (and eventually an expanded) link service for no charge to the general public, and we sure do not have available to us the resources available to the Department of Commerce.   

Trade Deficit Likely to Boost 4th Quarter GDP. The large understatement of December’s seasonally-adjusted trade deficit at $58.8 billion, down from $63.1 billion in November, was enough by itself to justify a politically-convenient upside revision to fourth-quarter GDP growth, where the "preliminary" GDP estimate revision is due at month-end. The drop also was enough to make the 2007 annual shortfall less than 2005’s, and, in conjunction with the severe understatement of the deficit since late in 2006, it was enough for a sharp improvement against 2006’s annual trade shortfall. The reported numbers are not so rosy net of the guesstimated surplus reported for the services sector. A full analysis of these increasingly-rigged data will follow in the February SGS newsletter.

Industrial Production Notches Higher. Seasonally-adjusted January industrial production notched higher by 0.1% (0.2% net of revisions), following a revised gain of 0.1% (previously unchanged) in December. January annual growth rose 2.2%, up from 1.7% in December. Despite the reasonably positive report, the series will go through a benchmark revision on March 28th, at which time some current economic weakness likely will get shifted backwards in history and could provide a starting point for a formal recession call.

Week Ahead. Expectations are for roughly a 0.3% monthly increase in the seasonally-adjusted January CPI-U (due Wednesday, February 20th). Such would move annual CPI inflation from 4.1% to about 4.2%, depending on rounding. Political and Fed needs would tend to favor consensus reporting or below, but underlying fundamentals and the retail sales report suggest some upside risk versus the consensus. Also on Wednesday, January housing starts likely will continue to reflect a deepening recession.

Barring any significant surprises or unusual developments, the next Flash Update is planned for the January CPI release on February 20th. Further details on all the news will follow in the February newsletter.

ANNOUNCEMENT

Economic Indicators Continued by SGS. The Department of Commerce (DOC) has decided to discontinue its economic indicators service economicindicators.gov (effective March 1st) "due to budgetary constraints." Shadow Government Statistics is pleased to announce that it will provide — at no charge to the public — a continuation of the basic link service heretofore provided by the DOC’s Economics and Statistics Administration.

The existing government service provides links to the Web pages and recent releases of the Bureau of Economic Analysis and the U.S. Census Bureau. We eventually plan to extend the service to other government or quasi-government reporting agencies, including the Bureau of Labor Statistics, the U.S. Treasury and the Federal Reserve, as well as to provide links to other major economic data providers. We plan for the new service to be operational by Wednesday, February 20, 2008, and its activation will be so advised by e-mail.

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The February SGS is targeted for posting around March 3rd. An e-mail advice will be made of its and intervening Flash Update/Alert postings.