Friday, March 14, 2014

Bank of England goes MMT

Article from Naked Capitalism about the Bank of England confirming, as we all should know by now, that banks do not lend out deposits or reserves, and that in fact, loans create deposits. Glad to have an official source we can point to that verifies what Mosler et al have been saying for a while.

However, they don't seem to be quite ready to release the monetary lever entirely:
The amount of money created in the economy ultimately depends on the monetary policy of the central bank. In normal times, this is carried out by setting interest rates.
There is some truth to the idea that interest rates have some impact on the amount of money created in an economy, but exactly what that impact may be at any given time is complicated and potentially context dependent as there are opposing effects -- there is a negative (fiscal) stimulus from lower interest rates, and there is a positive (credit) stimulus from lower rates. The overall impact may well depend on whether the economy is primarily being driven by weak balance sheets, and so is more fiscally sensitive, or weak cash flow, and so is more credit sensitive.

Either way, the amount of money created in a economy ultimately depends on credit decisions by the private sector, of which interest rates are but one factor, so I think the BofE places too much emphasis on their one lever (which is understandable).

More importantly, they miss out how Government spending also created money in the economy, and taxation un-creates it, thus missing out on the fiscal side of the equation entirely.

Regardless, a good first step.

68 Comments:

Blogger JW Mason said...

the amount of money created in a economy ultimately depends on credit decisions by the private sector

Government spending also created money in the economy, and taxation un-creates it

Care to reconcile these two statements? I hear this a lot from MMT types, and i don't get it. Seems like you're kicking monetarism out the front door just to invite it back in the back.

All the arguments that show why it's wrong to think of the central bank setting the money supply, apply just as much to the fiscal authority.

Keep the functional finance, drop the chartalism. You'll feel much better, trust me.

10:03 AM  
Blogger winterspeak said...

Hi JW!

I totally agree that it's wrong to think of either the central bank or the fiscal authority as setting money supply.

However, fiscal does have a direct and clear impact on the amount of money in the economy while interest rates have an indirect and unclear/conditional impact, so I think we need to acknowledge that difference.

When the govt spends, that creates income as directly as when an individual spends. I think that's uncontroversial.

If you believe a government must borrow in order to fund that spending, just as other private actors, then you can see this as a credit action, and we all agree that credit actions by the private sector increase the amount of money in the economy. A strict view of the Treasury and Federal Reserve relationship would support this interpretation, and you would decompose the economy between the banking sector (currency issuer, including the Fed) and the non-banking sector (currency users, including Congress/Treasury). There is certainly value to this view.

On the other hand, if you see the Treasury and Fed as more of a consolidated entity, which I think is also reasonable, and choose to decompose that way, then I think the creation/un-creation metaphor works better, but that's just me.

Either way, I don't think you can ignore fiscal policy, nor can you ignore the impact that fiscal policy has on the money available in the economy regardless of how you choose to do your sector decomposition.

10:35 AM  
Blogger Ramanan said...

I think Winterspeak is roughly right here JW.

Fiscal policy strongly influences aggregate demand and the demand for credit by the private sector and the two statements you quote are not quite inconsistent.

Also private expenditure also has an autonomous nature, and not just induced nature so it is good to keep fiscal policy and private sector credit a bit different.

Of course any deficit (not to be taken to mean deficit = fiscal policy) implies a higher net wealth and the form in which the holders of wealth keep their wealth determines the stock of money.

So both fiscal policy and private sector credit has an influence on the stock of money.

(No Monetarist direction of causality should be interpreted from my comment).

11:36 AM  
Blogger Detroit Dan said...

Yeah, I have no idea what JW Mason means in his comment. Strictly speaking, only the central bank creates base money, but practically in modern economies that is fairly automatic and not of much interest. The central bank merely pumps in base money to meet interest rate targets, which in turn generally mirror inflation rates.

Empirically, on average government spending creates more money (net financial assets) than does net private
bank lending. Taxes subtract from both.

Seems to me that Prof Mason needs to explain himself more thoroughly when he comments at an MMT-friendly site. I enjoy the Slack Wire by the way....

2:44 PM  
Blogger Ramanan said...

Have written up on this here:

http://www.concertedaction.com/2014/03/14/money-stock-determination/

1:32 AM  
Blogger Auburn Parks said...

Brother Dan-

I'm not sure this statement is quite correct (happy to be shown otherwise as always):

"Empirically, on average government spending creates more money (net financial assets) than does net private
bank lending. Taxes subtract from both."

Between 2000 and 2008 private sector debt (Domestic non-financial sectors) went from $18T to $34T for an average annual increase of $2T

http://research.stlouisfed.org/fred2/graph/?graph_id=158451&category_id=0

During the same time period, Govt deficits were a total accumulation of just $1.77T or just over $200B per year. only 10% of the total increase in money stock.

http://www.taxpolicycenter.org/taxfacts/displayafact.cfm?Docid=200

Both are in current dollars fyi.

So where is the cognitive dissonance? Because the data I provided does not mesh with your statement and vice versa.

Is there something I'm missing here, or are you using different methodology?

5:05 AM  
Blogger Detroit Dan said...

We should be comparing net private debt to government spending.

You are comparing private debt to government debt.

Money created by private debt is subject to taxation and repayment. Money created by government spending is subject to taxation but not repayment.

