45 Years In The Market Tells Me To Look For The Money Source

10’000 Hours

This article explains what has turned out to be potentially the most profit-generating knowledge of my 45-year participation in the stock market. Knowing and tracking where the money that drives the economy comes from is the secret (even though it is an open secret).

The following chart highlights the reality of spending options for governments. A currency-issuing government’s spending is limited only by the availability of real resources.

Source: Malcolm Reavell

The Canadian government (like most governments) functions like it apparently doesn’t understand the monetary system that they are driving. The chart below is implying that the government believes the taxpayer creates Canadian dollars; notice that the graphic shows the dollars originating with the taxpayer. Of course, only the spending laws of Parliament can create Canadian dollars. The dollars that are used to pay taxes must first be created (spent into existence) by the government — any other dollar would be counterfeit.

Source: Parliament of Canada

Believing and functioning as if the budget of a currency-creating government is like a household-budget (currency-user) is the source of much human deprivation because it allows politicians the excuse that “we can’t afford” the programs and infrastructure that provides the best quality of life.

A currency-creating government is self-funding – it cannot run out of its own money- which means that money is not the limiting factor for a currency-creating government. Only the availability of real resources, not tax-dollars can limit what we do. As Keynes pointed out in 1942 “anything we can do, we can afford.”

This understanding, which I came to relatively late in life, has been the most profit-generating knowledge of my 45-year participation in the stock market. Knowing and tracking where the money that drives the economy comes from is the secret (even though it is an open secret).

Fund Flows

Money originates when the currency-creating government spends into the private sector. Focusing on the US economy, since it’s the most impact-full globally, dollars are created when Congressional spending legislation is enacted and the Treasury directs the central bank to deposit reserves in the private bank accounts of whomever is provisioning the government.

GOVERNMENT SPENDING = CURRENCY CREATION

Subsequently, Congressional tax legislation causes some of the dollars that were created through Congressional spending to be taken back (out of the private bank accounts) and effectively cancelled; money sitting in the Treasury General Account (TGA) is not part of the economy and is not part of any monetary measure–in the same way that in a game of Monopoly, the money sitting in the “bank box,” and not in players’ hands, is not part of the game. (In the past, tax dollars were burned in public to prove they were not being left in circulation.)

The money that is not taxed back and cancelled is left behind in private-sector bank accounts, and is registered as a deficit for the government. A deficit for the Government — who creates the money at will – but a surplus for the private-sector (the non-government sector).

GOVERNMENT SPENDING — TAXES = GOVERNMENT DEFICIT = PRIVATE SECTOR SURPLUS

I call this the “net-transfer” – the net-amount of money transferred from the Treasury to the private sector. This is the most important factor that drives the stock market. If the deficit is growing, the stock market tends to grow. If the deficit is decreasing, the stock market tends to struggle.

Last year, at this point, the annualized net-transfer rate was $1,750B/year. Currently, the rate is $1,625B/year which is 7% lower. Even though the nominal spending is 5% higher than last year, the tax collection is even higher than that, which means less money is left behind in the economy.

Since the start of the fiscal year (October), the SPX has been trading well above the $3,000B/year rate line (black line below). We continue to expect the SPX to drop like it did last year, or the net-transfer (spending) rate must increase (pink-arrows in chart below).

We are approaching the April tax-take which will drain more money from private bank accounts than it did last year and should put pressure on the stock market in the March-to-April period (chart below).