# The Mythical Missing Interest

Our recent podcast guest, Steve Keen, was recently suspected by member JimH as having dodged the question of "the missing interest" in our debt-based money system.  After a week-long discussion, some of which was directly on this very point, Steve coincidentally grew exasperated with someone from the twitti-verse who asked him that very same question.  And so he wrote an article in response, which appeared on the Forbes site:

http://www.forbes.com/sites/stevekeen/2015/03/30/the-principal-and-interest-on-debt-myth-2/

So why is it wrong? In words, it’s because it confuses a stock (debt in dollars) with a flow (interest in dollars per year). But I’m not going to stick with mere words to try to explain this, because it’s fundamentally a mathematical proposition about accounting—that money must grow to allow interest to be paid on debt—and it’s best debunked using the maths of accounting, known as double-entry bookkeeping. So if you want to know why it’s a myth, brace yourself to do some intellectual work to follow the logic.

So good news: we can see he is not "ducking the question."  First he tries accounting (and that actually confused me - and I know at least something about accounting), but then luckily he provided a simple model, comprising firms, workers, and bankers.  This seemed to be a bit more accessible.  He uses his model to disprove the contention that it is mathematically impossible to repay interest on debt since it wasn't created during the initial loan.

Believers in the myth argue that it’s a simple mathematical fact that interest on debt can’t be repaid without borrowing more money from the bank than it first lent. If so, that “simple mathematical fact” should turn up in the simplest possible model. It doesn’t because it’s not a fact, but a confusion of a stock of money with a flow of money over time.

Steve's simple model illustrates that interest is indeed paid back, easily, because the gross profit on the total annual gross profit through the firms (the equivalent M1V is 3.2 - total production / total money stock) continually exceeds the annual interest rate of 5%.  He even uncovered the M1V rate at which the interest actually ended up being unpayable.

The loan is denominated in dollars. The money created by the loan is denominated in dollars. The economic flows that money enables are denominated in dollars per year. So long as those flows are large enough to enable the FIRMS to make a profit after paying Wages and Interest, then they will have no difficulty in paying the Interest—and they certainly don’t need to borrow more money every year to repay it.

Indeed.  And from first principles, if the firms weren't able to do this at inception, they couldn't have qualified for the loan in the first place!  So by definition, all loans made by all bankers must meet this flow requirement!

And that last bit is what I added to the mix.  It also tallies with real life.  Try getting a loan (these days) from a bank after showing that you are mathematically unable to make your P&I payments via flow.

Now then, a key assumption in his model is that all actors in his system recycle their profits.  They don't hoard.  Or if they hoard, they don't hoard much.

Some people wonder what happens when "the interest isn't spent back into the economy - if it piles up all in one place."  In other words, what if the bankers hoard their profits?  Can those debtors make their loan payments?

No.  If bankers hoard their profits from interest, eventually they will end up with all the money in the system, things will lock up and the system will grind to a halt.

However, note that the same thing will happen in a commodity money system with no debt and no interest.  If any actor in the monetary system - not just the bankers - simply keep all their profits and do not spend them, that actor will eventually own all of the commodity money, and the system will freeze up in exactly the same way.  Doesn't matter if the actor is the workers, the firms or the bankers.  Doesn't matter if its a commodity money system without debt, or a debt-based fiat money system.  A state where one or more actors systematically hoards money leads to systemic shutdown.

In point of fact, a debt-based money system handles hoarding more easily, since new money can be created (borrowed) on demand as long as sufficient flow still exists to qualify the borrower.   With a commodity money system, once all the money is hoarded - that's it.  System crash.  Until new commodity money is mined, of course, or the actors decide to de-hoard for some reason.

Note: there need not be "perfect flows" for the debt-based money system to work.  Some amount of hoarding is fine.  It is only systematic hoarding that ends up with all the money piling up at one actor's feet - that's not fine.  When that happens, things break - for debt-based money, and for a commodity money system too.

## Join the discussion

Jim H
Status: Diamond Member (Offline)
Joined: Jun 8 2009
Posts: 2391
Let me see if I can boil Dave's work down a bit here....

Gold market chart:  Dave says believe the charts... they are telling you the truth.  Gold just isn't in demand so much right now.

Chart showing four decades of exponential money growth:   Dave works hard to show that this does not have to be!  Nope.. the silly chart don't mean nothing.  Debt based money is great!

As always, thank you for clearing all of these conundrums up so effectively.

The problem with debt based money is hidden inside the straw man arguments that Dave (and Steve Keen apparently) make above.

that money must grow to allow interest to be paid on debt..

I would never say this (not that I am being accused of saying it).  It's not about paying the interest during the life of the loan.. it's about the fact that money is destroyed... the principle is destroyed..  as the loan is paid off.. slowly at first, then all at once.  This event is contractionary... deflationary.  This is the problem with the system... it is unstable.. and the fact that interest is not created, in a system that ultimately demands both interest and principle must be paid... simply adds to the instability.  The system works much better for the banks when it is in perpetual growth because the dynamic instability is papered over by growth, be it real, or nominal.

This whole post above is just one more monetary mind-F#ck... My advice to the reader, take it or leave it, is don't allow yourself to get thrown off the trail toward truth.  That commodity money sounds like rotten stuff, eh?  Somebody is just going to hoard it, and then there won't be any money..  which now makes me confused because it was just recently that Dave was saying how all of the Gold ever mined (170K tonnes) still exists (true) and no worries about us ever running out in the West.. but now he says that it might be hoarded.  Oh man.. I need a drink.

davefairtex
Status: Diamond Member (Offline)
Joined: Sep 3 2008
Posts: 5740
cycles are a part of life

JimH-

Chart showing four decades of exponential money growth:   Dave works hard to show that this does not have to be!  Nope.. the silly chart don't mean nothing.  Debt based money is great!

Uh, did I say that?  I don't recall saying that.  Could you perhaps do me the courtesy of quoting what I actually said that you object to prior to ridiculing me?  It would seem to be the polite thing to do.

It's not about paying the interest during the life of the loan.. it's about the fact that money is destroyed... the principle is destroyed..  as the loan is paid off.. slowly at first, then all at once.  This event is contractionary... deflationary.  This is the problem with the system... it is unstable.. and the fact that interest is not created, in a system that ultimately demands both interest and principle must be paid... simply adds to the instability.  The system works much better for the banks when it is in perpetual growth because the dynamic instability is papered over by growth, be it real, or nominal.

Yes, that's right.  Loan is paid off, that destroys money.  This results (generally speaking) in a contraction of the money supply.  That's not a bug, its a feature.  We live in a cyclic world, and it makes sense that our money supply should be able to both grow and contract in response to the inevitable economic cycles.

Interest being paid has only to do with providing a salary for the bankers, who spend their salaries just like the rest of us right back into the economy.  Same thing for other workers in the economy, who get a salary for the value they add.  Interest is banker-salary, and hourly wage is worker-salary.  Interest payments don't add to monetary instability any more than worker salaries do.

But I will agree vigorously with one thing you said.  "System works much better for banks when it is in perpetual growth."  That is very very true.  You could say the same thing about workers, if society had the following rule: "no worker can be fired for any reason - including doing a terrible job, or simply not working at all."

If it was understood that money supply contraction happened regularly, bankers would have to be much more careful about the loans they make.  If contraction never occurs - because of political intervention - they can be stupid about making loans, rake in big profits, and never suffer the contractionary consequences.  Just like workers being paid a guaranteed wage regardless of how well or how hard they worked.  So yes.  "The system" is much more banker-friendly if it never contracts.  Thus, with bankers in political control, that's where our consistent exponential growth comes from - the refusal to accept the contractionary part of the cycle.

Jim, the economy is unstable, not because of money, but because thats how life works.  Cycles happen in all life.  Something without a cycle to it isn't living.  Stability = death.  Life on the other hand has periods of growth, and periods of contraction.  Summer and winter.  Youth and old age.  Empires rise, and fall.  The problem with the whole thing is not that our money supply grows and shrinks, its that politics gets involved, and tries to eliminate cycles from our economic activity.  Like saying we can only breathe in, but never breathe out again.

Contraction is required to keep the system in balance, yet banker-politics and the desire to avoid facing the consequence of bad loans short-circuits that step - in an attempt to prevent the contractionary phase of the cycle from happening.  That's where our debt problem comes from.

That commodity money sounds like rotten stuff, eh?  Somebody is just going to hoard it, and then there won't be any money..

Hmm, you missed a very important part - likely by once again not quoting what I actually said.  You know, if you quoted me, it would help provide some much-needed context, and you wouldn't get confused.

I said that both commodity money and fiat money suffer from hoarding issues.  And I only brought up the hoarding issues because someone else pointed out that if bankers hoard their interest payments in a debt-money system, the system grinds to a halt.  That's true - and its also true if that hoarding behavior occurs in a commodity money system too.

It is the hoarding behavior in either system leads to serious monetary-systemic instability, rather than the payment of interest.  Context, Jim.  Please remember the context in which I say something.  Its really important.

When does hoarding take place?  During serious down-cycles in the economy - which will happen regardless of the money system we end up using.

Me, I'd be perfectly happy with fiat money - if we as a society (and the bankers) can accept contraction as a necessary and inevitable part of a living and cyclical economic system, AND if we can all have the legal refuge of gold when things start to go nuts.  Regulated, allocated-gold savings accounts, with tax free transfers between debt-money and gold and back again.  Something like that would seem to be ideal to me.

And Jim - please don't just read the first 8 words of the preceding paragraph and then proceed to ignore the rest of what I wrote.  Read the whole paragraph in context.  Otherwise you will just get confused again and imagine I'm happy with the status quo.  Which I am not.

Jim H
Status: Diamond Member (Offline)
Joined: Jun 8 2009
Posts: 2391
Of cycles forgotten...

Dave,  I will try to quote you more.. a fair request.  You said,

We live in a cyclic world, and it makes sense that our money supply should be able to both grow and contract in response to the inevitable economic cycles.

If only the FED would allow for natural cycles.. instead.. they stave the smaller wave cycles off as long as they can, then a HUGE one hits.

It is the hoarding behavior in either system leads to serious monetary-systemic instability, rather than the payment of interest.  Context, Jim.  Please remember the context in which I say something.  Its really important.

This is just outlandish!  Now you are blaming saving, which you inappropriately conflate with, "hoarding" for destabilizing the system.  The best way to deal with the system we have is by simply saying no to debt - and many here at PP.com have done, or are in the process of doing that. True hoarding, which is not saving, is well described by Gresham's law;

From Wikipedia, the free encyclopedia  Gresham's law is an economic principle that states: "When a government overvalues one type of money and undervalues another, the undervalued money will leave the country or disappear from circulation into hoards, while the overvalued money will flood into circulation."[1] It is commonly stated as: "Bad money drives out good".

In order to have hoarding.. you have to have undervalued money and overvalued money.  One way to view many of the games that go on in the Gold market - all the derivatives;  unallocated accounts, leases, swaps, and of course the manipulative futures trading markets.. is that all of these are an attempt on the part of the bankers to make the good money, Gold, seem less good.  Debt based fiat can't be fixed without taking the bankers bonuses away, hence it won't be fixed.... so plan B is to wreck Gold.   Indeed, the banks have almost succeeded in their efforts to do this by killing Gold sentiment in the West for the last three years.  They will lose in the end.

If we did not have the FED, we would be much better off.  CHS has done a wonderful job of explaining what is wrong with the FED recently.. so I will let him do the talking here;

\http://www.oftwominds.com/blogmar15/fed-failed3-15.html

There is only one way to end the financial tyranny of the Federal Reserve--abolish it, and put an end to the predatory pathologies of its policies.

The Federal Reserve has failed not just the nation and the U.S. economy, but more importantly, the American people that it supposedly serves. It has also failed the world, by showing other central banks that they can reward private banks and the top .01% with absolute impunity.

The supposed goal of the Fed's zero-interest rate policy (ZIRP) and quantitative easing (QE) was to make borrowing easier for both corporations and consumers, the idea being companies would borrow to invest in new productive capacity and consumers would buy the new goods and services being produced with cheap credit.

The secondary publicly stated goal was to spark a rally in stocks, bonds and real estate that would spark a wealth effect: as households saw their net worth rise, they would feel wealthier and thus more likely to buy goods and services they didn't need on credit.

The real reason for ZIRP and QE was to rebuild the balance sheets and profits of banks on the backs of savers who have earned near-zero thanks to the Fed's manipulation of markets. But setting aside the obvious success of the Fed's real goals--enriching the banks and the super-wealthy who have access to near-zero interest credit--let's see what corporations did with the Fed's nearly-free money.

