Tuesday, 2 October 2012

Endogenous money matters - a summary.

I think it is worth summing up Philip Pilkington's excellent post on why endogenous money matters

Mainstream believes:
  • that there is a mechanical relationship between the amount of money, the interest rate and the level of investment
  • that for every borrower there is a saver
  • there is a fixed supply of funds available in any economy at any given time and if the government borrows those funds to pay for its deficits, the private sector will not be able to borrow them

The endogenous view is different
  • there is never any mechanical relationship between the amount of money in the system and the rate of investment. Yes, if the interest rate is lowered this may have effects on investment, but these effects are highly indeterminate and always reliant on other variables (like confidence and the outstanding level of effective demand)
  • banking in a capitalist economy is inherently and structurally unstable. It is not distribution that matters so much as it is the institutional arrangements of banks themselves. If banks are able to issue credit whenever bubbles begin to inflate in the economy, thus accommodating their expansion, it simply does not matter whether savers are saving – the credits are simply entries on computer balance sheets.
  • Crowding out, can never ever be a problem in an economy where the central bank sets a target rate of interest. Interest rates will always be set by the central bank and private sector actors will get access to funds at this price regardless of how big the government deficit is. In this way the quantity of money in the system is never fixed, but fluctuating with regard to how much private sector demand for that money there is at any given point in time

The endogenous nature of money has to be worked with in any policy design. Trying to pretend a Cheetah is a vegetarian and treating it as such is bound to cause problems. You have to work with the nature of the beast. Cheetahs like chasing Gazelles and eating them. You might not like that, but that's the way it is.

33 comments:

AndyCFC said...

Nice summery
Just about every punch up I have on the DT comes down really to this one argument (in fact every row ive had with paulweighell) It really does matter.

Ralph Musgrave said...

I fully agree that “banks are able to issue credit whenever bubbles begin to inflate in the economy, thus accommodating their expansion..”.

Given the catastrophic effects of this phenomenon five years ago (i.e. the crunch), I suggest it might it might be an idea to do something about the problem. For example, why not just ban the issuing of credit, or to be more exact, ban private money creation. Actually enforcing the ban is tricky, but given the catastrophic costs of bubbles, I think it’s worth a try.

As to the idea that banning private money creation would be deflationary, obviously it would. But that’s easily compensated for having the government / central bank issue MORE MONEY.

The net effect would be that everyone would have a bigger stock of money, and thus would not need to borrow so much. The total size of the private bank industry would shrink (shock horror). Given that this industry has expanded no less than TEN FOLD relative to GDP over the last 30 years to no obvious benefit, I don’t see a big problem there.

Or maybe defenders of the current system think there something particularly wonderful about negative equity, home re-posessions, etc? Because if so, I don’t get it.


Neil Wilson said...

Ralph,

It's remarkably difficult to ban private money creation because it is fundamental to the way the system works.

Any balance sheet expansion is potential money creation. Factoring companies and debt recovery firms that trade delinquent debts are creating money. Any liability that passes around changing title is a form of money.

However it could be crowded out by making sure that people have a decent wage - which would require the government sector to deploy more of its firepower in ensuring everybody has a decent level of income.

That and capping the amount of loans a bank can have on its balance sheet. A simple ordinary equity to loan ratio with a maximum value per institution is probably the simplest thing that will work.

You just makes loans advanced while the balance sheet is 'ultra vires' unenforceable.

Ralph Musgrave said...

Hi Neil,

Strikes me there is rather long list if brainy folk who think that banning private money (i.e. full reserve banking) is feasible. From the past, there is Milton Friedman, Irving Fisher and the rest of the Chicago school. In the present day, there is Laurence Kotlikoff (Prof of economics at Boston, U.S.) and Richard Werner who teaches at Southampton University. Plus there is William Hummel. For the latter, see:
http://wfhummel.net/index.html

Re factoring firms, what they do is very different to what banks do, and I suggest the former don’t create money. The private bank system, when it so chooses (e.g. prior to the crunch), can just press buttons on keyboards and supply money (which appears from nowhere) for borrowers. And there is no question but that that is money: e.g. if I get a mortgage, the money created for me by my bank is “widely accepted” – by the builder building the house, for example.

