Innocent Frauds (draft in progress) (full) (Updated March 16)
Posted by WARREN MOSLER on March 19th, 2009
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March 20th, 2009 at 4:09 am
Roosevelt’s Civil Works Administration hired actors to give free shows and librarians to catalog archives. It even paid researchers to study the history of the safety pin, hired 100 Washington workers to patrol the streets with balloons to frighten starlings away from public buildings, and put men on the public payroll to chase tumbleweeds on windy days. - With good reason, critics often referred to the WPA (”Works Progress Administration’ , successor of the CWA) as “We Piddle Around.†In Kentucky, WPA workers catalogued 350 different ways to cook spinach. The agency employed 6,000 “actors†though the nation’s actors’ union claimed only 4,500 members. Hundreds of WPA workers were used to collect campaign contributions for Democratic Party candidates. In Tennessee, WPA workers were fired if they refused to donate 2 percent of their wages to the incumbent governor. By 1941, only 59 percent of the WPA budget went to paying workers anything at all; the rest was sucked up in administration and overhead. The editors of The New Republic asked, “Has [Roosevelt] the moral stature to admit now that the WPA was a hasty and grandiose political gesture, that it is a wretched failure and should be abolished?†The last of the WPA’s projects was not eliminated until July of 1943. - from Martin M. Wooster’s ‘Bring back the WPA?’).
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Ralph Musgrave Reply:
March 26th, 2009 at 3:14 pm
I set out some quite simple theoretical reasons in 1991 for thinking that WPA type schemes should not exist at all, and for thinking that if they do exist, they are condemned to inefficiency. This is because they are condemned to, first, high labour turnover,and second, a poor ratio of unskilled to skilled labour. See http://www.fram.ndo.co.uk/Mes.pdf
See pages 8 - 17, heading: “Job Creation Schemes”.
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March 22nd, 2009 at 11:32 am
Good stuff.
My favorites, reordered:
- Just as loans create deposits, investment creates savings (equivalent logic for balance sheets and income statements).
- Deficit spending directly adds to our savings (government/ non government mode).
- Domestic credit is funding foreign savings (domestic/foreign mode).
- The consequences of overspending might be inflation or a falling currency, but never bounced checks (operational mode, presumably true in the case of both government deficits and national deficits).
- Any distribution deemed unreasonable by the political forces at any time can be readily altered (“intergenerational imbalances†are really current distribution imbalances).
- They would realize the issue is equity, and possibly inflation, but never government solvency (operational mode for the intergenerational issue).
It seems to me that the fallacy of composition applies in a recurring way throughout here – credit / money, investment / saving, government deficits / non government saving, domestic deficits / foreign saving, and the stock market “solution†for social security.
What appears plausible at the micro level is wrong at the macro level.
Ironically, it only takes operational knowledge to demonstrate this.
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Scott Fullwiler Reply:
March 22nd, 2009 at 2:07 pm
Well said!!
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March 23rd, 2009 at 12:31 am
JKH: Excellent distillation.
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March 23rd, 2009 at 9:15 am
see intermixing of “Chinese” Motor car company and “German” Motor car company:
“Domestic credit is funding foreign savings”
“So where do things then stand?
You exchanged the borrowed funds for the car, the Chinese car company has a deposit in the bank, and the bank has a loan to you and a deposit belonging to the German car company on their books.”
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March 23rd, 2009 at 9:33 am
Deadly Innocent Fraud #6
We need savings to provide the funds for investment.
Fact:
Investment adds to savings
How do we deal with savings for retirement if not through “Congressionally engineered demand leakages of the tax advantaged savings vehicles.”?…through non-tax advantaged vehicles?
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March 23rd, 2009 at 12:15 pm
Well, we could make retirement a public, rather than a private responsibility by turning SS into a real pension, keyed to some percentage of average earnings and “funded” out of general revenues instead of a regressive payroll tax. You could actually still have some sort of tax-advantage for savings, since money saved is demand you don’t have to tax away, so you get it “for free”…
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jcmccutcheon Reply:
March 23rd, 2009 at 2:16 pm
Well, we could make retirement a public, rather than a private responsibility by turning SS into a real pension, keyed to some percentage of average earnings and “funded†out
instead of a regressive payroll tax.
Yeah I think this is a great idea. a couple of implications.
1) Rewards work over speculation.
2) Would lessen the huge pension burdens of municipal government.
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March 23rd, 2009 at 3:21 pm
Not to mention the old industries that have union-negotiated pensions left over from before Reagan killed the unions and came up with the joke that is the 401(k)…
Everyone likes to beat up on the Detroit automakers, but they have so many costs left over from the postwar settlement which used them to replace a real social policy, that it’s like they have couple lead weights chained to their legs when they try to compete with their domestic or their foreign competition. Put stuff like providing health insurance and pensions in public hands where they belong, and then see who can compete at the actual business of making cars…
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March 23rd, 2009 at 9:36 pm
agreed.
not to mention there is no school of economics that thinks health care costs should be a marginal cost of production
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March 23rd, 2009 at 11:15 pm
“try to compete with their domestic or their foreign competition”
Looking at a really big picture, several hundred to thousands of years, it is hard for the society that has grown affluent and whose members do not reproduce to compete with the less “entitlement expectation” society where they breed with reckless abandon. This can be illustrated by looking at the wealth distribution of the USA within the latino community versus the african american community. Decades of child labor laws, worker safety issues, etc etc are being dismantled because a huge exogenous population is competing - they are growing faster than they can be absorbed into the existing western institutional structures. This is sending us into a modern day “dark ages” where long term benefits of the more advanced/developed society have to be learned and fought for all over again - this is no way to grow the world. Where are the big thinkers who are talking about global public policy of child birth as compared to ability of the developed world to incorporate all the new souls into the borg?
