cgmallin – Page 12 – Chris Mallin Macro Perspectives

“Don’t be surprised”

Look beyond the headlines with this week’s UK macro data

The key chart

**UK HH savings ratio (%, SA)** (Source: ONS; CMMP)

The key message

Surprise and sensational headlines may follow the release of two UK data points this week – the 1Q22 household savings ratio (ONS, Thursday) and consumer credit growth for May 2022 (BoE, Friday). Neither would be justified.

Official UK forecasts already assume (1) that real household disposable income will fall in 2022 and 2023, and (2) that the savings ratio will fall to a record low at the start of 2023, in response. In practice, this means that some UK HHs will run down the c£166bn of excess savings built up during the pandemics while others take on more debt.

We know from the “messages from the UK money sector” that HH monthly money flows (savings) are already trending back towards pre-pandemic levels and that monthly consumer credit flows have recovered to exceed pre-pandemic levels over the past three months. Nothing surprising nor sensational so far. Indeed both trends reflect an important return to normality after the pandemic.

That said, current trends are not all “good news.” There are negative implications here for both financial equality and economic sustainability.

Excess savings have typically accrued to HHs that already have sizable savings, have higher incomes, and are much older. These HHs typically spend less from any extra savings they accumulate. In contrast, lower-income HHs, with higher marginal propensities to consume, are more likely to borrow more to support consumption. The result? Greater financial inequality in the UK.

The OBR’s forecasts also assume that the UK HH sector ultimately moves from its traditional role as a net lender to the rest of the economy to being a sustained net borrower. Such a transition would involve remarkable role reversals from the pandemic period when the government took exceptional measures to protect HH incomes from the full effect of the crisis. More concerning here is the fact that the implied shift to replace public borrowing with more private borrowing reflects the flaw in conventional macro thinking that typically ignores the risks associated with private debt while seeing government debt as a problem rather than as a solution.

Unfortunately, this is neither new nor surprising news either.

“Don’t be surprised”

Surprise and sensational headlines may follow the release of two UK data points this week – the household savings ratio (ONS, Thursday) and consumer credit growth (BoE, Friday). Neither would be justified.

**Latest (March 2022) OBR forecasts for real HH disposable income (% YoY)** (Source: OBR; CMMP)

Recall that in March 2022, the OBR’s “Economic and fiscal outlook” forecast that real household (HH) disposable income will fall by 1.5% this calendar year and by 0.2% in 2023, before recovering steadily to average 1.7% from 2024 onwards (see chart above).

**OBR forecasts for UK savings ratio** (Source: OBR; CMMP)

In the face of weaker real income growth, the OBR already expects HHs to save less than previously forecast and for the savings ratio to reach a record low of 2.8% by the start of 2023. In practice, “the lower saving ratio will reflect some HHs running down excess savings while others take on more debt” (Economic and Fiscal Outlook, March 2022).

**CMMP estimates for build up of excess savings (£m)** (Source: BoE; CMMP)

Since the start of the COVID-19 pandemic, UK HHs have accumulated excess savings of c£166bn in the form of bank deposits (see chart above). We know from the “messages from the money sector”, however, that monthly HH money flows have moderated back towards pre-pandemic levels during 2022. In April 2022, these flows totalled £5.7bn, 1.2x the average pre-pandemic flows. At their peak in May 2020, these monthly flows had reached £26bn, 5.5x pre-pandemic levels (see chart below).

**Monthly HH money flows as a multiple of pre-pandemic flows** (Source: BoE; CMMP)

We also know that consumer credit borrowings over the past three months have been higher than the average pre-pandemic monthly borrowings. In February, March and April 2022, HHs borrowed £2.0bn, £1.3bn and £1.4bn respectively. These flows compare with the pre-pandemic average of £1.0bn. The annual growth rate of consumer credit also increased to 5.7% YoY in April 2022 from 5.2% in March 2022, the highest YoY growth rate since February 2020 (see chart below).

**Monthly flows (£bn) and YoY growth rates in consumer credit** (Source: BoE; CMMP)

Nothing surprising nor sensational so far. Indeed both trends reflect an important return to normality after the pandemic. That said, these current trends are not all “good news.” There are negative implications here for both financial inequality and economic sustainability.

**Trends and forecasts for HH net lending/borrowing as % GDP** (Source: OBR; CMMP)

The OBR’s forecasts also assume that the UK HH sector ultimately moves from its traditional role as a net lender to the rest of the economy to being a sustained net borrower (see chart above).

Such a transition would involve remarkable role reversals from the pandemic period when the government took exceptional measures to protect HH incomes from the full effect of the crisis. More concerning here is the fact that the implied shift to replace public borrowing with more private borrowing reflects the flaw in conventional macro thinking that typically ignores the risks associated with private debt while seeing government debt as a problem rather than as a solution.

Unfortunately, this is neither new nor surprising news either.

