Sunday, February 3, 2013

Do We Need Banks and 'Physical Cash Mysticism'

     A recent post I wrote about Scott Sumner and his urging Keynesians to not discuss GDP but only NGDP-the argument is that the need for more aggregate demand is about raising aggregate spending in the economy not necessarily more GDP-led to some interesting responses by a couple of Diary of a Republican readers.

    Actually one such interesting response came from someone who prefers to leave themselves anonymous. However, Anon had a thought provoking response. He actually left three comments, all provocative. However, this one got me thinking about just how important physical cash really is in our turbo economy with 24 hour a day ATM transactions.

    "Also, on a slightly different subject, I know Nick Rowe, Scott Sumner, and Paul Krugman went after Keen and his MMT defenders regarding "Banking Mysticism" ... but it seems to me the real mystics are what I'll call the believers in "physical cash mysticism." I know I've read some pretty straight forward Krugman articles on this, but I think both Sumner and Rowe have engaged in this as well (though it's harder to tell if those two are serious). The idea seems to be that they assign some sort of special significance to physical cash (bills and coins). I don't get that at all. Do you? If I get paid in $100 bills the only "hot potato" effect will be me getting to the bank ASAP and converting that back into electronic money."

    A regular commentator, Greg had this answer:

    "I think the banks have a concern with physical cash because THEY dont control it once its in our hands. They see large conversions into cash as assaults on them, which really should be an aha moment for the rest of us. Banks NEED us, more than we need them. Banks want to make loans, if we just go to cash and decide to live simply, why on earth would we borrow $10,000 so we can pay back $15,000? We've been fed for years that banks are the drivers of wealth creation. No they are not they are simple facilitators. They dont bring wealth anywhere, they go where there is wealth and make a profit off it.

They are no different than govt in this respect. Govt is a facilitator that charges a fee called taxes, banks charge interest. The interest goes to very few people and is pretty expensive, taxes get recirculated into public goods for all in exchange for their expense.

     I don't know that I agree with this. It seems to me that Greg-while I agree with often, may be falling pretty to physical cash mysticism. I don't mean to pick on Greg, and hope he doesn't take it that way. I just find this issue very interesting and crucial to properly understanding the monetary system.

    Actually there is a wide literature that in teh future cash may more or less die out as a medium-though not necessarily too soon. Already we do a large amount of our transactions in cash. I don't agree we'd be better off if we did all or most in physical cash. I agree with Anon-it doesn' matter too much.

   I'm not sure that this is what Greg thinks. My point though is not personal just that I think physical cash mysticism is a mistake-not necessarily saying Greg has it. I notice that many of the extreme Rothbardians seem to believe that physical cash-or for them especially gold coins is somehow empowering. This I don't agree with.



  1. Hi Mike, I'm "Anonymous" and my name is Tom Brown. I leave comments at (Roche's site), Sumner's site, Rowe's site and Glasner's site under that name. It's not that I prefer to remain anonymous it's just that I looked at the choices you had under "Comment as:" and none seemed to fit... so I went with the easiest choice... "Anonymous." OK, so this time I'll try "Google Account" and see what happens.

    I didn't even realize you had his article up until just now. If you look back at your "Sumner's Advice..." article, I responded to Greg with a set of links to Sumner, Roche, and Glasner comments where I'm trying to get to the bottom of this "physical cash mysticism" business. Especially Glasner because he seems like the least dogmatic of the MMers... but I'm having a tough time pinning him down on what he means exactly by "currency" there.

  2. ... oh, and New Economic Perspectives, and Steve Keen's site... I occasionally comment there as well. I'm a total amateur and am really just trying to figure all this stuff out. I have to say that I've learned a lot from all those places (including here -- I've been reading articles here for some time), but my favorite has been pragcap. It's not just my interactions there with Cullen, but with some of the other commenters there such as Romeo Fayette and "Joe in Accounting." Those guys have filled in a lot of gaps for me regarding the mechanics of how the system actually works. Also Scott Fullwiler... he's been gracious enough to respond to a few of my emails and really helped me out a lot. Cullen, however, is in there every day answering questions and engaging with people, so that's why his site is my favorite.

  3. Thanks for your comments Tom. I apreciate that you have read me but I also like when you comment as you have some incisive commentary.

    I too am a total amateur and really desire first and foremost to understand the monetary world.

    I agree it gets confusing in being clear what you're talking about with the differnt terms. To me "money" is what is money in any form. I read cash probably as you mean it-paper bills and coins. Maybe it can be confused but I feel like I get what you mean.

    Of the MMers Glasner is pretty openminded. Sumner is good at what he does, but seems to get more snarky and defensive every day for any criticism or disagreement.

    He basically rules out any heterdox econoimc ideas out of hand though he also likes to kind of poisse as being heterodox himself. At the end of the day though he like the rest of them is a Neoclassical.

    I have come to see Cullen as a good guy to really learn from. I like his manner-no snark. The MMTers I think are probably right about a lot of it but sometimes their attitude kind of alienates.

  4. Greg, that you would have no problem with getting off physical cash is a good thing-it shows me that you're basically where I'm coming from.

    I do think that the private sector is of value too. I don't think that the profit motive means that what it does is morally bad or not important. I do think that the banking system is necessary to our further growth.

    I do think the private sector has contributed as well. The government and private sector I see as kind of partners neitehr of which are all good or all evil. The Right thinks the public sector is evil, the Left that the private sector is.

    If we had no private sector we'd be stuck in the Middle Ages.

  5. Anon: "If I get paid in $100 bills the only "hot potato" effect will be me getting to the bank ASAP and converting that back into electronic money."

    And what happens next? What does the bank do? And if the bank returns it to the central bank, what does the central bank do?

    Beware the fallacy of composition: any individual can get rid of the hot potato by passing it on, but that doesn't mean that everyone can get rid of the hot potato by passing it on.

