Saturday, 30 June 2018

Friday, 29 June 2018

Permanent zero interest rates – an update.

I’ve done a update or “second edition” of the paper I published about a month ago advocating the “no government borrowing / permanent zero interest rate” idea. The update / second edition is here. Title of the update is, "A permanent zero interest rate would maximise GDP - (second edition)".

The basic ideas are the same, but hopefully they are better presented. There’s two or three extra references. The main new idea is in section 15 where I have briefly tried to reconcile the permanent zero interest idea with full reserve banking.  In fact they “reconcile” very nicely: that is, the two ideas, if anything, positively support each other.

The “no government borrowing / permanent zero interest rate” idea is very much an MMT idea: i.e. all the advocates of the idea seem to be MMTers at the moment.

Warren Mosler, founder of MMT, has written three articles advocating the idea. See 2nd last paragraph here. See also here and here. (For the article titles, see list of references below, which are in the order they are mentioned in the main text here).

There’s an article by Bill Mitchell here, and one by Dan Kervick here.

And finally, there’s me. 


Proposals for the Banking System. Huffington.
The Natural Rate of Interest is zero.
There is no right time for the Fed to raise rates. Huffington.

Mitchell. There is no need to issue public debt. Billyblog.

Kervick. Why does Uncle Sam borrow? New Economic Perspectives.

Thursday, 28 June 2018

Deposit insurance would be OK under Vollgeld.

The question as to exactly what form deposits should take under full reserve banking (aka Vollgled aka Sovereign Money) is tricky. The paragraphs below are an attempt at an answer.

The basic problem with the existing bank system is that commercial banks (henceforth just “banks”) create money, and as the French economics nobel laureate Maurice Allais said, that amounts to counterfeiting. To be more exact, what’s wrong with that form of money creation is as follows.

Money creation by central banks and governments (henceforth “the state”) can be done at virtually no cost. As Milton Friedman (who supported Vollgeld) put it, "It need cost society essentially nothing in real resources to provide the individual with the current services of an additional dollar in cash balances."  In contrast, money creation by banks costs a significant amount because banks have to check up on the credit-worthiness of those they supply money too, allow for bad debts etc. Thus state created money (base money) would seem to be the best option.

In a simple hypothetical Vollgeld economy (i.e. where only base money is allowed) keeping the economy at capacity is no problem: the state just issues enough base money to induce the private sector to spend at a rate that brings full employment.

In that hypothetical economy people and banks would lend to each other, and there is no obvious reason why interest rates would not settle down to some sort of genuine free market rate.

But if banks are not forcefully prevented from doing so, there’s a trick they can play and which they play big time in the real world: when a bank has received $X in deposits, it can lend out around $X while telling depositors their money is still available to them. And as long as only a small proportion of depositors try to withdraw their money at the same time, banks get away with that trick about 99% of the time. Hey presto: $X has been turned into about $2X. Money has been created.

That trick works because it is clearly cheaper for banks to fund loans via instant access deposits (on which little interest needs to be paid) as compared to long term deposits. The total amount of bank loans rises.

But that increases demand, thus assuming (as per the above assumption) the economy is already at capacity, the state then has to impose some sort of deflationary effect, like raising taxes and confiscating some base money off the private sector. In short, the effect of money creation by banks (as pointed out by Maurice Allais) is much the same as the effect of those naughty backstreet printers who turn out fake $100 bills: for every such bill put into circulation, government has to confiscate a genuine bill from the private sector.

The solution to the above problem, as pointed out by Vollgeld advocates, is to ensure that loans are funded via equity or something similar, like long term deposits that can be bailed in. That way, $X is no longer turned into $X. What happens is that when someone wants their money lending out, they buy shares in a bank or make a long term deposit, and that funds the loan, rather than instant access deposits funding loans. Shares and long term deposits, depending on the exact length of the deposit are not money. So there is no “money multiplication there.

Now while there is a clear distinction between shares and instant access deposits, there is no clear distinction between an instant access deposit and a two month or six month deposit. So where do we draw the line? Plus there’s the question as to whether deposit insurance should be allowed under Vollgeld. If it is, then the switch to Vollgled would be less of a wrench than it is commonly supposed.

Well as regards deposit insurance, there’d be nothing to stop people who want to lend out money person to person, and/or those who want their bank to lend out their money in the above hypothetical economy to arrange some sort of insurance. In a free market, anyone is free to arrange any sort of insurance they like. And as for state sponsored deposit insurance, there is nothing wrong with that either, as long as it pays for itself. Thus it is hard to see what would be wrong with deposit insurance under Vollgeld. Indeed, it is not insurance which results in banks creating money: it’s “maturity transformation” (i.e. “borrow short and lend long”) which creates money. Moreover it is precisely borrow short and lend long that makes banks fragile (as pointed out by Douglas Diamond), and results in catastrophes like Northern Rock and Lehmans.

The next question is: exactly how “long” should deposits be where depositors want their money loaned out? Well strictly speaking, if maturity transformation is to be abolished altogether, where for example deposits fund twenty year mortgages, then deposits need to be for twenty years. 

