Federal Reserve Q4 2009 Z.1 “flow of funds” report.
For all of 2009, U.S. Non-Financial Debt (NFD) expanded 3.3%, down from 2008’s 5.9%. In nominal dollars, NFD expanded $1.116 TN, the smallest expansion since year 2000 ($865bn). There has been much discussion about the ongoing Credit contraction. For the year, Household Home Mortgage debt contracted $165bn, Consumer Credit contracted $113bn, and total Business borrowings contracted $200bn. I have tried to highlight the massive counterbalancing inflation of “federal” Credit. Federal Government (Treasury) Credit expanded a record $1.444 TN last year (2-yr gain of $2.683 TN) and GSE-Mortgage-Backed Securities grew $422bn (2-yr $920bn).
In the Domestic Financial Sector, borrowings fell an unprecedented $1.753 TN for the year. Bank Credit declined $467bn, GSE Assets dropped $371bn, and the Asset-Backed Securities (ABS) market shrank $675bn. At the same time, the Fed’s holdings of Agency and GSE-Backed Securities ballooned $979bn.
It was another extraordinary year in Credit and financial flow analysis. There are numerous complexities that make this a challenging endeavor. There were gigantic charge-offs (banks and GSEs) that reduced outstanding mortgage and consumer debt. Near zero interest rates also worked to reduce the amount of financial sector debt expansion created in the process of paying interest on outstanding liabilities (i.e. deposit liabilities increasing as interest is accrued to depositor accounts). It is also difficult to ascertain the various Credit impacts from the Fed’s $1.0 TN monetization of MBS. Many factors make it difficult to gauge the true scope and nature of the Credit creation flowing to the real economy. It’s my view that the $1.1 TN net increase of NFD likely understates the real expansion of system Credit/purchasing power for 2009.
I have asserted that the monetary and fiscal policy response to the 2008 bursting of the Wall Street/Mortgage Finance Bubble fostered the emergence of the Global Government Finance Bubble. Over the past 6 quarters, Treasury debt has jumped $2.531 TN, or 48%, to $7.782 TN. During the same period, federally-backed GSE-MBS expanded $624bn, or 13%, to $5.383 TN. Combined “federal” finance ballooned an incredible $3.155 TN in just 18 months. At the same time, the Federal Reserve’s balance sheet jumped $1.315 TN, or 138%, to $2.267 TN.
Unprecedented policy responses sent a clear message: the securities markets are too big to fail. Sure, the massive fiscal stimulus mobilized purchasing power throughout the economy. And, yes, the Trillion monetized by the Bernanke Federal Reserve unleashed a wall of liquidity upon the markets. Yet there’s another critically important facet of system stabilization: The historic collapse of risk premiums – especially in mortgage and corporate debt – can be at least partially explained by the market’s perception that Washington will respond to future crises with the Powell Doctrine of overwhelming fiscal and monetary force.
The market today perceives that essentially no amount of stimulus or monetization is out of bounds. The Fed is there as a backstop bid for debt securities, while the Treasury and Federal Reserve have teamed to establish a floor under GDP/national income. Market malformations now lie at the heart of the unfolding Bubble and go a long way toward explaining the market’s complacency when it comes to the simultaneous contraction in private-sector Credit and the explosion of federal debt and obligations.
During Q4, Total System Credit (TSC) declined $132bn to $52.417 TN. TSC has declined for three consecutive quarters. Yet it has still increased 52% during the past six years, increasing from just over 300% of GDP to over 360% today. Over the past six years, Non-Financial Credit has inflated 57% and Financial Sector Credit has gained 42%.
Total Mortgage Debt (TMD) declined 2.1% during 2009 to $14.307 TN. TMD is flat over two years but is still up 72% over seven years. TMD contracted at a 3.2% rate during Q4, the same pace as Q3. Household Mortgage borrowings contracted at a 2.1% rate during Q4 (to $10.786 TN), an improvement from Q3’s 3.4%. Commercial Mortgage Borrowings contracted at a 7.4% pace (to $2.486 TN), accelerating from Q3’s 4.0% pace of decline.
The ABS market contracted another $186bn during Q4 to $3.394 TN. ABS was down $702bn, or 17.1%, for the year. Much of this decline is explained by the ongoing contraction in “private-label” MBS. There have been huge write-downs in this space. Yet there’s an ever bigger factor. Low interest rates and myriad government programs have encouraged millions of borrowers to replace their old mortgages with new ones enjoying government (Fannie, Freddie and FHA) guarantees and much lower yields. Placing a government stamp on hundreds of billions of mortgages has been a major stabilizing force.