Please note that the summary comments and charts above are extracts from more detailed analysis that is available separately.

“Resilient so far, but…”

UK card payments remain above pre-pandemic levels

The key chart

**Aggregate monthly card payments versus pre-pandemic levels** (Source: ONS; CMMP)

Two-thirds of the way through 2Q22, and the message from the UK money sector is still one of resilient consumer spending. But what are households (HHs) spending their money on and why does it matter?

According to the latest ONS data (9 June 2022), monthly spending on credit and debit cards was 104% of its pre-pandemic, February 2020 level. This is 18ppt higher than in January 2022 and 6ppt higher than in May 2021 (see chart above).

All spending categories rose in the week to 1 June according to the shorter-term, daily CHAPS-based indicator. While the overall message from the shorter-data remains the same, it is important to note that spending is concentrated on getting to work and on staples ie, spending more on basic items (see chart below).

**Card payments (seven-day rolling average) to 1 June 2020 by type** (Source: ONS; CMMP)

In contrast, while spending on delayable goods such as clothing and furniture is recovering, it remains 8ppt below pre-pandemic levels.

This matters, because spending on delayables is a key indicator of whether the excess savings built up during the pandemic are returning to the economy in a sustained manner.

Please note that the summary comments and charts above are abstracts from more detailed analysis that is available separately.

“Attenzione!”

Time for new solutions to Italy’s structural problems

The key chart

**Trends in private and public sector net lending/borrowing over the past decade**
(Source: ECB; CMMP)

The key message

With the yield on Italian 10Y government bonds rising to 3.37% (+251bp YTD), attention is focusing again on the net borrowing of the Italian government and the government debt ratio (172% GDP).

This is entirely consistent with conventional macroeconomic thinking that continues to ignore private debt while seeing public debt as a problem. It is also mistaken.

A key theme of CMMP analysis is that, “private debt causes crisis – public debt (to some extent) ends them” (Professor Steve Keen, June 2021). Italy, of course, stands out as being one of only four developed market economies that has household (HH) and corporate (NFC) debt ratios well below the maximum threshold levels above which the BIS believes that debt becomes a constraint on future growth.

Not only does Italy not have a private sector debt problem, some of the economy’s key challenges stem from a lack of private sector borrowing and investment, not from too much. Consider:

The Italian private sector has been a consistent (and growing) net lender over the past decade. Instead of borrowing money to invest, HHs and NFCs have been saving/disinvesting. The outstanding stock of NFC debt at end 3Q21 was below the level recorded in 3Q09, for example.
The net savings of the private sector have been running at 1.5-3.0x the size of the net borrowings of the government. Instead of funding the fiscal stimulus required to close Italy’s deflationary gap, un-borrowed private sector savings have leaked out of the economy.
“Austerity” and future fiscal consolidation have not/will not solve either of these fundamental challenges. Domestic sector imbalances leave the Italian economy increasingly reliant of running current account surpluses. The structural challenges of excess savings and insufficient private sector investment remain.

The fact that un-borrowed savings in countries experiencing private sector deleveraging are able to leak into other bond markets, restricting governments from funding stimulus measures, reflects a structural flaw in the Eurozone. In 2012, Richard Koo, the Japanese economist and global expert on balance sheet recessions, proposed applying different risk weights to domestic and foreign government bonds as a partial solution.

Perhaps the time for new and imaginative solutions to Italy’s sector imbalances is at hand, once again…

Attenzione!

**Top 10 government debt ratios, ranked by size** (Source: BIS; CMMP)

With the yield on Italian 10Y government bonds rising to 3.37% (+251bp YTD), attention is focusing once again on the net borrowing of the Italian government and the government debt ratio (which is the third highest in the world at 172% GDP). This is entirely consistent with conventional macroeconomic thinking that continues to ignore private debt while seeing public debt as a problem. It is also mistaken.

**HH and NFC debt ratios for BIS advanced economies** (Source: BIS; CMMP)

A key theme of CMMP analysis is that, “private debt causes crisis – public debt (to some extent) ends them” (Professor Steve Keen, June 2021). Italy, of course, stands out as being one of only four developed market economies that has HH and NFC debt ratios well below the maximum threshold levels above which the BIS believes that debt becomes a constraint on future growth (see chart above).

According to the latest BIS statistics, Italy’s HH and NFC debt ratios are only 44% GDP and 73% GDP respectively. This compares with average debt ratios in the euro area of 61% GDP and 111% GDP (EA in the chart above) and BIS threshold levels of 85% GDP and 90% GDP respectively (red lines in chart above).

Not only does Italy not have a private sector debt problem, some of the economy’s key problems stem from a lack of private sector borrowing and investment, not from too much.