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March 24th, 2009 at 1:19 pm
BTW, where or what is #7
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March 24th, 2009 at 9:45 pm
that you need to get credit flowing again before there can be a meaningful recovery.
it’s the recovery that gets credit flowing, not the reverse.
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Ralph Musgrave Reply:
March 26th, 2009 at 3:00 pm
There is some research that supports Warren Mosler’s point: See http://www.ft.com/cms/s/41d9bc4e-fbc7-11dd-bcad-000077b07658,Authorised=false.html?_i_location=http%3A%2F%2Fwww.ft.com%2Fcms%2Fs%2F0%2F41d9bc4e-fbc7-11dd-bcad-000077b07658.html%3Fnclick_check%3D1&_i_referer=http%3A%2F%2Fprintingmoneyisgood.blogspot.com%2F&nclick_check=1
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Scott Fullwiler Reply:
March 26th, 2009 at 3:19 pm
Thanks for the link!
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March 25th, 2009 at 1:34 pm
I’d be very interested to hear what anybody thinks about this piece by John Taylor, excerpts and the link are below.
I think it’s mostly wrong.
Also, I don’t understand why the usual reaction like this almost NEVER refers to the first round effect of such a reserve expansion on M1, which I think is the only legitimate effect to be analyzed, given that credit creates money and the Fed decides on the supply of reserves.
Also, we know that the multiplier concept is bogus. But is any modification to that (correct) thinking required when the Fed is supplying, not only required reserves, but the extraordinary excess reserves that it’s doing now? I suspect not, much but I’m not fully sure. What I am sure of is that there is some extraordinarily misleading multiplier analysis being done out there, spun in the usual false generic sense, but positioning the current quantitative ease level of reserves as a doomsday machine based on that generic error.
“The Fed creates money in part by printing it but mostly by crediting banks with deposits at the Fed. Those deposits are called reserve balances and are the key component – along with currency – of base money or central bank money which ultimately brings about changes in broader money supply measures…
These deposits or reserves have been exploding as the Fed has made loans and purchased securities. Six months ago reserves were $8bn, in a range appropriate for its interest rate target at the time. As of last week, reserves were nearly 100 times larger at $778bn, the result of creating money to finance loans to banks, investment banks, AIG, central banks and purchases of private securities…
The growth of reserves has led to an increase in the growth rate of the broader money aggregates, but less than proportionately because banks are still holding excess reserves.â€ÂÂ
From:
http://www.ft.com/cms/s/0/6bfc0636-17dc-11de-8c9d-0000779fd2ac.html
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Jim Baird Reply:
March 25th, 2009 at 2:03 pm
Typical misunderstanding of the role of reserves. Plus, he doesn’t even get this right:
“The Fed creates money in part by printing it but mostly by crediting banks with deposits”
The Bureau of Engraving and Printing “prints money” and delivers it to the Fed for distribution, which it does when banks “buy” it with reserves. Thus, “printing money” is one of the few cases in which the Fed does not, in fact, “create money”. (A little beside the point, true, but I’m so sick of hearing mysticism about “printing money” that I’m ready to explode.)
All of this increase in reserves has simply been the Fed swapping one kind of financial asset for another. In no case has it increased the net financial wealth of the private sector, which is why it has not caused inflation (nor much of anything else, good or bad.) This is so blindingly obvious you have to be a trained economist not to see it.
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Scott Fullwiler Reply:
March 25th, 2009 at 2:17 pm
Well said.
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JKH Reply:
March 25th, 2009 at 2:20 pm
Thanks.
Interesting and amusing detail on printing. I share your pain on that one.
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torjan horse Reply:
March 26th, 2009 at 4:44 am
“A little beside the point, true, but I’m so sick of hearing mysticism about “printing money†that I’m ready to explode.”
Jim, the meme of “printing money” is something the users of your monetary system can grasp. That is the problem with so much of what is happening and the ideas presented here, a system is in place that is very hard or impossible for the lab rats to comprehend. When you start talking of negative interest rates some are even inclined to boston tea party type actions and hanging bankers. They do not grasp what seems very logical to you and they respond with animalistic violence.
Very smart and intelligent academics were not able to really break egyptian language until the “rosetta” stone was found. Why is that? Think of a chinese typewriter, to type a message in chinese with that interface would take the better part of a day. Take an english speaker used to a qwerty keyboard and then have him use the chinese typewriter to type a short paragraph in chinese and it may take you years or decades to get this user “in paradigm” and be able to successfully do what you are tasking them with.
That is what I see as the problem with all of YOU here stumbling back and forth over exactly how things should be designed and creating outrage in the general public with monetary operations that are clear as day to warren moslers. The system needs to be designed so that it is extremely intuitive and easy to the users of the system - that brings peace and harmony to the planet.
It has become CRYSTAL CLEAR that warren is pulling his hair out day after day with the amount of people he is encountering that cannot UNDERSTAND how to type chinese messages on a chinese typewriter because all they have ever used is english on a qwerty keyboard (monetarily speaking).
So while you may be OUTRAGED at me and the other j6p’s who are confused because we easily grasp a printing press with paper rolling through it as “creating money” - we are also OUTRAGED when economists start talking about negative interest rates on our WEALTH that we have accumulated - which we interpret as ROBBING our current standard of living - even if that may not be the case.
