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Guest Post: U.S. Dollar Money Supply Is Underreported

Tyler Durden's picture


Submitted by James Turk, of

US Dollar Money Supply Is Underreported

unprecedented ways.  Therefore, it is logical to assume that these

the following guidelines that identify the several different forms of
dollar currency used in commerce:

Reserve float.


These esoteric definitions can be confusing, so let’s bring US
dollar currency back to basics as the first step to explaining why
these definitions are no longer adequate. 

There are two types of dollar currency comprising the money supply –

1) Cash Currency

redeeming it for silver, or until 1933, gold.


2) Deposit Currency

deposit in the banking system.  These dollars circulate as currency

Bank deposits take three standard forms – checking accounts, savings

Dollars in checking accounts are considered to be the most liquid
frequently used as currency. 

and therefore available for use in commerce when they mature, or
Creating Currency

Having provided this background information, we can now get to the
on the monetary balance sheet of the US dollar.  

recorded on the Federal Reserve’s balance sheet.  Basically, the Fed
‘monetizes’ an asset by turning it into currency. 

its liability.  These Federal Reserve Notes are the “currency”
component in the definition of M1 above.

asset and creates deposit currency as its liability.  Simple
bookkeeping entries increase the bank’s assets and liabilities by the
same amount. 

New deposit currency is created because the bank deposits the amount
the security.

Regardless whether deposit currency is created by the banking system
dollars increases.   The total amount of deposit currency in checking
definition of M1 above.

Measuring the Quantity of Dollars


For historical reasons unimportant to the point of this analysis,
the Federal Reserve in the past has only created cash currency. 
However, the unprecedented changes it has engineered over the past two
years have resulted in a vast amount of deposit currency being created
assets by turning them into currency – the Federal Reserve since the
start of the financial crisis has increasingly relied upon deposit
currency to purchase paper.

Regardless how the Federal Reserve pays for the paper it purchases –
cash currency or deposit currency – it is creating dollar currency and
perforce expanding the money supply.  But the traditional definition of
M1 does not accurately capture this process when the Fed uses deposit
Because the Federal Reserve did not create deposit currency in the
past, none of the Ms take it into account. 

Consequently, the traditional definitions of the Ms are outdated
because they do not capture the total quantity of dollars in
circulation.  Because M1 is underreported, so too is M2.

Unprecedented Deposit Currency Creation by the Fed

There has been an unprecedented amount of deposit currency created

From December 2002 until the collapse of Lehman Brothers in
September 2008, the quantity of deposit currency created by the Fed
averaged $11.8 billion, an amount that is relatively insignificant
$1,246.2 billion, which of course is highly significant. 

traditional definition of the Ms.  The quantity of dollar currency is
therefore significantly underreported, which is illustrated by the
following chart.

The Federal Reserve reports M1 to be $1,716 billion
as of February 15th.  When deposit currency created by the Federal
Reserve is added to the traditional definition of M1, M1 after
dollar currency that is approaching hyperinflationary levels. 

inflated and worryingly, the rate of new currency creation is
approaching hyperinflationary levels.  Unless the Federal Reserve


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Tue, 03/02/2010 - 13:23 | 251139 Hondo
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And the money (credit) the CDS market creates??

Tue, 03/02/2010 - 13:39 | 251164 mblackman
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Tue, 03/02/2010 - 15:19 | 251319 the grateful un...
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Tue, 03/02/2010 - 17:58 | 251573 Anonymous
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Tue, 03/02/2010 - 13:40 | 251165 GlassHammer
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So its not the unstable Euro?


Tue, 03/02/2010 - 13:41 | 251170 SDRII
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Tue, 03/02/2010 - 13:49 | 251183 Ripped Chunk
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Tue, 03/02/2010 - 19:44 | 251706 johngaltfla
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Tue, 03/02/2010 - 14:18 | 251220 chumbawamba
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I am Chumbawamba.

Tue, 03/02/2010 - 16:11 | 251412 Anonymous
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Can we trust any numbers the government puts out anymore?
This was a great post. It explains a lot.

Tue, 03/02/2010 - 18:02 | 251578 aaronvelasquez
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Welcome back.

Tue, 03/02/2010 - 18:04 | 251581 Celsius
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I am not Chumbawamba.

Tue, 03/02/2010 - 14:30 | 251230 Ludic Fallacy
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Tue, 03/02/2010 - 15:03 | 251297 pidge
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Tue, 03/02/2010 - 15:04 | 251299 faustian bargain
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Nice name.

