tag:blogger.com,1999:blog-56762007925048143742024-03-13T06:48:36.527-07:00MickanomicsA collection of my thoughts on economics.Unknownnoreply@blogger.comBlogger127125tag:blogger.com,1999:blog-5676200792504814374.post-90717591191187505572021-10-13T00:19:00.003-07:002021-10-28T00:50:08.732-07:00 Q.E… Just an “asset swap” as suggested by MMT supporters?<p>Following on from my last post <a href="http://mickanomics.blogspot.com/2021/03/what-people-still-get-wrong-about-qe.html">What People Still Get Wrong About QE</a>...</p><p>I have seen MMT proponents suggest that QE is just an “asset swap” with private banks and so no new money is created in the process. In the UK where the central bank purchases bonds mainly from non-banks it is very blatantly false. In order for a central bank to buy bonds from a pension fund the central bank has to give freshly created reserves to the private bank that the pension fund has an account with. That private bank has to then credit the pension fund with the same amount of freshly created demand deposits. These demand deposits did not exist before and constitute new (“cheque book”) money, spendable in the real economy.</p><p>In the US where the central bank may buy the majority of bonds from private banks the issue is more complicated because the money creation is more of a side effect of ongoing QE. I emphasize ongoing because in the very *first* instance there may not be any (“cheque book”) money creation. Let me tell it in “cartoon” form for the sake of simplicity. Imagine it’s November 2008 and Ben Bernanke wants to do some QE for the first time ever. He goes round to a private bank, knocks on the door and says “Have you got any government bonds in stock, I’d like to buy some”. The bank has a few and swaps those bonds for reserves and no new cheque book money is created. This is the “asset swap”, just as the MMTers suggest. But then, just as Ben is heading out the door, he turns round and says “it’s a shame you had so few bonds, I’d actually like to buy tons more next month and indeed every month for the foreseeable future”. So the bank manager says to himself, “gee, we’d better get out there and buy a ton of bonds from pension funds and the like so we can sell them to Ben the next time he calls round”… this is where it gets interesting...</p><p>The thing is that when private banks buy assets from non-banks, new money that never existed before is created... “WHAT!!??” I hear you ask. Yes, indeed. And this fact is not even controversial, it’s just very little known outside of banking. Just think about what a private bank can use to buy stuff. It cannot buy stuff from non-banks with reserves. Instead it simply creates demand deposits for the non-bank. It creates the demand deposits out of thin air, it does not get them from somebody else’s account. So QE does indeed create new cheque book money, but it’s indirect. The new money is created by the private banks when they are expecting to be able to sell bonds to the central bank as part of ongoing QE.</p><div><br /></div>Unknownnoreply@blogger.com0tag:blogger.com,1999:blog-5676200792504814374.post-37664864446181054372021-03-04T13:35:00.076-08:002021-07-10T02:07:34.735-07:00What people still get wrong about QE<p class="MsoBodyText">The idea of QE has been widely discussed in the media
since the crash of 2008 but even now, over a decade later, people’s
understanding of it is very poor. And when I say people, I include politicians
and even economists. The consequences of these misunderstandings are simply
enormous. This article will explain what QE <i>really</i>
is, what it does and whether or not it should stop.<o:p></o:p></p><p class="MsoNormal">But before we delve into the nitty-gritty of QE we should
first check that we’re all agreed on how the monetary system works. Most people
assume that there is a constant pool of money that circulates in the economy
forever more and the quantity of it only changes when the government decide to
print more of it. Some of the money we use does indeed work in this way but it
only constitutes a tiny fraction of our money supply. The bulk of it is made up
of what is known as “cheque book money” and it works in a completely different
way. It has become increasingly well known that when a bank makes a loan, new cheque
book money is created. What is less well known is that when the borrower repays
the principal of the loan, it disappears back out of existence. If you’re
finding this hard to believe then please read this document published by the
Bank of England <span class="MsoHyperlink"><a href="https://www.bankofengland.co.uk/-/media/boe/files/quarterly-bulletin/2014/money-creation-in-the-modern-economy.pdf">https://www.bankofengland.co.uk/-/media/boe/files/quarterly-bulletin/2014/money-creation-in-the-modern-economy.pdf</a></span>. This paper contains the words "Just as taking out a new loan creates money, the repayment of bank loans destroys money." - I wish all explanations of our monetary system were this clear. <o:p></o:p></p><p class="MsoNormal">So now we can see that the money supply can go up or down in
accordance with two rates of flow – the rate of new money creation through new
bank loans vs the rate of money destruction through loan repayments. The money
supply is thus analogous to the amount of water in a bath where a tap is adding
water (new loans) but the plug has been removed and water is flowing out of the
bath (loan repayments). I shall refer to this analogy later on as the “bathtub
dynamic”.</p><p class="MsoNormal"><o:p></o:p></p>
<p class="MsoNormal"></p><div class="separator" style="clear: both; text-align: center;"><a href="https://1.bp.blogspot.com/-khMp07eLmvg/YEFRX_o3MjI/AAAAAAAAnnY/E5j-KDBWxNcd64y6GDBMkc3bVQA3nFVoACLcBGAsYHQ/s1356/bathtub.png" style="margin-left: 1em; margin-right: 1em;"><img border="0" data-original-height="923" data-original-width="1356" height="269" src="https://1.bp.blogspot.com/-khMp07eLmvg/YEFRX_o3MjI/AAAAAAAAnnY/E5j-KDBWxNcd64y6GDBMkc3bVQA3nFVoACLcBGAsYHQ/w394-h269/bathtub.png" width="394" /></a></div>
<h2 style="text-align: left;">The prelude to QE</h2>
<p class="MsoNormal">The next thing to consider is what circumstances would lead
up to a situation where governments/central bankers might want to do QE in the
first place. The answer is the upswing phase of a housing bubble. Millions of
people borrowing as much money as they possibly could to buy houses, driven by
the belief that house prices are likely to rise at a rate which makes them a
good investment. This phase corresponds to a high rate of flow through the taps
into the bath. At the same time there will be a high rate of flow out of the
bath corresponding to all those mortgage repayments. At some point however, all
housing bubbles come to an end. People become less certain that the rate of
increase of house prices can be sustained and the enthusiasm for new mortgages
takes a nosedive. So the flow of water into the bath will slow to a trickle.
But what happens to the flow of water out of the bath? The answer is that it
remains high. Mortgages last a long time, decades even. So now we have a
situation where, in the absence of any intervention, the water level (i.e.
money supply) will start to fall. A falling money supply is painful for an
economy in all sorts of ways and central bankers want to avoid it if at all
possible… enter QE.<o:p></o:p></p>
<h2 style="text-align: left;">Misconception 1: QE is just “printing money”</h2>
<p class="MsoBodyText">If QE was just “printing money” then it would be a
permanent thing. I.e. you print the money and that money would remain in the
economy forever more and that would be the end of it. QE does indeed create new
money but with QE it is very much not the end of it. It is inherently a time
limited thing, i.e. the money is created, added to the economy and then at a
predefined future time will automatically disappear back out of the economy.
