Curious About The Economy? Follow the Money
If you’re like the average American, times have gotten tight lately. Years of high inflation have taken their toll. You’re putting your hands firmly in your pockets and taking longer to pull out your wallet. Spending is down.
This is one of those times when you’re better off observing your own behavior than listening to the “so-called” experts. After all, this election season so much is at stake in how we perceive the economy. One of the main factors in any election is whether our elected representatives have promoted economic growth. Incumbents nationwide always tout the current situation as “the best economy ever.”
This year, in particular, much of the financial press has joined in the celebration of our robust economic and commercial growth. I read article after article extolling the wonderful situation we’re in and how we’re just one Fed interest rate cut away from pure nirvana.
I suspect, however, that you may not share those giddy emotions. You may feel the full burden of the rising cost of living and a steadily diminishing prospect for higher income.
I think we’re entering a period similar to the 1970s. At that time, the nation endured high inflation, which morphed into a brief stagflation ( a combination of inflation and low growth) before finally emerging into one of the longest periods of true economic prosperity (the 1980s).
To make my point, we’ll use money to show how the economy evolved during that time. The Federal Reserve measures money constantly. It is one of the most precise and accurate measures of financial and commercial activity and a great measure of economic activity. We’ll be looking at a measure of money called M2, which means all cash, checking accounts, and easily converted accounts such as savings accounts, CDs, and money market accounts. The Fed releases the latest measure of money on the third Tuesday of the month, and you can find that report here:
https://www.federalreserve.gov/releases/h6/current/default.htm
Here is a picture of M2 Money over time:
From 1969 until 1982, the economy endured four recessions: the 1969–70 recession, the 1973–75 recession, and the one-two punch 1980 and 1980–81 recessions. Notice what money did just before each recession. It fell. That is, there was literally less money available in the financial system.
There were several reasons for this. For one thing, you and I, the average consumer, stopped spending. Oh, not entirely. More accurately, we slowed down our spending, taking some time before we reached for our wallets — those impulse purchases were curtailed, frivolous things were put off, and our spending patterns changed.
The banks also changed their behavior. They raised interest rates, making money more expensive to borrow and contributing to reduced consumer spending. Banks also made some technical moves that weren’t always visible to the average consumer. They raised their lending requirements, making it harder to get a loan. The Fed raised its reserve rates, requiring the banks to hold more of their money in “reserve” and not eligible to be loaned out.
All of these factors contribute to the reduced amount of M2 money we see in this chart. Prior to each of these recessions, M2 money drops precipitously. Money reflects all of the factors that contribute to a recession: lost jobs (less money), companies going out of business (less money), consumers reducing spending (less money), and banks raising interest rates (more expensive money).
From the “money/banker” perspective, the answer to recessions is to make more money available: lower interest rates, make loans more attractive and reduce reserve requirements. This will lead companies to hire new workers and consumers to open their wallets and spend. It’s all the “virtuous cycle” that economists and Wall Street dream about.
Best of all, it worked. The Federal Reserve’s policy of easy money leads the economy out of the recession of the 1970s.
The Fed had found monetary magic, the method to minimize the impact of recessions. By timing the growth of money, they could control the economy’s direction, slow inflation, and mitigate recessions.
That, at least, was the world we lived in throughout the 1990s and early 2000s. Looking again at our chart, you’ll see there were three recessions: 1990–91, 2001, and 2007–09. Again, we see the familiar pattern: a sharp drop in money (supply) leading to a recession. But before the recession even begins, the Federal Reserve begins its money stimulus in each of these cases. In other words, the Fed lowers interest rates, encourages bank lending, reduces reserve requirements, and so on. Although each of these moves was not enough to prevent the recession, it did reduce its length and severity.
This brings us to today, the last portion of our chart. You’ll note again the precipitous drop in money (supply). You’ll also note how much greater this drop is than any of the other declines over the past 64 years. The current decline in money supply (7.3%) is nearly double the worst decline in the past (4.8% in 1980).
The other distinction from past money supply events is the Federal Reserve’s seeming complacency. They did lower interest rates (.5%) at their last meeting. But by all appearances, they’ve done very little else that is stimulative — at least nothing that has yet shown up in the money supply.
I believe that the Money Supply is the best measure for average Americans to determine how the economy is performing because it encapsulates many, if not all, of the other factors in the economy. Any objective review of the current performance of the money supply indicates that a slowing economy and possibly a recession lie directly ahead.
Will the Fed be able to pull us out of this decline? Perhaps they do have a lot of tricks up their sleeve, and we’re still in the beginning phase of the current economic cycle. Only time will tell.
But one thing is sure: the current hype surrounding the economy is not well-founded. From a Monetary perspective, we are, at best, in a transition period.
You already knew that. You are the one who feels the pinch of inflation and worries about your future. You will build this economy; in the final analysis, you are the best judge of the current economy.
Don’t forget to vote.
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