    And bank money too is a hot potato. Just because I willingly borrow $10,000 in electronic money from my bank doesn't mean I want to *hold* an additional $10,000 in my chequing account. I borrowed it because I planned to buy a car. The guy who sold me the car doesn't want to hold it either. Money (the medium of exchange) is weird like that.

    Money is not like other assets. I don't buy a car unless I want to hold that car. Unless I'm a car dealer, who buys it because he wants to sell it again. We are all dealers in money. The MMT guys treat money just like bonds. It's not.

    Is it OK to ignore banks? That depends on the question. Remember that the Bank of Montreal promises to redeem its monetary liabilities into Bank of Canada liabilities at par. That's what makes the Bank of Canada more powerful than the Bank of Montreal. If the Bank of Canada promised to redeem its monetary liabilities into US Fed liabilities at par (as it used to under fixed exchange rates) I would be looking at the US Fed to figure out Canadian monetary policy, and ignoring the Bank of Canada.

  6. Nick nice to hear from you again. I was wondering if you still dropped by.

    To clarify, you don't agree with the charge of "physical cash mysticism"-that MMers and others put to much stock in the physical forms of money?

  7. To me, the physical form of money is irrelevant. (OK, that's too strong, because there are lots of practical reasons why physical form matters, but I normally abstract from all that when I'm doing monetary economics.)

    What matters is who promises what, and who uses what, and who does what. Physical form matters only insofar as it affects those things.

  8. Nick, thanks for your reply. Glad to hear that "the physical form of money is irrelevant" to you! That clears up your position in my mind somewhat. I agree that when you take out a loan you generally have something in mind to do with it. I think the most common form of this is a credit card purchase (which is how I buy 99.9% of everything these days). You take the loan and make the purchase in one step. I can think of a just a couple of personal counter examples involving 401k loans and home equity loans where there was a "just in case" element, but generally I agree.

    Re: what does the bank do with it? Well if it's in excess of their physical cash requirements, I would suppose they do send it back to the central bank in exchange for the more convenient electronic reserves. Vault cash is a form of reserves already. Does anyone know if the Fed pays interest to banks for their vault cash since those are classified as reserves?

    But regarding someone paying me with money they've borrowed.... I can tell you that my sense of urgency to buy something with it is MUCH diminished. Once I deposit a check... I'm inclined to "let it sit there." I know I've got bills to pay coming up (like that credit card bill I pay off in full each month). Yes I know that that's what I have in mind (pay my bills). So I guess that's my "hot potato" then? When enough funds build up I'll transfer some to a bond fund or something. That's about it. If my income doubled tomorrow my plan wouldn't really change too much. It's a real ho-hum hot potato for me.

    But yes, on the buy side, I agree: I borrow and purchase in one step every single day, multiple times per day.

    Which brings me to what happens to those bank reserves. It seems to me there are only five ways for them to leave the consolidated balance sheet of the banks. And do you agree that right now there's a glut of excess reserves due to QE?

    1. Withdrawn as cash by customers... and aside from the bit they permanently lose in the couch or accidentally destroy in the wash, that money makes it's way back to a vendor and then into the bank as reserves again. A wash.

    2. Swapped with the CB during OMO for Treasuries. Not really happening now, right? In fact QE is the opposite of that.

    3. Used to buy bonds from Treasury. But Treasury spends all those proceeds again and they end up... right back as bank reserves. A true wash.

    4. Well this one really just applies to excess reserves. When the bank makes loans, a small fraction (10%) of the loan amount of their excess reserves change status to required reserves. But they're still reserves and they still earn interest.

    5. Pay taxes. But unless the government is running a permanent surplus (examples please?) those reserves will get spent by the gov into the economy again and thus end up as bank reserves again ultimately.

    So I don't see those reserves really going anywhere until the CB again starts doing 2 or until the gov starts running permanent surpluses. I realize that looking at things from the banks' consolidated balance sheet perspective misses the movement of reserves between banks.

    I'm not using the above the try to argue against your hot potato effect... I'm just presenting this to see if you agree with my characterization. Have I forgotten something?

  9. Nick/Mike: something I've always wanted to ask here, perhaps slightly off topic, but just in case you take another look here, let me sketch a super simple example, and tell me where I’ve gone wrong: Say we have persons x & y, and banks A & B and everybody’s balance sheets are empty… and there are no reserve or capital requirements. My question is about banks acting as an "intermediary" as Sumner and Krugman always say.

    x wants to buy y’s house for $100k, and gets a loan from A to do so. In the process of clearing the payment, A’s CB reserve account is overdrawn and B’s CB reserve account credited. A borrows B’s $100k of reserves to repay the CB by the end of the day. A makes money on the spread between the interest it collects from x and the interest it pays to B. B makes money on the spread between what it collects from A and what it pays to y. The CB had to TEMPORARILY create $100k to credit B, but was repaid by A by the end of the check clearing day, leaving the CB w/ an empty balance sheet again. How has A or B acted as an intermediary for anybody else’s deposit, since they all started off with empty balance sheets?

    Nick if I get the gist of your "short term, mid term, and long term argument" which I really don't, since I admittedly need a better education in fundamental mainstream economic theories, you say that in the long term the CB can influence the private money creation process in my above example by adjusting interest rates every six weeks to hit their inflation target (long term). So how does this play in my simple example? Does it ultimately affect the price of the house next time this scenario plays out? Mike if you know the answer I'm all ears. I know Nick's argument will involve variables like r and Y etc and IS/LM curves and the words "perfectly elastic with respect to" and "perfectly inelastic with respect to" and that's where he loses me. I guess I'm just looking for a little insight into how his argument fits into my super simple example. Price of houses purchased in this fashion (i.e. w/o any reserves permanently created) in the long term? Size of the "spreads" involved? ... or is the answer "get an econ 101 book and come back when you've finished it and we'll talk?"