Tue, 03/02/2010 - 15:42 | 251361 SV
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Sound like a start to a good chuckle!

Tue, 03/02/2010 - 22:52 | 251850 baronvonbull
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Wed, 03/03/2010 - 12:29 | 252377 trav7777
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It's worse than that.




That's why every government now looks like end-stage Bamboo Lounge

Tue, 03/02/2010 - 14:35 | 251245 Anonymous
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Tue, 03/02/2010 - 14:47 | 251262 Anonymous
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Tue, 03/02/2010 - 16:05 | 251394 faustian bargain
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Tue, 03/02/2010 - 23:38 | 251903 TheGoodDoctor
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Tue, 03/02/2010 - 16:17 | 251421 Anonymous
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Tue, 03/02/2010 - 14:51 | 251274 Shameful
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Tue, 03/02/2010 - 15:34 | 251347 Anonymous
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Tue, 03/02/2010 - 16:21 | 251428 Shameful
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Tue, 03/02/2010 - 15:13 | 251312 Ludic Fallacy
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Tue, 03/02/2010 - 15:31 | 251340 Anonymous
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Latest report from the Fed indicates that M2 actually is declining.

Tue, 03/02/2010 - 15:33 | 251344 Anonymous
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Poorly written article.

Tue, 03/02/2010 - 16:19 | 251426 Anonymous
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Tue, 03/02/2010 - 17:49 | 251558 Anonymous
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He's a wingnut who runs a buy gold immediately website.

Tue, 03/02/2010 - 19:08 | 251666 goldfreak
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Tue, 03/02/2010 - 15:49 | 251373 the grateful un...
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Tue, 03/02/2010 - 16:03 | 251393 Anonymous
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Tue, 03/02/2010 - 16:50 | 251479 carbonmutant
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Economic Reality Check…

...latest updates from the St. Louis Fed…




Tue, 03/02/2010 - 16:58 | 251490 Anonymous
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Tue, 03/02/2010 - 17:05 | 251499 Anonymous
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Tue, 03/02/2010 - 23:00 | 251859 Ned Zeppelin
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Tue, 03/02/2010 - 17:12 | 251510 Ludic Fallacy
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Tue, 03/02/2010 - 17:36 | 251541 Anonymous
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Stop now before you get MsCreant aroused.

Tue, 03/02/2010 - 17:39 | 251547 glenlloyd
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With all the other Govt shitnanigans this should surprise no one.

Tue, 03/02/2010 - 17:51 | 251563 faustian bargain
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Tue, 03/02/2010 - 18:33 | 251626 hooligan2009
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Tue, 03/02/2010 - 23:05 | 251863 Ned Zeppelin
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Tue, 03/02/2010 - 18:43 | 251639 Anonymous
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So, a question for ZH'ers...


Because without it, we'd be seeing dramatic deflation?




Tue, 03/02/2010 - 19:49 | 251709 johngaltfla
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Hell, there wouldn't be a bank left in Florida.


Tue, 03/02/2010 - 20:48 | 251739 the grateful un...
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Tue, 03/02/2010 - 23:07 | 251869 Ned Zeppelin
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Tue, 03/02/2010 - 19:01 | 251657 hooligan2009
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Tue, 03/02/2010 - 19:08 | 251665 Mark Beck
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For the latest on the FED balance sheet go to:

Estimated currency in circulation is:

$932,489 Million



Making home affordable:





Mark Beck

Tue, 03/02/2010 - 19:23 | 251686 hooligan2009
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I don't agree with the assertion that the Fed want to see wealth destruction for taxpayers. I agree that this is the result, and that the economics is flawed and out of date. The problem lies with an open economy and companies seeking to game the domestic systems in the US and overseas (with banks being the fastest moving, but by no means the only players) whilst at the same time applying tough employment (equality/health care/working conditions) domestically and then exporting capital to areas across the globe where these employment conditions don't exist. The Fed would rather be boring. Unfortunately, you ask a boring person to start putting out a wild fire, the results are predictable. MY point is that the model being adopted cannot work a) because it hasn't worked in Japan and b) because if it ever could work we would have spotted Nirvana a long time before. Solutions are analagous to the previous post of returning to barter, by putting this model out of its misery. It serves no useful social function; we can call it economic if we want. But economics is the prediction of possible outturns from historic relationships, the more the better. Human beings can act in predictable ways, but one of those ways is breaking the law if the law is an ass and you would otherwise be hurt (hunger or illness or abbreviated life). People know when they are living beyond their means and when they are poor and when they have cheated and when they have worked hard. The Fed doesn't, it has no moral compass. Hence we need a new model. In short, the Fed is doing what it is being paid to do. It has no morals, in the same way that money has no emotions. This agrees with your point of making the Fed accountable, but I have no wish to, for example, see a rapist being shown to be a rapist. I already know what rape is.

