Money Destruction

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npwebb's picture
Status: Silver Member (Offline)
Joined: Mar 25 2009
Posts: 111
Money Destruction

 I’m new to this so please indulge me. 

If I understand this correctly, money is loaned into existence.  Conversely it is destroyed when there is a default on a loan. Correct? 

Example: I borrow $500k from Bank of America to purchase a house valued at 500k at the time of purchase. I default on that loan after paying $0 to BoA. BoA forecloses on the house which now has a market value of $250k. 

In this example, has there been a destruction of money equal to 250k? 

If an economic crash destroys money through a large volume of defaults without destroying the entire system, doesn’t that mitigate against exponential growth in debt and money supply and prolong the existence a money system that by design grows exponentially? 

Also, in reference to the slide that explains that the Fed does not create money until a “Big Bank” sells a US bond/bill to the Fed, I have a couple of questions. 

1)       Does the Fed purchase US securities prior to it’s maturity? Ex. The Central Bank of China has 1 Billion dollars in 30 year bonds that mature in 2020. If China wanted to sell those bonds to the FED in 2009, would/can/does the FED make the purchase? What if instead of trying to sell the $1B to the FED, China sells it to another central bank. Is the money supply expanded by $1B at that point?

2)       Is there any practical difference between the FED purchasing US securities directly from the US Treasury versus purchasing them from some other “big bank”? 

I’ve been told that the only real increase in money supply is the creation of money not backed by debt (i.e. Fed purchasing $300 B from the US Treasury). What is the error in this assertion? Is the real money creation occurring as a result of the interest required on the original debt? 

I think I understand the basic key concepts of Chap 8 but when I try to apply that understanding to the news I read it isn’t so clear to me. 

If some one could please explain, I’d really appreciate it.  I'm trying my darndest to wrap my brain around this but honestly my poor little head is sent spinning.


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