The purpose of this article is to assess the macro-fiscal flows for December 2018 and determine what effect these flows will have on the stock market and the economy.
Macro fiscal flows impact investment markets with a lagged effect of typically one month. A flush of funds now from government spending or credit creation will lead to a boost in investment markets one month later.
Due to the recent partial Federal government shutdown, the financial figures are very late. It is now the middle of February 2019, and the budget figures for the Federal government just released are for December 2018. Usually, the budget data is available within one month.
To understand the fiscal flows, one has to look at the balance of sectoral flows within the US economy using stock flow-consistent sectoral flow analysis.
Professor Wynne Godley first comprehended the strategic importance of the accounting identity, which says that measured at current prices, the government's budget balance, less the current account balance, by definition is equal to the private sector balance.
GDP = Federal Spending [G] + Non-Federal spending [P] + Net Exports [X].
As a percentage of GDP, all three sectors sum to zero and balance each other out.
A table of recent sectoral balance flows is below:
(Source: FRED plus author calculations)
*Estimate to be updated when the end-of-year numbers are known.
#Forecast based on existing flow rates and plans.
The table below shows the sectoral flows at critical times in the past by way of comparison.
The takeaways are:
- The Fed Funds Rate (FFR) is not at the 5-6% level that induces a recession from interest and principal debt burden from private debt.
- Private debt is at the same dangerously high level it was pre-Dotcom and GFC boom/bust phases.
- Credit creation is very weak at present and nowhere near the boom levels preceding the Dotcom and GFC boom/busts of over 10+% of GDP.
- The private sector balance is positive but weak. A recession has never occurred while this balance is positive.
- The external sector is less of a financial drain now that it was in the past boom/bust phases.
- The Government sector input is positive and growing, and is allowing the private domestic sector to have a small positive balance even after consideration of the negative current account.
- The sum of the flows is weak overall due to a combination of both weak government fiscal flows and weak credit creation.
The chart below shows the newly released budget data:
It shows a yellow deficit for December 2018, which in reserve accounting terms means money added horizontally into the economy from the currency issuer that now appears on measures of money supply, such as M1, M2, and M3.
The chart below shows credit creation over the same period:
Credit creation also added to the money supply - nearly $40 billion.
The following chart shows the current account over a similar period:
The US current account deficit widened to USD 124.8 billion, or 2.4 percent of GDP.
The chart below shows the stock market over the same period:
Comparing the charts above, one can see the impact on the stock market:
- In September 2018, there was a Federal government surplus and flat credit creation, and a large current account deficit. This led to a stock market retracement from the extraction of funds out of domestic markets.
- The stock market tried to recover previous highs twice before plunging into the December 2018 low. The recoveries were aided by stronger credit creation levels and also small expansionary budget expenditure from the Federal government.
- Since January 2019, there has been a strong recovery in the stock market. However, it is hard to say what influence the fiscal flows have had on this recovery, because the data for the Federal government has not been made available due to the partial shutdown. One can say, however, that credit creation continued to improve, and one must assume, at the same time, that the Federal government was spending into the economy as well given how strongly the stock market has risen.
Impact On Fiscal Flows
The Federal government's net budget expenditures for December 2018 show $14 billion added to the economy.
This month, the balance of account looks like this for the private sector balance:
[P] = [G] + [X] is an accounting identity true by definition.
Inserting the numbers:
[P] = [$14 billion] + [-$41.6 billion*]
*Estimate: The current account deficit is -$124.8 billion for that last quarter, and this works out to -$41.6 billion per month.
[P] = -$27.8 billion net drain.
To this number one can add the impact of credit creation for December 2018 to work out the net change in the money supply.
P + C = Net Money Supply Change = Domestic Aggregate Demand
-$27.8 billion + $39.9 billion = $12.1 billion net add.
This is a positive addition to aggregate demand overall, and is why the market has rallied through January 2019. Macro fiscal flows of this sort have a one-month flow-on effect on the stock market.
Hopefully, the Federal government will catch up with its budget release routine so that one can get an idea of the market action in February 2019 based on the flow of funds from January 2019.
What the treasury cash balances show is that we can expect a general fall in the markets due to a net extraction of funds from the economy up to trading day 70. This coincides with the remittance of tax at "tax time." The subsequent rise after trading day 80 is the refund of overpaid tax once newly lodged tax returns have been processed.
The stock market normally recovers from this net drain in April. Until then, it is likely we will see flat to falling markets and a lot of volatility in the stock market (SPY, DIA, QQQ). Until April 2019, one might want to sit out the volatility in cash (UUP) or bonds (TLT).
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.