Did they invest in new productive capacity? No, they bought back their own stocks--trillions of dollars worth, to boost stock prices and managerial bonuses. Note what happened when the last stock buyback binge faded: stocks crashed.

The great stock buyback binge (Fortune.com)

The Fed's free money for financiers enriched the top layer of corporate management and the top 1% who own most of the nation's equities. You can read the details here: Factset Buyback Quarterly.

The other group of financiers with access to the Fed's free money for financiers has been private equity. So did the private equity multi-millionaires borrow the Fed's largesse to build new plant and hire new employees? Did they invest the borrowed billions in productive startups?

No--they used the money to buy existing companies and bleed them dry. The Glory Days of Private Equity Are Over (Via Mark G.),

private equity has been holding back the economy. When you buy out a drugstore chain or car-rental company and load it with debt, you aren’t investing in the productivity of the economy. More often, by cutting back on new products and services, you are removing productivity from the economy. While generating wealth for endowments and pension funds, private equity can destroy wealth in the economy—my guess is 0.5%-1% lower gross domestic product in an already subpar recovery.

There you have it: the Fed has lowered productivity and GDP and strip mined savers, widows and orphans to further enrich the obscenely wealthy. Recall this from my entry last week, Will Cash Always Be Trash, Or Will It One Day Be King?

Between 2009 and 2012, the first years of the economic recovery, the top 1% saw their incomes climb 31.4% — or, 95% of the total gain — while the bottom 99% saw growth of 0.4%.

There is only one way to end the financial tyranny of the Federal Reserve--abolish it, and put an end to the predatory pathologies of its policies.

davefairtex
Status: Diamond Member (Offline)
Joined: Sep 3 2008
Posts: 5740
what is hoarding?

JimH-

Seriously, thanks for quoting me.  I really do appreciate it.  I enjoy our chats much more when I feel like you are calling me out on something I actually said!  :-)

If only the FED would allow for natural cycles.. instead.. they stave the smaller wave cycles off as long as they can, then a HUGE one hits.

Amen brother.  That's my theory as to why we have our exponential money problem - an unintended consequence of staving off cycles.  Fed needs to stop playing God and get back to being lender of last resort and protecting us from bank runs.  Back to its original charter, so to speak.

This is just outlandish!  Now you are blaming saving, which you inappropriately conflate with, "hoarding" for destabilizing the system.  The best way to deal with the system we have is by simply saying no to debt - and many here at PP.com have done, or are in the process of doing that. True hoarding, which is not saving, is well described by Gresham's law;

Well, I'm not trying to make anyone feel guilty here, and neither am I trying to scapegoat anyone either.  I can use a different word if you prefer, I'm not attached to the word hoarding.  I'm ok with stagnation.  Or simply the build-up of money in one place.  Or saving.

I'm a major league hoarder, so I'm probably at the top of the hoarder list, were anyone making such a list.   Regardless of the systemic effects, I'm going to keep doing what is in my inner nature to do.

But as a systems analyst, I know what effect that hoarding/saving behavior has on the system as a whole, and I can disassociate my own personal behavior from its effects on the system.

And during rough times, the overall propensity to save/hoard goes up.  This is perfectly rational behavior, and one I definitely approve of.  But if money supply remains the same, and savings goes up, that means flow must decline.  And if money supply declines, AND flow declines - that has an even larger systemic effect.

Again, as a systems analyst, I know that flow is what allows people to make their payments.  Flow is why we're able to pay the interest.  If flow gets cut in half and money supply declines by 20%, then a whole bunch of people end up defaulting on their loans.  Its just math.  Not because "the money wasn't created in the first place" (a myth) but because the flow dropped below the level necessary to make payments (reality) for a large number of people.

See - once we understand how the system really works - once we understand exactly why we can make those interest payments and we stop believing in the myths, then we can better predict what will actually happen when conditions change.

Greece is having big problems right now.  Not because "the money wasn't created to pay the interest", but because the flow of money through the economy has dropped way below many people's ability to make their payments - nationwide.  Defaults have reduced money supply, and the drop in confidence has increased people's propensity to save, and then the Eurozone came along and made sure the government cut way back on its spending, cutting down flow even more.  That triple whammy means Greece has gone into a world of hurt from which it has yet to return.  And the non-performing loans on the books of Greek banks is 40%.

How should they fix this problem?  Should they respond by "creating enough money to pay the interest?"  Might as well wave chickens over a fire and make a sacrifice to the Cargo Gods in the hopes that the planes will return.  More money quantity, in the wrong place, will squat like a toad on the books of the Fed as Excess Reserves.  More quantity by itself fixes nothing.

The only way to fix the Greek problem is to encourage an increase in flow at the same time you restructure the debt.

Flow increases when confidence increases.  It could be lots of small things, like Syriza deciding to hire back cleaners, or to hire more doctors, etc.  Once people are no longer living in fear of the next horrible thing the government will do to them, confidence will slowly return on its own, and flow will increase on its own accord.  Prices of things will suddenly look really cheap, money will emerge from under the mattresses, and magically flow will return to the economy.

But if austerity continues, cutting continues, and the debt remains in place, confidence and flow will remain at rock bottom levels, and the misery will simply continue.  Not because "the money wasn't created to pay the interest" but simply because of flow - driven by very low confidence.

See, once we have a model that can explain how it all really works, we can propose a solution that makes sense, and will actually have a positive effect on the situation.

Otherwise - we're stuck with campfires, chickens, and chants to the Gods of Cargo.

My opinion, of course.  DaveFairtex, Senior Hoarder.

Luke Moffat
Status: Gold Member (Offline)
Joined: Jan 25 2014
Posts: 384
Application

I’m an engineer by trade so my brain works on the ‘application level’ allegedly.

An orange shop sells oranges. The more oranges it sells he more money it makes. It can only sell oranges if people want oranges. If the people have too many oranges the market will crash and the orange shop goes out of business until it is profitable to sell oranges again.

A bank sells credit. The more credit it sells the more money it makes. It can only sell credit as long as people want credit. People will always want credit, therefore the market should never crash. However, people can’t always get credit and so the market will crash. Central Banks will now force businesses and people back into credit markets; ZIRP, NIRP, tax on savings. Spend your savings! Borrow more money! Save the economy!

Steve Keen chimes in, “as long as flows are large enough to pay the interest more money does not need to be borrowed every year to pay it*”

* heavy caveat – as long as we live in a world of flows.

I’m afraid the models are broken.

People save to defer purchases until they really need them. It’s how we evolved as a species. Let’s start there, with Humanity. Back in the day before a global distributive gas network allowed central heating in homes the winters were brutal – especially in places like northern Europe. Those who hoarded the fruits of the summer harvest granted themselves the best chance of survival. Other people cottoned on and, before you know it, it became a culture. Saving is a survival mechanism and the last time I checked we are all still Humans.

Saving also allows for capital formation, which allows for investment. Another one of those pesky progressive traits. So I don’t want to be a debt serf. “OK, Mr. Moffat. You are a threat to the system. We will devise policies to undermine your liberty by eroding your savings and force you into our debt system so that parasites like ourselves can feast off your labour.”

We now live by the numbers. “But the economy!” – Another beastly abstraction designed to coerce me into something I don’t want to be part of. The economy once served people who produced goods by allowing them to exchange the fruits of their labour for other goods that they themselves couldn’t produce. Now people serve the economy to generate this mythical 2% inflation all in the name of consumption. “Borrow and consume! Then the model works!” – Eureka! Saved by our mighty Oracles at last. How could we be so blind!?

It’s a flawed model. Flawed models become ideologies. Ideologies legitimise corrupt behaviour. Corruption leads to oppression. Oppression leads to tyranny. Tyranny leads to genocide.

Woah! I feel like a cynical Yoda. Dammit, where are my blue pills??

davefairtex
Status: Diamond Member (Offline)
Joined: Sep 3 2008
Posts: 5740
saving was a survival trait

Luke-

I agree, saving was a survival trait for millenia.  I'm a saver too.  Perhaps I'm still stuck in the old days, when you really did have to prepare for the winter.

The current system is definitely broken.  However, I still find it worthwhile to study it and model how it works, so when someone suggests a change, I will have a sense as to whether or not that change will achieve the goal.  Printing more money "so we can pay the interest" won't work, because that whole thing is a myth.  However, if someone suggests an approach to improve overall flow, I know that will help, and why.

One example: local currencies will help flow for sure.  Debts will be easier to pay - not because you can pay debt using local currency, but - you can eat by using your local currency flow, while making your debt payments using whatever national currency flow remains available to you.  It won't fix everything for everyone, but from a systemic viewpoint, life will get easier for a usefully large number of people.

I guess ultimately I'm planning for a job as finance minister of Greece.  Too bad I don't speak Greek, and that the job is already taken.  :-)

Dlumb77
Status: Bronze Member (Offline)
Joined: May 25 2014
Posts: 44
Savings and Exponential Systems

(The vicious left swipe just deleted the last 20 minutes of typing.. Ahhhh. I'll save as I go this time.)

Hi Dave, Jim, All,

I'm glad this topic is still going. There were so many good ideas on that Steve Keen podcast thread. My head has been spinning for days since Dave mentioned Base Money. All the pieces have started to fit together for me.

I am a Business Process Analyst by trade and fascinated by working systems. Partly for econo-geek reasons, but also because I want to understand the economy better, this topic as immensely interesting. As much as I respect Chris M, Jim R, Steve K, Mike M, Peter S and others, I need to truly understand it instead of taking their words on blind-faith.

I'd like to explore this topic of Saving more with you. My contention (now) is that Exponential Saving enables Exponential Debt. Bear with me as I walk through the thought process:

- In the normal economic flow of money, goods and services, some players (people) are going to have surpluses, because they spend less than they earn. These surpluses ("savings") take flowing money and isolate it in an idle state. These savings do nothing to enable economic flow. The amount that can be saved is effectively limited by how much surplus can be achieved. In other words, Savings are (almost) limitless.

- Government is a huge player in the "Economy" (the universe of all economic flows). It siphons off the top of various flows (income tax, sales tax, etc) and re-directs that money as it desires. (Let's not talk about whether this is "good" or "bad". Let's just look at the flows without judgment.) Now, as we all know, Governments almost always run deficits. They sell debt for money to those that have it (See Savers, above).

- Therefore, Government is simply a huge engine to recycle otherwise idle money back into the economy where it can flow again. Now, here's the key piece: Savings enable Debts. If there was no surplus lying around, there would be nothing to swap the debt for. We know this intuitively: All debts is someone else's asset!

So, as a partial conclusion: There is no System-imposed limit to saving and therefore there is no limit to debt!

- Isn't this what happens when AAPL has spare cash? They buy short-term treasuries. My retirement funds have an allocation to government bonds. Even China does this - It earns money for selling us various trinkets and then swaps that surplus for Bonds. Government takes the money and recycles it back into the flowing economy.

(I totally agree that governments/central banks run deficits for other reasons. Lack of willingness to live through business cycle contractions. Always making bigger and bigger promises. Yep, those are all factors, but let's concentrate on the system design for the moment)

- Now, there's another piece we need to consider: Bank Loans. Bank Loans are a completely different beast to government debt because they create money. With Government Debt, the asset already exists. It's a 1:1 swap. But with a bank loan, the new money is created and swapped for nothing more than the promise to pay. Even worse, Banks work with 10:1 or higher fractional reserves, so they can crank out new money like no-one else. As the economy grows (more economic flows), there are more flows to make promises against! Again, no system imposed limit.

Not sure if any of this helps the thought-process, but I am very keen to try and explain/document all of these into a coherent model that explains what is happening today so we can better understand what is going to happen in future.

Cheers!

Dlumb77
Status: Bronze Member (Offline)
Joined: May 25 2014
Posts: 44
Bank Loans create more Debt than Govt Loans..

JimH,

I see your comment about Debt to Money ratios on the other thread. You quoted an interesting table from here: http://simonthorpesideas.blogspot.com/2013/04/total-global-debt-and-mone...

I think my post above starts to show why this occurs. As shown, Government debt does not create new money. Debt is swapped for money that already exists. On the other hand, Bank Loans do create new money. Deposits are leveraged at the fractional reserve rate of 10:1 (or higher). (This is the magic "Multiplier effect".)

Why could we not consider that chart to simply be an indication of "financial sophistication" ("repression", even) of each country?

Here are some factors I can think of that influence the amount of bank debt:

1) Reserve Ratio rule. The lower the reserve required, the more debt can be created from the same deposit

2) Interest rate. The lower the interest rate, the more debt can be serviced by the same regular payment

3) Credit standards. The looser the credit standards, the more debt can be offered for more questionable collateral.

