Prof. Tim Congen argues
that the recent 100bn Euro sale of bank loans by banks to non-bank entities
destroys bank deposits and thus reduces the money supply, which (so he claims)
is deflationary. The first flaw there is that there is no sharp distinction
between money and non-money. In particular, the large sums those non-bank
entities had in banks prior to the sale would have been in term accounts, and
money in such accounts tends not to be counted as money (quite rightly).
And the fact that so called “money”
in a particular type of term account ACTUALLY
IS COUNTED as money in particular countries is irrelevant: it doesn’t alter the
fact that the longer the “term” the less money-like is that so called money.
Thus it is questionable whether the
above sale of loans really reduces the money supply.
Second and as to the above alleged
deflationary effect, that hinges on which way cause / effect runs. Congdon has
long argued that the amount of commercial bank money influences GDP: in fact he
advocates that government should borrow from private banks with a view to increasing
the stock of such money.
The idea that government / central
bank (GCB) should borrow from private banks when GCB can print its own money is
bizarre. Why pay someone else to do something you can do yourself at no cost?
Like many, I suspect cause / effect
runs the other way: that is, the amount of commercial bank created money (i.e.
amount of loans extended by commercial banks) RESULTS FROM a desire by the
non-bank sector to do business.
To illustrate, if I want to set up a
widget making business rather than lazy around sun-bathing, I’m liable to need
to borrow from a bank in order to set up the widget factory. And if there are
people out there who want to buy widgets rather than sun-bath, they’re liable
to have to borrow in order to be able to buy widgets.
It is interesting to consider this money supply question just a little more deeply.
ReplyDeleteBasically, loans do not increase the money supply. They only increase the PERCEPTION of an increase in the money supply. We have the PERCEPTION of an money supply increase because it is easy to count the total number of deposits in the banks and call that money supply. The FRB uses M1 and M2 to identify different ways of counting bank deposits. The FRB formally also had M3 which counted even more money storage vehicles.
So banks selling loans to depositors would reduce M1, M2, M3, or Mx to the extent that the cash used by depositors to buy the loans was counted in the M definition under consideration. Because the original bank loan never increased base money, extinguishing the loan would not reduce base money.
What effect might this loan exchange have on future loan activity? The banks would have less deposits and less liability but more capital. Depositors would have fewer deposits and more risk of nonpayment. I would expect that banks would become more confident of their stability and depositors would become less confident of their wealth.
I agree the loan purchase improves bank capital ratios, but I can’t see why there’s a problem for depositors not involved in the loan sale. Essentially the loan sale amounts to someone else taking over a chunck of the bank (i.e. $X of the bank’s assets and $X of its liabilities). That doesn’t really affect other depositors – the one’s not involved in the loan sale.
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