What's Behind the Surge in M1 Money Supply?

Mish

M1 money supply is on a tear. Let's investigate what's happening and why.

M1 Money Supply Components

Here's a list of M1 components.

  1. M1 consists of currency outside the U.S. Treasury, Federal Reserve Banks, and the vaults of depository institutions; plus
  2. Demand deposits at commercial banks (excluding those amounts held by depository institutions, the U.S. government, and foreign banks and official institutions) less cash items in the process of collection and Federal Reserve float; plus
  3. Other checkable deposits (OCDs), consisting of negotiable order of withdrawal, or NOW, and automatic transfer service, or ATS, accounts at depository institutions, credit union share draft accounts, and demand deposits at thrift institutions.

The St. Louis Fed M1 Description also includes Traveler's checks, but the amount is tiny. The Traveler's Check series was discontinued in 2018 with the last value at a mere $1.7 billion.

The St. Louis Fed description contains this lie: "M1 includes funds that are readily accessible for spending."

Derived Number

The St. Louis Fed does not have data on #2 exactly as stated above. It does have OCD and Currency and M1. 

I derived Demand Deposits by subtracting Currency and OCDs from M1.

The jump in currency is likely an artifact of Covid. Some businesses want the exact change or don't take it at all. People pile up coins and dollars in their pockets or at home. 

Important Background

I will tackle the rest of the current spike momentarily, but the background is important too.

What Happened in 1994? 

Note that M1 declined between December 1994 and September 2001.

M1 was $1.153 trillion in September of 1994. It did not exceed that amount until it hit $1.208 trillion in September of 2001. 

I discussed this on November 29,2007 in Where’s the Cash?

The answer is Sweeps.

What are Sweeps?

Sweeps are automated programs that “sweep” funds from one type of account into another type of account automatically. In this case we are talking about programs that allow banks to “sweep” funds from checking accounts to other types of accounts such as savings accounts that allow money to be lent out. Sweeps were initiated by Greenspan in 1994. 

Money that is supposed to be in your checking account isn't really there at all. It is swept into savings accounts nightly so that it can be lent out. 

There are no reserves on savings accounts. Coupled with sweeps, that meant there really no reserves at all. 

That's what inspired my 2009 post Fictional Reserve Lending and the Myth of Excess Reserves. 

Fictional Reserve Lending 

Bank Reserves are Totally Fiction

I did a follow up post on March 27, 2020 in Fictional Reserve Lending Is the New Official Policy.

Official Announcement

With little fanfare or media coverage, the Fed made this Announcement on Reserves. 

"As announced on March 15, 2020, the Board reduced reserve requirement ratios to zero percent effective March 26, 2020. This action eliminated reserve requirements for all depository institutions." 

Amusingly, a few days ago yet another article appeared explaining how the Money Multiplier works. The example goes like this: Someone deposits $10,000 and a bank lends out $9,000 and then the $9,000 gets redeposited and 90% of the gets lent out and so an and so forth. 

That is not remotely close to how loans get made. Deposits and reserves never played into lending decisions. 

What's Changed Regarding Lending? 

Essentially, nothing.

The announcement just officially admitted the denominator on reserves for lending is zero.

With that explanation of what happened to M1 after 1994, let's turn the discussion to what is happening now. 

The Wrong Answer

There are some wrong answers out there including some wild theories about Biden in this Seeking Alpha Post that also discusses how cash "circulates". Well, no it doesn't.

Think Fed's Balance Sheet

Fed's Balance Sheet 2020-09-24

The spike in M1 looks surprisingly similar to the Fed's balance sheet. 

It's from my September 25, 2020 post The Fed Now Owns Over $2 Trillion in Mortgages, What Else?

Let's take a current look at M1 vs Fed Assets.

M1 Components vs Fed's Balance Sheet

M1 Components vs Fed's Balance Sheet

Let's hone in on that with some additional math to see what appears to be happening. 

M1, FTHO, Currency+OCD+FTHO, Currency+FTHO

M1, FTHO, Currency 2021-01

Balance Sheet Explanation of M1

Fed Treasuries Held Outright (FTHO) are a component of the Fed's balance sheet. 

OCD is other checkable deposits. Currency is the M1 component of currency.

Currency plus FTHO is a good estimate of M1. I do not have a handle yet on the difference.

As noted above, Required Reserves are $0.00 which once and for all kills the Money Multiplier Redeposit Theory of credit. 

The Fed discontinued reporting on Excess Reserves but it still pays Interest on Excess Reserves, currently 0.10%, at least as noted on Fred.

Conclusion

The Fed's balance sheet tactics are the key driver of M1, not people moving money into or out of checking accounts, not Biden, not the rich jumping ship, not real estate taxes nor any of the other claims tossed around.

Addendum 

I just found a New York Fed article that explains why QE drives up M1: What’s Driving Up Money Growth?

M1 growth is highly positively correlated with the growth in reserves generated by Fed asset purchases. The reason for this is simple: Reserves held with the central bank are assets for banks. As the Fed expands reserves, banks must either sell other assets (keeping the overall level of assets unchanged), issue more liabilities or equity (expanding the level of assets), or some combination of the two. In fact, banks did not reduce their overall holdings of other assets as reserves increased. Instead, banks mainly funded these new assets by issuing additional liabilities, including deposits. Over the same period, interest rates were low, reducing the incentive for households to place their funds in interest-earning savings accounts rather than checking accounts. Correspondingly, much of this increase in bank liabilities has been in the form of checkable deposits. This helps explain why M1 has grown more than M2.

