Wow, talk about ignorance, lack of ability to reason! Here is another theory call MRT – modern religious theory that is equally thought through.
What is intelligent design?
Intelligent design refers to a scientific research program as well as a community of scientists, philosophers and other scholars who seek evidence of design in nature. The theory of intelligent design holds that certain features of the universe and of living things are best explained by an intelligent cause, not an undirected process such as natural selection. Through the study and analysis of a system’s components, a design theorist is able to determine whether various natural structures are the product of chance, natural law, intelligent design, or some combination thereof. Such research is conducted by observing the types of information produced when intelligent agents act. Scientists then seek to find objects which have those same types of informational properties which we commonly know come from intelligence. Intelligent design has applied these scientific methods to detect design in irreducibly complex biological structures, the complex and specified information content in DNA, the life-sustaining physical architecture of the universe, and the geologically rapid origin of biological diversity in the fossil record during the Cambrian explosion approximately 530 million years ago.
The scientific method is commonly described as a four-step process involving observations, hypothesis, experiments, and conclusion. Intelligent design begins with the observation that intelligent agents produce complex and specified information (CSI). Design theorists hypothesize that if a natural object was designed, it will contain high levels of CSI. Scientists then perform experimental tests upon natural objects to determine if they contain complex and specified information. One easily testable form of CSI is irreducible complexity, which can be discovered by experimentally reverse-engineering biological structures to see if they require all of their parts to function. When ID researchers find irreducible complexity in biology, they conclude that such structures were designed.
This is circular reasoning. The general case is not realistic. Life is all about special cases. Governments have rules and regulations that guide how they can and cannot act. The general case is government without constraint. Is that all MMT is? About stating the obvious fact that a government could theoretically do whatever the hell it wants? That’s a mistaken view of the world.
“The government can choose to do whatever it wants. ”
I understand this. It is rather obvious. The reason why there are “special cases” is exactly because of this. There are rules and regulations put in place to stop government’s from being able to to “whatever it wants”. MMT appears to be based on the obvious notion that a government can act entirely without constraint if its citizens allow it it. Well duh!
“MMT simply makes the point that constraints are self-imposed, not by any notions of exponentially exploding interest payments or massive inflation.”
Yes, speed limits are also self imposed. That doesn’t mean they don’t exist for good reason or that they should be done away with just because the “general case” means we could theoretically drive as fast as we want.
There are limits on what governments can and can’t do for good reason. I understand that many of the politicians might not understand the precise dynamics behind the monetary system, but that doesn’t justify MMT’s explanations which essentially try to ignore the specific case in order to justify unconstrained government response.
“A monetary economy functions within a closed system in only one possible way.”
This is absolutely not true. For instance, not every country can be sovereign in its currency. Some nations just don’t have a choice due to any number of real constraints. MMT takes the examples of a few developed nations and applies that as the “one possible way”.
Basically, what this says is that countries can decide on an international monetary standard and the choice is essentially between convertible or non-convertible currency, and fixed or floating rates. There are other choices, too, such as a system that generally relies on central banking or on that does not. These and other options have historical precedents.
This post focus on having made the choice in favor of non-convertible currencies and floating rates, which is now enshrined in international treaty post-1973 when Nixon’s unilateral decision to shut the gold window two years before was formally ratified.
That established a framework within which countries agreed to operate but it let considerable choice to individual countries regarding specifics. The general theory articulates the framework in terms of the boundary conditions that the agreement imposes. The specific ways to implement this in each county constitutes the actual special cases, although other cases are also possible since all the options are likely not exhausted. Countries are also free to alter the specifics within the general framework that has been agreed to.
What is so difficult to understand about this? It’s all legally formalized in international agreements and laws and regulations of the different countries.
The ‘general theory’ states that the government issues currency whenever it spends, and that bond sales are simply a reserve drain. But since Nixon closed the gold window that hasn’t actually been the case. The Treasury has to receive deposits in its account before it spends.
Lars, this is usually an astute crowd, but the easiest person to lie to is yourself, and when you think you are “smarter” than the other guy, sometimes it is hard to admit you are wrong. Here is a guy just recently arguing with a scientist that the earth is flat: http://www.youtube.com/watch?v=7j9Ja6bZDh4
You can see he really believes this. I was watching a special on NASA tv the other day about some CME (coronal mass ejection) scientists only a few decades ago arguing against the newer theories and basically ridiculing the younger scientist, later proven correct. People don’t want to feel uneducated or foolish, scientists whose reputation are at stake doubly so, but that is no reason to start getting emotional, I have noticed Warren has 2 times publicly lost his emotional control on this blog, that is a bad sign to me and very unspock like.
