Krug­man on (or maybe off) Keen

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Paul Krug­man has just com­mented (twice) on my most recent blog about my paper for INET. In one sense, I’m delighted. The Neo­clas­si­cal Estab­lish­ment (yes Paul, you’re part of the Estab­lish­ment) has ignored non-Neo­clas­si­cal researchers like me for decades, so it’s good to see engage­ment rather than wil­ful (or more prob­a­bly blind) igno­rance of alter­na­tive approaches.

Click here for this post in PDF

Fig­ure 1: Krugman’s first piece

There is a bizarre asym­me­try in eco­nom­ics: crit­ics of Neo­clas­si­cal eco­nom­ics like myself read Neo­clas­si­cal lit­er­a­ture avidly, no because we agree with it—far from it—but because we feel obliged to under­stand why they hold to their coun­ter­fac­tual views on the econ­omy.

Most Neo­clas­si­cal econ­o­mists, on the other hand, don’t even bother to con­sider crit­ics within their own ranks—let alone crit­ics from with­out. So to have a paper referred to is def­i­nitely a plus.

In another sense, I’m appalled, because Krugman’s com­ments put on dis­play that very igno­rance of Neo­clas­si­cal literature—let alone of alter­na­tive eco­nomic thought.

For instance, Paul refers to many of the propo­si­tions in my blog (it’s clear that he hadn’t read the paper on which it is based) as “asser­tions about what is cru­cial, with­out much expla­na­tion of why these things are cru­cial.”

One of these “asser­tions” is the key role of the change in debt—rather than sav­ing out of cur­rent income—in financ­ing invest­ment.

Well Paul, in that paper you will find ref­er­ences to the exten­sive the­o­ret­i­cal and empir­i­cal lit­er­a­ture from which that asser­tion was derived. I could start with non-Neo­clas­si­cal authors like Schum­peter, but let’s lead with some­one from within The Citadel (as Alan Kir­man once called the Neo­clas­si­cal ortho­doxy: Alan Kir­man, 1989, p. 126): Eugene Fama. The “asser­tion” that the change in debt was the main source of fund­ing for invest­ment was con­firmed by Fama and French in a pair of empir­i­cal papers:

The source of financ­ing most cor­re­lated with invest­ment is long term debt. The cor­re­la­tion between I and dLTD is 0.79… These cor­re­la­tions con­firm the impres­sion … that debt plays a key role in accom­mo­dat­ing year-by-year vari­a­tion in invest­ment.” (Eugene F. Fama and Ken­neth R. French, 1999, p. 1954)

Debt seems to be the resid­ual vari­able in financ­ing deci­sions. Invest­ment increases debt, and higher earn­ings tend to reduce debt.” (in an unpub­lished draft of the same paper).

Or con­sider Alan Holmes’s cru­cial paper in 1969, in which he fought an unsuc­cess­ful cam­paign against the later exper­i­ment in Mon­e­tarism (far from being a “strict Mon­e­tarist”, as Paul jibes at one point, I and my Post-Key­ne­sian col­leagues and fore­bears take money seri­ously while simul­ta­ne­ously being tren­chant crit­ics of Friedman’s sim­plis­tic Monetarism—see for exam­ple Nicholas Kaldor, 1982). Holmes, then Senior Vice-Pres­i­dent of the New York Fed­eral Reserve, noted that the key Mon­e­tarist pol­icy pre­scrip­tion of reg­u­lat­ing the econ­omy by “a reg­u­lar injec­tion of reserves” was based on “a naïve assump­tion” about the nature of the money cre­ation process:

The idea of a reg­u­lar injec­tion of reserves—in some approaches at least—also suf­fers from a naïve assump­tion that the bank­ing sys­tem only expands loans after the Sys­tem (or mar­ket fac­tors) have put reserves in the bank­ing sys­tem. In the real world, banks extend credit, cre­at­ing deposits in the process, and look for the reserves later. (Alan R. Holmes, 1969, p. 73)

Holmes would turn in his grave at Krugman’s naïve asser­tion, half a cen­tury later, that banks need deposits before they can lend:

If I decide to cut back on my spend­ing and stash the funds in a bank, which lends them out to some­one else, this doesn’t have to rep­re­sent a net increase in demand. (Paul Krug­man, 2012)

As Randy Wray observed, that is “the descrip­tion of a loan shark, not a bank”—or of a hypo­thet­i­cal world in which banks need deposits before they can lend. In the real world, as Holmes points out above, bank lend­ing cre­ates deposits. That’s why banks mat­ter in macro­eco­nom­ics, and it’s not “Bank­ing Mys­ti­cism” to point this out: it is “Bank­ing Arm­chair The­o­rism” to ignore them in macro­eco­nom­ics.

