Friday, January 16, 2009

No shortage of money (7)

The Monetary Base (currency plus bank reserves, both of which are under the direct control of the Fed) has now doubled in size since mid-September, thanks to the Fed's extraordinarily aggressive quantitative easing program. In the past four months, in other words, the Fed has created more money than it created in its entire history. Most of the growth in the base has been bank reserves, but no matter which measure of the money supply you look at, growth rates are up sharply and rising.

As I have been pointing out for many months, whatever is causing this crisis, it's most definitely not a shortage of money. There is more money out there than ever before. Some large banks have disappeared, but banks in aggregate are expanding their overall lending; total bank credit rose at a 12% pace in the fourth quarter.

This is a crisis of confidence, and there is a shortage of people willing to buy risky assets for fear of suffering losses. Once people recover their confidence and once all the subprime losses have been realized, this crisis could pass surprisingly fast.


Mark Gerber said...

Hi Scott,
Thanks as always for your excellent blog.

Perhaps you have heard the latest punditry on the flow of credit: Most credit during the boom was provided not by banks but by securitization (shadow banks). Since this securitization has been shut down, the main source of credit has also been shut down. Therefore, the fact that banks are lending does not mean that credit is getting back to normal.

Based on prior posts, I suspect you do not agree with this, so could you eplain how you know it is wrong? How do we measure the true availablity of credit in the past and present if banks were not the main source?


Unknown said...


As a relatively newcomer, I wanted to thank you for your exceptional blog - it has become daily reading (great referral by Brian Wesbury).

My question regards the housing issue, which I view as having 3 phases: subprime, Alt A and Option ARMS. I agree that subprime is working its way through - on the other 2, my sense is we are in the first 30-35% of the work through process. I would be very interested in your views on that.



Unknown said...


Upon further reflection, of the 2 further housing issues, my best guess is that the Option ARM issue is the one that is just 30% under our belts. The Alt A problem, in my view, is a very large part of the delinquent and foreclosure numbers - if you lied about your income, you do not have the money to pay the mortgage. The Option Arm's, on the other hand, are still relatively early in their re-set periods and involve the highest amount of payment increases for the homeowner in question.

The recently lower mortgage rates will help the Alt A issue (at least those who "fibbed" vs. outright lied regarding their income) and the subprime loans (through restructurings that involve negotiated principal forgiveness by the holder of the mortgage). The lower rates will not help as much with the Option Arms (often involving home buyers who qualified at 1-2% initial payments). In addition, with the Option Arms, the negative amortization will put those folks further "out of the money".

Again, would be very interested in your thoughts.



Keeing it real said...


Our good friend Carl from WAMCO pointed me to your blog several months ago and I have really enjoyed reading your views on what has been transpiring in the markets.

I miss your presentations at the ICIM board meetings in Vermont and am glad to be able to still get your insights.

Hope all is going well with you and that you are taking some time away from the markets to enjoy retirement.


Gene Prescott said...

Hi Mark,

Glad to have a continuing source of contact with you. Do you have sources for your statement that shadow banks provided more credit than banks?

Mark Gerber said...

Hi Gene,
I have three different sources, but can't recall any of their names or firms. Two were investment managers being interviewed on CNBC, and the third was an essay writer on Microsoft's site (maybe Jim Jubak??). The essay write cited an estimated $10 Trillion as the total amount of credit issued by shadow banks.

I know that's not much help, but if I have time, I will do a little hunting around and post better references if I find them.

Mark Gerber said...

I found the source from which mentions the $10T figure. It was a John Markman article written 11/5/2008, "A credit crater too big to fill?", and he was quoting Satyajit Das, a banking expert in Sydney, Australia.

Gene Prescott said...



Anonymous said...

Chairman Ben S. Bernanke, We Are Opting Out of Credit.

All of Our Economic Problems Find They Root in the Existence of Credit.

Out of the $5,000,000,000,000 given out to the banks, that is $1,000 for every inhabitant of this planet, what is it exactly that WE, The People, got?

A Credit Free, Free Market Economy Is Possible.

Both Dynamic on the Short Run & Stable on the Long Run.

I Propose, Hence, to Lead for You an Exit Out of Credit:

Let me outline for you my proposed strategy:

Preserve Your Belongings.

The Property Title: Opt Out of Credit.

The Credit Free Money: The Dinar-Shekel AKA The DaSh, Symbol: - .

Asset Transfer: The Right Grant Operation.

A Specific Application of Employment Interest and Money.
[A Tract Intended For my Fellows Economists].

If Risk Free Interest Rates Are at 0.00% Doesn't That Mean That Credit is Worthless?

Since credit based currencies are managed by setting interest rates, on which all control has been lost, are they managed anymore?

We Need, Hence, Cancel All Interest Bearing Debt and Abolish Interest Bearing Credit.

In This Age of Turbulence The People Wants an Exit Out of Credit: An Adventure in a New World Economic Order.

The other option would be to wait till most of the productive assets of the economy get physically destroyed either by war or by rust.

It will be either awfully deadly or dramatically long.

