Amer­i­can Mon­e­tary Insti­tute Con­fer­ence 2012

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This is the pre­sen­ta­tion I gave today at the Amer­i­can Mon­e­tary Insti­tute 2012 annual con­fer­ence in Chicago.

Pre­sen­ta­tions were also given by Michael Kumhof of the IMF, who has incor­po­rated endoge­nous money into a Neo­clas­si­cal DSGE frame­work (a world first), Kaoru Yam­aguchi with an endoge­nous money ver­sion of his Ven­sim dynamic model of an econ­omy, and Michael Hud­son pre­sent­ing a paper based on “The Bub­ble and Beyond” and a joint paper he’s work­ing on with Dirk Beze­mer and me.

 

If you are inter­ested in more dis­cus­sions about this and sim­i­lar sub­jects, check out my site, Debunk­ing Eco­nom­ics here. SK

 

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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  • TruthIs­ThereIs­NoTruth

    I was really enjoy­ing that until it got to the bit about banks cre­at­ing credit and putting in reserves a month later.

    It’s a pre­con­ceived mis­in­ter­pre­ta­tion of the ECB state­ment. There is a big dif­fer­ence between report­ing reserves in a bue­ro­cratic sense, and man­ag­ing liq­uid­ity in a real sense. In fact allow­ing a month delay in report­ing pre­sumes the fund­ing is done in advance rather than imply­ing that the fund­ing is done to meet reserve require­ments.

    The state­ment shows a poor under­stand­ing of how banks oper­ate. Where is this kind of infor­ma­tion com­ing from, other than the very selec­tive and mis­in­ter­preted snip­pets? It’s not even really nec­es­sary for the whole argu­ment any­way, endo­goneus money cre­ation does is not hinged on this causal­ity.

    Happy to invest some time in explain this to you if you wish.

  • Lyon­wiss

    It’s good that Steve crit­i­cizes main­stream econ­o­mists for wrongly ignores pri­vate debt and for mak­ing other assump­tions, but it’s still only econ­o­mists talk­ing to econ­o­mists. Their dis­course is still not based on an under­stand­ing of how the real world works now. The world of Schum­peter and Min­sky is not exactly the world of today. Finan­cial reg­u­la­tion has made attempts, even if it turned to be unsuc­cess­ful so far, to curb uncon­strained pri­vate debt e.g. The com­ments by econ­o­mists are sim­ply inac­cu­rate, because their com­ments are based on his­tory, some aspects of which are no longer rel­e­vant today. The prob­lem of eco­nom­ics goes much deeper than just a wrong model, because it is based on a futile illu­sion, which will take much more space to explain here.

  • The point of that com­ment TININT is that reserves can’t be a con­trol mech­a­nism for lend­ing, which is how they are per­ceived by most econ­o­mists. I agree that endoge­nous money does not depend on that causal­ity, but that false causal­ity is used by econ­o­mists to dis­miss endoge­nous money out of hand–as you can see from Krugman’s exchange with me some months back:

    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.

    They then stick with a Loan­able Funds model of lend­ing, in which banks can­not cre­ate money, apart from the money mul­ti­plier process that the Fed­eral Reserve con­trols. Remem­ber this des­per­ate non­sense from Krug­man?:

    First of all, any indi­vid­ual bank does, in fact, have to lend out the money it receives in deposits. Bank loan offi­cers can’t just issue checks out of thin air; like employ­ees of any finan­cial inter­me­di­ary, they must buy assets with funds they have on hand. I hope this isn’t con­tro­ver­sial, although given what usu­ally hap­pens when we dis­cuss banks, I assume that even this propo­si­tion will spur out­rage.

    But the usual claim runs like this: sure, this is true of any indi­vid­ual bank, but the money banks lend just ends up being deposited in other banks, so there is no actual bal­ance-sheet con­straint on bank lend­ing, and no reserve con­straint worth men­tion­ing either.

    That sounds more like it — but it’s also all wrong.

    Yes, a loan nor­mally gets deposited in another bank — but the recip­i­ent of the loan can and some­times does quickly with­draw the funds, not as a check, but in cur­rency. And cur­rency is in lim­ited sup­ply — with the limit set by Fed deci­sions. So there is in fact no auto­matic process by which an increase in bank loans pro­duces a suf­fi­cient rise in deposits to back those loans, and a key lim­it­ing fac­tor in the size of bank bal­ance sheets is the amount of mon­e­tary base the Fed cre­ates — even if banks hold no reserves.

    The most par­si­mo­nious way to model Loan­able Funds is to argue that “Patient” lends to “Impa­tient” as a trans­fer from one deposit account in a bank to another. The equally par­si­mo­nious way to model endoge­nous money is that lend­ing involves an increase in loans on the asset side of the bank­ing sys­tem, and an increase in deposits on the lia­bil­i­ties side.

