Friday, July 13, 2012

Steve Keen to Mish — Why banks can't lend reserves

That "increase reserves to increase lending" argument is so hard to shake, but reserves can't be lent from simply from a double-entry bookkeeping point of view.
The way that accountants keep track of the "assets equals liabilities plus equity" rule is to record an increase in assets as a positive and an increase in liabilities as a negative (your liabilities rise, so a negative gets bigger). Reserves are an asset [of the bank], as are loans, and shown as a positive. Deposits—which are created by a loan—are a liability and shown as a negative.
So to lend to a customer, a bank has to show a negative on that customer's accounts. This can be matched by a positive on the loans entry--because the loan has increased in size. No problem.
But if banks were to lend from reserves, they would need to record a minus there--reserves have fallen. And on the liabilities side, they want to ... also show a negative. Whoops! No can do.
The end result of this logic is that reserves are there for settlement of accounts between banks, and for the government's interface with the private banking sector, but not for lending from.Banks themselves may (if they are allowed--I simply don't know the rules here) swap those assets for other forms of assets that are income-yielding, but they are not able to lend from them.
Read it at Mish's Global Economic Trend Analysis
Notes From Steve Keen on "Lending Reserves" and "Debt Jubilees"
by Michael "Mish" Shedlock

See also Mish's Can Bernanke Force Banks to Lend by Halting Interest on Excess Reserves?


34 comments:

Dan Kervick said...

I think I would explain the matter in a slightly different form. In one way, it is possible for a bank to loan reserves, since one way of making a loan is to dispense vault cash, and vault cash is part of a bank’s total reserves. But that doesn’t matter from a fundamental point of view. The key facts are that (i) reserves are asset of the bank, (ii) loans are also bank assets, and (iii) a deposit is a claim against the bank’s assets – a liability of the bank.

Consider an example: Suppose a bank has $10 million in total reserves, of which $1 million consists in vault cash, and the other $9 million in a reserve account balance at the Fed.

Suppose you are a bank customer with an existing demand deposit account at the bank, and you borrow $10,000 at 5% interest. There are two ways the bank can make the loan. You can get either $10,000 cash or a $10,000 increase in your demand deposit balance. In exchange you tender to the bank a promise to pay back $10,500.

In each case, the net impact on the bank’s balance sheet is the same.

First, consider the second alternative. The bank credits your demand deposit account by $10,000. That means the bank’s liabilities have increased by $10,000. The promise you gave them is an asset of the bank worth $10,500. So reserve assets are unchanged at $10 million. Liabilities have increased by $10,000. Loan assets have increased by 10,500. Thus, the net result is a $500 increase on the bank’s balance sheet.

Now consider the first alternative. The bank does not increase the balance in your demand deposit account, but instead gives you $10,000 from vault cash. That means the bank’s liabilities are unchanged. Its reserve assets have decreased by $10,000. But again, the promise you gave them is an asset of the bank worth $10,500. So the result is once again a $500 net increase on the bank’s balance sheet.

The transaction has two parts: what you get from the bank and what the bank gets from you. What you get from the bank is a subtraction from the bank’s balance sheet total; what the bank gets from you is an addition to its balance sheet total. But the subtraction part can occur in two ways: the bank can directly give you some of the cash portion of its reserve assets; or it can incur a liability to you by giving you a claim on its total reserves. Same result.

[cont. below ...]

Dan Kervick said...

MMT says banks don’t loan their reserves. And I believe that is true so long as one keeps in mind that when they say this, they are talking about reserve balances at the Fed. But that doesn’t mean that they can’t lend reserves in the form of cash. And of course, if they lend by increasing a deposit balance, that might lead to a more-or-less immediate reduction in reserves if the depositor then writes a check on that balance to a depositor at another bank. When the check clears, the lending bank’s reserve balance will be debited by the Fed as it credits the second bank’s balance.

I think the important thing to focus on is that the bank doesn’t need to acquire more reserves first to make more loans. All that matters is the price they have to pay for the reserves.

