Daft pro-immigration arguments in the Financial Times.

France’s former minister of foreign affairs, Bernard Kouchner, had an article in the Financial Times recently about Lampedusa. That’s the island in the Mediterranean which large numbers of would be immigrants from Africa to Europe land on, having crossed the sea in unseaworthy boats: if they don’t drown first.

Half way through the article (at least in the hardcopy version) and in extra bold print it says “Five hundred million of us cannot agree to share the burden of a few thousand needy. Our leaders lack the vision and the generosity.”

The fact that those two sentences are in extra bold print presumably means Bernard Kouchner or the Financial Times think the two sentences are unusually insightful.

Actually they are unusually stupid.

If it were simply a case of five hundred million people being generous towards a “few thousand” then those five hundred million wouldn’t hesitate would they? Not even British National Party or France’s Front Nationale or any other so called “far right” party would hesitate. So what’s Bernard Kouchner drivelling on about?

Well of course it’s not a case of five hundred million being generous (or not) towards an absolutely minute number of people (relatively speaking). What concerns the five hundred million is that there are already about ten million Muslims and further millions of non-Muslims from Africa, the Middle East etc. in Europe. And there are further millions (not thousands) itching to get to Europe as well.

That’s the reason for not being overly welcoming towards the boat people near Lampedusa.  Put another way, if you think British cabinet ministers are dumb, then fear not: French cabinet ministers are equally dumb.

We couldn’t do without immigrants?

Another equally daft pro-immigration argument appeared in the letters column of the FT recently: it argued that if every immigrant in the UK stopped work for a day or a week, there’d be chaos, ergo (apparently) we need immigrants.

Yes, well if everyone with grey hair or who was bald stopped work for a week, there’d be chaos. Which proves we need people with grey hair or who are bald?

If all recent immigrants or all those with grey hair left the UK and migrated to say China, there’d be some temporary disruption because immigrants and those with grey hair tend to concentrate in particular trades or professions or job types. So some members of the remaining population would need to learn new skills. But once the re-skilling was complete, everything would be just hunky dory.

In fact if there was net EMMIGRATION from the UK of say half a million people a year, would that be a problem? I doubt it: after a few years the UK would end up like Sweden, i.e. with a population of about 30 million instead of 60 million. And the problem with that is?

Amazing that I need to spell out the above blindingly obvious points, isn't it?

The flaws in free banking.

Herewith an eleven point introduction to free banking, followed by an explanation as to where the flaws are.

I assume free banking is what one of its main proponents, George Selgin, says it is. In this talk, he says the following.

1. Free banking is a system in which there is no central bank, and commercial banks provide the entire money supply.

2. The historical examples of free banking (the main examples being in Scotland and Canada 100 to 200 years ago) worked well, and they used gold or silver as the monetary base.

3. Once a central bank enters the scene it starts issuing a fiat monetary base and can do so to an irresponsible extent.

4. (10.00 mins) The notes or bills issued by competing commercial banks were exchanged at par: i.e. a £5 note issued by banks X,Y, & Z were all regarded as being worth £5 – except where a bank was seen as being in trouble.

5. In the particular case of the US, free banking did not work well because banks were limited to the geographical location where they first set up: i.e. a bank which set up in San Francisco couldn’t have a branch in New York. That meant that notes issued by the SF bank became progressively less acceptable, the further they travelled from SF.

6. (14.45 minutes) Adam Smith noted that in the early stages of the Scottish free bank system, those banks got their reserves down to very low levels (about 1%). That had the advantage of economising on the use of a real resource: gold. I.e. those holding such banks notes were in effect funding productive investment (made by those borrowing from those banks)

7. (17.10) Central banks in contrast, do not invest in particularly productive stuff. They “invest” in government debt, and junk bonds issued by commercial banks that are in trouble, and which the central bank is bailing out or giving temporary liquidity support to.

8. (19.45) If we were to revert to free banking, we’d get the above advantage: those holding privately issued notes would be investing in productive investment, rather than central bank “junk” investments. But central banks would still perform a kind of macroeconomic function: controlling the size of the monetary base.

9. (20.45) If free banking were re-introduced, central banks would no longer issue paper or metal money (coins). That would be done by private banks.

10. An advantage of privately issued notes is that given an increased demand by the public for notes (as happens at Christmas time) private banks would just print extra notes and give them to customers and debt those customers’ accounts. In contrast, under the existing system, private banks have to give customers CENTRAL BANK issued notes, and that inevitably drains the private bank’s reserves, and has in the past lead to private bank liquidity problems.

11. Selgin claims that bank panics are more down to incompetent management by central banks than to anything private banks have done wrong.

What’s wrong with free banking?

First, the above point about physical notes (No.10 above) is of limited relevance nowadays, given the diminishing use of bank notes and increased use of plastic cards.

Second, since Selgin’s ideas on a return to free banking involve retaining central banks, he does not actually advocate a return to free banking as practiced in Scotland 100 to 200 years ago.

Third, the political reality is that the public DEMANDS a 100% safe form of money: a perfectly reasonable demand. That is, most people are not too clued up as to the solvency of various private banks.

Therefor government has to stand behind the money issued by private banks and/or has to provide a form of 100% safe money.

But the problem with government (i.e. taxpayers) standing behind privately issued money is that that is by definition a subsidy of private banks. Of course where a country has a large number of small banks, that can be dealt with by self funding insurance scheme (FDIC in the US). But in the case of large banks there are systemic risks, and those can only be covered by taxpayers.

