Monetization Trumps Fundamentals

Authord by Chris Hamilton via Econimica blog,

When I'm wrong, it's best to just admit it.  I thought the market would be tanking soon into another '00 or '09 like collapse based on what I anticipated banks would be doing with their excess reserves.  I believed the process of the Fed reducing its balance sheet coupled with rising interest paid on excess reserves (IOER) would entice the largest banks to keep their nearly two trillion of reserves fallow and instead take the free billions in interest for taking no risk and making no loans...and thus the flow of monetization would be shut off or put into reverse.

Apparently, I was wrong.  In fact, banks continue to draw down their excess reserves and are doing so significantly faster than the Federal Reserve raises IOER's or reduces its balance sheet.  The discrepancy is the ongoing flow of hot money entering the financial system looking for a home, almost surely with significant leverage.

The Details

Below, the Federal Reserve balance sheet versus bank excess reserves withheld at the Federal Reserve plus the interest rate paid to banks on those excess reserves.  Excess reserves peaked in August of 2014 and have been falling since, declining by about $800 billion so far versus a reduction in the Fed's balance sheet of about $140 billion (from peak).

What you may notice is the large discrepancy between the dollars conjured by the Federal Reserve to buy assets from the banks versus the bank excess reserves held at the Federal Reserve...that yellow line is about a $1.6 trillion discrepancy called monetization.  What is apparent is that the impact of QE entering the economy has been ongoing and essentially continuous since QE ended 3 years ago with the banks acting as a sponge slowing releasing the cash (likely with significant leverage...easily turning $1.6 trillion into $3 trillion to $15 trillion in purchasing power).

Making a quick detour, the chart below shows the strong correlation of total disposable personal income (all annual personal income from all sources that remains after all taxation is paid) and all publicly traded US equity (Wilshire 5000).  They are essentially equivalent from '71 through '95.  However, from '95 onward, large fluctuations in equity prices ensue while total DPI continues to plod along as before.

Fast forward to 1995 and the '00 and '08 bubbles rise and then return to or fall through the support of total DPI.  But in '09, QE is initiated and the market follows the timing and quantity of monetization rather than DPI or QE itself.  (FYR- The chart has an added red dashed line showing annual 7.5% returns so necessary to meet redemptions).

Pulling in a little tighter from '08 through '18, below.  The correlation between the timing and quantity of monetization entering the financial system versus the performance of the Wilshire 5000 seems to have far greater impact than the far slower growing DPI or the size of the Fed's balance sheet.  Each disruption in the flow of new monetization was subsequently followed by a "market" correction and subsequent re-start to the flow of monetization.

I had thought banks would cease withdrawing their excess reserves...but in fact they are withdrawing those reserves even faster.  So the takeaways should be; (1) financial valuations are way out of whack with their long term relationship with DPI but (2) as long as banks are more interested in employing excess reserves than taking the rising interest paid on excess reserves...and continue to pull their reserves significantly faster than the Fed reduces its balance sheet, then financial assets are likely to continue rising as the hot money looks for a home.  Of course, further rate hikes, accelerations in reducing the balance sheet, or lemming like risk aversion...and this trend could turn on a dime.

So long as monetization continues, the impacts will be enriching the minority with significantly higher asset valuations and rental income while impoverishing the vast majority as costs rise significantly faster than most incomes.  The flipside of zero or negative monetization appears to be a fall back to the support of the real economy represented by disposable personal income (about 50% from here...but of course, a repeat of '29 with assets falling up to 90% is easily in the realm). 

The options appear to be a slow and painful cancer or a sudden crash... pick your poison well but know you won't recover from the cancer... but you may get better after the crash.


FactDog DingleBarryObummer Sun, 05/13/2018 - 12:28 Permalink

"We the People" are screwed.

The stock market will not ever go down until "all" the shares are owned by a small group of people/institutions. (the eight families that control the FED)

The interest rate increase discussion is only intended to spook individual investors into selling the last of their ownership. (Do the homework and see who owns the institutions). 

Ten years from now the wealth transfer will be complete and at that time the last shares (of holdouts)  will be made valueless by privatization and the lack of liquidity. 

The future looks bleak and since Congress is Isreali occupied territory; there will be no help on the way.



In reply to by DingleBarryObummer

DownWithYogaPants JRobby Sun, 05/13/2018 - 13:14 Permalink

The Fed is controlled by the entities in the City of London.  The Federal Reserve is a wholly owned subsidiary of B.O.E. types.  The families in the USA that own stock in the Fed are cat's paws for show.   If they were truly being fair about it FedRes stock would be PERMANENTLY on the NYSE with splits to insure a single share price was always able to be purchased by a common man. Say around 100 dollars.  

In reply to by JRobby

Herodotus Sun, 05/13/2018 - 12:16 Permalink

Perhaps the author needs to look at world central bank balance sheet aggregates.  For instance, what is the combined balance sheet of Fed, BOE, ECB, BOJ, and SNB?  Is this figure going up or down?

Wannabe_Oracle Herodotus Sun, 05/13/2018 - 12:23 Permalink

"Global central banks now have $21.7 trillion in assets, and that figure is heading to $24 trillion by next September, according to my calculations. Where in this scenario is there any sort of “normal”? The combined actions of the world’s central banks have never happened before, so how do you characterize “normal” in that context? You can’t."…



In reply to by Herodotus

Clowns on Acid Sun, 05/13/2018 - 12:24 Permalink

Until the Swiss Nat'l Bank starts selling equities for Bonds or other assets....Stalingrad & Poorsky Index will rise, albeit with "corrections" of 2 to 5% just so sheeple still beleieve in the Stawk Mahket / free market.

Wild tree Sun, 05/13/2018 - 13:52 Permalink

This calls for MOAR WAR. Couple of million dead will get our one track minds off this annoying money subject, while they continue to loot. Don't look behind the curtains, trust us, just us, pimple pus.

When it pops, and it will pop, no one couldhve seen it coming dontcha know....... No worries, the New World Order headed up by Satan and his minions will save us. No,,,,Really,,, can't you hear his hoof beats?

Balance-Sheet Sun, 05/13/2018 - 14:15 Permalink

Excess reserves can be taxed if necessary but they should move out of the Fed and back into the economy in the form of new lending if there are well rated clients or USG guaranteed clients applying for loans.  What the Fed should not do is sell off the Balance-Sheet assets as the banks are supplying more newly created money as the fed withdraws it from the other end of the funnel. With the level of proposed USG credit requirements the Fed should be accumulating more assets of better quality (UST) for imminently needed future operations. Japan is the model looking forward a generation as the Labor Force Participation Rate falls ever lower and adults permanently out of the labor force rapidly climbs. NILF now ~96M and as these people have no productive income their cash requirements must be USG entitlement transfers.

AsEasyAsPi Sun, 05/13/2018 - 22:08 Permalink

"When I am wrong, its best just to admit it"... this strengthens your credibility.  Everyone misses it from time to time, however everything seems to line up.