The reason for this strange disappearance is all to do with the fact that QE
involves the purchasing of bonds…<o:p></o:p></p>
<table border="1" cellpadding="0" cellspacing="0" class="MsoTableGrid" style="border-collapse: collapse; border: none; mso-border-alt: solid windowtext .5pt; mso-padding-alt: 0cm 5.4pt 0cm 5.4pt; mso-yfti-tbllook: 1184;">
<tbody>
<tr>
<td style="background: rgb(140, 140, 140); border: 1pt solid windowtext; mso-background-themecolor: accent6; mso-background-themetint: 153; mso-border-alt: solid windowtext .5pt; padding: 0cm 5.4pt; width: 450.8pt;" valign="top" width="601">
<p class="MsoNormal" style="line-height: normal;">What is a bond?<o:p></o:p></p>
</td>
</tr>
<tr>
<td style="background: rgb(140, 140, 140); border-top: none; border: 1pt solid windowtext; mso-background-themecolor: accent6; mso-background-themetint: 153; mso-border-alt: solid windowtext .5pt; mso-border-top-alt: solid windowtext .5pt; padding: 0cm 5.4pt; width: 450.8pt;" valign="top" width="601">
<p class="MsoBodyText">A bond is a mechanism for borrowing money. Let us say that
someone or some organisation wants to borrow a £1million for 5 years and they
are willing to pay interest of say 7% each year for the privilege. What they
can do is write out a special document called a bond, which says, “I promise to
pay the holder of this document 1
million pounds in 5 years’ time and I will pay 7% (that’s £70,000 each year)
along the way” and then hope they can find someone willing to buy that document
for 1 million pounds. The person that buys the document will then receive £70,000
a year and at the end of five years the person borrowing the money will have to
pay the purchaser the original £1million back.<o:p></o:p></p>
<p class="MsoBodyText">In this example 5 years is known as the “maturity” and the
£70,000 per year interest payments are known as the “coupon”.<o:p></o:p></p><p class="MsoBodyText">If the organisation wanting to do the borrowing happens to
be the government then the bond is referred to as a government bond or gilt.<o:p></o:p></p><p class="MsoNormal" style="line-height: normal;">
Bonds can be bought and sold like stocks and
shares.</p>
</td>
</tr>
</tbody></table>
<p class="MsoBodyText">So the first step of QE is the central bank creating money
out of thin air and using that freshly created money to buy pre-existing government bonds
from the financial markets, for example from a pension fund. Say for example
they purchased £10Billion worth of bonds that mature in 3 years’ time. When
those bonds reach their maturity the original issuer of the bond (i.e. the
government) will need to pay back the £10Billion to the holder of the bond (the
central bank). One may ask what happens to that money upon repayment, and the
answer is that it disappears back out of existence.</p><p class="MsoBodyText"><o:p></o:p></p><p class="MsoBodyText">So the difference between simply printing money and QE is
that with QE there is an automatic, baked in, process by which that money will
be “un-printed” at some future date. And the un-printing will be painful for
the government of the time – the government will have to deliberately destroy
some of its own money, i.e. it would mean collecting £10billion from the
taxpayer and instead of using that money to pay doctors, teachers, policemen
etc., it will have to destroy that money. There is not only that pain however, there
is also the economic effects of removing that money from the money supply – a
double whammy of pain. This process is known as “unwinding QE”, and guess what,
governments don’t like to do it! What they are much more likely to do instead
is some more QE to counteract the expiring QE. I.e. at the moment that £10billion
of bonds matures, the government can simultaneously borrow another £10billion
by selling £10billion of freshly created government bonds to the private sector
and getting the central bank to do £10billion of new QE, i.e. buy another £10billion
of bonds from the private sector.<o:p></o:p></p>
<h2 style="text-align: left;">Misconception 2: QE increases the money supply.</h2>
<p class="MsoBodyText">Indeed QE <i>can</i>
increase the money supply, but it is not guaranteed. If the rate of creation of
new money via QE is less that the rate at which the money supply is falling
(due to the burst housing bubble) then we could be in a state, where you add new
money over some period but end up with less than you started with. Indeed if
you watch the former Governor of the Bank of England speaking to a
parliamentary committee in 2011: <span class="MsoHyperlink"><a href="http://www.bbc.co.uk/news/business-15446545">http://www.bbc.co.uk/news/business-15446545</a></span>
you can see he explains that at that time the UK was in just such a state. He
says "What we were doing was injecting money into the economy and what the
banking system has been doing is destroying money". "What we were
doing [QE] was to partially offset what would otherwise been an even bigger
contraction."<o:p></o:p></p>
<h2 style="text-align: left;">Misconception : The money initially simply sits in the banks as reserves
and no new money enters the economy until the banks lend it out.</h2>
<p class="MsoBodyText">This idea probably comes about because the central bank’s
form of money, namely bank reserves, cannot be used directly by the public. So
the assumption is that the only way for central bank money to get out into the
economy is for banks to make loans. But in fact the central bank can purchase
things from, say a pension fund, in a two-step process whereby they give
reserves to the bank holding the pension fund’s bank account and instruct the
bank to credit the pension fund’s account thereby getting money outside of the
banks without a single loan having taken place.<o:p></o:p></p>
<h2>Misconception : It’s failed so let’s stop</h2>
<p class="MsoBodyText">Many people (usually with no idea of the bathtub dynamic)
have observed the rounds of QE, seen that there have not been great
improvements in the economy and have declared things along the lines of “We’ve
given QE a try and it didn’t work, let’s stop QE and never do it again”.
Unfortunately because water gushing out of the bathtub’s plug hole, you have to
have an alternative plan for preventing a contraction of the money supply.
Simply stopping QE is not really an option.<o:p></o:p></p>
<h2 style="text-align: left;">Misconception : QE might lead to runaway inflation</h2>
<p class="MsoNormal">If you don’t know about the bathtub dynamic then QE will
appear to present a great risk of inflation. Indeed when it was being
employed around 2009 there were many
economists warning of hyperinflation around the corner. Over a decade later it
has still not materialised. This is not to say that it is completely impossible
to create hyperinflation with QE, merely that when you “do the math” you have
to take into account the (anti-inflationary) water flowing out of the bath.<o:p></o:p></p>
<h2>The most critical issue of all</h2>
<p class="MsoBodyText">Let us consider the question of
whether it would be possible to get the money supply stabilised again without
relying on QE. This means getting the rate of flow of new money creation to
rise up to a level which is at least as much as the rate of flow of money
destruction. Unfortunately the high rate of money destruction has been baked in
for years to come by the mortgage repayments set up just before the bubble
burst. This rate was crazily and unsustainably high. Without QE, this rate
cannot be matched again without there being a new bubble in place! Any long
term solution to the QE problem has to bear this in mind.<o:p></o:p></p>
<h2>A solution</h2>
<p class="MsoBodyText">What we need is to replace the
money being lost through mortgage repayments with money that doesn’t disappear
and won’t leave future governments burdened with horrible decisions about
unwinding. This can be done with genuine (permanent) money printing. The
government can, for a few years, spend more than it takes in from taxation and
make up the difference with central bank money. They can pay government workers
(doctors, teachers policemen etc.) with central bank reserves by handing those
reserves to private banks and then instruct those banks to credit the accounts
of the workers. The new money thus goes straight into the economy and there is
no future unwinding required and no interest to pay.<o:p></o:p></p>
<h2>An even better solution</h2>
<p class="MsoBodyText">All this crazy game that
central bankers need to play in order to get a stable money supply is a direct
consequence of our monetary system in which bank loans create money and
repayments destroy it. The system we have, known as fractional reserve banking,
was however not humanity’s only choice for a way of designing money. Indeed I
would suggest that that our current system has come about more through
historical accident than by design. If money was being introduced for the first
time today, nobody in their right minds would select our current system. If you
asked the man in the street how money worked, they would probably suggest that
there was some pool of money that circulates in the economy forever unless a
government decided to print more of it. This “naive” idea is in fact perfectly
workable and is known as full reserve banking. No more bathtub dynamic. Under
full reserve banking, the amount of money in the economy does not change when
there is a boom or a bust so there would never be any need to stop the money
supply falling. It simply cannot fall. Switching to full reserve banking would
no doubt take a lot of preparation and re-education of bankers, so could not be
done overnight but it’s something we should start investigating for the future.<o:p></o:p></p><br />Unknownnoreply@blogger.com0tag:blogger.com,1999:blog-5676200792504814374.post-45952309725181953192020-03-22T13:03:00.000-07:002020-03-22T13:03:31.922-07:00How to Save the Economy from Coronavirus <br />Obviously the economy is going to shrink dramatically during this virus outbreak. This will be true whatever policies are put in place… So perhaps the more important question for policymakers is what steps can be taken to minimise the harm to the economy when the outbreak is over and try and ensure that perfectly viable companies are not lost through bankruptcy.<br /><br />
A powerful tool for solving complex problems is to first make a simplified model of the problem, solve that, and then start thinking about how the real-life complexities might alter that solution…. So what I’m going to do here is present a kind of cartoon version of the virus interacting with the economy and present a solution for that scenario. I will then propose that this “cartoon solution” could be a starting point for dealing with the real world coronavirus issue.<br /><br />
