Monday, 24 November 2014

The Sovereign Money Illusion

"Because a good magician can do something shouldn't make you right away jump to the conclusion that it's a real phenomenon." —Richard Feynman
I've always been fond of magic. I love the stuff Derren Brown does particularly where he demonstrates the same 'powers' as so-called psychics. Professor Richard Wiseman, originally a professional magician, has some excellent You Tube videos on the science of persuasion. And of course I've been a fan of James Randi for many years now - arch skeptic and debunker of myths everywhere. Those in the UK should take the opportunity to watch his biopic. Everyone else should read the NY Times article. It's very enlightening.

One of the key points that comes out of all this is that humans have a tendency to be easily fooled and they love simplistic solutions - particularly if it is mixed up with a lot of fancy sounding hocus pocus.   There are whole sets of channels on TV designed solely to part you from your money with the most amazing claims about all sorts of things - from jewellery to jesus.

As Randi himself points out, and discovered with his work to expose Uri Geller, the more you highlight and debunk nonsense, the more popular it tends to become. And that's the main reason I've largely stayed away from the Sovereign Money debate.

Marketing and PR clearly work. People who are good at talking and writing can hoodwink pretty much anybody if they choose to. They may even believe it themselves - who knows. You can't really ascertain that from watching them.

What I can do though is show you how the illusion is done. Because it is just an illusion. Nothing fundamental changes, but a few unpleasant things are cleverly hidden that are worth highlighting.

The Fundamentals

Sovereign money stimulates the economy by increasing the price of and therefore reduce the level of bank lending and then replaces that in the economy by increased government spending or tax cuts. Essentially the government does the borrowing from its own bank so you don't have to. 

And that's it. 

We can do that with the current arrangements. We already do of course, but we can do it more if we choose to. 

The basic theory is that increasing the price of bank lending automatically selects the correct projects to receive bank lending. Unfortunately what it is likely to do is encourage ponzi schemes since those are the ones with the returns necessary to pay the higher price.

The correct approach, as highlighted by the MMT view, is to reduce bank lending by banning its use for anything that isn't constructive. Bill Mitchell regularly suggests that 97% of financial transactions should be illegal. You should narrow banks directly by taking action rather than indirectly by 'influence'.  Then you can leave the price of loans low - allowing those projects with a low marginal efficiency of capital to receive funding. In a world with ever decreasing returns on useful projects that is important.

The Tricks

Beyond that there is a lot of bamboozling going on.

Let's start with the "stopping banks creating money" myth. 

Here's a model of the current UK bank structure. 

When a bank makes a loan, and the payments made with it, savings have a tendency to drift to National Savings (because they pay an interest rate and are 100% secure - since it is part of government). That drains the cash buffer of the bank. So you would get this. 

A bank can't continue to operate like that as it would quickly run out of cash. So all banks have a Treasury department who have the job of maintaining the buffers and ratios of the bank at the required levels. So they compete with National Savings to attract back the deposit (or more likely prevent it leaving in the first place) by paying the required interest rate. This, plus the running costs of the other liabilities on the balance sheet, determines the bank's funding costs which in turn determines the price of the loans the bank makes. 

And that dynamic feedback process across assets and liabilities maintains the usual static image of a loan creating a deposit and the bank balance sheet expanding:

Essentially modern commercial banks are always 'fully funded'. They have to be to counteract the persistent drains towards National Savings and into Gilts. 

The plain money version of the Sovereign Money system simply changes the focus of your attention to National Savings. The difference is that rather than holding the Banks reserves directly on the balance sheet of the central bank (in the banking department), they are held in the equivalent of National Savings (a new transaction department). Effectively National Savings moves from HM Treasury to the Bank of England and starts doing white box current accounts. You haven't changed anything here. Just moved things between balance sheets. 

So the process is the same. Here's the starting position:

When a bank creates a loan the cash buffer of the bank would tend to shrink without further intervention as the bank transaction a/c drains,  ending up as 'deposits':

Again a bank can't continue to operate like that as it would run out of cash. So the bank's Treasury department does what it always does to maintain the necessary buffers and ratios of the bank. It attracts back the deposits by offering savings at an appropriate required interest rate. And you end up like this. 

Which is exactly the same as the current situation. Hardly surprising since banks are always fully funded in the current system as well. 

So where does this "banks won't be able to create money" come from - when clearly the balance sheets will expand and contract just as they do now? The sleight of hand is quite clever. You just redefine 'money' to only mean that which is held in the transaction department. 

Well I can do that in the current system. I hereby declare that all accounts unable to accept debit card instructions are 'not money' because you have to do stuff to those accounts to make them 'money'.  Job done. 

So what are the downsides of the change? What is hidden under the deluge of marketing and PR?
  • deposit protection disappears, so 'savings' with banks become unprotected. What that does is put the price up and reduces the supply of savings and banks will be able to loan less due to the increased cost of funds. That is intentional. Restricting bank lending through higher prices is the aim as I mentioned earlier.
  • safe savings that earn interest disappear. Your only option other than saving at risk with banks is to store your money. National Savings stops being a savings entity and starts being an electronic wallet - storing cash in 'dematerialised' form. Essentially all your savings get forcibly stuffed under an electronic mattress and rot quietly at the pace of inflation. 
  • free banking disappears. One of the great innovations of the British system has been free transactions while in credit and free withdrawals from ATMs. That came about for historical reasons - largely the great number of mutuals that came together to create the LINK system, which allowed all British cash cards to be used in pretty much any ATM machine, plus Tony Benn's creation of National Girobank which created free banking while in credit.  It was and remains a magnificent achievement of co-operation that I don't think would happen today now that the mutual sector has been decimated. 
What we really need from an electronic money system is free transactions for everybody and hard enforcement of drawdown limits without charge. In a computerised system the marginal costs of doing that are negligble and should be absorbed by the system. It is sheer profiteering to suggest otherwise. 

