Monetary trends continue to suggest deteriorating Eurozone economic prospects.

Narrow money M1 is a better economic leading indicator than the broader M3 measure; it weakened before the last recession and surged before the recovery. M1 comprises currency in circulation and overnight deposits – forms of money more likely to be related to economic transactions. Six-month M1 growth has slumped from 3.6% (not annualised) in August to 0.2% in January. With CPI inflation picking up, real M1 is contracting at a similar pace to early 2008, just before output cratered – see first chart.

This weakness contrasts with a strong pick-up in US real M1 expansion, which predated the start of QE2 in early November – second chart. Together with US fiscal stimulus – particularly the temporary 100% bonus depreciation allowance – this suggests much faster economic growth in the US than Euroland this year, with possible implications for relative equity market performance and the euro-dollar exchange rate. (A similar monetary divergence in 1991 was associated with superior US equity returns, partly due to a stronger dollar.)

Eurozone M3 trends are also soft, with a rise of only 0.5% in the six months to January, again implying real contraction.

M1 weakness was initially focused on peripheral economies but has now extended to the core, including Germany – third chart. Consensus hopes that German economic strength will insulate core economies from a peripheral "double-dip" look increasingly fanciful. ECB hawks may struggle to gain traction against this backdrop.