Gold has defaulted back to MONEY for many thousands of years of human monetary experiments. Perhaps the human beings are just never going to last long term in a fiat world because it requires a level of understanding that is beyond our brains ability. Something physical that we hold in our hands that is self regulating is easy for the USERS to grasp. Let me assure you working in many IT departments, an OS or Program that is not USER friendly - but is designed for the administrators will fail everytime given enough time. So what can be done to change the system so that all these EXPERT economists don’t get confused, and the USERS don’t get angry and want to tar and feather you when you start telling them what idiots they are because they don’t understand “printing money” is not creating dollars.
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Scott Fullwiler Reply:
March 26th, 2009 at 7:52 am
As usual, you’ve missed the point and misinterpreted. Our point is that it SHOULD be simplified, since it actually is rather simple. It’s not about going from English to Chinese, but rather about (to continue with metaphors) going from a Ptolemaic to a Copernican view. The Copernican view wasn’t more complex, necessarily, but it did require abandoning an irrelevant paradigm.
Jim Baird Reply:
March 26th, 2009 at 9:23 am
Actually, the Copernican view was simpler, since you didn’t have to calculate all those pesky epicycles. And that’s true of the Mosler Paradigm, as well: I personally find it pretty easy to explain to people, and they usually remark that it’s a lot easier to understand than anything they might have learned in a conventional economics class.
Scott Fullwiler Reply:
March 26th, 2009 at 9:43 am
Right. The difficulty, to paraphrase Keynes, is “disabusing ourselves” of an irrelevant paradigm.
torjan horse Reply:
March 27th, 2009 at 1:52 am
“since it actually is rather simple.”
I am not trying to be antagonistic but really convey to you that what you see as VERY simple is OBVIOUSLY not very simple to MANY humans as post after post warren keeps complaining they don’t get it - even the pros - so I ask you to take a deep breath and remove this MEME from your brain that “actually is rather simple” because the empirical evidence does not back you up. It may be SIMPLE and VERY INTUITIVE for a chinese man to write a note on a chinese typewriter, but not for you or me. In fact I think you would have GREAT difficulty doing so, even after the chinese man showing you many times and perhaps even for YEARS how easy it was for him. In fact he may become very frustated with you not “getting it” but don’t be like him.
“It’s not about going from English to Chinese, but rather about (to continue with metaphors) going from a Ptolemaic to a Copernican view. The Copernican view wasn’t more complex, necessarily, but it did require abandoning an irrelevant paradigm.”
OK so abandoning old memes is what you speculate is a core root of the problem - everything I am reading lately about neuropsychology and axons and dendrons tells me the brain often tries to reinforce certain neural connections, and reprogramming is hard, so if you get a bad idea into your head, a more complex one, and your brain over decades has reinforced this wrong or more complex idea with many supporting nueral connections - perhaps reprogramming it is simply not possible.
http://www.scribd.com/doc/9692305/J-Taylor-Copernicus-on-the-Evils-of-Inflation-and-the-Establishment-of-a-Sound-CurrencyCopernicus-on-the-Evils-of-Inflation-and-the-Establishment-o
Copernicus said we need to go to gold money - he had a pretty big brain and said fiat was really bad for the average human - but I get criticized by warren when I have brought that up in the past. Copernicus was very annoyed by inflation. Yet we have a world economic system that does “inflation targeting” - what would copernicus think? He is probably spinning in his grave.
I will carry this meme further on one more point - there was an inventor with IBM - Evan Schwartz - he made a huge breakthrough - he washed a silicon chip off with water after he dropped it on the floor and it didn’t get WET - even though all the scientists and peer reviewed journal articles about chip design had said that the silicon chip would get wet - many very smart PHd’s were simply wrong about a very simple concept - we are all here now typing away on this technology that a simple cabinet maker named even schwartz turned into one of the leading silicon wafer engineers because of an “accident” that defied 20 years of professional academic publishings.
http://www.google.com/search?hl=en&q=evan+schwartz+chip&aq=f&oq=
So I only ask that you and Warren and the rest here you get FRUSTRATED with something that is easy to you, perhaps is very difficult for people whose brains have evolved neural connections that reinforce ideas that are different and I don’t really see how your mission to reprogram these brains is going to work because the science doesn’t seem to back you up - hence the old saying - science progresses one funeral at a time.
Sad that human evolution has to be limited by the brain’s ability to deconstruct old nueral pathways that have decades of reinforcement.
Scott Fullwiler Reply:
March 27th, 2009 at 8:44 am
I don’t necessarily disagree with any of that. Our ‘frustration’ isn’t with lay people, per se. The frustration is with 2 groups, mainly. First, with academics who are supposed ‘experts’ on monetary economics; to be an expert on something, you should actually have tried to look at how that something works. But most monetary economists have been using a model of the economy that assumes away the monetary system in the first place (as Willem Buiter’s recent FT blog explained rather eloquently). Second, it’s with policy makers, who, again, as they are trying to fix something should have looked to figure out how that something works. We see this all the time with Bernanke. If he is explaining something operational, he usually nails it, but if he starts to rely on his mental model, he usually moves to something completely inapplicable. It’s ‘frustrating’ that someone who is an academic AND policymaker hasn’t ever considered that the mental model has no applicability to the (probably recently understood, in his case) operational functioning.
There are actually increasingly more researchers at the Fed, ECB, BOE, BIS, and so forth, that have put much of this together. Those working at central banks on the operating side who had already done so (as their publications have demonstrated). So, while there’s no disagreement that ‘disabusing oneself’ of an irrelevant paradigm is not necessarily easy, academics and policy makers have an obligation to go out and look (or just read the things published by those who have!). Some have, and they almost without exception find the same things we have when they do.