4) Availability of repayment surplus. The more economic flows and the more surplus from each flow, the more money can be re-directed to debt service.

So, we have a spectrum of possibilities. Countries with high indebtedness (Hello Denmark): Low reserve ratio, low interest rate, loose credit standards, high availability of surplus waiting to be appropriated. Countries with low indebtness (I'm looking at you Mexico): High reserve ratio, high interest rate, tight credit standards, low availability of surplus from economic flows.

Let's compare Government debt and bank loan debt in a simple model to predict the maximum amount of debt. Say, the money supply has 10 Units and 5 of those units are idle in "Savings".

In the case that those savings are swapped for Government debt, we use a 1:1 ratio and can see that the maximum Government debt is 5 Units. The system still has 10 Units in total and no new money has been created.

In the case that those savings are deposited at a bank with a reserve ratio requirement of 10:1, the bank can create up to 50 Units of loans. The system now has 60 Units in total due to the new money! Quite an impact.

Chris M often says: "Increasing debt assumes a future of more" (My paraphrasing). I used to believe this. Then last week Dave showed how Base Money fits into the model, which allows Interest to be paid from flows.

We can now see that Chris's statement is over-simplistic. Government debt is swapped for existing money, and Bank loan debt is created based on the borrowers' existing ability to pay. No loans are created based on a potential future state. ("Hey Mr. Bank, please lend me that million dollars now, because I'm sure I'll get a pay rise next year.") Instead, Banks are simply appropriating more and more of the surplus available. That's their business model: Lock-up as much of the expense flows of the good, little debt-slaves as possible. The table above shows how their success rate - by country!

Thoughts?

Jim H
Status: Diamond Member (Offline)
Joined: Jun 8 2009
Posts: 2391
Thoughts...

Dlumb said,

Government debt is swapped for existing money

This is how it used to work before the era of QE.  and since Japan is printing money and buying US debt (among other things) we need to think about QE's effect in the WW central banking network, not in isolated terms.

Farther above you said,

- Therefore, Government is simply a huge engine to recycle otherwise idle money back into the economy where it can flow again. Now, here's the key piece: Savings enable Debts. If there was no surplus lying around, there would be nothing to swap the debt for. We know this intuitively: All debts is someone else's asset!

For me, Chris' framework makes more intuitive sense, i.e. that all debt is really a claim check on something real. Real stuff in the world is limited, and therefore debt and money should be limited.. and if not it can and will grow out of all proportion to the real world, leading to a big crash reset.  Savings has nothing to do with debt anymore.  Again, in the era of QE, the idea that money is being, "recycled" through Gov't debt is not technically correct... In fact, Japan is using Gov't debt as a money creation machine.

davefairtex
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Posts: 5740
exponential saving, exponential debt

dlumb77-

I am a Business Process Analyst by trade and fascinated by working systems. Partly for econo-geek reasons, but also because I want to understand the economy better, this topic as immensely interesting. As much as I respect Chris M, Jim R, Steve K, Mike M, Peter S and others, I need to truly understand it instead of taking their words on blind-faith.

Yeah we're two peas in a pod here.  I'm writing code that needs to work, and the only way that happens is if I use a theory that is grounded in reality.  Quantity theory of money on its own hasn't led me to successfully explain anything.  I need to add in flows before anything interesting pops out.

Here's my thoughts on your observation - in a fiat money system,

1. exponential savings enables exponential debt
2. no systemic limit to savings, therefore, no systemic limit to debt

I think, all else being equal, these two things are probably correct.  There is no systemic check to savings growth, and thus no systemic check to debt growth either.  With a commodity money system, you can only save so much and then you're done.  "Once I have all the gold in my account, debt growth must stop."

That's probably what our recent podcast guest meant, when he said "the world would have been much smaller under a gold standard."  [I find, even if you largely disagree with a vision, sometimes people can say really interesting and helpful things]

Since population growth is exponential, our money system needs to be exponential as well.  Just - the exponent is a bit too high right now.  As Chris constantly points out, if debt grew at the same rate GDP grew, all would be well.  But that's not what is happening.

I agree more or less with your exposition on how all the pieces interact.  Here are some thoughts of my own.

• Conceptually, annual savings growth is limited - by the size of aggregate surplus - value added less expenses.
• Practically speaking, surplus is probably driven by EROEI for physical things, and/or how clever you are about adding value for IP products.  (Not much energy is required for - say - database software, or the latest hit song from <Insert Pop Star Name Here>).
• Governments are a big source of flow.  Deficits mobilize savings.  In fact, deficits are impossible without savings, unless QE is involved.
• Savings are required for growth in Bond Market Debt
• Savings are not required for growth in bank credit
• Ability to borrow is required for all forms of credit growth.  However, what defines "ability to borrow" is a flexible definition, which bankers can change based on their influence with regulators and government.
• There is probably an inflation factor in here too.  Bank credit growth causes savings growth - but credit growth in excess of GDP growth is inflationary savings, not "real" savings.

Here are some numbers from the real world, just for your amusement:

• bank credit savings (FRED:SAVINGSL, currently 7.71 trillion)
• total bank credit (FRED:TOTBKCR, currently 11.1 trillion)
• There is total credit outstanding (FRED:TCMDO, currently 58.7 trillion)

Total Bond Market Debt = TCMDO - TOTBKCR = 47.6 trillion

One more note: banks can lend without paying any attention to reserves.  Steve Keen and Chris both agreed, if banks have a hot loan prospect, they make the loan first, and then scare up the reserves afterwards.   Reserves are not any sort of break on the bank's ability to lend.

Perhaps reserves mattered under the gold standard - when a bank's reserves at the Fed were basically attached to an amount of gold exchangeable at a given rate - but they certainly don't matter anymore.  The Fed never says "no - you can't have any more reserves."  That would actually be a break on lending.

Here's a fun chart.  I got the # of tons of US gold over time, multiplied it by historical price, and then got a value of "total gold reserve value" - then divided by the size of the monetary base.  What pops out: the "gold backing %" of the USD monetary base over time.  Its not as bad as I thought!

Note: this uses "average yearly prices" for gold, so the peak in 80 is probably lower than it otherwise might have been.

davefairtex
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Posts: 5740
loans are a bet on the future

Dlumb77-

I think loans are definitely a bet on the future - not necessarily on growth, but on the future being a whole lot like the present.  Namely, that you will continue to have (at least) the same nominal flow in 10 years that you do right now.

Flow likely depends on your value-add, which in many cases may be a derivative of net energy in some way.  So long term debt - definitely, its a bet that the flow will be at least steady for the duration of the loan.

If economies contract, all hell breaks loose.  Not because the interest wasn't created, but because when credit growth goes into reverse, the flow doesn't just slow down in proportion to the drop in credit growth, it slows down at some multiple of that because of a change in confidence.  Confidence affects many things.

When confidence shifts, people suddenly decide, "I need to triple my savings", and so flow promptly drops by some decent amount even though at least temporarily, surplus remains the same.  And on top of that, no new money is created because confidence also drives "what's my acceptable debt-to-income ratio?"  And then, tax payments drop.  And then, people lose jobs, decreasing tax payments and flow.

After a while, borrowers already on the edge (with ponzi, and speculative debt) default, this transmits an increased lack of confidence to peope, and then even fewer loans are created, more money is saved, etc, etc.

Tweak that one variable, confidence, and that's what causes the cascade down.  The bigger the ponzi finance element in place, the more dramatic the unwind.

Dlumb77
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Posts: 44
Is QE a Debt?

Hi Jim H,

Thanks for your feedback. We're largely on the same page:

Jim H wrote:

debt is really a claim check on something real. Real stuff in the world is limited, and therefore debt and money should be limited.. and if not it can and will grow out of all proportion to the real world.

Yep, I'm with you. I agree with the sentiment that money should not grow out of proportion with real things in the world. I'm also just as annoyed that my previously hard-earned FRNs are having their value diluted by Central Bank QE. I have no doubt that wealth is being transferred from savers to those closest to the new money creation. Not sure how it ends yet, but it's definitely not sustainable and seemingly getting more unstable over time.

The difference is our view on the mechanism that is causing debt to increase exponentially.

Jim H wrote:

"Government debt is swapped for existing money"

This is how it used to work before the era of QE.  and since Japan is printing money and buying US debt (among other things) we need to think about QE's effect in the WW central banking network, not in isolated terms.  ...

Savings has nothing to do with debt anymore.

I think this is the key difference. QE is Base Money created by Central Banks. It is not debt.

Fresh QE money is used to buy existing things like Govt Bonds and MBS (which are debt instruments). The QE is a liability on the Fed's Balance sheet, the Bond or MBS is the corresponding asset. However, no new debt was created by QE!

Now, you could argue the Govts are creating new debt simply to give Central Banks an asset to monetize. But do they really need a reason? Surely all the campaign promises they made are enough justification to run a deficit? Govts have been creating new debt for a long time before QE has been with us. If anything, Japan is running out of JGBs because the Central Bank there has sown-up so much of the market that it no longer functions.

Chris M has opened my eyes to many things since I stumbled across his work 5 years ago. His framework is very good. However, on the point that "Debt-based money systems must go exponential to cover the interest not created", I am now struggling to construct a model that supports it.

Dave, Thanks for your post. I'll respond soon.

Jim H
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Posts: 2391
Now I see what you are getting at Dlumb...

Fresh QE money is used to buy existing things like Govt Bonds and MBS (which are debt instruments). The QE is a liability on the Fed's Balance sheet, the Bond or MBS is the corresponding asset. However, no new debt was created by QE!

So, because in the US, we do a three card monte with the QE money... i.e. the primary dealers buy the (treasury) debt first, then the FED buys from the primary dealers... this is not debt money.  I am going to have to think about this.... indeed.. the FED is not allowed to buy directly from the Treasury.. unlike in Japan, where the central bank does in fact buy directly.

So QE creates new money - and your point is that this is in fact base money.. the kind of high powered money that does not get destroyed as debt is paid off.  This is a good point.. and it would seem to make this money more inflationary than if it were debt money.  I am still not clear on where saving comes into the picture as we look at the drivers behind the systems expansion.  I really don't think savers are responsible for the exponential growth of debt  : )

I agree with your point regarding Japan.. it seems that WW money printing is actually beginning to outrun the ability of governments to deficit spend (and thus create new debt).

Dlumb77
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Posts: 44
Modelling ideas

Hi Dave,

Thanks for your comments. Agree with all of your points. And you bring actual data to the table, too!

There are many discussion threads we can pick up. For the moment:

davefairtex wrote:

I think loans are definitely a bet on the future - not necessarily on growth, but on the future being a whole lot like the present.  Namely, that you will continue to have (at least) the same nominal flow in 10 years that you do right now.

Flow likely depends on your value-add, which in many cases may be a derivative of net energy in some way.  So long term debt - definitely, its a bet that the flow will be at least steady for the duration of the loan.

Totally. When you go to a bank and ask for a loan, they ask for your (recent) historical salary and expense data. When Moodys or S&P rate a Govt bond, they look at (recent) historical data. The banks are in the "straight-line" extrapolation business. In fact, it's not even extrapolation: They just assume steady state.

Which of course, is so terribly short-sighted. No consideration for the physical limits of the earth. (I wonder if any banker types hang around at pp.com.)

Regarding modeling. Have you used any modeling software to try and document this model we're discussing. A simple powerpoint slide is not going to cover it. Visio does flows but is not dynamic. I Googled around a bit and found Steve Keen has some open-source software for economic modeling called "Minsky". Might give it a try. I'm new to this level of complexit. Keen to hear if you have any ideas/experience.

Cheers!

Dlumb77
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Posts: 44
I'm guilty of financing Govt debt.

Hi Jim H,

Yes, I think you're getting close to the huge "ah-ha" moment I had last week (on the Steve K podcast thread). I used to believe that all money (in our current system) was created as commerical bank loans, but now I see that base money that is not a loan. This allowed me to finally understand the stock and flow model. (Had been struggling for years)

I didn't realize the Japanese Central Bank was buying JGBs directly from the J Govt. Wow, they don't even pretend there!

Jim H wrote:

So QE creates new money - and your point is that this is in fact base money.. the kind of high powered money that does not get destroyed as debt is paid off.  This is a good point.. and it would seem to make this money more inflationary than if it were debt money.

Yes! The new QE Base Money does not get destroyed like Bank Loan money. It'll stay in the system forever, or until the Central Banks retire a portion of the money supply. (Isn't that what Volcker did to kill inflation in the 70s/80s? Raise interest rates so high as to make the money run home to the Fed?)

Whether it's more inflationary is difficult to discern. Based on my comments a few posts ago, Govt Debt is a 1:1 swap, but Bank loans actually create more new money because of fractional reserve ratios.