And there is always a price. Banks pay for reserves, one way or another. Either they borrow them from other banks, or they borrow them from customers. If a customer walks into your bank and deposits $100,000 in savings, they are rewarded with an interest on the deposit. The bank has $100,000 in additional reserves, but owes the customer $100,000 plus the interest. If on the other hand, the bank borrows $100,000 in the interbank market, the effect is the same. They have $100,000 in additional reserves, but owe the lending bank $100,000 plus the interest.

In STF’s and Keen’s debate with Krugman, I believe Krugman was suggesting that bank’s had to acquire more reserves to make more loans, and acquire them before making the loan. But they don’t always need to do the first thing, and they never have to do the second given the current structure of reserve requirements. What you can say is that when banks loan out money – which is a subtraction on their balance sheet - they need to acquire moiré assets, or else they are losing money. But, of course, the loan itself is the asset! If the bank is going to give away $10,000 – either by decreasing their total reserves by $10,000 or by adding a liability worth $10,000 in the form of a deposit balance – then it needs to acquire a promise for $10,000 plus interest in return. That’s how banks increase their net financial assets by giving out money. It doesn’t need to acquire assets in the form of reserves.

Neil Wilson said...

Dan,

That's not the correct formulation.

The mistake is to think that cash has anything to do with the Bank that holds it.

It does not. Cash is, and always is a receipt for liabilities at the central bank.

So when a commerical bank gives an individual cash, all they are doing is transferring the liability to an account to the central bank rather than any other bank.

In other words its a inter bank transfer, and unsurprisingly it clears like any other inter bank transfer - by bank reserves going down. That some of those reserves are in paper form is irrelevant.

Paper bank reserves (which is what cash is) are the only bank reserves that can be held by individuals.

Tom Hickey said...

I don't know that is is correct to call cash "reserves." That's not official speak as far as I can tell. Currency is made up of reserves in accounts at the central bank and currency held as cash. Cash is often called "currency" but never "reserves," in my admittedly limited experience. So there is currency held as reserves by account holders at the cb and currency held as cash. I have never heard anyone talk about reserves held as reserves and reserves held as cash even though they are perfectly fungible in the govt system and they both serve as final settlement, cash for spot and reserves in the interbank system.

Matt Franko said...

"In each case, the net impact on the bank’s balance sheet is the same"

Dan,

This is where you hit it on the head.

These systems and processes, call it "bank lending", should only be thought of and described via the "language" of professional accounting.

This is done via the appropriate Contract Reviews, Balance Sheet entries, Income Statement entries, regulatory filings, etc... THIS IS HOW THE SYSTEM PROCESS IS APPROPRIATELY COMMUNICATED.

This is NOT simple and yes very abstract. Sorry. That's why we teach professional accounting and regulation in our colleges and universities.

No engineer would go about communicating the design of anything via WORDS ALONE. They use diagrams, drawings, numbers, bill of materials, item ID numbers, standardized units of weights and measures, etc.. in a "design package" of drawings and specifications that they publish and only then can the system design and operation be adequately communicated.

These things CANNOT be semantically defined, they are mathematically defined. Again sorry non-math people.

To think otherwise one would have to be a moron.

A "reserve" is an abstract unit used in bank regulation, that is it. To think that a bank "lends" reserves is equivalent to thinking that your power company actually sells you something tangible when they "sell" you a kW-hr.... it is completely ABSURD.

Warren refers to this as "gold standard thinking", he is too kind.

This is monetarist MORON thinking.

Krugman, if he thinks banks "lend out the reserves", I dont care if he has a PhD and a (ig)Nobel prize is a moron in this regard.

Mish, again, if he thinks that banks "lend out the reserves", I dont care how many moron gold-loving readers go to his website everyday, is a moron in this regard.

These people are not capable of abstract mathematical thought to the degree required to adequately understand what is going on here. And they are being completely disrespectful of the true professionals in the industry who have been trained and are practicing in these fields. I'm sorry.

That said, I'm sure they have other gifts in other areas but if what they are trying to do is work in a job where they have to either understand what is going on in the bank lending process or explain what is going on in the bank lending process, they are not fit for the line of work they have chosen.

Those who think that "banks lend out the reserves" continue to make FOOLS out of themselves. They are a disgrace.

Dan Kervick said...