Also, regarding how hard this is to understand, I teach it every semester to 20-22 year olds, and don’t have much more problem than other economists have teaching the wrong paradigm. Of course, their younger neurons may be able to switch over more easily than someone with decades of using the wrong paradigm (I don’t teach introductory level courses, so I have to do a bit of ‘unlearning’ every time). At the same time, 20-22 year olds are still only ‘learning how to learn,’ whereas older folks like us know how to do that, so it’s a bit of a wash.
March 25th, 2009 at 2:15 pm
Thanks, JKH. good question.
Is it just me or are Taylor’s writings getting increasingly less sane? As I’ve said before, the only good thing about this is that high-ranking economists are exposing their lack of understanding in an exceptionally clear manner with each one of these absurd pieces . . . maybe someday when/if more people understand the monetary system, this will come in handy in exposing them. I was trying to find anything in his piece that was accurate . . . he even got the data on reserve balances 6 months ago wrong! (not surprising that he doesn’t know how to make his way around the Fed’s balance sheet)
Regarding your query on excess reserves, these in no way fund bank lending. Loans create deposits … that’s it. Reserves ONLY settle payments and meet reserve requirements, and the Fed necessarily names the price at which it will provide them for carrying out these activities. In Canada, overnight reserves have been 0 for about a decade, as there are no reserve requirements and all final settlement can be made with intraday reserves (less complex payments system there than in the US). If excess reserves in Canada suddenly rose to a percent of GDP equivalent to the current size of excess reserves in the US, would anyone suggest that the banks there could now finance more loans than before? Obviously not.
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JKH Reply:
March 25th, 2009 at 2:38 pm
Scott,
Thanks.
I understand quite well that reserves don’t fund bank lending, and I realize that banks don’t need reserves to lend. And I know the traditional multiplier theory is bogus. Therefore I know I risk being heretical or at least appearing to contradict myself in even posing the question.
But I pose it only in the sense of extraordinary reserve levels we now have. Not that I’m expecting a textbook multiplier response, because that’s foolish, even though the typical economist still seems to think and argue that way.
But is there any incremental or extraordinary effect to be considered in the way in which banks would approach additional lending due to this system reserve position, particularly if sustained? I’m thinking of some marginal effect in the way banks might tend to react to the notion of opportunity cost of excess reserves; e.g. by buying treasuries, which I believe would be risk weighted zero or close to zero for capital purposes, except for interest rate risk. After all, capital is the legitimate and correct consideration for credit extension, not central bank reserves.
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winterspeak Reply:
March 25th, 2009 at 4:13 pm
JKH: I think I understand your question. Even though we know how the multiplier does not work, you’re wondering if there are any consequences to truly large reserve excesses now held at the Fed?
Scott is right, the QE the UK has engaged in, and the US is about to, changes the composition of net financial assets in the private sector, but not the quantity.
Personally, I find it difficult to see what impact these excess reserves will have. I see credit constrained on the supply side by capital (as you say) and on the demand side by consumer sentiment and credit worthiness. The Govt has put in a whole host of facilities to help on the supply side, but I don’t think the private sector as a whole is done deleveraging, so I don’t see the demand there yet. Reserves are a complicated and expensive way to set short term rates.
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JKH Reply:
March 25th, 2009 at 4:36 pm
Winterspeak,
You have my question exactly right.
I also agree with what you and Scott say re composition and quantity of net financial assets.
I’ve noted capital in previous discussions with you. It’s as if all those economists who’ve believed in the multiplier all those years have a brain implant that substitutes reserves for capital.
Still, I know from personal experience that banking systems with large excess reserve settings (although usually temporary and usually smaller than today’s chronic position) have a game theoretic quality with respect to competition among commercial bank reserve managers to manage their positions effectively. Astute commercial bank reserve managers understand the system is flooded with excess by the Fed, and know that collectively they can’t “invest away†reserves in aggregate, but individual managers still have a job to do to position their money market positions to best advantage - hence my question regarding zero capital utilizing treasuries. Of course, it’s more complicated now with a $ 600 billion reserve trap, and those doing that job will be all the more cautious.
Jim Baird Reply:
March 25th, 2009 at 4:23 pm
Well, as Warren has pointed out, the Fed has taken on interest bearing assets on it’s books and replaced them with non-interest bearing reserves. So, other things equal, it is a deflationary bias that acts as a drain on AD as payments are made into the Fed “black hole”.
(As an aside, I used to work near the Federal reserve bank in San Francisco. When I used to walk to work, I would cross under the eaves of the Fed building, and thus technically “on Fed Property”. I used to imagine the dollars in my pocket becoming worthless as I crossed the threshold, only to acquire value again on the the next block. Yes, I am a monetary geek. I’ve come to terms with that.)
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JKH Reply:
March 25th, 2009 at 5:03 pm
Winterspeak et al,
I spent some time last week at Scott Sumner’s blog, engaging on the topic of what’s happening to the US monetary base and why. That discussion helped me appreciate more clearly the importance of this blog, which is still relatively new to me. My view of things has developed over a long period of time, but extensive discussions with Winterspeak and visiting here are the only times when I’ve had them confirmed in a nearly systematic way. As Winterspeak knows well, I’ve had some minor quibbles with aspects such as the ability of governments to run surpluses. But these are unimportant at best. I’ve also questioned the ultimate relevance of what seems to be a description of mere operational reality according to my own experience. But I see now that goes to the heart of the importance of it. Even as a non economist, I realize now, finally and unambiguously, that understanding the banking operational framework is essential in understanding anything about economics per se. You simply can’t develop legitimate economic theory if you don’t understand the operational architecture of the banking system for a “soft currencyâ€ÂÂ.