So what’s escape from that dilemma? Well it’s easy. The “escape” has been set out by Profs Richard Werner and Laurence Kotlikoff.

It’s to have government issue a form of money for those who want 100% safety – but they get no interest.  As to those who want to have their money earn interest - and that can only be done by lending the money on or investing it - that INEVITABLY involves risk, and it’s not the job of taxpayers to stand behind that risk. So the relevant depositor/investors are on their own.

Conclusion.

A Kotlikoff system beats free banking hands down.

Mark Carney gives private banks more taxpayers' money.

The leading front page story in today’s Financial Times is entitled: “Carney tears up rule book on help for struggling banks”. Basically, he is going to offer more “help” to private banks with liquidity problems than Mervyn King did.

Sweet of him to offer “help” to those desperate, needy private banks, isn't it? I mean their “need” is far greater than that of the unemployed or pensioners.

But enough sarcasm. Lets get down to economics.

No one should be impressed by Carney’s “help” or “generosity” because of course someone, somewhere pays for this “generosity”, and it’s the UK taxpayer, or UK citizens in general, taxpayers or not.

Carney’s misapprehensions are of course not unique to him: that is, the misapprehensions as to exactly what banks are and what they do is widespread. And some very relevant mistakes and misapprehensions appear in a Bank of England paper published at almost the same time as Carney’s speech.

The paper points out (p.1,4^th.paragraph) that banks borrow short and lend long, and then claims that it is “inefficient for banks to self-insure against liquidity risks . . by holding excessively large stocks of safe liquid assets..”.

Well that’s no different to saying it is “inefficient” to erect buildings made of non-flammable materials, so we should use  flammable materials, with the taxpayer footing the bill when buildings burn down.

Put another way, never mind the word “inefficient”. The correct word is “cost”. That is, if the REAL COSTS to a bank of making £X worth of loans is £Y, then the bank and/or those taking out the loans and/or those funding the loans should bear the full cost. It’s not the job of anyone else in a so called “free market” or “capitalist system” to subsidise or stand behind banks, borrowers, depositors and so on.

So how do we prevent commercial banks sparking off systemic problems, without having them scrounge off the taxpayer, or publically owned institutions, like the Bank of England?

Well the solution is simple. It’s the solution advocated by Profs. Laurence Kotlikeoff, Richard Werner, plus Positive Money and many others: forbid or curtail “borrow short and lend long”. That is, if depositors want interest on their money, they must face the fact that that can only be done by investing or lending on their money long term. And that in turn means that while they will normally be able to get fairly quick access to their money, there is absolutly no way they can be GUARANTEED quick access.

There are different ways of enabeling depositors SOME SORT OF ACCESS to their money, while not guaranteeing them instant access to the exact sum they depositored. My favourite is the one advocated by Laurence Kotlikoff.

Under his system, depositors wanting interest on their money simply buy into a unit trust / mutual fund of their choice: i.e. they can choose to have their money used to fund risky mortgages, safe mortgages, loans to high tech firms, or whatever they like. But if large numbers of other unit trust investors want out, then the value of the trust units declines (as is the case with any unit trust). And that means subsequent withdrawers lose some of their money if they cash in their chips.

It also means that the much vaunted “liquidity risks” to which the BoE paper refers just don’t materialise: the bank is not under an obligation to repay any SPECIFIC sum to ANYONE.

Or as George Selgin put it, and in reference to banks, “For a balance sheet without debt liabilities, insolvency is ruled out…”.

Is central bank created money taxpayers’ money?

Some defenders of the current banking system will doubtless try to rebut the above sort of argument by claiming that money freshly created by a central bank ex nihilo has not come from taxpayers, thus having central banks stand behind private banks does not involve a cost to the taxpayer or citizens in general.

To answer the latter point, suppose that in the absence of central bank liquidity support, about one commercial bank per year goes bust. And let’s also assume that the economy is at capacity. That is, any more demand would mean excess inflation.

The latter “once a year” insolvency or bankruptcy has a deflationary or “demand reducing” effect. In particular, depositors lose some of their money, so they spend less.

So, there are so to speak two options there. One is to let about one bank a year go bust and make up for the deflationary effect by printing £Z a year and spending it into the economy (and/or cutting taxes by about £Z). The second option is to have MORE demand stem from commercial bank activity, thanks to the £Z being used to rescue banks with liquidity problems. But that of course means spending £Z a year LESS on “spending money into the economy and/or effecting tax cuts”.

Conclusion: money which is freshly created by a central bank and is used to support private banks which are in trouble, is money which could be put to some other use. Ergo it is effectively taxpayers or citizens in general who pay for bank bail outs.

Or in plain English, as anyone with some common sense knew all along, there is no such thing as a free lunch.

____________

P.S. (31^st Oct 2013). There was an article by Martin Wolf in the Financial Times on the 29^th Oct that was similarly skeptical about Mark Carney’s ideas.

Velocity of circulation of money.

Striking chart here showing a big decline in velocity since about 2000. (H/t Mike Norman).

The decline since the crunch doubtless reflects the recession. Plus the decline will to some extent reflect the large rise in the monetary base since the crunch: and in particular QE which has channelled money into the pockets of the rich who are not doing much with that money.

As for the steep rise in the 1990s and steep decline in the pre cruch “noughties”, I’m at a loss.