**Net lending of Italy’s private sector over the past decade** (Source: ECB; CMMP)

The Italian private sector been a consistent (and growing) net lender over the past decade (see chart above). Instead of borrowing money to invest, HHs and NFCs have been saving/disinvesting (see chart below). NFC debt of €1,277bn at the end of 3Q21 was below the €1,305bn recorded at the end of 3Q2009, for example. Over the same period, HH debt has increased by only 1.3% CAGR from €660bn to €764bn.

**Trends in HH and NFC debt and debt ratios since 2009** (Source: BIS; CMMP)

The net savings of the private sector have been running at 1.5-3.0x the size of the net borrowings of the government. Instead of funding the fiscal stimulus required to close Italy’s deflationary gap, un-borrowed private sector savings have leaked out of the economy.

**Trend in private sector net lending versus public sector net borrowing** (Source: ECB; CMMP)

“Austerity” and potential future fiscal consolidation have not/will not solve either of these fundamental challenges. Domestic sector imbalances leave the Italian economy increasingly reliant of running current account surpluses with the RoW (see chart below). The structural challenges of excess savings and insufficient private sector investment remain.

**Trends in Italian net sector balances (EURbn)** (Source: ECB; CMMP)

In “The escape from balance sheet recession and the QE trap”, Richard Koo, the Japanese economist and leading authority on balance sheet recessions, highlighted the structural flaw in the Eurozone that allowed un-borrowed savings in countries experiencing private sector deleveraging to flee to other bond markets, preventing domestic governments from issuing debt to fund stimulus measures.

As far back as 2012, Koo proposed applying different risk weights to domestic and foreign government bonds. He suggested that, “The relatively minor regulatory change of attaching different risk weights to holdings of domestic versus foreign government bonds would go a long way toward reducing pro-cyclical and destabilising flows among government bond markets.”

Perhaps the time for new and imaginative solutions to Italy’s sector imbalances is at hand, once again…

Please note that the summary comments and charts above are abstracts from more detailed analysis that is available separately.

“Euro area re-synching – part 2”

The implications for asset allocation

The key chart

**The sharp and co-ordinated slowdown in EA money and private sector credit (% YoY, real)**
(Source: ECB; CMMP)

The key message

What are the implications of the re-synching of euro area money and credit cycles for asset allocation and what are the current messages from the money sector telling us?

Growth rates in narrow money (M1) and loans to the private sector display relatively robust relationships with the business cycle over time. M1, household (HH) and corporate (NFC) credit also enjoy leading, coincident and lagging relationships with GDP respectively and can be very useful inputs into asset allocation processes, therefore.

The recovery in money and credit cycles in the post-GFC period broadly followed this stylised pattern. Other macro-factors complicated the wider interpretation of these trends, however. Interest rate effects (initially) and the COVID-19 pandemic (more recently) had a more important impact on narrow money growth than cyclical factors, for example. At the same time, extended periods of private sector deleveraging resulted in HH and NFC credit growth lagging GDP growth for much of the past decade.

That said, the overall message has been clear – while money growth has exceeded GDP growth over the past decade, credit growth has lagged it. The consequences for macro policy choices of this extended dynamic was clear, even before the pandemic hit.

With money and credit cycles re-synching now, inflation is the key challenge in interpreting current messages from the money sector.

Optimists might note that the slowdown in monetary growth reflects a sharp moderation in deflationary money flows into overnight deposits, and will be encouraged by the resilient HH and recovering NFC credit demand (in nominal terms).

In contrast, pessimists might prefer the more traditional approach described above. For them, the very sharp and co-ordinated slowdown in money and credit growth in real terms with be a far more alarming message, especially for those positioned for economic recovery.

Euro area re-synching – part 2

As a macro strategist, economist and global investor, I have always been interested in the relationship between money, credit and business cycles and the implications for asset allocation.

**The recovery in money and credit followed the stylised pattern post-GFC (% YoY, real)**
(Source: ECB; CMMP)

The recovery in money and credit cycles followed this stylised pattern in the post-GFC period (see chart above). Real M1 bottomed in July 2011 (-1.4%) and turned positive in May 2012. Real HH credit bottomed next in September in 2012 (-2.3%) and turned positive in December 2014. Finally, real NFC credit bottomed in June 2013 (-4.6%) and turned positive in November 2015. Other macro-factors complicated the wider interpretation of these trends, however.

**Trends (% YoY) in real GDP and real M1** (Source: ECB; CMMP)

Interest rate effects (initially) and the COVID-19 pandemic (more recently) had a more important impact on narrow money growth than cyclical factors, for example (see chart above).

Interest rate and cyclical effects are typically the main factors affecting trends in narrow money, with the latter being more relevant for asset allocation purposes.

While real M1 continued to exhibit leading indicator qualities, strong demand for overnight deposits (within M1), driven by their increasing low opportunity cost, suggest that interest rate effects had a greater impact than cyclical factors over much of the past decade. The COVID-19 pandemic also resulted in dramatic increases in forced and precautionary savings, again largely in the form of overnight deposits. This compounded the challenges of interpreting these dynamics (see “Don’t confuse the message”).