Neo­clas­si­cal econ­o­mists have ignored this point for decades, which is why you have to look to the non-Neo­clas­si­cal lit­er­a­ture to truly under­stand money cre­ation and the cru­cial role of banks. Schum­peter put it clearly dur­ing the last Depres­sion: he described the view that Krug­man puts today, that invest­ment (which is what the most impor­tant class of bor­row­ers do) is financed by sav­ings, as “not obvi­ously absurd”, but clearly sec­ondary to the main way that invest­ment was financed, by the “cre­ation of pur­chas­ing power by banks … out of noth­ing”. This is not “Bank­ing Mys­ti­cism”: this is dou­ble-entry book­keep­ing:

Even though the con­ven­tional answer to our ques­tion is not obvi­ously absurd, yet there is another method of obtain­ing money for this pur­pose, which … does not pre­sup­pose the exis­tence of accu­mu­lated results of pre­vi­ous devel­op­ment, and hence may be con­sid­ered as the only one which is avail­able in strict logic. This method of obtain­ing money is the cre­ation of pur­chas­ing power by banks… It is always a ques­tion, not of trans­form­ing pur­chas­ing power which already exists in someone’s pos­ses­sion, but of the cre­ation of new pur­chas­ing power out of noth­ing. (Joseph Alois Schum­peter, 1934, p. 73)

Fig­ure 2: Krugman’s sec­ond piece

Why does it mat­ter that “once you include banks, lend­ing increases the money sup­ply”? Sim­ply, because the endoge­nous increase in the stock of money caused by the bank­ing sec­tor cre­at­ing new money is a far larger deter­mi­nant of changes in aggre­gate demand than changes in the veloc­ity of an unchang­ing stock of money. And in reverse, the reduc­tion in demand caused by bor­row­ers repay­ing debt rather than spend­ing is the cause of the down­turn we are now in—and of the Great Depres­sion too.

Fig­ure 3 shows the ratios of pri­vate and pub­lic debt to GDP in Amer­ica from 1920 till now. Non-neo­clas­si­cal econ­o­mists like myself, Michael Hud­son, Ann Pet­ti­for, the late Wynne God­ley, Randy Wray and many oth­ers (see Dirk J Beze­mer, 2009, and Edward Full­brook, 2010 for fuller lists of those who warned of this cri­sis before it happened–including of course Nouriel Roubini, Dean Baker, Robert Shiller, and Peter Schiff) were shout­ing that the post-1993 explo­sion in pri­vate debt was unsus­tain­able, and would nec­es­sar­ily lead to a cri­sis when its rate of growth slowed (let alone turned neg­a­tive), for years before the cri­sis began (my first aca­d­e­mic warn­ing of the dan­gers of ris­ing pri­vate debt is shown as SK1, and my first pub­lic warn­ing that a cri­sis was immi­nent is shown as SK2 on Fig­ure 3). We were ignored, in large part because only Neo­clas­si­cal econ­o­mists like Krug­man, Bernanke and Greenspan had the ear of the pub­lic and politi­cians.

Now the cri­sis is the defin­ing eco­nomic event of our times, and years after it began, the only period to which the recent boom and bust in the pri­vate debt to GDP ratio can be com­pared is the Great Depres­sion.

Fig­ure 3: Aggre­gate Pri­vate and Pub­lic Debt

Yet Neo­clas­si­cal econ­o­mists like Krug­man con­tinue to assert that the aggre­gate level of pri­vate debt, and changes in that level, are macro­eco­nom­i­cally irrel­e­vant, when even casual empiri­cism implies that changes in the aggre­gate level of pri­vate debt are asso­ci­ated with Depres­sions.

So while I wel­come any Neo­clas­si­cal econ­o­mist at the forth­com­ing INET con­fer­ence tak­ing up Krugman’s call (“I hope some­one in Berlin presses Keen on all this”), in real­ity Paul, empir­i­cally ori­ented non-Neo­clas­si­cal econ­o­mists like myself are the ones chal­leng­ing the unsup­ported asser­tions of Neo­clas­si­cal economics—not the other way round.

Beze­mer, Dirk J. 2009. ““No One Saw This Com­ing”: Under­stand­ing Finan­cial Cri­sis through Account­ing Mod­els,” Gronin­gen, The Nether­lands: Fac­ulty of Eco­nom­ics Uni­ver­sity of Gronin­gen,

Fama, Eugene F. and Ken­neth R. French. 1999. “The Cor­po­rate Cost of Cap­i­tal and the Return on Cor­po­rate Invest­ment.” Jour­nal of Finance, 54(6), 1939–67.