<b>The cartoon:</b> Imagine a world with a normal economy ticking over nicely. Then one day a kind of magic-freezing-virus fell from the sky and prevented all living things from moving a muscle – a bit like a game of musical statues. Nobody was killed, they were just put into a state of suspended animation. This state lasted for five whole years and then suddenly the effect wore off and everyone “woke up”. Now let’s consider what should happen with the post-suspended animation economy. You might imagine it should and could carry on from where it left off and life could get back to normal in an instant but there are some issues to be resolved.<br /><br />
<b>Issue 1 Wages:</b> The workers may go to their bosses and say “we’ve got contracts, you owe us five years wages!”. Obviously the companies will have earned zero during those five years and the bosses could say “but you did not work for us during all those years why should we pay you?” If the back pay was enforced then most companies would instantly be bankrupt and be forced into liquidation. Hopefully you will agree that the best thing to do is simply not enforce the back pay of all those wages.<br /><br />
<b>Issue 2 Rent and/or Interest:</b> Landlords and banks may demand five years of rent and interest payments. If this was enforced then again a huge proportion of business would be immediately bankrupt. Hopefully you will agree that the best thing to do is not enforce the back pay of rents and interest.<br /><br />
In conclusion, in the case of the magic-freezing-virus, the economy can continue unharmed from where it left off so long as wages, rent and interest were deemed non-applicable during the suspension and could not be recouped retrospectively.<br /><br />
<h2>
Relation to the real world COVID-19:</h2>
<br />Obviously the magic virus is not the same as COVID-19, but it does share some similarities. Around the world, otherwise viable companies are temporarily having to cease operating. Whether or not they will be able to restart again when the pandemic is over may depend critically on the decisions made by policymakers. What would be ideal is if companies could go into a kind of suspended animation and not have to pay any wages, rent or interest during any virus-enforced shut down. One difference between COVID-19 and the cartoon story is that during the COVID-19 outbreak people still need to pay for at least the bare necessities of life, food, water, gas, electricity. If they were getting no wages then how would they get the money to live? The answer is to pay everyone a citizen’s income. This would be enough to cover food, utilities and not much more. The money can just be created by the Bank of England. Now before you all scream “but what about the inflation!” don’t forget that this money would not need to cover mortgage or rental payments because these will all be non-applicable during any enforced shutdown. The total amount needed may be as little as say £100 per week per person. This corresponds to around £28 billion per month. Now consider that Rishi Sunak is talking about injecting £330 billion into the economy, this £30billion a month is a mild measure indeed.<br /><br />
What Sunak is proposing is that all rents and interest should be 100% applicable during any shutdown. Even if some of those things are not collectable during that time, they accrue and will be recoupable in the future. He wants Landlords and moneylenders to not lose a single penny in the long run – as if the pandemic never happened. Why should this group of the wealthiest people in society have the privilege of being so fully immune? It makes no sense. Under Sunak’s plans, the amount of debt businesses and families will be saddled with after the pandemic will have risen horribly.<br /><br />
<b>In conclusion, </b>the best thing to do in a shutdown is to properly cease all rent and interest payments and allow hibernating companies to cease paying wages. Add in a not too expensive citizen’s income and you have a recipe for both surviving the crisis and recovering afterwards.<br /><br /><br /><script>!function(d,s,id){var js,fjs=d.getElementsByTagName(s)[0];if(!d.getElementById(id)){js=d.createElement(s);js.id=id;js.src="//platform.twitter.com/widgets.js";fjs.parentNode.insertBefore(js,fjs);}}(document,"script","twitter-wjs");</script>Unknownnoreply@blogger.com0tag:blogger.com,1999:blog-5676200792504814374.post-84613981535300058082020-01-15T02:09:00.000-08:002020-01-15T02:09:00.095-08:00How the Rich Steal From the PoorA video about land and housing. Parts 1,2, and 3.<br />
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Unknownnoreply@blogger.com0tag:blogger.com,1999:blog-5676200792504814374.post-3336391556074552452019-03-17T03:39:00.000-07:002019-03-17T10:30:51.060-07:00MMT seems to becoming ever more popular recently and I can't really
see why. Whilst they do state one or two true things that perhaps some
people did not realise - they also spout a lot of incredibly misleading
and occasionally downright incorrect stuff. So here are a few examples I
came across recently.<br />
<br />
1. <a href="https://www.youtube.com/watch?v=CK7IAndQzK8&feature=youtu.be&t=990">Randy Wray being very reluctant to say that demand deposits are money</a>. Moneyness is a matter of degree, but if all the things that could conceivably be money were lined up in order of their moneyness, then demand deposits would sit right at the top of the list neck and neck with cash as a near rival. So to have such reluctance to call demand deposits money is just unhelpful.<br />
<br />
2. <a href="https://www.youtube.com/watch?v=CO6GS13rEuE">Warren Mosler claiming that QE does not increase the money supply</a>.<br />
This is now the opposite of the Wray problem. Wray was too reluctant to call something money when it blatantly is money and now Mosler is too keen to label something as money when it has rather dubious moneyness - namely government bonds. What percentage of goods and services in our economy is purchased with government bonds? Close to nill I would guess.<br />
<br />
3. <a href="https://youtu.be/E5JTn7GS4oA?t=3020">Randy Wray saying of debt fee money: "it's a non sequitur, it's impossible"</a><br />
This is simply false. Debt is an IOU. An IOU is a thing which literally or metaphorically has the following form:<br />
<br />
<div style="text-align: center;">
<b>I/we/organisation 'X' agree to give the bearer of this thing, some stuff 'Y' at some future time.</b></div>
<br />
The holder of this thing can, at that future time, take the IOU to X and say "Now please can I exchange this IOU for Y". Indeed this exchange will probably be enforceable by law. Once the exchange has taken place the IOU has now done its job and will expire. X may as well destroy the IOU - it will be of no value to them.<br />
<br />
So a reasonable test of whether something is an IOU or not is to ask: who is X and what is Y. If you can not answer that then the thing is not an IOU. In addition to that, if Y is simply the same as the thing in question then again that thing is not an IOU.<br />
<br />
As an example let us consider demand deposits. Are they IOU's? Let's consider X and Y:<br />
<br />
<div style="text-align: center;">
<b>X is: your bank</b></div>
<div style="text-align: center;">
<b>Y is: cash</b></div>
<br />
The test has been passed, so indeed demand deposits are an IOU.<br />
<br />
Now consider coins - i.e. ordinary coins you can buy things with - obviously money. Can you identify X and Y?... Good luck, because I can't. Coins are money but they are not debt.<br />
<br />
As another example, take bitcoins which are definitely not debt (Wray says they are not money). This is slightly messy because in recent years their moneyness has diminished but certainly around 5 years ago people were buying and selling goods and services in bitcoin. Unfortunately some design flaws meant that it was a little awkward to use and it tended to be reserved for people of a geeky disposition. But even today there are people (mostly criminals!) that will buy and sell things (mostly illegal things!) with bitcoin. So just as you can say cigarettes are money *in prisons* you can also say that today bitcoins are money *amongst criminals*.<br />
<br />
A counter argument I have heard about bitcoin is along the lines of "their inherent value is zero therefore in the long run they will fail" - even if that were perfectly true, that statement is not an argument against bitcoin being money now. Plenty of currencies have ultimately failed due to excessive printing or other issues but that never stopped those same currencies functioning perfectly well as money for many years, perhaps many decades, before their ultimate failure.<br />
<br />Unknownnoreply@blogger.com0tag:blogger.com,1999:blog-5676200792504814374.post-63755653690986677852017-11-18T04:35:00.001-08:002017-11-18T05:36:25.160-08:00MMT an intellectual slight of handImagine you pour some water into a bucket at a rate of one litre per
minute... a minute goes by... how much more water is there in the bucket
compared to when you started? One litre more? I hear you say. Wrong! I
forgot to mention that there was a hole in the bucket which leaked water
at half a litre per minute. What kind of dirty trick is that! I hear
you say... well its the same kind of trick used by <a href="https://en.wikipedia.org/wiki/Modern_Monetary_Theory">MMT</a>'ers when they
tell you about their beloved "sectoral balances" graph:<br />
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<a href="https://4.bp.blogspot.com/-gpBEBYTOG6Y/WhAkDXhWWoI/AAAAAAAAEdc/HkjpbBCGE0cOZzYJG_xQ7ZY5ZacgIRJnQCLcBGAs/s1600/secbal.jpeg" style="margin-left: 1em; margin-right: 1em;"><img border="0" data-original-height="540" data-original-width="720" height="240" src="https://4.bp.blogspot.com/-gpBEBYTOG6Y/WhAkDXhWWoI/AAAAAAAAEdc/HkjpbBCGE0cOZzYJG_xQ7ZY5ZacgIRJnQCLcBGAs/s320/secbal.jpeg" width="320" /></a></div>
The
graph seems very compelling - if the government spend $1 billion more
then they take in taxes then the private sector has 1 billion more
dollars to use... right?... wrong! (hole in the bucket coming up)... the
thing they forget to mention is that the private sector can make and
destroy money independently of the government via the magic of
fractional reserve banking. So the amount of money the private sector
has to play with could have gone up by much more or much less than $1
billion. It could even have shrunk. Many people will assume that the
vertical axes on the graph corresponds to "money", but it doesn't...