Mish

Comments (29)
No. 1-14
Eddie_T
Eddie_T

Interesting...you’re over my head....I need to think about this one to grok it. I appreciate the analysis.

FromBrussels
FromBrussels

Been trying to read the SA article...makes me dizzy ...yet we all know, or should know, a crash is coming , the x trillion question being, what kind of a crash and... WHEN ?

Scooot
Scooot

Mish, if I understand correctly, you’re basically saying that M1 doesn’t accurately portray what it’s purported to so using it would be misleading.

This chart purports to show Notes and Coin in circulation, H6 I believe. Is this also misleading in the same way?

PecuniaNonOlet
PecuniaNonOlet

The entire global monetary system is one giant illusion, at some point the smoke and mirrors clear away and you get to see there is nothing really there.

Notdigitalmoney
Notdigitalmoney

Mish, have religiously followed your blog since 2005 but first time poster.
Have been looking for an answer to the M1 spike in the last 2 of Nov - though the impact in M2 was not material. Looking through the data it appeared to be an up and down between demand deposits and time deposits. I also thought sweeps the moment I saw it. So think you are in the right track.

This was an increase in DD offset by a decrease in TD. I think you are saying that sweeps were unwound since no longer meaningful. But I think the question is why over that specific 2 week period.

Mackkenzie
Mackkenzie

Jeff Snider has pointed out that the M1 statistics don’t include the Euro dollar (i.e. all US dollar holdings outside the US). There are no measures for the Euro dollar supply and we can only infer what is happening in the off-shore market by indirect means. Jeff suspects that the Euro dollar has been contracting faster than the domestic US M1 has been expanding over the last year.

Also, much of the M1 increase is due to companies exercising their revolver credit lines for fear that lenders would cut them off. That money is just sitting in savings as a safety valve in case those companies need it. It isn’t growing the economy by circulating.

randocalrissian
randocalrissian

This finance/theory stuff strains most a layman's brain. But I think I get some of it. Isn't the velocity of M2 money supply, and the fact it's been falling in recent years, what's keeping a lid on inflation? I.e. as the rate of currency circulating accelerates, so does price appreciation. Simple supply/demand metric.

I have been wondering if there is a macro force, exogenous event, policy shift, or something else that would swing the velocity back up and unleash a period of abnormally high inflation. But I say all that realizing I am probably laying bare lots of financial naivety and ignorance. So I'll take a mackerel to the face if I'm that far off.

Notdigitalmoney
Notdigitalmoney

Correction, the movement was into savings deposits and not time. So maybe just sweeps unwinding. But why just over those 2 weeks

Trolling through the link above, in table 3 (bottom), we see that seasonally adjusted DD jumped from 2,515 on Nov 16 to 2,966 (Nov 23) to 3,240 (Nov 30) and then movement became more normal over the next 3 weeks finishing at 3,320 on Dec 31.

Now scroll down to table 4 (bottom) and it seems the offset in M2 is the savings at commercial banks fell over those two weeks from 10,647 to 9,716. So obviously there was a move - but only over 2 specific weeks

Johnson1
Johnson1

Hey Mish - Good stuff. I had read the following on Investopedia:

"M1 is the money supply that is composed of physical currency and coin, demand deposits, travelers' checks, other checkable deposits, and negotiable order of withdrawal (NOW) accounts. M1 includes the most liquid portions of the money supply because it contains currency and assets that either are or can be quickly converted to cash. However, "near money" and "near, near money," which fall under M2 and M3, cannot be converted to currency as quickly."

So many different definitions it is confusing.

Question: Where did the money for the stimulus checks come from? Is the following an accurate description:

 
Doug78
Doug78

I would hazard to say that it is money parked offshore coming into the country to take advantage of the bargains to be had buying up bankrupt companies and foreclosed property. This is the second great opportunity to do this in the last 11 years. Maybe I am being cynical so I will also say that maybe it outside money coming to invest in productive capacity.

Frilton Miedman
Frilton Miedman

Weird, Mish didn't include M1 velocity chart for the same period, velocity slumping in equal proportion to supply seems to further validate his argument.

blackswan
blackswan

Hi Mish, I follow you since 2005 and rarely comment. I just wanted to say one thing (my 50 cents): I really like your economic posts like this one about credit, inflation or money. I think you should stick to that and not do too much politics especially when it comes to cultural differences etc...

William Eichler
William Eichler

M1 from Dec. 2008 to Dec. 2020 grew 25% ave. per yr. and increased 65% from
Jan. 2020 to Dec. 2020.

Obviously inflation has relocated to the markets; both traditional & speculative.
"Fairy-Dust" aka Bitcoin being the most prominent.

Six000mileyear
Six000mileyear

The bond market smells something. Yields on 10 yr US bonds are up 20% since the beginning of the year, and up about 50% from the average daily closing yield in 2020. Anyone buying intermediate and long term bonds in 2020 are getting crushed, and that includes the FED.

With the stock market at all-time highs, there is no need for the FED to stimulate the economy. With personal and business debt so high, there are very few future work / profits left to pledge for new debt the FED offers. With personal and business budgets already stretched, fewer consumers will be able to purchase goods / services needed for corporations to repay their debts. And with rising interest rates, the FEDs will have to begin a rate increase cycle, and loan refinancing will dry up.

The broader picture for interest rates in the US is yields are 40 years into a 60 year cycle, so the the general trajectory for yields will be UP the next 20 years. I think 2020 is THE year for the bottom of this cycle. I don't know how high interest rates will go; however, a move to 4 or 6% will have a significant impact.


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