Tue, 03/02/2010 - 19:54 | 251713 Anonymous
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This article is true in spirit but wrong in its facts. Does the author really believe the Fed until recently made its purchases with boxes full of freshly printed bills? Horsefeathers! The Fed has traditionally used deposit currency to make its purchases, of course. That has not changed.

However, the deposit currency that the Fed uses to make purchases or lend out money is a special kind of deposit currency, called reserves. And those reserves are not counted in M1 or M2, for reasons that have indeed been out of date since the financial crisis.

Before the financial crisis, reserves earned zero interest. Therefore, banks engineered their balance sheets to ensure that they never held more reserves than required. Therefore, the reserves that banks were holding were extremely unlikely to be used as currency in transactions. Therefore, reserves were not counted in money supply measures.

As a result of the financial crisis, the Fed began paying interest on reserves (after asking for, and receiving, permission from Congress). Since then, the Fed has paid a higher interest rate (currently 0.25%) than banks would get by lending overnight to other major banks (currently about 0.12%). So banks are motivated to keep large amounts of reserves in excess of the amounts they are required to hold. These "excess reserves", as they are labeled in Fed reports, are quite likely to be used as currency in interbank transactions. They should be included in both M1 and M2, but still are not.

Actually, this issue is more complex. One crucial fact about reserves is that the only way one can withdraw reserve dollars is to ask the Fed to deliver them in bills.

Thus, under the old regime, with zero interest paid on reserves, when the Fed created excess reserves by making purchases or lending out money, it stimulated banking activity to the extent sufficient to lift demand for paper currency by the same amount of dollars. And that increased banking activity generally created several commercial bank dollars for every reserve dollar converted into bill form.

Under the new regime, with more interest paid on reserves than on overnight funds, when the Fed creates excess reserves by making purchases or lending out money, those reserves will most likely be retained as reserves and thus not lead to the creation of commercial bank dollars.

That explains why the Fed wanted to pay interest on reserves. The Fed wanted to make huge amnounts of purchases and loans, in excess of the volume of paper currency in circulation, without stimulating banking activity to such an extent that demand for currency would more than double (which would only happen if inflation was >100%).

Sorry for such a long explanation, but I hate to see wrong facts.

Tue, 03/02/2010 - 22:36 | 251830 Anonymous
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Very insightful.

Would love to study the issues you mention further. Any books or papers you could recommend?

Tue, 03/02/2010 - 20:00 | 251715 Anonymous
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Im poor..soooo...Silver,Byatches!!!

Tue, 03/02/2010 - 21:44 | 251767 Anonymous
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god bless james turk....this clears up my repeated questions concerning the the relationship between excess reserves and mx....i still fear that they have been used to buy bonds....are the banks afraid to lend? is that why the money is holed up in the fed? i can't buy that argument if the economy is recovering and the banks are as sound as shitla bair and ben berquanke say....

those funds are encumbered and i want to know why.....

Wed, 03/03/2010 - 00:53 | 251963 Yori
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its been a while since my financial accounting classes but when they say:

When a bank makes a loan or purchases a security, it records the loan or security as its asset and creates deposit currency as its liability.  Simple bookkeeping entries increase the bank’s assets and liabilities by the same amount. 

does the fully-funded (i.e. no margin or leverage) purchase of a security actually increase the balance sheet or is it just a transfer on the asset side from cash to investment. it's only when leverage is involved that the balance sheet actually increases right?

so knowing that (if that is the case), isn't there a way to back out the actual "money" that has been created (because as you mention in the article, the fed is the only one that can actually 'monetize' new bills) by calculating the money multiplier or leverage ratio to deduce how much has been 'printed' versus how much is due to leverage. it is the printing that is worse than the multiplying and in the run-up to the crisis, banks did become a little more levered perhaps than in the past.



Wed, 03/03/2010 - 02:37 | 252007 halcyon
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Silly scare-mongering from a gold-bug who doesn't understand (or plays as if he doesn't) central banking and money aggregates.

Why do you keep listening to these gold-pushers?