    I can accept that indi­vid­ual banks arrange much of their finance through the lia­bil­i­ties side, by bor­row­ing to lend, etc. But ulti­mately the sys­temic out­come is an increase in loans on the assets side, matched by an increase in deposits on the lia­bil­i­ties side.

    If you would like to pro­vide an expla­na­tion of that much more detailed process, I would be very pleased to see it.

  • Steve Hum­mel

    You’re get­ting close, very, very close to rec­og­niz­ing where the real prob­lem lies. Banks are busi­nesses also after all. And they are also sub­ject to the neces­sity of “keep­ing the books” and hence of every dol­lar being sub­ject to the effects of.….cost accounting.….which are scarcity of indi­vid­ual incomes com­pared to prices.….which cooks price infla­tion “into the books.”

  • TruthIs­ThereIs­NoTruth

    Krug­man is right to say that banks do not lend money they don’t have. You have to think of the set­tle­ments process. Say a bank lends you money to buy a car say 20k. That 20k has to end up in the account of the car dealer. Sure if there was 1 bank in the uni­verse, the car deal­ers account gets deposited with 20k which auto­mat­i­cally bal­ances the trans­ac­tion. The bank does not need to have that money on the pre­sump­tion that no mat­ter what they do the book bal­ances out as money lent = deposits. That’s a pretty big pre­sump­tion on which to be risk­ing your bank’s liq­uid­ity posi­tion.

    Bank’s will always be funded ahead of time this is just an oper­a­tional real­ity. This hap­pens via the trea­sury process, where the amount and cost of funds is deter­mined for all bank­ing oper­a­tions. The sur­plus money sits as most liq­uid assets first before being dis­trib­uted, those most liq­uid assets count as top tier cap­i­tal, so in real­ity ‘reserve’ is met first except its not reserve its cap­i­tal require­ments. In fact, in antic­i­pa­tion of Basel III banks are already shift­ing their cap­i­tal posi­tions. In Aus­tralia we will have an inter­est­ing sit­u­a­tion where banks will need to hold more gov­ern­ment bonds at a time when the gov­ern­ment is going into sur­plus.

    For a bank the advan­tage to this causal­ity is oper­a­tional con­ve­nience, from being able to set the price on loans know­ing exactly what the fund­ing costs are, to hav­ing a liq­uid­ity buffer and the flex­ibi­il­ity to adjust cap­i­tal posi­tion, most impor­tantly banks need to keep mar­gin, if they lend first how can they con­trol fund­ing cost. Fund­ing cost is depen­dant on mar­ket forces, lend­ing rates is what a bank can con­trol. You can’t run this motor back­wards, it really does not make sense at any level. Even if they could lend first and get deposits later, they wouldn’t because it does not make sense. A bank’s pur­pose is to make money, the money is made on a pretty tight mar­gin, I thnk this is the key point, how does a bank make mar­gin if doesn’t know fund­ing cost in advance? That’s the main rea­son the propo­si­tion does not make any sense. 

    At a sys­temic level it’s a slightly dif­fer­ent story. The endoge­nous money mech­a­nism has already hap­penned, I think a long time ago. And indeed most money in the sys­tem is endoge­nous money. But the sys­tem is always at a mar­ginal point of sat­u­ra­tion, where a mul­ti­tude of fac­tors drive both the demand and sup­ply side of money. Prob­a­bly the most impor­tant fac­tor not cov­ered by either side of the debate is risk. 

    Risk is ulti­mately what dri­ves lend­ing deci­sions. Why do banks lend so much money to house­holds and less to busi­nesses? Because as it hap­pens in Aus­tralia peo­ple are in love with real estate and are very good at pay­ing their mort­gages, at least bet­ter than busi­ness. From a bank’s per­spec­tive they will lend at a lower rate to house­holds because they lose less money on default. The moment that starts chang­ing banks adapt their behav­iour. Aus­tralia has a very high for­eign invest­ment, this in part explains some of the eco­nomic behav­iour. The entre­peneur­ship comes from out­side the coun­try as a result the house­hold earns a high income with­out huge incen­tive to be entre­penuer­ing, instead the gov­ern­ment has pro­vided incen­tive to both invest in and pur­chase real estate. So we are earn­ing a for­eign wage, and also bor­row­ing from over­seas to com­pete at auc­tions. Whether that is sus­tain­able or not has noth­ing to do with endoge­nous or not endoge­nous money. 

    Hope this helps, not sure I’ve con­vinced any­one. Happy to pro­vide more details, but I think as far as a blog entry is con­cerned, that’s as far as I can take it.