“When a bank creates a deposit balance for someone, they have thereby created a liability for themselves. And that liability is a liability for the state’s money.”
I used to talk with a Miami loan officer, he was intentionally makign bad loans that he knew would never come back on his bank and was basically given full leeway by his banking regulators, he gave his illegal alien relatives loans and they bought houses, cars, boats, houses for thier mistresses, and then sold the loans to some sucker pension fund in norway. Brooksely borne warned about these moral hazard problems, recently Citigroup chairman Reed said in an interview his jaw is agape that the same corrupted cronies are still influencing policy in DC and that the people have not risen up.
Warren says congress is the ultimate regulator of these banksters and a servant of the people, but that has been shown to be false and is beyond comment at this point. From kling’s 250 states, to ericksons own admissions everyone there in DC are basically crooks, to the recent Dimon congressional hearings where those boys were puckering up to Dimon.
Also Warren recently posted an article talking about holding up the USA as an optimal currency area to highlight what should be done in Europe, but no one here cared to comment on the Fed paper posted that argued that the USA was not an optimal currency area, but in the past Warren has ridiculed me for bringing up this idea saying why not make every human being thier own sovereign currency issuer, frankly I expect higher order mental acuity from someone of warren’s stature than that (sigh)
Now warren says this:
WARREN MOSLER Reply:
June 23rd, 2012 at 4:58 am
and the bank’s liability in the US is for all practical purposes FDIC insured so in that sense it is ‘state property’
Way back, on October 6, 2011, I wrote an article that addressed the probable return of gold to reserve asset status, in the private banking world. Now, the first steps are being taken. Once these rules are passed into law, for example, gold bullion will fulfill bank capital requirements better than Fannie Mae or Freddie Mac bonds. This reflects the real world reality. The proposal is a reform that could prevent future financial instability.
Perhaps, the most interesting thing about the notice, is its choice of words to describe an unspecified US “central bank”. Why describe the central bank in an amorphous manner? Why not refer directly to Federal Reserve? Perhaps, many people, in high places, including the top people on the Federal Reserve Board itself, have concluded, as I have, that Fed will not survive this crisis.
The most important thing from the standpoint of precious metals investors is that gold is slated to return to the center of the financial universe. Under this joint proposal, co-sponsored by FDIC, OCC and the Federal Reserve, gold will once again be a zero risk asset in the private banking world. It has been legally barred from that most important of positions for 80 years now. That return will have profound implications.
Lars, if warren owns a bunch of bonds, and his friend rickards owns a bunch of gold, in what future is it detrimental to Warren if he wants to purchase a new super yacht? ;) MMT ultimately rests on advanced monkeys doing good in thier hearts, but that is not the reality of history, even in the future “planet of the apes” we all blow each other up LOL!
“If there were no NFA creation by the government, where would the balances to pay the interest come from?”
As Warren points out, if income keeps circulating, either as a result of spending or through redistributive government policies, the system can sustain itself. It’s the leakages which seem to create the problems, not the expansion of credit itself.
The central bank has to provide new reserves over time as credit expands if it wants to maintain its target interest rate. Note, the cb doesn’t have to create new reserves every time a commercial bank makes a loan, just when more reserves are needed to stop the interest rate from rising above its target rate.
The cb could choose to follow a policy of targetting a specific quantity of reserves instead, but this leads to erratic and uncontrolled interest rate movements which threaten the payments system and, in turn, commercial banks. So, if the cb didn’t pursue a policy of maintaining a target interest rate, there’s a good chance that pretty soon banks could start to collapse.
Banks pose a threat to the government not by holding a gun to the government’s head (as you have suggested before), but by holding a gun to their own heads. The government has to help them if it doesn’t want them to blow their own brains out.
1. Is the government’s balance sheet really consolidated?
My household is different from my next-door neighbor’s household. His household debts are not my household debts; his household assets are not my household assets; his household transactions are not my household transactions.
And yet sometimes economists speak of the household sector, and the total debts, assets, spending or income of the household sector. Sometimes they speak of the entire business sector, even though businesses are also separate economic units. Sometimes they even combine both of these sectors and speak of the entire private sector. Amazing!
So the question has no unambiguous answer. It all depends on what level of economic analysis one is interested in working at. If you are interested in economically analyzing the entire government sector, then you need to combine the balance sheets of all of the agencies and branches of the government, just as you do with households to analyze the household sector.
In the case of the government sector, or the private sector, one can ask about the degrees and ways in which the different units in the sector are, or are not, operationally integrated, and what legal rules govern the behavior of the various units in that sector, and determine their legally permissible options.
But there is this important difference: in the case of the household sector, there is no household or cluster of households with direct operational control over the laws under which the household sector operates. But in the case of government, there are branches of the government that make almost all of the legal rules, including those under which that branch does and does not act as part of the economy.