**Trends (% YoY) in real GDP and real HH credit** (Source: ECB; CMMP)

At the same time, extended periods of private sector deleveraging resulted in HH and NFC credit growth lagging GDP growth for much of the past decade.

The chart above illustrates how real HH credit has enjoyed a broadly coincident relationship with GDP for most of the period. That said, it also shows that the EA HH sector was engaged in an extended period of passive deleveraging between March 2010 and March 2019 with real growth in HH credit lagging real growth in GDP.

Similarly, the chart below illustrates how NFC credit has also enjoyed a broadly lagging relationship with real GDP growth. Again, the analysis and interpretation is challenged by an extended period of NFC deleveraging. Growth in NFC credit lagged behind real GDP growth from December 2009 to May 2016 and to July 2018, in a more sustained fashion.

**Trends (% YoY) in real GDP and real NFC credit** (Source: ECB; CMMP)

**Monthly HH deposit flows as a multiple of pre-pandemic levels** (Source: ECB; CMMP)

With money and credit cycles re-synching now, inflation is the key challenge in interpreting current messages from the money sector. Optimists might note that the slowdown in monetary growth reflects a sharp moderation in deflationary money flows into overnight deposits (see chart above), and will be encouraged by the resilient HH and recovering NFC credit demand, in nominal terms (see chart below).

**Growth trends (% YoY, nominal) in HH and NFC credit** (Source: ECB; CMMP)

In contrast, pessimists might prefer the more traditional approach described above. For them, the very sharp and co-ordinated slowdown in money and credit growth in real terms (see chart below) will be a far more alarming message, especially for those positioned for economic recovery.

**The alarming and coordinate slowdown in real money and credit growth** (Source: ECB; CMMP)

Please note that the summary comments and charts above are abstracts from more detailed analysis that is available separately.

“Euro area re-synching – part 1”

EA money and credit cycles are re-synching

The key chart

**YoY growth rates in M3 and private sector credit and trends in excess liquidity**
(Source: ECB; CMMP)

The key message

Growth rates in euro area (EA) money supply and private sector credit continue to converge and re-align. This matters because the de-synchronisation of money and credit cycles over the past decade, which peaked during the COVID-19 pandemic, created major challenges for policy makers, banks and investors alike.

On a positive note, this reflects a combination of slowing (excess) money supply growth and rising demand for private sector credit. Recall that narrow money (M1), and within that overnight deposits, drove the expansion of broad money (M3) during the pandemic. The contribution of productive COCO-based lending is also increasing, led by a recovery in corporate credit. Importantly, COCO-based lending supports both production AND income formation.

That said, less-productive FIRE-based lending continues to be the more important driver of private sector credit in the EA, driven by resilient mortgage demand. FIRE-based lending, which accounts for more than half of the outstanding stock of credit, supports capital gains through higher asset prices but does not lead directly to income generation. This has negative implications for leverage, future growth, financial stability and income inequality.

In short, the message from the money sector here is broadly positive, albeit with the “hidden-risks” that are associated with higher levels of FIRE-based lending. In the second part of this analysis, I analyse money and credit trends in real terms to consider the implications here for the outlook for growth and business-cycle approaches to asset allocation. The conclusions here are less positive…

Euro area re-synching – part 1

Growth rates in EA money supply and private sector credit continue to converge and re-align (see key chart above). This matters because the de-synchronisation of these cycles over the past decade, which peaked during the COVID-19 pandemic, created major challenges for policy makers, banks and investors alike. The effectiveness of monetary policy, the dominant macro policy during this period, diminished dramatically as a result, and banks and investors had to deal with the consequences of excess liquidity for balance sheet management and the (mis-)pricing of both real and financial assets.

**What is driving the re-synching of money and credit cycles?** (Source: ECB; CMMP)

On a positive note, this reflects a combination of slowing (excess) money supply growth and rising demand for private sector credit (see chart above). Broad money (M3) growth has slowed from its January 2021 peak of 12.5% YoY to 6.0% YoY in April 2022. Growth in private sector credit has recovered from its May 2921 low of 2.7% YoY to 5.3% YoY, the highest nominal rate of growth since May 2020. The gap between the two growth rates (the green line in the chart above) has narrowed from 8ppt in January 2021 to 0.7ppt in April 2022, the narrowest gap since November 2018.

**Contribution (ppt) of COCO-based lending to total private sector credit** (Source: ECB; CMMP)

The contribution of productive COCO-based lending is also increasing (see chart above), led by a recovery in corporate credit. COCO-based lending, which includes lending to corporates (NFCs) and household (HH) consumer credit, contributed 1.9ppt towards to total PSC growth of 4.9% YoY in April 2022. This compares with only 0.4ppt to the total PSC growth of 3.0% in August 2021.