Clearly no one wants their money tied up for twenty years, but governments issue bonds with ten and fifteen year maturities. And those who buy those bonds and when they want to cash in can always do so by selling those bonds, maybe at a loss. So in a sense, twenty years would not mean twenty years.

Another possibility stems from the fact that money is defined in most countries as something like “stuff in a bank which is available to the depositor within two months or so”. Thus if that two month dividing line is adopted, then strictly speaking money is not created where a bank funds long term loans via deposits with a minimum two month maturity.

Clearly the latter idea is a bit of semantic trickery because there is not particular logic in making the dividing line two months rather than three or four.  However, on introducing Vollgeld, that two month dividing line would be a start: plus it would be away in introducing Vollgeld GRADUALLY. Gradual changes are always better than violent changes.

Saturday, 23 June 2018

Ann Pettifor’s strange ideas on house prices in Ireland.

Ann Pettifor (AP) claims in an article in the Irish Times that high house prices in Ireland are to a significant extent caused by shortage of land. See under her heading “Inelastic land”. (Title of her article: “Irish house prices sky-high due to finance not scarcity”).

Well now there’s a slight problem there, which is that the population density of the Irish Republic is about one seventh that of England. But house prices in Dublin are not much different to London!

Or if you want a more extreme example, the population density of Australia is around one hundredth that of England, but it’s the same story: house prices in Sydney are not much different to London. Thus high house prices in cities (where most people live nowadays) clearly has a lot to do with the attractions of, and economic benefits of “agglomeration”: i.e. everyone living and working close to everyone else. The fact that the supply of land for the country as a whole is finite is irrelevant: certainly in the case of Ireland and the UK.

Her second main explanation for high house prices comes in two parts. She claims Irish (or more generally EU based banks) have been lending in an irresponsible manner. Second, she claims banks shift money around the world to an excessive extent.

Clearly the 2007/8 bank crisis was largely down to the latter bank irresponsibility. The solution to that is better bank regulation: in particular, bank capital ratios need to be raised. Martin Wolf and Anat Admati (economics prof at Stanford) advocate raising the ratio to 25%: way above it’s present level. Plus Sir John Vickers (chairman of the main UK investigation into banks after the crisis) now says that the rise in capital ratios he proposed in his report was nowhere near adequate.

As for money moving around the world, it is widely accepted that the fall in interest rates over the last twenty years or so, which has cut costs for Western house buyers, is to a significant extent down to the flow of savings from less developed countries. Witness for example the vast amount of US government debt held by China.

The latter movement of funds from less developed to more developed countries brings benefits all round: savers in developing countries get more interest on their savings, and home buyers in the West can buy  their houses for less.

So does the decline in interest rates (which comes to the same thing as an “easy availability of money for mortgages”) explain high house prices in Ireland (and indeed high house prices in the UK)? Well clearly given a SUDDEN fall in interest rates, home buyers would quickly rush out and buy more houses, and/or bigger ones. House prices would rise and initially builders would not be able to meet the additional demand. But we have not had a SUDDEN fall in interest rates: the decline (to repeat) has been fairly gradual over the last twenty years or so. (Actually there has been a gradual decline in interest rates for the last five hundred years – see article entitled “The ‘suprasecular’ stagnation” published by Vox.)

Given the latter twenty year GRADUAL decline in interest rates, it would be reasonable to assume that builders have in fact kept up with demand. So what then is the explanation for rising house prices? Well if builders are not making fabulous profits, which they aren’t, the only possible other explanation is rising costs.

Certainly building costs have risen: they have run ahead of inflation in most Western countries. Improved thermal insulation requirements have raised costs.

Another factor, at least in the UK, is the totally absurd price of land with “planning permission” as it’s called in the UK: i.e. land where permission has been obtained to switch from agricultural use to commercial or residential development. That land is now about a HUNDRED TIMES the cost of agricultural land in the UK: i.e. roughly a million or two million pounds per hectare.

And it seems things are about equally absurd in Ireland. According to this article, land for a single house in Ireland costs between €150,000 and €500,000 in the case of “infill” development. That high price can only be down to the above mentioned agglomeration effect or scarcity of land with planning permission.

And if you want evidence for my above theory that it is COSTS that are holding builders back, see this Financial Times article entitled “Central London housebuilding collapses under price pressure.” Incidentally, while the title of that article refers to “central London”, the article makes it clear that the same problems apply the Greater London area. Presumably that bit of economic theory applies in Ireland as well.

Monday, 18 June 2018

Crass comments on Vollgeld from “professional economists”.

The recent Vollgeld referendum in Switzerland lead to a number of so called professional economists opining on the subject and doing little more than displaying their ignorance. Here is a selection of some of the not too clever material.

Lars Syll (for whom I normally have plenty of respect) claimed that Vollgeld would result in “debt deflation”. In fact as the advocates of Vollgeld / Sovereign Money make clear, under Vollgeld, central bank and government implement whatever amount of stimulus they think is needed to keep the economy at capacity / full employment, much as they do under the existing system.

Next, there was Jeremy Warner (for whom I have very little respect). For some of his nonsense, see this "Ralphonomics" article.

