The global manufacturing PMI new orders index was little changed in November, the six-month rate of change of the OECD’s G7 leading indicator has hooked up and cyclical sectors have been outperforming defensive sectors in the recent equity market rally. Do these developments signal a bottoming of global economic momentum and a prospective H1 2023 recovery? 

Monetary trends argue not. Global (i.e. G7 plus E7) six-month narrow money momentum rose slightly for a fourth month in October but remains in negative (i.e. recessionary) territory. All previous recoveries through the 50 level in global manufacturing PMI new orders were preceded by real money momentum rising above 2% – see chart 1. 

Chart 1

The June low in real narrow money momentum will probably hold but a corresponding PMI new orders low is unlikely before Q1 2023. There was a 10-month lag between the most recent real money growth peak (July 2020) and the matching PMI top (May 2021). 

There are additional negative considerations. The rise in real money momentum since June has been due to an inflation slowdown, with nominal money growth weakening further – chart 2. Previous PMI recoveries were preceded by nominal as well as real money accelerations. 

Chart 2

The rise in global real money momentum reflects the E7 component, with G7 momentum still weakening – chart 3. China, India, Mexico and Brazil have contributed to the E7 recovery but the increase has been exaggerated by a nominal money surge and inflation drop in Russia – chart 4. The latter may be of limited global relevance given Russia’s partial economic isolation. 

Chart 3

Chart 4

The six-month rate of change of the OECD’s G7 leading indicator rose slightly for a third month in November, according to calculations here. This appears to be a hopeful signal – bottomings historically have usually been followed by sustained recoveries, as chart 5 shows. The uptick is also consistent with recent better relative performance of cyclical equity market sectors. 

Chart 5

Initial indicator readings, however, are often revised significantly and previous sustained recoveries in the six-month rate of change from negative territory were accompanied or more usually preceded by a revival in G7 real narrow money momentum – chart 6. With the latter yet to bottom, the uptick in indicator momentum may be either revised away or reversed. 

Chart 6

UK money trends remain consistent with inflation normalisation, implying that further MPC tightening will unnecessarily prolong and deepen the recession. 

The artificial boost to headline money numbers from cash-raising by LDI funds partially unwound in October – the Bank of England’s M4ex measure fell by 0.6% on the month after a 2.6% September jump. 

As usual, the focus here is on non-financial money measures, i.e. excluding volatile and uninformative financial sector holdings. The September surge in financial money was certainly no signal of future economic or inflation strength.

Annual growth of non-financial M4 was little changed at 3.4% in October, with the six-month annualised pace of increase lower at 2.7%. Annual non-financial M1 growth dropped to 2.6%, with the aggregate little changed in the latest six months – see chart 1. 

Chart 1

The latter weakness reflects households and non-financial firms switching out of sight into time deposits in response to higher term interest rates. The decision to lock away money is a negative economic signal, indicating weak near-term spending intentions. 

Broad money growth of 3-3.5% is unlikely to be sufficient to prevent inflation from falling below 2% over the medium term, unless potential economic expansion is even weaker than the generally assumed 1-1.5% pa. (This assumes no rise in velocity, which has exhibited a long-term downward trend, including during the 2010s.) 

Non-financial M4 is growing more slowly than the comparable Eurozone aggregate, non-financial M3, which rose by 4.8% in the year to October. 

The argument continues to be made that spending will be supported by the deployment of “excess” savings built up in 2020-21. The assessment of “excess” need to take into account inflation – fast price rises require more saving to maintain the real value of existing wealth. 

Real non-financial M4 has now crossed beneath its 2010-19 trend – chart 2. The suggestion is that money holdings are broadly in line with requirements given recent high inflation – there is no longer any buffer to cushion spending against an ongoing real money squeeze. 

Chart 2

A post last month argued that a pick-in Eurozone broad money M3 growth into September reflected temporary factors that would reverse. October numbers delivered the expected turnaround, with M3 falling by 0.4% on the month. Narrow money measures, meanwhile, lost further momentum, with Italian data particularly weak.

The summer pick-up in M3 growth had been discounted here for two reasons: the numbers had been boosted by rapid and probably unsustainable expansion of financial sector deposits; and the pick-up was inconsistent with the behaviour of the credit counterparts (bank lending to government and the private sector, net external lending etc), instead reflecting a statistical “residual”.

October numbers showed a large drop in financial M3 holdings, correcting earlier strength, while the credit counterparts residual turned negative.

The preferred money measures here exclude financial sector holdings, which correlate poorly with near-term economic performance. Six-month growth of non-financial M3 was stable in October at 5.2% annualised; growth of non-financial M1 slumped further to 2.1% annualised, the weakest since the 2011-12 Eurozone crisis / recession – see chart 1.

Chart 1

Real narrow money is contracting much faster than during that crisis: the six-month rate of decline reached a new record in data extending back to 1970 – chart 2.

Chart 2

Country data show particular weakness in Italy, reflecting both nominal contraction and a larger recent inflation spike than elsewhere – chart 3.

Chart 3

The previous post suggested that a lending slowdown would act as a drag on broad money growth. Bank loans to the private sector were unchanged on the month in October.

Cyclical sectors of European equity markets have recovered some relative performance recently, possibly reflecting a belief that a grim economic outlook was becoming less dire at the margin. A minor recovery in the expectations component of the German Ifo business survey might be viewed as supporting reduced pessimism – chart 4.

Chart 4

The level of Ifo expectations, however, remains historically weak and a further fall in Eurozone / German six-month real narrow momentum argues that economic stabilisation, let alone a recovery, remains distant – chart 5.

Chart 5

Nominal money trends and prospects suggest that monetary conditions are already restrictive, contrary to the ECB’s assessment*. Likely policy overtightening is another reason for fading the cyclical rally.

*See speech by Executive Board member Isabel Schnabel.