Note that COCO-based lending supports both production and income formation. Loans to NFCs are used to finance production, which leads to sales revenues, wages paid, profits realised and economic expansions. So while an increase in NFC debt will increase debt in the economy, it also increases the income required to finance it. Consumer debt also supports productive enterprise since it drives demand for goods and services, helping NFCs to generate sales, profits and wages. It differs from NFC debt to the extent that HHs take on an additional liability since the debt does not generate income.

**Contributions (ppt) of FIRE-based and COCO-based lending to total private sector credit**
(Source: ECB; CMMP)

That said, less-productive FIRE-based lending continues to be the more important driver of private sector credit (see chart above), driven by resilient mortgage demand (see also chart below).

**What’s driving private sector credit demand?** (Source: ECB; CMMP)

FIRE-based lending, which accounts for more than half of the outstanding stock of credit, supports capital gains through higher asset prices but does not lead directly to income generation. Loans to NBFIs are used primarily to finance transactions in financial assets rather than to produce, sell or buy actual output. Such credit may lead to an increase in the price of financial assets but does not lead (directly) to income generation. Mortgage or real estate lending is used to finance transactions in pre-existing assets. It typically generates asset gains as opposed to income (at least directly). As noted in previous posts, the shift towards FIRE-based lending has negative implications for leverage, future growth, financial stability and income inequality.

In short, the message from the money sector here is broadly positive, albeit with the “hidden-risks” that are associated with higher levels of FIRE-based lending.

**YoY real growth trends in M1, household and corporate credit** (Source: ECB; CMMP)

In the second part of this analysis, I analyse money and credit trends in real terms to consider the implications here for the outlook for growth and business-cycle approaches to asset allocation. The conclusions here are less positive…

Please note that the summary comments and charts above are abstracts from more detailed analysis that is available separately.

“Sonnez l’alarme – II”

Plus ça change…

The key chart

**Trends in net lending/net borrowing, EURbn, rolling 4Q sum** (Source: ECB)

The key message

Comments made by the Governor of the Banque de France in Paris last week (1) confirm that conventional macro thinking continues to (largely) ignore private debt while seeing public debt as a problem, and (2) suggests that reports of the death of out-dated fiscal rules in the euro area (EA) are premature.

What did he say? The Governor rejected arguments that (1) accommodative monetary policy was responsible for the rise in public debt, and (2) that “because of this high public debt, monetary policy is now unable to raise interest rates sufficiently to combat inflation”. He stressed that central bank independence was “notably designed to prevent any risk of fiscal domination.” The rest of the speech focused on why debt must remain a key issue and the future EA fiscal rules.

From a CMMP analysis perspective, there were three extraordinary features of the speech:

First, in discussing the exceptional (fiscal) response to exceptional circumstances, the Governor ignored the similarly exceptional disinvestment by the French private sector;
Second, and linked to this, he suggested that France “could keep the 3% deficit target, which is as a “useful anchor” and even the 60% debt target”;
Finally, he chose not to refer to the elevated risks associated with the level, growth or affordability of risks associated with French private sector debt, particularly in the corporate (NFC) sector..

Why does this matter? The Governor’s speech follows similar arguments presented earlier this year by the French state auditor. In both cases, the level of public sector debt was viewed as a problem but private sector debt was ignored, confirming a fundamental flaw in conventional macro thinking. The support for out-dated and arbitrarily determined fiscal rules also means that the risks of deficit reductions compounding further private sector deleveraging in the future remain.

Plus ça change, plus c’est la même chose…

Sonnez l’alarme II – the charts that matter

**Trends in French public sector net borrowing (EURbn) since 1999** (Source: ECB)

**Trends in French and German government debt ratios (% GDP) versus fiscal target** (Source: BIS)

**Trends in French private sector net lending (EURbn) since 1999** (Source: ECB)

**The view from a sector balances perspective** (Source: ECB)

**Breakdown (% total) of French credit to the non-financial sector** (Source: BIS)

**Rolling 3-year CAGR in NFC credit versus 3-year CAGR in nominal GDP** (Source: BIS)

**French NFC sector debt ratio versus BIS maximim threshold limit** (Source: BIS)

**French NFC debt service ratio versus LT average since 1999** (Source: BIS)

**EA private and public sector balances,** EURbn (Source: ECB)

Please note that the summary comments and charts above are extracts from more detailed analysis that is available separately.

“Still bashing the plastic”

UK card payments remain firm through 2Q22 so far

The key chart

**Monthly credit and debit card payments in relation to pre-pandemic levels** (Source: ONS)

The key message

The latest ONS “real-time” indicators (12 May 2022) confirm the resilience of the UK consumer during 2Q22.