Paul Meli pointed this out last June: http://economicsrantsnmusings.blogspot.com/2013/06/does-credit-drive-economy.html

Here's some of the data he posted:

Year…Public spending…private debt…ratio of private/total
1970…201.60…94.14…31.8%
1971…220.60…109.81…33.3%
1972…245.20…149.20…37.8%


2010…3703.40…-1883.32…N/A (can't calculate the ratio between a positive and negative number)
2011…3757.00…-69.13…N/A
2012…3757.70…203.05…5.1%

The years when private debt expansion was negative rules out that methodology, there would be a hole in the graph. Imagine me trying to explain that.

8:13 AM  
Blogger Ramanan said...

Detroit Dan,

WS defined money in the usual sense - monetary aggregates as usually defined and hence bank credit creates money:

"the amount of money created in a economy ultimately depends on credit decisions by the private sector"

But you define money as the net stock of financial assets. In this definition bank credit creates no money.

So midway in your analysis you flip definitions.

So either you define money as net financial asset and say only the government creates money or you define money as monetary aggregates and say both fiscal policy and private sector credit influence the creation of money.

9:42 AM  
Blogger Auburn Parks said...

Dan-

I've read Paul's piece before and I don't think his description is right.

I think we agree that all CB balances (securities and reserves) should be counted along with all bank deposits in the broadest possible measure of the money supply. And that only deficit spending can cause an aggregate increase in CB balances.

The reason why I disagree with Paul's description is that All Govt spending (deficit spending included) results in a NET zero in the aggregate number of bank deposits in existence.

Deficit spending adds to the money supply when CB balances are included.

If CB balances are not included, then govt spending does not add to the money supply.

Either way, the running total of Govt spending does not add to the money supply, only NET spending.

2:52 PM  
Blogger Auburn Parks said...

I should note that the ALL Govt spending results in a net zero change in bank deposits statement must have the caveat "excluding the 3% of T-bonds bought by the banks with reserves only" As those T-bond purchases with reserves do result in that amount of NET increase in bank deposits. s

3:10 PM  
Blogger Detroit Dan said...

With all due respect, you guys are letting the trivial get in the way of the significant. The bottom line is that the government spending puts more purchasing power into the economy. The rest is smoke and mirrors.

The central bank always steps in to keep the system full of money as necessary to set interest rates at the target level. So government spending either increases the money supply or results in a transfer of "money" from savers (bond buyers) to those who want to spend.

There's no denying Meli's central insight that taxes apply to privately created money just as much as they apply to government created money. To compare government deficits to net private credit creation in terms of purchasing power created is absurd.

Take care...

5:34 PM  
Blogger Detroit Dan said...

"I think we agree that all CB balances (securities and reserves) should be counted along with all bank deposits in the broadest possible measure of the money supply. And that only deficit spending can cause an aggregate increase in CB balances.

The reason why I disagree with Paul's description is that All Govt spending (deficit spending included) results in a NET zero in the aggregate number of bank deposits in existence." [Auburn]

I don't consider CB balances as being significant. They don't feed into aggregate demand or play any other role in the economy.

5:52 PM  
Blogger Auburn Parks said...

Dan-

"absurd" is a little strong dont you think? That seems like language you should reserve for neo-classicals or austrians, not a fellow MMTer like myself (not Ramanan of course).

This is the beauty of balance sheets, is that when we have disagreements we can always rely on the accounting to show who is right. Unfortunately, the accounting proves that your position is wrong wrt to the money supply.

5:53 PM  
Blogger Auburn Parks said...

Increases in the CB balances come from deficits, how can you say that deficits dont feed into AD? That flies in the face of everything MMT stands for.

5:54 PM  
Blogger Detroit Dan said...

I think "absurd" is appropriate. Obviously taxes hit privately created money as well as money created through government spending.

Accounting can point to the trivial as well as the significant, and often does. See JKH endorsing market monetarists just because they cite accounting.

"Increases in the CB balances come from deficits, how can you say that deficits don't feed into AD?"

I agree that deficits feed into AD. However, CB balance sheets don't. Here's an analogy:

Graveyards come from people. How can you say that people don't feed into AD?

See the logical problem?

6:15 PM  
Blogger JW Mason said...

When the govt spends, that creates income as directly as when an individual spends.

Agree 100%. But for exactly this reason I don't think it's helpful to describe the effects of fiscal policy as "creating money."

I don't think you can ignore fiscal policy, nor can you ignore the impact that fiscal policy has on the money available in the economy

Fiscal policy is very important. But not because it changes the amount of money available. As you know well, the existing quantity of money is never a constraint on economic activity.

Ramanan-

Your comment at 9:42 captures just the contradiction I was pointing to. The problem comes with the shift between thinking of money as means of payment and thinking of money as net financial wealth.

Prof Mason needs to explain himself more thoroughly when he comments at an MMT-friendly site.

I'm working on it. We're all figuring this out as we go.

7:14 PM  
Blogger Auburn Parks said...

Dan-

Almost all taxes are paid from bank deposits. 97% of all bank deposits come from private debt creation. The corresponding reserve transactions are just a shadow of this activity. And as you rightly point out, nearly irrelevant in this context.

The Govt spending process doesnt increase the aggregate amount of bank deposits (excluding bank owned T-bonds). Taxes and T-bonds are a debit to bank deposits and Govt spending is a matching credit.

Therefore your claim about Paul's "insight" and your belief regarding taxes hitting privately created money is obviously true. Almost exclusively. And so does T-bond sales. And then the Govt spending adds these bank deposits right back for a net zero.

None of this confirms your assertion that govt spending adds to the money supply. Only deficit spending adds to the money supply. And this is only true if you consider both types of Govt liabilities (reserves and securities) as "money". I do of course.

7:34 PM  
Blogger Detroit Dan said...