I'm not sure which is worse: Central Banks adding directly to the Money Supply (Base Money), or Commercial Banks having the ability to print at a 10:1 ratio.

Jim H wrote:

I am still not clear on where saving comes into the picture as we look at the drivers behind the systems expansion.  I really don't think savers are responsible for the exponential growth of debt  : )

Whilst you and I and all the prudent savers of the world would dearly like to be innocent, it's true, but only up to a point. And that point is the moment we convert our saved FRNs into someone else's Debt! At that moment, we enable the debt to exist, as we strive for asset diversity and (meagerly pathetic) yield return.

On a personal note, this is particularly relevant to me right now, as I contemplate diversifying out of my traditional bank savings account and into direct treasuries. With all the talk of bail-ins and FDIC coverage, I'm starting to think one option is safer than the other...
When I think of the flow in this tiny scenario, I realize that my otherwise idle FRNs will be converted into new Govt debt. The Govt will take my FRNs and spend them on a bridge to somewhere and I will be left holding a Govt IOU that will pay me a regular return every 6 months.

Does this helps explain why Savings enable Govt debts? And why there can be no Govt debts unless there are savings around? (In contrast, Bank Loans are different, they are truly created from thin-air)

Cheers!

Luke Moffat
Status: Gold Member (Offline)
Joined: Jan 25 2014
Posts: 384
Credit Destruction
Dlumb77 wrote:

JimH,

I see your comment about Debt to Money ratios on the other thread. You quoted an interesting table from here: http://simonthorpesideas.blogspot.com/2013/04/total-global-debt-and-mone...

Evening all,

This is one of things that has puzzled me, and i think it's where a lot of the 'not enough money to pay off principal + interest' arises from.

Looking at the table which Jim supplied and Dlumb77 referenced there is sentence in the caption from the website, "A week or two back, I raised the question of how it was possible that total debt within the Eurozone (i.e public sector debt and private sector debt combined) could be 2.5 times higher than the total Eurozone money supply. Specifically, the debt at the end of 2011 was €23.78 trillion, whereas the money supply measured by M3 was only €9.76 trillion."

Followed by a reference to the global debt to M3 ratio (minus the Eurozone),

"Total Private sector debt is \$89.27 trillion and Total Public Sector debt is \$47.62 trillion, making a total debt level of \$139.89 trillion.

Adding together the money supplies of all the countries together produces a total of \$68.34 trillion. That is exactly half the level of debt.

In other words, even if every last cent was added together, we could still only pay off half the debt. In other words, the 2.5:1 ratio of debt to money supply that I noted for the Eurozone is a pretty typical case."

This is my current understanding; i.e. that there is not enough credit in the system to pay the outstanding debt. Therefore, someone always gets punished. They have to default and the asset which secured the loan is repossessed.

When credit is used to pay down debt both that credit and debt are extinguished. Is this no longer true?

Withglee from Zerohedge puts it another way; Inflation = Default - Interest.

In other words, in a perfect economy, perfect traders do not make risky loans such that defaults do not occur. With no default there is no need for interest collections. Therefore, there is no inflation. In an economy full of irresponsible traders defaults occur through risky loans. So the rate of interest is set to cover the defaults. Therefore, no inflation. An economy of 2% inflation with 0% interest suggests to me a 2% default rate. Inflation happens when the credit which has been created cannot be destroyed owing to defaults. Isn't this partly why the banks were bailed out? Because wholesale mortgage defaults would have generated a tsunami of inflation.

You guys are turning all my understanding upside-down!

Thoughts please. Help a confused engineer out :)

Luke Moffat
Status: Gold Member (Offline)
Joined: Jan 25 2014
Posts: 384
Interest and Principal

After reflecting on Steve Keen' Forbes post, which Dave supplied, i realise that i've never had an issue with the interest being repaid. It's always the principal for me. I'm sorry, but i thought this is what Steve Keen was addressing, how the principal gets repaid. But it isn't, he's all about the interest.

"So long as those flows are large enough to enable the FIRMS to make a profit after paying Wages and Interest, then they will have no difficulty in paying the Interest—and they certainly don’t need to borrow more money every year to repay it."

The only way I can see there being a problem repaying the interest is when the velocity of money tanks, as outlined by Dave's description of flows.

My apologies, i really should have been more thorough in my reading. I guess the question is, 'how does the principal get repaid?' Which brings me back to the point about inflation = default - interest. This simple equation has the potential to cause so much havoc it's almost sociopathic, especially when central bankers are targeting 2% inflation but are eyeing up negative interest rates.

To get the desired level of inflation they have to have either a desired level of interest in mind or a desired level of defaults in mind.

I imagine they offer credit well below a predicted interest rate (even negative). Say people load on at 0.5% interest this sets the default rate at 2.5%. Then up interest by a further 0.5% and viola! 2% inflation. Nevermind the newly made homeless (3% of total debtors). All in the name of financial growth!

What's the alternative? Financial institutions issuing debt-free money to boost the base money without the necessity of defaults to create the excess in circulation? Back to Dlumb's point about QE i suppose.

davefairtex
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Joined: Sep 3 2008
Posts: 5740
how does principal get repaid?

Luke-

My apologies, i really should have been more thorough in my reading. I guess the question is, 'how does the principal get repaid?' Which brings me back to the point about inflation = default - interest. This simple equation has the potential to cause so much havoc it's almost sociopathic, especially when central bankers are targeting 2% inflation but are eyeing up negative interest rates.

Heh.  So start from the micro level.  How does the principal get repaid on your home loan?  Through flows, same as interest.  Home loans are fully amortizing, and when you qualify for the loan, the bank makes sure you can make both P&I payments or else it doesn't give you the loan in the first place.

Let's assume a top 10% American case.  He has \$10,000 in the bank, a \$350,000 home loan, and a \$10k/month salary.  Can he pay off his loan with the bank credit in his account?  No.  Yet are you worried about him making his payments?   No.  Since there is no requirement for the individual to pay off the loan all at once, there is also no requirement for the system to pay off all its debts at once either.  That requirement is a red herring.

The sum total of your P&I payments represent the amount of labor (economic value-add) you need to provide over your 30 year loan to pay off your house.  If you had that money lying around, you wouldn't need the loan - right?

Fundamentally, the requirement of having to "pay off all the debts at once" is a red herring.  Debt exists to fund activities that are outside the current resources available to the borrower.  In exchange for funding, the borrower agrees to basically give the lender a piece of the action over time, until the loan is paid off.

The only question is, will the borrower be able to spare his "piece of the action" over the entire duration of the loan contract.

Back in the day, if you wanted to come to America, you could fund your boat ticket with 7 years of indentured servitude.  Debt is the same thing.  You can't expect the sum total of all indentured servants to be able pay off all 7 years of work at once.  These are the people who couldn't afford the ticket in the first place!  And just because they can't pay it off all at once, that doesn't mean the indentured servitude system is doomed to failure.  If you just wait 7 years, all will be well.  Same thing with debt - if we assume the flows we get in the future are roughly the same as we are getting now, all will be well.

Debt is just a contract whereby borrower agrees to be in "partial indentured servitude" to the lender for a period of time.  Its legal slavery.

davefairtex
Status: Diamond Member (Offline)
Joined: Sep 3 2008
Posts: 5740
modeling

dlumb77-

Have you used any modeling software to try and document this model we're discussing. A simple powerpoint slide is not going to cover it. Visio does flows but is not dynamic. I Googled around a bit and found Steve Keen has some open-source software for economic modeling called "Minsky". Might give it a try. I'm new to this level of complexit. Keen to hear if you have any ideas/experience.

I've seen Keen's software in action during one of his lectures.  It looked interesting.  I'm working on modeling a subset of the overall economy - how changes and levels of the various real-world timeseries affects the pricing of various items of interest in the economy.  Its a slightly more pragmatic goal than constructing a sim for the modern economy, however knowing how things really work is a great help.  If you have the wrong theory about how things work, you end up using the wrong timeseries, and - it turns out - no progress gets made.

Constructing a world economic sim would be awesome.  I have visions of doing such a thing, and whenever I talk about the money system I'm thinking about how I'd simulate it (perhaps that comes across now and then) and if I had my own research lab I'd definitely form a team and send them off to construct something like that.  But I'm just a guy on his own, so I have to pick & choose where I spend my time.

Long ago I used to work on a "conquer the world" multiplayer game, and that's where I first got the bug for figuring out things really worked.  I tried to mould the game into something more realistic - and I had reasonable success on the military side - but since I didn't have any real clue for how the money system actually worked, the economic bits never did end up feeling right.  It was all a command economy.

Luke Moffat
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Joined: Jan 25 2014
Posts: 384
Macro Principal
davefairtex wrote:

Heh.  So start from the micro level.  How does the principal get repaid on your home loan?  Through flows, same as interest.  Home loans are fully amortizing, and when you qualify for the loan, the bank makes sure you can make both P&I payments or else it doesn't give you the loan in the first place.

Yep, agreed. I don’t have any personal concerns at the micro level (other than the act of credit creation itself). It’s when we look at the macro level that I get nervous. At the micro level, the principal is borrowed into existence by me. To pay back both the principal and the interest I need someone else to take on debt (a liability) which I must acquire through my labour to make the payments. In effect, my ability to repay the entirety of the loan is reliant upon someone else’s liability. Now why should this worry us? Well I believe we’re entering a long period of credit contraction. Technology is hugely deflationary, human labour must now compete with automated labour for a wage. As such I see a decrease in human wages (in real terms) from here on out. As people fail to meet the bank’s requirements for loans then less credit is issued. Credit contraction => defaults => repossessions.

I go back to the equation;

Inflation = Default – Interest  *

If we imagine that no one qualifies for a loan then defaults will equal zero as there is nothing to default on. So how do we generate inflation? Encourage (Pay) people to buy (negative interest rates) or force savers to spend (again, negative interest rates). How do we hit that magic 2% inflation? Can we see negative interest rates of 2%, maybe 3%, in the years to come?

* I want to look into this in more detail. I’m gonna run some numbers tomorrow and see what it throws out

Jim H
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Posts: 2391
It's not about making the payments....

The question was never, "how can I make payments on the loan" if principle but not interest is created.  I see Dave constantly trying to redefine the question;

Let's assume a top 10% American case.  He has \$10,000 in the bank, a \$350,000 home loan, and a \$10k/month salary.  Can he pay off his loan with the bank credit in his account?  No.  Yet are you worried about him making his payments?   No.  Since there is no requirement for the individual to pay off the loan all at once, there is also no requirement for the system to pay off all its debts at once either.  That requirement is a red herring.

Of course that's a red herring.. nobody is asking whether the isolated guy can pay off the loan through his flow.  The real question is whether the system, over all, becomes starved for money as the total debt runs away from the total money.  Is this a stable system?

Let's take the \$350,000 home loan above.  Let's say it's a 30 year loan at 4% interest.  How much will the "borrower" (questionable whether we should use the word borrow when talking about thin air money) have to pay back, in total, over the term of the loan;  \$601,500

Where did the money to pay the interest come from?  It came from the system.  Does the fact that our system creates money as debt, i.e. creates the principle but not the interest, cause the system to go into deflationary stress from time-to-time, especially in times of natural recession?  Sure.. you bet.  Does steady, exponential growth (of money) tend to hide this particular feature of the system... sure.. you bet.  Are there central controllers to this system with their fingers on certain controls?  Sure, you bet.

If I were to create a (fiat) system of money that both did away with central control (central banks) and had more of an automatic stabilizer built in... it would create the interest money and feed it back into the system as helicopter money... each family getting an equal share, thus democratizing the effects of seiniorage.

Again, the money destruction portion of mortgages is very back end loaded.. so this factor would need to be incorporated in any model that does anything other than steady state loan origination... i.e. if housing is cyclic, then there will naturally be periods of higher money destruction as loans get paid off.

Dlumb77
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Posts: 44
System.. Gasping.. for li..qui..dity....
Jim H wrote:

The real question is whether the system, over all, becomes starved for money as the total debt runs away from the total money.  Is this a stable system?

Luke Moffat wrote:

..that there is not enough credit in the system to pay the outstanding debt. Therefore, someone always gets punished. They have to default and the asset which secured the loan is repossessed

I believe we’re entering a long period of credit contraction. Technology is hugely deflationary, human labour must now compete with automated labour for a wage. As such I see a decrease in human wages (in real terms) from here on out. As people fail to meet the bank’s requirements for loans then less credit is issued. Credit contraction => defaults => repossessions.

In short: It's not a stable system.

We can all "save" money in currency form (spend less than we earn and keep it in a savings account) and this will cause someone else to go into default, because we have not released that saved money to cycle back to them, to allow them to earn it and pay their loan repayments.