Next there was David Beckworth. To judge by the material under his heading “The knowledge problem” he is clearly under the illusion that under Vollgeld, lending decisions are taken by central banks. Had he bother studying the subject he would have discovered that under Vollgeld, lending decisions are actually taken by commercial banks or other private sector lending organisations, just as they are now.

Confirmation that Beckworth really does labour under the above illusion comes where he says “With such large balance sheets and the sole power to determine who gets money, central bankers would find…”. In fact, under Vollgeld, the central bank and government simply create new money where needed (as suggested by Milton Friedman in his 1948 American Economic Review paper), and spend that money into the economy. It is then up to tens of millions of firms and households to compete for that money just as they compete for money under the existing system.

But top prize for complete gibberish must go to Richard Murphy.

First, he claims Vollgeld “puts inflation at the core of economic policy”. Well it already is at the “core”: central banks decide how much stimulus to implement depending on what the inflation outlook is!!!

Second, he claims that money which is not debt based is not money. That’s BS. Gold, cowrie shells and other commodity based currencies have nothing to do with debt. Those holding British “sovereign” gold coins between 100 and 200 years ago owed nothing to anyone, and no one owed them anything.

Third, he says there is a “very real danger is that a central bank would underestimate the amount of money needed in an economy because their perpetual concern would be the risk of inflation meaning that they would always are on the side of caution.” Well that problem arises under the existing system: sometimes central banks and governments pitch demand too low. Indeed they were doing that BIG TIME during the recent crisis!!!!! What planet has Murphy been living on for the last ten years???

Fourth he says “Give central bankers control of the money supply, and you can forget democratic control of the economy for evermore.” What – so the electorate cannot vote to have government collect more in tax and spend more on health, education etc (or simply print money and spend on health and education)? BS again.

Fifth, he says “since central bankers would also then control the ability of the government create money to spend on its own programs guarantee that this would also mean perpetual austerity, and enforced government balanced-budget, with all the crushing implications that this has the public services.”

Had Murphaloon actually read Positive Money’s proposals (and the proposals of other V/SM advocates) he’d have discovered that under a PM system, the central bank creates whatever amount of money per year it thinks is needed to keep the economy at capacity and give us the 2% inflation target, with government then spending that money (and/or cutting taxes). In fact Ben Bernanke gave his blessing to that idea: see para starting “A possible arrangement…" here.

Sunday, 17 June 2018

Governments deprive people of money so that people then have to borrow from private banks.

The reasons for the above are quite simple and are as follows.

It would be perfectly feasible to have an economy where the only form of money was state issued money, e.g. Fed issued dollars in the US.  And issuing enough of that money to induce the population to spend at a rate that brought full employment, while not exacerbating inflation too much would not be difficult: at least it would be no more difficult than gauging the right amount of stimulus under the existing system.

However, the reality is that private banks are allowed to issue money as well. But if private banks started doing that in an economy which was already in the latter full employment position, the result would be an excessive money supply: excess inflation would ensue (as indeed is explained by George Selgin -  not that I’m suggesting he would agree with the basic thrust of this “Ralphonomics” article). Thus government would have to impose some sort of demand reducing or “deflationary” measure to counteract the latter excess inflation: like raising taxes and confiscating a portion of the population’s stock of money.

Thus if you’re in debt to a bank, remember that is partly because banksters have hoodwinked politicians into driving you into debt so that your bank can make money from lending to you.

Friday, 15 June 2018

More nonsense from Richard Murphy.

Richard Murphy keeps flipping between saying the state (i.e. governments plus their central banks) can create money and saying they can’t. Today in this short article he is in “can” mode….:-)

That’s good to see because most of us tumbled some time ago to the fact that the state can in fact create money at will (base money to be exact).

However there’s just one fly in the ointment.  He says “Quite simply quantitative easing is creating new bank deposits. As modern monetary theory suggests, money advanced creates what are, in effect, new savings, even if in this case they are reserves held by banks with the Bank of England.”

Well those two sentences are not entirely clear, but I’m 90% certain he’s saying that QE creates “new savings”. Well no it doesn’t: QE involves the central bank printing money and buying £X of government debt off the private sector. Thus the private sector loses approximately £X worth of government issued bonds and gains £X of cash. Where are the “new savings” there?

Of course it could be argued that those bonds now in the hands of the central bank are a form of savings. But quite honestly, is a debt owed by one arm of the state to another arm a form of saving? If I declare that my right hand pocket owes my left hand pocket one million, am I better off to the tune of one million? I think not.

Moreover having supported Modern Monetary Theory for the last ten years, and having read several hundred articles written by other MMTers, it’s news to me that MMTers adhere to Murphy’s strange idea that QE creates “new savings”.

Thursday, 14 June 2018

Modigliani Miller.

The Modigliani Miller theory (MM) states that the costs of funding a corporation are not influenced by the exact way that funding is done: specifically, the claim is that changing the proportion of funding done via equity as opposed to debt will not influence the cost of funding.

That makes MM of importance when it comes to deciding what the best capital ratio is for banks. For example if MM is 100% valid, that means the cost of funding banks is not raised when capital ratios are raised. And if the latter is the correct conclusion then that supports two lots of people: first there are those who want to raise bank capital ratios purely so as to avoid bank crises in the future. Martin Wolf and Anat Admati claim the ratio of equity to debt needs to be about 25:75 for that purpose. The second lot are those who want to raise the ratio to 100% as part of implementing Vollgeld / full reserve banking – although some versions of Vollgeld (e.g. Positive Money’s) do not involve that very high capital ratio.