    1. Yes Tom often it sems that's what mainstream economists want to tell amateurs-you're not smart enough to understand, or at least, you lack the background.

      It does seem suspiciously like a priest telling you to convert and then you'll understand Catholicism

    2. Mike, I do feel a little guilty for not learning neo-classical basics in a systematic way (guilt -- Aha, your "Catholic" analogy may be right!)... I'm just kind of absorbing what I can here and there. My mind has already been "poisoned" against it by reading about a 1/3 of Keen's book. But rather than just getting pure negative propaganda, I'd like to hear the story the acolytes hear. It honestly doesn't sound that hard (how's that for arrogant? Ha!)... but I wish, for example, that Nick could demonstrate what he's talking about sometimes with graphs in his posts... instead he ends up describing the graph with words... and for folks who know what he's talking about that's fine I guess, but I don't have a good feel for it, so it leaves me cold.

    3. Oh, I agree with you entirely Tom. I too am trying to understand Neclassical econ better. I agree you shouldn't only read its detractors. I also agree that it's very tough to break into.

      My Cahtolic analogy was more just the attitude of some of them-Sumner is a classic example.

      I like your approach and think it's much better than the off the wall snark you get with many MMTers.

      I remember when Sumner had a few posts about MMT that generated over 200 comments each-he's stopped doing this now; now he prefers to dismiss MMT out of hand-some of these MMT comentators did themselves and the school no credit.

      I remember some pretty trifling comments like this guy who was like 'and how do I know this? I work at a friggin bank!'

      Of course Sumner and the rest held that up to endless derision.

      So your approach is the right one if we really desire understanding rather than snark and theatrics.

    4. Hahaha! believe it or not, I recall that post where you talked about the guy that said "and how do I know this? I work at a friggin bank!" ... I think that was the first time I looked at your blog!

  10. One issue Tom in your scenario

    If everyone starts out with an empty balance sheet why would a bank make a loan to you?
    How do you repay it? Banks want evidence, HARD evidence, that you can and will repay. If my balance sheet is empty how do I qualify for a loan. If I have income my balance sheet isnt empty.

    Nick has done the same thing with some of his thought experiments too. Banks dont just create money exnihio they create a special type of money, credit money, which they will only "give" you if you have access to the same type of money they want to be repaid in.

    1. Greg, I get your objection, but you CAN have an empty balance sheet AND an income. Granted your balance sheet won't stay empty for long, but that is a possible state of affairs. And I guess y did start off with the house on it's balance sheet.

      I also failed to mention how A secures a loan from B (y's bank).. but they have the loan to x they can offer as collateral.

      Yes, it's a cartoonish, self-contained over-simplified example. But I've found this same basic scenario useful for working out the mechanics of how various aspects of the system work. We can add in reserve requirements and capital requirements, etc. but it doesn't change the essential question here.

      I'm thinking that if the CB is targeting inflation long term, and this same scenario plays out many times over the course of a long period (i.e. lots of house purchases but no net new reserves created), that of course the house prices must rise at the targeted rate. If they don't rise fast enough, the CB lowers rates. If they rise too fast the CB raises rates. This seems plausible, but the CB has little control over the quantity of bank money created in this case. That depends more on the total number of house sales in any one period. The CB is just targeting the rate of change of the price per house (and yes, I know... perhaps house prices are not included in the CB's determination of inflation... again, I don't think that's a pertinent point.. we could change it to cars if need be, or something else). Maybe this example isn't good since if more houses are being sold I'm assuming some sort of balance between the number of sellers and buyers that just happens to work out and does not affect the inflation rate. I don't know about that.

      I'm really just trying to understand Rowe's "Banking Mysticism" argument since I got the impression he probably wouldn't have a problem with my simple example here because he stated something to the effect that he agreed with the MMT guys that banks could create money, but ended up siding w/ Krugman anyway (we're going back multiple months here, BTW).

      I wanted to set up an example where it's clear that reserves are not permanently created, and the CB balance sheet remains clear. Why?... for my own clarification... sometimes I read the arguments (especially Krugman) and I think he's reasoning with the old loanable funds model or the Money Multiplier model, which I think my example here excludes. Regarding loanable funds... Sumner has just repeated several times over the last 24 hrs that "banks act as intermediaries" and he got lots of support from that from his commenters... I posed the same question over there asking "in this example, how is the bank acting as an intermediary between a saver and a borrower?" Perhaps I'm misunderstanding what he means by "intermediary." No answer yet over there!

    2. Unfortunatley I might not expect an answer in the future either from Sumner at least-maybe some of his good commentators like Saturos might give it a try.

    3. Mike, I did get a reply from Geoff:

      Unfortunately he gave up on my example, but he did give a description of an "intermediary." Don't know if Scott would agree though.

      My example was a bit complicated (basically the same one I gave here) especially since I tried to fold in required reserves. I like it because it inherently answers common objections: "Sure the banks can extend credit NOW, but they'll eventually have to come up with reserves" -- well yes maybe, but they can borrow them right back again if they do (even from the recipient). It's all about the spreads! It also demonstrates no reliance on existing deposits, or even permanent reserves. It's a pure inside/endogenous money situation.

    4. Tom

      How can you have income AND an empty balance sheet? If income can be verified it is an asset. If a bank cant verify your income you dont get a loan (unless its 2004-6 and the liar loan program is up and running!!).

      I dont see how an income receiving entity can have an empty balance sheet.

      See, this gets to the heart of something that has been maintained by many, especially Cullen Roche when discussing these issues. Cullen is fond of saying that the govt doesnt create anything that they are a facilitator. I agree ( although facilitation might be the most important function we do.... think catalyst in biologic reactions) but the same "charge" is true of banks! Banks are not creators, they are facilitators as well. They dont come where there is nothing and give it something. There must be production in place and incomes being generated before a bank can come in and profit off the growth.
      They are profit seekers so there must be something to profit off of.

