The Bernanke Arbitrage
by Michael Pollaro
by Michael Pollaro: Monetary
Watch December 2010: The Money Supply, a Triple From Here?
CONTRARIAN TAKE a lot of time and effort is spent compiling
money supply data, analyzing its drivers and charting its course.
The reason is quite simple. It is the ebb and flow of the money
supply that shapes the ebb and flow of the financial markets and
the economies in which they operate. This has been true throughout
history, never more though than today, a time dominated by activist
central banks the world over, central banks that can and regularly
do create money in vast quantities whenever they deem fit. Having
said this, all this data crunching would hardly be worth the effort
if we were tracking an incorrect measure of the money supply. Luckily
for us, we here at THE CONTRARIAN TAKE think we most definitely
So what money supply measure are we tracking? Its
a metric called TMS, for True
Money Supply, a formulation based on the monetary insights of
the Austrian School of economics. Those mainstream Ms
like M1, M2 and M3 although widely followed, we submit, are
all seriously flawed, for their formulations are founded on a faulty
definition of money. Not so TMS. Were convinced the Austrians
have it right.
Now, that doesnt mean we arent all over
those mainstream Ms. We are, and for good reason. As Kevin
Duffy, co-manager of Bearing
Asset Management, said:
Investment management is simply capturing the
arbitrage available between perception and reality. It is paramount
to know both.
We couldnt agree more, in this case the reality
that is TMS against the perception of reality that are those
mainstream Ms. And right now, in the case of the U.S. money
supply, the spread between perception and reality is huge. As a
consequence, so is the arbitrage opportunity.
Enter the Bernanke Arbitrage
Bernanke we surmise is not tracking TMS. We doubt
he even knows what it is. No, Bernanke we think is tracking those
mainstream Ms and in so doing hasnt got a clue as to
the whereabouts of the money supply. Chairman Bernanke, perhaps
the worlds most activist central banker, who just so happens
to think that economic growth and financial stability can be achieved
by printing money, is living in the world of perception. Those mainstreams
Ms are telling him the money supply is stagnant. The reality
is anything but. The problem, or should I say the arbitrage opportunity
is this Bernanke is acting in accordance with his perception
and he is gunning and apt to continue gunning the money supply.
The reality is the money supply is anything but stagnant
and because of Bernankes actions is set to go higher still.
What follows is the what, the why and the how of
the Bernanke Arbitrage
Lets start by dismissing any doubts you might
have that Chairman Bernanke is clueless as to the whereabouts of
the money supply. Have a read of this interchange between Bernanke
and Congressman Ron Paul at a July 9, 2009 House Financial Services
Committee Q&A. First Congressman Paul:
it seems to me that you are in the midst
of massive inflation, but I guess you have a different definition,
when you double the money supply thats not inflation itself.
Or are you looking at only prices.
And now Chairman Bernankes response:
Inflation is the change in the consumer price
level which is very stable right now. And the various measure
of money as you know, the broad measure of money
of money in circulation like M1 and M2 are not growing quickly.
Bernanke of course was quite right. At the time
of this Q&A, neither M1 nor M2 were growing quickly.
After posting sizeable growth for about a year, both had slowed
to a crawl. M2, the broadest and most popular of the mainstream
money supply measures, was in fact sporting an annualized 3-month
rate of change of a negative 1%. TMS was doing nothing of
the sort. Echoing Congressman Pauls concerns, it was growing
at a 3-month rate of change of 12% and a year over year rate of
change of 14%.
Monetary inflation was alive and well and Bernanke
the rest of the article
Pollaro [send him mail]
is a retired Investment Banking professional, most recently Chief
Operating Officer for the Bank's Cash Equity Trading Division. He
is a passionate free market economist in the Austrian School tradition,
a great admirer of the US founding fathers Thomas Jefferson and
James Madison and a private investor. He is a columnist on the Forbes
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