Monthly card spending in April was 2% above pre-pandemic levels, 16ppt higher than in January 2022. Daily card spending rose to 110% pre-pandemic levels in the week to 5 May 2022, with rises across all segments. Spending on so-called “delayable” goods continues to recover but is the only segment where current spending is still below pre-pandemic levels. This matters because spending on delayable goods is the best indicator that the excess savings built up during the pandemic are returning to consumption in a sustainable fashion.

Despite the threat of rising inflation and falling real incomes, UK consumers continue to “bash the plastic”. They are spending more on getting to work and on staples, however, than on items such as clothing and furniture. So positive news, but only up to a point.

A full recovery in spending on delayable goods is required before we can have confidence that the UK consumption recovery is sustainable.

Still bashing the plastic – the charts that matter

The latest ONS “real-time indicators” (12 May 2022) confirm the resilience of the UK consumer through 2Q22, at least so far. Monthly card spending (see chart above) in April was 102% pre-pandemic levels, 16ppt higher than in January 2022 (87%) and 9ppt higher than April 2021 (93%).

**Daily aggregate card spending in relation to pre-pandemic levels** (Source: ONS)

Daily card spending (rolling seven-day) also increased by 8ppt in the week to 5 May 2022 to reach 110% of pre-pandemic levels (see chart above). Spending rose across all categories, with the largest growth seen in “social” spending. “Work-related”, “staple” and “social spending” are currentl 131%, 120% and 113% pre-pandemic levels (see chart below).

**Current card spending by type versus pre-pandemic levels** (Source: ONS)

Spending on “delayable” goods such as clothing and furniture is recovering (see chart below), but remains 5% below pre-pandemic levels. This matters because delayable spending is our preferred indicator regarding the extent to which excess savings are returning to the economy in a sustained fashion.

**Card spending on delayable goods versus pre-pandemic levels** (Source: ONS)

Conclusion

UK consumers continue to “bash the plastic” despite the challenges of rising inflation and falling real incomes. This is positive news. Consumers are spending more on getting to work and on staples, however, than on items such as clothing and furniture. A full recovery in spending on delayable goods is required before we can have confidence that current consumption is sustainable.

Please note that the summary comments and charts above are extracts from more detailed analysis that is available separately.

“A desynchronised decade”

Created challenges for policy makers, banks and investors alike

The key chart

**Lending growth (% YoY) minus money growth for the UK and EA since 2012** (Source: BoE; ECB)

The key message

Money and credit cycles have been desynchronised for much of the past decade, creating major challenges for policy makers, banks and investors alike.

Growth in money supply has also exceeded growth in private sector credit in the euro area and for much of the period in the UK. The effectiveness of monetary policy, the dominant macro policy, has diminished dramatically as a result.

The gap between growth in money supply and private sector credit hit a historic high during the COVID-19 pandemic. More recently, however, these growth rates have converged as the build-up of excess savings has slowed and the demand for credit has recovered (at least in nominal terms).

This means that three key signals from the UK and EA money sectors have turned more positive: monthly HH money flows have fallen back below pre-pandemic levels; quarterly consumer credit flows have been positive since 2Q21 and have returned to pre-pandemic levels in the UK; and the gap between money supply and private sector credit growth has narrowed.

Macro challenges remain, but the message from the UK and EA money sectors is less bearish than consensus investment narratives.

A desynchronised decade

**Growth rates (% YoY) in EA money and lending** (Source: ECB)

**Growth rates (% YoY) in UK money and lending** (Source: BoE)

Money and credit cycles have been desynchronised for much of the past decade. In typical cycles, monetary aggregates and their key counterparties, such as private sector credit, move together. Put simply, money supply indicates how much money is available for use by the private sector. Private sector credit indicates how much the private sector is borrowing. However, the two charts above show the extent to which, and the periods when, UK and EA money and credit cycles have diverged since March 2012.

**EA money flow minus credit flow (rolling quarters) since Mar 2012** (Source: ECB)

Growth in money supply has also exceeded growth in private sector credit in the euro area and for much of the period in the UK. The charts above (EA) and below (UK) illustrate trends in the gap between money and credit flows (rolling quarters) for both regions. The build-up of liquidity in both regions is clear to see. Increases in the supply of money have not been matched by equivalent increases in private sector demand for credit.

**UK money flow minus credit flow (rolling quarters) since Mar 2012** (Source: BoE)

The effectiveness of monetary policy, the dominant macro policy, has diminished dramatically as a result. Broadly speaking, monetary policy is effective if “central bank accommodation increase money and credit for the private sector to use” (Koo, 2015). Not only has credit growth lagged money supply growth, it has also been predominantly the “wrong type of credit” ie, less productive FIRE-based lending. As noted in previous posts, this has hidden risks in terms of leverage, future growth, financial stability and income inequality.