Full­brook, Edward. 2010. “Keen, Roubini and Baker Win Revere Award for Eco­nom­ics,” E. Full­brook, Real World Eco­nom­ics Review Blog. New York: Real World Eco­nom­ics Review,

Holmes, Alan R. 1969. “Oper­a­tional Con­straints on the Sta­bi­liza­tion of Money Sup­ply Growth,” F. E. Mor­ris, Con­trol­ling Mon­e­tary Aggre­gates. Nan­tucket Island: The Fed­eral Reserve Bank of Boston, 65–77.

Kaldor, Nicholas. 1982. The Scourge of Mon­e­tarism. Oxford: Oxford Uni­ver­sity Press.

Kir­man, Alan. 1989. “The Intrin­sic Lim­its of Mod­ern Eco­nomic The­ory: The Emperor Has No Clothes.” Eco­nomic Jour­nal, 99(395), 126–39.

Krug­man, Paul. 2012. “Min­sky and Method­ol­ogy (Wonk­ish),” The Con­science of a Lib­eral. New York: New York Times,

Schum­peter, Joseph Alois. 1934. The The­ory of Eco­nomic Devel­op­ment : An Inquiry into Prof­its, Cap­i­tal, Credit, Inter­est and the Busi­ness Cycle. Cam­bridge, Mass­a­chu­setts: Har­vard Uni­ver­sity Press.

 

About Steve Keen

I am Professor of Economics and Head of Economics, History and Politics at Kingston University London, and a long time critic of conventional economic thought. As well as attacking mainstream thought in Debunking Economics, I am also developing an alternative dynamic approach to economic modelling. The key issue I am tackling here is the prospect for a debt-deflation on the back of the enormous private debts accumulated globally, and our very low rate of inflation.
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  • Look at it this way if you still cant under­stand my point. ”

    I under­stand your point — which is based on the idea that debt is bur­den­some. I’m try­ing to show you that it is not nec­es­sar­ily bur­den­some — just a fac­tor of account­ing.

    And because you are look­ing at debt as bur­den­some you have come to the wrong con­clu­sion — that cen­tral bank issu­ing of money is some­how dif­fer­ent from them out­sourc­ing it to pri­vate banks under licence.

    It isn’t any dif­fer­ent in real­ity.

  • What are the reserves needed for? When are they needed? Are they not ini­tially and imme­di­ately needed?”

    Bank ‘reserves’ are deposits by banks at the cen­tral bank. They are used for clear­ing net inter bank pay­ments (ie pay­ments from Bank A to Bank B, less pay­ments from Bank B to Bank A).

    The way you get reserves is the way you get any sort of money. You either have it, or you bor­row it.

    Now banks have a cap­i­tal buffer. That cap­i­tal buffer is based on long term invest­ments at the bank. Let’s say £100.

    That rep­re­sents reserves at the cen­tral bank. So the bal­ance sheet looks like this.

    DR Cen­tral Bank Reserves £100 CR Equity £100.

    That imme­di­ately means that the bank can clear £100 of net inter bank pay­ments with­out any prob­lem.

    So the loans and deposit can be cre­ated, paid, pay­ments made and so on, and as long as the net inter bank pay­ment with other banks (bear­ing in mind that their loans and deposits will be com­ing in the other direc­tion) doesn’t ever exceed £100 every­thing rum­bles along hap­pily.

    Once you get to the point that the vari­a­tion in inter bank pay­ments exceeds £100, the first thing you do is bor­row the excess overnight from the other banks.

    If a bank A is short reserves, and bank B is up reserves, then Bank A just bor­rows the extra reserves from bank B overnight to clear their account at the cen­tral bank and Bank B charges Bank A a fee for that.

    The pay­ment sys­tem clears about a 10 to 30% of the annual GDP flow of trans­ac­tions daily using a very small stock of cen­tral bank reserves.

  • RJ

    Ques­tion by LCT

    I’m also con­fused about the pre­cise dis­tinc­tion between deposits and reserves. When a bank cre­ates a deposit, does that increase their reserves by a com­men­su­rate amount or not’

    Answer given above

    depends on the reg­u­la­tory frame­work lct, where there is a reserve requirment, the deposit occurs first and the reserves (pro­vi­sion­ing in cen­tral bank accounts held by pri­vate meme­ber banks)are cre­ated later,etc

    My com­ment

    Sorry but this answer is com­pletely wrong. And it is con­fus­ing for peo­ple who are try­ing to under­stand how it all fits together (I do under­stand how the jour­nals work).

    It has noth­ing to do with the reg­u­la­tory frame­work.