However there are objections to MM, and one of the most popular objections, if not the most popular, is that equity and debt are not taxed in the same way, thus MM does not work out in practice as per theory.

My answer to that has always been that tax is an entirely artificial imposition which should thus be ignored. I’ve recently realized that’s not quite right: i.e. on further reflection, strikes me the correct answer to the latter tax objection to MM is along the lines of: “if someone implements a tax which discriminates against equity, then the best solution is to remove that distortion, but as long as that is not done, some weight should still be given to MM.” Reasons are as follows.

Assuming MM is 100% valid, then capital ratios might as well be raised to 100% (or to the Wolf/Admati 25% level). That makes bank failures are near impossible. However, given a tax which discriminates against equity, then raising bank capital ratios that far will impose costs on banks, which means a smaller bank sector than is optimum. So what to do?

Well it’s likely that diminishing returns are relevant here: e.g. the benefits of raising the capital ratio from say 3% to 6% will be significant, while the benefits of raising them from 93% to 96% are pretty negligible. Thus given a tax which discriminates against equity, it will be worthwhile abstaining from raising bank capital ratios as far as would be the case where that discrimination does not exist, while at the same time, still going for a finite increase in capital ratios.

For example, cutting capital ratios from 100% to 50% does involve a cut in  GDP in that there’s an increased risk of bank failures, but that increased risk is very small. In contrast, cutting the ratio from 100% to 50% does much to cut bank costs, and thus bring about a bank sector which is near it’s optimum size or “GDP maximizing” size.

But of course working out the optimum position on the latter scale is near impossible, and that explains much of the argument over bank regulation.

But much the simplest and best solution is to remove the artificial discrimination against equity. Then (assuming MM has no other defects) we can fire ahead and raise bank capital ratios to the Wolf/Admati 25%, or even higher if the case for Vollgeld is successfully proven.

Tuesday, 12 June 2018

Sunday, 10 June 2018

Why the “Vollgelders” are right.

The Swiss vote today on whether to ban private banks from printing / creating money. A system where that ban in place is referred to in the German speaking world as “Vollgeld”, though such a system has several other names. I’ll stick to “Vollgeld” in the paragraphs below. I’ve explained a dozen times before why such a ban is desirable, but in celebration of this vote I’ll explain again.

First, it is often said that “money is a creature of the state”: that is (as is pretty obvious) there has to be general agreement in a country as to what the country’s basic form of money is – at least it’s much better if that agreement is in place. For example in the US, the basic form of money is Fed issued dollars. But of course any number of other items have performed the function of money throughout history: gold, cowrie shells (used in several countries), cattle, sticks, stones, you name it.

So let’s assume a hypothetical country wants to abandon barter and switch to a money based economy. An important question then arises, namely: what’s the best amount of money to issue? Well that’s easy: the more money people have, the more they will tend to spend, thus the optimum amount to issue is whatever results in enough spending to bring full employment, but no so much as to result in excess inflation.

Some readers will spot that I’ve assumed money can be created at will so as to issue that above optimum quantity. That’s the case with Bank of England pounds, Fed dollars, etc, but things are more difficult in that regard in a cowrie shell or gold based system. But never mind: so as to keep things relevant for the 21st century, let’s assume there is a central bank like the Fed which can issue whatever it thinks is the optimum amount of money.

Having done that, people will borrow from and lend to each other. And they’ll do that direct person to person. Plus organisations that specialise in intermediating between borrowers and lenders will be set up, i.e. commercial banks. People will deposit money at commercial banks among other reasons for safe keeping, and second with a view to the bank lending on that money at interest.

Now is there any reason why the rate of interest that results from that system would not be some sort of genuine free market rate? Not that I can see.

Commercial banks start to create money.

Next, let’s assume that commercial banks make the amazing discovery (which London “goldsmith bankers” actually made in the 1600s) namely that they do not actually need to acquire $X worth of deposits before lending out $X: they can simply issue or lend out “promises to pay” central bank money (or “promises to pay gold” in the case of those goldsmith bankers). Indeed that’s what commercial banks actually do nowadays: lend out promises to pay.

But notice that prior to that discovery, commercial banks had to pay interest to depositors in respect of every dollar loaned out, whereas under the “lend out promises” system there is no need to pay interest to anyone! Magic! Obviously banks are better off lending out home made money rather than money which they can only acquire by paying interest to someone. In fact banks will be able to cut interest rates and lend more.

Now is that an example of “if it sounds too good to be true, it probably is”? Well the answer is “yes” and for the following reasons.

The fact of commercial banks making extra loans increases demand: it’s stimulatory. But it was assumed above that enough central bank money had been issued to keep the economy at capacity / full employment. Thus government will have to impose some sort of deflationary measure to counter that excess demand: like raising taxes and confiscating central bank money from the population.