      If you went and started your own country on a new undeveloped piece of land you wouldnt build a bank first so that money could be lent and production begin. You would start doing something first. Creating things out of existing materials, organizing people into working together to build the things you felt you needed to get started. Banks wouldnt be a part of the landscape til there was already production and reasonable odds of MORE future production.

    5. No doubt banks were less important in older smaller less complex economies.

      I do think they're very important now-over the last 130 years or so.

      Without banks-credit-we could not grow at the pace we've come to expect.

      I hear a lot of populist rage at the banks but it's not obvious to me today how we could just declare that the banks can all melt and we'd be just fine.

      We wouldn't have the kind of growth we want. So even if politically there's a populist desire to say "burn the banks" I don't really see it.

    6. Again, Greg I think that both Minsky and Schumpeter showed that to finance the level of investment a modern economy like ours needs we do need to spend more money than we actually have.

      Banks faciliate that.

    7. OK, fine, put income on the balance sheet! I'm not an accountant either, so I don't have experience with what belongs there. But you could lose your job in an instant... so that "asset" could evaporate quickly.

      I know all kinds of things go on balance sheets (like "goodwill"), but I'm following Fullwiler here with my example... he's got people taking loans FOR NO REASON and no income on their balance sheets. I'm trying to keep the example simple in the manner Fullwiler did. See his "Krugman's Flashing Neon Sign" article. My example is really just a slightly modified version of his.

    8. I must be doing a really shitty job of communicating because I am not ;

      1) In favor of a smaller less complex economy
      2) Anti bank per se
      3) Against spending more than we have (using credit)

      Maybe I need to start here; We are back at square zero, maybe square 0.5, meaning at this time we are trying to figure out how to get our economy restarted. No one that I know thinks we dont need to restart in some manner. Its all about where and how we restart. So the question is what will restart us? Can a bank just up and start making more loans to people.... today? Additionally, should we simply ask every american to put themselves into deeper debt for the good of the economy? Bank borrowing cannot restart us. Bank borrowing crashed us. It was our levels of private debt that led to the crash not the levels of govt debt. People will not borrow more til they have paid off much of previous debts, have a reliable income near the same level and need something they cant simply buy out of present income. Why else would they borrow?

      Im simply trying to point out the limits of bank credit extension and we've reached it. And policies which put state govt workers out of jobs, make more private sector workers take less income and raise costs for all workers through healthcare and retirement savings are counter productive to encouraging MORE borrowing. Think about it.... we deliberately make them unemployed (under the guise we dont have the money), cut their hours, raise their health and retirement expenses and then say "Oh yeah, BTW the economy needs you to go and borrow more!!"

      Monetarist ideas are frankly idiotic. They get the whole picture backwards. Chuck Norris cant just tell us how much stocks or houses are going to be worth and make people feel rich, inducing them to spend more. Stock prices must rise and house prices must rise because people are demanding those items with their money. Otherwise its a sham, and people know it. And if only 1% of the people are participating in those auctions its a broken market. Do you want 5 or 500 people coming to see your house for sale.

      Banks arent magic. They profit from others and in good times play a role in helping to determine good investments.

      Im very much in favor of spending "money we dont have" because my view of money means that phrase is somewhat meaningless. What we have and are able to create with coordianted activity IS money.

    9. It's not necessarily you Greg. I'm just trying to get where your coming from on this.

      Just so your clear what I don't favor I don't favor any of this:

      "policies which put state govt workers out of jobs, make more private sector workers take less income and raise costs for all workers through healthcare and retirement savings are counter productive to encouraging MORE borrowing. Think about it.... we deliberately make them unemployed (under the guise we dont have the money), cut their hours, raise their health and retirement expenses and then say "Oh yeah, BTW the economy needs you to go and borrow more!!"

      Other than perhaps it would be a good thing for there to be more credit, but our economy is clealry not strong enough for that yet.

      I understand that with a major debt overhang it will be awhile until we are able to have major credit expansion again and that Pace Minsky there is a downside to credit expansion as well.

      I was just trying to be clear what you're saying about the place of banks in the economy. Cullen Roche recently put the situation well:

      "So what this all really comes down to is rather simple. It comes down to whether we want to have a private sector banking system and a government that supports that system. Paul Krugman’s original question touches on this, but not quite in the right manner because the Fed, at the end of the day, is a public/private hybrid entity designed to support private banking. The alternative to this system is to start tearing down the walls of the Fed and start taking a jackhammer to the foundation of private banking. The government must choose to use the Fed and Treasury to support the capital structure of private banks or it must not support it and accept the destabilizing effects that will inevitably result in bailouts and government intervention. You can’t have it both ways."

      "In sum, yes, we could theoretically self finance, but a lack of risk free asset issuance will simply result in a destabilizing banking system. So we can self finance and issue the bonds, but then why bother changing the institutional structures from what they are today if this all ultimately ends up supporting the private equity structure of private banking in the end anyhow? It’s not even worth the trouble. On the other hand, the only way to self finance with direct deposit issuance without also creating an inherently fragile private banking system is to bring the banking system under the government umbrella in that dirty “N word” (no, not your favorite word, Quentin Tarantino). But then a bunch of bureaucrats end up managing their own form of the shadow banking system…."

      "I’m afraid the best we’re going to do in altering the current system is to better regulate the banks and better understand the actual structure of the monetary system we have. The platinum coin created a great thought experiment for everyone and hopefully provided some important lessons and understandings about government spending and our monetary system, but this dream sequence is ending and it’s now time to wake up to the reality of our monetary system designed largely around the existence of private banking."

      Do you largely agree with Cullen here or would you take issue Greg? In particular his comment 'I'm afraid that's the best we're going to do in fixing the current system...'I ask you this to better guage where you're coming from and whether or not we're wholly on the same pajge regarding this.

