For months, we've been reporting on the most ominous number for the economy and investors: the record drop in the nation's money supply as measured by the broad aggregate, M3: (http://markostake.blogspot.com/2010/08/unusual-uncertainty-meets-qe2.html). This one set of data virtually guarantees not only an intensifying downturn in the economy but major problems for both the financial system and the markets.
Recently, however, the first signs of a possible reversal have presented themselves. M2, which is the broadest money measure now formally tracked by the Fed, has begun rising regularly (seasonally-adjusted) on a weekly basis since the 4th of July, at an annualized pace of 7.8%. The impact on M3 has been positive but muted, with year-over-year M3 change down 4.3% as of August.
While this is a positive development, it is at best, a case of "too little", "too late". Even with the recent uptick in M3 growth, it is still in a zone consistent with both vicious economic downturns and stock market waterfalls. It would take, at the very least, a growth rate in the mid-single digits to starting turning the Titanic away from the iceburg. And, like the famous cruise ship, the economy has way too few life boats. And, the largest economy in the world, just like the largest steam liner, is thought to be unsinkable. And, there will be few survivors.
The Fed has pulled out all stops to liquefy the financial system and has had about as much success at turning the ship in time as Captain Edward John Smith. Like Smith, they didn't notice the economic iceburg until it was way too late.
The Fed, the Department of Treasury, and the Obama Administration have re-arranged the economic deck chairs by wasting valuable resources on poorly thought-out bailouts, nationalization of the banking sector and purchasing toxic assets. The bill for all this mismanagement? Who knows? A trillion here, a trillion there, and pretty soon we're talking about REAL money.
The best case scenario, assuming that M3 begins to reverse and grow, is for a solid and nasty 6 month downturn. Once the money supply turns meaningfully positive, it typically takes at least 6 months for the effects to filter through the system. Whatever turn does occur will only take place from MUCH lower levels.
The U.S. economy is like an addict requiring greater and greater doses of monetary (cocaine) injections to keep it going. Fed Chairman Ben Bernanke, like a good drug lord, has a very hooked population who now need pounds, not ounces of crack to stay stimulated. Time to switch to heroine? No, better yet LSD, so we can hallucinate ourselves into believing that "Helicopter" Ben can keep the high going.
In the interim, the beneficiaries of "Helicopter" Ben's economic crack pipe have been the stock market and Gold. Stocks remain absurdly buoyant despite a rapidly deteriorating technical and fundamental situation. Gold just benefits from economic stupidity, plain and simple.
Even if the Fed is successful in reversing M3, the "side effects" of the economic drug policy will be an overdose which ought to lead to hyper-inflation. Pick your poison. Avoid Depression but get hyper-inflation, while Murphy's Law says we'll get both.
How to survive this "do or die" situation? Use Gold as your flotation device.