Rather than dismantling the co-operative achievements of LINK at sharing the infrastructure costs, we should be building on it so that all electronic transactions in the banking system are free to all users and instantly cleared. That eliminates frictions and cash flow issues that discourage real transactions - a real boon to business efficiency since it helps reduce the overall amount of working capital required.  The transaction system should be seen as a public utility and provided as such. Charging for it is as daft as charging tolls on roads - particularly as it can scale and handle congestion much better. 

The next myth is the "magic of time deposits"

The suggestion here is that if you just stop deposits being instant, then magically all will be well because then they are 'not money'. It's a really silly idea when you stop to think about it for a second. 

At any point in time, on any given day there will be, in any material sized bank, some 7, 30, 90 and 180 day savings maturing and requiring rollover. If the bank can't rollover that money then it runs out of cash and goes bust due to 'cash flow problems', regardless of how its loan book is performing. That is the case for any structure where the assets and the liabilities are not perfectly maturity matched - i.e. the bank acts as principal in the transaction and stands in the way rather than agent matching two third parties and charging an agency fee. 

So bank runs will still happen, and the lack of deposit protection will likely make them more severe and certainly just as disruptive.

This boils down to the 'bond fallacy': the idea that if you wrap money up as some other instrument you change something fundamental. You don't. People holding savings and bonds still feel wealthy. It takes time to sort out any material transaction of any size that requires access to savings - nearly all of which would be longer than notice periods. If the world starts locking assets up, then those selling things will start offering credit periods equivalent to the notice periods to get the punters through the door. The world of Tabs simply reappears. 

This leads onto probably the most zombie like myth which is the belief in "loanable funds"

Loanable funds is based on the idea that you reduce somebody's purchasing power before increasing somebody else's. It's an ordered notion, and economic types love it. It forces the world into their Newtonian clockwork view and they cling to it like starving rats. 

The problem is that it is impossible. The world endogenously creates credit all the time as a function of trade. In fact we don't actually ever really buy things with 'money'. We always buy things on credit and then settle with 'money', although we can settle with anything that the seller deems acceptable. The time between credit and settlement is indeterminate, as is the time between initiating a sales process and the granting of any credit.

If you invest in a bank, or open a time deposit with a bank you get a receipt for your investment. That becomes part of your wealth. You are still wealthy and feel wealthy, which means that you will likely spend like a wealthy person - safe in the knowledge that the system is very keen on making sure you have the liquidity to transact as long as they can see evidence of your wealth. 

It's the very basis of the 'wealth effect' - the very same one lovers of monetary policy get so excited about. All of it alters expectations wildly. 

AFAICS Loanable funds really only works if you become less wealthy when you save; where you materially cannot transact because you don't think you can settle; where you never even enter into negotiations to buy something at some point in the future so you don't affect expectations. 

And you must don the monk's habit prior to anybody else getting access to spending power. Yet the very application for a loan alters expectations. You start lining up things to buy in expectation. Those expectations of sales alters buying behaviour down the line, etc. 

The failure of the loanable funds model is very clear indeed in the work Steve Keen has done on dynamics. I would go further than he has and suggest that there can never be a loanable funds mechanism construct that generates the dynamics the theory requires. People project into the future in time too much and transact over time rather than in an instant. It doesn't work out.

Banks work conceptually with two departments - a lending department and a treasury department. 

They are linked together with a cash buffer and a price. Beyond that they operate asynchronously and autonomously - because that is the only way they can possibly work when there are thousands of payments and transactions going through the books on a daily basis, all coming in at different times from across the globe. You can see this clearly in the simple dynamic models Steve Keen put together. The Assets and the Liabilities move in different circles in different ways at different speeds. 

The process of lending actually takes a long time - several weeks - during which time the sales pipeline and the statistical level of completion of all those loan proposals informs the treasury department so they can line up the funding to backfill the buffer. Funding generally take a lot less time - a few days at most. After all you only need the money at very final moment of the lending process. Up until then the loan proposal is just useful information that again informs 'expectations' internally.  

So there is no real concept of prior or after at the core of the banking process. Only asynchronous. 

There's nothing particularly unusual about the process of course. It is the same system used to deal with government spending and funding since the government sector overall tends to act like a bank.

Endogeneity is innate within the transaction system and no amount of wishing really hard will make it go away. You have to come up with control processes that work with it.

The final myth is by far the most pernicious and the most disturbing.  And that is the "Solomon Fallacy"

If you centralise the creation of money, then you need to initially create it. The question then is who decides how to do that and how much? It's not a problem in the current system, since it is dynamically created and destroyed on demand by the lending and spending system according to price and an interest rate target. In other words it is 'automatic' - ideally allowed to grow and shrink as required to ensure that all real transactions that are worth doing get done. 

Arguably it would work better if you dispense with the interest rate target. That is the weak spot in the system since it is set by a group of human beings who frankly haven't got much more of a clue than the rest of us. So it doesn't really work, is largely just a point of theatre and it was entertaining to see how wrong they got it in 2008 because they were reading the wrong set of tea leaves. At least until you lost your job because of it. 

And that is the main issue. The Very Serious People that sit on these committees do not have the Wisdom of Solomon. They make mistakes. They suffer from groupthink like the rest of us.  And yes they are subject to being lobbied by those in wealth and power however much they have 'trained their souls'.

Just because they have awarded each other prizes doesn't make them any more effective. Credentials are no predictor of success. They are just tickets to bamboozle - like the terms 'Amazing' and 'Magnificent' magicians use in front of their names (and often followed by the suffix 'Master of Illusion'). 

So, of course, the Sovereign Money idea is to use one of these failed committees of Very Serious People, but give them authority to restrict what parliament can spend. If you thought the Debt Ceiling farce in the US was bad, then this is the next stage up. At least with the Debt ceiling it was the members of Congress that were tying themselves in knots, rather than allowing somebody else to apply the ropes. 