The explanation of money that makes the most sense to me is Randall Wray's Pyramid of Liabilities:

http://neweconomicperspectives.org/2011/09/debt-pyramid-and-clearing-responses-to.html

7:41 PM  
Blogger Auburn Parks said...

JW-

Why do you not consider bank deposits that get transferred into securities accounts at the Fed as money?

What is the characteristic that US govt securities have that turn money (bank deposits) into non-money (securities) when it gets deposited at the worlds largest and safest bank, the Fed?

Do you make a distinction between maturity lengths?
Do you consider 1 month T-bills money but not 10yr or 30yr?

What about interest rates?
If "money" = reserves are money because they are generally non-interest bearing (IOR notwithstanding) what about our current policies?
Do 1 month T-bills paying .25% qualify as money if thats now the same rate as paid on reserves?

Sorry for the 20 questions, but it can get very confusing distinguishing between the moneyness of all these different govt liabilities with the full faith and credit of the US behind them.

7:46 PM  
Blogger Auburn Parks said...

Dan-

Thats one way to think about it.

However, my problem with that is the same one Cullen Roche has. People don't transact in reserves or securities very much, as a % of all transactions.

Whats the % of all transactions in the world denominated in dollars that occur via cash transfers?

And the same for electronic transfers of bank deposits, of which 97% were created by banks?

7:53 PM  
Blogger Ramanan said...

JW: "Ramanan-

Your comment at 9:42 captures just the contradiction I was pointing to. The problem comes with the shift between thinking of money as means of payment and thinking of money as net financial wealth. "

Yes!

9:01 PM  
Blogger JKH said...

agree with JW Mason's first comment

hope that's not excessively trivial, Detroit

11:34 PM  
Blogger Detroit Dan said...

'my problem with that is the same one Cullen Roche has. People don't transact in reserves or securities very much, as a % of all transactions.' [Auburn]

Agreed with regard to T-bonds. Obviously there are differences between T-bonds and money used in transactions. But in terms of understanding money and purchasing power, that's not significant.

This is a long discussion, but we all basically agree. Government spending (not government deficits) are compared to net private lending in terms of impact on the economy.

That's significant, it seems to me, particularly when you have people like Cullen Roche claiming the opposite.

Here's a recent conversation I had with Cullen (http://pragcap.com/dont-bet-on-dollar-weakness/comment-page-1#comment-169804):

“And bonds are purchased to gain interest bearing alternatives to bank deposits.” [Detroit Dan]

“No” [Cullen Roche]

5:10 AM  
Blogger Detroit Dan said...

"agree with JW Mason's first comment, hope that's not excessively trivial, Detroit" [JKH]

JW Mason's first comment was a somewhat good-natured quip about MMT, So if that is what you are agreeing with, yes it is trivial.


5:33 AM  
Blogger Auburn Parks said...

Dan-

I certainly do not agree with this statement:

"but we all basically agree. Government spending (not government deficits) are compared to net private lending in terms of impact on the economy. "

If Govt spending goes towards the wealthy and taxes come from the middle class, than the resulting economic impact could be negative.

On the flip side, ALL and only deficit spending adds purchasing power with no corresponding negative wrt purchasing power.

6:29 AM  
Blogger Auburn Parks said...

And Cullen is one of the most dishonest comment thread debaters I've ever come across so it should be no surprise that his ideological blinders caused him to answer your simple question erroneously.

6:30 AM  
Blogger Cullen Roche said...

"And Cullen is one of the most dishonest comment thread debaters I've ever come across so it should be no surprise that his ideological blinders caused him to answer your simple question erroneously."

Yikes. And you guys wonder why people respond in an abrasive tone to your comments! I think MMT would do itself a great big favor by not calling people names and accusing everyone else of be an "ideologue" all the time. This has been a long running problem in MMT that is not only cited on blogs, but has even been cited in papers by other Post-Keynesians.

---------------------------------------------------

I fully agree with JW Mason, Ramanan and JKH here as you guys well know. I find the MMT description of fiscal policy as "money creation" and taxation as "money destruction" to be an extremely misleading way to teach people how the monetary system works. It's views like this which place excessive emphasis on the impact of government net financial assets in the economy. In addition, the view that T-bonds are "money" or "a dollar bill is just a Treasury bond without duration and without an interest payment”, are misleading views which really confuse people about the actual institutional design of the system, the very real legal constraints in place ("money is a creature of law" after all) and the actual operations. Of course, MMT doesn't even define "money" which makes this all that much more confusing.

Food for thought.

10:25 AM  
Blogger geerussell said...

I think a household analogy is useful here, where a household is analogous to the private sector in aggregate.

Net government spending is your household income. Private credit is your credit card.

Each of those things puts purchasing power at your disposal but the two have drastically different balance sheet effects.

It seems evident that it would be pointless to argue whether your credit card or your income controls your household "money supply" because both contribute to it. It's not either/or, both matter separately and in relationship to each other.

What's really strange is the idea that MMT's explanation of the role of fiscal policy somehow diminishes or fails to account for private credit.

Both private credit and government spending have always been part of the MMT picture:

http://bilbo.economicoutlook.net/blog/?p=381

10:25 AM  
Blogger geerussell said...

For those tempted to dismiss the idea of securities as "money" as being just an MMT-specific or otherwise too far out to consider thing:

http://www.imf.org/external/pubs/ft/wp/2011/wp11190.pdf

I only quote a small piece here but the entirety of Section IV in this paper is a really good discussion about the limitations of conventional monetary aggregates and the role of securities as cash equivalents.

