Federal Reserve Q1 2013 Z.1 “flow of funds” report.
The Fed's Q1 2013 Z.1 “Flow of Funds” was notable for the surprising ongoing lackluster Credit expansion throughout much of the private-sector. Even with continuing double-digit percentage growth in Federal borrowings, Total Non-Financial Debt expanded at a 4.6% rate during the first quarter (down from Q4 2012’s 6.5%). Household debt contracted at a 0.6% rate, a reversal from Q4’s 2.2% expansion. Surprisingly, Household Mortgage Debt declined at a 2.3% pace versus Q4’s 1.0% rate of contraction. Non-mortgage Household borrowings remained relatively strong, with Q1’s 5.7% pace down only slightly from Q4’s 6.5%. Corporate borrowings slowed from Q4’s blistering 12.1% pace to 7.6%.
The federal government’s domination of U.S. Credit runs unabated. Federal debt expanded at a 10.3% rate during the quarter, down only slightly from Q4’s 11.2%. Keep in mind that federal debt expanded 24.2% in 2008, 22.7% in 2009, 20.2% in 2010, 11.4% in 2011 and 10.9% in 2012. In nominal dollars, outstanding Treasury debt increased $337bn during the quarter, with a one-year gain of $1.078 TN. Treasury debt increased a staggering $6.655 TN, or 127%, during the past 19 quarters.
In seasonally-adjusted and annualized (SAAR) nominal dollars, Total Non-financial Debt expanded $1.850 TN, down from Q4’s SAAR $2.585 TN but still relatively strong. For comparison, Total Non-financial debt increased $1.872 TN in 2012, $1.325 TN in 2011, $1.472 TN in 2010, $1.058 TN in 2009, $1.921 TN in 2008 and $2.554 TN in 2007. At SAAR $1.198 TN, federal borrowings during the quarter accounted for 65% of Total Non-Financial Debt growth. For comparison, federal borrowings as a percentage of Total Non-financial Debt growth were 61% in 2012, 79% in 2011, 107% in 2010, 136% in 2009 and 64% in 2008. During the boom years 2006 and 2007, federal borrowings amounted to less than 10% of Total Non-financial Debt growth.
There are a few striking facets of the most recent Z.1 report from the Fed. Importantly, private-sector Credit continues to struggle in the face of ongoing ultra-loose financial conditions and inflating asset markets. Surprisingly, even with mortgage rates at all-time lows (along with the reemergence of house price inflation), Total Mortgage Credit contracted 1.9% annualized during Q1 to $13.091 TN. This follows Q4’s 0.4% gain, the first positive mortgage Credit growth since Q1 2008. Both Household and Commercial mortgage Credit contracted during the first quarter.
We’ll now watch with keen interest how the significant jump in borrowing costs impacts mortgage Credit and bubbling real estate markets more generally. Even a major refinancing boom and recovery in home prices was not enough to spur even positive growth in household mortgage borrowings. For households, low returns on savings have incentivized paying down mortgage debt. While this dynamic has helped improve the Household balance sheet, it has provided ongoing headwinds against a self-sustaining private-sector Credit resurgence. Said another way, despite years of zero rates, an historic increase in government debt and massive Fed monetization there is little to indicate a sustainable private-sector Credit expansion.
Total Bank Assets expanded $186bn during Q1 (to $15.244 TN), with Reserves at the Fed surging $299bn during the quarter to a record $1.790 TN. Bank loan growth slowed to a 1.3% pace, the slowest since the recession, as year-over-year loan growth slipped to 8.4%. Mortgage loans declined $38bn during the quarter after gaining $57bn during Q4. Miscellaneous Assets dropped $63bn (to $1.208 TN). Government securities holdings jumped $38bn, the strongest increase in a year.
Away from the banking system, Securities Broker/Dealer assets contracted slightly to $2.049 TN (down 0.7% y-o-y). Funding Corp assets were little changed at $2.166 TN (up 5.4% y-o-y). Securities Credit declined $28bn to $1.485bn (up 7.9% y-o-y). Finance Company assets declined slightly during the quarter (down 4.7% y-o-y) to $1.519 TN. Real Estate Investment Trust (REIT) assets were little changed for the quarter at $797bn (up 14% y-o-y). Credit Union assets expanded at a 9% rated during the quarter to $980bn (but up 3.8% only y-o-y).
With legislation in the works that would seek to “privatize” Fannie and Freddie, it’s worth taking a look at this quarter’s GSE data. Total Agency Securities (debt and MBS) jumped $47bn during the quarter to $7.591 TN, with a one-year gain of $58bn, or 0.8%. Despite the ongoing contraction in overall mortgage borrowings, Total GSE Securities are little changed from 2010 levels. Total GSE assets (holdings) actually increased $4.4bn during Q1 to $6.300 TN. From a year ago, total assets were down 2.1%, or $133bn. GSE (insured) MBS actually increased $26bn, or 7.2% annualized, during the quarter to $1.463 TN. GSE MBS jumped $133bn, or 10%, over the past year. In three years, GSE MBS jumped $456bn, or 45%. It will be a very tall order to ever privatize a largely nationalized household mortgage industry.