It is easy to look this up, guys. This if from the Fed Board of Governors:

Reserve requirements are the amount of funds that a depository institution must hold in reserve against specified deposit liabilities. Within limits specified by law, the Board of Governors has sole authority over changes in reserve requirements. Depository institutions must hold reserves in the form of vault cash or deposits with Federal Reserve Banks.

Later in a footnote:

Note. Required reserves must be held in the form of vault cash and, if vault cash is insufficient, also in the form of a deposit maintained with a Federal Reserve Bank. An institution that is a member of the Federal Reserve System must hold that deposit directly with a Reserve Bank; an institution that is not a member of the System can maintain that deposit directly with a Reserve Bank or with another institution in a pass-through relationship. Reserve requirements are imposed on commercial banks, savings banks, savings and loan associations, credit unions, U.S. branches and agencies of foreign banks, Edge corporations, and agreement corporations.

Or you can look at the H.3 statistical release. Here is footnote 2 from Table 2 (the third one down). The footnote explains the column heading "Total Reserves."

2. Reserve balances with Federal Reserve Banks plus vault cash used to satisfy reserve requirements.

Neil, what you say is entirely true, but it is also true of the reserves that exist in the form of a reserve balance at the Fed. Both of those forms of money are classified by the Fed as part of the monetary base. They are thus both classified as liabilities of of the government; and they are assets of whomever holds them. But when the bank gives cash to a customer, that is not an interbank transfer. The cash was a liability of the government to begin with and remains a liability of the government - no change there. But the asset transfer doesn't go from bank to bank. It goes from bank to individual. Unless that individual then deposits the cash in another bank, there is no net interbank transfer. The reserves of the lending bank go down, and no bank's reserves go up.

Naturally, a bank is not willing to reduce its assets in this way unless it receives some asset from the customer in return.

Dan Kervick said...

These things CANNOT be semantically defined, they are mathematically defined. Again sorry non-math people.

Matt, mathematics is itself a language and therefore it has its own semantics. But in any case, these terms are all precisely defined.

Dan Kervick said...

Let's focus on what's really essential here:

Suppose a bank has deposits of $100 million - so $100 million of liabilities in the form of deposits.

Assume the reserve requirement is 10% so the reserve requirement for that bank is $10 million. Suppose the bank has total reserves of $10 million. Thus the bank's total reserves are exactly equal to its required reserves, and it has no excess reserves.

Suppose the bank wants to make additional loans of $10 million. The mistake of people like Krugman is that they think that in order to make that loan the bank first has to acquire additional reserves. It initially seemed like he was thinking that the bank had to acquire an additional $10 million! Some of the Austrians with their account of "fractional reserve" lending seem to think that.

But maybe Krugman just thought that the bank needed to acquire another $1 million first, so that when it makes the $10 million in additional loans, its total reserves are again equal to its required reserves. But even that is not true. There is a calculation period and a compliance period, and the clocks on those periods begin after the bank expands its liabilities.

And it's not like the bank has to go hunting for these reserves by finding additional depositors. It can borrow the reserves from other banks - or at worst from the Fed directly.

If a bank makes a loan by giving the customer vault cash, has it "lent its reserves". The question is possibly ambiguous. In one sense the answer is clearly "yes" and another sense "no".

The yes answer is what you get if by "lending its reserves" you mean "lending money by dispensing some of the vault cash which is currently part of its total reserves."

On the other hand, once the money has been dispensed, it is no longer part of the bank's reserves. So if by "lending reserves" you mean, "lending money which remains part of the bank's reserves after the loan is made" then the answer is no.

Tom Hickey said...

Yes, vault cash counts against the RR, but vault cash not reserves. There is no such "thing" as reserves. Reserves exist only as entries on the cb's books. Cash is a real thing and is also an entry on the cb's books.

Tom Hickey said...

Dan K: "If a bank makes a loan by giving the customer vault cash, has it "lent its reserves". The question is possibly ambiguous. In one sense the answer is clearly "yes" and another sense "no".

The yes answer is what you get if by "lending its reserves" you mean "lending money by dispensing some of the vault cash which is currently part of its total reserves."