"According to Statement of Financial Accounting Standards No. 95 (FAS95) issued in 1987, “cash equivalents are short-term [author’s emphasis], highly liquid investments that are both: readily convertible to known amounts of cash and so near their maturity that they present insignificant risk of changes in value because of changes in interest rates. Examples of items commonly considered to be cash equivalents are Treasury bills, commercial paper, asset-backed commercial paper, repurchase agreements and money market mutual funds.”

To me this leans more towards the Minsky or MMT view of money as IOU with moneyness a function of issuer/liquidity/acceptability. Where a thing doesn't suddenly become not-money just because the issuer pays interest on it or promises to redeem it for other liabilities.

10:41 AM  
Blogger Auburn Parks said...

Cullen- You have agreed on many occasions that securities are like savings accounts or CD's. You can't believe this and also believe that the Govt deficit doesn;'t create "money".

You've also regularly said that securities aren;'t money and yet sad QE is nothing but an asset swap and is not "money-printing". One cannot hold these two views simultaneously either as QE results in trillions of net new bank deposits that would not be there if not for QE.

And you have the balls to claim that MMTers are crazy and have it all wrong. MR and MMT are so similar, they just emphasize different aspects of the same thing. Yet somehow MR is this shining beacon of objectivity and MMTers are ideological lemmings and trolls. Give me a break.

P.S. Answer my questions for JW above. It should be so easy for you since clearly MR has such an awesome definition of money and MMTers don't even have a definition of money. More typical straw man from you.

11:01 AM  
Blogger Detroit Dan said...

Auburn-- I'm sorry for putting incorrect words in your mouth.

"If Govt spending goes towards the wealthy and taxes come from the middle class, than the resulting economic impact could be negative.

On the flip side, ALL and only deficit spending adds purchasing power with no corresponding negative wrt purchasing power." [Auburn Parks]

Government spending can't be broken down into deficit spending vs tax-financed spending. Spending is spending, but depending upon the timing some needs to be financed by bonds. I hope there's nothing controversial about that.

The important points are:

1. Private credit must be paid back.
2. Government spending is not paid back.
3. Taxes apply to money created via both mechanisms.

I've heard a lot of tangential issues raised here, but no real denial of these basic truths.

11:07 AM  
Blogger Cullen Roche said...

I view "money" on a scale of moneyness. Different items have varying degrees of moneyness in this view. A bank deposit has the ultimate moneyness because it is the dominant medium of exchange. "Money" is a medium of exchange. Full stop.

Something like a t-bill or a money market fund has a high level of moneyness, but is not "money" in the same sense that a bank deposit is. In most cases, these securities are issued to obtain something of higher moneyness. In the case of govt deficit spending, the govt issues a security of lower moneyness to obtain that which the recipient would actually use in a real world economic transaction, ie, bank deposits. There's a very real logic behind the issuance of this item and its place within the legal and institutional structure of the monetary system. To oversimplify these understandings and start implying that a T-Bond is "basically" a deposit is misleading in my opinion.

These are very specific concepts which you are misconstruing. So, when a MMTer uses the term "Treasury Bond" to discuss "money" then I find it rather misleading. A Treasury Bond is a very specific type of instrument that exists for very specific reasons. It has a certain level of moneyness, but you have to put this in the right context. And to imply that a Treasury Bond (which, to a market practitioner like myself, has a very specific meaning which revolves around its risk, interest rate, duration, etc) and then quote some IMF paper discussing Treasury BILLS, then we are just being sloppy again and further confusing people.

Anyhow, I don't have the energy for a back and forth where you get increasingly angry, call me names and accuse me of constructing strawman arguments so let's just agree to disagree.

Have a good one.

11:17 AM  
Blogger Detroit Dan said...

" I find the MMT description of fiscal policy as "money creation" and taxation as "money destruction" to be an extremely misleading way to teach people how the monetary system works." [Cullen Roche]

I guess we'll have to agree to disagree on this. I see MMT as a clear explanation of how the monetary system works. MR fills in some details perhaps, but seems to me to have descended into nitpicking. For example you come up with this:

" Of course, MMT doesn't even define "money" which makes this all that much more confusing." [Cullen Roche]

I don't know if you saw my comment refercing the pyramid of liabilities which is a pretty good description of MMT's definition of money.

Again, I don't really see a big disagreement except that you don't like MMT as a whole and others do. That's fine and legitimate, but we should calibrate our comments accordingly given our differing world views.

Warm regards to all...

11:21 AM  
Blogger Detroit Dan said...

geerussell-- Thanks for your comments. I agree and find them helpful.

"Examples of items commonly considered to be cash equivalents are Treasury bills, commercial paper, asset-backed commercial paper, repurchase agreements and money market mutual funds.

To me this leans more towards the Minsky or MMT view of money as IOU with moneyness a function of issuer/liquidity/acceptability. Where a thing doesn't suddenly become not-money just because the issuer pays interest on it or promises to redeem it for other liabilities. Examples of items commonly considered to be cash equivalents are Treasury bills, commercial paper, asset-backed commercial paper, repurchase agreements and money market mutual funds.

To me this leans more towards the Minsky or MMT view of money as IOU with moneyness a function of issuer/liquidity/acceptability. Where a thing doesn't suddenly become not-money just because the issuer pays interest on it or promises to redeem it for other liabilities." [geerussell]

The above is perfectly reasonable in my opinion, and there's no need to argue about it. Cullen's points are equally valid, except I don't see the signficance of the distinctions he makes.