    10. Mike,

      Sorry for the delay in responding. Sometimes I actually have to work dammit!!!

      Ive followed Cullen for a long time and have had numerous back and forths with him in his comment section, AND he has, on more than one occasion, told me that I was right (in his view) about my take on a subject. Now I dont say this simply to toot my horn but to point out that Im well aware of Cullens ideas. I share many many of them. I also think he is one of the more straight up guys out there. I like him a lot.

      Now I must also say that I think he doesnt go far enough in some of his ideas and Ive told him so. He wants to simply describe and not take sides in a policy debate (too political he says). He wants to sort of throw up his hands and say "Well, we've given control of our money system to private banks and we just have to live with it" He will call for more regulations but doesnt go very far in describing which ones. He will call for more fiscal action but hesitates to let govt make too many decisions. He chides MMT because it is too political and believes too much in govt action, saying that govt is JUST a facilitator, but neglects to add that in truth.... THATS ALL A BANK IS!

      So do you want 1% of the people via a private money system making all the decisions for the rest of us or do you want a more democratic system? Yes it will make banks LESS powerful.......... and they will fight it............ but the alternative to what we have is NOT a Soviet style command economy. There are many gradations in between and a move towards less 1% control of everything is a positive move............. in my view. I also think it is the strong majority view.

      Our current arrangement ends up with 90% of the people with too much debt TO banks and not enough debt FROM govt. Govt debt should be more equitably distributed and no hard ceiling on it and private debt should be limited to 200-250% of income

    11. Greg a few thoughts. I don't have a problem with Cullen doing more "descriptive" analysis as there's a place for that too.

      I tend to agree with MMT on many things-not neccessariy everthing. However, it's not just about what you think is the right view point. I do need to understand the monetary world more. Simply declaring we don't need the banks and leaving it there doesn't teach me anything.

      There are enough people with strong prescriptions out there-on the MMT sites. Cullen does something important in giving a strong sense of how things work.

      To change the world you need to understand it some too. Whether or not your prescriptions are right, it's welcome to have someone who just explains how the world is without always telling you exactly how it should be as well.

      Obviously I want to know how the world is the better to change it.

      Much of what you write over here I've agreed with. However, when I hear you talk about the banks and the rich, what's missing is any clue as to what you want to replace it with.

      I'd be interested to hear more about what you would like to see rather just what you don't want to see.

      I'm not clear how we fund the level of investment we need in our complex, very large economy, without banks.

      I know you say you don't oppose them per se. Well then how are you different than Cullen? What should they do to the banks?

    12. When I say we dont need banks, I mean we dont need THESE BANKERS (and their ideas) in charge of banks. The idea of private entities creating credit money and using that to invest in human enterprise is a good one. But we must realize the limits of it. Allowing banks to grow to where they are dominating world markets is a lot different than making decisions to help their local areas grow. Now Im using banks as a catchall term to include Wall St, although I think that is fair since under Clinton Wall St firms got to be treated like banks, with govt protections of certain deposits and access to the fed window and range of emergency lending facilities.

      We have had privatization gone wild and frankly its undoing our society. Having private prison systems that seek investors and look to states to "guarantee" a level of occupancy to protect their returns??? I see that as nothing but sick and totally fucked up. The incentives are becoming perverted in too many areas.

      The investments that need to be made are not just on local scales. Revamping our energy grid, improving our public transportation systems and health systems are not projects for a few smart individuals in private investment areas, these require the scale of govt investment we put into the Manhattan project and rural electrification of the 30s 40s, in my view. Make the investment, screw the returns. The returns will be "real " not financial profit.

      Im not anti rich, I dont want everyone to "make the same" as is sometimes thrown around about someone who criticizes modern American capitalism. I want successful people to reap benefits of their labor but people who just sit around and trade bonds and try to get their "savings" protected by insisting that all these worthless public workers (and private ones too....unionized ones) sacrifice more are the toxic parasites of society. They no longer produce anything other than credit for SOMEONE ELSE to pay back!

      I dont pretend to know all that should be done to banking. I defer to Warren Mosler there for ideas to reign in their excesses. I simply want a different ratio of credit money to govt money in the economy than we currently have. Too many things require going into major debt to some bank to happen, and its not necessary. Its simply choices we make, and most people are of the view that TINA............. which is the BIG lie!

  11. Here is the other thing Tom. Your scenario makes it sound as if banks control the lending process completely. They do not. Borrowers SEEKING loans control the process. Banks can set the price of the loan, but they cant go out and just create their own customers.

    Now in our system today, banks have a captive audience, its like being the popcorn salesman in the movie theater. They cant go anywhere else but if they dont want popcorn you aint sellin' any. Banks are the primary way a person obtains money here, via credit creation denominated in US$. But they cant MAKE people borrow, they have to induce them and the customers must have something in order to borrow something. In fact they have to have a reasonable chance at access to more than they borrowed in the near future. Monetarists seem to ignore this basic fact thinking that Chuck Norris can come out and MAKE everyone play hot potato via the banking system.

    Its absolutely clear that banks are not simple intermediaries between savers and borrowers (if you bother to look in the right place). They dont need a single saver to make a loan. If a person arrives at their door with the right credit profile a loan will happen regardless of whether or not anyone is saving there. Its true system wide too.

    1. Greg, I absolutely agree with everything you write here except this "Your scenario makes it sound as if banks control the lending process completely." That certainly wasn't my intention! I agree that x needs to WANT to buy y's house and y has to WANT to sell it to him. If anything, my scenario is meant to imply exactly the opposite. Rowe has an old article up called "The supply of money is demand determined":

      He says it "made his flesh creep" just to write the title. Haha.. He says the assertion in this title is a statement which is not even not even wrong, and then explains why. I've read it and related pieces by him several times. I think I get some of his basic points there, but if anything the "stock" of bank created money (to adopt his language) in my long term example is being determined by the number of willing buyers and sellers and NOT by the CB targeting an inflation rate. I want to know what's wrong with that assessment (if anything) from Rowe's point of view.