  • Tadit Ander­son

    I know the AMI con­fer­ence con­text, and I’d guess that you shot over the heads most of the peo­ple there, though I am also cer­tain that you cer­tainly daz­za­led most of the peo­ple there. There tends to be a large con­tin­gent of pop­u­lar level mon­e­tary reform­ers there, since that was the cen­ter of AMI’s con­cept. I am cer­tain that you daz­zled most of the atten­dees. For that crowd there was likely to be a mas­sive uptake issue in going well out side of the NEED leg­isla­tive ini­tia­tive. I believe that the impact of your pre­sen­ta­tion is like to take months to express itself. AMI needs to join together with the MMT/FF dis­course and the endoge­nous money dis­course. I expect that your par­tic­i­pa­tion as well as Michael Hudson’s pried open that con­text in a con­struc­tive man­ner. This par­tic­u­lar pre­sen­ta­tion seems par­tic­u­larly tech­ni­cal, and I know that your are still in an uptake mode due to your engage­ment with the Fied Insti­tute. I doubt that any real dam­age was done in terms of mas­sively swamp­ing uptake capac­i­ties. More pre­cisely what you gave them was well beyond a lot of the pop-level mate­r­ial that they have pri­mar­ily heard, and that’s a pos­i­tive. I expect that you will receive an invi­ta­tion to next year’s AMI con­fer­ence to speak as well. fast for­ward, Tadit Ander­son

  • Black­Box

    Isn’t it pos­si­ble that the main role of assets is out­side the equa­tions, sim­ply as col­lat­eral for loans? With­out such col­lat­eral, the lenders would not lend so much. There is huge poten­tial lever­age here, since a small num­ber of trans­ac­tions can revalue a whole class of assets, enabling a large increase in total lend­ing.

    Also, I am curi­ous about the def­i­n­i­tion of Y and GDP in your equa­tions. In the con­ven­tional sys­tem, they are made equal by con­struc­tion with, for exam­ple, GDP count­ing inven­to­ries and work-in-process rather than final sales. I sup­pose that is a way of finess­ing the time delays inher­ent in pro­duc­tion. How­ever, for there to be room for other terms in the equa­tion, pre­sum­ably Y and/or GDP must be defined a lit­tle dif­fer­ently or eval­u­ated at dif­fer­ent times?

  • Steve Hum­mel

    Risk is ulti­mately what dri­ves lend­ing deci­sions. ”

    Risk and its mis­taken attempted elim­i­na­tion by the Banks is what got us into this mess. Risk is inher­ent in busi­ness, but on top of that because in the cur­rent sys­tem there is an enforced scarcity of indi­vid­ual incomes in com­par­i­son to prices that must be paid in order to remain in busi­ness that risk is greatly increased. The humanly inevitable results of that oner­ous­ness and ever present fact com­bined with greed lead Banks to cre­ate CDS, MBS, etc.….and the rest is his­tory.

    THAT SCARCITY IS ENFORCED BY COST ACCOUNTING’S CONVENTIONS. LIKEWISE THIS ENFORCED SCARCITY OF INCOME CHAINS THE INDIVIDUAL

    The elim­i­na­tion of this ENFORCED mon­e­tary scarcity FOR THE INDIVIDUAL is the key to mak­ing the sys­tem ACTUALLY AND FINALLY free for BOTH busi­nesses AND the indi­vid­ual.

    The cur­rent sys­tem is NOT free AT ALL. The one thing that Aus­trian the­o­rists have in their advan­tage is their real­iza­tion of the sig­nif­i­cance of the indi­vid­ual. HUMAN ACTION. But then they turn right around and ignore the effects of the sys­tem on the indi­vid­ual by wor­ship­ing some­thing that is impos­si­ble under the cur­rent RULES of the sys­tem, namely AN ACTUALLY FREE MARKET

    The whole prob­lem with eco­nomic the­ory is it either starts with the abstrac­tion of the sys­tem and never actu­ally gets down to the effects on the indi­vid­ual, or like with Aus­tri­ans it begins with the indi­vid­ual and then promptly jumps to mar­ket wor­ship thus ignor­ing the flaws of the sys­tem and the 800 lb. gorilla forces of Finance cap­i­tal­ism and corporatism.…both of which are as much reac­tions to the oner­ous­ness of the scarcity of effec­tive demand enforced by cost accounting’s con­ven­tions as it is to the human frail­ties of greed and dom­i­na­tion.

    Start with the indi­vid­ual, and never take your focus off of his/her freedom.….and you’ll be able to craft a sys­tem that is free for both.

  • Thanks TININT,

    From an eco­nomic mod­el­ing point of view, the ulti­mate ques­tion is does the increase in debt turn up on the lia­bil­ity or asset side of the bank­ing sys­tem as a whole.

