Getting into the nitty-gritty of monetary OR fiscal policy, and monetary AND fiscal policy that highlights the differences of monetarism, MMT and MR. Definitely worth thinking about, and Mike has not a good job in setting forth the issues from the MR vantage.
Monetary Realism
3 Big Reasons Monetary Realism Matters
Michael Sankowski
Cullen Roche comment on Mike post at Pragmatic Capitalism, An Interesting Wager…
I focus on Mike's post here.
My own view is that monetarism is biased toward economic rent-seeking, hence, favors the accumulation of wealth based on economic rents, and that MR shares this bias, probably because MR contributors Mike Sanskwoski, Cullen Roche, and JHK are in the financial sector, which is largely based on rent-seeking as presently operated. At least that is the way it would seem.
For example, Mike accepts the view that "real estate collateral is fairly valued now" based on historical data wrt to the Core Logic HPI and per capita income. Notice that this is based on per capita income, which has nothing to do with income distribution. Housing experts that I read, like Dr. Housing Bubble, say that housing prices are too high in relation to income distribution. Housing prices in general need to be much lower to be generally affordable at current income levels.
What has happened is that the government — chiefly the Fed and agencies, but extending to the WH — have kept housing prices higher than they would be to prevent the banking sector from insolvency without offering relief to underwater homeowners in servicing debts. The result is housing price manipulation by keeping bank RE inventory off the market or bundling sales to large investors who will rent and then flip.
This involves a huge transfer of economic rent to the wealthy and well-connected through government picking winners and losers.
A similar argument can be made about the financial sector in general. In supporting housing, the Fed admittedly made financial assets higher in value that they would otherwise have been.
The economic issues could have been addressed equitably through fiscal policy, while applying existing law to the financial sector instead of allowing rampant crime and corruption to continue and even proliferate, as Bill Black, Janet Tavakoli, and others have documented.
On one hand, MMT economists (Wray and Mitchell) and MMT allies (UMKC profs Black and Hudson) have been in the forefront of the red flag wavers. On the other, MR is silent about this. One wonders what their stance is.
I don't want to start a big kerfuffle over this, and I regret if anyone's feathers are ruffled. I don't mean this personally in any way, and I realize that I am stepping on friends' toes here. But this issue is bigger than personal feelings. It threatens to take the whole system down, in my view.
My sense is that some career-bias at MR may be entering in here, resulting in the ability to see, let alone address, some huge issues, which if not resolved with lead to the mother of all crashes in the not-so-distant future due to persistence of crony capitalism, corruption and capture. Much of this can be traced to rent-seeking behavior replacing productive contribution abetting by government though capture, e.g., the revolving door and lobbies.
While I don't think that this all there is at issue among monetarism, MMT, and MR, it is a big one. The other big one is the issue of resolving the trifecta of growth wrt production and productivity minus economic rent, employment and price stability. This is the thrust of the MMT policy position, which claims to harmonize the trifecta at full use of available human resources. As far as I understand it, the TC rule is similar to monetarist rules in that it comes it a couple of percentage points higher in unemployment.
So I think that the bet the Brad DeLong proposes needs to be very carefully specified wrt economic criteria.
Moreover, I am not very satisfied with employment measures in terms of "jobs." The present push is toward global equalization of wages for most workers. This is also an issue that needs to be addressed head on, because it is socially and politically important as well as economically. That is to say, the push is on by the elite for a neoliberal world market with the workers of the world competing equally with each other. This is resulting in a fundamental restructuring of social and political relations in the developed world, putting the US, UK, and the EZ in social, political and economic turmoil.
146 comments:
Tom,
Great critique, well kinda. :)
I did not address the income distribution vs. real estate prices. That also popped out to me as a possible flaw in Marc's chart. You have to realize he probably just pulled up that chart and from a long term vantage it looks nice.
If you think in terms of median income instead of mean income, this real estate chart is almost certainly flawed.
Also, the point is more that monetary policy works rather than "it works in the way which is best for society". Thats a good debate to have, and its outside of the purview of this particular post at MR.
As you noted, there are lots of moving parts, lots of details, and it's nearly impossible to separate some (many? most?) policy decisions from ethical and moral dimensions.