Those with a knowledge of parliamentary history will have heard of the People's Budget from 1910.  This implemented taxes on the wealthy and extensive spending on social welfare. At that time the House of Lords, who are appointed not elected, could veto the budget of the elected house. So they vetoed the Budget as passed by the House of Commons. This caused a constitutional crisis which eventually resulted in the removal of the Lords veto over Finance Bills.

The Sovereign Money proposal reinstates the veto by committee - effectively by a new 'House of Lords'. It is exactly the same as giving the 'Lords Spiritual' veto over a Finance Bill passed by the Commons. A small number of no doubt very moral and very learned individuals that believe some, frankly, odd ideas, given final say over the future of the country!

That is simply not acceptable in a modern democracy. 

It's a disgraceful idea that should be abhorrent to anybody who dares to call themselves a democrat and any political party supporting such an idea I feel has lost the right to call themselves a democratic party (particularly if at the same time they are proposing an elected second chamber to replace the House of Lords!)

Now of course it may simply be a piece of political theatre designed to make it look like something is being controlled when it really isn't (The old Wizard of Oz trick). But that again is more bamboozling when we really need honesty. 

It is the job of parliament to decide how much needs to be spent in the economy, over and above that injected by the auto stabilisers. If we take just the Commons, that's a committee of 650 people able to take advice from anybody they choose. If they spend 'like drunken sailors' then we-the-people can kick them out at the next election. The banks and bankers who spent 'like drunken sailors' up to the crash in 2008 are often still in position! As Tony Benn famously said the important question is "How do you get rid of them?".

I find the move towards unelected committees of Very Serious People, who are appointed specifically to 'restrict' elected politicians, a disturbing trend. We're amassing quite a few - the European Commission and the Office of Budget Responsibility to name but a couple.  However it has a long philosophical lineage that goes right back the Plato's Republic, where Socrates proposed a class of people who believe a 'nobel lie' and are compelled to rule by virtue of their upbringing and training. 

He called this class of people the 'Guardian Class'. Those of you in the UK who know the type of people who tend to propose these ideas will find the irony in that name delicious. 

Later the Roman poet Juvenal wrote the famous phrase: 'Quis custodiet ipsos custodes?' - Who guards over the guardians? 

In a democracy the ballot box guards over the guardians, and that should always be the final arbiter. Guardians must be directly elected. 


The Sovereign Money proposal is an implementation of a particularly political philosophy known as 'The Currency View'. It's just a way of looking at things but, as I've shown, it offers no more systemic control value to the banking and monetary system than the existing view, which is a reasonably pragmatic mixture of the centralised 'currency view' and the decentralised 'banking view'.

The proposal is, ultimately, an illusion - however well performed and attractive. And obsessing about it detracts from creating a systemically useful control structure for the banks and a modern payment system that encourages and enables real transactions in the UK.

There may be value in pushing the current account clearing system completely under the auspices of UK Payments Administration (UKPA), and possibly nationalising that function (i.e. bring it under the ownership of the Bank of England). But that would primarily be a way of implementing electronic money that would be available free to all entities transacting in Sterling, and taking that cost out of the commercial banks. Something I feel the banks would appreciate, but it should be done in return for accepting permanent regulated restrictions on lending.

Beyond that the existing balance sheet structure is probably fine, as long as the Bank of England fulfils its regulatory function and operates as policeman to, and not best friend of, the banks. That means putting them into administration and forcing losses onto bank investors when the bank makes bad loans. This is a solved problem that FDIC in the US does on a regular basis. Yes, it might mean that the BoE balance sheet gets a bit hammered, but as we know that doesn't really matter. Or it might mean that we need to have much smaller banks to make the political process of resolution that much more palatable. But perhaps it shows that we need a public owned 'resolution partner' - a commercial bank of last resort that maintains the standards of all the others via competition. We used to have one of course. It was called National Girobank.

Additionally economists of all colours, and I include most of the Post Keynesian influenced groups here as well, are rather too fond of Solomon Fallacy solutions. Clearly many economists don't like and don't trust politicians. That's fine: I don't either. But what that means is that the system has to have a good automatic balance element in it - the MMT school uses the Job Guarantee as its counter-cyclical flywheel for example. However at any point that you require a human decision on anything impacting that control structure, that decision must be made directly by elected officials. Otherwise you are actually proposing a political system that is something other than a democracy.

And for those of us who are mere members of the 'demos' we need to watch out for illusions and tricks from political parties and lobby groups that undermine our democracy. We might be too busy to engage. We might find the whole thing completely boring.  But remember: "no one with power likes democracy and that is why every generation must struggle to win it and keep it – including you and me, here and now."

To that end I'd recommend watching a few Derren Brown shows. Each one has a subtle message about the nature of reality in them. They really are very good.


Roger Erickson said...

"a originally a" ?

"Everywhere else should read" ?

Unless those are uniquely UK expressions, you might want to clean up the grammar in the opening paragraph. As is, it certainly throws off US readers - some of whom may give up & not get to the excellent points you later introduce.

Roger Erickson said...

Grammar aside, your examples of the illusions in cultural methods makes me immediately think of other illusions.

The illusion of class, aristocracy and royalty.

And the illusion of democracy despite the many documented examples of functioning Deep State operations.

All these examples - if pondered - should easily drive home the reality that every evolving culture is always and everywhere a work in progress, with countless processes always in transition somewhere between:
a) what we thought was happening;
b) what actually was happening,
c) what we think is happening, and
d) what actually is happening.

I see no reason why every student can't be made fully aware of those realities by age 10. That way, current citizens might well allow themselves to generate quite a bit more policy agility, and thereby explore more personal and small-to-large group options, and realize how much their actual Policy Space grows with every new generation.

Neil Wilson said...

Fixed. Thanks.

Danny said...

I like this post a lot.