In contrast, commercial debts incurred by non-bank firms are near impossible to use in payment for goods and services. Long ago, it was more common for non-bank firms to issue bills of exchange, and those WERE passed from hand to hand in payment for goods and services, but only between people who knew and trusted each other. So that was a poor type of money.

Factoring firms do not accept debts in return for “goods and services”. They accept them in return for commercial bank produced money. That results in movements of money between commercial banks, which are reflected in movements between them of monetary base when those banks settle up at the end of every day at the central bank.

Re your “crowding out” point, I half agree. A switch to full reserve amounts to a clamp down on some existing commercial bank activities, and that would be deflationary. But that’s not a problem: that deflation can be countered by having government / central bank create and spend monetary base into the economy. I.e what “crowds out” privately created money is central bank money rather than increased incomes (though a finite improvement in incomes WOULD flow from switching to full reserve, I think).

Neil Wilson said...

"Strikes me there is rather long list if brainy folk who think that banning private money (i.e. full reserve banking) is feasible."

There are rather a long list of brainy folk who think that money is exogenous. Or that NGDP targeting will work.

Appeals to authority have no standing on this blog!

"Factoring firms do not accept debts in return for “goods and services”."

They do. The goods and services are bought by their clients - releasing working capital. That's the point of the things! Then they trade the debts with each other. The whole derivatives market leverages the money system as the money system leverages the central bank.

It might be a poor type of money, but it is money in those communities.

Money is naturally endogenous. You need to spend some time working inside a building society with aggressive lending policies to see exactly how little '100% reserve' constrains lending in reality.

The models used are naive because they don't take into account the rule bending you can do.

Ralph Musgrave said...

“There are rather a long list of brainy folk who think that money is exogenous.” I fully accept that money (or at least most of it) is exogenous under the current system. That is not in dispute. The argument is over whether such money can be or ought to be scrubbed or made illegal.

As to the alleged brainy folk are who advocate fractional reserve, who are they? I’ve looked at the arguments put by various leading academic advocates of fractional reserve, e.g. Michael White and Steve Horwitz. Their arguments are pretty hopeless for reasons I spelled out here.

http://www.positivemoney.org.uk/2012/09/lawrence-white-tries-to-argue-for-fractional-reserve-banking/

http://www.positivemoney.org.uk/2011/08/steve-horwitz%E2%80%99s-pro-fractional-reserve-arguments/

In contrast, there is George Selgin. He is in a different league. He has an encyclopedic knowledge of the history of banking, and I have plenty of respect for him. But I still think his arguments are flawed for reasons I spelled out here:

http://www.positivemoney.org.uk/2012/07/george-selgin-favours-fractional-reserve-banking/

Re NGDP, I don’t see the relevance of it to the full v. fractional reserve argument. NGDP targeting is feasible under either scenario.

Next, I’ll take your point that firms which sell their debts to factoring firms spend the money they get. You say “The goods and services are bought by their clients - releasing working capital.” I don’t dispute that. To enlarge on that, factoring firms obtain money from wherever (shareholders, bondholders, bank loans, retained profits, etc), they then give that money to firms which want rid of their debtors. But in doing that, no money is created. I.e. EXISTING MONEY (obtained from shareholders etc) is given to the latter firms. Then as you rightly say “goods and services are bought by their clients” (“clients” being the firms wanting shot of their debtors).

“It might be a poor type of money, but it is money in those communities.” OK then, whiskey CAN BE USED AS MONEY. Indeed I occasionally give a bottle of whisky to a friend who helps me with my PC. Government debt near maturity is sometimes accepted in lieu of money in the world’s financial centres. But no measure of the money supply that I know of counts commercial debts, government debt or whiskey as part of the money supply.