The Central Treasury Bank as described by JKH is the accounting ideal, but fiscal vs. monetary is such a charged area of dispute that the decision on how to implement these institutions will come down to moral arguments.
I can't imagine having a reasonable conversation on this topic with Fama, because he thinks all government spending crowds out private investment.
Nice post Tom, and much appreciate the tone.
Thanks, Mike. I thought your post was excellent at zeroing on the issues using DeLong's bet as a foil.
But phrasing the bet in terms of "economy performance" presupposes agreeing on criteria. for assessing performance. That is where the discussion gets "interesting." :o
Very well stated, Tom. And diplomatic, too. ;)
I have a question about NGDP targeting…
…where does the increased spending come from?
I was under the impression monetary policy added no net dollars (NFA) to the economy.
As important as taking mean income instead of median income to housing price levels in order to see afordability and its effects on other sectors of economy, it is also important to compare interest rates of the loans which if lower can increase prices and with it keep afordability the same.
So it is the level of income to montly payments that determines affordability and historically should not be over 31% of income.
But since income is taken as pretax income then tax rates affect the affordability which is somewhat offset by mortgage interest deductible.
All of the changes are determining housing price affordability; change in tax, interest and terms (100% loan) rate.
Historicaly, price of the house was 3 year income, that has changed just by lower interest rates.
What is the yearly payment to income ratio? is it higher then 31%?
What is total debt servicing to income ratio? Is it higher then 24%?
Those were the old days, before housing bubble, conditions to get a house loan: Loan payment to income bellow 31% and total debt servicing to income bellow 24%
Tom, I love a good witchhunt as much as the next fellow, but I must confess, sometimes I harbor doubts that not everyone burned at the stake was actually a witch.
Mike and Cullen do work in the financial sector but frequently argue against interest(JKH's doings-on are more mysterious--- my theory is he runs a Charlie's Angels-style detective agency).
http://www.youtube.com/watch?v=lBmFkF9N200
Before you tag people as a rentiers-- whom Keynes famously wanted to euthanize-- you should spell out the definition you're using and why it is Mike, Cullen and Charlie Town-- err, JKH qualifies (Thank you though for recognizing me as a born doer of good and not including me on the list.).
I don't think this business of making bets is a very good way to resolve disputes in the social sciences.
First, it seems to me the onus is always on those who say certain kinds of policy will work to propose a scientifically respectable way of testing their claims. Simply pointing to a single instance in which the prescribed policy is implemented and the good result follows is an example of the post hoc, ergo propter hoc fallacy, and also a weak inductive argument from a single confirming instance.
Bad economies tend to get better over time, simply as a result of their natural restorative powers. If I have gastroenteritis and swallow a bunch of gummi bears as a treatment, and then don't have gastroenteritis a week from now, that's not a very good test of the gummi bears treatment.
Also it's hard to know how to rule out the placebo effect in testing economic policy prescriptions. If 500 CEOs think the Bernanke gummi bear treatment is super-important because they don't really understand how things work, then the mere fact that he announces it might make them more confident and less risk-averse, and that could have a positive impact on the economy. Is that going to be counted as "working"? Almost any macroeconomic policy prescription can end of working in that manner. IF CEOs happen to think, for whatever reason, that the economy will go to hell whenever black men are allowed to run for high public office, then a new law against allowing black men to run for public office might boost business confidence. Is the generation of placebo effects all we will demand of macroeconomic policy?
I think the distinction between monetary policy and fiscal policy is not particularly robust, and is mainly an mental artifact of very contingent ways of structuring our institutions. The new government of Japan has called for an expansion of public investment in infrastructure financed by direct bond sales to the central bank. Is that monetary policy or fiscal policy? Clearly both. In fact, a government with its own currency always retains the option of structuring its institutions in such a way as to permit the expansion of net non-government financial assets by spending them directly into the economy, without the intermediation of a central banking institution or bond sales. If they wanted to, Japan could set up a system in which the commerical banking systems reserve assets are issued directly by the national treasury, interbank payments are processed and cleared by the treasury, the treasury issues no bonds whatsoever, and government deficts are generated during a given period simply by having the treasury make payments in excess of revenues during that period, without any debt issuance.