instead it corresponds to a rather odd concept of "financial assets"
which is not the same thing at all.<br />
<br />
It may well be that if you
read some MMT books in detail that the precise truth of what's going on in the
sectoral balances graph is revealed, but I can't help feeling that the
graph is being over-sold.<br />
<br />Unknownnoreply@blogger.com0tag:blogger.com,1999:blog-5676200792504814374.post-63829030766133336812015-11-22T02:30:00.000-08:002015-11-22T02:30:01.141-08:00George Osborne guides UK on unsustainable trajectoryAsk yourself this question: When have house prices in the UK ever been higher?<br />
<br />
According to the Halifax House Price Index, the only time prices have been higher, as a multiple of average earnings, was just in the run up to the crash of 2007/8. And as you can see from the graph below, we are now on course reach or exceed those levels all over again.<br />
<br />
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<a href="http://1.bp.blogspot.com/-Du8fSdqZ8gY/VlGRIAhznuI/AAAAAAAADvk/HThuZ7Z3XCA/s1600/Clipboard02.bmp" imageanchor="1" style="margin-left: 1em; margin-right: 1em;"><img border="0" height="287" src="http://1.bp.blogspot.com/-Du8fSdqZ8gY/VlGRIAhznuI/AAAAAAAADvk/HThuZ7Z3XCA/s320/Clipboard02.bmp" width="320" /></a></div>
<span id="goog_1992701354"></span><span id="goog_1992701355"></span><br />
So, why should this matter I hear you ask... Maybe house prices will simply flatten out, at some high level and we can just carry on with our great economic recovery... The problem is that a sizeable constituent of the demand for houses is precisely the perception that they are on a rising trajectory. When the trajectory is no longer expected to continue, the enthusiasm for new mortgages drops dramatically and you have a crash in house prices and consequently a crash in demand for new mortgages.<br />
<br />
So why should a crash in mortgage demand matter? Surely housing will just be cheaper and we'll all be happy? The problem is, that with our crazy <a href="https://www.youtube.com/watch?v=CI5CFQXJxcA">fractional reserve monetary system</a>, the amount of money in the economy is critically dependant on the amount of borrowing that goes on. So a slump in borrowing equals a slump in money. Economists and the media confusingly refer to this as a "credit crunch", but it is more accurately described as a money crunch. Money, quite literally, starts disappearing. As Mervyn King said just after the crash "<a href="http://www.bbc.co.uk/news/business-15446545">What the banking system has been doing is destroying money</a>". A shrinking money supply is painful for an economy, and George Osborne is setting us up for just that scenario.<br />
<br />
There are ways out of this predicament. We don't actually need rising house prices forever to maintain the money supply. We could actually have normalised interest rates, non-looney house prices and a stable money supply... we just have to fix our crazy monetary system and switch to something sane like full reserve banking <a href="https://www.youtube.com/watch?v=B_rTSYo_CkQ">as supported by the FT's Martin Wolf</a>.<br />
<br />Unknownnoreply@blogger.com0tag:blogger.com,1999:blog-5676200792504814374.post-64631740606082866032015-09-28T09:45:00.002-07:002015-09-28T09:45:23.853-07:00Not meaning to gloat or anything but...<!--[if gte mso 9]><xml>
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<br />
Not meaning to gloat or anything but, in <a href="http://www.fullreservebanking.com/book/">my book</a> (published July 2011) I did say: After "bursting of any asset bubble"... "Society can get locked in to low rates, painted into a corner."<br />
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<br />
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A possible counter argument is that the people that purchased government bonds are<i> investing </i>in the government and therefore the rest of us should be grateful for this service, and be happy to repay them with interest payments. The problem with this argument is that the money was not really <i>investment </i>at all. True investment is where you spend money on something that makes future production more efficient, like buying new machinery for a factory. But most of the money received from bond sales is simply spent on running costs, like wages. That's not investment at all.<br />
<br />
<script>!function(d,s,id){var js,fjs=d.getElementsByTagName(s)[0];if(!d.getElementById(id)){js=d.createElement(s);js.id=id;js.src="//platform.twitter.com/widgets.js";fjs.parentNode.insertBefore(js,fjs);}}(document,"script","twitter-wjs");</script>Unknownnoreply@blogger.com35tag:blogger.com,1999:blog-5676200792504814374.post-47934129691744338782014-07-28T02:36:00.001-07:002014-07-28T02:36:08.725-07:00Share prices with fractional reserve banking<span lang="EN-GB">The popular explanation of share prices is that
its all determined by “supply and demand”. If the price of something has gone
up it must mean that either its supply has diminished, or its demand has
increased. It’s all part of a natural stable system. Wise investors are
carefully evaluating companies and buying and selling shares accordingly. The
government, who claim to believe in free markets, sit on the side-lines and let
them get on with it.</span><br />
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<br /></div>
<div class="MsoNormal">
<span lang="EN-GB">IMHO the conventional view is badly wrong and
here's why:</span></div>
<div class="MsoNormal">
<br /></div>
<div class="MsoNormal">
<span lang="EN-GB">Most people would make two assumptions when
considering this market:</span></div>
<ol>
<li><span lang="EN-GB">People buy shares with their
money.</span></li>
<li><span lang="EN-GB">If they spend say, £1000 on
shares, they will have £1000 less money to spend on other things.</span></li>
</ol>
<div class="MsoNormal">
<span lang="EN-GB">If both these things were true, then share
prices may stand a chance of being well behaved and act in the way textbooks
may have you believe. But many economists have observed that share prices
behave in strange ways. At least part of the reason for this is the fact that
neither of the two assumptions is correct. They are incorrect because shares
are often purchased with <i style="mso-bidi-font-style: normal;">borrowed</i>
money, or to be more accurate, part borrowed. Readers of this blog should know
by now, that when £1000 is “borrowed” from a bank, that money is created on the
<i style="mso-bidi-font-style: normal;">out of nothing</i>. There is nobody else
in the economy that is deprived of £1000 of spending power. You should get the
idea straight away that now something is screwy about the demand side of the
supply and demand balance.</span></div>
<div class="MsoNormal">
<br /></div>
<div class="MsoNormal">
<span lang="EN-GB">Textbooks say that the price of something
is what you are willing to give up in order to get something, i.e. the amount
of money you will pay for something equals the amount of money you are willing
to have disappear from your spending power. But if you are going to buy that
thing with 10% your money and 90% <i style="mso-bidi-font-style: normal;">borrowed</i>
money (a process known as trading on margin) then the textbook concept is
busted. Now the amount of money you are willing to pay for something is, instead,
enormously sensitive to the interest rate you will be charged for the money you
borrow to buy that something.</span></div>
<div class="MsoNormal">
<br /></div>
<div class="MsoNormal">
<span lang="EN-GB">So now the role of government/central
banks, becomes crucial in setting share prices! Instead of standing at the
side-lines observing these wise investors analysing the companies, the
government is now the dominating factor. If they lower interest rates, then the
enthusiasm for borrowing to buy shares increases and their price will rise… and
conversely If they raise interest rates, then the enthusiasm for borrowing to
buy shares decreases and their price will fall. </span></div>
<div class="MsoNormal">
<br /></div>
<div class="MsoNormal">
<span lang="EN-GB">By implementing super-low interest rates
for such a long time, the government is now stuck in a situation, where
returning to normalised interest rates would almost certainly cause a fall (or
even crash) in the stock market. Note that I could have made almost exactly the
same argument about the housing market too.</span></div>
<div class="MsoNormal">
<br /></div>
<div class="MsoNormal">
<span lang="EN-GB">The near-zero interest rate policy is in
force precisely because of fractional reserve banking and would be entirely
unnecessary had we a full reserve system.</span></div>
<div class="MsoNormal">
<br /></div>
<div class="MsoNormal">
<span lang="EN-GB">Changing to full reserve banking is a key
ingredient for making our economy work properly.</span></div>
Unknownnoreply@blogger.com0tag:blogger.com,1999:blog-5676200792504814374.post-17780661502879829722014-05-21T00:41:00.002-07:002014-05-21T01:25:53.247-07:00What nobody is saying about the housing market...<div class="separator" style="clear: both; text-align: center;">
<a href="http://2.bp.blogspot.com/-MUWMi0i06kY/U3xim7zbVmI/AAAAAAAAAgc/UGKQqmyQSZk/s1600/silent.jpg" imageanchor="1" style="margin-left: 1em; margin-right: 1em;"><img border="0" src="http://2.bp.blogspot.com/-MUWMi0i06kY/U3xim7zbVmI/AAAAAAAAAgc/UGKQqmyQSZk/s1600/silent.jpg" height="89" width="320" /></a></div>
<br />
Its seems incredible to me that amongst all the talk about
the housing market by Mark Carney, George Osborne and the media, there is scarcely
any mention of its connection with the money supply. As readers of this blog
should know by now, <a href="https://www.youtube.com/watch?v=CI5CFQXJxcA">new loans increase the money supply whist repayments of existing loans shrink it</a>. In the UK, lending is dominated by the housing
market. Far more money is lent for house purchasing than for business. Putting
these facts together means that the total amount of money that circulates in
the economy as a direct function of the state of the housing market. A housing boom
corresponds to a growing money supply, whilst a bust would shrink the money
supply, just like in 2008. We are now in a very unstable situation. If
regulators succeed in bursting the current housing bubble it would either lead
to an immediate recession (this is what a shrinking money supply does), or alternatively quantitative easing would have to
start all over again.