2. Do commercial banks create their own reserves?
Commercial banks create deposits in the course of making loans, and the deposit creation initiates a process that sometimes leads to additional reserves being created as well. But if additional reserves are created, they come from the government. It makes little sense to say that the commercial banks “created” these additional reserves, because they have to pay for them. Nothing you have to pay for is something you have created. If an individual bank needs additional reserves, it has to buy them from another bank – that is, it borrows them overnight, and pays an interest rate for the borrowing. If expanded lending of the banking system as a whole necessitates an aggregate growth in reserves, it has to obtain these reserves from the Fed. It obtains them at a cost: the Fed demands something in return. What the Fed gets in return is either interest, if the banks grow the reserves through discount window borrowing, or a treasury security that the banks previously purchased from the government.
Is there choice involved? Not much. Banks automatically borrow the needed additional reserves, because they need to make their payments. And the government automatically sells the additional reserves, because it wants banks to make their payments, and wants to maintain its target interest rate.
By the way, when we say that a bank “creates” a deposit out of thin air, all we mean is that it issues an IOU, just like any one of us can issue an IOU. It is true people can come to exchange IOUs without redeeming them. But in the case of bank IOUs, they are almost always redeemed, because almost every bank deposit balance is eventually drawn on to make an interbank payment.
“MMT’s only logical base case is a fully government controlled banking system.”
I’m not entirely sure what you mean by “logical base case”. Please explain.
As I said above, Warren has laid out proposals for banking reform. He has also stated somewhere that nationalising the banking sector is a policy option, but as far as I’m aware it is not one that he actually favours. Does this mean that Warren is maybe deviating from MMT’s “logical base case”? Is Warren perhaps not really MMT? Maybe he’s more MMR? Oh my gosh.
FDO15 (June 23rd, 2012 at 2:40 am) asserts that according to Warren banks create their own reserves. This is a misinterpretation that is going around of what Warren means, and I am sure he will clear it up. Meanwhile, here is my understanding.
Warren has said that “loans create deposits and deposits create reserves.” The does NOT mean that banks “print reserves,” or enter them on the Fed spreadsheet, which is the only place they exist, since they have NO authority to do this and don’t have the password.
What it means is that when a bank issues loan and creates deposits putting them in need of reserves at the Fed and the bank neither has the needed reserves nor obtains them by borrowing, then the Fed loans the bank reserves as the lender of last resort (LLR) and charges the bank the discount rate aka “penalty rate.”
A bank not having sufficient excess reserves to cover its needs for settlement and the reserve requirement in its Fed account, and does not obtain them by borrowing on the interbank market, will automatically be covered by the Fed if the bank is solvent. This generates liquidity for the bank at a higher price than it would pay if it had done proper liquidity management.
Part of the Fed’s job description is providing liquidity to the banking system by acting as LLR as needed. This means that deposits can generate reserves by Fed action as LLR, but not “create” as in banks “printing” reserves themselves. Banks cannot create reserves in the same sense that the Fed can. Reserves come ONLY from the Fed entries on its accounting spreadsheet. They are ledger entries.
It’s too bad that this misunderstanding is proliferating, especially erroneously under Warren’s name, but unfortunately it is.
“there is no money monopoly in the USA. It is an oligopoly.”
I don’t entirely disagree with you, or entirely disagree with the MMT view either. My overall assessment is that whether the monetary system is a monopoly in exactly the way MMTers say, or not, is for all intents and purposes ultimately unimportant – but that’s just my opinion.
If you disagree, could you explain whether you think your refutation of the MMT “money is a public monopoly” claim affects the relevance of their policy proposals, for example?
Thinking about your comment, I was wondering whether something like the Disney company might perhaps be a good analogy. Disney has a monopoly on its brand, and sets all the terms and conditions under which other companies can present, represent, fabricate, sell or reproduce its intellectual property and products. The overall structure is entirely shaped and determined by Disney, to the extent that it wants to shape and determine it. But within that structure individual producers, retailers etc have a great deal of autonomy over how much they can produce or sell, what price to sell at, for example.
If Disney wants to cancel a contract, it can. If it wants to impose restrictions on retailers or producers it can, etc. Also, if it wants to give companies making and distributing its branded products a free rein, it can. It sells retail and producer licences at a given price, and sets terms and conditions, but isn’t directly involved in every aspect of the wider business.
This strikes me as being quite close to the “money as a public monopoly” view taken by MMTers. Just my view though.
“MMT 10? is trying to create a relationship between reserves and bank money where there is none.”
The mainstream view is that a higher base interest rate will discourage lending and slow the overall growth of credit, whereas a lower interest rate will lead to more credit creation.