What I see as the beauty of MMT is that it highlights what is important and practical. What is important is that government spending creates money and near-money cash equivalents. The fact that near-money cash equivalents are not exactly the same is money is true and fine to point out, but I think everybody understands this. But it doesn't make much difference now, does it...

11:33 AM  
Blogger Auburn Parks said...

Dan-

Of course all Govt spending is spending. But some of it has tax offsets and some has bond offsets currently. The tax offsets economic impact is 100% dependent on the differing propensities to consume of the receivers of spending and givers of taxes.

Completely different than that is the bond offset, where bank deposits are still redistributed, but this time there is no mere redistribution of wealth. Brand new financial wealth is created.

11:54 AM  
Blogger Auburn Parks said...

Cullen- I understand that you are uncomfortable with the notion of the Govt creating money. And thats fine, but your ideology doesn't mean MMT is wrong. You just define things a little differently. The impacts are all the same.

MMT prescribes full employment usually from a moral perspective since the nominal is not very important. You don't seem to care that millions of people needlessly suffer. Maybe you do care, but you certainly don't use your platform to advocate for obviously policies to alleviate our current situation, even if they take the form of FICA tax suspension or cuts. Again, that all fine.

Just don't pretend you are some objective arbitrator who is only concerned with the truth

11:59 AM  
Blogger Auburn Parks said...

If you believe that my "money" suddenly becomes non-money simply because I've switched from a Chase bank account to a Fed bank account, thats fine. A lot of confusing, but to each his own eh?

12:03 PM  
Blogger Cullen Roche said...

"I understand that you are uncomfortable with the notion of the Govt creating money. "

That is false.

"You don't seem to care that millions of people needlessly suffer. "

That is false.

If you need to paint me as an "ideologue" to feel better about the theory that rationalizes your political positions (ie, the definition of "ideology") then have at it. But don't be surprised when others point out that you're misconstruing the points thereby discrediting your own views....

I'm gonna go shove some pancakes into my face I hope you all have a great day.

12:06 PM  
Blogger Detroit Dan said...

"I'm gonna go shove some pancakes into my face I hope you all have a great day." [Cullen]

My sentiments exactly!

12:16 PM  
Blogger Auburn Parks said...

The only problem Cullen is that you have failed to "point out that you're misconstruing the points thereby discrediting your own views...."

Classic cullen, ignore the points that discredit your POV:

"If you believe that my "money" suddenly becomes non-money simply because I've switched from a Chase bank account to a Fed bank account, thats fine. A lot of confusing, but to each his own eh?"

12:28 PM  
Blogger Detroit Dan said...

"Of course all Govt spending is spending. But some of it has tax offsets and some has bond offsets currently. The tax offsets economic impact is 100% dependent on the differing propensities to consume of the receivers of spending and givers of taxes.

Completely different than that is the bond offset, where bank deposits are still redistributed, but this time there is no mere redistribution of wealth. Brand new financial wealth is created." [Auburn]

I'm not sure where we disagree or what point you are tyring to make. I think we agree on the following points.

- Taxes withdraw money from the economy (independent of how that money was created in the first place).

- T-bond issuance withdraws money from the economy (independent of how that money was created in the first place). That money is provided by people or institutions who prefer to hold interest-bearing bonds to money.

Government spending adds money or T-bonds to the economy. In general, whether it adds one or the other is arbitrary.

- Private money creation is subject to both taxes and pay back of money created.

- Money created by the central bank, via purchase of T-bonds, need not be paid back.

- T-bonds are the most liquid investments in the world, and there is no reason to assume that purchasing power / inclination is constrained because someone / some institutions holds T-bonds instead of cash.

- If government spending is paid for by bond purchases, that is more stimulative than spending paid for by taxes.

- There may be some distributional and stimulative consequences related to marginal propensity to consume and allocation of government expenditures. these are complex and have not been discussed here in any detail.

12:55 PM  
Blogger Detroit Dan said...

And the net of the above comments, excluding the more complex propensity cconsume and distributional issues, is that government spending adds purchasing power to the economy. Private debt creation may or may not add purchasing power to the economy, as all such debt must be paid back. Taxes remove money from the economy, independent of whether the money was created by central bank bond purchases or private credit creation. If there is a shortage of money at the prevailing target interest rate, the central bank will create more money by buying T-bonds...

1:04 PM  
Blogger Detroit Dan said...

P.S. If you disagree with any of the above, please point out which specifically...

1:06 PM  
Blogger Auburn Parks said...

Dan-

I think that is a damn good job of nutshelling!

1:26 PM  
Blogger Detroit Dan said...

Thanks.

Here's a simpler proof that government spending accounts for more money creation than does private credit creation:

1. All government spending transfers money to private sector (by definition).

2. Private credit creation may or may not create new money in any particular time period (as repayments are greater than new loans in some time periods).

3. Empirical data exists for 1 and 2 above and shows that government spending generally results in almost twice as much money creation in a typical year compared to net private credit creation.

4. Government bond issuance withdraws money from the economy in exchange for the interest bearing bonds.There is no evidence that this withdraws any purchasing power, since the T-bonds are guaranteed by U.S. government and are the most liquid investments in the world. The inconceivability of default is one of the few things that Dems and Reps agree upon. Even if bonds were worthless (a ridiculous assumption) and subtracted from the impact of government spending, the amount of money created by government spending would be larger than the amount created by net private credit.

5. Taxes come out of the total money supply without regard to how the money was created.

What are the implications?

1. People like Cullen Roche who say that private credit creation accounts for 90% on total money creation are wrong.

2. Conclusions based upon #1 above are without foundation.

3. Fiscal policy is the main factor in money creation, outweighing all private banking activity.

4. Adding in the fact that interest rates are only one of many factor in private credit creation, monetary policy has a trivial impact on the macro-economy.