This is not the way the terms are used technically and talking about lending out reserves in any sense is wrong because of the reason that SK gives and secondly, reserves exist only as accounting entries on the db spreadsheet.

This imprecision leads PK and other monetarists into all kind of nonsense.

Dan Kervick said...

Tom, I don't know why you are so resistant on this point. I just quoted the Fed's definitions. There are perfectly clear definitions of "required reserves", "total reserves" and "excess reserves". It's not some sort of vague mystery.

The confusion doesn't come from whether one says that banks lend their reserves or don't lend their reserves. That doesn't matter. The confusion comes from thinking that banks need to acquire additional reserves before they generate additional loans, and in thinking the CB can cause banks to increase their lending by increasing the quantity of their reserves. These latter two widely held assumptions are false, and they are false even when one recognizes that some of the loans banks make are made by taking vault cash from the bank's total reserve stock.

Tom Hickey said...

Dan, I am so insistent because you are heading for the same trap that Krugman fell into. In no sense do banks lend reserves when deposits resulting from loans are drawn down in cash. Cash and are not the same bank reserves. It counts for required reserves in accounting. Both cash and reserves are currency and make up HPM. Vault cash and reserves in the bank's reserve account at the Fed are both bank assets. They are recorded in separate accounts and are in no sense the same thing.

Banks don't "loan out" anything. That idea is nonsense. Banks make loans against their capital, which puts capital at risk. It's not like making a loan to a friend from one's wallet. This a false analogy.

Loans create deposits and both exist on the banks books as corresponding assets and liabilities. Reserves are bank assets on the cb spreadsheet and cb liabilities. As Keen correctly says, it is logically impossible to loan out reserves since it is an accounting nonsense.

Deposits can be withdrawn in two ways, in cash or by issuing a physical or electronic check, which gets settled in reserves after netting. The loan and deposit are separate from the use of the deposit by the customer, as Chris Cook emphasizes.

Deposti account drawdowns that are not saved (cash under the mattress) are used in transactions, the final settlement of which is either spot in cash or through intermediation in bank reserves (after netting). No sane person borrows at interest to save; people borrow to spend, or their spending constitutes borrowing (credit cards). Settlement comes afterward, both temporally and logically.

I am persistent in this because it is important to MMT to get the terminology and operations right. A seemingly small slip can lead to great mistakes.

STF said...

Reserves = reserve balances + vault cash

Very important not to confuse reserves and reserve balances.

Anonymous said...

A simple way to look at it is a bank can only lend its reserves to another entity with a reserve account.

Tom Hickey said...

STF: "Reserves = reserve balances + vault cash"

Thanks for clarifying Scott. I was not precise in stating that in terms of reserves as a category and rb as a component.

This doesn't change the thrust of the argument. It implies it is logically impossible to "loan out" reserves through cash withdrawal, since as soon as the cash changes hands at the window it is no longer vault cash and no longer considered under the category of reserves as def=rb + vault cash.

Monetary base/HPM def= reserves (rb + vault cash) + cash in in circulation outside the FRS and depository institutions. Again, a clear separation.

marris said...

Ugh, what a mess. This is the shoddiest thing I've ready all week:

> The way that accountants keep track of the "assets equals liabilities plus equity" rule is to record an increase in assets as a positive and an increase in liabilities as a negative (your liabilities rise, so a negative gets bigger). Reserves are an asset, as are loans, and shown as a positive. Deposits--which are created by a loan--are a liability and shown as a negative.

First of all, NO.

Accountants DON'T treat assets as positive and liabilities as negatives. BOTH sides of the balance sheet have positive entries. The asset side shows all the STUFF that is owned by the business. The liability side shows WHO OWNS that stuff.

If the business acquires an asset, it gets dumped on the asset side AND a corresponding "who owns this" is dumped on the liability side.

The bank can start with cash assets and pure equity (the investors in the bank). The bank could have also started with cash assets and a mix of equity + bonds on the right side (if the bank issued bonds to raise money.

Now let's trace through the "banks lend reserves" model.

If the bank gives out a loan that is withdrawn, cash leaves the bank. The asset side cash balance goes down by the size of the loan. But an asset ALSO gets added ... the promise to pay back the loan by the customer. The liability side does not need to change AT ALL.