    Banks cre­ate deposits in two ways

    1 Bank loan. The JE is

    DEBIT Loan Bob $10,000
    CREDIT Cheque account Bob $10,000

    IT HAS NOTHING TO DO WITH RESERVES, In fact Bobs banks reserves may DECREASE if Bob uses this deposit to pay some­one at another bank (the other bank how­ever will increase)

    2 Pay­ment of a GOVT BILL 

    It that case yes it does. The banks jour­nal entry is (Bob receives $10,000 from the Govt)

    DEBIT Cen­tral bank reserves
    CREDIT Cheque account Bob $10,000

    You need to do more work on this aspect of MMT Mahaish

  • RJ

    Neil

    The way you get reserves is the way you get any sort of money. You either have it, or you bor­row it.”

    The key rea­son for banks need­ing RESERVES is to set­tle with the Govt for tax pay­ments by their cus­tomers

    And the main source of reserves is GOVT PAYMENTS TO BANK CUSTOMERS

  • RJ

    Neil

    Now banks have a cap­i­tal buffer. That cap­i­tal buffer is based on long term invest­ments at the bank. Let’s say £100.

    That rep­re­sents reserves at the cen­tral bank. So the bal­ance sheet looks like this.”

    Not really cor­rect is this. You are con­fused aren’t you with the old FRB sys­tem

    SHFs can result as fol­lows

    Bank loans £100 mil­lion

    DEBIT £100 mil­lion bank loan
    CREDIT Cheque account £100 mil­lion

    The bor­rower then buys bank shares

    DEBIT Cheque account £100 mil­lion
    CREDIT SHF £100 mil­lion

    So the bank now has loans (the banks asset) that are locked in in effect. They have obtained a new asset and the off­set­ting lia­bil­ity has been moved to SHFs

  • RJ

    there is a school of thought that says the gov­ern­ment can sim­ply cre­ate deposits in the pri­vate bank­ing sys­tem, with­out issu­ing any debt,”

    It can not be done

    Govt debt equals

    Bonds +
    An over­draft at the cen­tral bank

    And sav­ing do not need Govt debt. Sav­ing can be backed by non Govt debt. But as I noted above there is a limit to non Govt debt

    So this state­ment is cor­rect

    This is why Govt debt is so impor­tant. With­out it it is almost impos­si­ble for every­one to save for their retire­ment. Because the bur­den of debt for the non govt sec­tor becomes too large. Whereas for Govt it is almost totally irrel­e­vant esp at cur­rent low lev­els.

    With­out Govt debt it is impos­si­ble for every­one to save the amount that should be saved to cover for our retire­ment and med­ical needs.

  • alain­ton

    Ill try and sim­plify this dis­cus­sion about whether money always and in every case needs have a cor­re­spond­ing debt entry.

    I would argue it does in line with Grae­bar and a long his­tory of those who advo­cated the debt the­ory of money (which was the ori­gin of the­o­ries of endoge­nous money).

    One key argu­ment is that to enable trans­ac­tions to be tracked across the econ­omy records have to be dou­ble entry cor­rect — if not you get math­e­mat­i­cal errors and in mod­el­ling the econ­omy you will not be stock flow con­sis­tent.

    What about gov­ern­ment high pow­ered money — surely that can just be cre­ated? To put the dev­ils advo­cate argu­ment put by the crude wing (as opposed to the more thought­ful wing) of MMT advo­cates. This wing argues that as the sep­a­ra­tion of the cen­tral bank and state is his­toric and mean­ing­less they can be merged. Well what if they were merged — either you have this debit entry for high pow­ered money cre­ation or you dont. But if you dont think about what this is say­ing. What it is say­ing to the mar­kets is that I as gov­ern­ment will not be set­ting any lim­its on future money cre­ation — debts (account­ing entries) will not be made up with future deposits. The sig­nal it is say­ing is mon­e­tary spend­ing (which cre­ates high pow­ered money) will not be matched in the future with taxes (which destroys all money) or spend­ing to cred­i­tors (cen­tral bank or bond­hold­ers) — which also destroys money.

    It is send­ing a sig­nal that the mar­ket will not know future price lev­els because they can­not pre­dict future money sup­ply — it is cre­at­ing rad­i­cal uncer­tainty. Clearly this will knock con­fi­dence in the cur­rency and raise bond prices. If this uncer­tainty reaches a high level and spreads through the gen­eral pub­lic you know what we get — it begins with h and ends with n. 