2:47 PM  
Blogger Auburn Parks said...

Dan-

Now you've lost me.

All Govt spending results in an increase in the # of bank deposits. 97% of all taxes and securities purchases result in a matching decrease in bank deposits.

Therefore, Govt spending does not increase the supply of bank deposits.

And therefore fiscal policy is NOT the main factor in money creation. Between 2000-2008 deficits accounted for 10% of money supply growth. Since 2008 they have accounted for 40%. There is a reason that private debt is $43T and Govt bonds held by the public are only $12T

4:33 PM  
Blogger Detroit Dan said...

Auburn--

"All Govt spending results in an increase in the # of bank deposits." fine

"97% of all taxes and securities purchases result in a matching decrease in bank deposits." I don't follow this. I'd say 100% of all taxes and T-bond purchases result in a decrease in money (bank deposits). But there's no "matching" involved. Taxes hit money spent via private investment as well as from public spending. Right? Taxation is part of fiscal policy that hits money from all sources.

"Therefore, Govt spending does not increase the supply of bank deposits." No. This contradicts your first statement that all government spending results in a increase in bank deposits.

You can say that net fiscal policy does not create that much money, but that's because taxation hits private credit money, negating its impact to the same extent that it hits money created by government spending.

So your conclusion doesn't follow because of two your statements leading up to the "therefore" are incorrect.

The reason that private debt is higher than government bonds is because only about 3% of government spending (currently) is via bonds. The rest of government spending is cash. On the other hand, the private debt is debt with both a private creditor and a private borrower.

Here's another way of looking at it. Suppose that government spending was analagous to private credit creation and the money spent by the government had to be paid back. Then what you say would be true. The government deficit would be comparable to net private credit creation. But the government spends almost $4 trillion dollars every year and none of it has to be paid back by the private sector. See the difference?

7:04 PM  
Blogger Detroit Dan said...

I'll repeat the last paragraph because my previous post was overly wordy and that last paragraph was a thing of beauty:

Suppose that government spending was analagous to private credit creation and the money spent by the government had to be paid back. Then what you say would be true. The government deficit would be comparable to net private credit creation. But the government spends almost $4 trillion dollars every year and none of it has to be paid back by the private sector. See the difference?

7:06 PM  
Blogger Detroit Dan said...

Another way of looking at this is that private credit creation increases taxes, since the private credit is spent thus creating income subject to tax. For example if there is $4T of private credit created, that may result in an additional $600 billion of taxes (at 15% in this example) Similarly, if $4T in spent by the government, taxes may go up by $600 billion. The way you are figuring, all taxes would be caused by the government spending which is clearly incorrect.

I guess the ultimate question is the extent to which tax and spending are tied to one another as part of fiscal policy. It's clear that they are largely independent since fiscal deficits rise and fall in response to the level of economic activity (automatic stabilizers), in addition to the spending and taxation laws themselves. Note that spending laws are seldom tied to specific taxation laws, or vice versa. We (lawmakers) try to keep them from getting to far out of whack because we don't want too much money created or destroyed. But that is an intentional fiscal policy decision and monetary policy is irrelevant as to whether the fiscal budget is balanced or not.

8:09 PM  
Blogger Detroit Dan said...

"And therefore fiscal policy is NOT the main factor in money creation. Between 2000-2008 deficits accounted for 10% of money supply growth. Since 2008 they have accounted for 40%." [Auburn]

Fiscal policy is by definition the reason for the size of the deficits, since fiscal policy consists of tax and spending laws. So whether the deficit is large or small is dependent upon fiscal policy. If the deficit is small and doesn't lead to much net money creation, that's because of fiscal policy. Because taxation and spending are mostly independent in fiscal policy, the size of the deficit rises and falls automatically in response to economic conditions, and this is reflected in the numbers you post. (Note that nothing you have posted has any posited relation to monetary policy.)

Of course MMT economists recognize that net private credit creation rises and falls with the overall level of economic activity. This is a signficant piece of the endogenous money component of Post Keynesian economics. The key is that this is endogenous and not controlled by the central bank except to the extent that they tinker with the short term T-bond interest rate. Normally, they just adjust that according to prevailing rate of inflation.

Anyway, I realize I'm probably just talking to myself and I've come to the conclusion that your view is not absurd. Thanks for the discussion and I look forward to more respectful discussions in the future.

Warm regards to all...

8:24 PM  
Blogger Detroit Dan said...

I can't sleep because I keep think about this. The matter is clearer if you divide the money supply into 2 sectors depending on origin of the money. This may be analogous to other sectoral breakdowns that we find useful in analyzing the macro economy (household, firm, government, domestic, foreign, etc.).

Those who compare government spending and private bank money creation imply that we can keep track of money inflows and outflows from one time period to another, and in this manner determine the relative impact of various sources of money in the economy.

This seems reasonable enough to me, so let's look at this sort of model. In the beginning (first time period), money is injected into the economy via government spending and private loans. This gives us our initial partition of the total money supply into government generated (say G$) and bank generated (say B$).

In each successive time period, money is injected into G$ via government spending, and removed from G$ via taxes. Note that all government spending goes into G$, but not all taxes are collected from G$ as the money in B$ is also subject to taxes.

In each time period, money is injected into B$ via private bank lending, and removed from B$ via repayment of private loans and via payment of taxes.

