Why 2013 Could Be a Year of Strong Economic Growth

2013 could bring strong economic growth to the U.S. because U.S. Banks and the Federal Reserve are now creating near-normal amounts of credit, which will stimulate domestic demand. This was the prediction made by Dr. Paul Kasriel, retired Chief Economist of The Northern Trust Co., at the January meeting of the San Francisco Financial Planning Association.

Dr. Kasriel believes there is a very strong correlation between Gross Domestic Product growth and bank credit growth. This is good news because the growth in credit for the U.S. has reached 5% annually, the same point it reached in 1994 and 1995, which preceded five more years of strong economic expansion.

The U.S. banking system operates with a fractional reserve monetary arrangement so that depository institutions (banks) can create an amount of credit that is some multiple of the amount of “seed” money (reserves) provided by the central bank. Dr. Kasriel asserts that banks use reserves to expand credit by a 10 to 1 ratio ($100 of reserves for every $1,000 loaned out). This credit, created by the depository institution, is essentially credit created figuratively— in other words, out of “thin-air.”

“Thin-air” credit is very powerful because the bank making the loan does not need to cut back on current spending, while the recipient uses the loan to increase spending. An increase in this type of credit will result in a net increase in nominal spending in the economy. A recovery in “thin-air” credit coincided with the vigorous economic recovery that brought the U.S. out of the Great Depression in the 1930’s.

With inflation abating in China, the Chinese central bank will reduce short-term interest rates, resulting in faster growth in Chinese “thin-air” credit and domestic demand. The acceleration in Chinese domestic demand will positively affect the international exports.

2013 could bring strong economic growth to the global stage as well.