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Money Velocity: What the Latest Numbers Tell You

You can learn a lot from watching "how fast money changes hands"

by Bob Stokes
Updated: January 23, 2017

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[Editor's Note: The text version of the story is below.]

The U.S. GDP has shown steady annual improvement since 2010, but there may be a big red flag.

"Money velocity," or the rate at which money is changing hands, has experienced an alarming slowdown. Our Elliott Wave Theorist noted this back in May 2014:

Money velocity in the U.S. peaked in the third quarter of 1997 and has been falling ever since. The only significant bounce along the way is the one that accompanied the final three years of the real-estate mania from 2003 into the second quarter of 2006. From there, money velocity plunged along with financial markets into the second quarter of 2009, when the economy bottomed. All of this is normal behavior. But then, following an even weaker bounce, money velocity has been making new lows quarter after quarter since Q3 2010.

Here's an update: The rate at which money is changing hands in the U.S. economy now is even slower than it was in 2014. Reports Bloomberg (Jan. 18):

The problem is money velocity in the U.S. (as measured by M2) has fallen to a record-low of 1.44, meaning every dollar spent circulates only 1.44 times in the economy, down from over 2 times at the peak in 1997.

Why is the money velocity so low? This is from an article The Federal Reserve Bank of St. Louis published two years ago:

During the first and second quarters of 2014, the velocity of the monetary base was at 4.4, its slowest pace on record.

This implies that the unprecedented monetary base increase driven by the Fed's large money injections through its large-scale asset purchase programs has failed to cause at least a one-for-one proportional increase in nominal GDP.

So why did the monetary base increase not cause a proportionate increase in either the general price level or GDP?

The answer lies in the private sector's dramatic increase in their willingness to hoard money instead of spend it.

This only confirms what Conquer the Crash has said all along: The Fed is powerless against deflation, and the change in consumer behavior from spending to hoarding, as reflected by the falling velocity of money, is the psychology of deflation in action.

Of course, there is also an issue of debt. The same January 18 Bloomberg article notes:

"When debt is at high levels and increasingly counterproductive, the most important lesson of economic history is that the velocity of money falls," said [a legendary bond manager].

As the economy grew over the past seven or eight years, so did the debt. Says CNSNews.com (Jan. 19):

On Jan. 20, 2009, the federal debt was $10,626,877,048,913.08. As of the close of business Jan. 18, it was $19,961,467,137,973.64.

Of course, on top of national debt there's also personal debt. Today, the average household with credit card debt pays $1,292 in credit card interest per year, according to NerdWallet. Also, student loan debt has grown 186% during the past decade and today stands near a staggering $1,300,000,000,000 -- that's $1.3 trillion, "spread out among about 44 million borrowers." (Studentloanhero.com).

And U.S. consumers also carry loads of other forms of debt, such as mortgages and auto loans.

If the tanking velocity of money is a sign of a growing financial conservatism, it would only make the next economic downturn that much more dangerous.

Time-tested indicators are valuable tools in helping us and our subscribers to anticipate the approximate timeframe of the next major financial turn.
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