M2

M2 Ceased to be a useful policy tool (some claim it never really was one) before 2008 and the Fed started to publish M2 month to month for the previous month week to week starting in 2015. The weekly M2 data made available only after as long as a 60 days (two months) lag. However M2 is still a useful data series that shows the waxing and waning of NGDP. But adjustments are required to make M2 data useful for that purpose.

First the imposed up to 60 days mag must be made current. The method deployed below is to take the Atlanta Fed GDPNow, add the latest PCE deflator, and then using that “NGDP Now” , bring the last M2 data provided forward.

Second the Fed moved to “ample reserves” which is increasing what were called “excess reserves” to a large enough size such that week to week or longer demand for transactional money does not impact the short term interbank (SOFR) rate of Fed Funds. This means the addition of reserves the Fed provided by “quantitative easing” to reach this dormant money must be reduced from reported M2 brought to spot. All reserves are by process and intent of the Fed made dormant and are netted out so that only M2 used to transact remains.

Third the Fed, wanting to make ample reserves dormant and maintained for the long run on the bank’s balance sheets, started to pay interest on reserves from October 2008 to date. The rate was pegged to Fed Funds and while Fed Funds were not an issue or distortion during times of ZIRP and ZLB - and even during the attempt to normalize by Powell up to Q IV 2018 as Fed Funds were low. But after the Fed Funds series of raises started in Jan 2022 that quickly rose to, now, 5.33% and given the already large ample reserves before covid that were significantly raised during covid, the interest on reserve balances (IORB) is now at $170 billion per annum rate.

It is reasonable to assume that since this IORB is cash at hand, it is not added to existing reserves but is deployed in the bank balance sheet for average return of bank business using typical bank leverage applied to equity or cash. Last quarter JPM reported that the TTM leverage was 21.52X . Not using that number but scaling down to 10X, that resulting bank balance sheet is assumed it will appear in M2 in time so the 10X times the IORB is added to current M2. Currently that is $1.7 trillion annual rate increase in M2.

After the above adjustment M2 now is reflective of NGDP, and Velocity (NGDP divided by M2) is derived. The Velocity (V) of M2 has greatly changed from before 2008 with some stability above 2 - but after the GFC of 2008 to 2009, V dropped swiftly towards 1 with reported M2 having the large QE added, but even if adjusted with netting out ample reserves, V still dropped but in a more regular manner towards 1.1. Post 2008, the economy level of transactions slowed.

Using Velocity to Sketch The Post Covid Fiscal Impulse

Though the number of transactions decreased post 2008, the steadiness and discrete manner that V changed and then increased can be used to understand what the impact of monetary impulse and fiscal impulse has been since the start of Covid (this report uses April 1 2020 as the start of Covid) to date.

The last V value just before Covid has the difference to post Covid V values times the then NGDP level. It is assumed that this will be the size of the fiscal impulse.

Deriving Post Covid Excess Savings

Excess Savings (ES), which are cumulative savings over time in excess of the normal 11% of Disposable Personal Income (DPI), is derived. It is found that up to 10% of NGDP of ES was provided by the fiscal impulse, peaking Q II 2022. Since QII 2022, the amount of ES has dropped to now approximately 3% of NGDP. The decline from 10% to 3% over the 1.3 years gives an idea of the rate in time of the decline which provides the estimate that there remains approximately 1 year left to ES. It shoudl be considered that DPI is still strong and the savings continue, returning to the norm of 11% of DPI from lows of about 4% of DPI which is slowing the use of the ES.

What is perhaps more useful is comparing the size of the fiscal impulse to ES and it is found to be steady with a high correlation.

Therefore it is assumed that at least 1 year remains of the fiscal impulse from Covid. That may mean that the current inflation, which is related to the fiscal impulse will continue to another year or so.

Any monetary impulse would show immediately in M2 as it goes into the bank system and the channels available to the Federal Reserve to ease the system. There is no such sign of a monetary impulse either a ease or a tightening after January 2022.