Something it also neatly addresses is the 'real' way that banks make loans. I had a drawn out discussion with an accountant at a bank who was adamant that the description by the BoE
is wrong, in so far as banks reduce cash when they make a loan and a new liability does not (immediately appear) on their balance sheet.
The money creation is obvious on the balance sheet of the borrower but "off balance sheet" from the perspective of the bank. Perhaps I should not have been surprised that an intelligent person in a well paid roll in the heart of our money system could not see how new money was appearing in the economy.

Ralph Musgrave said...

3. “The correct approach, as highlighted by the MMT view, is to reduce bank lending by banning its use for anything that isn't constructive.” Fascinating. You cite Bill Mitchell in an attempt to substantiate the latter point. I’m a regular reader of Bill’s blog but I’ve never known him go into details on the “isn't constructive” point. Perhaps I missed it. And which other MMTers have gone into the details on the “ban anything that isn't constructive” idea? None that I know of.

Of course, no one can possibly deny that “non-constructive” activities should be banned. That’s just a fatuous statement of the obvious. You might as well say “we should ban all forms of crime”.

The big question, and the very difficult question is: how exactly do we minimise non-constructive activities? To judge by the never ending stream of criminal activities that banks are found guilty of every other week, the authorities are clearly having EXTREME DIFFICULTY in cutting down on “non-constructive” activities. Still, if you or Bill Mitchell think you’ve got some simple solution to this, I’m all ears. Plus you and Bill will get a Nobel Prize if you really do have a simple solution. So let’s have the details.

As to how SMers propose cutting down on non-constructive activities, they propose the following.

Don’t ban non-constructive activities, apart from activities which are obviously criminal. That is, under SM, if someone wants to have their money loaned to NINJA mortgagors, they’re free to do so, but those lenders, not the taxpayer, foot the bill when it goes wrong. And if someone wants to borrow money and set up a brothel, let them – just as long as (to repeat) they obey local laws relating to prostitution. That seems not a bad idea to me.

4. “The suggestion here is that if you just stop deposits being instant, then magically all will be well because then they are 'not money'.” That idea is already WIDELY ACCEPTED in just about every country in the world. I.e. it is not an idea that SMers have produced. That is, every country has different ways of measuring its money supply (and different ways of measuring the money supply WITHIN each country), but a principle which is universally accepted is that the longer the “term” of an account (i.e. the longer it takes the account holder to gain access to their so called money) the less likely is the contents of the account to be counted as money. Quite right.

5. “So, of course, the Sovereign Money idea is to use one of these failed committees of Very Serious People, but give them authority to restrict what parliament can spend.” Complete nonsense. If you take the trouble to actually read Positive Money literature, for example, you’ll see they make it perfectly clear that their Money Creation Committee HAS NO POWERS OVER WHAT PROPORTION OF GDP IS ALLOCATED TO PUBLIC SPENDING.


What the committee DOES DO is to decide on STIMULUS. But we already have central bank committees that make decisions on stimulus (e.g. on interest rates, QE, etc). I hate to cause you distress, but about 90% of economists and members of the public are quite happy with committees of economists in central banks taking those sort of decisions.

Anyway, best of luck with your campaign to stop committees of economists having a say on stimulus.

Neil Wilson said...

(i) It's dead simple actually. You just make illegal loans unenforceable in the courts.

At that point they become gift of shareholder funds to those they have handed the money over to - and the bank likely fails and gets resolved in the usual fashion.

(ii) If an appointed committee and the House of Commons disagree on the amount to be spent - exactly as happened in 1910 during the people's budget - who is sovereign? Who gets what they want and who gets to back down.

If the committee cannot override the House of Commons and the Commons can essentially spend what it decides to, then the committee is a pointless waste of time and simply an expensive piece of theatre - much like the current monthly MPC farce. If it can, then you are proposing something other than a democracy.

It is pretty well known amongst most of the banking population that the central bank process is essentially a 'Wizard of Oz' procedure - i.e. complete theatre with no real impact on government. And that's because the central bank is under the control of the government at all times and nobody will actually bounce the government's cheques.

So which is it. Theatre, or an actual autocracy?

I say dispense with the expense theatre, save the ridiculous salaries paid to pumped up egos, and be honest about how the system works.

Tom Hickey said...

You might as well say “we should ban all forms of crime”.

This was the case in the US and it continues. As Bill Black and others have amply documented, existing law was simply not enforced, owing to the power structure. Nor is it being enforced now. It's a travesty. Moreover, it's being whitewashed in the media to conceal the wrongdoing, including the coverup.

Fraud is illegal. Forgery is illegal, Conspiracy is illegal. Insolvent banks are required to be put into resolution ("nationalized" temporarily), predatory loans are not only illegal but unenforceable as contracts, etc. And obstruction of justice is also illegal. The US is thoroughly corrupt.

The City actually has a worse reputation than WAS for dealings, but I can't speak to that other than observe that some of the worst excesses of Wall Street were transacted in the UK where the law is even looser than the US.

In the US there was/is a massive crime wave, especially involving the financial sector, and government is in on it owing to the influence of class power, money in politics, and the revolving door between government and firms.

These firms acted the way they did because they were reasonably certain that the responsible parties would not be held accountable and even if there were some clawback, it would be minimal in comparison with the amount of loot.

Neil Wilson said...

The police, regulators and the courts have to be prepared to enforce the law.

Once you narrow the banks and deploy government spending to make up the difference, then you are no longer beholden to them and should be able to yank their chains much harder.

The myth that price and shareholders will somehow do the enforcing is just that - a myth. We know that from the resolutions the FDIC is constantly undertaking.

And where does this concept that the taxpayer somehow picks up a bill for the banks? It's a sovereign currency system. No taxpayers are harmed by moving a few numbers around on balance sheets. I've already explained that one

axdouglas said...

"which other MMTers have gone into the details on the “ban anything that isn't constructive” idea?" ...

This list from Bill Mitchell looks pretty detailed to me:

"[T]he banks:

- should only be permitted to lend directly to borrowers. All loans would have to be shown and kept on their balance sheets. This would stop all third-party commission deals which might involve banks acting as “brokers” and on-selling loans or other financial assets for profit.

