Saturday, 21 May 2016

Malcolm Sawyer’s flawed criticisms of full reserve banking.

As an advocate of full reserve banking, I’m always interested in criticisms of the idea. So far I haven’t come across any I can’t deal with, and Sawyer’s criticisms come into that category, that is, they are easily disposed of.

The first two sentences of the abstract read as follows.

“The idea of full reserve banking (under various names) has been adopted by parts of the green and ecological movements (e.g. Green Party of England and Wales). The paper argues that full reserve banking (FRB) would represent a ‘green monetarism’”.

Well there’s a bit of a problem there, which is that full reserve banking has been advocated for a good two centuries and normally with no mention of matters green. For example David Hume, writing over 200 years ago advocated the idea, as did Abraham Lincoln, as did Milton Friedman in the 1960s. None of those individuals were much concerned with matters green or ecological.

That is, full reserve banking and the idea that we should be more environmentally responsible are two quite separate ideas, though obviously, as is the case with any pair ideas, those two ideas CAN BE merged. But Sawyer doesn't actually deal with the COMBINATION of full reserve and green policies: that is, he deals just with full reserve. Thus references to matters green and ecological are irrelevant.

Next, the first sentence of the main text starts, “There have been a number of similar proposals under headings of full reserve banking, positive money, sovereign money and 100 per cent reserve banking…”.

Now hang on: I’ve never heard of a “proposal” called “positive money”. In contrast, there’s an ORGANISATION called Positive Money (with capital letters), which advocates full reserve banking or similar.

You might argue that the above “green” and “capital letter” criticisms are minor criticisms. Perhaps they are: but that number of mistakes that early in a paper does not give me confidence that the rest of the paper will be worth reading.

Anyway, to continue, the rest of the first page describes full reserve banking, in an accurate manner. So no complaints there. As Sawyer says, the existing system is an endogenous money system: we let private banks issue money as they see fit. In contrast, full reserve is an EXOGENOUS system: only the state creates or prints money.

However, things go wrong again at the top of p.2 where Sawyer says, “Under this exogenous money situation, a mismatch between the amount of money which the central bank creates and the amount of money which the public is willing to hold. This leads to a situation of either ‘excess money’ (more money issued than people willing to hold) or ‘deficient money’ (less than people wish to hold for transactions purposes), though the usual emphasis has been on the ‘excess money’ case.”

The above first sentence doesn’t have a verb. But never mind: I make the odd typo myself. More important, are the IDEAS there.

Sawyer is of course quite right to say that there may be a mismatch between the amount of money a central bank (CB) issues and the amount the amount the “public is willing to hold”, and that if the CB issues too much, excess inflation might ensue. But then exactly the same problem applies to every alternative method of implementing stimulus: whether it’s interest rate adjustments, QE, or budget deficits, it’s common for CBs and governments to get it wrong!

What Sawyer should have explained, and in detail, is exactly why regulating demand via the above “print and spend” policy is more difficult that via interest rate adjustments, QE, etc etc. However, he doesn’t explain.

Instead of explaining that point, Sawyer then (half way down p.2) claims that full reserve “shares many similarities with the ill-fated proposals of Friedman and others for the achievement of a specified growth rate of the stock of money..”.

Now the big problem with that claim is that full reserve no more “shares similarities” with Friedman’s monetarism than do EXISTING policies. You may have noticed that over the last five years or so, CBs have organised a massive and totally unprecedented increase the the stock of base money, and they’ve done it via QE.

Moreover, the full reserve system advocated by Positive Money, the New Economics Foundation and Prof Richard Werner (which Sawyer cites) does not rely just on the money supply effect. That is, given inadequate demand, the work linked to just above argues that the state should print money and spend it (and/or cut taxes). In other words there is a clear fiscal element there as well.

Indeed, the beauty of that system is that it doesn’t matter whether the stimulatory effect comes primarily from the latter fiscal element or the monetary effect. I’m prepared to bet my house there’d be some sort of effect. As to whether the effect comes via the monetary or fiscal channel, I couldn’t care less. Why should that matter?