Lower debt service costs were not the only factor bolstering household consumption. Importantly, Household Assets rose $657bn during Q4 to $68.188 TN. For the year, Assets jumped $2.579 TN – recovering a chunk of 2008’s $13.226 TN drop. Household Liabilities contracted $26bn during Q4 and were down $194bn for the year (1.4%) to $14.0 TN. Accordingly, Household Net Worth gained $682bn during Q4 to $54.176 TN. For the year, Net Worth jumped $2.772 TN. Net Worth has now returned to 2005 levels. For the year, Household Real Estate holdings were down $905bn (to $18.207 TN), while Financial Assets were up $3.407 TN (to $45.115 TN).
National Income posted strong Q4 gains ($152bn). For the year, National Income was down only $22bn, or 0.2%, to $12.412 TN. Total Compensation declined slightly ($17bn) during Q4 to $7.735 TN. For the year, Total Comp was down $296bn, or 3.7%. There is no doubt that massive fiscal stimulus was instrumental in stabilizing system incomes at, arguably, rather inflated levels. National Income ended 2009 51% above where it began the decade, with Total Compensation 44% higher.
Q4 Federal Expenditures were up 15.1% y-o-y to an annualized $3.595 TN. Expenditures jumped to $3.466 TN for all of 2009. For comparison, expenditures were $2.573 TN in 2005, $2.728 TN in 2006, $2.897 TN in 2007 and $3.118 TN in 2008. Q4 Federal Receipts were down 8.8% y-o-y to $2.232 TN annualized. For the year, Receipts were down 10%.
State & Local government Q4 borrowings expanded at a 4.7% rate, up from Q4 2008’s 0.2% but down from Q3 2009’s 5.5%. For all of 2009, State & Local government debt expanded 4.8%, up from 2008’s 2.5%. Q4 State & Local Receipts were up 3.5% y-o-y, while Expenditures gained 1.0%.
Returning to the financial sector, Bank Assets were little changed for the quarter at $14.137 TN. For the year, Assets were up $136.3bn, or 1% (largely explained by the acquisition of broker/dealer assets). Bank Credit, on the other hand, was down $371bn y-o-y to $9.301 TN. Down only 0.7% during Q4, Bank Credit stabilized going into year end. For the year, Bank holdings of government securities jumped 15.6% to $1.462 TN. Bank Mortgage loans were little changed for the year at $3.819 TN. Miscellaneous Bank Assets were up $417bn, or 12.1%, for the year to $3.868 TN. On the Bank Liability side, Deposits were up $466bn y-o-y to $7.642 TN.
Rest of World (ROW) Holdings of US assets jumped $290bn last year to $15.423 TN. ROW is up $3.90 TN over four years (despite 2008’s $960bn decline). For 2009, total Treasury holdings jumped $503bn to $3.713 TN. Agency holdings dropped $130bn y-o-y to $1.315 TN. Corporate bond holdings declined $100bn to $2.357 TN.
Securities Broker/Dealer Assets expanded slightly during Q4 to $2.080 TN (down 6.2% y-o-y). Finance Company Assets contracted at a 9.9% rate during the quarter to $1.691 TN (down 8.7% y-o-y). Credit Unions expanded 5.9% annualized during Q4 to $885bn (up 8.9% y-o-y). REITs declined 5.9% (down 27% y-o-y). Life Insurance company Assets expanded 5.7% annualized to $4.819 TN (up 6.7% y-o-y). Money Market funds contracted $104bn during Q4 (to $3.59TN), with a 2009 decline of $499bn.
There were few surprises in the Z.1 report. The gains in Household Net Worth and National Income do help explain the decent recovery in consumption. The ongoing expansion of Treasury, GSE MBS and Federal Reserve Credit supports the Government Finance Bubble thesis. As we look forward to 2010 data, I would expect a meaningful uptick in the rate of system Credit expansion. It is my view that, in a more normal rate/liquidity environment, it will take in the neighborhood of $2.0 TN of system Credit growth to sustain our current economic structure. I expect that – until the debt markets say otherwise – the majority of this will be “federal” Credit.