Now, obviously this happens at the margins. The closer to fully-allocated a borrower is ("up to his neck in debt") the more likely he will default, as more money is isolated by those of us that save it.

Even without business cycle contractions or technology changes: Saving is deflationary. Unless the money supply is juiced with new money printing (either bank credit or QE), there will be a lack of money to go around and some poor, over-burdened debtor is going to get hit with the shortage and end up defaulting.

But don't let that make you feel guilty. It's just how the system works.

Luke Moffat
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Posts: 384
Thanks Jim and Dlumb.  Jim

Thanks Jim and Dlumb.

Jim H wrote:

nobody is asking whether the isolated guy can pay off the loan through his flow.  The real question is whether the system, over all, becomes starved for money as the total debt runs away from the total money.  Is this a stable system?

Dlumb77 wrote:

In short: It's not a stable system.

Absolutely agree. At the macro level we have some horrible fundamentals. As Dlumb says, the system is gasping for liquidity.

davefairtex
Status: Diamond Member (Offline)
Joined: Sep 3 2008
Posts: 5740
paying back loans

Luke-

You said:

At the micro level, the principal is borrowed into existence by me. To pay back both the principal and the interest I need someone else to take on debt (a liability) which I must acquire through my labour to make the payments. In effect, my ability to repay the entirety of the loan is reliant upon someone else’s liability...

System starts out with a bunch of base money in its initial conditions.  Nobody borrowed the base money into circulation, it just exists.  (Back in the day, it was based on large chunks of gold deposited by the member banks at the Fed.  They then use base money as reserves to make loans, and to buy FRNs.  If you go back far enough, this base money is actually warehouse receipts for depositor's gold).

So before you arrive on scene, reasonably large amounts of currency is already circulating, based on that base money B.  Then you borrow principle P, which is much, much smaller than B, and new bank credit is created.  Total money in the system: B + P.  Over time, through your salary paid largely in base money flowing to you from your job, you manage to make P + I, which you pay back to the bank.  Bank pays salaries & dividends using your I payments, and destroys your bank credit using your P payments.  Slowly over time, total money supply B + P turns back into B again.  Once you've paid off the loan, now only B exists.

Nobody else needed to take out loans for you to make your payments.  It was all paid via (mostly) base money circulating in the economy.

The original motivation for the thread was to say: "the system is not unstable by design, only by usage" - we have no guaranteed road to hell because some critical bit was designed incorrectly (i.e. a basic inability to pay back principle or interest).

However you bring up another very important issue: you see flow decreasing over time for society overall because of robots (and I see flow dropping because of declining resources).  Both issues call into question the underlying assumption that the future will be a whole lot like the present.  And if you add to that a debt bubble pop - those tend to end in deflation too; flow drops because borrowing drops off, ponzi borrowers default, confidence drops, and things spin down from there.

So - yes, I see the future as credit-deflationary too.  This unpleasant future has nothing to do with the system and its allegedly faulty basic construction, and everything to do with where we are in the resource and technology and debt cycle.

Dlumb77
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Posts: 44
How wouldn't this system go exponential?

Dave,

Thanks for the comments on modeling. I have Minsky running on my Mac now. This modeling crusade is turning into a serious distraction. Thanks so much for your feedback on the various thoughts.

davefairtex wrote:

The original motivation for the thread was to say: "the system is not unstable by design, only by usage" - we have no guaranteed road to hell because some critical bit was designed incorrectly (i.e. a basic inability to pay back principle or interest).

The more I think about this, I do think the system will eventually end up following the same steps: Some people accumulate more than others, liquidity gets scarce, banks lend money to those that want it, defaults occur, central banks have no choice but to QE. I'm struggling to see how this system is not destined to failure by design.

Without heavy regulation (like wealth taxes) how do you envisage it not ending up like this? Is heavy regulation a pre-requisite to make it work?

On another note, I keep thinking about Chris M's statement that "debt based systems always go exponential". As you mentioned, GDP will drive up debt through natural growth. And we know that fractional reserve bank credit is a multiplier. Those two factors alone will create an exponentially increasing chart over time.

I wonder what it would look like if you normalized for interest rates. (We often forget that rates have been falling for the last 33 years.) I think it'll flatten out or maybe even top-out as max debt saturation is reached. Maybe this predicts how close we are to the crash. Have you done this one before? (I saw your mastery with gold price above.)

I think we concentrate too much on Debt being the problem ("naughty, evil debt"), rather than treat it as the expected and predictable outcome of the inputs and the system design.

Cheers!

Morpheus
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WOW. What a great topic.

WOW. What a great topic. Thanks David for sharing that. I am halfway through the posts and this is an extremely educational thread. Has anyone read the user comments in the Forbes article?

I read the article and the tone disturbed me. My wife, who is in accounting, said "what an arrogant hubristic ass" (she too rejects his premise and found a ton of flaws in his argument).

He came across as "scolding the feeble minded, myth-prone little people" and that he was going to "set them straight". But then the commenters showed up.

Economists and professional money folks and if you read their comments, they pretty much PWN'ed him.

I want to add one more thing. In double entry bookkeeping, the offsetting entries give the appearance of accounting balance. But this is only true if the net present value of the banker's asset is equal to the original loan, meaning that the money changed hands and was immediately handed back to the bank! This is even more ludicrous in an economic system which would require every loan to be paid back immediately! So, one can say with absolute certainty the the relationship of the asset to the liability is such:

Asset = x*liability, where x >1

His argument is only valid for x = 1, which is impossible.

Furthermore, he tries to baffle with BS the argument that the units of money and money flow are different and therefore cannot be equated. Baloney. Money flow is the first derivative of money and over any fixed period, the summation, or integral of money flow will equal units of money, which then allows a direct comparison. In fact, any arbitrary time period greater than 1 days of additional interest shows that his argument falls apart.  In a banking system, most of that integrated money flow will pass through a bank, which means that it is lent out with interest, thus producing more of the aforementioned inequality. That net sum of money flow will be the net liability of lendees, who receive loans from the money flow into the banks and per double booking, the net asset of lenders. But again, the asset collects interest, so x > 1 and the books don't balance. In fact, the money flow makes the problem exponentially worse. So I guess in short, it appears to me that he discounts, or omits the fact that money flow doesn't solve the problem, but rather makes the problem worse. By neglecting to mention that money flowing into the bank is loaned out at interest, he also neglects the additionally generated liabllities.

Again, thanks Dave. Very educational and so are the comments here.

So, I am having a serious issue here. For assets to equal liabilities times an interest multiplier, and, with the money multiplier effect allowing the banking system to loan out more money than it actually has (thus effectively creating new money, and the money multiplier effect also multiplies the per dollar effective return on those loans),  then either growth MUST occur, debt must pile up, or both. But given the interest multiplier associated with the money multiplier the growth needed to service the debt is unattainable. The interest multiplier for the system has to be much greater than the mean interest rate charged. So, how does debt not pile up and how does the interest to pay that debt not come, at least partially, from new lending. For it is does then you have an unbounded system and that is a major problem. Thoughts anyone?

davefairtex
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more stocks, flows, and proof by induction (!)

Morpheus-

In a banking system, most of that integrated money flow will pass through a bank, which means that it is lent out with interest, thus producing more of the aforementioned inequality.

The flow isn't lent out at interest by the bank, only the stock is - at an annual rate.  Example: you have a checking account, which has \$5k in it.  Each month, you deposit your \$4k/month salary in there.  Your flow is about 10x your \$5k stock, which (if you are a typical american) doesn't change over time.

IOW the \$5k stock (your steady-state bank balance) is lent at interest, but not the \$48k annual salary flow through your account.

And - key assumption - the bank doesn't retain the interest somewhere in the bowels of the bank.  It pays its own workforce and expenses and shareholder dividends with the interest received from that \$5k lent at interest.  It might retain earnings from an accounting standpoint - but actually it buys stuff with those retained earnings so the RE is just an accounting marker.

As long as the flows exceed the stock x interest rate by a relatively large margin, we're good.

Here are some real-life stock & flow numbers which may help clarify.

Demand deposit stock (FRED:DEMDEPSL): 1.21 trillion

Currency stock (FRED:CURRENCY): 1.28 trillion

GDP per year flow (FRED:GDP): 17.7 trillion

Roughly, the first two numbers together (demand deposits + currency) are society's working capital stock.  The GDP is society's flow.  That gives us a basic flow rate of about 7:1.  That's roughly M1V, although M1 has a little more other stuff in there besides just currency & demand deposits.

As another wrinkle, demand deposits and currency don't have interest payments attached to them - per se.

For assets to equal liabilities times an interest multiplier, and, with the money multiplier effect allowing the banking system to loan out more money than it actually has (thus effectively creating new money, and the money multiplier effect also multiplies the per dollar effective return on those loans),  then either growth MUST occur, debt must pile up, or both. But given the interest multiplier associated with the money multiplier the growth needed to service the debt is unattainable. The interest multiplier for the system has to be much greater than the mean interest rate charged. So, how does debt not pile up and how does the interest to pay that debt not come, at least partially, from new lending

I guess I come at this as a proof by induction.  Given the initial conditions of the system with only base money in it (call it CURRENCY, more or less) I have shown how a given individual debtor can make his payments using his salary.  He is a slave to the bank during the period of the loan (effectively channeling a portion of his salary straight to the pockets of bank employees & shareholders), but if he is qualified to borrow, he is able to repay the loan from salary over time.  Key assumption: interest income doesn't "pile up" at the bank - it is spent just like salary money for our borrower.  So if this is true for one borrower, its also true for 2...and then again for N as well.

[It could be that there is some subtle change that happens at "2" that I don't see...that's the potential flaw I can identify with my thought process]

Is it easier to repay money with inflation added in?  You bet.  Are bankers incentivized to increase the interest payments going into their pockets.  Definitely.  Do they have the ability to affect the outcome by setting rates?  Yes.  Is the net result an exponential growth in debt over time.  Yes.  Do humans tend to treat loans like windfalls and take on more debt than they should?  Yes.

But none of those statements invalidate my induction proof.

The problem with debt isn't the system, it is us.  Bankers are us, and so are borrowers.  Humans love a windfall/ponzi scheme.  That's the source of the problem.

That's my theory anyway.

davefairtex
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savings

dlumb77-

The more I think about this, I do think the system will eventually end up following the same steps: Some people accumulate more than others, liquidity gets scarce, banks lend money to those that want it, defaults occur, central banks have no choice but to QE. I'm struggling to see how this system is not destined to failure by design.

Let's pretend we don't have any ability to engage in QE, and no ability to engage in fractional reserve lending.  We're in a strict commodity money world.  Does that fix anything?

"Some people accumulate more than others, liquidity gets scarce...defaults occur..." and the economy slows down.

Now let's eliminate the ability to lend, period.  Commodity money, with no lending.  Does that fix anything?

"Some people accumulate more than others, liquidity gets scarce..." and the economy slows down.

Seems like the same outcome.  Regardless of lending, fractional or otherwise, if savings increase, the economy slows down.  Savings decrease, economy speeds up.

Are we sure this whole process is caused by debt?

I think its just the business cycle - which is not an artifact of lending at all, but rather an artifact of nature meeting humanity.

davefairtex
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here's a contribution from Keen

This is an article he wrote several years ago, in the midst of a point-counterpoint debate with Krugman.

https://www.creditwritedowns.com/2012/03/on-bank-lending-creating-deposits-and-paul-krugmans-response.html

"The idea of a regular injection of reserves—in some approaches at least—also suffers from a naïve assumption that the banking system only expands loans after the System (or market factors) have put reserves in the banking system. In the real world, banks extend credit, creating deposits in the process, and look for the reserves later." (Alan R. Holmes, 1969, p. 73)

In the real world, as Holmes points out above, bank lending creates deposits. That’s why banks matter in macroeconomics

So - banks aren't limited by "reserves" - when a bank lends, and that money is spent on something (car, house, etc), the loan money eventually ends up as a bank deposit somewhere.  I buy a house from you using new loan money.  You deposit the home loan check in your bank account.  Presto, new home loan ends up creating a bank deposit.  In other words, "banks don't lend their deposits out" - they create money from nothing which subsequently ends up as a deposit - perhaps not in the same bank, but within the banking system.  So banks drive deposits, not the other way around.

