All Is Not Well
Corporate loan delinquencies and charge-offs at US commercial banks have recently been updated to the end of Q4 2015. As we suspected on occasion of our last update, the annual change rate in the sum of the two series has continued to accelerate.
Photo credit: AP
It stands now at a level that exceeds the peak readings of both the 1990 and the 2001 recessions, and is only rivaled by the 2008 disaster. Evidently, everything is not awesome in the US economy. We have included the Federal Funds rate on the chart as well, to once again highlight the curious fact that this is happening with the FF rate still stuck at rock bottom levels.
Annual rate of change of corporate loans delinquencies & charge-offs at US commercial banks vs. the Federal Funds rate. The surge in dud loans continues unabated, and already exceeds the worst levels of the 1990 and 2001 recessions – click to enlarge.
Money Supply Growth Decelerates Further
In our last update on this data series we wrote:
“[T]his is a sign that inflationary US bank credit expansion to businesses will likely continue to stall and as a result US money supply growth should continue to decelerate.”
However, the annual growth rate of the broad true money supply TMS-2 has actually received a bump at the turn of the year, due to a large jump in funds held at the Treasury’s general account with the Fed, as well as (so we suspect, anyway) temporary repatriation of USD denominated funds held in accounts abroad, very likely for reasons of regulatory window-dressing.
Don’t hold us to this explanation, but the money has to have come from somewhere. With QE out of the picture and bank lending growth not accelerating further, the relatively high annual growth rates in deposit money recorded at year-end were very likely due to shifts in cross-border USD liquidity that temporarily boosted domestic money supply figures.
If we look at the narrow monetary aggregate M1 though, which is updated weekly rather than monthly (and very closely tracks the narrow true money supply gauge TMS-1), we can see that there has indeed been a quite sharp deceleration in US money supply growth. As we have pointed out previously, we expect that the significant downshift in narrow money supply growth rates will eventually impact the broader money measure TMS-2 as well. We will just have to wait a little longer for confirmation.
Annual growth rate of narrow money M1. As can be seen, the recent deceleration mimics what happened after the end of “QE1”. More important though is the sheer extent of the downshift. While M1 still grew at a near 25% annualized peak rate in 2011, this has recently declined to just 2.45%, after once again lurching lower in early 2016 – click to enlarge.
A Serious Warning Sign
This is quite a serious warning sign for an economy that has depended on huge amounts of credit and money supply expansion in recent years in order to merely show an abysmally weak pulse.
Obviously, bubble activities in the oil patch are already in the process of disintegration. This has resulted in a – so far mild – manufacturing recession, and we have little doubt that other areas of the economy will be on the menu next.
Probably high up on the list of sectors likely to be hit next is the car sector. Demand for cars has been driven by a sizable expansion in sub-prime lending, with all sorts of tricks employed to scrape the bottom of the barrel of eligible borrowers (such as e.g. extending loan maturities to never before seen terms).
Interestingly, industrial, transportation and commodity stocks have been the leading sectors in the recent stock market recovery. This may tempt people to think that things are getting better on the cyclical front. However, we actually believe it is mainly due to the market participants expecting that the recent huge expansion in bank credit in China and the associated jump in y/y money supply growth will have a positive effect on these sectors.
China: the annual growth rate of the money supply aggregates M1 and M2. Note the sharp spike in M1 growth since Q3 2015. Its lagged effects are likely exerting an effect on commodity prices, as the expectations of market participants are shifting. However, this is not the only relevant factor, see below – click to enlarge.
The not unimportant fact that many commodities have simply become way too cheap in nominal terms relative to the amount of money already outstanding should be mentioned as well. For instance, in in the US economy alone, the broad true domestic money supply has increased by more than 300% since the year 2000 – or putting it differently, there is now four times as much money in the US economy than 15-16 years ago.
One cannot reasonably expect commodity prices to just keep falling under such circumstances. While the effect of the money relation on specific prices is obviously in no way fixed or quantifiable, it should be clear that most commodity prices will never go back to their previous long term lows (just as prices never went back to their 1960s levels after the end of the 1970s commodity bull market).
Note here that indexes like the CRB are actually misrepresenting the situation due to the futures roll factor. In terms of cash prices, commodities are far from their year 2000 lows. The effect is illustrated by the chart below:
Two commodity indexes compared: it is not true, as suggested by the CRB index, that commodity prices have declined below their levels of 1999/2000. On the contrary, they are still more than 100% higher – click to enlarge.
In other words, a bump in commodity prices at this juncture does not necessarily tell us much about upcoming trends in the US economy. We will discuss recent US economic data releases in more detail in an upcoming article.
Based on the growth in corporate loan charge-offs/ delinquencies and recent money supply growth data, it remains highly likely that a recession will begin in the US sometime this year (it probably hasn’t yet, as not all the puzzle pieces are in place yet).
This would incidentally be perfectly in keeping with our longer term expectations for the stock market. Naturally, all these expectations could still turn out to be wrong – we will have to wait and see about that. However, so far the evidence continues to support our contentions.
Charts by: St. Louis Federal Reserve Research, StockCharts
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