Back in June, we wrote an article titled "On The Verge Of A Historic Inversion In Shadow Banking" in which we showed that for the first time since December 1995, the total "shadow liabilities" in the United States - the deposit-free funding instruments that serve as credit to those unregulated institutions that are financial banks in all but name (i.e., they perform maturity, credit and liquidity transformations) - were on the verge of being once more eclipsed by traditional bank funding liabilities. As of Thursday, this inversion is now a fact, with Shadow Bank liabilities representing less in notional than traditional liabilities.
In other words, in Q3 total shadow liabilities, using the Zoltan Poszar definition, and excluding hedge fund repo-funded, collateral-chain explicit leverage, declined to $14.8 trillion, a drop of $104 billion in the quarter. When one considers that this is a decline of $6.2 trillion since the all time peak of $21 trillion in Q1 2008, it becomes immediately obvious what the true source of deleveraging in the modern financial system is, and why the Fed continues to have no choice but to offset the shadow deleveraging by injecting new Flow via traditional pathways, i.e. engaging in virtually endless QE.
What is more important, the ongoing deleveraging in shadow banking, now in its 18th consecutive quarter, dwarfs any deleveraging that may have happened in the financial non-corporate sector, or even in the household sector (credit cards, net of the surge in student and car loans of course) and is the biggest flow drain in the fungible credit market system in which the only real source of new credit continues to be either the Fed (via QE following repo transformations courtesy of the custodial banks), or the Treasury of course,via direct government-guaranteed loans.
And while the chart that is the topic of this post is the following, which shows that the red line - traditional bank liabilities - have once again overtaken shadow...
... The most important chart of the modern monetary system, and hence the one which you will see nowhere else, continues to be the one below, showing that on a blended notional basis, total traditional and shadow liabilities have not budged at all in the last three years despite the massive injections from the Fed!
Translated, the Fed continues to fight a losing battle, in which it has no choice but to offset any ongoing deleveraging - be it through maturities, prepays, or counterparty failure, or just simple lack of demand for shadow funding conduits - in the shadow banking system.
And a notable tangent continues to be that between the peak of the credit bubble and the most recent data, there continues to be a $3.7 trillion credit hole on a consolidated financial credit basis, which is precisely the reason for the ongoing Economic Depression from a simple Austrian money supply perspective, why the Fed and the government are forced to misrepresent the true state of the economy (far worse than current economic "data" represent), and why should the Fed ever halt its monthly flow into markets which is now $85 billion each month, there will be a dramatic stock market crash... and Bernanke knows it.
However, the bigger problem as more and more deposit-based liabilities take place of deposit-free shadow equivalents, is that the systemic propensity for runaway inflation rises with every quarter in which Fed reserve conceived deposits -prone to spilling over into the broader market based on the irrationality of individual psychology -serve to offset delevering shadow conduits. As explained in July, shadow banking was nothing more than a massive inflation buffer whose historic build up allowed the Fed to inject trillions without this money leading to a collapse in the USD value, now that it is actively deleveraging. But with every "shadow dollar" that is taken out of the system, said buffer gets smaller and smaller...
Finally, those curious which components in the shadow banking system were responsible for the most recent deleveraging in Q3, the chart below sums it up:
And the shadow deleveraging on a consolidated quarterly basis in all its glory:
To summarize, the Q3 change in shadow liabilities:
- GSE & Agency Mortgage Pools: ($16.2) billion
- Asset Backed Securities issuers: (39.3) billion
- Funding Corporations: ($49.5) billion
- Repos: ($33) billion
- Open Market Paper ($4.8) billion
- Money Markets: +$39 billion: the only net addition in Q3
How was this drop offset? Simple - by a $177 billion increase in the liabilities of U.S.-Chartered Depository Institutions, which rose to a record $12.224 trillion in Q3, primarily due to a rise of $140 billion in Small time and Saving Deposits, a topic discussed previously here.
In summary: the shadow banking collapse continues, and is offset via the Fed "excess reserve" injection pathway entering M2 thanks to the ~4.5x M1 to M2 conversion pathway. Remember Fed's excess reserves are a component of M1: these then get "fractionally reserved" into M2 as per the multiplier shown below:
To summarize: all hope abandon ye who think the Fed will stop monetizing debt, and thus injecting flow, at some point in the next several years.
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For more on the topic of Shadow Banking, we suggest the following reading material:
- Will The Record Plunge In Shadow Liabilities Impair Current Account "Shadow" Deficit Funding And Guarantee A Double Dip? - July 2010
- The $30 Trillion "Problem" At The Heart Of Shadow Banking - A Teaser - December 2011
- Here Is Why The Fed Will Have To Do At Least Another $3.6 Trillion In Quantitative Easing - March 2012
- On The Verge Of A Historic Inversion In Shadow Banking - June 2012
- Fed's John Williams Opens Mouth, Proves He Has No Clue About Modern Money Creation - July 2012
- The Fed Has Another $3.9 Trillion In QE To Go (At Least) - September 2012
- Global Shadow Banking System Rises To $67 Trillion, Just Shy Of 100% Of Global GDP - November 2012