- should not be allowed to accept any financial asset as collateral to support loans. The collateral should be the estimated value of the income stream on the asset for which the loan is being advanced. This will force banks to appraise the credit risk more fully.

- should be prevented from having “off-balance sheet” assets, such as finance company arms which can evade regulation.

- should never be allowed to trade in credit default insurance. This is related to whom should price risk.

- should be restricted to the facilitation of loans and not engage in any other commercial activity."


Warren Mosler's also got some pretty detailed proposals here:

Danny said...

An issue I have with SM is that in the removal of the banks' ability in "creating primary credit, i.e. create by their own fiat and discretion the money supply on which they operate." there is another partner affected in that process namely the non-bank public. I'm not convinced that, as a private individual, my vote for a 1/650 representative with a say in the creation of new money, is more democratic than my current ability to take a non-money IOU (business plan) to a bank and together agree to turn it into new money.

Neil Wilson said...

You'd still be able to do that under an SM system, just at a much higher price of money. The point above is that banks still create 'money', it's just that SM tries to pretend it isn't.

And of course that might make your business plan unviable - particularly in an era where returns are getting less for anything that is actually worth funding.

Under the MMT bank narrowing it would depend what type of business plan it was and how close it was to something that is clearly 'capital development of the economy'. The closer it is the cheaper the money.

Danny said...

So ultimately the SM position would be best served (and realistically approximated) by nationalising all the banks?

Neil Wilson said...

The currency view is highly centralised in nature, so perhaps so.

It's difficult to know what the actual vice that they feel is the problem.

I'd say the vice is banks lending money for projects that don't help the capital development of the economy, and trying to force private lending to take over the role of government to offset the high level of saving.

That puts the banks in far too much of a position of power.

Tom Hickey said...

A currency sovereign already has sovereign money by definition. The issue is how to administer it, which then involves distribution of power and the social structure that goes along with it.

The economic challenge of a society with a capitalistic economy is to deploy capital to meet the needs of society and then provide for as many of its wants as practical.

In a credit based system, this involves credit extension and a process for handling it. Government could do it all itself, which effectively what bank nationalization amounts to, or delegate aspects of the process and compensating its agents adequately to create an incentive for performance. Since vast sums of the currency are involved, this clearly also needs a tight regulatory process in order to prevent participants from succumbing to temptation.

There are many ways to structure such a system and this is what we are talking about in this case as in similar ones that are now popping up on te left and right.

The issue is always tradeoffs. Parties to a proposal seldom take this approach but rather emphasize the benefits and ignore or minimize the downside potential.

Probably the most enlightening way to proceed in having an informed debate is to prepare a matrix of tradeoffs. The various possible combinations will be advocated by different parties and this is the political debate. An informed public can then make its decision about electing representatives that favor different plans.

IS there an ideal solution that an overwhelming majority would subscribe to? Maybe not. Politics is the art of compromise.

Andy said...

It is definitely arguable that 2008 did away with one of the main reasons for having a private banking system. As others have implied that was the process of deciding who gets a loan presumably by collecting information and calculating risk. They failed. Badly.

So what's left? It's mainly IT.
And the post office can do the rest.

All it needs is the political will to push it through recognising that it will roll back globalisation and financialisation. Win Win.

Ralph Musgrave said...


Thanks for listing that material of Bill Mitchell’s. The trouble with it is that the various activities Bill claims to be “non-constructive” can actually be argued to be OK. And that rather supports the SM policy of “do what the Hell you want, as long as YOU, not the taxpayer, foots the bill when it goes wrong”. To expand on that and taking Bill’s points in turn….

1. “Selling on loans”. I see nothing INHERENTLY wrong with that. Obviously the recent crisis was sparked to a significant extent by “sold on loans” that turned out to be duds. But my answer to that is “buyer beware”. Plus as long as the country’s money supply is based on near 100% safe stuff (base money and/or government debt), as is the case under SM, rather than being based on sold on loans and other questionable assets, then the buyers of sold on loans can all go bankrupt. I couldn’t care less. S*d the lot of them. The systemic effects of their going bankrupt won’t be a serious as when their bankruptcy threatens the country’s money supply.

As Irving Fisher put it, “The most outstanding fact of the last depression is the destruction of eight billion dollars-over a third-of our "check-book money"-demand deposits.”

2. “Off balance sheet” stuff. I agree with Bill. But that’s a point that isn't SPECIFICALLY to do with the SM argument. That is, a balance sheet should obviously show ALL assets and liabilities of the corporation concerned. No one can quarrel with that. Off balance sheet stuff is pretty well banned in Spain, I believe.

3. “Should not be allowed to accept any financial asset as collateral to support loans.” That’s a potential minefield. Plenty of work there for lawyers. Again, I think SM provides a simpler solution, namely if a saver wants to invest in an entity that DOES ACCEPT financial assets as the basis for loans, then let them. And if it goes wrong, s*d them. Alternatively where savers want safety, they can invest in an entity that just grants conservative mortgages, e.g. mortgages where house owners have a minimum 20% or so equity stake.

4. “Should be restricted to the facilitation of loans and not engage in any other commercial activity." There again, I think SM provides a better solution, namely that lenders can do what they want, as long they ACCURATELY describe what they do on their publicity. E.g. if a lending entity wants to devote 90% of its resources to granting mortgages and 10% to running a string of casinos, why not let it? If potential investors don’t want that mixture, the entity won’t have any investors.

5. Re Warren’s proposals, most of them strike me as too bureaucratic (like Bill’s). However, I strongly agree with his 2nd last paragraph which (like Milton Friedman) advocates that government should issue no debt at all: just base money on which no interest is paid. That in turn means that the government / central bank machine does not adjust interest rates, a policy most SMers agree with: at least Postive Money and Richard Werner do. (Though I’d retain interest rate adjustment as a tool to be used in emergencies).

axdouglas said...