The next three or four pages of Sawyer’s paper are then devoted to attacking monetarism. Well as far as I’m concerned that’s a waste of ink and paper. To repeat, full reserve (at least as advocated by the latter three authors) does not absolutely depend on the idea that the quantity of money is of crucial importance. Though frankly it would be a bit strange if the quantity of base money had NO EFFECT. Robert Mugabe demonstrated very convincingly that if a country prints ludicrously excessive amounts of money, hyperinflation is the result: a point which I imagine is obvious to the average ten year old, even ten year olds who have never picked up a book on economics.

Then on p.10-11 Sawyer explains, correctly, that under full reserve (at least as set out by the above three authors), the deficit is not known in advance. That’s because the CB doesn’t know in advance how much stimulus the economy will need in six months or a years time. And apparently that’s undesirable because it's “Not a recipe for the good management of public expenditure”.

Well the problem with that argument is that NO government or CB knows what’s going to happen in six months time or a year’s time or two year’s time. Thus it doesn’t matter much exactly what system you have for implementing stimulus: one thing’s for sure, and that’s that governments and CBs are often forced to make unforseen changes in spending, interest rates and so on.

You might as well criticise interest rate adjustments because they aren’t a “recipe” for easy forward planning for those thinking of borrowing with a view to making investments, e.g. those contemplating buying a house with the assistance of a mortgage.

Well that’s it. I’m not minded to read any more of this work by Sawyer. He hasn’t thought full reserve through in any detail.

But that is not to suggest I think all his output is poor quality. I liked this work of his which criticised “employer of last resort” or “job guarantee” as it is sometimes called.


  1. Hello Ralph.

    "The next three or four pages of Sawyer’s paper are then devoted to attacking monetarism."

    Have you seen this?

    1. I just had a quick skim thru that article, and thus may be doing the author an injustice, but I don’t think he’s got the distinction between private bank issued money and central bank issued money. As MMTers and Positive Money keep pointing out, the former nets to nothing, in that for every $ of money, there’s a $ of debt . In contrast, CB money is a NET ASSET as viewed by the private sector.

      That article just deals with privately issued money, and what he says may be right. However, Friedman advocated an annual increase in CB issued money (base money). That’s a different kettle of fish.

  2. Sawyer's paper does indeed degenerate into a muddle about monetarism. However, he has some excuse for these confusions.

    It is very unfortunate that several advocates of Full Reserve banking (FRB) have linked FRB to control of the money supply. The worst examples are Friedman in 1948 and Positive Money (PM) in the 2010 paper referenced in Ralph's article above.

    Friedman advocated FRB as a key part of his proposals for control of money supply. He claimed that increasing the money supply at a steady rate could achieve stable economic growth without inflation.

    Similarly, PM argues that:
    -- "the Bank of England would still be aiming to meet a pre-determined inflation target"
    -- "A Stable Money Supply Leads to a Stable Economy"
    -- "the Bank of England would be able to directly control the quantity of money in circulation".
    --"the central bank could allow interest rates to be set by market forces."
    Moreover, going beyond Friedman, PM argue that a new Bank of England "Money Creation Committee" should be instituted to fix the money supply.

    This focus on discredited monetarist policies is unnecessary and detracts from the primary purpose of FRB. In my view, the primary aim of FRB is to improve the stability of the banking system without any need for state assistance (subsidies) such as deposit insurance, lender-of-last resort facilities and bail-outs.

    FRB could be implemented much more simply and without raising irrelevant bitter controversies about monetarist macroeconomics if there were:
    -- No change in institutional/constitutional relationships between the BoE, Government and Parliament regarding the determination of fiscal policy. PM's proposal for a "Money Creation Committee" is irrelevant to the case for FRB.
    -- The ideas of Friedman and PM on controlling the money supply should be rejected. FRB requires no radical change in the conduct of monetary and fiscal policies.
    In particular, the BoE could continue the set and pursue a target interest rate as today, WITHOUT ANY TARGET FOR THE MONEY SUPPLY.