Would this be the best way of running things? maybe not. But it is operationally feasible, and would be a system in which every act of fiscal policy is simultaneously an act of monetary policy.
But back to the business of bets, placing bets on policy proposals seems to me a kind of grandstanding that seeks to manufacture through meaningless public spectacle a sophistic warrant for a theory that science and evidence won't provide.
" The new government of Japan has called for an expansion of public investment in infrastructure financed by direct bond sales to the central bank"
The "price structure" in Japan will be based on whatever prices the govt of Japan agrees to pay for these infrastructure upgrades... both labor and materials...
rsp,
"Before you tag people as a rentiers-- whom Keynes famously wanted to euthanize-- "
we should probably be seeking to perhaps euthanize "rent" rather than "rentiers"....
rsp,
Tom,
To me this whole real estate debacle was caused not so much by fraud rather than by govt LITERALLY getting into a bidding war with itself for building materials via competition for limited building materials between the govts GSEs and the govts DoD...
Once the DoD bid was removed from the marketplace, the GSEs were left holding the bag and the prices collapsed.... we've stabilized here for now...
GW Bush asked: "How can you contribute and help in the GWOT? ... go shopping." WRONG!!!!!
rsp
The "price structure" in Japan will be based on whatever prices the govt of Japan agrees to pay for these infrastructure upgrades... both labor and materials...
I think the idea is that, based on new legislation, the government will just set the price and require the bank to make the purchases. If they have any balls, the government could establish that some of the bond sales are at a negative rate of interest. So, e.g., the bank buys a million yen bill from the Japanese treasury for $1.1 million yen, and a few month later the treasury reimburses the bank $1 million yen. Equivalently, the central bank has simply increased the treasury balance by $100 thousand yen - end of story.
I don't know if these special sales will have any impact on government bond prices in the private market, since they will all be out of the market, so to speak, not subject to an auction, and not competing with the private sector bidding process.
Does anyone else find it ridiculous that so many think Stephanie was actually making a bet about 2016. This is all DeLong putting words in her mouth when all she's saying is that QE doesn't allow the pvt sector to deleverage and has no transmission mechanism aside from stimulating spending more out of current income through borrowing or asset price bubbles. There's quite obviously no bet that the economy won't be doing better by 2016. As Dan says, there's all sorts of reasons why the economy might do better by then. And we've always saudi that we can increase Nfa the easy way or the hard way; by 2016 the hard way plus very low interest rates might have gotten us to the point that the economy's moving at a good pace and businesses are ready to invest again. Along the way the collateral damage has been excessive and even immoral, but there's no MMTer that doesnt think that's a serious possibility.
Good post Tom. Thanks.
Monetary Realism, in my opinion, is MMT with toleration of nonsense (such as NGDP targeting) so as to remain politically correct. So, yes, as with much of economics, the professional situation of the practitioner is a big factor.
I've never read anything written by Brad DeLong that I found interesting, and his "interesting wager" fits nicely in that category.
As with Krugman, DeLong is moving toward the MMT camp (per per Beowulf). So kudos for Krugman and DeLong, but bigger kudos for the MMT folks for steering us all in the right direction.
I do with agree with some of the MR critiques of MMT and appreciate all I have learned from Mike, Beowulf, and JKH! And Cullen's blog is one that I look to for reasonable commentary on economic events...
Paul,
" NGDP targeting…"
It's all bullshit and you know it...
rsp,
Matt,
I'm just giving the benefit of the doubt here and asking someone that knows about these things to explain the transfer mechanism.
I hunted down all of the links related to Mike's post and read them…every argument and piece of evidence seemed like pretty weak tea to me.
But I'm still open to a convincing argument.
Oh, and that blurb re Japan…if the government is selling bonds to the Central Bank for cash and spending it on stuff, it's fiscal, driect spending by the government is fiscal, although as we see folks will call it what they want.
I guess monetarists are resorting to calling fiscal operations monetarism now so they don't have to be wrong.
My opinion is that NGDP targeting doesn't pass the laugh test. It's patently absurd.
Obviously, the Fed can't control inflation. Other factors, such as globalization, have larger effects than interest rates. And the effects of interest rates are ambiguous. A 2-second glance at the historical record shows that the Fed reacts to inflation, rather than controlling inflation.