Ralph Musgrave,

Thanks for your reply.

I should have been clearer. Mitchell's list doesn't have to be a set of rules applying to all lending agencies. It could be a list of conditions that a bank has to satisfy in order to retain access to central bank loans and coverage by deposit insurance. Instead of taking those facilities away from *all* banks, you could let banks access them on the condition that they keep to a very narrow role and continually prove their underwriting standards.

I also agree with Mosler that issuing long-term treasury securities is pointless at best (interest rate adjustments can be made by paying interest on reserves if necessary). But it shows that you don't need to switch to a sovereign money system for the government to be able to create money 'debt free'. This point is sometimes obscured, I think, in the Positive Money literature.

originofspecious said...

Oh and I don't see the difference between 100% safe state-issued money under the SM system and insured deposits under the current system. Either way the banks have to offer an incentive to people to put their money in the bank instead of into national savings.

Neil Wilson said...

". And if it goes wrong, s*d them."

It's like the article passed you by Ralph.

We already know what happens in all those cases - because it happened in 2007/2008 as funding is withdrawn from non-maturity matched institutions.

There is *no* isolation improvement from the SM illusion. None whatsoever.

It is *systemically identical* to the current system. And you will get the same cascade collapse in the economy if loans in general become suspect due to fraud.

Try reading the article again and actually understand the weak points I'm pointing out. Money is still created, time deposits still cause cash flow issue, banks still run current accounts on an agency basis. Nothing actually changes other than the price of loans and the amount of government spending.

originofspecious said...

Wait, I thought part of the Positive Money proposal was that all banks would have to do their lending on a maturity matched basis - they all basically work like Funding Circle... Maybe I just made that up?

Neil Wilson said...

Not unless they've changed their tune recently. It's still all lending as principal rather than agent.

"Maturity transformation & size transformation: in this system maturity transformation – the
funding of long-term loans with short-term investments – would still be possible. As a simplified
example, a 10-year loan of £2,000 could be funded by 10 individuals each placing £2000 into
an Investment Account for a year at a time, in sequence."

The only restriction was the idea that if you stop things being 'demand deposits' that would magically sort things out.

It doesn't as I show in the article.

originofspecious said...

Ah. Well in that case everything you say sounds right to me (not that that counts for much). So it seems like the only real change to *banking* in the Positive Money proposal is that there'd be no more deposit insurance. That's basically it, right?

Neil Wilson said...

That's the crux of it. Removal of deposit insurance, removal of interest paying National Savings account and elimination of free in credit transaction banking.

originofspecious said...

Ok. So just costlier banking, not better banking. I'm in total agreement.

Blissex said...

«I find the move towards unelected committees of Very Serious People, who are appointed specifically to 'restrict' elected politicians, a disturbing trend. [ ... ] In a democracy the ballot box guards over the guardians, and that should always be the final arbiter. Guardians must be directly elected.»

What if the *voters* are corrupt?

That is the issue that do-gooders who want a fair and nice government tend to srhink from considering.

Democracy cannot ensure fair and good government, because there is the possibility that voters be corrupt; and my impression is that in democratic countries politicians tend to be less corrupt than the voters who elect them.

«The police, regulators and the courts have to be prepared to enforce the law.»

And why should they do that? What's in it for them? Do you really think that «police, regulators and the courts» are selfless philosopher-kings who are prepared to suffer for the causes that delusional do-gooders like>?

The law gets enforced when it is *popular* and there are vested interests that push for it to be enforced.

«In the US there was/is a massive crime wave, especially involving the financial sector, and government is in on it owing to the influence of class power, money in politics, and the revolving door between government and firms.»

The «massive crime wave» is very popular, as the voters are corrupt, because they think they too profit by it, that's why the «government is in on it».

In a working democracy the corrupt voters get the corrupt outcomes that they vote for. In the USA the politicians who voted for Iraq, TARP, etc. were overwhelmingly re-elected...

My usual quote from famous "historian" Newt Gingrich:
«If you have a society where almost every middle class person routinely fudges the law, that's telling us something. We have laws that matter - murder, rape, and we have laws that don't matter. Speed limits are an example. Why would you think that a regulatory, process-oriented bureaucratic model would work?
The first thing that every good American says each morning is "What's the angle?" "How can I get around it?" "What does my lawyer think?" "There must be a loophole!" Then he proceeds to work the angle, and the bureaucracy spends its time chasing that and writing new regs to stop him. America is the most incentive-driven society on the planet.»

Sociologists and anthropologists understand this kind of issue...

Neil Wilson said...

As is often said democracy is the worst administrative system, except for all the others.

Roger Erickson said...

Maybe where Newt lives.

US citizens are far more diverse in their thinking.

If we were all like Newt, we never would have written a Constitution in the 1st place.

Blissex said...

«As is often said democracy is the worst administrative system, except for all the others.»

But the point I was trying to make is indeed that democracy works pretty well, and when the voters are corrupt the outcome is corrupt too.

So for me if one disagrees with the corrupt outcomes of democratic decisions the important thing is to change the corrupt culture, not to put aside democracy.

For me to expect that:

«The police, regulators and the courts have to be prepared to enforce the law.»

means to argue that the «police, regulators and the courts» should be philosopher-kings who operate outside and against "democracy" where the democratic will of the people is that laws be corruptly left unenforced, because they voters are hypocrites too.

«Maybe where Newt lives. US citizens are far more diverse in their thinking.»

Dixie attitudes have spread a lot. Sure, the USA North and Northeast may still have a legacy culture of respect for agreed rules among voters, but I think that most of the country goes for "winners do whatever it takes" even perhaps not to the extremes that are traditional in Louisiana :-).

Blissex said...

Just to avoid doubt, my main point is that:

«In this country it sometimes happens that the law lacks any force when the majority does not support it»

It is not that «unelected committees of Very Serious People» are better than democracy, as that is an argument for rule by philosopher-kings and that almost always ends in corruption.