In short, banks, when they initiate to the above “lend out promises” do not create wealth out of thin air: the riches they have created for themselves and those they lend to have effectively been stolen from the general population. Plus the rate of interest is not at the above mentioned free market rate: it’s an artificially low rate. And as is widely agreed in economics, GDP is maximised where the price of everything is at its free market rate (including the price of borrowed money) except where there are good social reasons for thinking the price should be above or below the free market rate.

The above “stolen from the general population” explains why the Nobel laureate economist Maurice Allais claimed that what banks do is essentially counterfeiting: that is, for every fake $100 bill turned out by a traditional backstreet counterfeiter, government has to confiscate $100 from the general population so as to keep demand under control. I.e. the production of “promises to pay” has the same effect as creating fake $100 bills.

A possible objection to the above claim that the extra lending caused by “promises to pay” is inflationary is that while the initial effect of the extra lending will clearly be inflationary, that effect will die down once the “initially loaned” money has been spent. However, there is unfortunately another effect: the recipients of that new money will find themselves in possession of more money than they want (or the amount that brought about the above mentioned “full employment without excess inflation” scenario). They will therefor try to spend away that excess, which amounts to a permanent increase in demand.

As for the new borrowers / debtors, if they borrow $Y, spending that money obviously has an inflationary effect (as mentioned above), but then they gradually repay that $Y and they’ll have to cut their purchases of goods and services to do that, which amounts to an anti-inflationary effect. Over the long term the amount of new loans made per year roughly equals the amount of loan repayment (ignoring interest), the borrowers do not on balance add to or subtract from aggregate demand. Net effect: an increase in demand, which (as mentioned above) has to be negated, e.g. by extra taxes.

Friday, 8 June 2018

Jo Michell’s ideas on Vollgeld / Sovereign Money.

Jo Michell is an economics prof at the University of the West of England. I have plenty of respect for him.

He has recently produced three fairly short videos about Vollgeld / Sovereign Money (V/SM). They’re each about 10 minutes.  If you go to the latter link, note that the FIRST video is the 3rd one shown at the link: a bit confusing, but never mind. Also, underneath each video there is a transcript.

One point where I agree with Michell (which does not actually feature in these videos far as I can see) is that in the past he has criticized Positive Money (which supports V/SM) for getting environmental matters mixed up with the V/SM question. I agree with Michell there, as do some of the PM supporters in my area.

Of course being concerned about the environment is very much flavour of the month, thus to boost your cause in the eyes of less intelligent self-styled “progressives”, it’s important to put on a display of being concerned about the environment. Certainly the environment is an important matter, but actually proving there is a connection between the V/SM question and environmental matters is a separate issue, and I think Michell is right to accuse PM of having failed to prove the connection.

The first video.

I have no quarrels with the first video. It’s a good introduction to the subject, except to say that videos are not a good forum for dealing with technical issues like V/SM where the exact words and language used are very important. Put another way, I can spot a number of errors which are of the “slip of the tongue” type. But I’m concerned about FUNDAMENTAL errors rather than nit picking.

I have no quarrels with the second video either. In this video (among other things) Michell takes issue with the claim by PM that the existing bank system sucks money out of the real economy. PM’s argument is that since commercial banks create a debt whenever they create money and charge interest on that money, everyone has to pay interest just for the privilege of being able to get hold of money.

I actually criticized that PM claim a few months ago on this blog. My basic point is that when simply creating money, commercial banks do charge for ADMINISTRATION COSTS (which is certainly a flaw in having those banks create money), but they do not, strictly speaking charge interest. However, clearly they do charge interest for loans. But then they’d do that under a V/SM system. (Bit convoluted that: you may need to read the latter article to get the point.)

The third video.

The third video is where the serious errors are. First, Michell claims that V/SM is close to Milton Friedman’s monetarism, a claim also made by Ann Pettifor. In fact there is a big difference between the two.

Friedman advocated the same unvarying increase in the money supply each year, because he though (not unreasonably perhaps) that central banks and governments were so incompetent that they should have no discretion in this area.

In contrast, V/SM claims that central banks and governments should have much the same discretion as they do at present when it comes to deciding how much stimulus to impart.

Another weakness in the latter “similar to Friedman” idea is that the form of stimulus we have implemented over the last 5 years or so actually comes to the same thing as stimulus V/SM style. That is governments have borrowed, spent the relevant money and given bonds to lenders. Then under the guise of QE, central banks have printed money and bought back those bonds. That all nets out to “government and central bank print money and spend it, and/or cut taxes”, which is what V/SM proposes. But strangely we’ve heard to “similar to Friedman” complaints about that.

Moreover, in the early 1930s, Keynes advocated “print and spend”. I do not recollect any complaints to the effect that Keynes was a Friedman style monetarist.

However, Michell’s most important error comes in this sentence:

“Because the sovereign money proposal to strip the banks of the power to lend to bring money creation decisions into the hands of the government feels to me like a policy that kind of restricts growth of credit…”

Well V/SM just doesn’t “strip” commercial banks of the power to lend. They can lend as much as they like, or as much as they think is warranted by the availability of credit-worthy borrowers. The big difference between the existing system and V/SM is that under the latter, loans must be funded via equity or relatively long term deposits which can be bailed in if a bank fails.