      I'm coming from a position sympathetic to your views, but my purpose here is to try and understand objections to this view more clearly... thus I'm trying to tone down any confrontational aspects and start from a position both sides can agree on. If Nick has a problem with the basic set up in my example, I want to know what it is. If it's a problem with something else I've written I want to know that. I'm certainly open to being convinced that my current views are not correct!

      The basic problem is I'm not an economist and I'm trying to get him to speak in language I can understand. Otherwise I've got to learn his language :(

  12. Greg, you might be interested in this as well. I got into an exchange on Sumner's site with "dtoh" who took some time to explain his view of MM to me. The thread starts here:

    I can't say I REALLY understand all his points, but I get the rough outline. He has emphasized that changes happen "on the margin" so it's not as if Chuck Norris is out there twisting my arm to sell my Treasury to the Fed. I've got to want to do that, but his point is that he believes enough there are enough Treasury holders out there "wavering on the edge" who will ultimately sell and thus increase AD. I'll let you read it to see the details.

    Mind you I'm still not convinced, but I wanted to understand the whole story over there, and he gave me the seed of something to chew on.

    1. I cant go to Sumners site anymore, I get hives when I do. Ill just say this about dtoh comment;

      AD is NOT people swapping assets with the fed, its people swapping assets with each other. This is like thinking all one needs to do when someones heart has stopped is give a blood transfusion to get blood flowing again. Unfortunately it doesnt work that way....... even if its Dr Chuck Norris giving the transfusion.

    2. I agree, however, let me try again (since I wrote the above I think I've learned a little bit more about dtoh's ideas... which he says are nearly identical to Sumners, but he does a much better job of explaining them!). His argument boils down to NGDPLT through Fed OMPs of financial assets will tend to raise the value of ALL financial assets which will in turn make "goods and services" (defined very broadly) look like a bargain. I'm probably butchering this a bit... but I'll press on. I objected saying that many bond holders want a safe asset, but he responded that no one is forcing them to abandon their bonds... however enough entities out there hold/buy bonds for their inflation/risk/ weighted return that they will move out when the conditions are favorable. This exchange into "goods in services" (which could include a company issuing bonds or stock to build a new factory) will raise NGDP. Now NGDP isn't GDP, so it might just raise inflation. I didn't get into that with him. And I still don't agree with him regarding his position on paper money, but I don't think he (at least) is advocating some kind of "mysticism" there. I'm withholding judgement on Sumner and Krugman in this regard until I learn more.

    3. Sumner never does such a great job explaining. Maybe in his mind it should be obvious to people who understand economics and theres no time to explain elementary stuff.

      There are some commentators that do a good job of explaiining him-Saturos is another really good one.

      Krugman and Sumner are quite different on many things.

    4. True, on the broadest level they are both Neoclassicals but they differ a lot and certainly aren't identical

    5. Mike, I agree Sumner and Krugman are quite different on many things, however it really is primarily Krugman I had in mind who criticized Keen for "Banking Mysticism" (although I'm pretty sure Rowe did as well), and I think Krugman has been the most straightforward in advocating some special attribute to physical cash and to the "loanable funds" model (in contrast to the banks-don't-loan-out-deposits-or-reserves [to non-banks], they create money "ex-Nihilo" (as Roche likes to say) via double entry accounting) and (I believe), Krugman subscribes (or did recently subscribe) to the money multiplier theory as well.

  13. Tom and Greg appreciate all your fascinating comments-very penetrating stuff. I was out but when I get a chance to catch up and read them properly will get back to more.

    Some very important questions. I have certainly not lost interest! My hope is to understand monetary matters a lot better than I do now.

  14. Nick obvously it's an honor whenever you comment! I'm happy that you continue to read it. I think that you unlike Scott-not that he's a bad guy I really mean this-seems to take it peronsally when I question him on certain points.

    I just want to understand and whether or not you guys are right about everything you have more knowledge than I do.

  15. I meant of course, that you unlike Scott don't seem to take disagreements personally.

    Anytime you find a discussion of any interest your comments are more than welcome and helpful. While I like Krugman the one thing you can say for both you and Scott-and Glasner and Lars, etc-is you take time to answer comments from the public directly.

    1. "While I like Krugman the one thing you can say for both you and Scott-and Glasner and Lars, etc-is you take time to answer comments from the public directly."


  16. Mike, I introduced this idea of reserves leaving the banking system to "dtoh" on Sumner's site. We had a great back and forth on his view of MM prior to that (above link), but here I'm just asking him if he agrees w/ my characterization of how reserves can leave the banking system:

    If you follow the comments, it starts to get a little strange regarding what he's calling "cash." Again this gets to the issue of "any significance to the physical form of money?" I'll be interested to see how he responses... I provided him w/ Nick's quote above.

    It comes down to this IMO: excess reserves will just continue to pile up if the Fed starts NGDPLT. Yes, perhaps there's something to dtoh's argument about AD, but in terms of the consolidated bank balance sheets (for all the banks), those reserves don't go anywhere until the Fed wants to put the brakes on the rate of NGDP growth, and starts exchanging the bonds on their books for excess bank reserves. I don't see any other practical avenue, aside from the "paper bills and coins withdrawal" route, which dtoh seems to latch onto... and then (I think) starts conflating with customer bank deposits (electronic money). I just don't see the paper bills and coins route as significant, but what do I know!

    Now does that serve as a counter argument to the hot potato effect, or as dtoh puts it, "the financial asset price model?" Perhaps not, since the consolidated bank balance sheet tells you nothing about bank customer money (bank deposits) moving between customers which may or may not involve matching movements of reserves to clear payment, and for other necessary inter-bank loans (e.g. to meet reserve requirements, etc.).