In each period, the size of B$ changes by bank lending - repayment of loans - tax payments. The size of G$ changes by government spending - tax payments. Assuming tax payments are the same proportion in the two sectors, the relevant measures are net bank lending versus total government spending.

q.e.d.

9:54 PM  
Blogger Auburn Parks said...

Dan-

Bank Deposits created through Govt spending for 2012 = $4T

Bank deposits destroyed though spending offsets (taxes and securities issuance) = $4T

Total number of NET new bank deposits created due to Govt spending in 2012 = $0

Sans securities purchased with RESERVES ONLY (Owned by banks or the Fed), all bank deposits are privately created money.

Taxes come from bank deposits, bank deposits are created by the private sector, therefore, all taxes are paid for with private created money, there is no distinction. The reserve activity is just a shadow here which is why I'm not talking about that specifically.

4:24 AM  
Blogger Auburn Parks said...

"But the government spends almost $4 trillion dollars every year and none of it has to be paid back by the private sector. See the difference?"

I think this is the crux of what you are getting wrong. All that Govt spending is "paid back" wrt bank deposits. So there is no difference.

Private debt decreases (being paid back) in the aggregate = recessions and depressions.

Otherwise for the most part, private debt is never paid back. If it were all "paid back" there would be very few bank deposits left.

4:28 AM  
Blogger Detroit Dan said...

Auburn--

You're comparing net private credit creation before taxes with government spending after taxes.

Take the following example of a new monetary system. In the first period there is no government deficit and net $1 T private credit creation. The government spends $1 T collects $1 T in taxes using a 50% marginal tax rate. So at the end of the first period private bank lending has resulted in $500 billion new dollars after taxes. Government spending has also generated $500 B after taxes. In your model all the $1 T would be due to private credit creation which is clearly wrong.

5:45 AM  
Blogger Detroit Dan said...

"Bank Deposits created through Govt spending for 2012 = $4T

Bank deposits destroyed though spending offsets (taxes and securities issuance) = $4T

Total number of NET new bank deposits created due to Govt spending in 2012 = $0"

No. Your making the same mistake over and over again in assuming that all taxes are applied to money spent by the government which is clearly not true. Obviously taxes apply to money created by private bank lending.

So to find the impacts you have to compare after tax results of govt spending to after tax results of prvate bank lending as in the example above.

Private bank lending is obviously less impactful after you consider taxes....

5:49 AM  
Blogger Detroit Dan said...

"I think this is the crux of what you are getting wrong. All that Govt spending is "paid back" wrt bank deposits."

I have no idea what you're talking about here.

5:50 AM  
Blogger Detroit Dan said...

"private debt is never paid back. If it were all "paid back" there would be very few bank deposits left"

Private debt is paid back and new debt issued, the same as with government bonds. In serious recessions, the government may step in to stop cascading defaults. It's all explained very well in Wray's pyramid of liabilities model.

Anyway I don't that this statement of yours is directly relevant to the issue we are discussing. I get what you're saying, but don't see the relevance.

Anyway perhaps we should just take a few days to meditate on the points made here. I've really enjoyed the opportunity to think about this but must move on to my day job.

Take care and keep the MMT faith...

5:57 AM  
Blogger Auburn Parks said...

Dan-

"Take the following example of a new monetary system. In the first period there is no government deficit and net $1 T private credit creation. The government spends $1 T collects $1 T in taxes using a 50% marginal tax rate. So at the end of the first period private bank lending has resulted in $500 billion new dollars after taxes. Government spending has also generated $500 B after taxes. In your model all the $1 T would be due to private credit creation which is clearly wrong."

Alright. Lets go with your example.

Start Yr 1: $0 in private debt and thus $0 in bank deposits (BD)

No outstanding Govt securities.

During yr 1: The private sector creates $1T in bank deposits through bank lending.

The Govt taxes = destroys $100 B in BDs and spends = creates $100B in BDs.

At the end of yr 1\start of yr 2 there will be $1T in BDs.

During Yr 2: The private sector takes out another $1T in NET new BDs.

The Govt taxes = destroys $100 B BDs and spends = creates $200 B BDs. $100B in securities are issued to go along with the deficit portion ($100B) of Govt spending. Those $100B in securities get exchanged for $100B in BDs.

At the end of Yr 2:

Private debt = $2T
# of BDs created by private sector = $2T

Govt securities = $100B
Govt taxes = $100B
Total # of BDs destroyed = $200B
Govt spending and thus BDs created = $200B

Total # of NET BDs after Yr 2 = $2T. I guess we could say that $1.7T of these still exist as privately created BDs and $300B ($100B from yr1 and $200B from yr 2) came from Govt spending.

Either way the # of total BDs will always be equal to bank lending in our hypothetical world. Govt spending and taxation\securities issuance always result in a NET ZERO impact on the total # of BDs.

This is why your and Paul's idea about Govt spending creating NET bank deposits supply is wrong. And this is why only deficits count towards govt money creation. Either way BDs don't increase, but MMT includes all CB balances (reserves and securities) in the money supply along with BDs.

5:01 PM  
Blogger Schofield said...