    Note this analy­sis has been con­ducted entirely within the frame of MMT on High Pow­ered Money, and remem­ber not all MMTers are chartelist, they don’t all believe that 100% of all money is based on taxes. This analy­sis is intended to show that MMT is about 80–90% cor­rect. The one area some of its adher­ents make an error is the need to sep­a­rate cen­tral bank oper­a­tions from gov­ern­ment spend­ing, even if only in account­ing terms, oth­er­wise you knock con­fi­dence in the cur­rency. The sep­a­ra­tion of cen­tral bank and gov­ern­ment were his­toric, how­ever it still serves a pur­pose and this issue of con­fi­dence in the cur­rency was key to when Alexan­der Hamil­ton and oth­ers cre­ated mod­ern cen­tral bank­ing — just read their writ­ings.

    So there are lim­its on cre­ation of high pow­ered money, but that is a mod­el­ling issue for another day and we look for­ward to Steve’s long (very long) awaited model on this issue. 

    @NeilW Red rag to a bull?

  • RJ

    Alain­ton

    I’m unsure what you mean by “Govt high pow­ered money”. But if you mean bank reserves and notes and coins

    Then there is no account­ing limit on the cre­ation of GHPM for a mon­e­tary sov­er­eign Govt. 

    The Govt could pay every­one £1 mil­lion tomor­row. And then issue com­pul­sory pen­sion bonds pay­ing 2% inter­est where the inter­est only could only be with­drawn when a per­son retires at 65. With the bonds revert­ing to the Govt on a per­sons death.

    And con­fi­dence in a cur­rency is a sep­a­rate issue to how bank­ing is done. And what the cor­rect account­ing jour­nal entries are for these trans­ac­tions.

  • RJ

    Clearly this will knock con­fi­dence in the cur­rency and raise bond prices”

    For a mon­e­tary sov­er­eign Govt bonds prices are set by the Govt NOT THE MARKETS

    And re hyper infla­tion

    Pro­fes­sor Michael Hud­son has stud­ied hyper­in­fla­tion exten­sively. He main­tains that “every hyper­in­fla­tion in his­tory stems from the for­eign exchange mar­kets. It stems from gov­ern­ments try­ing to throw enough of their cur­rency on the mar­ket to pay their for­eign debts.”

    It is in the for­eign exchange mar­kets that a national cur­rency becomes vul­ner­a­ble to manip­u­la­tion by spec­u­la­tors.

  • Nice to see all this going on about bank reserves and deposits as it will even­tu­ally show that bank reserves are really unneessary and mean noth­ing — except to the bank exam­iner every other Wednesdy in coun­tries where there is a require­ment.
    More impor­tant, the sub­ject is here broached of whether there can be “money” with­out debt.
    This is much more deserve­ing of dis­cus­sion.
    The accoun­tants, like the Count from Sesame Stree, say no — we have mas­tered dou­ble-entry book­keep­ing in the money sys­tem. and it can­not hap­pen.
    MMT is founded upon the work of the Counts among us.

    The major issue how­ever is far more basic than the account­ing.
    It has to do with the means-of-exchange func­tion of money. And money can, and should, be issued with­out any debt attached to it, when­ever the growth of the eon­omy requires addi­tional media in order to effect the new level of com­merce — veloc­ity notwith­stand­ing.

    That there is zero debt asso­ci­ated with issuance enables all the dou­ble-entry account­ing to hap­pen with­out the debt-spi­ral (death knell) of debt-based money.
    It cre­ates a per­ma­nent money sys­tem.

    Once y’all get that, the dis­cus­sion will turn to how to issue money with­out debt, so that money ITSELF is never extin­guished along with the repay­ment of any debt.
    For the Money Sys­tem Com­mon

  • alain­ton

    @RJ I mean gov­ern­ment cre­ated money as opposed to bank cre­ated money — of course its more com­pli­cated than than but that’s a quick def­i­n­i­tion.
    See http://en.wikipedia.org/wiki/Monetary_base

    For a mon­e­tary sov­er­eign Govt bonds prices are set by the Govt NOT THE MARKETS

    No its sets what­ever yields and peri­ods it wants that does not mean a bond auc­tion will clear. It also sends a sig­nal at what it can get away with at the next auc­tion. Bond Mar­kets are a Dutch auc­tion as opposed ton the French style wal­rasian auc­tion we are used to in eco­nom­ics but its still a mar­ket.

    I agree with Hud­son and indeed Joan Robin­son on the Hyper­in­fla­tion issue- issue, its pri­mar­ily an issue for for­eign mar­kets because in the domes­tic mar­ket high­pow­ered money ful­fills domes­tic demand and cre­ates money for pri­vate sav­ings — - as you rightly say. But its not a closed sys­tem is it. It cre­ates a tem­po­ral shift in the struc­ture of money re the real econ­omy and the cur­rency mar­kets, and infla­tion, adjust to com­pen­sate.