Michell does not seem to understand that BASIC element of V/SM.

Also the phrase “feels to me like a policy that kind of restricts growth of credit” is sloppy. But that’s what happens when you try to deal with difficult technical subjects in video interviews.

Milton Friedman and Lawrence Kotlikoff advocated that under V/SM loans should be funded just by equity, whereas PM goes for the mix of equity and long term deposits.

And finally, re the latter “restricts growth of credit” V/SM certainly could result in interest rates rising somewhat: those supplying equity could be argued to run a bigger risk than depositors, though if banks are charged the full cost of deposit insurance which they certainly should be, it is not clear that the TOTAL cost of supplying equity to a bank is much different to cost of supplying deposits.

Moreover, interest rates are currently at a record low, thus a rise in interest rates would do little harm. Indeed, all the world and his wife is complaining about the excessive levels of lending, borrowing and debt that stem from low interest rates.

Plus in the 1980s, mortgagors in the UK were paying almost three times the rate of interest that they do nowadays. I do not remember the sky falling in in the 80s, nor do I remember the streets being lined with homeless folk who could not afford mortgages.

As for any deflationary effect of the latter possible rise in interest rates, that is easily countered with a dose of “print and spend”.

Jeremy Warner's odd ideas on Vollgeld / Sovereign Money.

Jeremy Warner in the Daily Telegraph has two objections to Vollgeld / Sovereign Money. One is that V/SM apparently involves politicians being in charge of money creation (his 5th last para). Had he actually bothered reading Positive Money’s proposals he’d have discovered that it is the central bank (or some other committee of economists) that decides how much money is created. I.e. under V/SM it’s the central bank that has the last say on how much stimulus is implemented, which is no different to the EXISTING system! As to how much is loaned, that is left to commercial banks.

His second objection is that the switch to V/SM would involve disruption. Well Milton Friedman (a supporter of V/SM) said the disruption would be minimal. But in any case, if something has long term benefits, it is worth doing even if it involves temporary disruption. Assuming (big assumption of course) Brexit brings long term benefits to the UK, then the disruption caused by it will eventually pay off.

The title of Warner’s article is “Nationalising money is  an odd way to fix markets”.

P.S. To add insult to injury, another vociferous opponent of V/SM is Ann Pettifor, but one of her main objections to V/SM is the fact that central banks determine how much money is created: i.e. she prefers a more democratic system, e.g. having politicians having a say in the matter.

Perhaps Warner and Pettifor could get together and sort that one out......:-)

Monday, 4 June 2018

The merits of a permanent zero interest rate.

Milton Friedman and Warren Mosler (founder of Modern Monetary Theory) advocated a system where government and central bank issue enough base money to keep the economy working at capacity but do not pay interest to those holding that money. I.e. they advocated a system where government does not borrow. And that amounts to a permanent zero interest rate policy.

Friedman did not produce very detailed reasons for that idea and I find Mosler’s reasons a bit convoluted and hard to follow. So I’ve written a paper setting out an argument for a permanent zero interest rate policy which is essentially very simple: it’s that none of the arguments for government borrowing stand inspection, thus there should be no such borrowing, and that (to repeat) equals a permanent zero interest rate set up.

Having said the argument is basically very simple, actually demolishing the large number of alleged reasons (or “lame excuses”) for government borrowing is not a simple matter: it requires a few thousand words.

The paper is 99% complete, and the draft as it stands at the moment is here. Comments are welcome. I’ll submit it to a journal – probably this week.


P.S. (9th June). Paper now submitted to a journal, though with significant changes to the version linked to above.


P.S.  – 27th June 2018.

The paper got turned down by the journal. I’ve done an improved version. See here.
The basic ideas in the (hopefully) improved version are the same. There are a two or three extra references and two or three extra minor points. In contrast to those minor points, there is a relatively important extra point namely that I’ve reconciled the ideas in the paper with full reserve banking (section 15).  More specifically, I’ve tried to show (very briefly) that the ideas in the paper are fully compatible with full reserve, or to put it more strongly, that the ideas in the paper and the ideas behind full reserve reinforce each other.

Sunday, 3 June 2018

Richard Murphy’s strange ideas on banking.

Richard Murphy takes issue with Positive Money today in an article entitled “It’s time the world’s economists woke up to reality.”

The article actually starts by linking (in the second para) to an earlier article of his entitled “Why Positive Money is wrong.” So I’ll start with that “linked to” article. Dealing with the latter article actually occupies most of space below. However, some of Murphy’s points in the more recent article are just a repetition of points in the earlier article, so to some extent dealing with the first article also addresses Murphy’s claims in the second. Also the first article is much longer.

Unelected committees.

His first objection to PM is: “I object to any unelected committee taking control of our economic policy. I object to the current sham of central bank independence and I object to alternatives to it. We elect governments to run economic policy and not unelected 'wise people' whose status may well be challengeable and most of whom will be slaves to some long-dead economist.”

Well Murphy’s first blunder there is his suggestion that PM’s “committee” would “control economic policy”. Had Murphy actually studied PM proposals he’d have discovered that PM propose the committee being limited simply to deciding how much money to create. I.e. the committee does not have overall control over the totality of “economic policy”.

