Like most, with the onset of quantitative easing in the US, we have had to adjust our money supply models. The main adjustment relates to the accumulation of excess reserves held at the Federal Reserve and the higher than average preference for liquidity (cash). In the chart below, we take the standard M2 and make a couple of adjustments: 1) we start with M2 (the dark blue line) and then, 2) subtract currency in circulation (red line), and then 3) subtract commercial bank deposits held at the Federal Reserve (light blue line).
The key takeaway from this chart is that the long-term component of M2--ie, private credit growth--has been stagnant for five years. This reflects the continued contraction in the shadow banking system as well as weak loan growth. Below we convert the levels in the chart above to a one year rate of change.
Private credit growth is contracting at an almost 5% annualized rate, which is highly deflationary. In the chart below we show the one year change in our adjusted M2 (subtracting out currency + commercial bank deposits at FRB) and compare it to the S&P 500. Since mid-2012, we have been in a highly unstable condition that somewhat resembles the vicious deleveraging of 2008-2009.