A price none of us can afford to pay.

“The current crisis can be overcome only by developing a sense of common purpose. The alternative to a new international order is chaos.”

- Henry A. Kissinger

Let me provide you with a link to my press release for my open letter to you:

Chairman Ben S. Bernanke, Quantitative [Ooops! I Meant Credit] Easing Can't Work!

I am, Mr Chairman, Yours Sincerely,

Shalom P. Hamou AKA 'MC Shalom'
Chief Economist - Master Conductor
1 7 7 6 - Annuit Cœptis
Tel: +972 54 441-7640

Steve said...


What a great blog!!!

Thank you for sharing your observations.

I'm curious to know what your thoughts are on the banking industry. I agree that confidence is lacking right now, but it's hard to imagine a sharp recovery without a healthier banking industry or securitization market. How large of a roll do you think mark-to-market accounting is playing at this point.



Cabodog said...

I imagine securitization will eventually make a comeback -- there's just too much money to be made by providing these funds.

What's interesting is that TARP money has essentially replaced securitization. The expansion of the Fed's balance sheet is scaring a lot of people into thinking hyperinflation is around the corner, but the Fed money doesn't hold a candle to the money that was created during the securitization boom. There's probably less money in circulation now than 2-3 years ago, thus the recession and lower commodity prices (lower inflation).

Scott Grannis said...

Mark: Re "shadow banks."

There is a lot of confusion about money, lending, and credit, and where all the money comes from. To simplify, I start with the observation that only banks can create money, using the fractional reserve banking system we have. The amount of money created is a function of the reserves in the system. Until recently, reserves were growing very slowly, and the money supply (M1, M2) was growing at roughly 6% a year, which is in line with the growth of nominal GDP (i.e., inflation of 2-3% a year and growth of 3% or so a year).

So monetary expansion was not out of control and was very average in fact, and that helps explain why we don't have extremely high inflation despite the avalanche of new credit that appeared in the years building up to the subprime crisis.

Most of this "new" credit that appeared was extended by non-banks. But that money was not created, it was recycled from lenders to borrowers. CountrWide didn't create money that was then lent to risky borrowers. They made loans that they then sold to investors. The money for the loans essentially came from investors all over the world. Similarly, the vast majority of the "credit" in our system comes from the private sector, and represents money that leaves the pocket of a lender or investor and finds its way into the pocket of a borrower. No money is created in the process, existing money just changes hands.

The $10 trillion figure may or may not be right, but the vast bulk of whatever the sum is does not represent new money or any out-of-control money expansion.

The private sector (both here and abroad) lent a lot of money to homeowners in the U.S. that were subsequently unable to repay their debts. Many of those loans are either in default or likely to default, and the owners of those loans are the ones making headlines with the massive losses they are reporting. Since that money was never "created" by banks but was instead recycled by the private sector, the subprime-related losses don't represent money that is disappearing from the system. It's not a deflationary event in the monetary sense, even though home prices are deflating. Credit is contracting, but the supply of money is expanding. You can see the source of peoples' confusion.

Banks are still lending as always, but the private sector is clearly much less eager to recycle money, now that so many have lost so much. So credit may not be as available as before, but that is not the same as saying there is a shortage of money. It's the velocity of money, the recycling of money that has slowed down.

Scott Grannis said...

Tom: re Options ARMS. Undoubtedly there are more foreclosures to come. The question is not whether there are more or how many more, the question is whether the market has correctly anticipated the foreclosures yet to come. I think (without any facts to back me up) that the market has anticipated all or most all of the bad news that has yet to come. Securities backed by mortgages that are only slightly questionable must be trading at levels that imply a significant default rate.

Scott Grannis said...

Steve: re mark to market and banking

The problems of the banking industry seem to be very concentrated in just a few names. The fact that total bank lending keeps increasing suggests that in aggregate there is no problem. But a few big names under suspicion casts a pall over the entire industry.

Easing the rules on mark to market would undoubtedly help, and it seems that the likelihood of that happening is increasing. So there's room for optimism amidst the gloom and doom out there.

dave said...

Nate Lewis has a good series on how the banking system and credit work at his website :

Nate was Polyconomics international economist from 2000-2003

Have a look

David said...


You mentioned that, "Easing the rules on mark to market would undoubtedly help, and it seems that the likelihood of that happening is increasing."

First, where are the signs of possible impending change to the Mark to Market (M2M) rule? I haven't seen it yet.

Instead I have been hearing about the incredible harm caused by the M2M rule, from my stock brokers for at least a YEAR!

How can it be that the idea of easing the M2M has come so late to the people in a position to actually DO something about it?

On the other hand, I also heard that while the change in the M2M rule back in Nov. 2007 was the catalyst for the collapse due to the resulting massive deleveraging, it was also the sunshine on the rot in the system which, hopefully and eventually, will bring about the restoration of confidence we now so desperately seek sign of.

Lastly, I have also heard tell of some other impending change that could actually make the M2M rule seem mild.

Can you comment further on the M2M rule before and after the Nov. 2007 change and what you see as indications it might be moderated somewhat?