Deposits, all commercial banks - FRED: DPSACBW027SBOG = 10.7 trillion

Total loan inventory, all commercial banks - FRED: LOANINV = 11.0 trillion

And the second important factoid is this: the rate of credit growth is a very important factor in aggregate demand - that magical thing that determines the speed of the flow of money through the economy:

Why does it matter that “once you include banks, lending increases the money supply”? Simply, because the endogenous increase in the stock of money caused by the banking sector creating new money is a far larger determinant of changes in aggregate demand than changes in the velocity of an unchanging stock of money.  And in reverse, the reduction in demand caused by borrowers repaying debt rather than spending is the cause of the downturn we are now in—and of the Great Depression too.

Now this is interesting!  Perhaps this factor is the reason why debt growth is exponential?

Impacts on the model: the act of borrowing (and presumably, spending) that new loan money drives aggregate demand substantially higher.  This causes a spike increase in flow throughout the economy during that initial time when that newly created loan money is spent.  Once the initial loan money is spent (and the secondary flows from that spending die down as they ripple through the economy), flow returns back to their original level, and then actually declines below where it started as as that loan is repaid over time.

[For fans of QE - note that where the "change in the stock of money" takes place is important.  If it lands in the hands of a consumer, then one rule applies, while if it lands in the hands of banks, another rule applies]

My initial proof did not take into account this first strong spike higher, and slow retracement followed by an eventual dip below the prior status quo.  I held flow to be constant, whereas instead, flow is first modified by both the initial loan money spend, and then secondly by the reduction in flow due to principal repayment.

Note that interest doesn't matter - in terms of flow.  It truly is flow-neutral - with interest payments, I just transfer a chunk of my flow to the banker's pockets, who then presumably spend them as I would have.  However that's not the case with principal payments.  Bankers don't get to spend them, so any principal payments are effectively money removed from flow, decreasing aggregate demand.

And that's what Luke said was his concern too.

Note: it's all very possible to repay principal, but when everyone does it at the same time, flow is dramatically decreased - which ends up knocking off off a bunch of the more iffy borrowers.  That's because when you alter the rate of credit growth, it has an outsized impact on aggregate demand.

And last point: during the period when the initial loan money is spent and flow increases, that makes more borrowers able to qualify for loans, since humans assume things that are in place today will remain in place going forward.  So more money can be borrowed, causing more flow, causing more money to be able to be borrowed, etc.  Same thing happens in reverse, of course.

Lending and repayment don't cause the business cycles, but they definitely enlarge movements in both directions - both to the upside, as well as to the downside.

Luke Moffat
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Solar Cycles

Hi Dave,

First of all my apologies, i said i was gonna throw some numbers at that inflation equation i keep banging on about but i got a little distracted. However, i thought you might like this if you haven't seen it already.

Have you been over to solarcycles.net at all?

In particular this post

About a 1/3 of the way down the article comes this little gem;

"Solar theory argues that we see a speculative bubble into the sunspot maximum, which then pops post solar peak. People unwittingly buy and speculate both in the economy and financial markets into the smoothed solar maximum, and then do the opposite once the sun’s activity starts to wane.

There is some argument that government bonds are in a bubble, given their long bull market and ultra low yields. However, a look at household and fund manager allocations reveals the bubble to be in equities not bonds:"

Possibly tying in to Martin Armstrong's model that the 3/4 of 2015 will see a decline in the Economic Confidence Model.

Anyway, back on topic. I'm starting to think that the theories proposed by we little humans, which don't take into account the full awesomeness of the cosmos, are ultimately doomed to fail. I'm going to get all grand and theatrical now and say - 'perhaps this is the greatest opportunity of our species, to understand and follow that cycle. Imagine the prosperity that could be had!'

But maybe i'm getting a little ahead of myself.

All the best (as always),

Luke

Morpheus
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Dave, do you have a control

Dave, do you have a control system diagram handy that you can share? Just one of those can shed more light than 10,000 words.

In a diagram like that, the output variable would be net accumulated interest dollars "a" or a normalized outstanding debt ratio'ed to GDP "b". The overall time window would be restricted to when a pure fiat fractional reserve system was implemented.

For your theory to be true, the former would have an output of 0 and the later K, which of course is a constant such that K > 0.

Now true, economies rise and fall and there will be time windows where | a | <> 0 and the derivative of K, K' is is also non-zero over some time window within the larger timeframe.

But I would argue that for your theory to be valid, a must nearly equal 0, and K' must also nearly equal zero over a substantially large time frame. If they are, then great, you're halfway there. Next step is validating the assumptions that built the diagram. If not then backtrack and find out which assumption was erroneous, or, revisit your theory, correct?

I am wondering if you have done a system diagram because it will transform a monetary theory problem into a math steady-state problem and with the later, analysis of the problem becomes more universal. That is, other disciplines and occupations can more readily understand how you are modeling the system and also study your theory in a more compressed, and concise manner.

Thanks.

Jim H
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A note to modellers....

Dave's monetary aggregate charts don't tell the whole story.. in fact they miss a huge part of the story.  The FED used to tell us that story .. in fact they did from 1959 - 1995.. .then they stopped because, you know, it's expensive to keep track of all this stuff.  This stuff being dollars abroad.  You see, having the world's reserve currency has been quite the exorbitant privilege, because we have been able to print money and run persistent trade deficits for decades -  sending dollars abroad all the while.  The monetary aggregate that used to encompass all these now missing dollars was M3;

The American fiat, credit-money system starts with the Fed-supplied monetary base and pyramids upward through commercial banks, investment banks, offshore banks, nonbanks, and other credit providing entities. The "Ms" provide the Fed's calculation of the money levels at different tiers of the credit pyramid to the markets.

Here is a synopsis of each of these metrics and where they stood in November 2005:

With this decision, \$3.3 trillion (the difference between M3 and M2) effectively disappeared off the Federal Reserve and the market's radar screen. The Fed also stated that it would cease publication of Eurodollar, Repo, and institutional time-deposit data, though some intrepid analysts reconstruct this data by taking snapshots of the Fed's balance sheet.

The two now-missing components of M3, Eurodollars and repos, are the "Wild West" of the money supply. Eurodollars are US dollar deposits held by non-US banks in places like London, the Bahamas, the Cayman Islands, and Iceland (while it lasted). They are not subject to US regulations and therefore can be levered up, free of reserve or reporting requirements. Eurodollar banks have been known to operate at 50:1 leverage ratios.

Repos are short-term, often overnight, loans made to financial companies that are collateralized by securities in the possession of the borrowing company. They are a critical financing source for investment-bank trading and lending businesses. In the early years of the repo market, the primary collateral was US Treasury Securities. Today, the primary collateral consists in complex derivative securities, such as asset-backed securities (RMBS/CMBS/ABS), collateralized loan obligations (CLOs), and collateralized derivative obligations (CDOs). Repos are also not subject to reserve or reporting requirements, leading to high leverage ratios in investment banks (e.g., Lehman Brothers at 30:1).

So, model away I say.. but don't forget.. you are missing in your model the dollars outside of the US.. and the effects of the now accelerating loss of reserve currency status, and the shadow banking derivative neutron bombs that could lead to a huge deflationary sucking sound (because they act like debt for which even the principle was never created)... and probably other things of significance that I can't think of right now.

Morpheus
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Dave, I am drawing one now.

Dave, I am drawing one now. Might take a while. When I am done I will share it as it will help me to better understand this idea.

davefairtex
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solar cycles, diagrams

Luke-

I peeked over at the solar cycles site - being a lazy fellow, I didn't see a section where I could download a timeseries.  If I could do that, I'd be happy to throw it at my various bits of analysis software to see if there is  any correlation between it and anything else.

That's actually one of my projects - to run through the various series and see what (roughly) correlates with what.  Ideally I'd take armstrong's ECM and run it through too - wouldn't that be interesting if something popped out?  I feel there are cycles buried in there somewhere, but there are too many overlapping waves for me to pull out what they are.

Morpheus-

I have no idea what a control system diagram is, so ... no I don't have one handy!  :-)

However I look forward to seeing yours!

Here's something Armstrong natters about a lot: what does our market look like in another currency?  In this case, this is a monthly chart of SPX in Euros.  You can see our market going vertical starting in early-mid 2014.

Luke Moffat
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Consensus?

Jim,

Yep, discontinuing the tracking of M3 quantity certainly was a strange decision. Almost a 'if i close my eyes the problem no longer exists' kind of moment. My question is this though, if US Dollars stored outside the US begin to flood back home will the Federal Reserve unwind QE? I'm thinking that to unwind QE now would reduce liquidity in the markets as all those overpriced assets on their books are now swapped for the credit that was created. Better to wait until you get some crazy inflation. Admittedly this does not put the economy in a better position as liquidity is destroyed and you have the same problem as before.

davefairtex wrote:

I think its just the business cycle - which is not an artifact of lending at all, but rather an artifact of nature meeting humanity.

Lending and repayment don't cause the business cycles, but they definitely enlarge movements in both directions - both to the upside, as well as to the downside.

Have we reached a consensus then? I'm in agreement with Dave's two points quoted above

davefairtex
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unwinding QE

Luke-

There is plenty of (base money) liquidity in the system.  I say this because: RESBALNS - RESBALREQ = 2.58 trillion; this is "excess reserves", or, the amount of base money sitting at the Fed, receiving 0.25% interest, above and beyond the reserve requirements that the Fed has decided is the "correct amount" for the banking system.

From a liquidity standpoint (only) the Fed could sell 2.58 trillion dollars in bonds without changing anything.

Of course, from a market standpoint, long rates might actually shoot the moon if the Fed started selling - traders might well front-run the Fed and short the market.  No doubt that's why they aren't even considering that.  My guess: the only thing they'll ever do is let the bonds roll off the balance sheet - i.e. hold them to expiration.

And maybe not even that, if rates start to rise too high.

brentirving67
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MMT @ http://neweconomicperspectives.org/

Hi Dave:

I am not a regular here and not an economist.  I spent a fair amount of time here back before it was PP and just CM.

I return now and then more out of curiosity (no judgment implied).  For me much of the information on money and its actual workings turned out to be misleading (of course not necessarily purposely or maliciously and your writings above excepted), and until I discovered, quite by accident, Modern Money Theory (MMT), I was ignorant of this fact.  This can have affects in the world (it did in mine).

Having wandered back here again for reasons unremembered it is refreshing to see a little more penetration of MMT, though of course not by all and I am sympathetic to this, but without CM on board, and searching for comments by him on MMT and the crash course not being updated I don't believe he is, it appears it's penetration will be limited.  For myself it took many iterations of the Modern Money Primer  at http://neweconomicperspectives.org/modern-monetary-theory-primer.html before I started to have a reasonable understanding and appreciation of MMT(although for me for some reason it never quite feels as real as throwing a snowball or breaking an egg !)

I really think it is important to understand these mechanisms even if, or perhaps particularly, we are to transcend them (I won't go into my politics or philosophy).

I was just curious if you are aware of this site (I am guessing you are), which was developed by the staff in the Economics Dept. at the University of Kansas City Missouri.  I think it (not to mention the follow up book by Prof. Randall Wray...  I also think he would be an exceptional guest to get on the podcast) addresses well many of the things that repeatedly confused me (and others here it appears) like stocks and flows and where does the money for interest come from???, what are bank reserves, how do central banks target interest rates, public debt and deficits, gov't bonds and treasuries, fallacies about MMT like it says the amount of government spending doesn't matter or it is wishful thinking or it doesn't understand real resources etc.

There are of course others I would also recommend like Billy blog, Warren Mosler, and The Levy Institute.

Sincerely

PS:  I can't help myself on adding this (I first heard it from Warren Mosler but am putting it in my own words), concerning gold (or silver or palladium or whatever).  It is quite an extraordinary waste for an intelligent species trapped on a ball in space to take massive amounts of energy to; dig massive holes ; sift through the earth to extract the gold; melt it into bars, coins...;  Dig holes in other places and make impenetrable walls of concrete and steel; and then rebury the gold in there.

Jim H
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Posts: 2391
Where's the MMT?

Having wandered back here again for reasons unremembered it is refreshing to see a little more penetration of MMT

MMT penetration here?  Really?  Where?  I must have missed it.

Here is an excerpt from a piece written by an Austrian,

I hope I've convinced the reader that something is very fishy with the MMT conclusions regarding private saving and government budget deficits. The error crept in at step one, with the equation GDP = C + I + G + (X M). The only justification for measuring "output" (left-hand side) by the summation of spending (on the right-hand side) is that in a market exchange, the "value" of something is whatever the buyer spends on it.

However, if the government can raise revenues through present taxation or by borrowing now and paying back with future taxes, then this justification falls away. It's simply not true that \$1,000 in private consumption or investment spending is an equivalent amount of "real output" to \$1,000 spent by bureaucrats who raised the money without the consent of their "customers" and who may very operate under a "use it or lose it" appropriations process.

