US credit trends support optimistic outlook

  • US consumer and corporate loan growth are picking up
  • The Fed ignores money, pays attention to credit
  • Central banks say one thing, do another

US broad money growth is accelerating again after easing somewhat in late 2020.[1] In the year to February, broad money grew by 14.1%. While this was the lowest number since November 2019, the three-month annualised rate, a better guide to recent trends, rose to 12%, the sixth consecutive monthly rise. The current mailing out of another batch of stimulus cheques to American households, will further boost broad money growth as the cheques are deposited in bank accounts.

But, as we know, the Federal Reserve ignores monetary developments. This is presumably one factor behind the Fed’s sanguine attitude towards market inflation fears as (mainly) expressed in higher bond yields. It also helps that the Fed’s new monetary policy framework means that it welcomes not only higher but also a period of above-target inflation.

If the Fed ignores money (the liabilities side of the banking system balance sheet), it pays the more attention to credit (the asset side). Normally, these two measures should broadly speaking develop in tandem. But, under special circumstances, like the pandemic, they need not do so, nor have they. Where broad money growth has been rapid, credit growth has at best been anaemic. The growth of credit to the non-bank private sector steadily weakened, from 8.6% in the year to February 2020, to -1.9% a year later.  For a monetary authority that ignores money and focuses on credit, this is a sign that activity will remain weak, that there is no risk of accelerating inflation and thus no need to change policy. And, of course, this is exactly what the Fed has said and done.

However, recent weekly credit data is showing a change. Thirteen-week (i.e., tree-month) annualised credit is slowly improving. Total loans and leases in bank credit contracted from early July 2020 to mid-February 2021 but has now been positive for four consecutive weeks. This is primarily driven by a rise in consumer borrowing, but commercial and industrial (c&i) loans are also improving, and 13-week annualised rates of -20% or more at the end of 2020, have now moved to very low single digits.

The stronger credit data is still new, maybe four or five weeks old. Moreover, short-term numbers can be very volatile. Nevertheless, they confirm the message from other data, such as business and consumer surveys and of course money. Together, they point to a healthy comeback in the US economy in 2021 and 2022.

Q4 US nominal GDP was 250 billion dollars or about 2.2% below its peak of a year earlier. In real terms, the shortfall was 2.3%. This will almost certainly be recaptured not just in 2021, but in the first half of the year. While that leaves the US below where it would have been absent the pandemic, it is still a significant milestone. 

This is of course also relevant from a different perspective. That inflation, not just in the US, will accelerate in the second and third quarters of the year, is generally accepted. This is partly due to calendar effects, as the numbers from last year drop out of the comparison. However, recent months have also seen an uptick in monthly inflation data. Although markets are now expecting higher inflation, they are almost certainly still underestimating how high it will be and how long it will remain.

In the meantime, monetary authorities are busy trying to tell markets that they will not resort to financial repression, a k a yield curve control, that is to say cap rising bond yields. Those reassurances would carry greater weight if they were not accompanied by actions that speak to the contrary, most recently the ECB, which has reiterated its commitment to “ensuring that favourable financing conditions prevail for as long as needed” in the face of “unwarranted upward pressure on the real term premium over the period of net asset purchases” (Speech by Executive Council member Isabel Schnabel on 25th March 2021.)

But whether central banks do or do not attempt to cap bond yields, bond markets cannot be seen as attractive. Either yields will rise because markets fear inflation, in which case the short-term outlook is bad; or yields will be capped by central bank action, in which case losses will be temporarily suppressed but will accumulate, meaning the long-term outlook is bad. Where does this leave equities? As long as public largesse remains on the card, they should do well. But if bond markets drive stock markets – as they currently seem to be doing – weaker bonds will ultimately mean weaker stocks. This leaves real estate as the last attractive asset; but here we have the damage wrought on the retail and office sectors by the pandemic, a damage whose long-term impact we still cannot fully gauge.

Gabriel Stein

[1] I have slightly modified my US broad money measure. Previously I stripped out checkable deposits held by the Federal Government under the assumption that these are not part of money supply and should not be counted. However, these were of course not held in commercial banks and should therefore not have been subtracted from the total. The consequence of changing this has been to boost broad money growth relative to previous estimates. Many thanks to my former colleague Simon Ward, who pointed out my error.