If the bank gives out a loan that is not withdrawn yet (say a line of credit), the undrawn cash stays on the asset side AND a promise to pay gets added to the asset side. The balance sheet size increases. However, something ALSO gets added to the liability side. The borrower's claim (to the line of credit) is added. The balance sheet stays balanced.

This is the simplest "banks lend reserves" framework, and it is perfectly consistent. Steve Keen can't "trick" it into inconsistency.

The only question is whether this model is APPLICABLE in the real world. For example, in this "lending reserves" model, banks cannot lend out until they have cash reserves.

In a "no lending reserves" model, banks can immediately give out 10x (or whatever the capital ratio inverse is) and expect the CB to provide reserves as needed.

Dan Kervick said...

Tom, it's sort of like the question, "Can I sell my property?"

On the one hand, someone might say, "No, because once you sell something it is no longer your property. So nothing can be both (a) your property and (b) something you have sold at the same time." But a more natural answer is, "Sure, if something is your property, you are allowed to sell it, and if you do sell it, then you have sold your property."

I think we should say the same thing about the question, "Can a bank lend its reserves?" One answer might be, "No, because once a bank has lent some money, that money is no longer part of its reserves. So no money can be both (a) a part of bank reserves and (b) money the bank has lent at the same time."

But another viable answer would be "Sure, because a bank's vault cash is part of its reserves, and the bank can lend its vault cash."

But,these are really just logical and semantic questions - What does "reserves" mean? What does "lend" mean. But the real debates in economics take place after the meanings of terms are fixed, and are empirical questions about the propagation of causal influence, about what actions and events do or do not cause other things to happen. The big question in this area is, "Do changes in reserve quantities cause loan activity to change, or do changes in loan activity cause changes in reserve quantities?" A lot of mainstreamers seem to think its the first disjunt that is true. But MMT and other post-Keynesians say it is the second.

STF said...

Right, Tom. And not necessarily directed at you, actually; just a general point.

In my published research, I've been very careful with that distinction. I notice that I haven't always done so in my blog posts, unfortunately, and that's become a dangerous standard in cyberspace as well as in research and textbooks.

The NY Fed's annual reports on open market ops are very specific on this point.

Tom Hickey said...

Dan K: "Do changes in reserve quantities cause loan activity to change, or do changes in loan activity cause changes in reserve quantities?"

That is indeed is the question, Dan. When a bank lends AND the funds are withdrawn however the banks reserves fall until the netting is intra-bank. As long as the deposit is not drawn upon, there is no change in reserves, either rb or vault cash.

The loan creating the deposit is only the accounting entries, loan as bank asset and deposit as bank liability, and deposit as borrowers asset and the loan as borrowers liability. When and how the borrower draws down the deposit is at the borrower's discretion.

The relevant question is the direction of flow, since that determines the causation. No explanation of "loaning out reserves" changes that. Banks make loans and then do liquidity, risk and capital management based on loans extended.

Tom Hickey said...

Banks take risk assessment and capital cost as well as interest rate cost into account wrt to loan extension and pricing. What I mean by, "Banks make loans and then do liquidity, risk and capital management based on loans extended," is that banks look to their reserve balances for adjusting reserve level, and they look at changes in risk in figuring how much capital is needed as loss provision. It's not just make a loan and then forget about it. The bank is risking its capital to turn a profit, while meeting requirements, and this requires constant management of the loan portfolio. Banks like to stay as close to requirements as comfortable in order to maximize use of capital, while leaving enough leeway for the unanticipated, e.g., having to pay the penalty rate is a cost that management does its best to avoid.

Ralph Musgrave said...

Does this solve the problem?

To the extent that a bank is expanding its lending FASTER than other banks, it must run down its reserves (or assets that can easily be turned into reserves, e.g. Treasuries). That is because lending $X will result in the $X being deposited at other banks, which in turn means shifting $X from the “quickly expanding” bank’s account at the central bank to the accounts of other banks. In this case, reserves ARE BEING lent out.

In contrast, to the extent that all banks are expanding their lending by the SAME AMOUNT, their accounts at the central bank can be left pretty much untouched. So reserves are not being lent out.