**Loan growth (% YoY) minus money growth** (Source: BoE; ECB)

The gaps between growth in money supply and private sector credit hit historic highs during the COVID-19 pandemic (see chart above). In the UK, loan growth exceeded money growth between August 2018 and December 2019. During the pandemic, however, the gap between money growth (15.4%) and credit growth (3.9%) widened to 11.5ppt in February 2021. In the EA, money growth (4.9%) exceeded credit growth (3.7%) by 1.2ppt at the end of 2019. The gap peaked at 8ppt in January 2021 – money growth of 12.5% versus credit growth of 4.5%.

**More recent YoY growth trends in UK and EA money and lending** (Source: BoE; ECB)

More recently, these growth rates have converged as the build-up of excess savings has slowed and credit demand has recovered (at least in nominal terms). At the end of 1Q22, money growth had slowed to 5.5% YoY in the UK while credit growth had risen to 3.7% YoY, a narrowing of the gap to only 1.8ppt. Similarly, in the EA, money growth at the end of 1Q22 had slowed to 6.3% YoY while credit growth was 4.7% YoY, a gap of 1.6ppt (see chart above).

Conclusion

What does this mean? Three key signals from the UK and EA money sectors have turned more positive: monthly HH money flows have fallen back below pre-pandemic levels; quarterly consumer credit flows have been positive since 2Q21 and have returned to pre-pandemic levels in the UK; and the gap between money supply and private sector credit growth has narrowed.

Macro challenges remain, but the message from the UK and EA money sectors is less bearish than consensus investment narratives.

Please note that the summary comments and charts above are extracts from more detailed analysis that is available separately.

“If confidence is collapsing – part 2”

We might expect HHs to repay consumer credit again

The key chart

**Quarterly flows in UK (£bn) and EA (EURbn) consumer credit** (Source: BoE, ECB)

The key message

If confidence is collapsing, we might reasonably expect households to be repaying consumer credit again. Are they…?

During the COVID-19 pandemic, households (HHs) in the UK and the euro area (EA) repaid consumer credit in four of the five quarters between 1Q20 and 1Q21 (see key chart above). The message from the money sector over this period was that HHs were increasing savings and delaying consumption.

Quarterly consumer credit flows have been positive since 2Q21, however, and have returned to pre-pandemic levels in the UK in 1Q22. Year-on-year growth rates have also recovered to their highest levels since February 2020 and March 2020 in the UK and the EA respectively. Before we get too excited, it is important to note that growth in consumer credit is negative in real terms (and EA HHs repaid €0.4bn of consumer credit in March 2022). So-called “faster indicators” also indicate that HHs in the UK are still delaying their spending on “delayable” good such as clothing and furniture indicating that the sustainability of consumption remains unproven still.

In short, the trends in two of the three key signals from the money sector remain positive, (if not that exciting). HHs in the UK and the EA have stopped hoarding cash and demand for consumer credit has remained positive. The recovery in the UK appears more advanced than in the EA, although current UK spending is concentrated towards work-related and staple items rather than delayable items.

The key message here is that while HH consumption patterns remain relatively subdued they are inconsistent with more extreme investment narratives.

Messages from the money sector were less optimistic than consensus investment narratives in 2H21 and less pessimistic than the current investment narrative now.

A positive for a macro-strategist currently “long cash”?

If confidence is collapsing – part 2

If confidence is collapsing, we might reasonably expect HH to be repaying consumer credit again. During the COVID-19 pandemic, HHs in the UK and the EA repaid consumer credit in four of the five quarters between 1Q20 and 1Q21 (see key chart above). Between 1Q18 and 4Q19, quarterly consumer credit flows averaged £3.6bn and €10.3bn in the UK and EA respectively. At the height of the pandemic (2Q20), UK and EA households repaid £13.2bn and €12.9bn respectively. The message from the money sector over this period was that HHs were increasing savings and delaying consumption.

Quarterly consumer credit flows have been positive since 2Q21, however, and have returned to pre-pandemic levels in the UK in 1Q22 (see chart above). UK consumer credit flows totalled £3.6bn in 1Q22, up from £3.3bn in 4Q21 and exactly in line with the average pre-pandemic quarterly flows. EA consumer credit flows totalled €4.4bn, down from €6.5bn in 4Q21. In contrast to the UK, current EA flows remain well below the pre-pandemic average flows of €10.3bn and EA HHs repaid €0.4bn of consumer credit in March 2022. Recall that in lesson #5 in “Seven lessons from the money sector in 2020”, I argued that,

“the UK is likely to demonstrate a higher gearing to a return to normality than the EA.”

**YoY growth rates in consumer credit in the UK and EA** (Source: BoE; ECB)

Year-on-year growth rates have also recovered to their highest levels since February 2020 and March 2020 in the UK and the EA respectively. In March 2022, UK and EA consumer credit grew 5.2% YoY and 2.5% YoY respectively (see chart above). Note again the relatively high gearing of the UK to a recovery in consumer credit demand. Before we get too excited, however, it is important to note that YoY growth in consumer credit is negative in real terms in both regions.

