A post in February argued that US Treasury plans to reduce reliance on bills to fund the deficit implied weaker monetary expansion from Q2, with possible negative implications for markets and economic prospects. This scenario remains on track.

The Treasury last week confirmed a reduction in the stock of Treasury bills in Q2 while signalling small-scale issuance in Q3.

Deficit financing via bills rather than coupon debt tends to boost the broad money stock because bills are mostly bought by money-creating institutions, i.e. banks and money funds. Their purchases are usually associated with expansion of their balance sheets, with a corresponding increase in monetary liabilities.

Broad money also tends to rise when the Treasury finances the deficit by running down its cash balance at the Fed.

Both effects were in play in 2023 / early 2024, resulting in a large monetary boost from Treasury operations that more than offset the Fed’s QT – see chart 1.

Chart 1

The latest Treasury estimates, however, imply a small negative impact in Q2 / Q3 combined. The earlier post argued that the Fed would need to halt QT to offset this shift. Last week’s taper announcement was insufficient, implying that the combined Treasury / Fed influence is likely to turn significantly contractionary – chart 2.

Chart 2

Will a revival in bank lending neutralise the Treasury / Fed drag? The Fed’s April senior loan officer survey was less negative but demand and supply balances remain soft by historical standards, arguing against a strong pick-up – chart 3.

Chart 3

April monetary statistics will be released in late May but weekly numbers on currency, commercial bank deposits and money funds are consistent with emerging weakness  – chart 4.

Chart 4