Maybe you might find some of the discussions I undertook at Sumner’s interesting or entertaining, if you have a bit of time to blow. They reflect my formative influences, plus a bit of “the paradigmâ€ÂÂ:
http://blogsandwikis.bentley.edu/themoneyillusion/?p=671
http://blogsandwikis.bentley.edu/themoneyillusion/?p=684
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March 25th, 2009 at 5:47 pm
JKH: I have tried to engage more deeply with Sumner a couple of times — I think there is something there but am not sure what, yet. Sumner is, in some ways, the anti-Mosler (I think) but fiscal and monetary are, at the limit, very similar. I will spend time on your links — I look forward to learning from them.
I also think that your point about the day to day realities of commercial bank reserve managers is very good. Most people do not believe in or understand the paradigm, so their actions are often self defeating. As moldbug once said, everyone acts as if the world is still on the gold standard even though it isn’t. In terms of predicting actions, the paradigm is not helpful, as it does not guide policy makers.
Although I am not an economist either, I do have some training in the field, and I find the paradigm to totally demolish almost everything in finance or macro, but saying little about increasing the real quantity of goods and services available in an economy (the realm of micro). Certainly in understanding this crises, you need the paradigm, and Fisher’s debt deflation.
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March 25th, 2009 at 5:56 pm
Valiant effort at explaining this to others, JKH. Interesting that some disagree with you while admitting they don’t understand the Fed’s balance sheet or specific details about recently created Fed standing facilities. Multiply that by a few million (or more) and that’s what we’re up against.
Your comment on the importance of operational realities is spot on. The way I say it to my students is that every single transaction in the economy affects financial statements, and if you can’t show how the transaction affected the financial statements of those involved, you don’t understand the transaction. The danger, of course, is that if you go off and draw a supply and demand to explain the transaction without understanding the financial statements, you may be analyzing the wrong thing, however internally consistent the analysis may be (loanable funds theory or the money multiplier being two of the more important cases in point).
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Matt Franko Reply:
March 25th, 2009 at 8:13 pm
Scott,
To sort of follow up here (accounting); does the H.4.1 report in a timely fashion in regards to reserve creation? Last weeks H.4.1 report showed a one week increase in Fed holdings of MBS of $157B, does that exactly mean that corresponding reserve balances were also exactly increased by $157B in that same week also?
Resp, Matt
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March 25th, 2009 at 8:56 pm
Scott,
Thanks for having a look. Yes, I found a wall of fortification in that discussion against what is essentially a single idea. Ironically, that idea in theory should be able to vaporize (or seduce) that wall out of existence. I guess it takes time. Also difficult in my case, unfortunately, is an affinity for an operational paradigm that is supplemented by an intuitive discomfort for supply and demand curves. That overall mix is not a great setting for robust communication.
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March 26th, 2009 at 2:28 am
JKH: I read both threads on sumner’s blog. Both interesting. I need to re-understand what impact FFR (and farther our portions of the yield curve) actually have on the economy. Mosler says they are “not much”, and he may be right, but I still need to think this through more operationally and see how it impacts (or does not) the broader economy. Certainly, interest income is higher, which is good for AD, an aspect I had not considered previously.
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March 26th, 2009 at 8:40 pm
question for the group:
Given that banks do not need deposits to make loans (opposite) and deposits don’t count as capital towards capital requirements, why do banks compete for deposits at all? When someone transfers a deposit from one bank to another, the liability of that bank goes up, but what asset goes up? Not cash.
Probably the wrong forum for this, but now that I don’t think deposits are required for lending any more, i don’t know What they do
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warren mosler Reply:
March 26th, 2009 at 10:55 pm
There’s also a misguided ’self imposed constraint’ by govt. that banks must have a certain % of deposits be ‘retail’ deposits as defined.
This of course due to law makers not understanding how the monetary system works. I’d eliminate it at once.
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March 26th, 2009 at 8:54 pm
Good question.
First, the reason banks want deposits is because it is the cheapest liability possible. The traditional bank business model is to profit on the interest rate spread b/n assets and liabilities.
Second, when a bank receives a new deposit, it could very well be an increase in reserves on the asset side (depends on net payment flows for the day). Overall, on any day, if the bank has more reserves than deemed necessary to settle payments and meet reserve requirements, it will try to lend them in the federal funds or other money market (assuming the fed funds rate is above the rate paid on reserves). In the aggregate, this doesn’t change the qty of reserves (unless the bank buys newly auctioned Tsy’s, obviously), but for an individual bank it does.
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March 26th, 2009 at 9:03 pm
By complete coincidence, I put this up in a separate discussion with Winterspeak today:
It may be possible to consider a corollary to the paradigm here.
Banks create new money (deposits) by extending new credit. This works at the micro level and the macro level. It’s the fundamental credit money causality that is generally overlooked, leading to a common misinterpretation of money dynamics.
That obviously doesn’t preclude banks from competing for existing deposits, where deposits attracted on a competitive basis lead to a central bank surplus, or replace deposits that may have been lost on a competitive basis.
The second mode doesn’t contradict the first.
It’s just that the popular tendency is to construct a world view of finance and economics on the basis of the second interpretation, which is literally a derivative one, rather than the first interpretation, which is the true foundation of credit money linkage.
P.S. this is the commercial banking case that parallels the discussion you and I have had regarding the idea of government surpluses, where taxes operationally can precede expenditure, although only in a derivative sense relative to the true cumulative causality, which is that expenditure precedes taxation.