<br />
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<br /></div>
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With this precarious situation, why are the words
"money supply" not on everybody's lips?</div>
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Ever since Martin Wolf came out <a href="http://www.ft.com/cms/s/7f000b18-ca44-11e3-bb92-00144feabdc0,Authorised=false.html?_i_location=http%3A%2F%2Fwww.ft.com%2Fcms%2Fs%2F0%2F7f000b18-ca44-11e3-bb92-00144feabdc0.html%3Fsiteedition%3Duk&siteedition=uk&_i_referer=http%3A%2F%2Fwww.fullreservebanking.com%2F#axzz30PAI4021">in favour of full reserve banking</a>, there have been several follow-up articles (<a href="http://krugman.blogs.nytimes.com/2014/04/26/is-a-banking-ban-the-answer/">1</a>,<a href="http://www.businessinsider.com/banning-banks-2014-4">2</a>,<a href="http://theweek.com/article/index/260615/prohibition-didnt-work-for-liquor--so-why-ban-banking">3</a>) in which the authors
describe a move to full reserves as “banning banks”. I take issue with this...</div>
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<br /></div>
<div class="MsoNormal">
When <a href="http://www.amazon.co.uk/Bank-Dave-Banks-Heroic-Attempt/dp/0753540789">Dave Fishwick</a>, made famous by the<a href="http://www.channel4.com/programmes/bank-of-dave"> television series Bank of Dave</a>, wanted to start <a href="https://www.burnleysavingsandloans.co.uk/">his own bank</a>, he was surprised to discover that
his proposed business of taking people’s savings and lending that money to
people that wanted to borrow it, was not allowed to be called a “bank”. I can
sympathise with Dave because by almost any definition of the word bank you may
find in a dictionary, his institution was most definitely a bank. It’s just
that the financial regulators have an unreasonably pedantic definition of the
word. Its as if the word “car” had been defined as a Volkswagen Golf, and any
“vehicle” that wasn’t a VW Golf was barred from calling itself a car, and had to be
advertised as a “motorised people transportation device”.</div>
<div class="MsoNormal">
<br /></div>
<div class="MsoNormal">
There are many precedents for dictionary definitions of
words being different from that which pedantic lawyers would insist upon. For example,
take Champagne and Velcro. Champagne is simply sparkling white wine, but woe
betide you if you make some white sparkling wine outside the Champagne region
of France and label your drink Champagne. Similarly with Velcro. If your “hook
and loop material” was not made by Velcro Corp. and you describe it in your
sales material as velcro, you will have a letter from their lawyers
soon after.</div>
<div class="MsoNormal">
<br /></div>
<div class="MsoNormal">
So if you are a pedantic lawyer type, then yes, full reserve
banking is indeed banning banks. But if you are a normal human being, armed
with a normal dictionary, then full reserve banking does<i> not</i> involve banning banks. It's merely switching to a different model of bank, like a different model of car.</div>
<div class="MsoNormal">
<br /></div>
Unknownnoreply@blogger.com0tag:blogger.com,1999:blog-5676200792504814374.post-22507131022803674122014-04-28T00:27:00.000-07:002014-04-28T01:53:46.308-07:00Krugman's c**p argument against 100% reserve bankingA few days ago the FT's Martin Wolf wrote an article <a href="http://www.positivemoney.org/2014/04/strip-private-banks-power-create-money-financial-times-martin-wolf-endorses-positive-moneys-proposals-reform/">supporting 100% reserve banking</a>. Good! About time too.<br />
<br />
Then Paul Krugman responded with a short article entitled "<a href="http://krugman.blogs.nytimes.com/2014/04/26/is-a-banking-ban-the-answer/?_php=true&_type=blogs&_php=true&_type=blogs&_r=1&">Is A Banking Ban The Answer?</a>"<br />
<br />
This article made an argument (that I've seen before) which suggests that under a 100% reserve system, anyone with spare cash that wanted to use their money to lend out and earn interest would be unable to use a "bank" and would therefore be forced to employ some dubious unregulated "shadow" institution. See for example this sentence from his article: <br />
<br />
"First, Wolf’s omission is a big one. If we impose 100% reserve
requirements on depository institutions, but stop there, we’ll just
drive even more finance into shadow banking, and make the system even
riskier."<br />
<br />
First of all I suggest that even with 100% reserves, the institutions that manage saving and lending <i>should</i> be called banks. They will still take in people's savings and lend them out to borrowers. The only difference with today's banks being that the deposits will have to be properly enforced "time deposits" rather than "demand deposits".<br />
<br />
Secondly, even if they are not given the name "banks" (lets call them alt-banks for now), a switch to 100% reserve banking would have to involve new regulation. This means that alt-banks could (and should) be regulated to whatever degree a government deemed necessary. So Krugman's argument is just drivel.<br />
<br />
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<br />
===================<br />
<br />
Fractional reserve banking is a monetary system in which there are
two types of money with one type constituting a fraction of the total,
hence the name. The first type is known as central bank money or base
money which is created by the central bank. The second type, known as
broad money or demand deposits, is both created and destroyed by private
banks as they make loans, or their loans are repaid. Broad money is
essentially an IOU, from the private bank, of central bank money.<br />
<br />
Central bank money can be further subdivided into two components,
reserves and cash. Reserves are electronic and do not circulate outside
of the banking sector, whilst cash takes the form of notes and coins
which may be used by the public.<br />
<br />
Banks typically loan out IOUs totalling more central bank money than
they posses. This makes them vulnerable to a phenomena known as a bank
run. Governments often have guarantees and or other policies to protect
bank's customers in such circumstances.<br />
<br />
There are regulations that require that a bank holds a minimum
amount of capital and or reserves for any given amount of IOUs it has
loaned out. The exact nature of these regulations may be different
between different countries and at different times.<br />
<br />
Fractional-reserve banking is the current form of banking in all countries worldwide.<br />
<br />Unknownnoreply@blogger.com0tag:blogger.com,1999:blog-5676200792504814374.post-22091984038900311352014-03-11T02:20:00.002-07:002014-03-11T04:33:13.041-07:00What's wrong with MMTI'm writing this blog entry as a discussion point. Please don't take it as definitive.<br />
<br />
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I have long been dissatisfied by <a href="http://en.wikipedia.org/wiki/Modern_Monetary_Theory">MMT</a>'ers. Listening to them just hasn't rung true. And I've never quite been able to work out why... but now I have a hunch... its all to do with the difference between "base money" and "broad money", or as I like to think of it "everlasting tokens" and "spendable IOU's". If you are not familiar with these concepts, please watch <a href="https://www.youtube.com/watch?v=CI5CFQXJxcA">this</a>.<br />
<br />
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MMT'ers appear to believe that the world revolves around base money (everlasting tokens), despite the fact that over 95% of the money in the economy is broad money. The reason for this they would say is that when man A buys $1000 worth of stuff from man B, then the transaction is not complete until $1000 of base money is transferred from A's bank to B's bank. But this is (mostly) untrue. If for example A and B both are with the same bank, then no base money need get transferred anywhere. It would be purely the bank's spendable IOU's or broad money that would be transferred from A to B. Even if bank A and bank B were different, so long as they are reasonably large, then any base money settlement between the banks will be done at the end of the day and will involve a sum corresponding to the net balance of transfers between them. If there were thousands of transactions between bank A and bank B some in one direction and some in the other, then the net transfer of base money will likely be only a tiny fraction of the total amount exchanged.<br />
<br />
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People's propensity to spend money (and therefore the overall demand) depends critically on the amount of <i>broad</i> money that they earn and/or possess in the bank. Therefore, unlike what MMT'ers would have you believe, it is the amount of broad money that dominates the behaviour of the economy. And don't forget it is perfectly possible, at least in the short and medium term, for the amount of base money and the amount of broad money to be quite uncorrelated, one can rise as the other one falls and vice versa.<br />
<br />
Feel free to leave comments. I will read them carefully and may write a followup blog addressing whatever comes up.<br />
<br />
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Imagine that in the distant past, a ship ran into rocks off a
desert island and started sinking.<span style="mso-spacerun: yes;">
</span>Everyone jumped overboard and started swimming towards the nearest
beach. Imagine a guy armed with a gun got to the island first, and then upon
everyone else's arrival, the guy said, “I got here first, so this island is
mine. You can't live here unless you pay me rent for using my land”. The
swimmers have no choice and have to give the “landowner” part of their income
forever more.<span style="mso-spacerun: yes;"> </span>This situation obviously
stinks. If you were one of the people having to pay rent you would be angry as
hell, you’d protest at every opportunity. Who could possibly defend such
system?</div>
<div class="MsoNormal">
<br /></div>
<div class="MsoNormal">
Now imagine that at some later time, a rich islander purchased the
island from the gunman for a large sum of money. The rich man announced to the
rest of the islanders, “That nasty gunman was evil and grabbed the island
unjustly. He had no right to claim rent from you all. But I purchased the land
with my own money and without violence. Therefore this island is rightfully
mine, and now you should all quit protesting and pay me rent!”.</div>
<div class="MsoNormal">
<br /></div>
<div class="MsoNormal">
If you were an islander, would you be happy with the
situation now?</div>
<div class="MsoNormal">
<br /></div>
<div class="MsoNormal">
By the way, this is essentially the way the world works
today. How do you think the <i>first </i>owners of the land you're living on got to own the land? (Usual answer: they took it by force) Personally, I have no idea why people are not marching in the streets demanding a better system.</div>
<div class="MsoNormal">
<br /></div>
<div class="MsoNormal">
Is there a more just way of distributing land? Yes. An idea
known as Georgism. The fact that houses get built on land makes the
potential solutions more complex, but almost any system based on Georgist ideals
would be better than what we have today… unless you’re a landlord that is.</div>
<div class="MsoNormal">
<br /></div>
<span style="font-family: Calibri; font-size: 11.0pt; mso-ansi-language: EN-GB; mso-bidi-font-family: "Times New Roman"; mso-bidi-language: AR-SA; mso-fareast-font-family: "MS Mincho"; mso-fareast-language: JA;">Georgism:- look into it.</span><br />
<script>!function(d,s,id){var js,fjs=d.getElementsByTagName(s)[0];if(!d.getElementById(id)){js=d.createElement(s);js.id=id;js.src="//platform.twitter.com/widgets.js";fjs.parentNode.insertBefore(js,fjs);}}(document,"script","twitter-wjs");</script>Unknownnoreply@blogger.com3tag:blogger.com,1999:blog-5676200792504814374.post-54557648489610346912014-01-21T13:32:00.002-08:002014-01-21T13:41:53.698-08:00Share prices with fractional reserve bankingThe textbook explanation of share prices revolves around basic “supply and demand”. If the price of something has gone up it must mean that either its supply has diminished, or its demand has increased. It’s all part of a natural stable system. Wise investors are carefully evaluating companies and buying and selling shares accordingly. The government, who claim to believe in free markets, sit on the side-lines and let them get on with it.<br />
