Conspiracy Theories: The Declining Dollar and M3

M2 Is Flat, N3 Is skyrocketing.
Source: Shadowstats

Headlines have been full of stories regarding the ever weakening dollar and there's been lots of good discussion here at Newsvine - see Iran to replace dollar with euro. It's a complicated but important subject as discussed here in a previous article I posted The Decline and Fall of the American Dollar - Why it Matters.

This article will not deal with why it matters, but more specifically on the little understood subject of money supply and recent shenanigans that have got conspiracy theorists frothing at the mouth.

OK, sounds good but what is money supply?

It's complex even for experts (and I am certainly no expert) but at its simplest, the value of a currency (money) is based on supply and demand. The greater the supply, the less people will pay for an asset. The greater the demand for an asset the higher it's price.

Technically, economists in the USA (it can be different elsewhere) define Money as follows:

• M0: The total of all physical currency, plus accounts at the central bank which can be exchanged for physical currency.
• M1: M0 + the amount in demand accounts ("checking" or "current" accounts).
• M2: M1 + most savings accounts, money market accounts, and certificate of deposit accounts (CDs) of under $100,000.
• M3: M2 + all other CDs, deposits of eurodollars and repurchase agreements.

See Wikipedia for more

Umm OK, But how is Money Supply controlled?

See Wikipedia here.

The Federal Reserve System controls the size of the money supply by conducting open market operations, in which the Federal Reserve lends or purchases specific types of securities with authorized participants, known as primary dealers. The Open Market Desk has two main tools to adjust the monetary supply: repurchase agreements and outright transactions.

Note there are other ways to effect the money supply like bank reserve requirements --- but I am trying to be brief. Links provide more data.

Yawn. Boring! Get to the Conspiracy Part

OK, fair enough. On November 2005, the federal reserve announced that it would stop publishing M3 effective March 2006. Read that sentence again please. It's a big one!

Hey, but doesn't M3 include Repurchase Agreements conducted by the fed? And M3 also includes EURO Dollars?

Yes, great, you are paying attention!

Euro Dollars:
From Wikipedia here:

Eurodollars are deposits denominated in United States dollars at banks outside the United States, and thus are not under the jurisdiction of the Federal Reserve. Consequently, such deposits are subject to much less regulation than similar deposits within the United States, allowing for higher margins.

Note, EURO dollars aren't necessarily located in Europe. The term is left over from post WW2 rebuilding of Europe. It would include for example much of the $Trillion in dollar reserves held by China. Or much of the petro dollars owned by Arab nations. It's a big number.

So why did the Fed stop tracking M3?

Well first the non conspiracy theory answer: In a November Wall Street Journal article:

Federal Reserve Chairman Ben Bernanke said two weeks ago in a speech at a speech in Europe that money-supply measures haven't proven reliable enough to play an important part in policy strategy. European Central Bank head Jean-Claude Trichet said prior to this speech that "a model of monetary policy that includes no role for money is incomplete in some important respects."

Back To the Conspiracy Theories. From the same WSJ article:

But M3 is the money-supply measure increasing the fastest. Shadowstats, which cobbles M3 back together from various Fed data releases and other estimates, put it at 9.6% growth in October, highest since March 2002. Some believe its growth is fueling M&A and the stock market (the S&P 500 has gone more than 90 days now without a 1% one-day decline, longest since 1995). "People are swapping cash for hard assets, be it copper mines, or timberlands or office buildings or gold," says Mr. Ritholtz. "There's a lot of cash, and people are playing 'hot potato' to get rid of it as fast as possible."

A chart by this same Shadowstats (see chart) shows a flat M2 while M3 surges. Basically, the Fed is pretending to tighten with its continuous interest rate hikes and publishing of M2. While the no longer published M3 spikes. The Fed is not tightening credit if it is increasing the Money Supply

Any more conspiracy theories?

Yes, A big one. In November 2006 the right wing New York Post published the following article: US Treasury Quietly Doing the Feds Work It basically describes how the Treasury Department is using similar powers as the Fed in UNPUBLISHED and little-known-about Repurchase Agreements to increase the money supply.

"FOR the past few years the U.S. Treasury has been quietly involved in what the financial markets call "repo" agreements and this near-secret operation could explain why the nation's money supply seems to be confoundingly large.

It might also explain why Washington decided earlier this year to stop publishing M3 money supply figures, the broadest and most popular measure of money in circulation. Experts worry whenever there is too much money - liquidity - in the financial system because it can lead to things like price spirals in the housing market and bubbles in stocks.

But even more worrisome for the financial markets than too much liquidity would be an inability to track the amount of money being pumped into the financial system.

it looks as if the Treasury has created a way to duplicate the Fed's power. And that is a disturbing possibility unless it is somehow monitored.

Those last two sentences say it all. Scary stuff. Many mainstream economists believe one major factor in the housing bubble, stock market surge, and dollar decline, is due to this hidden increase in money supply. And maybe Bush has his hidden hand in this conspiracy.

Is Anyone Doing Anything About This? Well many investors are looking abroad to protect against the ever declining dollar. As linked above, Iran and other nations are reducing their US dollar exposure. Finally, Republican Congressman Ron Paul (Texas) has a bill pending bill H.R. 4892: Sunshine in Monetary Policy Act mandating the Fed to publish M3 weekly.

As a final note, you might ask, why is inflation not increasing if money supply is out of control? That could be a whole other article on the questionable reliability of inflation statistics. And I think we are all tired now.

Here's a primer though: Inflation Vanquished

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