Viorel Teodorescu said...

hey, guys - I think it is important to see that there are various layers here, and if we mix the layers up, great confusion will arise.

1. There is a conceptual layer: I get a loan from a bank, the bank extends credit.

2. the accounting layer: my promise to pay gets registered as an asset, my account balance is increased and that gets registered as a liability.

3. The reserve accounting layer. The liability has to get worked out through the system of inter-bank and reserve accounting

4. A physical layer: I walk into a bank and sign some big white bits of paper with legalese on them, and they hand me over smaller bits of paper with nice colours on them

They all represent the same thing, just in different ways. Also, the lower layers suppport the higher layers, making them possible.

Similar things happen in computer communications supporting, among others, the blog and the reply I am writing.

Conceptually, I am writing a reply to a blog. This message gets picked up by the lower layers, diced up in various ways, ultimately packaged as electrons going down the wire, until it gets to the Mike Norman Economics blog, where it gets re-packaged and displayed for all to enjoy.

Very similar process in banking. My conceptual loan gets split up in its components by the bank systems and inter-bank systems, until it makes its way into my back pocket.

If we stay within one layer, all is clear. If we try and mix up layers, or try and interpret the answer of one person into a different layer, all sort of confusion will arise.

Tom Hickey said...

@ Viorel Teodorescu

Good points, Viorel. This is the kind of analysis that philosophers/logicians now do to make clear what is being talked about. Lots of confusion results from mixing the physical, nominal, informational, and conceptual.

Major_Freedom said...

Keen's accounting is off.

He wrote:

"The way that accountants keep track of the "assets equals liabilities plus equity" rule is to record an increase in assets as a positive and an increase in liabilities as a negative (your liabilities rise, so a negative gets bigger). Reserves are an asset [of the bank], as are loans, and shown as a positive. Deposits—which are created by a loan—are a liability and shown as a negative.
So to lend to a customer, a bank has to show a negative on that customer's accounts. This can be matched by a positive on the loans entry--because the loan has increased in size. No problem.
But if banks were to lend from reserves, they would need to record a minus there--reserves have fallen. And on the liabilities side, they want to ... also show a negative. Whoops! No can do."

Keen ignored the asset creation that is brought about by the loan.

His statement "If a bank were to lend reserves", should be followed by "they would convert the reserve asset into a loan asset."

If the borrower deposited the loan money back into the same bank, then the bank would record an increase in asset (reserve) and increase in liability (deposit).

Typically though, the borrower will spend the money and the money will end up in another bank, in which case that other bank would record an increase in assets (reserves) and increase in liabilities (deposits).

There is no accounting violations implied in lending reserves.

paul said...

"Keen ignored the asset creation that is brought about by the loan."

I assume you mean new real assets created through production financed by the loan, because nominal amounts have been accounted for.

So, new real assets are created and the total amount of real assets is levered up since the net amount of financial assets has remained the same.

This means there is less money chasing more goods which leads to price deflation including wages.

In the meantime, debt service remains denominated in the "old" value of dollars.

Debt becomes a greater burden over time, crushing the ability of workers to spend.

Got a solution?

Major_Freedom said...

Paul:

I assume you mean new real assets created through production financed by the loan, because nominal amounts have been accounted for.

No, I mean an accounting entry that Keen ignored. A bank that owns reserves will have an asset entry corresponding to those reserves. If the bank lends those reserves, which is what Keen assumed for argument's sake, then we have to include along with the reduction in assets due to lending the reserves, a corresponding increase in loan asset. Keen ignored this. He just assumed that lending reserves will result in only an entry for the reduction in reserve asset, and an entry for the increase in deposit liability. He didn't add the increase in loan asset.

So, new real assets are created and the total amount of real assets is levered up since the net amount of financial assets has remained the same. This means there is less money chasing more goods which leads to price deflation including wages. In the meantime, debt service remains denominated in the "old" value of dollars. Debt becomes a greater burden over time, crushing the ability of workers to spend.

Got a solution?