    Indeed why SFC con­sis­tent eco­nom­ics as so far not got to the bot­tom of this is that all next steps in terms of mod­el­ling have to be set up together — a huge step — a gov­ern­ment sec­tor, taxes, mul­ti­ple banks, mul­ti­ple cur­ren­cies, mul­ti­ple gov­ern­ments, finan­cial and non finan­cial sec­tors, endoge­nously set inter­est rates — its hard.

  • RJ

    And money can, and should, be issued with­out any debt attached to it, ”

    This is impos­si­ble. Money is a FINANCIAL ASSET

    FINANCIAL ASSETS ALWAYS = A FINANCIAL LIABILITY held by another party

    No one would hold money (an asset) issued by an organ­i­sa­tion if that organ­i­sa­tion (bank or Govt) do not back the money. As the money would have no value 

    DEBT FREE MONEY IS AN IMPOSSIBLE HOAX

    And for mon­e­tary sov­er­eign Govts some debt (a finan­cial lia­bil­ity) is good not bad. The more the bet­ter up until our pen­sion sav­ing require­ments are meet

  • Money is many things, includ­ing a finan­cial asset when it is owned by some­one.
    We should start at “what is money?”.
    When money is issued into exis­tence, now via bank debt (a.k.a. bank-credit), yes, it is issued as an asset/liability that requires issu­ing more and more lia­bil­i­ties and assets in order to keep it a ‘count’ of an asset.

    In pro­vid­ing a quan­tity of (public)money equiv­a­lent to pro­vide for the means of exchange in the econ­omy, there is no need to issue it a s a debt.
    So said Simons, Fisher, and Fried­man all, among many oth­ers includ­ing the pro­posed 1939 Pro­gram for MOn­e­tary Reform, pub­licly sup­ported by over 400 econ­o­mists at the time.

    Like I said, THIS is the issue that needs flesh­ing out, not whether the bank first issues the credit and then finds the required reserves — again if any are required.

    For the Money Sys­tem Com­mon.
    For the pub­lic, per­ma­nent, non-debt-based money sys­tem.

  • RJ

    there is no need to issue it a s a debt.”

    Its the only way to issue a finan­cial asset. Its what gives a finan­cial asset value. It MUST be sup­ported by a finan­cial lia­bil­ity

    Just use com­mon sense and ignore non­sense writ­ten by so called mon­e­tary experts

    Peo­ple will not pro­vide say labour or goods for a bond asset or bits of paper (called money) that has noth­ing what­so­ever back­ing it. But if they can exchange this paper for a tax lia­bil­ity write off. Then the paper (or coins) has value.

  • Dan­ny­b2b

    RJ

    Money is backed because peo­ple have trust in the cur­rency. Debt doesnt back the cur­rency.

    The cen­tral bank is the entity being out­sourced by the pub­lic to pro­duce cur­rency for us there­fore what it pro­duces does not belong to it. The CB should be rec­og­nized as an entity which makes the cur­rency and just passes the money onto its recip­i­ents. The account­ing must be sim­ple to over­come.

  • It is send­ing a sig­nal that the mar­ket will not know future price lev­els because they can­not pre­dict future money sup­ply – it is cre­at­ing rad­i­cal uncer­tainty. Clearly this will knock con­fi­dence in the cur­rency and raise bond prices. If this uncer­tainty reaches a high level and spreads through the gen­eral pub­lic you know what we get – it begins with h and ends with n.”

    That causal chain is of course fear mon­ger­ing non­sense.

    There is no the­ory of exchange rates that stacks up to the evi­dence — so your ‘con­fi­dence in cur­rency’ sug­ges­tion has no basis in fact or the­ory. There are peo­ple chas­ing finan­cial assets and there are peo­ple chas­ing real assets based on the returns, the expec­ta­tion of returns and the expec­ta­tions of expec­ta­tions. Reduc­ing spend­ing on finan­cial assets in order to boost demand for prod­ucts, increas­ing the value of real assets could send the exchange rate either way. It will fluc­tu­ate, and nobody knows which way it will go any more than they know what the weather will be next Christ­mas.

    Gov­ern­ment Bond prices are set by the cen­tral bank all the way up the chain at their whim. If a bond falls below par the cen­tral bank can pur­chase them for can­cel­la­tion. That acts as a tax on the finan­cial sec­tor, and hell will freeze over before the finan­cial sec­tor vol­un­tar­ily pays a tax.

    The cur­rency is a sim­ple gov­ern­ment monop­oly, and the results flow from the stan­dard analy­sis of monop­oly power. 

    Cen­tral bank sep­a­ra­tion is an attempt to elim­i­nate the power of gov­ern­ment and pre­vent it from pur­su­ing the pub­lic pur­pose — as deter­mined demo­c­ra­t­i­cally by the peo­ple. Putting it in the hands of bankers unsur­pris­ingly meant that the coun­try was run for the ben­e­fit of the banks.

