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Clif Droke

Clif Droke

Clif Droke is the editor of the two times weekly Momentum Strategies Report newsletter, published since 1997, which covers U.S. equity markets and various stock…

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Money Supply and the Presidential Election

Undoubtedly, you've read about the slowdown in M3 money supply in recent months. Many newsletter writers have addressed this subject and even the Financial Times has been commenting on it of late. Of course whenever the mainstream financial press starts talking about an issue of major financial significance it means the trend has reached its conclusion and is about to reverse. True to form, M3 has been increasing in the past few weeks after plummeting for a good part of 2003.

So what does this mean? I put no faith in M3 as a stock market timing mechanism but it can often be used to gauge the strength or weakness in the overall economy. Major changes in M3 usually take about 6-9 months to show up in the economic numbers. This means that most people will start to notice a gradual decline in the strength of the economy by the summer months (perhaps earlier) and this relative economic weakness (not a full-blow recession, mind you) will likely continue into the fall months...just in time for the presidential election! You see, I believe the slowdown in M3 is being engineered by the Fed to get G. Bush out of office, and at election time his opponent can point to the economy as being "soft" and we all know that the economy is a major hot-button issue in elections. "It's the economy, stupid!" as Bill Clinton would say.

Respected newsletter writers Harry Schultz (of the HSL newsletter) and Bert Dohmen (of the Wellington Letter) have stated their belief that the economy is headed downward without any Fed intervention around election time. The reason are plentiful: "jobless recovery" from outsourcing to China and India, P/E bubble, extremities in credit and debt, monetary dysfunction. On top of all this gold, silver, and oil are reflecting the latent problems within the economy. So without the M3 "swerve" by the Fed things look bleak indeed. I do believe, however, the Fed will come to the rescue -- indeed, they already have started -- and by the time the elections are over we'll see the results of their rescue efforts.

Of course once the election is over and (presumably) Bush loses, the economy will rebound in early 2005 since it will take that long for the rate of change in M3 to hit the economy. This will allow whoever wins (Kerry?) to take credit for the rebound, even though it was all the Fed's doing. This is "How the Federal Reserve Runs the Country," as per the title of a famous book from a few years ago.

One other reason I feel Bush's loss is already written in stone is the treatment he's received recently from the mainstream press. This is the same press that supported him unquestioningly during the Iraqi war, despite the lack of evidence for so-called "Weapons of Mass Destruction." Yet now, despite capture of Saddam, the media have abandoned him and are casting stones in his direction. This is not a good sign for Bush. Kerry is on a major roll, and it's rare that an incumbent has looked this bad this early into an election campaign.

Many will ask, "Why would the Fed want to remove Bush from the White House when, from their standpoint, he's done a good job?" Good question. Despite what you're political affiliation may be, on paper at least one can't deny he helped resuscitate the economy and financial markets through his inflationary policies (which would include the war effort). He also captured Saddam, a long-term outstanding "bad guy" from his father's presidential term. I believe we can find the reason for the Fed's wanting to get rid of Bush in some of the latest news headlines: "Bush wants to send men to the moon again;" "Bush looks to forward manned mission to Mars;" "Bush calls for drastic expansion of the space program," all to the tune of billions of dollars. More recently, we find a caricature of Bush holding an ax on the front cover of Barron's with the headline "He's Still At It." The headline further states that Bush would like to eliminate the capital-gains tax, the dividend tax, and the estate tax. Barron's then asks, "But what about the burgeoning budget deficit? Red meat for the Democrats."

Here lies the answer: the Fed wants to install a Democrat into the White House this fall in order to keep inflation from getting out of hand. Democrats are known for their taxes. Having a Democratic president would mean taxes, taxes, and more taxes -- not to mention a repeal of the Bush tax cuts. These new taxes would act to absorb the excess inflation created by Bush and will serve to further the Fed's long-standing policy of trying to keep the economy on an even keel (or what passes for it!)

What does the slowdown in M3 mean to you and me as traders/investors? I think aside from a potentially weaker economy by mid-year, the market will fulfill my forecast of a mostly "sideways" or range-bound trading pattern. This will likely be a rather loose trading range, which is good from a trader's standpoint. New all-time highs? I'd say the odds are an even 50/50, but even if it happens it probably won't stick -- perhaps a brief spurt above the previous highs and then a quick reversal back down below the highs. Then probably an economic rebound in 2005 along with climbing stock markets...just in time for the new (presumably Democrat) president to take the credit for it!

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