    So the picture I get in my mind is the Fed just continues to load up excess reserves into the banks, which goes nowhere (in aggregate) but I think their argument is it causes a lot of activity between various bank customers to start heating up with "real goods and services" (as dtoh puts it), thus increasing AD. The Fed only reverses the process when in danger of overshooting their NGDP target.

    Unless (of course) they don't like this image and fall back on assigning some special significance to paper bills and coins. I'm not sure why that would happen, but sometimes I think it does in these debates!

  17. Mike, I think I've said all I can on this for a while, but I will say that "dtoh" makes a convincing argument. I'm not 100% sure, but I don't think anything he says is in disagreement with Cullen's MR (which I'm most familiar with). Of course he's advocating a policy that I don't think Cullen would champion, but since MR is supposedly "ideology free" I think there's room for dtoh's ideas (which are very similar to Sumner's, but IMO explained more clearly and perhaps more insightfully) w/in the MR paradigm. I'm not sold, but he at least convinced me that he probably knows what he's talking about regarding how the system works. At first I thought he might be advocating a "cash Mysticism" but changed my mind after a bit.

  18. Ok. What was it that changed your mind-he does seem in his 1. to be saying that their could be more NGDP with more cash being used during a boom.

    1. I thought so at first, and at second, and third for that matter, but let me quote the bit that changed my mind:

      Oh, never mind, he just made it much more explicit here:

      Especially this part where the 1st part is my question reprinted:

      So humor me for a minute and suppose we did get rid of paper bills and coins; would that significantly hamper or otherwise change the mechanism you describe above regarding NGDP growth?

      Not at all.

  19. Random thoughts:

    1. It's 6.00pm and I'm tired and drained after dealing with a load of Alleged Instructional Offences.

    2. What does y do with the $100k that he got from selling his house? Did he want to keep $100k on deposit at his bank? Would it have made any difference if y had given x his house in exchange for an IOU for $100k? If so, are the two banks just acting as intermediaries for a loan from y to x, so that x can buy y's house? If not, and y spends the $100k, does that increase demand for goods and cause inflation to rise above target? If so, how will the CB respond?

    3. Every year I teach 330 students intro economics. They (and the taxpayer) pay me good money to do that. They have a good claim on my time. I give them my time, and try to explain things (like elasticity) to them. But I expect them to read the textbook too. You can see where I'm going with this thought.

    4. Someone who has taken the time to read Steve Keen's book, but is too scared to read any standard intro text for fear it might indoctrinate him....? Does not compute.

    5. Funnily enough, my "The supply of money is demand-determined" post was very unorthodox. Orthodox New Keynesian economists, and some monetarists, and most central bank economists, indeed most economists, would totally disagree with what I said there. It's much better to stop seeing economics through that orthodox/heterodox dichotomy. It doesn't work.

    6. I should be doing other things.

    1. Hi Nick, thanks for responding and donating some of your time. Really! As to your points:

      2. I can't answer all the questions you bring up, ...right now anyway. I can say I didn't even think of the banks being an intermediary in the way you describe w/ your IOU question. I guess I was thinking in terms of an intermediary between savers and borrowers, which is how I think Krugman has used it. But in the sense you give here, I'd say yes they are "just intermediaries." As to your final question "how will the CB respond?" that's what I'd love to know! BTW, for purposes of an example to probe your thoughts on CB inflation targeting, would a single-private-bank example have worked just as well? That would sure simplify things... no reserves required at all... especially if we further simplify and get rid of paper bills and coins. I was very much relieved when dtoh at Sumner's site (and you essentially) said that getting rid of paper money doesn't affect the NGDPLT argument substantially. Whew!

      3. & 4. Guilty as charged! Give me a little credit for at least realizing Keen's book was a too heavy on the negative propaganda... I felt defenseless against it and put it down a third of the way in. How about a recommendation? Perhaps a free online resource to learn the neoclassical basics for a layman such as myself? Are those Khan Academy youtube lectures worth the while?

      5. So you mean I was wasting time "poisoning" my mind by reading and re-reading your fringe unorthodox views? So I might as well have been reading Keen? ;^) BTW, What kind of economist do you classify yourself as?

      6. So should I.

      Additional thought: I'm an engineer, so that's what attracted me to Keen's approach initially: He's using a dynamic system model very familiar to me, the general form of which has been so tremendously successful in describing many many natural phenomena: x' = a(x,t) [x and a vectors]: the general non-linear differential equation model. Even quantum mechanics has at it's heart such a model. It can be gussied up by adding stochastic elements, and inputs, and even feedback control laws (control systems is my specialty). It's a true workhorse.

      Final thought: Sumner likes to say "keep the banks out of macro." So one thing that could lend credence to that position is to go ahead and take the trouble to add a high or medium fidelity model of banks/banking to his models, demonstrate that they don't change his simulation results much, and then declare that this result justifies the banishment of bank models from Macro. If, on the other hand, they do make a significant difference, perhaps that points to at least considering their inclusion in some form. Has this already been done? Probably I guess. Your thoughts?

    2. Tom: thanks for your polite response to my slightly less than polite comment.

      1. "As to your final question "how will the CB respond?" that's what I'd love to know!"

      a. If y wants to lend $100k more and spend $100k less, and x wants to borrow $100k more and spend $100k more, and banks want to act as intermediaries between y and x, the CB does nothing, and lets them all do it.

      b. But if y doesn't want to do that, and wants to spend the $100k in his chequing account that banks have created, and the CB knows this will increase Aggregate Demand, and cause inflation to rise above target, the CB will tighten monetary policy and prevent the banks from creating that extra $100k.

      Steve Keen, and the MMT guys, forgot about b. Ironically, they forgot that Modern Monetary Theory should assume modern central banks that target inflation, because that is what modern central banks (mostly) do in the real world.