I would say you have things backwards. A bank issuing a loan unbacked by prior saving will generate more "financial assets" AND "financial liabilities" than real assets. A bank issuing a loan is not a bank producing a real capital asset like a factory or machine. So what happens is that there is MORE money chasing the SAME goods. And in the meantime, because the credit expansion misleads investors into acting as if there is more saving than there really is, credit expansion alters the productive structure of the economy in such a way that requires accelerating credit expansion to sustain. This of course is not possible in the long run, which is why at some point, banks will stop sufficiently accelerating credit expansion, and the result is a "credit crunch", corrections to investments dependent on accelerating credit expansion, unemployment, drop in output, etc.

What is the solution? End the credit expansion and inflation so as to prevent the boom from occurring.

paul said...

"A bank issuing a loan unbacked by prior saving will generate more "financial assets" AND "financial liabilities" than real assets"

Assets is a slippery term but you have to start somewhere.

Total wealth in the U.S is estimated to be in the $200 Trillion range.

The total amount of Net Financial Assets is obviously the National Debt™ or about $16 Trillion, $10.5 Trillion of which is bonds and $5 Trillion of which is held by foreigners.

Currently there is $54.5 Trillion in credit outstanding in the U.S.

So it looks like "real" wealth exceeds nominal wealth by quite a bit.

The problem is, a great deal of the real and financial wealth is held by less than 1% of the population, and a substantial percentage of the liabilities are held by us regular folks.

There is no mathematically possible way (under the current system) for us to claw back any of that wealth to extinguish our liabilities (without new money creation by the government).

paul said...

@Major

Sorry, forgot this…

"What is the solution? End the credit expansion and inflation so as to prevent the boom from occurring."

I'm with you on the credit expansion part 100%.

It makes no sense to me to consume stuff in excess of savings and future income earned. It's a trap that cannot be reversed without a lot of pain.

Inflation doesn't concern me, I've been around for 65 years and I've never even noticed it. I remember when gas was $0.20/gallon.

It was just as hard to pay for gas then as it is now, and I have a better standard of living than i did growing up.

Major_Freedom said...

Paul:

Inflation doesn't concern me, I've been around for 65 years and I've never even noticed it.

Of course you won't "notice" what is unobservable, i.e. a world without inflation. You can experience a gradually declining standard of living compared to what you otherwise would have had your entire life and not "notice" it.

A world without inflation must be understood. We can understand the possible world without inflation by identifying the logical categories that constrain all possible worlds, which enables us to know the extent of what is empirically possible. It's not much, but it's something.

It was just as hard to pay for gas then as it is now, and I have a better standard of living than i did growing up.

The fact that it is just as hard to pay for gas then as it is now for you should signal to you the possibility that maybe it could have been easier to pay for gas had it been for ideas and actions being different than they were. Instead of gas being the same in terms of real costs, maybe it would have been far lower in real costs, but we just never experienced it because of the ideas and actions that past generations and current generations of people have made.

Yes, most people your age do have a better standard of living now then when you grew up. But for those who are a lot younger than you, those born in the 1970s and after, their standard of living has not appreciably changed at all, regardless of what GDP statistics say (which of course includes all government spending, no matter how wasteful, dollar for dollar).

The real wages of goods producing laborers for example, have stagnated since the early 1970s.

paul said...

"The real wages of goods producing laborers for example, have stagnated since the early 1970s."

Yes. I've been pointing that out for several years now. Especially in comparison to the top 0.1%

It's a problem of distribution of wealth, not inflation, and it has been caused largely by the lowering of taxes on the rich.

Letting the few accumulate that much wealth gives them too much power, and removes dollars needed for transactions (spending) from the economy.

As long as we have a system where all of the wealth is captured by the few, I'm in favor of things that devalue that wealth.

…compared to what you otherwise would have had your entire life and not "notice" it.

No one can know what they could have had otherwise but I already have more than I need.

My quality of life depends to a large degree on other folks also having a good quality of life. Society is meant (for me) to be a step up from the Law of the Jungle.

If I am succeeding at the expense of someone else it concerns me, as does needless human suffereing.

Major_Freedom said...

Paul:

Yes. I've been pointing that out for several years now. Especially in comparison to the top 0.1%

It's a problem of distribution of wealth, not inflation, and it has been caused largely by the lowering of taxes on the rich.