No you continue to misunderstand Meli and Detroit Dan’s purpose Auburn. That purpose is to help identify a prime cause of economic instability namely that too much private bank creation of credit spending relative to that spent into the economy by government can be a problem. It’s a problem because of the “drain effect.” To illustrate this they take a step back and from Fed published data identify the amount of government spending relative to private credit spending. They show graphically that when there’s a convergence of the two types of spending or indeed private credit spending starts to exceed that of government spending deflation is likely to kick in unless a country is highly successful in exporting goods and services to bring in currency. The reason it’s a problem assuming a lack of adequate current account surplus is that government taxation applied to the government spending portion is a Single Dipper Drain whereas a Double Dipper Drain is applied to the private credit spending portion a Flexible Single Dipper Taxation Drain and an Inflexible Repayment of Credit Drain (at compound interest). It’s the latter credit repayment drain that after the initial stimulus of the credit creation that can cause the reduction of demand in the economy and especially if the government misuses the tool of raising the interest rate to dampen down any inflationary effect caused by excessive private credit creation, government spending or a combination of the two.

http://mikenormaneconomics.blogspot.com/2013/11/mark-buchanan-actually-economists-can.html

https://dl.dropboxusercontent.com/u/33741/FGEXPND.png

5:39 AM  
Blogger Auburn Parks said...

Schofield-

Their point is that gross Govt spending = govt contribution to the money supply.

This is false as I've demonstrated above. All Govt spending adds a net zero for bank deposits but deficit spending adds CB balances

6:04 PM  
Blogger Schofield said...

I used the words "step back" in my previous comment Auburn to convey the concept that Paul Meli and Detroit Dan were pursuing an "analytical snapshot" where "drains" were not taken into consideration for the purposes of that "snapshot." For example, I fail to understand why like the rest of us you would not consider the act of putting an IRS tax refund check into either our checking or savings account at our bank as making a deposit (coming from the Federal government) prior to then considering our future personal "drains" such as the amount of tax we'd be paying in the coming financial year and the loan amounts we'd be paying in that year.

5:09 AM  
Blogger Schofield said...

Correction "paying" should read as "repaying."

7:05 AM  
Blogger Auburn Parks said...

Schofield-

You're mistaking micro for macro.

The recipients of Govt spending are getting newly created bank deposits.

The payers of federal Govt taxes are having that many bank deposits eliminated.

The buyers of T-bonds are having that many private bank deposits eliminated. They are now functionally banking at the Govt bank.

Therefore, in the aggregate, the NET effect on the total number of bank deposits is whatever it would be even if there were no Govt spending or taxes.

This is just the accounting, it says nothing about the flows or propenstities to consume of the givers and receivers of bank deposits.

All this exercise and debate does is definitively show that the statement "the amount of "money" (referring to # of bank deposits) is a function of gross Govt spending + private debt creation - taxes.

Thats all we're doing here. Talking about one specific point.

12:40 PM  
Blogger Schofield said...

Auburn a question and a comment for you:-

In your last comment you say "the amount of ‘money’ (referring to # of bank deposits) is a function of gross Govt spending + private debt creation - taxes.” Why do you not include private debt repayment alongside taxes as a destroyer of ‘money’?” My MMT understanding is that “One’s financial asset is necessarily offset by another’s financial liability. In the aggregate, net financial wealth must equal zero.”

http://neweconomicperspectives.org/2011/06/mmp-blog-2-basics-of-macro-accounting.html

Finally, you say “Thats all we're doing here. Talking about one specific point.” But I take Paul Meli’s work as an attempt to illustrate at a macro level a very fundamental point that we need to consider the need for automatic stabilizers. Meli has pursued this by highlighting the ratio relationship of government spending and private credit creation. So for example the “Kings of Money” through their capture of government were able to achieve their stabilizer with the government bailout but house mortgage debt remained unchanged. In their forthcoming book “House of Debt” Atif Mian and Amir Sufi they are proposing Risk-Shared Mortgages which I think will work on the basis of linking declining house prices with declining mortgage repayments to provide an automatic stabilizer:-

http://www.amazon.com/House-Debt-Recession-Prevent-Happening/dp/022608194X/ref=sr_1_1?ie=UTF8&qid=1395239261&sr=8-1&keywords=House+of+Debt

http://www.kansascityfed.org/publicat/sympos/2012/sufi.pdf

7:10 AM  
Blogger Auburn Parks said...

Schofield-

"Why do you not include private debt repayment alongside taxes as a destroyer of ‘money’?"

You are correct. Paying back a bank loan should and is included in the "destroyers of private bank deposits" category.

With that said, the data we have that most accurately reflects the sum total of private bank lending for an approximation of the Gross # of bank deposits that exist is the Fed data set All credit market instruments domstic non-financial sectors. This currently stands at around $43 trillion. This number is bank loans outstanding so it already includes the net effect of some people's loans being paid off and new ones taken out.

4:17 PM  
Blogger Auburn Parks said...

Schofield-

I have nothing against Paul's good work in the aggregate. This is precisely my point when I say "“Thats all we're doing here. Talking about one specific point.”

Paul and Dan have made a claim about Govt spending and its effect on the money supply. This one claim is wrong.

Many of Paul's other claims are dead on and insightful. And I agree that more investigation and experimentation are necessary to find the optimal blend of automatic fiscal stabilizers so that we can put the negative effects of the business cycle to bed for good.

I am in no way declaring Paul's piece "WRONG!!!" I'm not a right winger. The world is too complex for black and white most of the time. That piece is great, he just makes one claim that is wrong. If as MMTers we are going to pride ourselves on getting the accounting right and being realistic about actual operations, then we must accept that anyone of us can get something wrong. I make misstatements all the time, and I appreciate when I'm shown the correct answer.

Constructive criticism is healthy and science requires it.

4:26 PM  
Blogger Schofield said...

Thanks Auburn for your patience and comments. It is now readily apparent to me that the creation of money also requires additional automatic stabilizers to run alongside it. Societies clearly still have a lot to learn about this as well as over-coming selfish vested interests to implement them.

7:41 AM  
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10:26 PM  

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