Financial System Liquidity & Stock Market

My broad measure of financial system liquidity -- the primary source of private sector funding --
has been very slowly edging up since the cyclical low point reached in mid 2009. Measured yr/yr
through Feb. '11, it is up about 1.2%. This is entrirely due to a rising level of cash and equivalent
provided primarily by the Fed's QE programs. Since total banking system credit is now closer to
expanding yr/yr, the base of liquidity growth may be edging toward broadening out and accelerating
(Total banking system credit and the loan book chart). For now, however, it is the Fed's QE programs that are carrying the load for liquidity expansion and there is little evidence to support the view that
QE should be stopped.

Private sector credit has contracted over most of the past three years, so, net-net, the US stock
market has been funded primarily by the draw down of cash reserves such as money market funds
(MMFs). Since mid 2009, MMFs have been drawn down from $3.5 tril. to $2.5 tril.with the
total balance now below late 2007 levels. Obviously, some of these funds have been drawn for
other than financial reasons, but it should be clear that reserves have been greatly reduced and
that at some point, both the economy and the stock market are going to require a stronger flow
of private borrowing, with this especially true for stocks.