Of course there is no sharp dividing line between money and non money, thus if an attempt were made to bar exogenous money, the attempt would never be absolutely 100% successful, particularly if one adopts a very broad definition of the word “money”. But if one adopts the normally accepted definitions (M0, M1, M2, etc) then the attempt ought to be more or less successful.

Neil Wilson said...

"But no measure of the money supply that I know of counts commercial debts, government debt or whiskey as part of the money supply."

So what. Any liability that changes title is a form of endogenous money. It allows spending without requiring saving ahead of time.

"Their arguments are pretty hopeless for reasons I spelled out here."

The arguments for 100% reserve are pretty hopeless as well since it is possible to transform one into the other mechanically.

The reserve argument is not actually the problem, so concentrating on that just makes you think you're doing something when all you are actually doing is recreating a building society.

And if you want to know what happens when a building society gets aggressive you need look no further than Halifax - which funnily enough is where I live, within spitting distance of the old head office and surrounded by people that know how these things work. The tricks for pushing the boundaires of reserve limited lenders were invented here.

The problem is that the 'brainy folk' just don't understand endogenous money and it appears to me that they are really only interested in restricting the world so that it fits their economic models.

They are going to be sorely disappointed again when it doesn't work - much as the 'great moderation' didn't work.

And all because the model isn't what happens in practice in a real lending institution.

Clint Ballinger said...

Neil, you clearly do not believe plans like Benes & Kumhof , Southampton/New Economics Foundation , Kotlikoff or Chamley, Kotlikoff and Polemarchakis to limit endogenous money can work.

Yet they specifically address - much beyond mere simple full reserves/narrow banking issues- how to largely limit endogenous money creation, precisely with entities like Halifax.

You say full reserves are not the problem.

Correct.

But these proposals are specifically about limiting endogenous money creators and replacing them (the parts that serve useful purposes) with non-endogenous money creating entities.

You are not clear on how these plans fail to do this.

Forgetting about full reserves, on what specific grounds do you support your claims that Benes & Kumhof , Southampton/New Economics Foundation , Kotlikoff or Chamley, Kotlikoff and Polemarchakis do not succeed in replacing any useful functions carried out now by endogenous money-creators with non-endogenous money-creating institutions/arrangements?

Clint Ballinger said...

(PS - that last "do not" should read ~"could not"/"would not")

Clint Ballinger, Towards a Pure State Theory of Money

Clint Ballinger said...

PPS- sorry - that last, to make it clearer, should have read "private endogenous" v "state" money creating entities.

Neil Wilson said...

All those proposals do is increase the price of lending by increasing the distance between the borrower and the currency issuer at the central bank - adding a load of middleman cost in the process.

That does indeed reduce the amount of lending but only by cutting demand. Lending will grow and shrink as it ever has done but at a lower level due to the elevated price.

All you need do to demonstrate that is to take person A and person B. Person B funds the bank. Person A borrows and pays person B. Rinse and repeat. The limit is price. 'Bonds aren't money' is the sleight of hand to pretend that balance sheets aren't expanding endogenously.

The whole idea will do nothing more than put more and more money and wealth into the hands of the rich and powerful.

They will be the ones that own and fund the banks.

They will be the ones that own all the additional equity that has to be issued because bank lending is too expensive.

and they will be the ones that will receive the excessive tax cuts that will happen to offset the fall in bank lending.

All via unnecessarily increasing the cost of banking to Granny and smaller businesses.

There is a reason these ideas are being funded in a propaganda like fashion. Somebody is looking at a big payoff down the line.

Clint Ballinger said...

Neil, I may be dense, but I literally can't make heads or tails out of your reply.

I don't see how it relates to the papers/proposals I cite at all.

Can you clarify addressing the mutual funds/tontines/parimutuel funds etc proposals (these would replace & fund the productive, useful things that private credit-money funds now)?

Clint Ballinger said...

