Tuesday, 25 November 2014
Andrea Leadsom is a UK politician who has served on various banking committees and knows a fair amount about the subject. She took part in the parliamentary debate on money creation on 20th November. However, it would have been good if she had better acquainted herself with full reserve banking or what she calls a “sovereign money” system before speaking on the subject. I’ll deal with her reservations and questions about sovereign money (SM). Her words are in black italics, and my comments are in green.
I will touch on what we are doing to change the regulations and the culture, but first I will set out why we do not believe that the right solution is the wholesale replacement of the current system by something else, such as a sovereign monetary system. Under a sovereign monetary system, it would be the state, not banks, that creates new money. The central bank, via a committee, would decide how much money is created and this money would mostly be transferred to the Government. Lending would come from the pool of customers’ investment account deposits held by commercial banks.
Such a system would raise a number of very important questions. How would that committee assess how much money should be created to meet the inflation target and support the economy?
Answer: in much the same way as EXISTING committees of economists determine how much stimulus is suitable. Those committees are two in number in the case of the UK: the Bank of England Monetary Policy Committee and the Office for Budget Responsibility (OBR). Moreover, over the last two years we have actually had a sovereign money system in that we have implemented fiscal stimulus and followed that by QE. That comes to the same thing as government printing money and spending it (and/or cutting taxes).
If the central bank had the power to finance the Government’s policies, what would the implications be for the credibility of the fiscal framework and the Government’s ability to borrow from the market if they needed to?
The “credibility of the fiscal framework” does not inspire a huge amount of confidence or “credibility” under the EXISTING SYSTEM, in that fiscal stimulus is determined by politicians, who (as David Hume pointed out over 200 years ago) have a habit of borrowing too much rather than raise taxes, and with a view to ingratiating themselves with voters. Or at least such “credibility” was distinctly lacking until the arrival of one of the above mentioned committees of economists, namely the OBR.
The arrival of the OBR has not changed things out of all recognition of course, but most people have more confidence in committees of economists than in politicians (though of course decisions which are clearly political, like what proportion of GDP is allocated to public spending should always be left in the hands of politicians and the electorate).
What would be the impact on the availability of credit for businesses and households?
Seriously: can’t Ms Leadsom work that one out for herself? Anyway, the answer is that an SM system removes all forms of bank subsidy, thus lending costs would probably rise somewhat. But far from reducing GDP, the effect ought to be a RISE in GDP, and for the simple reason that subsidies misallocate resources (i.e. reduce GDP).
Would not credit become pro-cyclical?
Hilarious. We’ve just experienced a near disastrous episode of “cyclicality”: the credit crunch. Indeed had not governments bailed out banks with TRILLIONS of dollars of public money, the world economy would have half collapsed.
In short, SM may have its faults, but it can’t possibly be worse than the existing system.
Would we not incentivise financing households over businesses, because for businesses, banks would presumably expect the state to step in?
The VAST MAJORITY of bank lending is ALREADY devoted to “financing households” (i.e. mortgages), rather than businesses! As to why “the state” is more likely to rescue banks that have loaned to businesses, I’m baffled. And I’m even more baffled as to why that would exacerbate the existing preference that banks have for mortgages rather than loans to businesses.
Would we not be encouraging the emergence of an unregulated set of new shadow banks?
Obviously banks will try to get round any rules, and setting up shadow banks is a possible way round rules. But that applies to ALL LAWS relating to banks. If Ms Leadsom thinks that problem will be far worse as a result of SM that other forms of bank regulation, she needs to tell us why.
In any case, I suspect most advocates of SM fully agree with the point made by Adair Turner, namely that “If it looks like a bank and quacks like a bank” it should be treated like a bank and obey banking law. In short, shadow banks should be regulated just like regular banks.
Would not the introduction of a totally new system, untested across modern advanced economies, create unnecessary risk at a time when people need stability?
That’s a completely fatuous, all purpose argument against change of ANY SORT. Steam powered railways, aeroplanes, computers, you name it were all “untested systems” at some stage.
And finally, I particularly like this phrase uttered by Ms Leadsom later in the debate. In reference to the alleged defects of SM, she said, “we would then be looking at a committee of middle-aged, white men deciding what the economy needs..”
Well the first flaw there is that WE ALREADY HAVE two committees of “middle-aged, white men” determining “what the economy needs”. To repeat, that’s the Bank of England Monetary Policy Committee, and second the OBR.
But second, Ms Leadsom manages to combine racism, sexism and ageism in one short phrase. Is that some sort of record?