Tuesday, June 15, 2010

Bernanke cannot do Accounting

Bernanke demonstrates the squalid state of Economic Theory:
debt-deflation represented no more than a redistribution from one group (debtors) to another (creditors). Absent implausibly large differences in marginal spending propensities among the groups, it was suggested, pure redistributions should have no significant macroeconomic effects. Bernanke (1995, p. 17)
Voila -- Bernanke does not understand the difference between assets (which really is just a transfer, ie the Internet bubble) and debt.

Banks do not loan out deposits. Savings do not get given, by banks, to borrowers. Investing in a mutual fund, there the fund manager doles out your cash to a company, is nothing like putting your money in a bank, where the bank manager certainly does not dole our your money to a borrower.

Banks create loans by expanding their balance sheets. The money is created as an asset and a liability, simultaneously. Therefore, debt deflation is not a simple transfer, where balance sheets stay the same size, but a contraction, where balance sheets shrink as assets and liabilities are both written down.

We are two years into this crises, and the basic mechanism for bank lending remains opaque to the Chairman of the Federal Reserve.

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2 Comments:

Blogger MrM said...

Investing in a mutual fund, there the fund manager doles out your cash to a company, is nothing like putting your money in a bank, where the bank manager certainly does not dole our your money to a borrower.

When you invest in a mutual fund, its fund manager takes your cash and gives it to another fund manager in exchange for his shares. Buying/Selling in the secondary market affects companies only to the extent they buy shares awarded to insiders as part of their compensation. Mutual funds do not invest much of their assets in IPOs.

7:33 PM  
Blogger winterspeak said...

MrM: Agreed. Buying/selling in secondary markets redistributes outstanding assets and changes the composition of outstanding balance sheets. It does not change the size of balance sheets, the way bank lending does.

3:27 PM  

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