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torjan horse Reply:
March 27th, 2009 at 2:21 am
“extending new credit”
So all society rests on the ability of a banking person to be able to take a guess as to who is going to be good for the community versus who is going to be bad. One of my local bankers told me he was very bad for the bank, he liked people and had a very hard time telling them no when they wanted loans for various reasons. Scale this out over 8000 banks and you have a real problem. Aha - but we have an information society and information technology to help credit “score” people so that dumb or nice or evil bankers can’t break the system. That is all garbage too though, from the ratings agencies to the liar loans to the borrowers who gamed that credit score system at every level possible to the loan officers looking for a quick bonus - it is all VERY BROKEN and the tower of babel needs to be knocked over - scaling local banking up to a world international monetary system removes all the inherit protections of looking out for your own tribe and your own ass. A lot of people are going through huge emotional problems right now because of this terrible boom/bust system. Copernicus said keep the money in gold, and it will be a natural limit to all these abuses run wild that are inherint in human beings - from greed to stupidity. Where is the IT system that has a checks and balances against human emotion? GOLD.
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warren mosler Reply:
March 27th, 2009 at 7:45 am
The world didn’t go off the gold standard because of how well it worked.
It abandoned gold (as the object of taxation- that’s what a national currency is) because it all kept going down in flames.
The great depression was the last straw for the US, for example.
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torjan horse Reply:
March 27th, 2009 at 8:56 am
When INCA gold came into spanish coffers and the resulting inflation that ensued crashed thier empire, I am certain they too were upset with inflation even with a gold money system. The malinvestment in glorified palaces was disgraceful when they should have been educating their youth how to be better engineers - maybe in shipbuilding.
Is it easier to inflate a fiat regime or a gold one? These booms and busts that were supposed to be moderated by the fed after 1913 don’t seem to be moderating things to me lately. Instead they are just replacing shorter shallower cycles with longer deeper ones.
I would rather get stung by one bee everyday for a year than by 100 bees 1 time a year - why is this system better?
Perhaps the monetary unit is irrelevant, human beings are very fallable. The whole concept of OPM - other people’s money invites wrecklessness. At every level of the banking system from the most junior local loan officer to the most senior investment banker - there needs to be skin in the game for all the participants - everytime that is removed - it all blows up. A loan officers salary should be tied to the ongoing performance of the loans he makes - if he makes bad loans - he doesn’t make a lot that week - if all the borrowers the next month pay on time - he gets a raise in his salary.
Giving someone 100K a year wether they make bad or good loans is the wrong incentive.
Paying a banker now for a product that may take 30 years to pay off is no good. You want to make more money - make more good loans - if the loans go bad - your salary reduces.
The way it seems the system is designed now instead of a lot of bankers being employed over a long term with moderating salaries that go up and down as loans fail or succeed over time - a few bankers at the top get rich while many bankers at the bottom go unemployed in a huge bust every so often - since you care about full employment - certainly you want this system to change Warren. Having a bunch of unemployed bankers every 20 years is no good.
March 27th, 2009 at 1:17 am
ALL: Thanks!
JKH: where is that discussion? thanks! (ps. it makes sense to me. It also strikes me, though, that banks create Federal Govt insured liabilities whenever they make a loan, since the deposit exists in an FDIC insured account. Nice trick).
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JKH Reply:
March 27th, 2009 at 5:43 am
Zanon,
Interesting point on co-creation of FDIC liabilities.
The discussion is embedded as a very small subset of a much larger ranging one among other participants (very interesting) here:
http://www.interfluidity.com/posts/1238023797.shtml#comments
above comment posted there @ 3.26.2009 1:17pm
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March 28th, 2009 at 11:08 am
“I would rather get stung by one bee everyday for a year than by 100 bees 1 time a year - why is this system better?”
Seems to me that a fiat money system under flex fx and with an appropriate countercyclical macro strategy accomplishes this far better than a gold standard. It’s a straw man to critique the former with the worst-case scenarios or examples of its mis-application. The gold standard’s effects on prices and real GDP were quite variable in real time, even if over long periods prices evened out. I’d much rather have the far less than perfect experience of the last 75 years w/o gold than the experience in the preceding 75 w/ gold.
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March 28th, 2009 at 6:03 pm
you can only sustain output and employment with non convertible currency and floating fx.
see ‘exchange rate policy and full employment’ at http://www.mosler.org
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March 28th, 2009 at 6:07 pm
Here’s an excellent chronology of the US monetary base in graphical form:
http://www.econbrowser.com/archives/2009/03/money_creation_1.html
Alas, I think he stumbles on causality near the end of the text.
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March 28th, 2009 at 8:53 pm
posted this on that site:
deficit spending adds net financial assets to the private/non govt. sectors that are equal to the size of the deficit.
Govt deficit= tsy secs outstanding+reserves at the Fed+ cash in circulation
The Fed controls the mix, but not the total quantity which always equals the cumulative deficits.
The mix of tsy secs, reserves, and cash is of no economic consequence beyond that of the resulting term structure of rates which are determined by the Fed as it manipulates the mix.
For the Fed,it’s about ‘price’ (interest rates) and not ‘quantity’
http://www.moslereconomics.com http://www.mosler2012.com
Posted by: warren mosler at March 28, 2009 05:51 PM
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March 28th, 2009 at 11:02 pm
“you can only sustain output and employment with non convertible currency and floating fx.”
Tampa is about to lay off one thousand government workers because the city government is broke. They cannot deficit spend because they have turned all thier local power over to a central body that is far away from then and thier problems. Washington DC and the NY Fed boyz are trying to micromanage a network that is overwhelming thier puny efforts. If tampa had thier own currency they could deficit spend it. If Detroit had thier own currency they could deficit spend it. Instead they are all having to wait on a central body at the top of the national government who may have all kind of crony lobbyists doing evil things that doesn’t help these cities.