I also have no doubt that it is going to be very difficult to wean U.S. and global markets off of Federal Reserve QE liquidity. Federal Reserve assets surged $289bn, or 39% annualized, during the quarter to a record $3.244 TN. The Fed’s balance sheet surpassed $1 Trillion for the first time back in 2008. Fed assets are now on track to reach $4.0 TN near year-end.
There were a couple key aspects of past “Flow of Funds” analysis that came to mind as I made my way through recent data. I recall becoming increasingly concerned with mortgage Credit dominance over system Credit expansion back in 2005/06. And the longer that trend continued the greater my fear for the deep structural impacts that this unusual flow of finance was having on our financial system and the underlying real economy.
The dominance of Washington-based finance has similarly long overstayed its welcome. When the Fed was aggressively expanding its balance sheet in 2008/09, its purchases were essentially accommodating financial sector de-leveraging (the Fed providing a liquidity backstop for troubled banks, leveraged hedge funds, securities firms, REITs and such). Federal Reserve buying (monetization) over the past six months has been of an altogether different kind. Instead of accommodating de-risking/de-leveraging, the Fed purchases have instead incited risk-taking and leveraged speculation.
GSE assets surged an unprecedented $148bn in 1994, or 23%, to $782bn. With little fanfare, Fannie and Freddie had morphed from insuring mortgage securities to highly leveraged holders of mortgages and debt that were more than happy to buy huge quantities of securities (at top dollar) in the midst of acute market turbulence. And the GSEs were anything but finished in 1994.
GSE assets increased $115bn in 1995, $92bn in 1996 and another $112bn in 1997. When markets were rocked by the collapse of LTCM and attendant speculative deleveraging, the GSE’s expanded holdings an unprecedented $305bn in 1998 – followed by another $317bn in Bubble year 1999. The GSEs added another $822bn during the tumultuous 2000-2002 period. By the end of 2003, GSE assets had inflated to $2.4 Trillion, in the process playing an instrumental role in transforming the marketplace for mortgage finance, market-based Credit and speculative finance more generally.
In the late-nineties, I was explaining to anyone that would listen (basically no one) that the GSEs had evolved into quasi central banks. With the revelation of accounting fraud and malfeasance at Fannie and Freddie, the leveraged speculating community had lost their liquidity backstop. By then, however, the mortgage finance Bubble had gained such powerful momentum that a euphoric marketplace saw no reason to fret.
But as mortgage Credit came to so dominate the financial and economic systems, with each quarterly analysis of the Z.1 in the 2006/07 period I would contemplate how the system might function during the next period of market de-risking/de-leveraging. There was no doubt in my mind that the backstop function would rest exclusively with the Federal Reserve. Further, I believed a bursting of the Mortgage Finance Bubble would likely require Trillions of market liquidity support. The rest is history. I look at 2013 as nearing the “Twenty-year Anniversary of the Liquidity Backstop”
The Household Balance Sheet provides some of the most pertinent Bubble economy analysis. Household Net Worth (assets minus liabilities) inflated $3.0 TN during the quarter to a record $70.349 TN. One has to go back to the Bubble year 2005 ($6.308 TN) to surpass the recent one-year $6.164 TN gain in Household Net Worth.
ROW gross holdings of U.S. assets declined $70bn during Q1 to $20.091 TN. But with U.S. ROW liabilities (foreign borrowing in U.S. markets) down $267bn, net asset holdings jumped nominal $197bn during the quarter to a record $10.034 TN.
On a seasonally-adjusted and annualized (SAAR) basis, ROW holdings of U.S. Credit Market Instruments jumped $682bn during Q1 (to $9.82 TN). Breaking that down, almost the entire increase was in ROW Treasury holdings that rose SAAR $655bn (to $5.701 TN), up from Q4’s $382bn increase. Security Repos jumped an unusually large SAAR $292bn. Corporate Bond holdings increased $162bn (to $2.619 TN), up from Q4’s $76bn. Agency/MBS holdings declined SAAR $166bn (to $1.087 TN) during Q1 (Q4 up $47bn). Net Interbank Assets jumped $530bn (to $340bn), almost fully reversing the Q4 decline. Other Misc. Assets dropped SAAR $330bn (to $1.157 TN).
ROW (gross) holdings of U.S. assets began the nineties at $1.9 TN. Expanding Current Account Deficits and “King Dollar” speculative flow dynamics were instrumental in the surge of ROW holdings to $5.78 TN by the end of the decade. Then during the four Bubble years 2004-2007, ROW holdings surged another $7.19 TN, or 81%. ROW holdings actually contracted $798bn during 2008 and then increased only $567bn during 2009. ROW holdings began expanding rapidly again in 2010, with annual increases of $1.60 TN, $1.40 TN and $1.36 TN. Gross holdings ended Q1 2013 above $20 TN, a more than ten-fold jump since 1990.
Since the end of 2007, ROW Treasury holdings have jumped $3.325 TN, or 140%, to $5.70 TN, in the process accounting for almost half of total Treasury issuance. During this period, the U.S. has run Current Account Deficits of about $2.4 TN. There have also been huge flows (capital and financial investments, along with untold speculative flows), especially to the “emerging” markets. The U.S. Credit system has literally flooded the world with dollar financial balances (“liquidity”). Developing central banks absorbed much of this liquidity, in the process recycling dollar balances back into U.S. debt markets while spurring huge domestic Credit expansions throughout the developing world.