MMTers argue against using interest rate changes to stimulate the economy or control inflation, and instead advocate setting the base rate to zero and using fiscal rather than monetary policy to regulate the economy. Monetary policy is said to have unpredictable distributional effects and other negative outcomes.
They make the point that a basic need for government money (reserves in this case) derives from the fact that people, businesses and banks have to transact with the government – i.e when paying taxes.
What’s the point you’re making regarding the relationship between reserves and bank money, and how is it relevant to the above? I don’t follow.
FDO15 brings up an important point about the assertion of currency issuer as monopolist. There is a huge kerfuffle raging over this right now, so it would be helpful to get a definitive response from Warren, who, IIRC, said that this realization was his fundamental insight at the time of writing “Soft Currency Economics (see Mandatory Readings in the nav bar), which led to the subsequent development of MMT.
BTW, Warren, “Monopoly Money: The State as a Price Setter” in the mandatory readings return a 404 not found error. The link was likely broken when NEP changed their blog format to WordPress.
“MMT is a dream to give the government more power. That’s all MMT wants. It’s progressive policy in a move towards a more socialist ideology.”
Okay, I get it. Your frankly odd arguments are just about trying to find some way of backing up this basic point: you dislike anything which you suspect might be a bit progressive and “socialist” because it involves trying to use government to improve things.
Why not leave out all the roundabout nonsense and just get straight to it? make some real arguments about why you think government needs to be strictly limited etc etc.
Personally I agree with you to some extent: government power does need to be limited. I see nothing in MMT which suggests otherwise.
The point is, we have this social institution called money. The question is how to use it to achieve the best economic and social outcomes.
If you have, I don’t know, some austrian school or monetarist ideas about this then why not just put them forward so a proper debate can be had, rather than all this stuff?
The debate drifted. I would like to reassert the following set of statements:
1. Loans and deposits are created simultaneously by commercial banks,
2. Central bank supplies reserve funds to commercial banks to defend the target overnight interest rate,
3. Bank lending is capital constrained not reserve constrained,
4. The banking system is endogenously creating/destroying spending power, allowing agents to purchase products and services before they have earned money to pay for.
The core issue in the latter debate about banking is the lack of convincing visual models of how the whole system operates.
4. Now look at the behaviour of the whole system “AT THE MARGIN” in the following cases:
a) An agent taking a loan in bank 1 and paying another agent with an account in the same bank
b) the same but when an agent with an account in bank 2 is paid
c) the person who was credited in scenario a) withdraws cash
d) the person who had cash withdrawn deposits it in the same bank
5. Consider now the probabilities of these separate scenarios and the interaction with the central bank which has to defend the interest rate by supplying / withdrawing funds acting as bank reserves and calculate the expected value of monetary flows caused by the stochastic processes described as the scenarios above.
The following example of money multiplier: http://www.econlib.org/library/Topics/College/margins.html
ignores the role of the central bank. Lending even in the US is capital constrained but not reserve constrained. This is how students are brainwashed on Econ101 – by introducing them to banking principles circa 1750.
What I outlined above is in my opinion the correct analytical framework. Someone needs to write an illustrated textbook showing step-by-step the transition from the micro model of lending to the macro model of money circulation between different groups of agents (the circular flow of money and the equation of sectoral balances).
It is irrelevant how much of individual bank deposits is guaranteed if we look at the behaviour of the system AT THE MARGIN. How many banks have folded in the US since 2008 in such a way that individual depositors lost their money? We don’t live in the 19th century – the era of free banking and periodic bank runs. For every practical purpose we can assume that deposit money is as good as government currency.
(To all fellow “deep thinkers” concerned about restoring sanity in our debate about the economy)
To understand the nature of money one has to look at the functioning of the whole system. Philosophising about money hierarchy, taxation giving value, buffer stocks and all the similar esoteric stuff only creates more confusion. A deductive proof doesn’t add any value if axioms cannot be agreed upon. It is precisely this pseudo-axiomatic approach what made neoclassical economics a pseudo-science – trying to replicate this dodgy methodology in the name of MMT is a recipe for an utter failure. “Normal” ordinary people get bored after reading the first sentence and they don’t really care – they will go and vote for the biggest austerian in the town because he/she can convince them that “the debt has to be repaid”.
Throw this intellectual garbage away! Think like computer system analysts do – build a description/model of the system bottom-up and only then draw any conclusions.
As a novice and interested observer it seems there are slippery words and confusion on whatever principles there are. I personally have a hard time learning MMT as it doesn’t seem to be defined in a rigorous manner. I grew up learning geometry with postulates, theorems, definitions and proofs. Defining MMT rigorously would put everyone on the same track and help discussions.
On a side note, why does the government shut down banks?