    If on the lia­bil­ity side–so hat there was no change in bank-issued debt–then “Loan­able Funds” would be the cor­rect model and changes in the level of debt would have no macro­eco­nomic sig­nif­i­cance. If how­ever it turns up on the asset side of the aggre­gate bank­ing system’s ledger, then the change in debt adds to the sum of bank lia­bil­i­ties in cir­cu­la­tion and thus to both the money sup­ply and aggre­gate demand.

    The empir­i­cal data is clearly that bank debt changes, and is recorded on the asset side of the ledger. Hence endoge­nous money is the rule. A sim­ple model that shows loans and deposits grow­ing simul­ta­ne­ously cer­tainly does not describe the com­plex­ity of actual bank­ing oper­a­tions. But it is a par­si­mo­nious model tht cap­tures the ulti­mate out­come that ris­ing debt means ris­ing bank assets and lia­bil­i­ties, and the lat­ter adds to aggre­gate demand.

  • Black­Box

    Doesn’t the “Loan­able Funds” model also suf­fer from a start-up prob­lem? Where did the ini­tial funds come from and how do they grow with the econ­omy? There needs to be an endow­ment of money (given — not lent) under­ly­ing the whole sys­tem. Endow­ment was assumed in Eggert­son and Krugman’s paper, for exam­ple, but they did not say where the endow­ment could have come from, since banks, includ­ing cen­tral banks, give money out only as loans or for pur­chases.

  • Steve Hum­mel

    Pre­cisely. We’re still think­ing pri­mar­ily “inside the box” about the nature of the sys­tem and for our solu­tions. Soci­ety, no mat­ter what any­one prefers to think, is pri­mar­ily meta­phys­i­cal. In other words, its based on ideas. We’ve got to change the con­sumer finan­cial par­a­digm from loan ONLY to citizen’s div­i­dend and loan, if desired and cred­itable. You don’t change soci­ety by appeal­ing to econ­o­mists, financiers or politi­cians, how­ever respectable that effort may be, you change soci­ety by rais­ing the aware­ness of THE GENERAL POPULACE. Self inter­est, intel­lec­tual stub­born­ness and lethargy and igno­rance can only be changed by a mass move­ment. Time is run­ning out.

  • TruthIs­ThereIs­NoTruth

    SH — time does not run out, we run out of time.

  • TruthIs­ThereIs­NoTruth

    That I have to agree with. The prob­lem I’ve always had with this is that the par­si­mo­nous model incor­rectly implies indi­vid­ual bank behav­iour, which ear­lier on had the pitch fork crew up in arms chant­ing slo­gans that bankers wake up in the morn­ing and switch on the money machine.

    The ques­tion is how do you rec­on­cile a sys­temic out­com from the out­come of indi­vid­u­als who act in the oppo­site way. This is not impos­si­ble actu­ally and I think it is an advance­ment in think­ing to under­stand that indi­vid­ual banks fund­ing first can col­lec­tively cre­ate a sys­tem of endoge­nous money cre­ation. This type of model is wor­thy of the com­plex­ity of the finan­cial sys­tem, as opposed to the sim­ple notion that indi­vid­ual banks behav­iour is directly trans­lated to sys­temic out­comes.

  • Thanks TININT. I’m pleased-very pleased–that we’re in agree­ment.

    One inter­est­ing avenue would be to explore what the “microstruc­ture” is behind endoge­nous money. It’s obvi­ous that, ulti­mately, the addi­tional debt turns up on the asset side of the aggre­gate bank­ing system’s ledger; it’s also true, as you empha­size, that banks pro­cure their fund­ing before lending–which implies entries on the lia­bil­i­ties side of the ledger (as well as the asset side). It could start from a bank issu­ing bonds to raise funds for lend­ing, for exam­ple.

    For the mean­time though, I’ll leave that issue and work on build­ing a mon­e­tary macro model where the ulti­mate out­come is shown in a par­si­mo­nious way.

    Now if you wanted to give it a try in your spare time…

  • Adam McGlashan

    Hi Prof Keen,
    Not sure if I have this right. Look­ing at your model of profit cre­ation through new tech­nol­ogy and how that advan­tage is eroded as more adopters do the same, could you say the same of women enter­ing the work­force. I’ve often won­dered how my par­ents could com­fort­ably own a home on a sin­gle Blue-Col­lar income when twin White-Col­lar incomes now would strug­gle (bub­ble aside). Have the ini­tial ben­e­fits of women enter­ing the work­force in increas­ing num­bers effec­tively led to the deval­u­a­tion of total house­hold income in rel­a­tive terms to the pre­vi­ous sin­gle income level?