Monetary Base

In the past two days, both UBS Andy Lees, Dennis Gartman (of the world renowned Gartman ETF which is just off its all time lows), and now even Art Cashin, have been stumped by the "dramatic" increase in the M2 and the Adjusted Monetary Base. To wit, per Art Cashin's take of Andy Lees' recent note: "US M2 money supply surged by USD88.7bn for a 2 week gain of USD165.6bn without any compensatory rise in the Fed’s balance sheet. Andy goes on to ponder whether this has been conscientious attempt by the government to beef up as QE2 ends. There is some evidence but not fully conclusive." Actually no, there is no evidence, and unlike many other instances of shadiness involving the Fed, this is not one of them.

The Federal Reserve, just like Atlas, continues carrying the weight of if not the world, then certainly the stock market on its shoulders. As expected, both the Fed's balance sheet, and its economic equivalent, the Adjusted Monetary Base, just hit fresh all time records. This will continue for 4 more weeks at which point QE2 will end and what happens next will depend entirely on what side of the bed Bernanke wakes on.

...is up by $51 billion in two weeks. But, once again, before people freak out that this is some crazy scheme to flood the market with money (nothing crazy about that scheme: it has been going on for 2 years), keep in mind: this is merely the delayed catch up of the SFP program unwind and the ongoing increase in Treasury holdings by the Federal Reserve Capital, ULC. Nonetheless, it is disturbing that the gradual phase out in the build up of the Adjusted Monetary Base, exclusively due to the rise in Excess Bank Reserves, is still proceeding at a 100%+ CAGR.

Something very notable happened today receiving exactly zero recognition by the mainstream press: the process of winding down the Supplementary Financing Program ended, with either zero (assuming the entire $25 billion in 56 Day CMB matured without rolling) or $5 billion (as per the Treasury's disclosure), remaining under the SFP. This means that the entire $200 billion buffer that had previously afforded the Treasury breathing room with the looming debt ceiling, is now gone, and next steps include such drastic measures as a partial or complete government shutdown, as no incremental funding will be available to fund the daily deficit. As a reminder, as of today the Treasury had a total of $12.24 trillion in debt, just $70 billion below the ceiling, and $14.172 of debt subject to the limit. Which is not good because as per today's refunding announcement there is $99 billion in 2, 5 and & 7 year debt coming down the line next week. Which means that while the formal debt ceiling will not be breached, the total amount of debt including the fluff not counted, will surpass $12.4 trillion by next Friday. In the meantime, the SFP unwind continues to have a major impact on the adjusted monetary base. As we have discussed in the past, excess reserves continue to go parabolic, purely as a function of the SFP unwind and ongoing QE2, which in turn is impacting the adjusted monetary base, which is now half a trillion greater year to date. As we predicted previously, excess reserves will hit $1.7 trillion by the summer. These rose by $72 billion in the past week to approximately $1.4 trillion, which means that by the time QE2 is over, the Adjusted Monetary Base will hit $2.7 trillion, a $750 billion increase in 6 months. And if QE3 gets the green light, all bets are off. And once this surging monetary base is converted from excess reserves to currency in circulation, that is the moment when Weimar comes a-knockin'.

Shortly Zero Hedge will present our quarterly analysis of the liabilities held by the shadow banking system. It's quite a doozy, and cements our belief that whether immediately following or shortly after June 30 (a day, a week, a month), the Fed will have no choice but to proceed with further monetization of public debt issuance, as the private sector debt retrenchment continues at truly alarming levels, leaving just one source of debt money available - the US central bank itself. And with the Fed's desire to stimulate inflationary expectations, it will be forced to do what it is doing precisely as shown below. In the last fortnight period, the Adjusted Monetary Base increased by the second biggest amount in the past year, or $80 billion, following the previous increase of $142 billion as of February 23, or a $222 billion increase in a month. This is due to a surge in excess reserves following the winddown of the SFP program which in the past week increased by $82.6 billion (full Fed Balance sheet breakdown to follow). We continue to expect that Excess Reserves will hit $1.7 trillion by July, or over $300 billion higher from the current level of $1.380 trillion. In the meantime, observe what happens when the Fed goes hog wild with inflationary expectations. A few more days like today in the S&P, and expect Jon Hilsenrath to start the QE3 leaks. And never forget - to the Fed, the Economy and the Russell 2000 are equivalent.

Just in case there was any confusion in the interpretation of the M2 chart, here is the latest just released Adjusted Monetary Base.

Another week in which the M2 jumped to a fresh all time high, increasing by $30 billion W/W to just under $8.7 trillion. This was only the fourth largest weekly jump in this broad money aggregate in 2010, with the prior biggest ones clustered just around the time of the Greek "out of court" reorganization and the flash crash in May. This was also the 8th sequential increase in the M2 in a row. Oddly enough this occurred even as the Monetary Base (NSA) declined by $11 billion to $1.983 trillion. Currently, the M2-MB ratio stands at 4.4x, close to its all time lows, with the recent decline purely a function of the modest contraction in the Fed's balance sheet as MBS had been rolling off for the past 4 months. With QE Lite in play, expect the Fed's Balance sheet to remain flat, which will likely mean that the ratio of the Fed's asset to the Monetary Base will remain more or less unchanged at its elevated ratio of 1.15x (with a tendency toward declining), compared to the historical average of around 1.00. Note the (as expected) inverse relationship between the M2-MB ratio and the total size of the Fed balance sheet, as the monetary base has exploded courtesy of excess reserves, without this number actually hitting M2. Is the recent leakage in M2 higher, coupled with a contraction in MB the critical step that all the inflationists have been dreading (yet at the same time expecting)?

The Federal Reserve's balance sheet declined by $15 billion to $2,183 billion from the prior week, after the Fed presumably offloaded $2.7 billion in MBS: this is the first time since QE started that MBS holdings have declined. If anyone can tell us just who the idiots are who bought MBS from the Fed (and at what price), and who the even greater idiots are who are supposed to believe this, please send us an email.

The Fed's monetary base has exploded, and is now at precisely $1,997 billion: an all time high. Even as the Fed's balance sheet declined this week courtesy of collapsing Commercial Paper holdings by the Fed, which were at just $15.6 billion, and Fed assets "declined" to $2,147 billion. The ratio of Fed assets to Monetary Base is now down to the lowest ratio since the Lehman collapse, at 1.08x, after historically hanging around 1.0x, as the chart attached demonstrates.