No, it's a problem of inflation. The last vestiges to gold was dropped in 1971, and made effective 1973. Thereafter, worker real wages could be continually eat into in a stealthy manner.

Increasing government deficits also contributed, as it lead to more real resources directed to government plans for its power, and fewer real resources directed to producer plans for the consumer.

Redistribution of wealth is in large part caused by inflation, since inflation always tends to enter the market at distinct points, where relatively wealthier people tend to do business. Wall Street, Washington DC, etc. Look up Cantillon Effect.

Letting the few accumulate that much wealth gives them too much power, and removes dollars needed for transactions (spending) from the economy.

That just makes the remaining dollars in circulation more valuable. People cannot get as wealthy by hoarding money as they could in investing it for profit.

Major_Freedom said...

Paul:


As long as we have a system where all of the wealth is captured by the few, I'm in favor of things that devalue that wealth.

I don't know if there can be a more destructive and counter-productive attitude than this.

Wealth, REAL wealth, is not "captured" by those who produce and earn money. Wealth, real wealth is SOLD by those who produce.

If those who sell goods and services for money, choose to hoard their money and not spend it, then, and seemingly counter-intuitive to people who think like you, they are effectively working for your real standard of living benefit for free.

For consider. Suppose I sell you a good for $100, and then "hoarded" the money. Suppose I then sold you another good for $100, and again I "hoard" the money. As I am hoarding cash, you are receiving REAL goods. Since I am not spending the money you are giving to me, what happens is that you are benefited doubly in the following way:

You receive goods worth $200. With the remaining money you have, it is MORE valuable and thus can enable you to buy MORE goods compared to if I added the $200 to nominal demand in the economy and purchased goods for myself. Instead of both of us competing for goods and services with our money, only YOU are competing to buy goods. Because of that, you pay lower prices, which is the same thing as saying you can buy MORE goods.

Oh what a boon to humanity are cash hoarders! For they are selfless producers who do not acquire as many real goods for themselves, which means there are more available for everyone else to the extent of the hoarder's real productivity!

Imagine a population of equally productive 100 people and out of those 100 people, 50 people are cash hoarders and they don't buy any goods from anyone else. With 50 people producing and NOT buying goods, it means there are TWICE as many goods available for the remaining 50 people who don't cash hoard! The money they spend is TWICE as valuable!

What you are doing is conflating riches and wealth.

Not only that, but the destructiveness of your attitude goes even deeper. For not only does inflation NOT benefit "the poor", those who spend most of that they earn, but inflation HURTS the poor the most, because newly created money is typically received by wealthy people FIRST, and so the money the wealthy DO spend, is in part NOT a result of them producing in the past for other people's benefit, but merely being the initial recipients to inflation, which redistributes wealth from poor to rich!

…compared to what you otherwise would have had your entire life and not "notice" it.

No one can know what they could have had otherwise but I already have more than I need.

We can use logic to set constraints on what COULD possibly have occurred otherwise.

And you don't have more than you need, or else you would cease acting. Clearly since you're still acting, you're not satisfied.

My quality of life depends to a large degree on other folks also having a good quality of life.

In what way?

Society is meant (for me) to be a step up from the Law of the Jungle.

Then why do you advocate jungle tactics of aggression and why do you treat economic competition as zero sum as it is in the jungle?

If I am succeeding at the expense of someone else it concerns me, as does needless human suffereing.

Inflation allows others to succeed at your expense.

paul said...

"Wealth, real wealth is SOLD by those who produce."

"I don't know if there can be a more destructive and counter-productive attitude than this."


Show me with numbers. Create a realistic hypothetical illustrating the flows in the cycle that distributes wealth fairly so that the system doesn't self-destruct.

Wealth is measured in math terms, so accounting for how it gets distributed should be easy.

Major_Freedom said...

Paul:

Show me with numbers.

I kind of already did.

Create a realistic hypothetical illustrating the flows in the cycle that distributes wealth fairly so that the system doesn't self-destruct.

See above.

Wealth is measured in math terms, so accounting for how it gets distributed should be easy.

Wealth is actually measured in subjective value terms.