    1. KK,

      You say “This focus on discredited monetarist policies is unnecessary….”. Yes, I agree. But it’s Sawyer (and indeed Ann Pettifor) who try to link Pos Money, or more generally FRB with monetarism.

      However, as I tried to show in the above article, PM’s ideas do not rely on Friedman type monetarism, and nowhere in PM’s literature do they say anything like “we’re big fans of Friedman and his wonderful monetarist ideas”.

      Next, you say “the BoE could continue the set and pursue a target interest rate as today…”. I think a problem there is that interest rate adjustments work VIA the “private bank money issuing” system. That is, if the BoE cuts interest rates, private banks then create some extra money and lend it out. But that clashes with the fact that PM opposes privately created money, and indeed private money does not exist under FRB.

      So it strikes me that PM (and indeed the New Economics Foundation and Richard Werner) are right to think up some alternative method of implementing stimulus: they’re actually FORCED TO.

      Re your final few words, I don’t agree that PM & Co advocate a “target” for the money supply. Their target is simply full employment, and to achieve that, they advocate having the state print and spend money (and/or cut taxes) in whatever amount is needed to achieve the full employment target. That is entirely consistent with Keynes’s famous phrase, “Look after employment, and the budget will look after itself”.

    2. 1. As many commentators have noted, PM’s ideas stink of Friedman type monetarism, or something very similar.
      Like Friedman, PM say they want to run the economy by controlling the money supply.
      They propose that "interest rates be set by market forces". This implies that monetary policy would focus on the quantity of money, rather than the cost of borrowing (interest rates).
      Presumably this is why PM propose a new "Money Creation Committee" of "experts" at the BoE.
      As the name suggests, this would set quantity of money targets instead of interest rates.

      2. Under FRB deposit taking banks would obviously no longer make loans. But, contrary to what you say, this is not a problem. The BoE could still set interest rates through open market operations in government securities. Interest rates on government issued securities, together with rates for international capital, would influence lending rates from investment banks to private businesses and individuals. No problem here.
      So PM & Co were certainly not "FORCED" to think up a "new alternative method of implementing stimulus", except by their own misunderstanding of FRB.

      3. Contrary to your claims, PM did not think up any "new alternative method of implementing stimulus". PM's primary idea seems to be control of the money supply, which was borrowed from Friedman, Fisher and other monetarists .
      However, as you mention, PM also claim that they have new ideas of "having the state print and spend money (and/or cut taxes) in whatever amount is needed to achieve the full employment target". These latter ideas are difficult to reconcile with the proposed control of the money supply. Moreover, these latter ideas are merely plagiarised from Keynes, Lerner, other Post-Keynesians, MMT etc., without any refinements or improvements by PM.

      What a pity that the real case for FRB is confused by all these macro-economic muddles.

    3. “Like Friedman, PM say they want to run the economy by controlling the money supply.”

      I dealt with that criticism above. But to repeat, nowhere in PM literature will you find the claim that (a la Friedman) there should be a SPECIFIC money supply TARGET. The target is full employment, with government aiming to print and spend enough new money each year to attain that target.

      Moreover, the idea that the quantity of money (base money to be exact) has an effect is hardly in dispute: you may have noticed that we’ve had a massive increase in the amount of base money thanks to QE. And I’m not suggesting QE is a particularly good counter recessionary tool, but it does have SOME effect. Why did Zimbabwe experience hyper-inflation? Because Mugabe printed too much money, unless I’m much mistaken.

      Re your point No.2, I think you’re right (on second thoughts). I.e. the ban on private money destroys one transmission mechanism for interest rate adjustments, but doesn’t make those adjustments totally ineffective. Bit technical, that.

      However, I still don’t think interest rate adjustments are a good way of regulating demand. Reason is that given a need for more demand, there is no obvious reason to increase it just via more borrowing, lending and investment, as opposed to more spending on ice-cream, whiskey, education, you name it.

      3. You’re back to claiming PM’s central aim is to control the money supply a la Friedman. I repeat: where do they say that?


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