The worst fears of the financial markets were confirmed today as the Federal Reserve reported that the basic money supply spurted $4.9 billion in the week ended Oct.5. one of the largest increases ever and jump portending still higher interest rates.
All week long the financial markets had been anticipating a sizable bulge in the money aggregates and the expectation according to analysts, was in large part resposible for the 22.09 point loss in the Dow Jones industrial everage sustained by the stock market in the last three sessions.
"It's a red flag for the financial markets no question about that," said David M. Jones, vice president and economist with Aubrey G. Lanston & Co., a firm specializing in government securities.
The gain to $334.4 billion in the money measure known as M1. which consists of cash and money held in checking accounts, is a near-record increase. Several times this year the Fed has reported singic-week jumps in the basic money supply more than $5 billion, though they have subsequently been revised to below $4.2 billion.
The broader money supply measure or M2. which also includes money held in time deposits at banks, increased $6.5 billion to $799.1 billion.
The jumps mean that the growth in the money supply - which many economists relate directly to the course of inflation - continues to outstrip the longterm growth targets set by the Fed by an significant margin.
For the latest four weeks, M1 averaged $331.6 billion, a 10.8 per cent rate of increase from 13 weeks ago, well above the Fed's 6.5 per cent maximum long-term target for this aggregate. M2 averaged $794.8 billion in the for weeks, a 10.2 per cent rate of increase for the quater compared with a maximum growth target of 9.5 per cent.
While increases in this week's money figures had been anticipated no one seems to have a very good explaion as to why they are occuring since the Fed in recent weeks has been engaged in a significant tightening operation to bring the money supply under control and has in turn caused short-term interest rates to climb steadily.
The climb in interest rates has raised fears that a not-so-solid economic advance could be weakened further and that money could start flowing out of savings institutions and into treasury bills and other short-term money market instruments to take advantage of the higher rates offered. This could dry up mortgage money and weaken the housing market.
But analsts say that the rates on treasury bills would have toclimb above 7 per cent before this process, known as disintermidiation, becomes a real problem.
In Today's Fed report on key interest rates for the week, the three-month treasury bill rate averaged 6.22 per cent up from 5.98 per cent the week before.
The sensitive federal funds rate - which banks charge each other for overnight loans and which is used as a benchmark for Fed open market operations to affects the money supply-last week average 6.41 per cent, exactly equal to the previous week.
The Fed's current federal funds target, analysts believe, is aroung 6.5 per cent. Some thought that the Fed might stay at that level for another week, having already thightened this week in anticipation of a bulge in the money supply announced today, and wait to see if the latest increase is confirmed next week or whether there is a compensating fall-off.
Other analysts said the Fed might now move the rate up to 6.625 per cent - since the latest increase is on the high end of the $3 to $5 billion increse in M 1 that had been anticipated - and then take it to 6.75 per cent soon after that, but then hold steady for the rest of 1977.
"To a large extent the money supply should behave itself pretty well for the balance of October and November," predicted Joseph Bench, vice president and chief economist for First Pennsylvania Corp.
The Fed's open market committee is scheduled to meet next Tuesday and will have decide how much further it wants to tighten the monetary reins.
Jones of Aubrey G. Lanston said that in his view the Fed, in weighing the impact of higher interest rates on the economy versus the problem it is having with the money supply "will give the benefit of the doubt to the money supply growth has slowed."
The money supply has been behaving erratically all year, swinging widely back and forth from week to week and growing much faster that the Fed wants it to all without good explanations as to the causes.
A sizeable increase had been expected because the money supply inexplicably has charged ahead in the year. One only partial explanation is that these jumps are related to disbursements of social security checks by the federal goverment.
The Fed, meanwhile, also reported today that industrial loans at major New York City banks rose $144 million in the week ended Wednesday. That compared with a rise of $229 million in the previous week and a gain of $158 million for the same week a year ago.