Moreover, controlling the amount of stimulus the economy gets over the next six months or so is pretty much what the Bank of England Monetary Policy Committee (BoE MPC) DOES ANYWAY: i.e. the BoE MPC (as I’ve explained a dozen times on this blog) has the power to override what it sees as excessive fiscal stimulus. I.e. under both the existing system and under PM’s system, a committee of the latter sort has the final word on stimulus. Much the same goes for other nominally independent CBs.

Plus doubtless unbeknown to Murphy, Ben Bernanke gave his blessing to a PM type system under which a CB committee decides how much money to create, while politicians decide exactly how  to spend that money. See Bernanke’s para starting “A possible arrangement…”

And while on the subject of the rather large number of formidable opponents that Murphy has which he does not seem to be aware of, Keynes in the early 1930s in a letter to Roosevelt backed the idea of having government print fresh money and spend it in a recession: exactly what PM advocates. See Keynes 5th para.

Re what Murphy refers to as the “sham” of CB independence”, no one has ever suggested that so called “independent” CBs are totally and completely independent. Same goes for the Army, Navy, Oxford University, the National Health Service, you name it. That is, all entities which are funded or part funded by government or which are part of the state apparatus have a DEGREE of independence, and that degree of independence varies from country to country, and indeed varies within particular countries at difference points in time. E.g. Gordon Brown gave the Bank of England nominal independence in 1997.

In short, Murphy’s use of the word “sham” is itself a sham.

Something wrong with the 2% inflation target?

Murphy’s second objection to PM is: “I object to inflation being at the core of money policy. Of course it is vital, but most especially to the interests of those with wealth. The object of money creation should be to ensure that there is enough to create full employment and rising median wages.”

So what’s that supposed to mean? Is he saying we let inflation rip a la Robert Mugabe or what? He doesn’t tell us.

Note also that those first two objections by Murphy ARE NOT specifically PM policies: that is they are policies widely accepted in the economics profession. Thus so far as those two points go, Murphy is up against a much more formidable army of opponents that he realizes.

Indeed, Murphy’s opponents include several economics Nobel laureates: i.e. several Nobel laureates have backed full reserve banking which essentially what PM proposes.

What is money?

Murphy’s third objection starts, “this policy fails to understand what money is. Money is, in the modern world, simply a promise to pay.”

Well that’s news to me and news to dozens of central banks (CBs) around the world. For example BoE £10 notes say “I promise to pay the bearer on demand the sum of £10” (in gold presumably). But if you turn up at the BoE (or any other CB) demanding to be paid gold or anything else, you’ll be told to shove off, which makes a nonsense of Murphy’s “promise to pay”.

Next, Murphy says “So, governments create money when they promise to pay when spending…”. Nonsense! Governments (along with their central banks) create money when they pay – using money they’ve created on keyboards. Full stop.  There is no need for promises of any sort. Indeed, Murphy seems to admit much in his second last para where he says base money is created “by government spending”. Nothing about promises there.

Far from PM not “understand what money is”, it’s beginning to look like it’s Murphy who doesn’t understand. Anyway, to continue….

A couple of sentences later, Murphy says that PM claim “…there is something called 'central bank money' and that a stock of this can be created and distributed for use to banks.”

Well, again, it’s not just PM who claim there is such a thing as CB money: almost the entire economics profession makes the same claim! Yet again, Murphy criticizes PM for making a claim which is not specifically a PM claim, but which is rather one which is accepted by most of the economics profession.

Moreover, having suggested there is no such thing as CB created money, Murphy then says in his penultimate para that the commercial bank created money system could not operate without CB money (base money). Well unless my understanding of the English language and logic are severely defective, Murphy is saying that base money does actually exist!!!

As to the name given to CB created money it actually has several names (for some strange reason): those include “base money”, “high powered money”, “vertical money” and “sovereign money”.

Next, in the latter quote from Murphy’s article, he objects to the idea that base money can be “created and distributed for use by banks”.

Perhaps Murphy hasn’t heard of QE: a process that involves CBs creating money and using it to buy up government debt. That new money swells banks’ reserves, which puts them in a slightly better position to lend.

Note that I am not say QE is a particularly effective form of stimulus – I expressed doubts about its effectiveness about ten years ago when it was first mooted.

Should money be rationed?

Murphy’s fourth objection is that apparently under PM policies, money is rationed.  As he puts it, “the PM proposal rations money”. So money is totally unrationed under the existing system, or something?

Try going along to your bank and ask for a few tens of thousands. You’ll find they won’t let you have it apart from on VERY strict conditions, including most probably, the need for you to hand over the title deeds of your house.

Murphy’s main objection to rationing money is that “….the limitation on money availability constrains growth…”. Well of course rationing money can constrain growth, but PM advocate issuing ENOUGH base money to keep the economy at capacity: i.e. the level at which growth is as fast as it can be without giving us an unacceptable level of inflation.

In short, money creation under PM’s system DOES NOT “constrain growth” – unless the BoE MPC is less than entirely competent. But then the BoE MPC is doubtless less than 100% competent under the EXISTING system: i.e. growth is probably sometimes ALREADY constrained to some extent that committee.

