The key chart
The key message
In typical cycles, monetary aggregates and their key counterparts move together. 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. Today’s ECB data release reinforces the extent to which money and credit cycles in the euro area diverged during 2020 and how atypical the current relationship between them has become.
This yawning gap has important implications for investors, especially those arguing for asset allocation shifts towards cyclical and value plays and shorter duration trades. The message from the money sector with elevated uncertainty, low confidence, weak consumption and subdued credit demand, remains a clear, “not so fast.”
Money sitting in overnight deposits drives neither GDP nor higher inflation.
The six charts that also matter
Broad money (M3) grew 12.3% YoY in December 2020, up from 11.0% in November, the fastest rate of growth since November 2007. In comparison, adjusted loans to the private sector grew by only 4.7% YoY, unchanged from November and the average growth recorded over the 2H20. The gap between the growth in money supply and private sector borrowing hit a record high of 7.6ppt (see key chart above).
What is driving M3 growth? Narrow money (M1) grew 15.6% YoY, up from 14.5% in November, and contributed 10.7ppt to overall money growth (see chart above). Both the growth rate in M1 and its contribution were new, record highs. The private sector continued to increase holdings of the most liquid assets in 2020 despite earning negative real returns on those investments.
Monthly flows into household deposits since January 2019 – horizontal line indicates 2019 average flow (Source: ECB; CMMP)
Monthly deposit flows by households and corporates peaked in March-April 2020 but remain well in excess of average 2019 monthly flows. December’s monthly flow of household deposits (€53bn), for example, was 1.6x the average monthly flow recorded in 2019 (€33bn). In the 2H2020, the monthly flow of household deposits averaged €50bn. In other words, while HH uncertainty peaked in March-April 2020, it ended the year at a very elevated level (see chart above). Over the same period, the more volatile NFC deposit flows averaged €25bn, more than double the average flows recorded in 2019 (not shown here).
From a counterparts perspective, credit to general government and to the private sector contributed 8.1ppt and 5.6ppt to money growth respectively (see chart above). For reference, the respective contributions to the 4.9% money growth in 2019 were 3.7ppt and -0.7ppt respectively. Note the important role played by credit to general government here.
As before, relatively robust NFC credit (7.0%) and resilient mortgage demand (4.7%) offset weakness in consumer credit (-1.6%). Note that, EA households paid down consumer credit in three of the last four months on 2020 (see chart below).
Conclusion
Money growth in 2020 reflected fiscal and monetary easing in response to weak private sector demand and rising savings (with added uncertainty regarding the extent to which rising savings are forces or precautionary). These trends are in direct contrast to the pre-GFC period when money expansion was driven primarily by strong, or excess, private sector credit.
At the start of 2021, some were arguing that rising money supply suggests higher inflation and supports asset allocation shifts towards cyclical and value plays and shorter duration trades. The message from the money sector with elevated uncertainty, low confidence, weak consumption and subdued credit demand, remains a clear, “not so fast.”
Please note that the summary comments above are extracts from more detailed analysis that is available separately. A more comprehensive treatment of the components and counterparts of M3 can also be found in “Don’t confuse the messages” posted in October last year.