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By New_Deal_democrat October 10, 2017 11:12 am
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Watching money supply

A few weeks back I noted that there was something of a divergence between financial and non-financial long leading indicators. All of the financial indicators were still positive -- some extremely positive -- while the non-financial indicators (corporate profits, housing, the personal savings rate) were mixed or negative.

The one financial indicator I've had my eye on for most of this year as the first likely to turn has been money supply, and in particular real M2.

Let's take a look at how they stand.

First, here is nominal M1 (weekly): 


and here is real M1 (monthly through August):

Note first of all that because inflation has generally been very somnolent, there is not much difference between the two. But regardless of whether we measure M1 nominally or in real terms, it is very strong.

Now, here is nominal M2 (weekly):

and real M2 (monthly through August, minus 2.5% (since in the past deceleration under 2.5% has been sufficient to correspond with a subsequent recession):

M2 is where the action is at the moment.  Even in nominal terms, YoY M2 has decelerated from roughly +7.5% to +5% this year so far. At this rate, should it continue, even nominal M2 will be under +2.5% by next spring.

Turning to real M2, headline consumer inflation is mainly driven by changes in gas prices:

Since these have been pretty flat for the last 12+ months with the exception of a small post-Harvey spike, if that continues consumer inflation is likely to stay in the 1.5%-2% range.

As shown in the graph above, real M2 declined from about 7% to the 3%-3.75% range this year through August.  If headline inflation continues in its current range, it will only take another -0.5% to -1% deceleration in nominal M2 growth to turn real M2 negative, which *if* its recent decelerating pace continues, would be before the end of this year and possible as early as within the next month.

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