Caution: M4 go-slow

By measuring the size and growth of the money supply we can begin to assess the appetite for saving, spending, and borrowing by households and firms and the appetite amongst banks and building societies to supply credit. In this blog we use figures released by the Bank of England in Monetary and Financial Statistics (Bankstats) to begin such an assessment. But, of course, the very first problem we face is measuring the money supply: just what should be include in a measure of money?

One measure of money supply is known as M4. It is a broad measure of money reflecting our need to use money to make transactions, but also our desire to hold money as a store of wealth. According to the Bank of England’s figures the amount of M4 money at the end of October was £2.19 trillion. To put this into some context, the GDP figure for 2009 was £1.4 trillion, so the amount of M4 is equivalent to about 1½ times GDP.

What M4 measures is the stock of notes and coins and sterling-denominated deposits held by households, firms (non-financial corporations or NFCs) and other financial corporations (OFCs), such as insurance companies and pension funds. These groups are collectively referred to as the non-bank private sector or sometimes as the M4 private sector. As well as the deposits that most of us are familiar with, such as sight and time deposits, sterling-denominated deposits also include other less well known, but liquid financial products, such as repos (sale and repurchase agreements) and CDs (certificates of deposit). Repos are essentially secured loans, usually fairly short-term, where individuals or organisations can sell some of their financial assets, such as government debt, to banks in return for cash. Certificates of deposit are a form of time deposit where certificates are issued by banks to customers for usually large deposits for a fixed term.

The Bank of England’s figures also allow us to analyse the actual holdings of M4 by households, private non-financial corporations and other financial corporations. Consequently, we can analyse the source of these particular liabilities. Of the £2.19 trillion of M4 money at the end of October, 42% was attributable to OFCs, 11% to PNFCs and 47% to households. Interestingly, the average shares over the past 10 years have been 28% OFCs, 14% NFCs and 58% households. Therefore, there has been a shift in the share of banks’ M4 liabilities away from households and towards other financial corporations (OFCs).

So why the change in the composition of Sterling M4 liabilities held by the banking system? Part of the answer may well be attributable to Quantitative Easing (QE): the Bank of England’s £200 billion purchase of financial assets. It appears that a large part of this asset-purchase strategy has resulted in other financial corporations (OFCs) – our insurance companies and pension funds – exchanging assets like government bonds for cheques from the Bank of England. Of course, these cheques are deposited with commercial banks and the banks are then credited with funds from the Bank of England. A crucial question is whether these deposits have facilitated additional lending to households and firms and so created credit.

A major ‘counterpart’ to the private sector sterling liabilities that comprise M4 is sterling lending by banks to the non-bank private sector. Of particular interest, is lending to that bit of the private sector comprised by households and private non-financial corporations. The latest Bank of England figures show that in October net lending to households (including unincorporated businesses and non-profit making institutions) was £1.5 billion. This compares with a 10-year monthly average of close to £3.9 billion. Meanwhile, net lending to private non-financial corporations in October, which over the past 10 years has averaged just over £2.1 billion per month, was -£2.2 billion. The negative figure for PNFCs indicates that more debt was being repaid by firms to banks than was being borrowed.

The net lending figures indicate that lending by banks to households and firms remains incredibly subdued. This is not to say that QE has in any way failed since one cannot directly compare the current situation with that which would have resulted in the absence of QE. Rather, we note that the additional deposits created by QE do not appear to have fuelled large amounts of additional credit and, in turn, further deposits fuelling further credit. The limited amount of credit creation for households and private non-financial corporations helps to explain the relatively slow growth in the stock of M4 held by households and PNFCs. While the stock of M4 increased by 6% in the year to October from £2.06 trillion last year, the stock held by households and PNFCs grew by around 2½%.

It is of course difficult to fully appreciate the extent to which the subdued lending numbers reflect restricted bank lending despite QE, or the desire for households and firms to improve their respective financial positions. One could argue that both are a symptom of the same thing: the desire for banks, households and firms alike to be less susceptible to debt. Clearly, these balance sheet effects will continue to have a large impact on the economy’s activity levels.


Business loans and mortgage approvals falls Financial Times, Norma Cohen (29/11/10)
UK mortgage approvals fall, M4 at record low on yr – BOE MarketNews.Com (29/11/10
Drop in mortgage approval levels The Herald, Mark Williamson (29/11/10)
Mortgage approvals dip to eight-month low Independent, Sean O’Grady (30/11/10)
Mortgage approvals fall to six month low BBC News (29/11/10)
Gross lending up £1 billion in October Mortgage Introducer, Sarah Davidson (29/11/10)


M4 statistics are available from the Bank of England’s statistics publication, Monetary and Financial Statistics (Bankstats) (See Tables in Section A.)


  1. What do you understand by a narrow and a broad measure of the money supply? Which of these describes the M4 measure? Explain your answer.
  2. What other liabilities do you think might be included on the balance sheet of the UK’s banking system which are not included in M4?
  3. What do you understand by credit creation? Explain how the exchange by OFCs (e.g. insurance companies and pension funds) of government debt for cheques from the Bank of England could facilitate credit creation?
  4. What factors can affect the extent of credit creation by banks? How might these have affected the ability of QE to get banks lending again.
  5. What is meant by net lending? And, what does a negative net lending figure show?
  6. What do you understand by ‘balance sheet effects’? Illustrate with respect to households, firms and banks.