## Conclusion

The MMT worldview is intriguing, if only because it is so different from even the way conventional Keynesians think about fiscal and monetary policy. Unfortunately, it seems to me to be dead wrong. The MMTers concentrate on accounting tautologies that do not mean what they think.

https://mises.org/library/upside-down-world-mmt

Another discussion on the matter;

### Sovereign Debt Defaults and Solvency Risk

Another major aspect of the current MMT train of thought, is that solvency and default fears for modern nations (fiat currency, floating exchange as usual.. etc etc) is laughable and idiotic. They never cease to reiterate this and go nuts when politicians or economists mention fears of default, unsustainable debt etc.

The fact of the matter is that nations default incredibly frequently. Again, MMTers tend to have a US-centric experience, which is what allows them to even consider their beliefs since the US with its dollar as a world reserve currency, can and does get away with things many other nations can’t dream of fiscally or monetarily. There has been at least 13 major sovereign debt defaults since 1999 (Ecuador, Argentina, Russia, Ukraine, El Salvador, Peru, Pakistan, Moldova, Uruguay etc), and other smaller or less document cases. Most of these included foreign and domestic debt.

In fact, since 1800 there has been over 300 cases of overt sovereign default, and many more not so overt. Granted, most are cases of external debt (250), but 68 cases are clear cases of overt domestic debt defaults. This is a low estimate since domestic debt defaults are even more difficult to uncover in the historical record. In any event, foreign denominated debt defaults are certainly more prevalent, but there are plenty of cases of domestic currency debt defaults.

And how's that MMT working for Venezuela?

http://www.theguardian.com/global-development-professionals-network/2015...

I agree it's silly to have to dig up Gold and then put it in vaults (the other metals mentioned are used more in industry than they are for investment at present, so they are different animals)... but the silliness and damage would not be necessary were it not for the horrible, horrible track record of fiat currencies in holding their value.. holding any value long term;

davefairtex
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Posts: 5740

After a too-brief review of MMT the guys there do seem to make sense for the most part.

Only issue I saw at first glance - and its not a small issue - they missed the bit about banks & borrowers driving credit growth:

http://neweconomicperspectives.org/2012/03/blog-39-mmt-for-austrians-disagreements.html

... If a household or firm decides to spend more than its income (running a budget deficit), it can issue liabilities to finance purchases. These liabilities will be accumulated as net financial wealth by another household, firm, or government that is saving (running a budget surplus). Of course, for this net financial wealth accumulation to take place, we must have one household or firm willing to deficit spend, and another household, firm, or government willing to accumulate wealth in the form of the liabilities of that deficit spender.  We can say that “it takes two to tango”….

This is the same approach as the neoclassical folks take.  Under their model, banks act as intermediaries matching savers and borrowers.  This is wrong.

It doesn't take two to tango.  Borrower leads, and saver follows.  While it is true two entities are involved, the decision-making ability lies entirely with the borrower.

If a household or firm the wishes to spend more than its income, they simply take out a bank loan (or whip out their credit card), whereupon the bank creates they money for the loan and the money is then spent into circulation.  [Reserve requirements result in no practical limit on bank lending; banks can, for all practical purposes, create money whenever they wish to fund a loan - see http://www.bankofengland.co.uk/publications/Documents/quarterlybulletin/2014/qb14q1prereleasemoneycreation.pdf].

While its true that the new money will eventually end up in a savings account, suggesting "it takes two to tango" implies that either party can decide to put a stop to the operation.  In reality, its all up to the borrower.  If he wants to borrow, the money gets created, and it eventually lands in a savings account somewhere simply as a function of how the money flows through the economy.  If he doesn't want to borrow, it doesn't matter how much the saver wants to save, the money won't be created.

This has some very basic implications for inflation - and deflation.  As Steve Keen suggests, simply ignoring the bank's role in gating money creation (i.e. pretending banks simply act to mediate between savers and borrowers, thus simpifying them out of the equation) means you miss the entire reason why we have exponential growth in the money supply.

First, bankers profit from credit creation, so they are incented to create as much as they possibly can.  Second, they are the only gating factor on whether or not the credit is created.  Savers are passive - they must deal with the impact of the bank & borrower's decision - a decision which ends up inflating the currency.  All they can really do is decide not to save, which increases money velocity.  But the money is still in the system, resting (however briefly) in someone's account.

brentirving67
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I'll bite (marginally but may just eventually run away)

Hi Jim H:

Yes Jim, I realize I was being way too optimistic (from my point of view).  My analysis (not really) was simply finding the above article, the Steve Keen Podcast and Dave advocating.

Unfortunately not optimistic at all, quite the opposite in fact, and as I said I'm not an expert.   Seemingly considerate (expert?) people can't agree on the working mechanisms of what essentially amounts to a (simple?) rules and numbers system.  I have seen the chasms of division when less empirically derivable subjects like political economy, ethics, morality, equality, philosophy (the social sciences) are discussed.

That said, in rapid response, I don't believe the equation by unnamed Austrian,(I assume you mean of the economic and not national variety ;-), is advocated by MMT (but I may be wrong.  I can only recall the macro (financial) identity Gov't debt + Private savings + Foreign (private and govt) Savings = 0  hopefully I didn't screw that up.  I don't recall GDP entering the financial identity but I really should defer this. Help me out Dave?)  There is a couple of sections in the free version of the Modern Money Primer addressing Austrian concerns  http://neweconomicperspectives.org/modern-monetary-theory-primer.html but if I recall there was no meeting of the minds.

I cannot see how his conclusions follow from his argument, which I admit I do not find coherent.  But again I defer.  My expert against yours I guess.  I know it sounds like a cop out, and I think my experts, the MMT people at NEP or UKCM, have some of the been there done that attitude now.  I guess its up to you Dave :-O

### Sovereign Debt Defaults and Solvency Risk

I am going to make an educated guess, because I am not willing to do the research (sorry), that the countries listed as debt defaulters were either not sovereign currency issuers or were unable to pay debts denominated in foreign currencies.  It seems patently evident (only to me?) than if a country issues the currency then it can always pay for something (debt) in that currency.

Is the Venezuela comment a serious one?  Venezuelans can't afford meat so MMT is flawed?  I should have included history in my list above.  A complicated geo political subject indeed.  I really hope for the best for the Venezuelan people.  Do they have huge internal challenges?  No doubt.  But also amazing they have been able to survive given the pressures from the US behemoth.  (but no point in going there now is there)

All the best

brentirving67
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Foiled again

Dave:

I guess you are not the champion of MMT to enlighten the PP crowd I dreamed you to be.  Foiled again.

Unfortunately I was writing my response to Jim and left the edit window open so did not see your reply before I posted.  Perhaps I should recant.

Unsurprisingly I think the NEP site, and particularly the primer, would be worth a substantive review, especially by someone with your abilities and desire to understand.  I do believe it is quite thorough. Unfortunately the opportunity to ask questions on the Primer is well past.

I will take a stab at your comments (I'm a sucker for punishment sometimes.) I don't quite understand why you disagree with the "it takes tow to tango" idea.  Before banks give loans (in a fraud free world, see articles by Bill Black at NEP) they underwrite to determine whether they will actually loan to the entity desiring to borrower, No?  Or pre-approve an amount on a credit card which is a form of underwriting.  Do they do this in reality for credit cards?  When my unemployed 16 year old is approved for a credit card I guess not, but at 21% interest I guess they can afford a lot of defaults.

davefairtex
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MMT: savers, borrowers, and credit creation

brent-

I'm not the champion of any particular theory.  I'm the champion of whatever the truth happens to be - as I see it anyway.  Where I find truth, I then become the champion of that.

In the models and explanations I read on MMT, they talked about two actors - savers, and borrowers.  The model was, "savers enable borrowers", with the tagline: "it takes two to tango."  Under a strict commodity money model with no fractional reserve lending, that's entirely accurate.  A saver must first put gold bars in the bank before a prospective borrower can then borrow them.  Saver enables borrower, bank acts as an intermediary.  It takes two to tango.

But once you no longer have commodity money, and then you eliminate (for practical purposes) the reserve requirement, savers are no longer required to enable lending.  Or put differently, no action a saver takes can constrain bank credit-driven borrowing.  In the real world, savers are irrelevant.

The only two parties that matter in the real world of credit money creation today are borrowers and banks.  Those are the only two that it takes to tango.  But they were not mentioned in the MMT primer: MMT primer only talked about savers and borrowers.  One would expect if the bank-borrower nexus was seen as important to their model (and it IS important in real life) they would have been mentioned in the primer.  Thus I have to assume the MMT model is flawed in the same way as is the neoclassical model that also eliminates banks.

You, on the other hand, are correct:

Before banks give loans (in a fraud free world, see articles by Bill Black at NEP) they underwrite to determine whether they will actually loan to the entity desiring to borrower, No?  Or pre-approve an amount on a credit card which is a form of underwriting.  Do they do this in reality for credit cards?  When my unemployed 16 year old is approved for a credit card I guess not, but at 21% interest I guess they can afford a lot of defaults.

In your response to me, you only brought up banks, not savers.  I agree.  Bank credit creation is entirely about banks and borrowers.  Savers do not matter.

And private bank credit creation is a big deal - at least half of the inflation (and the entirety of the housing bubble) came from unconstrained bank credit creation.  Savers had nothing to say about the housing bubble.  It was entirely a bank + borrower operation.

davefairtex
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I think MMT does a good job of explaining how money flows between government and private sector and the trade-offs between government deficits and private surpluses.  I don't agree with some other aspects: one missing bit in their model is the impact of long term trade deficits and foreign ownership of US treasury bonds (and their associated interest payment streams):

Now, can the deficit hawks please explain why Americans should desire permanently lower living standards on their promise that this will somehow reduce the burden onthe nation’s grandkids? It seems rather obvious that grandkids would prefer a higher growth path both now and in the future, so that America can leave them with a stronger economy and higher living standards. If that means that thirty years from now the Fed will need to stroke a few keys to add interest to Chinese deposits, so be it. And if the Chinese some day decide to use dollars to buy imports, America’s grandkids will be better situated to produce the stuff the Chinese want to buy.

This is correct insofar as it goes - it all holds together, and it looks especially good in the context of the MMT model for how things work.  In the MMT world, Chinese have the choice: buy US exports, or not.  Who cares if they buy export goods from the US, that gives our people jobs, right?

But there is a huge missing piece in this model: land, labor, and capital.  From an international perspective, what backs the USD has little to do with the US tax authority, it is all about the sum total of what you can buy with that dollar.  This not only includes US exports, it also includes means of production, including land, buildings, mines, forests, oil wells, and other fixed assets, as well as the labor of US workers.

With their dollars (and the aggregate interest payments), the future Chinese can not only get a share of American exports, they can also come over and buy a good sized chunk of America's capital goods structure.  American companies, buildings, land, natural resources, and so on - and once they do, they will then own this stuff in perpetuity!  We cannot do away with this liability by simply clicking some more keys on a keyboard!  That is because those interest payment key clicks map directly to the ability to buy a chunk of America.  Real Stuff backs the USD - not just exports, but everything with a USD price tag attached - and those key clicks give the Chinese the right to claim ownership in perpetuity of all that Real Stuff.  More key clicks = more Real Stuff they get to buy.

That's the real world.  Did you get that sense from reading the section on the Twin Deficits?  I sure didn't.  All I read was "key clicks and exports."  That's an important piece to have missing from the model.

http://neweconomicperspectives.org/2012/01/mmp-34-functional-finance-and-exchange.html

brentirving67
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Posts: 9
One last try?

Dave:

I recognize the difficulty of my proposal.  I am suggesting you spend a lot of your time looking at specific information, namely MMT at neweconomicperspectives.org, without me spending a lot of my time trying, in a manner that is agreeable to you, in this forum for instance, sympathetic to your state of mind etc., to convince you.  From my perspective this would end up being a lot of my time indeed as I have said previously I am not an expert and so I would continuously be re-looking up information so as to not screw it up, and even then no guarantees.  In other words I am not the best person for the job by a long shot (but I will probably take a stab anyway.  I hope that doesn't sound like whining).  To avoid using my time of course I want to say just carefully read all of the MMT material.  But of course I realize from your perspective that sounds like someone with any other viewpoint e.g., Austrians saying if you want to know the truth just go read all of the material on the mises.org website or read all the books by Hayek, or Christians, read the bible or Muslims, read the Koran and Hadith or whoever and whatever.

Of course you being "a champion of MMT to enlighten the PP crowd" was a joke.  If I am trying to convince you to spend your time on something and I am appealing to your rationality (I am not testifying that this is the only or most effective method) of course I am going to say you will discover the truth, even if I have ulterior motives. (Some "truths" are fuzzier than others.)