**Credit and debit card payments on durable goods compared with pre-pandemic levels**
(Source: ONS)

So-called “faster indicators” also indicate that HHs in the UK are still delaying their spending on “delayable” good such as clothing and furniture indicating that the sustainability of consumption remains unproven still. According to the latest ONS data, credit and debit card spending remains 12% below its pre-pandemic level and 51% below its 2021 high (see graph above). This makes delayable spending the weakest segment in current UK spending (see graph below). Overall card spending is just above pre-pandemic highs, reflecting relatively strong “work-related” and “staples” spending. The latter two segments are 24% and 13% above pre-pandemic levels respectively.

**Credit and debit card spending versus pre-pandemic levels broken down by type** (Source: ONS)

Conclusion

The key message here is that while HH consumption patterns remain relatively subdued they are inconsistent with the more extreme investment narratives that have gained popularity recently. Messages from the money sector were less optimistic than consensus investment narratives in 2H21 and less pessimistic than the current investment narrative now. A positive for a macro-strategist currently “long cash”?

Please note that the summary comments and charts above are extracts from more detailed research that is available separately.

“If confidence is collapsing – part 1”

Why have HH money flows fallen back below pre-pandemic levels?

The key chart

**Monthly HH deposit flows as a multiple of average pre-pandemic levels.** (Source: BoE; ECB)

The key message

If confidence is collapsing, why have household (HH) money flows in the UK and the euro area (EA) fallen back below pre-pandemic levels?

During the COVID-19 pandemic, HHs increased their holdings of liquid assets such as overnight deposits, despite earning negative real returns on those assets. In other words, the expansion of broad money over the period was a reflection of deflationary rather than inflationary forces, challenging the monetarist explanation for the current rise in inflation.

In both the UK and EA, monthly HH money flows have fallen back below pre-pandemic levels during 1Q22. These trends support the argument that forced savings, rather than precautionary savings, were the main driver of the spike in HH savings during the pandemic. This is important because forced savings can be released relatively quickly to support economic activity. Nonetheless, it would also be reasonable to assume that the level of precautionary savings would still be above pre-pandemic levels given the uncertainties caused by the Ukraine war, rising inflation and cost-of-living pressures. So far, at least, this does not seem to be the case…

…is the consensus narrative in relation to consumer confidence becoming too bearish?

If confidence is collapsing

If confidence is collapsing, why have household (HH) money flows in the UK and the euro area (EA) fallen back below pre-pandemic levels? Recall that these flows offer important insights into HH behaviour and were one of three key signals that CMMP analysis focused on throughout 2021 in order to interpret macro trends more effectively. The other signals were trends in consumer credit demand (growth outlook) and the synchronisation of money and credit cycles (policy context). I will turn to these signals in subsequent posts.

During the COVID-19 pandemic, HHs increased their holdings of liquid assets such as overnight deposits despite earning negative real returns (see key chart above). In the UK, monthly money flows peaked at £27bn in May 2020 and again at £21bn in December 2020, 5.8x and 4.5x average pre-pandemic levels of £4.6bn respectively. In the EA, monthly HH deposit flows peaked at €78bn in April 2020, 2.4x the average pre-pandemic level.

**Narrow money (M1) as a %age of broad money (M3)** (Source: BoE; ECB)

This meant that the expansion of broad money over the period was a reflection of deflationary rather than inflationary forces. Narrow money (M1), which comprises notes and coins in circulation and overnight deposits, has been increasingly important component/driver of broad money. In March 2022, M1 represented 68% and 73% of M3 in the UK and EA respectively (see chart above). This compares with respective shares of only 46% and 49% in March 2009. This matters for the simple reason that it challenges the monetarist explanation of rising inflation.

Money sitting idly in overnight deposits with banks contributes to neither growth nor inflation.

**UK monthly HH money flows (£bn) and multiple of pre-pandemic level (x)** (Source: BoE)

In both the UK and EA, monthly HH money flows have fallen back below pre-pandemic levels during 1Q22. In the UK, monthly flows in February and March 2022 were £4.1bn and £4.6bn respectively (see chart above). These compare with the average pre-pandemic flow of £4.7bn. In the EA, March 2022’s monthly flow of €16bn, was half the average pre-pandemic flow of €33bn (see chart below).

**EA monthly HH money flows (EURObn) and multiple of pre-pandemic level (x)** (Source: BoE)

These trends support the argument that forced savings, rather than precautionary savings, were the main driver of the spike in HH savings during the pandemic. This is important because forced savings can be released relatively quickly to support economic activity. Nonetheless, it would also be reasonable to assume that the level of precautionary savings would still be above pre-pandemic levels given the uncertainties caused by the Ukraine war, rising inflation and cost-of-living pressures.

So far, at least, this does not seem to be the case…is the consensus narrative too bearish?

Please note that the summary comments above are extracts from more detailed analysis that is available separately.