      2. "BTW, for purposes of an example to probe your thoughts on CB inflation targeting, would a single-private-bank example have worked just as well?"

      A zero private bank example would work as well. Which is what Scott Sumner says, and which causes the MMT guys to freak out.

      3. "How about a recommendation?"
      I like Mankiw. But they are all nearly the same, and good.

      "Perhaps a free online resource to learn the neoclassical basics for a layman such as myself?"

      If you read my old post "Can you please read a first year text" someone in comments suggested a free online book which looks OK.

      "Are those Khan Academy youtube lectures worth the while?"

      I don't know.

      "BTW, What kind of economist do you classify yourself as?"

      Us real economists don't classify ourselves! I'm a Market Monetarist as a badge of convenience. (We called ourselves that because Paul Krugman was calling us "quasi-monetarists" which was sort of descriptively accurate, as badges go, but we wanted a nicer name. Sometimes I say I'm a "disequilibrium monetarist". But I'm also a New Keynesian in some ways. Even an Old Keynesian in other ways. Sometimes I feel a bit Austrian.

      A healthy economics shouldn't have real schools, just loose and shifting family resemblances.

      "He's using a dynamic system model very familiar to me, the general form of which has been so tremendously successful in describing many many natural phenomena: x' = a(x,t) [x and a vectors]: the general non-linear differential equation model."

      Totally orthodox, and totally old hat. Every economist does that, except mathematically incompetent ones like me (or when we are teaching intro economics). (Except "non-linear" can get a bit hard when you introduce uncertainty and expectations.) Google stochastic dynamic economic model.

    3. Nick, you write: "the CB will tighten monetary policy and prevent the banks from creating that extra $100k."

      ... and the CB accomplishes that by raising overnight rates? Something else?

      So to broaden the discussion a bit (but still within the framework of my paper-money-less, and overnight-reserve-less world), the CB monitors the stock and "velocity" of endogenous (bank-created) money (i.e. inflation?), and adjusts overnight interest rates accordingly? Up if inflation above target, down if inflation below target?

      What does the CB do if inflation is too low and interest rates are at 0? Is that the "liquidity trap?"

    4. ... and the Taylor Rule is the feedback control law which accomplishes this rate adjustment?

    5. Nick, this is perhaps foolish for me to do since you said your ideas are fringe in this article:

      ... but I read it yet again. Two things I'm having trouble with here:

      1) "Even if the demand for money were perfectly interest-inelastic (it isn't, but this assumption is just for illustration), it would be possible for the central bank to increase the actual stock of money, and make it exceed the desired stock of money, simply by lowering the rate of interest."

      perfectly interest-inelastic means draw the curve as a vertical line at some stock of money? OK, so now given the picture you've sketched up to this point, we have a vertical line intersecting a horizontal line. And you're stating above that I should pay no mind to where those two curves intersect. Then why go to the trouble to sketch them?

      2) "The money supply curve is vertical on the old picture, once we get past 6 weeks. Redraw the picture, delete the rate of interest on the vertical axis, and replace it with the rate of inflation. Draw the money supply curve perfectly elastic at 2% inflation."

      Vertical? (BTW, I'm getting here that anything we draw that's "perfectly inelastic" is a vertical line, and anything that's "perfectly elastic" is a horizontal line on these kinds of charts, true? .. and anything that's not "perfect" is neither horizontal or vertical, true?)

      OK, so why is it vertical? If it's vertical then all the points on the curve are at some specific stock of money, all other stocks of money are thus excluded as imposible. What is the value of that stock, and why did going past six weeks cause us to draw all the points of our supply curve at that one specific stock?

      This doesn't make sense since you've already stated that wrt an inflation rate, the supply of money is a horizontal line: Thus all stocks of money are possible past six weeks given our fixed inflation rate. So which is it? All stocks are possible past six weeks or only one stock is possible? You've led me to believe up to this point that at time intervals "past six weeks" that the "old picture" with interest on the y-axis, or the new picture with inflation on the y-axis can have supply curves drawn on them with meaningful information (a vertical line in the former case, and a horizontal line in the latter). But these two curves, which are supposedly meaningful, seem to contradict one another.

    6. Nick, just to complete the picture, on one of these supply-demand charts with "stock of X" on the x-axis and Y on the y-axis, can you give me an example of a curve that's

      "imperfectly elastic wrt Y"

      Now how about

      "imperfectly inelastic wrt Y"

    7. Nevermind about "completing the picture." I found my answer in a wiki article!

  20. Mike, Glanser also updated the thread over there:

  21. Mike, a bit off topic here, but I provide some links to threads you might be interested in here:

    Romeo Fayette was wondering how bank lending could force the Fed's hand to permanently create the 10% of required reserves... and that's what we tried to get to the bottom of here (if you follow the links in there) with an assist from Scott Fullwiler.

    Also, I had a quibble w/ Cullen because he'd sometimes say "Reserves don't leave the system, you can't take them to Wal-Mart." So that got me thinking "How does a bank pay it's bills then?" Anyway another commenter, "Joe in Accounting" came to the rescue on that... turns out you can takes your reserves to Wal-Mart:

  22. ... but it's also true, with some qualification*, that "reserves don't leave the system."

    *assuming all gov proceeds, either through taxation or bond sales are spent again, at a rate which leaves Treasury's Fed deposit fixed, and that there's no OMOs, and no net drain or influx from paper bills and coins (or no paper bills and coins at all).

  23. Reply from David Glasner about paper vs electronic money:

    "About electronic money, I don’t see any basic difference between electronic money and paper money. It’s easier to pay interest on electronic money, but in principle the analysis does not change merely because the physical characteristics of money change." - David Glasner

    So that's a "no" from Glasner, Rowe, and dtoh about mystical powers of paper money.

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