If it is a good idea for a bunch of non convertible currencies at the nation state level to float against each other, why not disperse that even further down to the state or county or even city level?
Reversely if your answer is it is better to have one governing body at the top - then why STOP at the nation state level and why not just adapt 1 global currency for the whole planet? Gold does that and that is why central banks probably still trade in it.
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March 29th, 2009 at 12:28 am
Mr. Magoo: State and local authorities are currency users, just like the rest of the private sector. Only the Federal Govt is a currency issuer.
Don’t be so sure that Detroit and Tampa would deficit spend though. Neither of this municipalities are in paradigm.
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March 29th, 2009 at 4:34 am
“Only the Federal Govt is a currency issuer.”
Zanon suppose this blog “the center of the universe” had a server crash - where would all the USERS of this blog then go to share ideas and congregate? It is not wise to have everything centralized.
The fed govt being the sole issuer - This was not always so, in the past in just this country alone there used to be many seperate currency issuers. I have also read in similar times as these in other countries where unemployment was skyrocketing that the local cities or regions began to issue a local currency and trade picked back up on a local level and the local pain at least began to moderate.
Don’t forget Zanon that warren is short euro and long gold mines, so he must be expecting regional currencies to take over as well - Volker has said something similar:
http://wfhummel.net/VolckerAddress.html
My question is why not dissolve the national currency in the USA and have several local or regional issuers in the states?
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March 29th, 2009 at 7:02 am
i have no positions in euro or gold or any other futures at the moment apart from a small hedge in gasoline.
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March 30th, 2009 at 1:18 am
Mr. Magoo:
Fiat currency is an extension of sovereignty. If you can demand taxes, you can create currency. The reason the US does not have states issuing their own currency is because state and local Governments, fundamentally, are not sovereign. The Federal Government is.
There may certainly be downsides to this, but there are benefits too.
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March 30th, 2009 at 7:01 am
I have recommended stated do use their own currency in the form of vouchers similar to what california used during a past crisis.
the simply paid their employees in script they would accept for payment of state taxes. this could be phased in when offering new jobs and making new purchases and eventually largely replace the use of $US. This looks to me to be a positive both for the state and the US govt.
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March 30th, 2009 at 11:00 am
Good point, Warren. California can accept it’s own scrip for its own taxes. But it could also just cut it’s own taxes!
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March 30th, 2009 at 11:05 am
if it cut its own taxes its checks would bounce if it couldn’t borrow to cover them
with its own script, it spends first, and then collects the script when its used for tax payment.
and it could likely spend more than it collects, as people would save it, hold it as cash, etc.
and Ca banks could offer script based accounts.
just like real money.
which it is…
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March 30th, 2009 at 12:50 pm
Zanon, sovereign taxing power in places where where warren lives like the USVI, seychelles and other offshore tax havens seem to be biased in favor of the rich, powerful, and well connected. A poor guy like me can’t afford the time to figure out all the tricks and I don’t have the money to hire an expert who can. You have to admit Zanon that for a motivated tax cheat, there are many loopholes and tricks to play with the very obscure tax code. I read about land owners having 5 or 6 virtual farm corporations based on the same plot of land getting all kinds of subsidies and breaks. Warren isn’t suffering the hurricanes of the USVI because he wants to give his fair share of taxes back to the government.
MIAMI (AP) — The prosecution has rested in the Miami tax evasion trial of Brazilian race car driver and “Dancing With The Stars” winner Helio Castroneves (EHL’-ee-oh kas-troh-NEH’-vehz).
Warren, I don’t have state taxes, how does your idea help florida citizens? Would it help the various cities/metro areas within florida to offer their own voucher?
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March 30th, 2009 at 2:22 pm
yes, they could sustain higher levels of public services and employment with the same ‘tax base’and not be subject to liquidity issues.
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March 30th, 2009 at 2:26 pm
And regarding taxes, the govt writes the tax code to direct behavior.
they want home ownership so they have a homeowner deduction for mortgage interest. You may not agree with this policy, but does that mean that anyone utilizing that deduction isn’t paying his fair share?
Same with the VI program. It was implemented to try to help the economy here. It was also aggressively promoted by the US govt.
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March 30th, 2009 at 2:48 pm
RICHARD: What can I say? It’s good to be King, or at least good friends with the King. That will never change, but we can hope for a King who knows how to run his country, no? Also, you should not limit your description of biased tax regimes to USVI and seychelles!
WARREN: I have my doubts as to how much CA scrip the good people of California would want to hold. Not to say mixed currency regimes don’t work–they can and do–but I just don’t see demand for saving in CA scrip being that high. I could be wrong!
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March 30th, 2009 at 4:26 pm
Several weeks ago I ran into a man who worked in my state treasurers office (Maryland). I mentioned Warrens ideas about tax warrants in lieu of vendor payments (and that I (a vendor) for one would be willing to accept such, at least a certain amount, we could get banks to broker at say 0.1%). It was above his pay grade but he made a point to say that its all about “the credit rating” above all else at the office, so anything would have to be looked at thru that lens.
Resp, Matt
PS I’m trying!
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March 30th, 2009 at 4:56 pm
The issue in terms of acceptability is whether or not the scrip can be used to settle tax liabilities. Do that, and the demand exists, by definition. The exchange rate b/n the scrip and the dollar will vary based upon the qty of scrip circulating vs. the tax liability payable in scrip, but setting the tax liability in the scrip ‘does the trick,’ as Georg Friedrich Knapp put it (I think).
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March 30th, 2009 at 7:18 pm
However, given that our illustrious representatives in Washington don’t actually understand what money is, or reserve accounting, or the basics of monetary policy, the question is would they realize that California was coining its own money?
