One of the many reasons why markets have been falling is due to the fact that the money supply has not kept up with the economy.  After stoking the fire in a big way during the crisis with bailout money, stimulus, and QE the economy finally started to take off.  At first the different forms of stimuli were doing enough but over the past few months it appears as though they have stopped keeping up with demand.  Now instead of enough, and arguable too much money in the streets the situation has reversed and now there is not nearly enough money out there to make up for the surge in economic output let alone to find its way into the markets.

In the chart below we have an indicator that measures the real money supply growth against economic output to determine if there is adequate money to sustain current economic growth and for the markets (This indicator came from a NDR chart we saw somewhere several years ago).  What we have done is take the year to year change in industrial production and subtract it from the year to year change of the real money supply using M3* data.  As you can see in the chart, money supply relative to industrial production has taken a huge dive indicating that we either need more QE, more government spending, or we will likely see a dip in output.

Real Money Supply (M3) minus Industrial Production (Year-to-Year Changes)

Happy Trading,

Dave@TheMacroTrader.com

P.S.-Since M3 has been discontinued by the Fed we are now using the M3 data from NowandFutures which has reproduced it with a correlation of .99999 to the old M3 data.

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