Federal Reserve Q4 2007 Z.1 “flow of funds” report.
For the year, Total Credit (Non-Financial and Financial) expanded a record $3.998 TN (8.9%) to $48.808 TN. This was a moderate increase from 2006’s growth of $3.859 TN (9.4%), and compares to 2005’s $3.310 TN, 2004’s $3.178 TN, 2003’s $2.779 TN, 2002’s $2.781 TN, 2001’s $2.020 TN, and 2000’s $1.679 TN. Total Credit Market Debt averaged $2.500 TN annual growth over the 10-year period 1997 to 2006. Non-Financial Credit increased $2.351 TN (8.1%) in 2007, compared to the previous year’s $2.334 TN. Financial Credit surged $1.569 TN (11.1%), up from 2006’s $1.273 TN (9.9%) and 2005’s $1.015 TN (8.5%). It is worth noting that Financial Sector Credit growth averaged about $500bn annually during the nineties.
In true Bubble blow-off fashion, total Corporate debt expanded at a 12% annualized rate during the fourth quarter, with 2007's growth of 11.6% the strongest since 1998. Now that Bubble has burst as well. We’re now poised for a year of significantly slower debt growth – a serious dilemma for both the highly over-leveraged financial sector and the deeply mal-adjusted U.S. Bubble Economy. The negative effects to the real economy from a lack of Credit are becoming increasingly evident.
Bursting Credit Bubble dynamics were certainly discernible in Q4 data. Financial Sector Debt growth slowed sharply from Q3’s 15.7% rate to a somewhat more moderate 9.0%. The previously hot Asset-Backed Securities (ABS) sector hit the wall, contracting at a SAAR (seasonally-adjusted and annualized rate) $282bn – for perhaps the first ever quarter of negative ABS growth. Recall that ABS expanded a record $773bn during 2006 (24%). And the Securities Broker/Dealers contracted SAAR $701bn during Q4, after expanding a record $615bn (28.9%) during 2006. REITs posted negative growth for the quarter, as did Finance Companies. In the real economy, Total Compensation expanded at a 4.1% rate during Q4, down notably from Q3’s 6.3%, Q2’s 6.2%, Q1’s 6.0%, and Q4 ‘06’s 6.5%. The interplay between weakening Credit dynamics and income growth will be of major consequence this year and going forward.
Of course, the root of the problem can be traced to faltering real estate finance. Total Mortgage Debt (TMD) growth slowed to SAAR $864bn during Q4 (5.9% rate), down sharply from Q3’s SAAR $1.050 TN (7.7%) and Q2’s SAAR $1.208 TN (9.2%). Home Mortgage Debt growth slowed to a 4.5% annual pace, down from Q3’s 6.5% and Q2’s 7.9%. Even the booming Commercial Mortgage sector slowed markedly, with the 9.3% rate down from Q3’s 11.2% and Q2’s 15.0%. We can safely forecast that these numbers will “fall off a cliff” during Q1.
For all of 2007, TMD growth slowed to $1.057 TN (7.8%), down from 2006’s $1.404 (11.6%), 2005’s $1.432 TN (13.4%), 2004’s $1.270 TN (13.5%), 2003’s $996bn (11.9%), 2002’s $905bn (12.1%), 2001’s $708bn (10.4%), and 2000’s $561bn (9.0%). TMD averaged $268bn annually during the nineties. I’ll throw out a guess of less than $500bn of TMD for 2008, a number greatly insufficient to sustain still inflated home values. And while home prices captivate the media, an abrupt shut down in commercial mortgage Credit is in the process of a rather problematic bursting of commercial real estate price Bubbles as well.
Bank Mortgage loans actually expanded at a 13.5% rate ( SAAR $510bn) during the quarter to $3.633 TN. Total Bank Credit expanded at a 13.8% rate ( SAAR $1.270TN) during Q4 to $9.163 TN. Along with Mortgages, commercial Loans expanded at a 23.6% pace to $2.012 TN ( SAAR $474bn). The asset Security Credit jumped SAAR $108bn, and Corporate & Foreign Bonds rose SAAR $225bn. Treasury Securities increased SAAR $48bn, while Agency and GSE Securities contracted SAAR $225bn. Whether by choice or, more likely, necessity, the banking sector significantly increased its risk asset holdings at an inopportune time. For the year, Bank Credit expanded a record $992bn, or 9.7%, the strongest pace of expansion in 10 years.
With the market for “private-label” mortgage securities dislocating (see ABS analysis), the GSEs were left to take up the slack. Agency MBS expanded SAAR $784bn to $4.443 TN, a record showing. The fourth quarter's 18.8% expansion increased 2007 Agency MBS growth to 15.8%, double the pace from 2006. In fact, last year's $606bn increase in Agency MBS was approaching double the previous record increase ($338bn) set back in 2001. Meanwhile, GSE Assets (as opposed to MBS guarantees) expanded at a 12.9% rate during the quarter to $3.183 TN. For the year, GSE assets expanded $310bn (10.8%), up significantly from 2006’s $56bn (1.9%) to the largest expansion since 2001 ($344bn). Federal Home Loan Bank System (FHLB) Advances jumped by more than a third last year to $873bn. Total agency securities (debt and MBS) issuance surged to SAAR $1.128 TN during Q4, with 2007's $888bn issuance almost three times the volume from 2006 ($331bn) and more than 10 times 2005 ($83bn). It was not a good time for the highly leveraged and exposed GSEs to significantly increase their risk profiles.