<br />
Most people would make two assumptions when considering this market:<br />
<br />
1. People normally buy shares with their money.<br />
2. If they spend say, £1000 on shares, they will have £1000 less money to spend on other things.<br />
<br />
If both these things were true, then share prices may be well behaved and act in the way textbooks may have you believe. But many economists have observed that share prices behave in strange ways. At least part of the reason prices appear so strange is the fact that neither assumption is correct. They are incorrect because shares are often purchased with borrowed money, or to be more accurate, part borrowed. Readers of this blog should know by now, that when £1000 is “borrowed” from a bank, that money is <a href="http://www.youtube.com/watch?v=CI5CFQXJxcA">created out of nothing</a>. There is nobody else in the economy that is deprived of £1000 of spending power. You should get the idea straight away that now something is screwy about the demand side of the supply and demand balance. <br />
<br />
Textbooks say that the price of something is what you are willing to give up in order to get something, i.e. the amount of money you will pay for something equals the amount of money you are willing to have disappear from your spending power on other stuff. But if you are going to buy that thing with 10% your money and 90% borrowed money (a process known as trading on margin) then the textbook concept is busted. Now the amount of money you are willing to pay for something is enormously sensitive to the interest rate you will be charged for the money you borrow to buy that something!<br />
<br />
So now the role of government becomes crucial in setting share prices. Instead of standing at the side-lines observing these wise investors analysing the companies, the government is now the dominating factor. The wise investors are sitting watching the government! If they lower interest rates, then the enthusiasm for borrowing to buy shares increases, this increases demand and their price will rise… and conversely If they raise interest rates, then the enthusiasm for borrowing to buy shares decreases and their price will fall. By implementing super-low interest rates for such a long time, the government is now stuck in a situation, where returning to normalised interest rates would almost certainly cause a crash in the stock market. Note that I could have made almost exactly the same argument about the housing market too.<br />
<br />
The near-zero interest rate policy is in force precisely <a href="http://www.positivemoney.org/2013/09/can-money-be-converted-to-everlasting-tokens/">because of fractional reserve banking</a> and would be entirely unnecessary had we a full reserve system.<br />
<br />
Changing to full reserve banking is a key ingredient for making our economy work properly. If I were in charge, I would ban the practice of trading on margin too. It serves no purpose that I can figure out for the economy as a whole.Unknownnoreply@blogger.com1tag:blogger.com,1999:blog-5676200792504814374.post-30245625006567790662013-12-31T02:04:00.000-08:002013-12-31T02:28:36.993-08:00Advertising Standards Authority condone bank's lies.The idea that banks simply "lend" money in the normal sense of the word is actually false. I wrote about this before <a href="http://mickanomics.blogspot.co.uk/2013/06/banks-dont-lend-money.html">here</a>. You may have noticed however, that banks are happy to use the word "loan" in their advertising. So I decided to write to the Advertising Standards Authority (ASA) to see what they had to say on the matter. According to their website, the ASA's mission is to "ensure that advertising in all media is <b>legal, decent, honest and truthful</b>". Let's see...<br />
<br />
In their reply, they said...<br />
<br />
<div style="text-align: left;">
<i>"we acknowledge that the wording could be seen as being technically inaccurate"</i></div>
<br />
...interesting. Note that "technically inaccurate" is a euphemism for lie. Reminds me of <a href="https://en.wikipedia.org/wiki/Terminological_inexactitude">terminological inexactitude</a>!<br />
<br />
They went on to say...<br />
<br />
<div style="text-align: left;">
<i>"we consider that the ads are unlikely to mislead consumers into making a transactional decision with regard to the advertisers’ services that they would not have otherwise made" </i></div>
<br />
I would dispute their claim, certainly in the long run. If more people, including economists, were aware of the true workings of our crazy monetary system, the entire course of our economic history would probably have been quite different and so many of the loans that were taking place in the run up to the credit crunch would never have taken place. Allowing banks to lie in their advertising is just one more contribution to the world's misunderstanding of money. Apart from anything, what are the ASA doing, allowing any lies in adverts at all? Sure, there are many adverts that have comedy lies, or unreal events that everyone knows are unreal. But lies where the viewer will probably believe the lie to be true? Surely that can't be allowed.<br />
<br />
I strongly suspect the ASA is a sham organisation who's main purpose is to protect advertisers from genuine regulation, just like <a href="https://en.wikipedia.org/wiki/Press_Complaints_Commission">self-regulation by the British press</a>. The ASA are gutless and toothless.<br />
<br />
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When Peter Mandelson appeared on the <a href="http://www.bbc.co.uk/programmes/b0080bbs">Andrew Marr show</a> on 22 Dec 2013, he was asked about the state of economy. He said "we've got to see people earning more and their personal indebtedness reduce". Unfortunately, under our current <a href="http://www.youtube.com/watch?v=CI5CFQXJxcA">fractional reserve monetary system</a>, most of the money supply is <i>created</i> by people's personal indebtedness; reducing that, will reduce the amount of money available for people to earn! Its impossible to achieve what he's asking for without <a href="http://www.positivemoney.org/">changing our monetary system</a>.<br />
<br />
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<br />
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But this is not true. Fractional reserve banking allows the private sector to increase or decrease the money supply independently of whatever the government does. So the *contribution* of the government's policy to the money supply may indeed be -X, but the size of the private sector's money supply could have changed by any amount.<br />
<br />
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Maybe an MMT'er would admit this if probed, but why don't they say it in the first place instead of misleading everyone?<br />
<br />
PART II<br />
<br />
After some back and forth on Twitter, and being directed to read <a href="http://neweconomicperspectives.org/2011/06/mmp-blog-2-basics-of-macro-accounting.html">this</a>, I'd like to say some more...<br />
<br />
A huge component of the current economic crisis is the size of the money supply and the amount of private debt (the two are closely related). But the debt is not debt *to* the government sector. It is debt to others within the private sector (I'll label this as internal borrowing). Note that MMT'ers favourite quantity, the "net financial assets" does not measure the private sector's internal borrowing, because it nets out as zero.<br />
<br />
Having a conversation about what to do about the economic crisis and debts without talking about the private sector's internal debt is just leaving a huge elephant in the room. Where is an MMT article about the that? Where is the article "MMT'ers use sectoral balance equation to deduce policy to control internal private debt"?<br />
<br />Unknownnoreply@blogger.com5tag:blogger.com,1999:blog-5676200792504814374.post-56889755281567568072013-12-19T07:32:00.001-08:002013-12-19T16:08:56.236-08:00Why our monetary system contributes to the gap between rich and poor<br />
* We have a monetary system in which <a href="http://www.youtube.com/watch?v=CI5CFQXJxcA">loans create money and repayments destroy money</a>. So at any one time the amount of money in the economy is approximately equal to the amount of outstanding loans.<br />
<br />
* Most (90% ish) of the outstanding loans in the economy have been for the purposes of buying assets (mostly housing, but also stocks and shares).<br />
<br />
* Rich people are keen to borrow to buy assets when they have confidence that the price of those assets are going to rise.<br />
<br />
* If the rich lose confidence that asset prices are going to rise they will be less keen to borrow money. This will shrink the money supply and lead to recession, like in the 1930's where the money supply fell by about a third.<br />
<br />
* The only way the government know how to prevent a collapse in the money supply is to do everything in their power to give rich people the confidence that asset prices will rise. This means that the government are actively doing everything they can to ensure that the rich asset owning classes become richer at the expense of poorer people. Things like "help to buy", whose primary effect is to increase house prices.<br />
<br />
* Making the rich richer is the only thing governments can think of to prevent a financial collapse! How long are we going to continue with this madness?<br />
<br />
* Switching to full reserve banking means that the money supply can be held stable <b>without</b> handing the rich more money from the poor. <br />
<br />
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<br />
For decades now, the major economic textbooks have been teaching an explanation which is not just wrong, but back to front. The textbook explanation involves the assumption that banks repeatedly lend and re-lend deposits up to a limit determined by the “reserve ratio”. This explanation is known as the “money multiplier model”, a model in which the money supply is said to be “exogenous”.<br />
<br />
Standard & Poor's chief global economist describes the Money Multiplier Model as a <b>"defunct idea"</b> and that <b>“Banks can not and do not ‘lend out’ reserves”</b>.<br />
<br />
Michael Kumhof, Deputy Division Chief, Modelling Unit, Research Department, International Monetary Fund said <b>"the textbook treatment of money in the transmission mechanism can be rejected”</b>.<br />
<br />
Mervyn King, Governor of the Bank of England 2003 to 2013 said <b>“Textbooks assume that money is exogenous … in the United Kingdom, money is endogenous”</b>.<br />
<br />
Professor Charles Goodhart CBE, FBA, ex Monetary Policy Committee, Bank of England said of the money multiplier model:<b> “It should be discarded immediately”</b>.<br />
<br />
Professor David Miles, Monetary Policy Committee, Bank of England said<b> “The way monetary economics and banking is taught in many, maybe most, universities is very misleading”</b>.<br />
<br />
JP Morgan Chase, Global Data Watch: <b>"In spite of being almost totally
divorced from reality, the money multiplier is still taught in
undergraduate economics textbooks, with much resulting confusion."</b><br />
<br />
Despite all these quotes, textbooks (and Wikipedia) blindly carry on peddling these bullshit ideas.<br />
<br />
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lending; to lend, a money lender must have money. The fundamental banking
activity is accepting, that is, guaranteeing that some party is creditworthy. A
bank, by accepting a debt instrument, agrees to make specified payments if the
debtor will not or cannot”.
