The US Dollar and Recession Fears
As we venture into 2023, concerns about the US dollar falling and the possibility of a recession are mounting. With the US money supply decreasing at its fastest rate since the 1930s, it’s time for investors to pay attention. This article explores the reasons behind the falling money supply, its potential dangers, and the steps the central bank might need to take in response.
A Look at the Numbers: Shrinking Money Supply
The M2 money supply, a vital indicator of the amount of cash and cash-like assets in the US economy, has been shrinking since December. This unprecedented development signals that growth, asset prices, and inflation could weaken, leading to a potential recession. The M2 money supply fell by a non-seasonally adjusted 2.2% to $21.099 trillion in February compared to the same period a year earlier.
Behind the Decline: Post-Pandemic Stimulus and Quantitative Tightening
The shrinkage in the money supply is mainly due to the reversal of liquidity resulting from post-pandemic fiscal and monetary stimulus. Other contributing factors include the Federal Reserve’s quantitative tightening, falling bank deposits, and weak demand for credit. This situation suggests that the Fed does not need to raise interest rates further and could even consider cutting rates.
The Ripple Effect: Asset Prices, Inflation, and Economic Weakness
Experts believe the falling M2 money supply is a significant driver of asset price inflation, consumer inflation, equities, and real estate. As a result, its decline sends a negative signal for these areas and could lead to broader economic weakness.
The Banking Sector’s Role: Retail Deposit Outflows and Money Market Funds
The banking sector has also significantly affected the declining money supply. Retail deposit outflows from US banks have been record-breaking, particularly from smaller and regional banks. As deposits fall, banks need to reduce lending to balance their assets and liabilities, which affects the M2 money supply.
Much of the deposit outflow has moved into money market funds, now holding a record aggregate balance of over $5 trillion. Although money market funds are part of the M2, the cash in the system remains stagnant, aligning with data showing weakening credit demand and tightening lending standards.
The Central Bank’s Dilemma: Interest Rates and Money Supply Management
The central bank faces a challenge in managing the falling money supply and its economic impact. Some experts argue that the Fed should stop raising interest rates with money and inflation decreasing at this pace.
Navigating the Uncertain Future
The rapidly declining US money supply raises crucial questions about the state of the economy in 2023. For example, will the US dollar fall, and is a recession looming? While predicting the future is difficult, investors and policymakers should monitor these developments closely to make informed decisions. As the situation evolves, the central bank’s actions will be crucial in steering the economy toward stability and growth.