  • Money is backed because peo­ple have trust in the cur­rency. Debt doesnt back the cur­rency.”

    There’s a hole in my bucket…

  • No its sets what­ever yields and peri­ods it wants that does not mean a bond auc­tion will clear.”

    So what. Leave them with Bank reserves if they don’t want to save at a higher inter­est rate.

  • Steve Hum­mel

    Money, at its orig­i­nal cre­ation, obvi­ously can be cre­ated with­out inter­est attached to it. All loans are debt and the assump­tion is that a loan will be paid back of course. How­ever, most money, except for coins, a rel­a­tively small­ish amount of actual stock of bills and, insuf­fi­ciently accounted, for the idi­otic instru­ments like CDS, MBS, etc. etc. does not “cir­cu­late” in the econ­omy. It is a flow, an account­ing flow from the Banks and to a lesser degree gov­ern­ments, out into the econ­omy and then back to the banks and gov­ern­ment where it is eco­nom­i­cally cancelled/placed in an account labeled asset (like for instance The National Credit/Asset Account)

    This account­ing cycle is why you could issue credit as a citizen’s div­i­dend and as com­pen­sa­tion to retail­ers for their dis­count to con­sumers and still not cause infla­tion. Now its true that if every­one took their div­i­dends and invested them in cloned multi-col­ored tulips or South Jupi­ter­ian Methane you might have a prob­lem, but #1 thats not likely to hap­pen because the vast major­ity of peo­ple have needs that must be met and #2 such idio­cies could be avoided by their banning/close reg­u­la­tion and/or #3 some hot shot pro­gram­mer I’m sure could invent soft­ware that dis­tin­guished between a retail pur­chase and an allow­able spec­u­la­tive ven­ture on the dividend’s first issuance and set a sane ratio on such of say 99:1 or some­thing. Exist­ing money of course could be invested/loaned at inter­est etc. in a rel­a­tively unreg­u­lated way.

  • bar­ry­thomp­son

    Debt-free money is easy. Gov­ern­ment runs a deficit, and issues bonds, which are then swapped for reserves by the cen­tral bank in open mar­ket oper­a­tions. Any inter­est pay­ments to the cen­tral bank are refunded to the trea­sury. When the bond matures, it can be replaced by issuance of another bond that is bought by the cen­tral bank. This is also known as ‘mon­etis­ing the debt’ or ‘print­ing money’. 

    The net effect is the cre­ation of credit (deposits in pri­vate bank accounts of the recip­i­ents of gov­ern­ment spend­ing) and reserves (assets on the bank’s bal­ance sheet) — plus an expan­sion of the cen­tral bank bal­ance sheet.

    We just need to con­vince peo­ple that this is not highly infla­tion­ary, espe­cially in a liq­uid­ity trap/balance sheet recession/deleveraging episode.

  • alain­ton

    @NeilW — I dont think you at all dealt with my point in the rad­i­cal uncer­tainty in the upward extent of the money sup­ply. Yes neo­clas­si­cal and all the­o­ries of exchange rates are hor­ri­bly weak, but so what, address my point which is a pure the­ory one about expec­ta­tions.

    So what. Leave them with Bank reserves if they don’t want to save at a higher inter­est rate.’

    This assumes there is a infi­nite period whereby gov­ern­ments can rely mon­e­tary injec­tions to pur­chase gov­ern­ment bonds — well it makes sense at the zero bound — and at time of high indebt­ed­ness, but not for­ever. It is stu­pid not to refi­nance gov­ern­ment spend­ing at zero inter­est rates. What you are sug­gest­ing is called mon­etis­ing the debt and increases the mon­e­tary base. Gov­ern­ments can get away with it now because it can­cels out defla­tion­ary forces. It effec­tively acts as a tax on cred­i­tors, or an ‘infla­tion tax’, which is good thing when the econ­omy is bur­dened with debt. The issue is how long can you sus­tain it, if you sus­tain it too long the risks of non cost push infla­tion and cap­i­tal flight rise, and if you sus­tain it at too high a level with­out cur­rency adjust­ment yes you can get hyper­in­fla­tion. Both of those issues are low now but if you were chan­cel­lor and sent your ‘I dont give a toss about the bond mar­kets’ mes­sage well — they wouldn’t give a toss about you and the cur­rency would col­lapse. You would be say­ing to them i will print as much as I like when I like, and they would say ok we cant pre­dict future price lev­els for the pound so its not a safe cur­rency for invest­ment. It doesn’t mat­ter if there is no accepted pol­icy for exchange rate fluc­tu­a­tions, the mar­ket doest need one to run at speed from a pol­icy that cre­ates uncer­tainty.