<br />
<br />
<div class="MsoNormal">
“Banking is not money lending”? Surely some mistake! Why
would an economist as famous as Professor<span style="mso-spacerun: yes;">
</span>Minsky make such an outrageous sounding statement?... Well the answer is
that its perfectly true. Crazy though it sounds, banks don’t lend money at all.
To understand why this is the case we must understand some technicalities about
money.<br />
<br /></div>
<div class="MsoNormal">
Most people imagine that money is simply a system of
government-created tokens (physical or electronic) that get passed form person
to person as trade is carried out. Money of this kind does indeed exist, so
called “central bank money” is of this type. However the vast majority of the
money we spend day today is a second type, technically known as “broad money”
or “cheque book money” which can best be described as “spendable bank IOUs”.
The concept of a spendable IOU may sound rather strange, and in order to
explain it, we must first consider some characteristics of an ordinary IOU, the
kind you or I might use…<br />
<br /></div>
<div class="MsoNormal">
Say that Mick wanted to borrow £10 from Jim. Jim could give
Mick a £10 note in return for a piece of paper with “I.O.U. £10, signed.. Mick”
written on it. The IOU would then have some value to Jim as a legal record of
the loan. At some later time Mick would repay the loan. At this point Jim
should no longer keep the IOU because Mick would no longer owe Jim any money. The
IOU has now done its job and may be disposed of. To summarise, the lifecycle of
an ordinary IOU is as follows:</div>
<ol start="1" type="1">
<li class="MsoNormal" style="mso-list: l0 level1 lfo1;"><b style="mso-bidi-font-weight: normal;">Creation</b> (out of nothing. It did not exist previously)</li>
<li class="MsoNormal" style="mso-list: l0 level1 lfo1;">It now has <b style="mso-bidi-font-weight: normal;">value</b> as a legal record of the
loan.</li>
<li class="MsoNormal" style="mso-list: l0 level1 lfo1;">It <b style="mso-bidi-font-weight: normal;">expires</b> (back out of existence) when the loan is repaid.</li>
</ol>
<div class="MsoNormal">
Note that even though the IOU has value during stage 2, it
is not easily <i style="mso-bidi-font-style: normal;">spendable</i>. If Jim went
into a grocery shop and said “I’d like to have £10 worth of food, here’s an IOU
from Mick, he’ll pay you back later”, the shopkeeper would almost certainly <span style="mso-spacerun: yes;"> </span>refuse. This is because the shopkeeper has no
idea if Mick is creditworthy, the shopkeeper would be worried he may never receive
£10 from Mick. Now imagine for a moment that it could somehow be arranged to
have a guarantee from a famous high street bank, that Mick would indeed pay £10
to the holder of the IOU. Then the shopkeepers fears would be allayed and he
would have no reason not to accept Mick’s IOU as payment for food. To
summarise, <b style="mso-bidi-font-weight: normal;">a bank guarantee could
convert a non-spendable IOU into a spendable IOU</b>.<br />
<br /></div>
<div class="MsoNormal">
So far this has all been hypothetical, but to see a
non-spendable IOU get converted into a spendable one in the real world, look no
further than the process of getting a “bank loan”. The term “bank loan” is in
fact highly misleading. What is actually going on is not lending at all, it is
in fact an IOU swapping arrangement. If Mick went to borrow £1000 from a bank,
the first thing that would happen is that the bank would asses Mick’s
creditworthiness. Assuming it was good enough, then the bank would ask Mick to
sign a “loan agreement” which is essentially an IOU from Mick to the bank. What
the bank would give Mick would generally <i style="mso-bidi-font-style: normal;">not</i>
be “central bank money”, but instead <i style="mso-bidi-font-style: normal;">its
own IOUs</i> (i.e. cheque book money). And just like ordinary IOUs, bank IOUs
do not have to be obtained from anybody else. They are just created on the
spot. No “lending” is going on. In order to “lend”, the bank would have had to
have been in possession of the money beforehand, and they were not.<br />
<br /></div>
<div class="MsoNormal">
So there you have the layman’s explanation. But some people
are still not convinced. Many people have heard a different explanation of the
money creation process at university or from textbooks and so assume that this
explanation is somehow wrong. But let me assure you that it is the textbook
explanation that is wrong. I do realise that “extraordinary claims require
extraordinary evidence”. So here goes…<br />
<br /></div>
<div class="MsoNormal">
The first thing to say is that the explanation given here is
indeed a simplification of the money creation process as it occurs in the real
world. The full details of which are so complex and so frequently changing that
they are not taught to undergraduate students as part of economics degrees. What
students are often taught instead is a toy model of reality. A not-actually-true
teaching aid. The idea of using a not-actually-true teaching aid is not unique
to economics, in the field of chemistry a similar thing occurs with regard the
behaviour of electrons around atomic nuclei. The real world behaviour is too
complex for undergraduate students, so they are taught a not-actually-true
story of “electron shells”. Its in virtually all the textbooks.<br />
<br /></div>
<div class="MsoNormal">
The standard not-actually-true method for teaching students
about the workings of our monetary system is an explanation called the “money
multiplier model” in which banks appear to lend out money that has been
deposited with them. When some economists finish their degrees and subsequently
go on to specialise in the monetary system and finally learn the full details
of the process, they occasionally have some choice words to say about the undergraduate
textbook model:</div>
<ul type="disc">
<li class="MsoNormal" style="mso-list: l1 level1 lfo2;">“The way monetary
economics and banking is taught in many, maybe most, universities is very
misleading”. Professor David Miles, Monetary Policy Committee, Bank of
England.</li>
<li class="MsoNormal" style="mso-list: l1 level1 lfo2;">“The old pedagogical analytical approach that centred around the money multiplier was misleading, atheoretical and has recently been shown to be without predictive value. It should be discarded immediately.”. Professor Charles Goodhart CBE, FBA, ex Monetary Policy
Committee, Bank of England.</li>
<li class="MsoNormal" style="mso-list: l1 level1 lfo2;">"The textbook
treatment of money in the transmission mechanism can be rejected".