"Hey, I've got a car to sell!"

"All other cars in the world are prone to horrific explosions."

"Only my car is safe & the price is going up, Buy, buy, buy!"

You can't blame them for not trying - that's for sure :)


Wed, 03/03/2010 - 07:21 | 252082 Anonymous
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James Turk is partly mistaken. The U.S. Dollar money supply is NOT underreported and it would be absurd to include the over one trillion USD of new excess reserves in the M1 and M2 measures. However, it IS extremely important that people pay attention to these newly created excess reserves and one can do this by tracking the St. Louis Fed's monetary base statistics:

The electronic (some required and some excess) "Federal Reserve deposits" that banks hold at the Fed are nothing but "claims to Federal Reserve Notes" that can be redeemed for paper Federal Reserve Notes by the banks at any time and for any reason. Similarly, banks can also exchange paper Federal Reserve Notes for electronic Federal Reserve deposits at any time; they are thus considered to be completely interchangeable. However, bank reserves (whether in the form of actual paper Federal Reserve Notes in the banks' vaults or in the form of electronic "Federal Reserve deposits" at the Fed) are never included in money supply measures because that would involve double counting. Banks create their own electronic deposit money via fractional reserve banking by pyramiding "fiduciary media" (i.e. checking and savings deposits that are only partially backed by USD reserves but should be fully backed by issued bank loans) on top of their reserves. Since money supply measures attempt to count up all the money IN CIRCULATION (whether it be in the form of paper Federal Reserve Notes or bank-created fiduciary media), they cannot count bank reserves, on top of which the banks pyramid fiduciary media, because these must necessarily be OUT OF CIRCULATION.

That being said, it is certainly true that one should pay close attention to the aforementioned monetary base, which DOES include all Federal Reserve deposits, because banks can easily and quickly put them into circulation directly by lending them out electronically (or even indirectly by redeeming them for printed Federal Reserve Notes and spending them on bonuses, vacations, or whatever they want). In order to entice the banks to NOT put these Federal Reserve deposits into circulation, the Fed is currently paying 1/4 of a percent interest on them if they are held at the Fed and not lent out or redeemed for Federal Reserve Notes. In the future, the Fed will probably have to increase this interest rate in order to keep them out of circulation. But that doesn't really solve the problem; it only postpones the day of reckoning.

In conclusion, James Turk is mistaken to believe that Federal Reserve deposits should be included in M1 and M2 money supply measures, but quite justified in advising people to pay closer attention to the monetary base.

Wed, 03/03/2010 - 10:42 | 252198 Anonymous
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Counting excess reserves as M1 would not be double-counting, #252082 is wrong on that point. Counting required reserves would be like double-counting.

As I explained above (#251713), when no or too little interest is paid on reserves, the creation of excess reserves motivates the banking system to increase activity up to the point that demand for paper currency is increased by an equivalent amount of dollars, and in the process, several new commercial bank dollars are created. Actually, I left out a minor detail: banks' creation of new commercial bank dollars also increases their reserve requirements. So the complete story of how new excess reserves are drawn down is this: most of the excess reserves becomes paper currency, an amount several times that of new commercial bank dollars is created, and a small portion of the excess reserves become required reserves.

That is what #252082 is referring to when he says 'Banks create their own electronic deposit money via fractional reserve banking by pyramiding "fiduciary media" (i.e. checking and savings deposits that are only partially backed by USD reserves but should be fully backed by issued bank loans) on top of their reserves'. When excess reserves are converted into paper currency plus commercial bank money, that creation of commercial bank money is the increase in money supply. The smaller increase in required reserves is not an additional increase in money supply.

However, we are talking about an entirely different situation now. The Fed is creating large amounts of excess reserves, the vast majority of which are not being converted into anything. Most are being retained as excess reserves, which does not lead to any increase in commercial bank money, nor of required reserves. You can see this for yourself by examining the Fed's money supply measures since the crisis. M0, which includes paper currency plus reserves, skyrocketed. M1 and M2, which include paper currency and different subsets of commercial bank money, but do not include reserves, have inched upward. If creation of excess reserves always leads to M1 and M2 creation, where's the new M1 and M2? It's not there, because creation of excess reserves does not lead to M1 or M2 creation when excess reserves are retained as excess reserves.

Excess reserves can be, and are highly likely to be used in transactions. Therefore they should be included in M1 and M2.

Fri, 04/16/2010 - 10:03 | 303794 Tom123456
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