    You make an error here it is not just about inter­est rates now, but of inter­est rates, infla­tion, cur­rency rate vari­a­tions and risk of default of any invest­ment as well as liq­uidty pre­mium. It can be per­fectly ratio­nal for an investor not to invest in bonds at a high coupon. Indeed high coupon prices are a sig­nal that mar­kets con­sider the phys­i­cal econ­omy is con­tract­ing and there­fore may not be able to sup­port the mon­e­tary pol­icy mea­sures. Indeed at the zero bound fis­cal mea­sures are much more effec­tive — its gets effec­tive demand in the pock­ets of con­sumers and not bankers.

    To break out of the liq­uid­ity trap the mar­kets need a sig­nal that at some pre­dictable point in the future the gov­ern­ment will return to the bond mar­kets, even at a pre­mium yield, but that it expects and will be able to afford to do so because of a pre­dictable period of mod­est infla­tion rises and fis­cal expan­sion that will kick start the real econ­omy.

    The MMT solu­tion seems to be to sim­ply ignore finan­cial mar­kets and sub­sti­tute gov­ern­ment spend­ing and invest­ment. How­ever the money in peo­ples pock­ets is small com­pared to that in finan­cial mar­kets. Eco­nomic pol­icy can be much more effec­tive if it levers those mar­kets — even when projects are gov­ern­ment led — it can turn the econ­omy around more quickly.

  • Steve Hum­mel

    The trick is to make sure the vast major­ity of credit/investment is in the retail mar­ket or some humanly ben­e­fi­cial research ven­ture as opposed to the cur­rent finan­cial­ized idi­otic and val­ues skewed night­mare. Val­ues and the inten­tion of pol­icy is every­thing for indi­vid­u­als and sys­tems. Con­sult my pre­vi­ous post to this one. .….and remem­ber, the quan­tity the­ory of money is a com­plete myth and utterly avoid­able unless you have a cen­tral bank that loans money to spec­u­la­tors so they can short the cur­rency. Quick solution.…require that the head of the cen­tral bank wear a vest of C4 explo­sive that ignites the moment he leds to a TBTF Bank, hedge fund man­ager or a tril­lion­aire with too much time on his hands.

  • This assumes there is a infi­nite period whereby gov­ern­ments can rely mon­e­tary injec­tions to pur­chase gov­ern­ment bonds ”

    No it assumes the fairly obvi­ous point that there is sod all else they can do with their Ster­ling.

    You can’t get rid of it, you can only exchange it with some­body else who can then either spend­ing it, con­vert­ing some of it into taxes, save it — which ends up as Cen­tral Bank Reserves, or swap it for some other lia­bil­ity of the gov­ern­ment sec­tor (National Sav­ings or Gov­ern­ment Bonds).

    The gov­ern­ment deficit is caused by the gen­eral desire of the non-gov­ern­ment sec­tor to save in excess of invest­ment, and there being no eco­nomic mech­a­nism to pre­vent that from hap­pen­ing — given banks buffer. Even con­fis­ca­tion is prob­lem­atic as you have no way of telling which of the non-gov­ern­ment sav­ings is in excess.

    So you must accom­mo­date those sav­ings and deal with them in the future should they ever become excess spend­ing. Which they prob­a­bly won’t.

    Or you cause per­ma­nent unem­ploy­ment and run your econ­omy under capac­ity because you’re fright­ened of the bogey­man.

    That is unac­cept­able. Time to call the finan­cial mar­kets bluff.

  • Steve Hum­mel

    The gov­ern­ment deficit is caused by the gen­eral desire of the non-gov­ern­ment sec­tor to save in excess of invest­ment, and there being no eco­nomic mech­a­nism to pre­vent that from hap­pen­ing – given banks buffer. Even con­fis­ca­tion is prob­lem­atic as you have no way of telling which of the non-gov­ern­ment sav­ings is in excess.”

    A div­i­dend to an indi­vid­ual account dis­trib­uted directly to every­one on a per­pet­ual basis and where each indi­vid­ual debit was pro­grammed for retail pur­chases and per­haps invest­ment on a ratio of 99:1 might do the trick.

  • A div­i­dend to an indi­vid­ual account dis­trib­uted directly to every­one on a per­pet­ual basis and where each indi­vid­ual debit was pro­grammed for retail pur­chases and per­haps invest­ment on a ratio of 99:1 might do the trick”

    Or it might not. 

    But at least its nice to see some­body push­ing the Basic Income Guar­an­tee.

    Polit­i­cally though you’re more likely to get that through if it is accom­pa­nied by the per­son work­ing for it. And then we have the Job Guar­an­tee.