Wednesday, August 22, 2007

[Latest Global Dollar Liquidity Measure: +15.1% annual growth rate; latest Endogenous Liquidity Index: -30.6%]

Macro Man, the author of the outstanding homonymous financial blog, has just written a long post on global liquidity conditions. He is kind enough to link to the Global Liquidity Blog, in regard to my critique of M2 as a liquidity indicator. I made that point in a comment to an April 2007 post by Bill Luby:

I don't pay much attention to M2 and M3 because they include too many variables, a fact that may lead to grave mistakes. Thus I will always remember 1998: M2 & M3 were surging, and monetarist members of the FOMC (Bill Poole and the Cleveland Fed president, whose name I just forgot) were calling for an increase in the Fed funds target. The trouble was, M2 and M3 were surging not because the Fed funds target was too low, but because of ... flight-to-quality buying resulting from the "Asian-Russian" financial meltdown.

Because M2 and M3 included money-market funds, such behavior was understandable. Other measures of liquidity, however, were on the verge of ... collapsing! (like my very own Dollar Liquidity Measure). In the end, the Fed duly lowered the fed funds target -- thus avoiding the banking crisis that M2 and M3 enthusiasts were about to unleash.

The larger point, of course, is that funding liquidity remains very robust as we speak. The way I see it, liquidity analysts will have to come to terms with the fact that market liquidity can turn on a dime, even as "macro" liquidity remains ample. This, of course, is the liquidity conundrum that we are witnessing ... right now.

1 comment:

Macro Man said...

Agustin (sorry for misspelling your name chez moi!),

You have hit the nail on the head. How best to gauge microeconomic liquidity? Easier said than done, as there are plenty of smart guys who spend their careers doing that and have got it spectacularly wrong this summer.

Alas, I suspect that there is more art than science to it, and I imagine that there is a reasonable correlation between one's ability to do and the amount of gray or lost hair that one possesses!