The ABS Bubble came to an abrupt conclusion during Q4. After expanding at a 24.4% pace during Q4 2006, growth slowed to 10.6% during Q1, 12.1% in Q2, 0.9% in Q3 and then a contraction of 6.1% during Q4. For the year, ABS growth slowed markedly to 4.4% ($177bn), ending the year with outstandings of $4.221 TN. Last year's growth was down sharply from 2006’s 23.6% ($773bn) growth, 2005’s 25.8% ($671bn), and 2004’s 19.6% ($426bn). Importantly, the ("Wall Street-backed") ABS market ballooned $2.47 TN in four years, or 94%. This historic issuance of fundamentally weak Credits - at the finale of a prolonged Credit Bubble - will haunt our system for years to come.
Securities Broker/Dealer assets contracted SAAR $701bn during the quarter to $3.095 TN. This reduced 2007 growth to $354bn, or 12.9%. This was down from 2006’s record $615bn (28.9%) expansion. Broker/Dealer assets ballooned 132% in five years. For the year, the asset Credit Market Instruments grew 40% to $815bn. Agency/MBS holdings doubled to $278bn. Corporate bonds increased $43bn, Security Credit $33bn, and Misc. Assets $35bn. On the Liability side, Security Repos increased $79bn to $1.151 TN. Due to Affiliates was little changed at $901bn.
Taking up the slack from faltering Wall Street securitization markets, Money Market Funds expanded an unprecedented SAAR $820bn during Q4 to $3.053 TN. For the year, Money Funds rose $740bn, or 32%. Examining the increase in asset categories, Repos increased $175bn (44%) to $570bn, Open-Market Paper $103bn (17%) to $711bn, Treasuries $95bn (115%) to $178bn, Municipal debt $103bn (28%) to $474bn, and Agency obligations $81bn (61%) to $212bn. Corporate bond holdings were little changed for the year at $377bn.
Examining various other Financial Sector categories, Fed Funds and Repos declined at a 31% rate during Q4 to $2.571 TN. This reduced 2007 growth to $77.5bn (3.1%), down sharply from 2006’s $496bn (25%) expansion. Savings Institutions reduced assets at an 11.4% pace during Q4 to $1.815 TN, reducing 2007 growth to 5.8%. REIT liabilities contracted at a 9.0% rate during Q4 to $588bn. REITs liabilities were down $33bn during 2007 (6%), after expanding $93bn during 2006. Finance Company assets contracted at a 2.6% rate during Q4 (to $1.911TN), reducing 2007 growth to 2.9%. Credit Unions expanded at a 5.3% pace during Q4 (to $759bn) and 6.0% for the year.
As always, the Household (and non-profit) Balance Sheet provides invaluable Credit Bubble insight. For the first time since 2002, Household Assets actually declined ($308bn) during the quarter. Both Real Estate ($95bn) and Financial Asset ($254bn) values fell, although this decline was quite moderate compared to what will unfold this year. And with Household Liabilities increasing $225bn, Household Net Worth actually declined $533bn during Q4. For all of 2007, Household Assets increased $2.838 TN (4.1%) to $72.093 TN, while Liabilities rose $920bn (6.8%) to $14.375 TN. Net Worth increased $1.918 TN for the year to $57.718 TN. This was, however, less than half the annual average Net Worth inflation of $4.207 TN that had fueled the Bubble Economy during the previous four year boom. The downside of the Credit Bubble will have Households taking on additional debt (though at a slower pace), as asset values decline precipitously. Evaporating Net Worth is now having a meaningful impact on confidence, consumption and investment decisions, and this effect will only escalate over the coming weeks and months.
And when it comes to Credit Bubble analysis, the Rest of World (ROW) page in the Fed’s Z.1 “Flow of Funds” report is actually the one I contemplated the most (and with the greatest unease) this week. ROW increased holdings of U.S. Financial Assets by $1.573 TN last year, or 11.4%. With the Bursting of the Credit Bubble and the resulting impairment of U.S. securities, such growth has become unsustainable. ROW holdings of U.S. Financial Assets were up an astounding $7.222 TN, or 88%, in just four years. ROW more than doubled holdings of Agency/GSE MBS ($1.379 TN) and almost doubled Corporate Bonds/ABS ($2.583 TN) position since the beginning of 2004. Security Repo holdings grew from $460bn to $1.100 TN. U.S. Equities almost doubled (94%) to $2.806 TN. Total Credit Market Instrument positions were up 79% over four years to $6.855 TN.
During the fourth quarter alone, ROW holdings of U.S. Credit Market Instruments expanded at a SAAR $1.045 TN. Interestingly – and a much less than “bullish” dynamic - the composition of assets acquired changed markedly. Treasury and Agency purchases accounted for 62% of purchases, up from about 15% during Q3. And with the international banking community now in full retreat away from U.S. structured finance and risk assets, the ROW’s stalwart increase in U.S. “Misc. Assets” and Corporate Bonds is surely in serious jeopardy.