It is also that expecting that «police, regulators and the courts have to be prepared to enforce the law» against the will of the majority is also an argument for rule by philosopher-kings.

It is rather that «the ballot box guards over the guardians» is an empty phrase when those who vote are as corrupt or more corrupt than the guardians.

Institutional arrangements matter, but a lot less than "culture", and there is a «massive crime wave, especially involving the financial sector, and government is in on it» because grifting is part of the "culture" of the majority of voters, or at least that majority tolerates or even admires grifting even when they don't actively practice it themselves.

Random said...

It is possible to have some other voting system to improve this? Such as range voting for example.

Zojo said...


Whether you agree with their ideas or not, it seems clear that Positive Money have made some progress in getting the subject of money creation discussed and the possibility that the system as it exists might not be perfect taken seriously. For all your and Bill Mitchells blogging, that is more than either of you would seem to have achieved.

Before any change can happen, the powers that be have to be forced to acknowledge there is a problem. PM are making some headway with that. That, by itself, is an achievement which deserves some respect and a little credit (if I can use that term in this context).

While I realise you do not agree with their solution, perhaps you need to understand that in this context, he who is against "the system" is at least partly with "us". That is, we all agree a change is needed and why not work together to at least reach the first stage of forcing the beneficiaries/custodians of the status quo onto the back foot.

Otherwise it becomes all too reminiscent of the Peoples Front of Judae versus the Judean People's Front. I am sure they had genuine differences too, but - IT'S THE ROMANS YOU NEED TO FIGHT!

Neil Wilson said...

That is of course utter nonsense. By that definition the Greens should disband and join Labour and Labour should disband and join the Tories. All should just have a big love in. After all what is a little difference about the future of the NHS between friends.

The commonality is between those who have silly ideas that don't work in practice, and those with actual pragmatic solutions based in reality. PM are part of the former group - based upon a serious misconception which they refuse to acknowledge due to the amount of intellectual capital sunk into the concept.

The system is perfectly fine and the Bank of England has done more to point out how endogeneity works in practice. Any narrowing should be along the lines Minsky proposed.

The nature of money creation is not the overriding issue PM seem to think it is. Obsessing over that when there is inequality and unemployment is just focusing on the steering wheel rather than looking at the road.

With their Imperialist 'rule by expert' concepts they have more in common with the neo-liberals than with any democratic solutions.

Zojo said...

I am baffled by how you can think the system is perfectly fine. That sounds like the idealist Marxist who continues to believe that Communism is a wonderful system if only it were actually implemented perfectly.

Even if the system theoretically works well (which seems a doubtfiul proposition) surely no one could claim it works well in practice.

The continual stream of bank scandals, the whole not only too-big-to-fail, but apparently too-big-to-indict situation. The near destruction of the financial system thanks to the excesses of unregulated shadow banking and its virtualized instruments. The vast bubble of asset inflation - especially of property. The huge mountain of private debt. All of this can be conveniently ignored? How are these not linked to the fact that licences are granted to an unrepresentative, undemocratic, and largely unregulated set of instituitions that allow them the unique privilege of creating money? All the parasitical infestation that surrounds the banks (the investment gurus, hedge funds, dealers, brokers private equity vultures)are only there because of that unique ability. Not to mention the capture of our politicians by the same nexus of corruption and self interest.
There are enormous problems with how the current system works IN PRACTICE, and to pretend otherwise seems to me delusional.

By the way, I have heard that according to the People's Front of Judaea (who apparently offer actual pragmatic solutions based in reality), the Judaean People's Front have silly ideas that don't work in practice and talk utter nonsense. Twas ever thus!

Neil Wilson said...

Shouting about what is happening presently, when that is not what I and others are proposing is the perfect Strawman.

Not really seen much of an argument yet. Just a lot of anger.

The sovereign money solution doesn't work. I've shown why it doesn't work.

Time to drop it and move on to the stuff that actually matters - Jobs, healthcare, education, housing.

In other words time to get real.

Zojo said...

I am all for getting real. To be honest Neil, I don't actually know what you are proposing. I might agree with it!

In my comments I was merely responding to your dismissal of a practical proposal which seemed to me to have some merit. And which has some traction and international support.

I read Steve Keen and Bill Mitchell and others, and I consider myself an MMTist, if such a thing exists. I have been trying to synthesize MMT ideas with sovereign money and consequently was intrigued by your article. I admit to not fully understanding quite a bit of what you wrote, but I have some criticisms of what I do understand. If you would like to read them I can send you my comments.

What practical steps are you suggesting should be taken to sort out the economic mess? I assume you agree that we are in one, even if you don't think the money supply and how it is "managed" (or not) is an issue.
What have you and your supporters done to get these steps taken seriously or even considered by anyone who might be able to implement them?

That is a genuine question as, provided I agree with it, I would be happy to join in and help in what way I can once I know what it is you are planning and how you intend to get it done. I want to get real, but that requires doing rather than writing, I am sure you agree.



Neil Wilson said...

Funnily enough somebody who actually understood banking read this article, agreed with it pretty much entirely and knew exactly what I was proposing.

Possibly he clicked the link in the tenth paragraph above and read it.

I will say it again in case you are definitely filtering me here. There is no practical sovereign money proposal. Therefore nothing to discuss with anybody that isn't a complete waste of everybody's time.

It is an illusion. A simple conjuring trick. It does not work and anybody who understands banking simply smiles sweetly to themselves when they hear somebody go on about the 'Currency View'. In fact they probably encourage it all since it gives the semblance of 'doing something' without actually changing anything substantive at all. Bankers love that sort of thing.

If you want to sort out banking you don't faff around with price parameters and hope it all works out while you keep your free market credentials intact.

You don't increase the price of banking for poor people who can scarcely afford what they use at present.

