Monday, November 25, 2013

Two Charts to Explain Why The Market Keeps Moving Higher in Spite of a Weak Economy

The Federal Reserve Bank of St. Louis has a website that is an excellent source of data and graphs.

Nicknamed "FRED" (for "Federal Reserve Economic Data"), the site provides "154,000 economic data time series from 59 national, international, public, and private sources" which is more than enough to satisfy even the most wonkish analyst.

Here's the link:

FRED was recently updated, so I spent a little time this weekend on the site looking at some of the charts.

Here were two that caught my eye.  In my opinion, they provide most of the explanation for the apparent disconnect between anemic economic growth and the relentless rise of the stock market.

As we all know, the Federal Reserve has been aggressively adding monetary stimulus to the economy.  This chart illustrates just how large the stimulus has been in the past few years:
Graph of M2 Money Stock

If you look carefully, you can see the Fed has added almost $4 trillion to monetary stock since 2009. This is roughly the same amount that the entire M2 money supply had reached in the year 2000.

Unfortunately for the economy, most of this monetary stimulus has been squirreled away.

The velocity of money - which measures how the rate at which a unit of currency is used to purchase goods and services within a given time period - is at all-time lows:

 Graph of Velocity of M2 Money Stock

In times gone by, money added to the economy would have spent on consumption and investment, which would eventually lead to stronger economic growth and more employment.

However, these are unusual times.  Instead of leading to an uptick in the economy, the Fed's increase in money supply is being simply added to the bond and stock markets.

Yields remain low, stock prices move higher, but the real goal of the Fed's activities (economic growth) is not being achieved.