“There is a reason these ideas are being funded in a propaganda like fashion. Somebody is looking at a big payoff down the line.”

Again, call me dense.
You are saying papers like the ones I cite are “funded”, “propaganda-like” ?? By whom?

Who is looking at a payoff (besides the public as the papers argue)?

How?

The POV you just stated is absolutely - in all the debates on this subject both pro & con - something I have never seen or heard, not even anything remotely similar.

Extraordinary claims, as they say, demand, well, at least a tiny bit of evidence.
Or at least some logic underlying them.

Ralph Musgrave said...

Neil claims “All those proposals do is increase the price of lending..”. That’s a gross underestimate of what “those proposals” do. “Those proposals” also dispense with bank bailouts and subsides. They also make it impossible for banks as such to go bust.

That’s quite an achievement! Or is Neil happy with the billions of taxpayer’s money that has been consumed or put at risk in bank bailouts recently? About 99% of the population regard the billions devoted to bank bailouts as a disgrace. But perhaps they’re all wrong.

As to banks increasing the price of lending, that is an obvious effect of full reserve because fractional reserve involves bank subsidies: remove a subsidy and the price of whatever is subsidised will rise. But that rise is a rise to a realistic or free market level from an artificially low level (thanks to aforementioned subsidies).

Neil Wilson said...

"That’s quite an achievement! "

It is.

- put up the cost of people's mortgage
- eliminate free banking
- remove interest on savings
- force businesses to sell equity to rich people because they can't get sensible priced loans any more
- reward rich people for 'investing' in banks
- but most importantly generate monetary space so that there can be excessive and undeserved tax cut 'subsidy' for the profit class.

Fantastic as long as you're already minted and believe in ever greater concentration of wealth.

Unnecessarily expensive for everybody else.

The MMT bank narrowing proposals are a much more sensible solution that serve the needs of the majority of the population.




Clint Ballinger said...

(On Neil’s bullet points);

rather

- reduce asset bubbles, lowering housing prices
- Banking is not free now, not by a long shot.
- Why should people be paid to hoard?
- The rich are already the clear winners with privately created credit money. You say the proposals would somehow make this situation worse, yet offer no explanation of how, nor do you address any of the substantive points in the proposals I listed before.

Why would the proposals to minimize private credit-money, creating a greenback style money supply and replacing any needed credit creation with the suggestions mentioned not work?

The fact that in any system the rich will own more than the not-rich is hardly a criticism. You still do not make clear why private credit-money is socially useful, and there is plenty of evidence it is socially harmful.
Perhaps if you actually addressed the points made in the papers your opinion would carry some weight, but you never do. Have you elsewhere and I missed it (links would be nice)? Honestly, it seems here and elsewhere as if you have never actually read through the arguments you so strongly criticize.

Neil Wilson said...

"Why would the proposals to minimize private credit-money, creating a greenback style money supply and replacing any needed credit creation with the suggestions mentioned not work?"

Because they over do it - destroying what banks actually do. It is throwing the baby out with the bathwater. It unnecessary to go that far based on a religious belief in how the system works.

The inconsistency is straightforward. It costs nothing for an ordinary person to transact in printed cash, but under these proposals it will cost them to transact under the new 'electronic cash'.

Therefore it fails under its own fundamental assumption - to make electronic cash the same as printed cash.

Fundamentally I'm not going to waste my time arguing with ideologues who are trying to design a system based on a deep religious belief. Those sort of systems are always an utter mess and can never be rescued. Hence why there are so many 'off balance sheet' hacks in the Positive Money legislation pro-forma.

Essentially any system that requires Grannies to pay banks to access their pension, removes interest on their meagre savings and puts the cost of mortgages up for ordinary people is a political non-starter anyway.

Particularly as the middle way put forward by MMT solves the issues with excessive private credit creation and avoids those problems entirely.

Banking has to be narrowed, but in a more rational way.

Clint Ballinger said...

