The era1 of US Dollar reserve currency status started in 1971, when Richard Nixon ended convertibility to gold. The present issues have taken a long time to evolve but are a consequence of that decision.
Yesterday we showed how GDP had declined against the M2 money supply2 since the global financial crisis in 2008-09. Liquidity soared but GDP growth failed to respond to quantitative easing and ultra-low interest rates.
Even when we adjust M2 money supply for recent actions that remove liquidity — commercial bank investment in Treasury & Agency securities and overnight reverse repo from the Fed — there is a sharp fall in money velocity.
With the 2020 pandemic, the Fed doubled down, boosting liquidity and cutting interest rates even further. Bank credit has slowly started to recover.
But results are miniscule compared to the Fed’s $3.9 trillion liquidity injection.
Declining bank credit relative to M2 over the past two decades tells a similar story.
With GDP also declining relative to bank credit.
And unlikely to recover in the foreseeable future.
Conclusion
Fed monetary policy — with quantitative easing and record low interest rates — has not achieved a recovery in GDP growth over the past two decades. It was never designed to do that. Its primary purpose is to fund the federal deficit.
The only way to achieve a true economic recovery, with robust GDP growth, is to end the Dollar’s reserve status. The US has been forced to run massive current account deficits to support the Dollar’s reserve status, eroding the competitiveness of domestic industry in export markets and against imports in domestic markets.
Eliminate the current account deficits and you will eliminate the primary need to run federal deficits — and for the Fed to expand its balance sheet to support them. You will also enhance the competitiveness of US industry.
The longer the Dollar continues as global reserve currency, the higher federal debt will rise, while GDP growth falls.
Notes
- Intentional (era >> error).
- In economics jargon the ratio GDP/M2 is referred to as the velocity of money.
Colin Twiggs is a former investment banker with almost 40 years of experience in financial markets. He co-founded Incredible Charts and writes the popular Trading Diary and Patient Investor newsletters.
Using a top-down approach, Colin identifies key macro trends in the global economy before evaluating selected opportunities using a combination of fundamental and technical analysis.
Focusing on interest rates and financial market liquidity as primary drivers of the economic cycle, he warned of the 2008/2009 and 2020 bear markets well ahead of actual events.
He founded PVT Capital (AFSL No. 546090) in May 2023, which offers investment strategy and advice to wholesale clients.