Here is my stab at convincing:

If you are interested in Steve Keen's work and find it compelling he does interact with the MMT people and as far as I can tell they are pretty much in alignment when it comes to the mechanisms of the monetary system.  http://www.debtdeflation.com/blogs/2012/09/16/fields-institute-mmt-mct-seminar/

I realize this is not an argument (appeal to authority?). WARNING:  I read years ago Steve Keen had issues with someone taking over one of his web sites illegally but unfortunately I can't remember which one or if it ever got resolved.  I think the one I linked to is the valid one and http://www.debunkingeconomics.com/ is the one where the hanky panky happened but not sure.

One of the problems I see both in this post and others (the comments following the Steve Keen interview and others if memory serves) is sometimes mixing ideas or areas that are better kept separate for initial understanding.  MMT is a theory of money.  It is not a complete economic theory.  Do the economists (like those at the University of Kansas City Missouri, neweconomicsperspective.org) who advocate MMT to understand the mechanisms of money, also talk about other areas of economics or what I prefer to call political economy (policies, production, allocation, trade, etc.) and how they interact with MMT.  Yes.  Again more reading and time (the most precious resource).

For example in your statement above (comment #43)

This is correct insofar as it goes - it all holds together, and it looks especially good in the context of the MMT model for how things work.  In the MMT world, Chinese have the choice: buy US exports, or not.  Who cares if they buy export goods from the US, that gives our people jobs, right?

But there is a huge missing piece in this model: land, labor, and capital.  From an international perspective, what backs the USD has little to do with the US tax authority, it is all about the sum total of what you can buy with that dollar.  This not only includes US exports, it also includes means of production, including land, buildings, mines, forests, oil wells, and other fixed assets, as well as the labor of US workers.

With their dollars (and the aggregate interest payments), the future Chinese can not only get a share of American exports, they can also come over and buy a good sized chunk of America's capital goods structure.  American companies, buildings, land, natural resources, and so on - and once they do, they will then own this stuff in perpetuity! We cannot do away with this liability by simply clicking some more keys on a keyboard!  That is because those interest payment key clicks map directly to the ability to buy a chunk of America.  Real Stuff backs the USD - not just exports, but everything with a USD price tag attached - and those key clicks give the Chinese the right to claim ownership in perpetuity of all that Real Stuff.  More key clicks = more Real Stuff they get to buy.

That's the real world.  Did you get that sense from reading the section on the Twin Deficits?  I sure didn't.  All I read was "key clicks and exports."  That's an important piece to have missing from the model.

Here you are mixing together foreign policy or geo politics, trade, national political rules like limits on foreign investment or employment policies, national identities versus unbounded capital etc. with the MMT, a theory of the mechanisms of money or the workings of the monetary system (and really even more specifically as it applies to a sovereign currency issuer) and instead of clarifying it is convoluting what is being proposed by the MMT.   I am not saying these other areas are not important or do not interact but am implying a certain level of scientific reductionism may be appropriate to get the gist of MMT.  Of course to be more meaningful and useful and map reality eventually systems thinking is required, putting it all together in grand socio-economic-political-moral-philosophical theories (there is no way I am going there at this point )

The other issue I see is the ever present cognitive biases we are all affected by in any endeavor to understand any area, not just MMT.  I certainly don't have answers here.  My understanding is we all suffer from them and are often unaware of it.

For example in you comment #38 above you quote:

http://neweconomicperspectives.org/2012/03/blog-39-mmt-for-austrians-disagreements.html

... If a household or firm decides to spend more than its income (running a budget deficit), it can issue liabilities to finance purchases. These liabilities will be accumulated as net financial wealth by another household, firm, or government that is saving (running a budget surplus). Of course, for this net financial wealth accumulation to take place, we must have one household or firm willing to deficit spend, and another household, firm, or government willing to accumulate wealth in the form of the liabilities of that deficit spender.  We can say that “it takes two to tango”….

and then conclude:

This is the same approach as the neoclassical folks take.  Under their model, banks act as intermediaries matching savers and borrowers.  This is wrong.

It doesn't take two to tango.  Borrower leads, and saver follows.  While it is true two entities are involved, the decision-making ability lies entirely with the borrower.

From my perspective you have experienced confirmation bias (My hypothesis (in other words I could be completely wrong) - you would rather avoid the time required to read all of the info. or the info does not align with current ideas etc. so you cherry pick and look for holes - I am not tying to be insulting here and know I do this all the time as well.  Sometimes it is the only pragmatic thing to do for the sake of time.)

I reread the entire paragraph from NEP and do not come to the same conclusions you do.  What I read is the satisfaction of the macro financial accounting identity:

Gov't(net deficit / surplus)  = Domestic Private Sector (net deficit / surplus) + Foreign Sector (gov and private net deficit / surplus)

In order for one side of this equation to run a deficit / surplus the other side must do the opposite.

I guarantee MMT does not say banks act as intermediaries matching savers and borrowers.  I am getting my info., like my statement above that you quoted in your comment #43 and agreed with, from MMT.

I guess that is enough.  Let me know how ineffective I was at convincing you.  I am used to it.

Take care

davefairtex
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Posts: 5740
role of savers: they control money velocity

Savers have no control over lending and credit creation, since we are in a fiat money fractional reserve system and not a strict commodity money system.

But one thing savers do control, and that is money velocity.

Savers gate the velocity of money via propensity to save.  If they lose confidence in the ability of money to hold value, the amount of time that money sits in the savings account will decline, and thus the velocity of money will increase.

If savers are worried about losing their jobs, confidence in the economy drops, propensity to save increases, and velocity of money drops as a result.

That is two types of confidence for our monetary model: confidence in money holding its value, and confidence in the economy to provide employment.

Both types of confidence drives propensity to save, which, when combined, sets the velocity of money through the economy.

brentirving67
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Small edit and Definition of MMT

Just a small edit on a statement I made above in case it matters, namely:

MMT, a theory of the mechanisms of money or the workings of the monetary system (and really even more specifically as it applies to a sovereign currency issuer)

Just to be clear, MMT does address situations where either a country is not a sovereign currency issuer (e.g., uses a foreign currency) or pegs their currency.

I would also like to add a description or definition of MMT from Professor Randall Wray Of the University of Kansas City Missouri in case that is helpful.  I also think the description of MMT by Randall Wray below, particularly the statement "it (understanding monetary operations) is important, critically important, to formulating sensible policy", tangentially suggests my cognitive bias hypothesis about the difficulty of certain people accepting MMT. i.e., If there are policies that logically follow from MMT that do not align with the policies of the reader, that reader is more likely to reject MMT.

•         Marx,Keynes, Veblen: M-C-M’; MTP; Theory of business enterprise
•         Institutionalists:M is all bound up with power: to do good and bad; perhaps the most                   important institution in CapEcon
•         PostKeynesians: M and uncertainty; M and contracts; holding M
•         Chartalists:State M, bound up with sovereignty
•         FunctionalFinance: State M and Govt spending
•         TOGETHER:MODERN MONEY

In other words, my argument then—and now—is that the modern money approach integrates all of these approaches into a coherent theory of the way money “works” in the modern economy.

Much of the new ground explored by MMT has been focused on providing an accurate description of what we call “monetary operations”—including the coordination between the central bank and treasury,with special focus on describing how “government really spends”. We have spent so much of our time on this for two reasons: first, almost no one understood this as recently as 2 or 3 years ago. Second, it is important, critically important, to formulating sensible policy.

And as an accurate description, this part of MMT should be accepted by anyone, no matter what their theoretical, political, or ideological persuasion. Ironically, it is the description that has been viciously attacked,even though no one, and I mean no one, has found any holes in the argument.
But MMT is much more, at least in my view.
Quick link to the article I mentioned in an above comment warning about one of Steve Keen's web sites.  I have no idea what the current status is.
Dlumb77
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Savers gate the velocity of money
davefairtex wrote:

Savers gate the velocity of money via propensity to save.  If they lose confidence in the ability of money to hold value, the amount of time that money sits in the savings account will decline, and thus the velocity of money will increase.

Yes, exactly!

Savers are like the players that just keep taking chips off the table.

They squirrel them away in one of either two places:

1) True Savings: A Savings Account or under the mattress. Money stranded in isolation.

2) Converted for capital investment: Converted for a Debt instrument or some other Capital object (Not "consumed" via expenses back into general circulation. Although the new holder may choose to do that.)

So, stepping back, we actually have 2 "pools" of money. M2 and True Active circulating money. The more people save (as certain parties get richer and accumulate more money than they spend), the less left in active circulation. Mathematically, Velocity must go down.

(This is where QE etc come from. So much money is isolated in Savings that the table has no chips left on it to play with.)

The thing is, as you point out, if the confidence in money declines enough, those savings will come back into active circulation. What a hyper-inflationary Tsunami that will be! (Recent CM podcast on Zimbabwe: Trying to get rid of money as quickly as possible)

The more I think about it, I realize that the current system has no inherent stability. As it grows and as more money is saved, it's just waiting for the moment confidence is lost and then BOOM!

davefairtex
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Posts: 5740
no inherent stability

Dlumb77-

The more I think about it, I realize that the current system has no inherent stability. As it grows and as more money is saved, it's just waiting for the moment confidence is lost and then BOOM!

What we have to consider then, is why the system is inherently unstable.

Is it due to math, or is it due to human emotion?

If changes in confidence are at the root of changing velocity, and confidence is based on human emotion - the problem isn't systemic, its just an outgrowth of what we happen to be: human.

The economy is naturally cyclic, because people go from wary to confident, and then back to wary again.  We're a herd, we tend to move together, and this shows itself in economic cyclic/unstable behavior.

I don't think its possible to construct a system that provides for inherent stability.  Stability, in this case, only happens if we're all dead.

The thing is, as you point out, if the confidence in money declines enough, those savings will come back into active circulation. What a hyper-inflationary Tsunami that will be! (Recent CM podcast on Zimbabwe: Trying to get rid of money as quickly as possible)

Yes, I think that's right.  But something needs to happen to switch the primary mood from wary and scared of unemployment/desire to pay down debt to either enthusiasm for taking risk/expanding business, a tight labor market driving wage increase demands, or fear of money losing value.

Clearly, QE won't do this.

Once the mood shifts, we're totally off to the races.  But after a debt bubble pop, it seems that it is infernally tough to get that mood to shift, because of the still large overhang of debt (and the propensity to pay that down post-pop) among other things.

Dlumb77
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Posts: 44
Hi Dave,2 points:1)The

Hi Dave,

2 points:

1)The economy is cyclical.

hmm. The economy might be, but are savings cyclical? You talk about people being confident and taking out new loans or being wary of their job security and increasing savings. But is this really cyclical or does it have a natural bias to an average of more savings over time? Some pieces of evidence:

• Velocity continues to drop over the years. This implies more money sitting on the sidelines (savings)
• Economic stratification of society. The rich getting richer, more wealth concentration.
• Natural tendency to prudently consume less than one earns. You do it, I do it, many people save more over time.

So, my idea is that savings continue to grow over time, even as economic cycles one and go.

2) It seems infernally hard to get the mood to shift because of the debt overhang.

This almost sounds like debt overhang keeps the system stable (.!) People can't escape because they have obligations to repay. I think this might be a really valid argument for why the mood cannot shift amongst those indebted by the system.

But let's go back to your comment that Savers gate velocity, because helps explain the model.

I like the analogy of a bucket of water to describe the Active money supply. Savers are like holes in the bucket, constantly draining of a portion of the water away as they prudently save. What fills the bucket is 2 things: Base Money expansion (M0) and new commercial bank loans.

You can play out this simple model in both currency systems: commodity based and fiat based.

In the commodity based system, the savers hoard all the money, there's no money left and the economy crashes (late 19th century wizard of oz). Bucket runs dry.

In the fiat based system, the savers hoard the money, there is less and less money left, so we get QE to keep some water in the bucket. The problem is, if my conjecture that savings will always continue to grow is correct, you are forced to Always expand the money supply (keep adding more water).

Eventually, the mood of savers HAS to change as they see their savings being debased. Surely?

Or maybe this is exactly what is happening with the asset price bubbles we are seeing? The smart people don't keep their wealth stored in saved money?

And the people that keep the system going are those in debt and willing to take out new loans. (Or QE)

wow. This is feeling very conspiratorial..

davefairtex
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Joined: Sep 3 2008
Posts: 5740
assets & money supply

dlumb77-

MVM tracks money velocity by dividing GDP by money supply.  I wonder if there is a similar sort of metric we could calculate for asset markets.  M2 divided by the change in the stock, bond, & real estate market.  Its not quite right, but it might yield something interesting.

Let me run off and take a look.