“The inconsistency is straightforward. It costs nothing for an ordinary person to transact in printed cash, but under these proposals it will cost them to transact under the new 'electronic cash'.

Therefore it fails under its own fundamental assumption - to make electronic cash the same as printed cash…. Essentially any system that requires Grannies to pay banks to access their pension…”


Neil - Are you talking about the minor fee one might have pay for the cost of safely storing one’s savings? People have always and always will pay for this (and it is negligible anyway) one way or another. Or do you mean some other cost? What?


“Those sort of systems are always an utter mess and can never be rescued.”

‘Those sort of systems’ have never been fully implemented; in the places they have been partially implemented they seem to work (hence the idea to try them on a larger/more sustained scale). They get stopped because the rich do not like them.

ALL private credit-money systems have imploded in the past.
Regularly.



“removes interest on their meagre savings”


People deserve interest in proportion to the risks they take. No more, no less.

They also deserve a zero risk option (narrow banking). Not rocket science.
They can choose to try to earn interest if they want. Even Granny.
And Granny will be taken care of under any sane econ system because the system is, well, sane; not because she gets a few percentage points of interest on her checking account.


“puts the cost of mortgages up for ordinary people is a political non-starter anyway.”

And again, assets, including housing, would be cheaper. Mortgages would be lower, not higher, because they would need much less principal to start with.

Neil Wilson said...

There is no credibility in calling something a 'minor fee'.

We pay the cost of printing actual real money as well and distributing it around the country in armoured vans, plus all the people needed to control and store all that cash.

And yet granny doesn't pay a penny for it.

That 'minor fee' for electronic transactions has another name.

It is a regressive tax.

And worse than that it is a regressive tax paid to bankers for a required social service.

Totally disgusting.

Tom Hickey said...

"Are you talking about the minor fee one might have pay for the cost of safely storing one’s savings? People have always and always will pay for this (and it is negligible anyway) one way or another."

Saving other than cash under the mattress involves lending the funds to the storage facility, bank, fund, etc. Financial investments are also a form or saving. The return is the expected price appreciation. The point is twofold: first, saving by placing funds with others is forgoing liquidity and taking on risk of non-repayment in full. Secondly, People saving other than in cash under the mattress to offset inflation. Paying to save lower the real rate of interest and discourages saving or drives cash saving.

It's uneconomical.

Clint Ballinger said...

"for a required social service" (Neil)

So subsidize the minor fee.
No big deal.

It is a vastly smaller amount than occasional trillion $ bailouts + the estimated $83 Billion per year (US alone) taxpayers already pay (http://www.bloomberg.com/news/2013-02-24/remember-that-83-billion-bank-subsidy-we-weren-t-kidding.html)

Clint Ballinger said...

"Saving other than cash under the mattress involves lending the funds to the storage facility" (Tom).

No it does not. Read the proposals.

"People saving other than in cash under the mattress to offset inflation"
Why are you assuming inflation? With the JG and proper taxation, inflation can indeed be kept at any level wanted. These proposals make that way more possible (i.e.,- A Friedman rule actually works under them).

"taking on risk of non-repayment in full"

No. Again, read the papers.





Neil Wilson said...

Constantly comparing to a system we know is busted is pointless propaganda.

The correct comparison is with the more rational MMT bank narrowing proposals - which ensure Granny is looked after as well as the needs of business for development capital at a sensible price.

Tom Hickey said...

Shifting to chiefly public rather than private banking, or narrow banking as Mosler suggests, won't solve the problem. It will just transfer it to shadow banking and hedge fund activity, which, if large and systemically entwined enough, will still be systemically dangerous, and government will still have to resort to bailouts in order to prevent financial meltdowns when they occur to due to overextension due to managerialism.

Aas people like Michael Hudson point out, the real problem is with global finance capital, and trying to address the issues piecemeal without addressing the entire system will inevitably fail to accomplish what reformers think it will. Systemis issues need systemic solutions. These solutions are difficult to put in place owing to the interests of the power structure. Nothing will be put in place without provisions being included to end run it as long as they have the predominant say in legislation and policy making, as they do now.