And you certainly don't propose, in a democracy, handing over control to an unelected bunch of so-called experts. Or more correctly 'Barons'. At least not without making it clear you are in favour of an elite autocracy first.

No, If you want to sort banks out then you start proscribing categories of lending and make them unenforceable (so that it becomes a gift).

You proscribe those activities which are not compatible with a banking licence. Most of the rest of banks activities go here. If they want to do that they can raise the equity for it on the market like everybody else has to.

What you do is get back to good old bowler hat lending by boring bankers.

And then when you've put the banks back in their box you can get onto the important stuff - solving unemployment, providing decent housing, and providing a safe and secure retirement for the majority.

SteveK9 said...

Anyone else in the World doing a better job of this? The banking systems of China, Russia, India, Brazil ... ? Are there any interesting ideas or proposals there ... or are they following the same path as the western capitalist democracies ... or worse? I realize it is a lot to ask, given how complex our own mess is.

Neil Wilson said...

They come here to train and leave with the wrong idea. So you get crisis after crisis all of which are dealt with the wrong way.

It's like Victorian surgeons who couldn't get their head around the idea that people die less if they'd just wash their hands.

Roger Erickson said...

LOL! I was thinking of the exact same analogy, Neil.

it's a tragicomedy of course

Anonymous said...

I'm coming at this on nobodys side. Both PM and MMT need their heads banged together and stop fighting each other.

To me you are just about there but still a million miles away.

MMT - Would need world agreement on the regulations neede that will never be enforced by a corrupt establishment.

It's going to be like trying to stop world wide tax avoidance or the problems caused by world wide corporation tax rates.

PM - Have tried to by pass the snake pit world regulations and make it compulsory so the establishment can't by pass the change. Yet, fell short and their plan will ultimately help them in the end.

This intellectual fight is like watching politicians on question time. We are sick of the shouting and fighting just work together and sort it out.

Neil Wilson said...

I'm afraid that's rubbish. There is no need for world wide agreement at all. You just regulate your banks in your currency area.

If other people want to blow up their currency area then that's their problem.

One of the main benefits of a correctly run sovereign currency area is that it provides a buffer zone to handle shocks from the rest of the wold doing stupid things.

It's the fixed currency area, one world government types that need world wide agreement. MMT provides ideas that specifically allow you to operate a different regime inside your currency area, because currency areas are a simply public monopoly.

People have different ideas and the world is a battleground for them. Something those from the right understand very well indeed - probably because they come from a competitive business background.

This idealistic notion that everybody can just sit down and 'work things out' hasn't solved the problem in Greece has it.

The Sovereign money notion is a *waste of time* and should be dropped entirely. It solves nothing.

joebhed said...

Neil Wilson said...

You'd still be able to do that under an SM system, just at a much higher price of money. The point above is that banks still create 'money', it's just that SM tries to pretend it isn't.

ANY proof of ANY of that?
Or merely protected subjective posturing?

WHY the higher cost of 'public' money?
HOW do 'private' banks continue to create 'money' as opposed to 'credit' ... when the government is issuing all the money?

ANY proof of ANY of that?
Or merely protected subjective posturing?


Neil Wilson said...

Money is what money does, not because you decided to call something 'money' and something else 'not money'.

And I'm afraid the burden of proof is with you true believers.

It doesn't work. It doesn't control things. It's a pointless change for no benefit whatsoever.

The correct approach is to narrow banking by restricting what they can lend money for. That will actually change things.


In the UK after the "big bang", which took away controls on lending, house prices started to rise above the levels of earnings proportionately. Negative equity rates rose and forclosures followed.
So I would suggest going back to the old system of building societies for housing, as they were heavily regulated (high reserves and enforced controls on income leveraging).
It was rare for any one to have a bank mortgage, and needed a two year savings account with a BS and a ten percent deposit for house purchase.
Positive money have the right diagnosis on this one but the wrong cure.

Neil Wilson said...

They don't have the right diagnosis - based as it is on price for lending rather than what can be lent, to whom and for what.

See how the New Zealand Central bank deals with a property bubble - increases deposit requirements and reduce loan to value levels.

Random said...

"See how the New Zealand Central bank deals with a property bubble - increases deposit requirements and reduce loan to value levels."
You all have the wrong diagnosis. Introduce 100% land value taxation if you don't want property bubbles.

Pearce Tournier said...

Hi there, Neil! You just made the case, on another site, that the debt jubilee does not work as a concept. No doubt you have expanded upon that point elsewhere, but for some reason I cannot get the search function on 3spoken to work today. Can you tell us (again?) why you don't support a debt jubilee? Perhaps I am getting mixed up here, and you are talking about some public debt jubilee, as opposed to, say, Steve Keen's private debt jubilee?

Neil Wilson said...

I'm talking about the private debt jubilee that Steve puts forward. His so called 'Modern Jubillee'

It's not the people in debt that you need to worry about. It's the ones that aren't in debt.

There are now more houses in the UK without a mortgage on them than with (7.5 million vs 6.9 million). Many of those have joint owners. So let's be generous and say there are 7.5 million individuals without debt who will receive a lump sum as an 'equity release' on a single day. When people receive a lump of money they tend to spend at least some of it. What do you think is going to happen to inflation when 7.5 million people all hit the shops - in addition to all those people with spare money due to reduced interest payments and those renting?

It's a massive and unnecessary shock to the system, which you don't get if you simply increase people's income via improved jobs and better living wages so they can spend *as well as* meeting the payments on their loans.

The skew on those in debt vs those who are not is quite severe and is skewed over the generations. Those who are debt free and will therefore get the 'free money' are older. Spending by them increases further the supply of 'older goods', when we need to be spending more on 'younger goods' (housing, schooling, etc.).

Yes narrow the banks so that they can't lend for silliness - and are restricted to providing lines of credit for businesses and mortgages for individuals, but run off the existing loan book over time rather than shocking the system.

Overall I think the Modern Jubilee falls into the same category as Basic Income - neat, plausible but wrong.