Michael Kumhof, Deputy Division Chief, Modelling Unit, Research
Department, International Monetary Fund.</li>
<li class="MsoNormal" style="mso-list: l1 level1 lfo2;"> "Textbooks
assume that money is exogenous." ... "In the United Kingdom, money is
endogenous" Mervyn King, Governor of the Bank of England. </li>
</ul>
<div class="MsoNormal">
Notice the extremely high calibre of the economists being
quoted. These are all economists that specialise in the workings of our
monetary system.</div>
<div class="MsoNormal">
<br />
<b>Is this issue controversial?</b> Well yes and no (but mainly no)... let me explain. the issue is only controversial in as much as non-experts (that have just learned the textbook story) may say things that contradict the experts that have a detailed knowledge of the system in reality. But amongst the experts, it is not controversial at all.<br />
<br />
I shall finish with a quote form Professor <span style="mso-spacerun: yes;"> </span>Victoria Chick, Emeritus Professor of Economics,
University College London: <span style="mso-spacerun: yes;"> </span>“Banks do not
lend money. It may feel like it when you get a 'loan', but that’s not what they
are doing. They don’t have a pot of money which they are passing on. What they
are doing is accepting your IOU… they simply write up your account”.</div>
<div class="MsoNormal">
<br />
So there you have it, banks do not lend money. And if you
want to argue against this on academic grounds, please only quote economists
that specialise in the monetary system.
</div>
<br />
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<br />
Consider the curve in the diagram below:<br />
<div class="separator" style="clear: both; text-align: center;">
<a href="http://4.bp.blogspot.com/-IQsuAgrS7VI/UTMtrqQSvDI/AAAAAAAAAJM/RG35ugAOofs/s1600/man+walks+uphill.jpg" imageanchor="1" style="margin-left: 1em; margin-right: 1em;"><img border="0" height="219" src="http://4.bp.blogspot.com/-IQsuAgrS7VI/UTMtrqQSvDI/AAAAAAAAAJM/RG35ugAOofs/s320/man+walks+uphill.jpg" width="320" /></a></div>
<span id="goog_999736394"></span><span id="goog_999736395"></span><br />
Now imagine a man traversing this curve from left to right in small steps of width W. Let us label the exact height (Y) of each foot as YL and YT (L stands for “leading” T stands for “trailing”). The difference in height will clearly depend on the width of the step and the gradient (G) of the slope. This can be expressed as:<br />
<br />
<div style="text-align: center;">
<b> YL = YT + (W x G)</b></div>
<br />
If we now consider smaller and smaller step sizes, in the limit as W approaches zero, YL becomes closer and closer to being equal to YT. If both the gradients and the step sizes are small, a poorly trained mathematician may sloppily pronounce that:<br />
<br />
<div style="text-align: center;">
<b>YL = YT</b> (warning, this equation is wrong)</div>
<br />
Hopefully you can see that this statement is wrong, and if taken too seriously could erroneously lead people to believe that “slopes are impossible” and that therefore “the earth is flat”!<br />
<br />
<b>So what has all this got to do with economics?</b><br />
<br />
The answer is that many economists have made the same mistake as our proverbial bad mathematician. There is an equation in economics textbooks that states:<br />
<br />
<div style="text-align: center;">
<b>aggregate expenditure = aggregate income<span style="color: red;">*</span></b></div>
<br />
In this case the “leading foot” is aggregate income and the “trailing foot” is aggregate expenditure. This may need some clarification:<br />
<br />
The idea that aggregate income equals aggregate expenditure emerges from a simple model of the economy in which all the money that is earned by people is then spent on stuff that was made by people. Or to put it more precisely, the sum total of all the money earned by everyone in the country, per small unit of time (call this unit T), equals the total cost of everything purchased by everyone during that same unit of time. At this point alarm bells should be ringing because you will notice that my explanation of the meaning of the equation involved time, while the equation itself makes no mention of it. Just like the bad mathematician’s equation makes no mention of W. The economists have just said to themselves, “if we make T small enough, we can ignore its effects”. But just like ignoring W, ignoring T, does not allow for any change in the income or expenditure.<br />
<br />
So lets see if we can fix this. Looking back at the (correct) equation for the height of the man’s two feet as he traverses x, we should expect the correct form of the expenditure & income equation to have something of the form<br />
<br />
<div style="text-align: center;">
<b>aggregate expenditure <span style="font-size: xx-small;">(at end of interval T)</span> = aggregate income <span style="font-size: xx-small;">(at start of interval T) </span>+ changes in the money supply during T</b></div>
<br />
Anyone that has a clear grasp of our monetary system<span style="color: red;">**</span> will know that loans create money and repayments destroy money. This means that the true state of affairs is as follows:<br />
<br />
<div style="text-align: center;">
<b>aggregate expenditure <span style="font-size: xx-small;">(at end of interval T)</span> = aggregate income <span style="font-size: xx-small;">(at start of interval T)</span> + new loans taken out <span style="font-size: xx-small;">(during past T)</span> - existing loans repaid <span style="font-size: xx-small;">(during past T)</span></b></div>
<br />
So what if the original, crude version of the equation is a bit wrong, what problems may this cause?<br />
Answer: you may miss out on the fact that a constantly falling money supply will cause a lack of demand. Aggregate expenditure may be maintained at a level just marginally less than aggregate income for perhaps months or even years.<br />
<br />
<b>How does a changing money supply affect the economy?</b><br />
<br />
One way you can reasonably model an economy is to imagine that all the buying and selling happens at discreet intervals of duration T, with all the “sellers” of goods doing their selling at one time step and then, being newly armed with money, become buyers at the next step. This is shown in the diagram below for a scenario in which there is a constant money supply. Note the (aggregated) comments made by the parties on each side (click on image for larger version):<br />
<div class="separator" style="clear: both; text-align: center;">
<a href="http://1.bp.blogspot.com/-fcnRm4khS7E/UTMt5ipiOJI/AAAAAAAAAJU/bJKfbg4tiX4/s1600/constant+money+supply.jpg" imageanchor="1" style="margin-left: 1em; margin-right: 1em;"><img border="0" height="256" src="http://1.bp.blogspot.com/-fcnRm4khS7E/UTMt5ipiOJI/AAAAAAAAAJU/bJKfbg4tiX4/s320/constant+money+supply.jpg" width="320" /></a></div>
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Under these circumstances, we can say:<br />
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<div style="text-align: center;">
<b>aggregate expenditure (at end of interval T) = aggregate income (at start of interval T) </b></div>
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Now consider what will happen in a rising money supply environment in which new money will occasionally be loaned into existence. See the following diagram. Note the comments as well as the additional money shown on the left hand side.<br />
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<a href="http://2.bp.blogspot.com/--nx3zFQZuFM/UTMuBw0XhtI/AAAAAAAAAJc/6bUb-cblbkE/s1600/rising+money+supply.jpg" imageanchor="1" style="margin-left: 1em; margin-right: 1em;"><img border="0" height="256" src="http://2.bp.blogspot.com/--nx3zFQZuFM/UTMuBw0XhtI/AAAAAAAAAJc/6bUb-cblbkE/s320/rising+money+supply.jpg" width="320" /></a></div>
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Under these circumstances, we can say:<br />
<br />
<div style="text-align: center;">
<b>aggregate expenditure (at end of interval T) <span style="font-size: small;">></span> aggregate income (at start of interval T) </b></div>
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And now by contrast, consider a falling money supply environment in which money will occasionally expire out of existence due to loan repayments. Note the comments as well as the disappearing money shown on the left hand side.<br />
<div class="separator" style="clear: both; text-align: center;">
<a href="http://3.bp.blogspot.com/-U2Tv-2sQOuM/UTMuKFfbvxI/AAAAAAAAAJk/xRPxDJhSTbc/s1600/falling+money+supply.jpg" imageanchor="1" style="margin-left: 1em; margin-right: 1em;"><img border="0" height="256" src="http://3.bp.blogspot.com/-U2Tv-2sQOuM/UTMuKFfbvxI/AAAAAAAAAJk/xRPxDJhSTbc/s320/falling+money+supply.jpg" width="320" /></a></div>
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Under these circumstances, we can say:<br />
<br />
<div style="text-align: center;">
<b>aggregate expenditure (at end of interval T) < aggregate income (at start of interval T) </b></div>
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A falling money supply environment is thus likely to be a miserable economic environment with high unemployment. This is why we have all these unconventional money creation schemes (like QE) going on right now. These schemes tend to be described by the media as simply “money printing”, but sadly they are not. Instead they are all variations of “borrowing money into existence” with a consequence of raising debt levels. So economists and politicians are presenting the public with a false choice between either rising debt or a falling money supply. If economists would consider <i>truly</i> printing money (debt free), then we could have a rising money supply without greater debt.<br />
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<span style="color: red;">*</span> There are actually alternate versions of this equation which add in factors like investment and foreign trade, but none of these alter the fundamental problem, so I will stick to analysing this most basic version of the equation for the rest of this article. My criticism equally applies to more complex versions of this equation you commonly see in textbooks.<br />
<span style="color: red;">**</span> if you don’t then watch <a href="http://www.youtube.com/watch?v=CI5CFQXJxcA">this video</a>.<br />
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