Would Sterling be undermined?

Murphy’s fifth objection to MP is “PM would also hopelessly undermine the use of sterling. The reality is that people borrow and spend in sterling because they need to pay their taxes, and a banking system that can create credit to meet their needs lets them do so.”

Well the first flaw in that argument is that I doubt many people or firms outside the UK use Sterling to pay taxes. Certainly there is no need for anyone in the Eurozone to do so: they have Euros. Same goes for the US: they have US dollars. Same goes for China, Russia, Canada, India…..I could go on, but you doubtless get the point.

Moreover, not even in the UK is commercial bank created money any use for paying taxes!!!  The UK tax authorities just won’t accept it.

To be more exact, you can pay the tax authorities with a cheque drawn on Lloyds or Barclays if you like. But the tax authorities won’t accept it: what they do is to go running along to Lloyds, Barclays etc and demand base money instead of the cheque. That process of replacing commercial bank created money with base money takes place behind the scenes at the end of every working day at the BoE.

And finally in his last few sentences, Murphy suggests PM gets to grips with Modern Monetary Theory. Well that’s a laugh because PM and MMT have much in common. Indeed there’s an article on the PM site which argues that PM and MMT should join forces.

MMTers do not advocate full reserve banking, but they do tend to  claim that come a recession, the state (i.e. government and CB) should simply create base money and spend it. Indeed, one of the most common criticisms of MMT is that it is just Keynes writ large. But Keynes (as mentioned above) advocated “print and spend” as a cure for recessions: exactly what Murphy claims to oppose.

The word “schizophrenia” springs to mind.

Murphy’s second article.

One of the first claims in this article is that debt is inherent to base money which remember, according to Murphy, doesn’t exist….:-)

More specifically, he claims base money is of value because it is used to pay taxes. As he puts it, “A currency achieves that (i.e. “value”) by being issued into existence by a government that accepts it back in settlement of legally due tax obligations.”

Well it’s certainly true that throughout history there have been several examples of kings, rulers etc creating a form of money and demanding that taxes be paid in that form of money, or else you go  to prison or whatever. Needless to say that gives an incentive to obtain that form of money.

However, the latter threat is not ESSENTIAL in order for something to become the accepted form of money in a country or society or tribe. The evidence from history and from anthropologists is that an almost limitless number of items have served as money, and moreover, without any tax being collected! I.e. the above tax point certainly helps make a particular form of money the dominant form of money, but it’s not essential.

Accurate forecasting.

Next, Murphy claims CBs will not be able to accurately forecast the amount of money that needs to be created and spent. As he puts it, “it assumes that the central bank is capable of accurately forecasting this. I have to say I have absolutely no such confidence.”

Well is the EXISTING system much better in that regard? I.e. are CBs able to accurately forecast the best rate of interest for the next few months, or are finance ministers and politicians able to “accurately forecast” the amount of fiscal stimulus? Of course not!

Indeed, in that fiscal stimulus consists of government borrowing money, spending it and giving bonds to lenders, the Republicans in the US have proved themselves GROSSLY irresponsible and utterly dishonest. That is, when not in power a few years ago, they complained incessantly about excessive government deficits and debts (at exactly the time when a big deficit was needed to escape the recession). But now that they’re in power and the economy has recovered, which means a big deficit is not needed, they let the deficit go thru the roof. Moreover that’s nowhere near the first time Republicans have complained about deficits when not in power, only to implement record size deficits soon as they’re in power.

Plus the Tories in the UK have been up to similar trickery.

I’d rather see the Marx Brothers, Al Capone, the Simpsons and Laurel and Hardy in charge of the economy.

Excessive or too little credit.

Next, Murphy worries about whether there’ll be enough credit or too much credit under PM’s system. As Murphy puts it, “…it assumes that the market will adapt and that there will be no resulting shortages or excesses of available credit money for settlement of obligations due within an economy.”

Well firstly, it’s a bit of a joke to criticise PM’s proposed system for possibly creating too much credit given that the reason we had a bank crisis ten years ago was irresponsible credit creation by the EXISTING SYSTEM!!!

As for the idea that there’d be LESS CREDIT under PM’s system, there probably would be. I.e. I’d guess interest rates would probably rise a bit under full reserve banking, and for the simple reason that under that system, loans are funded via equity (or something similar) rather than by deposits, with taxpayers picking up the pieces when “deposit funding” doesn’t work, as it inevitably does with monotonous regularity. That is there have been bank crises roughly every 30 years over the last two centuries.

However, interest rates are currently at record lows, so a rise in interest rates by two or three percent would not be a disaster. Plus in the UK in the 1980s, those with mortgages were paying almost THREE TIMES the rate of interest they do nowadays. I didn’t notice the sky falling in the 1980s.

CBs  control credit???

In his final paragraph, Murphy displays a total ignorance of PM’s system (aka full reserve banking) when he suggests credit creation, i.e. loans, are controlled by the CB. As he puts it, “But handing all credit creation to the central bank is not only technically impossible in a modern economy, it's a dangerous folly.”

Under full reserve banking, commercial banks can lend any amount they want: it’s just that loans must be funded via equity and or relatively long term deposits.