Moreover, I am very reticent to seek to correct private sector excesses by increasing governmental power and control. That just plays in the hand of the power elite that control governments globally. It's a recipe for greater disaster. See C. Wright Mills, The Power Elite.

Neil Wilson said...

Tom,

You have to have systems that operate within a currency area where the state has monopoly. Anything else requires a big hug club and that won't work because it takes too long to get consensus.

It's bad enough trying to get consensus within one country.

Tom Hickey said...

A lot of the financial shenanigans that led to the GFC beginning in the US financial system were conducted in the City, where the operations by branches or subsidiaries of the big US banks were legal, although not legal in the US. Same with failure for MF Global. City again. Thatcher's reforms were basically to financialize the UK by an "anything goes" global financial elite. Now the City is not only the prime criminogenic environment but also the "scene of the crime."

Clint Ballinger said...

Neil, I had also posted a short reply to Tom 15 April 2013 17:21 on inflation that seems not to have been posted. Maybe somehow I didn't hit the right keys though

Clint Ballinger said...

”Constantly comparing to a system we know is busted is pointless” (Neil)

Neil – this is precisely right! But you reject private-credit-money limiting proposals all the time based on comments that suggest you ignore what they actually say. You give details about why you think they wouldn’t work, without seeming to realize that the details you give are about the current system, and are precisely the things the proposals would change .

Hence why I always ask you to actually read the proposals.

The proposals I posted above would make fundamental systemic changes. Yet you reject them based on arguments that only apply to the current system, and would not apply if the proposals were implemented.

So at least we agree – the system as is is busted.

But the anti-credit money proposals are much more deeply systemic than piecemeal reform (and “propaganda”? That makes no sense – the proposals I list in absolutely no way would serve the wealthy or bankers – they would deeply limit banks’ power and be much more equitable over all).

For the record, almost everyone agrees on the Mitchell – Mosler type proposals – stop banks from securitizing and reselling loans, & allow nothing that is not public purpose. Local loans you can’t sell will be higher quality loans, helping stabilize the system (similar to the laws on Scandinavian local banks- they could not loan further than the line of sight of their towers – very effective – still are).

But it is not enough. The systemic structure of allowing balance-sheet credit-money to be created by anyone other than the state will always favor the rich and powerful. This power must be only with the representatives of the people. A true public utility - not nationalizing the banks, but nationalizing the money supply as the public utility it is.

Of course if the state is corrupt, it will not work. But that is the case with ANY system.

Neil Wilson said...

"Yet you reject them based on arguments that only apply to the current system, and would not apply if the proposals were implemented"

Yes they would. You just can't see that because you've developed a core belief.

Money is always endogenous. You have to work with the nature of what it is. Not what you wish it would be.

It doesn't work as you think it works. I'm sorry you can't see that.

Clint Ballinger said...

"Money is always endogenous"

Obviously the state can create money (you are MMT friendly so I imagine you agree with that).

I assume, then, that you mean money is created by the private credit-money sector & the state/state-money responds to this, and so in effect is endogenous?

Or do you mean something else? If so, could you elaborate?



Clint Ballinger said...

“It doesn't work as you think it works “

Neil, it is not “the way I think it works”. It’s the way many many people who have looked at this question think it works and could work. Why are they all wrong?

I listed detailed proposals for why the changes could work. You never engage them, yet all the while you insist they can’t work.

It seems like you have an unexamined, or at least unsupported, “core belief” about these proposals (and that money is “always” endogenous). Could you please support your assertions, even if briefly, or point to where you or someone else does? If you know something that others don’t, it would certainly be valuable information to share.

Neil Wilson said...

"Could you please support your assertions"

I have and you've clearly filtered it.



Tom Hickey said...

"Of course if the state is corrupt, it will not work. But that is the case with ANY system."

The state is always corrupt, only the degree varies.