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March 30th, 2009 at 7:31 pm
Amazingly enough, Missouri tried this very thing back in 1830! The Supreme Court ruled it unconstitutional:
http://www.blackwellreference.com/public/tocnode?id=g9781577180999_chunk_g97815771809995_ss1-316
http://press-pubs.uchicago.edu/founders/documents/a1_10_1s21.html
But the Supreme Court reversed itself in 1837 (After Chief Justice Marshall died)
http://www.answers.com/topic/briscoe-v-bank-of-the-commonwealth-of-kentucky
The key difference was Kentucky created a state bank, and then used its notes instead of directly issuing them itself. So for California to do this, it would first need to create a State Bank of California.
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March 31st, 2009 at 12:57 am
SCOTT: Accepting script to settle tax liabilities will create demand for it, but that says nothing about the demand to *save* it (demand for *extra* scrip). If people want scrip to settle taxes, but nothing more, then G=T. That will help support aggregate demand, but the State will not be able to run much of a deficit without triggering inflation.
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March 31st, 2009 at 5:33 am
“And regarding taxes, the govt writes the tax code to direct behavior.”
You once told me we have to deal with the cards dealt us, but then I think why would a guy make ANOTEHR supercar when there are already so many ferrari, corvette, viper, bughatti, lamborghini, porsche, etc etc already. Did the founding fathers accept the cards dealt to them before fleeing europe? Did martin luther king? The tax code is such a massive leviathon, no “government” has written it - that seems to infer there was a structure and guiding process instead just a mish mash of self contradicting obscurity, and no “government” official understands it all. The mere complexity of it makes it nonsense.
“Same with the VI program. It was implemented to try to help the economy here. It was also aggressively promoted by the US govt.”
It is so beneficial Warren, like you and I am sure so many others, I am motivated to move there and get my own piece of that tax savings.
“Zanon: It’s good to be King, or at least good friends with the King. That will never change, but we can hope for a King who knows how to run his country, no?”
I used to have long debates with my poli sci professor who wanted to convince me the best form of government was benevolent dictator. The KING is limited by his nueral connections in his brain Zanon, it is a HARD PHYSICAL limit, that is why you design things in such a way where they are efficient at the local distributed level and not require a central point of control. Our whole system of government has not scaled has the population levels have grown. 100 senators, a few supereme court justices and 1 president cannot effectively represent 350 million citizens, not even close.
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March 31st, 2009 at 6:06 am
As IBM was firing thousands of American workers last week, the U.S. Patent and Trademark Office published Big Blue’s application to copyright a computerized system that calculates how to offshore jobs while maximizing government tax breaks.
http://globaleconomicanalysis.blogspot.com/
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March 31st, 2009 at 7:48 am
Z . . . true, of course. But the point is to get to full employment, not necessarily to get people to save. Saving by definition just means you need a bigger deficit.
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March 31st, 2009 at 11:24 am
SCOTT: I know. *My* point is that savings desire can change. If there is no savings desire for CalScrip, then the state of California’s T has to equal its G. This limits its ability to raise G without also raising T.
MR MAGOO: I hear what you are saying. Just pointing out that any engineering solution needs to also acknowledge the fact that you will have a King. How do you keep a decentralized solution decentralized? Didn’t work for the US. Didn’t work for China. Isn’t working for Europe. Not saying there’s any easy answer, just pointing out reality.
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March 31st, 2009 at 12:53 pm
Question for the group: Is there a “required reading” that details how Investment creates Savings?
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March 31st, 2009 at 6:50 pm
it’s part of soft currency economics
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April 1st, 2009 at 12:18 am
thanks warren
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April 1st, 2009 at 5:08 am
Zanon in previous monetary experiments, the reason for wrestling control away from a single point went along the lines below - seems not much has changed in 200 years - what I don’t understand is that many pundits said Kerry lost to bush because he talked about the “global test” but today it seems america has had a shift and loves to be globalists - yesterday CNBC ran a story on the cars driven by Obama’s economic team - Orzag, geithner, Summers - etc - most had a foreign automobile - Summers a 1995 Mazda mx3?! and some of the others with a toyota highlander or honda odyssey.
(from Wikipedia) The Second Bank of the United States was authorized for a twenty year period during James Madison’s tenure in 1816. As President, Jackson worked to rescind the bank’s federal charter. In Jackson’s veto message (written by George Bancroft), the bank needed to be abolished because:
It concentrated the nation’s financial strength in a single institution.
It exposed the government to control by foreign interests.
It served mainly to make the rich richer.
It exercised too much control over members of Congress.
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June 12th, 2009 at 10:03 am
Warren, you said:
“And domestic credit creation-the bank loan- has funded the Chinese desire to hold a $US deposit at the bank.
Where’s the ‘foreign capital?’ There isn’t any! The entire notion is inapplicable.
Instead, they are dependent on our domestic credit creation process to fund their desire to save $US financial assets.”
Question:
There seems to be a lot of debate at the moment about whether or not the time will come when the Chinese and the other BRICs will stop wanting to invest in $ financial assets. What happens then? Presumably the $ will fall in value (whatever that means) and the US consumer will be worse off? Inflation will rise? US consumers’ $ savings will decline in real value (purchasing power) and therefore US consumers will be worse off?
It can’t all be as simple as changing entries in a giant monetary spreadsheet?
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Scott Fullwiler Reply:
June 12th, 2009 at 7:39 pm
Hi. Mostly right. You forgot to mention that US exports will increase. Also, net saving of US consumers is set by fiscal deficits, too, so it’s ambiguous whether US consumers are worse off. They could be better off if the deficit raises aggregate real consumption.
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