A snapshot view of money market funds MMFs and cash deposits CDs tells a story of households and businesses parking capital to benefit from the recent higher interest and yields.
Put another way, central bank tightening diverts capital flows into savings, away from consumption and capital investments.
So as capital flows rotate into MMFs and CDs that’s a headwind on economic activity, and aggregate demand, which is the goal of the central bank tightening policy to dampen demand and crush inflation.
“central bank tightening diverts capital flows into savings, away from consumption and capital investments”
The two tales of MMFs and CDs cash flows
Restrictive monetary policy to tackle inflation works if the level of aggregate demand falls faster than the supply of goods and services in the economy.
In this scenario, an oversupplied inventory glut leads to price falls.
But as capital flows into MMFs, that also suppresses business investments and the supply of goods and services in the economy.
In this scenario, if aggregate demand does not fall more than the aggregate supply of goods and services in the economy, this could lead to shortages and more inflation. Cheaper imports could cushion goods inflation, but services inflation could keep rising. The latter case would be the worst-case scenario for central banks, and more tightening could lead to a collapse in the supply chain as businesses go bankrupt, leading to shortages, higher prices and a hyperinflationary cycle currency collapse, a worst-case scenario, could follow.
“Cheaper imports could cushion goods inflation, but services inflation could keep rising. The latter case would be the worst-case scenario for central banks”
The Ponzi system might need more skilled immigrants, cheap blue and white-collar labour, and more low-priced imports to keep inflation down.
But that could also mean the ongoing decline in workers’ living standards in a central bank fiat system and the rise of political extremism.
“MMFs for institutions rose by 0.5% last week, by 2.2% over the past four weeks, but only 1.4% over the past three months, after the dip in October, to $3.52 trillion” – ICI report
Defining MMFs and CDs
MMFs are mutual funds that invest in relatively safe, short-term securities, such as short-term maturity treasury bills with a maturity date of three years or less from the purchase date.
CDs are cash deposits held in bank accounts.
Increasing capital rotations into MMFs and CDs
“Money market funds for retail investors rose by 0.6% in the latest reporting week from the prior week, by 2.5% over the past four weeks, and by 8.9% over the past three months, to $2.24 trillion,” according to ICI (Investment Company Institute) reported on November 22. This includes funds that invest in government instruments, such as T-bills; funds that invest in tax-exempt securities; and prime funds that invest in non-Treasury assets.
“MMFs for institutions rose by 0.5% last week, by 2.2% over the past four weeks, but only 1.4% over the past three months, after the dip in October, to $3.52 trillion.
Individuals are indirectly among the holders of these funds since the institutions include employers, trustees, or fiduciaries who buy those funds on behalf of their clients, employees, or owners,” according to the ICI November report.
Total MMF balances rose 2.3% over the past four weeks and by 4.2% over the past three months to $5.76 trillion.
Bank CDs have to compete with MMFs to avoid bank runs
Money market fund yields on short-term maturity treasuries have forced bank cash deposits to compete by offering higher interest rates to their depositors.
Cash deposits are loans from bank customers to the banks and form the backbone of bank funding.
The Fed suppressed interest rates during the 2008 subprime mortgage financial crisis. In other words, savers’ CDs and MMFs were sacrificed, receiving near-zero interest and yields on their capital to keep the asset bubble inflated. A few years ago, banks cut the interest rates they were paying on CDs to nearly zero per cent, and CD balances collapsed as income, yield-starved investors moved further along the risk curve for higher returns.
“CDs of $100,000 or more – surged by 60% since the Fed began its rate hikes, to $2.1 trillion at the end of October, from about $1.4 trillion in March 2022” – Federal Reserve data
The crux of rising MMFs yields is that banks are forced to compete and raise interest on CD accounts
Since the rate hikes began in March 2022, CDs have become attractive again, and investors flocked to them.
Banks have gotten the message, and they’re offering CDs that yield 5% and more, and savers have flocked to them. CDs, with no conditions, can be withdrawn instantly by the account holder via electronic funds transfer.
Recent changes in CDs since Fed tightening
Small Time-Deposits – “CDs of less than $100,000 – surged from $36 billion in May 2022 to nearly $1 trillion by the end of September,” according to the latest data available, from the Fed’s H.6 money stock measures. They likely continued to surge in October.
Small CDs are an indication of what Joe public is doing with their savings, and they too are now finally earning some income on their investments – which is encouraging people to save more and consume less.
Large Time-Deposits – “CDs of $100,000 or more – surged by 60% since the Fed began its rate hikes, to $2.1 trillion at the end of October, from about $1.4 trillion in March 2022,” according to Federal Reserve data.
How central bank easing, and money printing, impacts MMFs
The unprecedented central bank easing in the wake of the pandemic global lockdowns started in March 2020.
So much liquidity was created that some capital flows went into MMFs even though most returned zero yields. This triggered its own set of problems as these funds bought T-bills, and their demand for T-bills pushed down the T-bill yield to 0% and even below 0%.
The fear at the time was that some of these overpriced MMFs could “break the buck” because their 0% income or even negative income didn’t cover the fees and expenses, which could potentially cause a run on the funds.