Bullshit is piled on top of bullshit in claiming that expectations regarding Fed policy are enough to move the economy. Common sense is completely lost, and MMT is much clearer on this than so called Monetary Realism.
Anything written on the subject is akin to arguments regarding how many angels can dance on the head of pin; i.e. completely divorced from reality but so obscure that no one really can address the arguments specifically without wasting countless hours...
beowulf Before you tag people as a rentiers-- whom Keynes famously wanted to euthanize-- you should spell out the definition you're using and why it is Mike, Cullen and Charlie Town-- err, JKH qualifies (Thank you though for recognizing me as a born doer of good and not including me on the list.).
Other than you I find no one at MR addressing the underlying issues relative to actual economic performance in relation to social and political realities. MMT economists and allies Hudson and Black address these regularly, in fact they are integral to most MMT posts. I find this a contrast.
I am not accusing anyone of being a rentier or of supporting rentierism. However, one has to choose among classical economics, Marxian economics and Post Keynesianism-Minsky, all of which distinguish between productive gain and economic renton one hand, and on the other, neoclassical, Keynesian-neoclassical synthesis, and Austrian economics, which do not make such a distinction. That is for each of the participants at MR to decide and hopefully acknowledge. Maybe all of you have made this clear, but if so, it is not clear to me, and I wrote this based on my present understanding.
Secondly, there is deep controversy over the causes of the crisis and resulting depression. As far as I can see MR has not addressed this and has made no recommendations for reform, or any argument as why the status quo is OK as it is. There is no analysis along the lines of either Minsky-Fisher (financial instability) and the analysis of how the Ponzi phase was the result of what Black calls a criminogenic environment, control fraud, rating agency complicity, and govt capture. Nor is there any Austrian explanation provided either, such as the Fed holding rates to low for too long resulting in massive malinvestment. The altnative is the mainstream position that it was the result of an unforeseeable shock, or else govt meddling that lead to the CRA, for example and mandated overly lax standards. So I really don't know what the MR position is.
As a result I am in the dark about what the criteria for economic performance are other than the numbers that market watchers are concerned with. I just don't see the real issues that many of us deem paramount are factors at MR, your posts and comments excepted.
The alternatives that you propose and which are somewhat different from MMT proposals in being more market-based, such as Lerner-Colander MAP and Vickrey auctions, are deserving of debate. That is to be commended.
Now this is admittedly my own view, based on an overall impression of following MR. Now your interest may be independent of policy and of macro, too. But that narrows the field of interest down pretty much down to the financial sector, doesn't it?
I have a question about NGDP targeting…
…where does the increased spending come from?
I was under the impression monetary policy added no net dollars (NFA) to the economy.
Expectations. No actual causal transmission mechanism.
The idea is that savers including corps holding retained earnings will consume or invest to avoid expected inflation (rather than saving other currencies instead or buy tangible assets like gold, oil, art, and other things that the wealthy use as inflation hedges).
STF Along the way the collateral damage has been excessive and even immoral, but there's no MMTer that doesnt think that's a serious possibility.
That's my point. It's like congratulating oneself on having achieved peace on a battlefield littered with bodies and the screaming of writhing wounded.
Matt To me this whole real estate debacle was caused not so much by fraud rather than by govt LITERALLY getting into a bidding war with itself for building materials via competition for limited building materials between the govts GSEs and the govts DoD...
The run up was in land price rather than construction cost.
I guess monetarists are resorting to calling fiscal operations monetarism now so they don't have to be wrong.
They don't seem to be smart enough to get the difference. If you don't get non-govt NFA, you are likely to miss it completely and come across looking a fool to those who do get it.
re beowulf (Dec19, 3:01PM):
Excuse me beowulf - I would have thought the definition of rentier obvious!
_________________________________
World English Dictionary
rentier
— n
a. a person whose income consists primarily of fixed unearned amounts, such as rent or bond interest
b. ( as modifier ): the rentier class
_________________________________
So, if the gentlemen you are defending qualify under the definition, then Tom is correct. He made no comment about their humanity. Nor has he ever behaved as an Inquisitor in my reading of his voluminous comments made on MNE - that is you introducing that notion and using it in defence of the character of mates?
But I think all of that is unnecessary.
My simple reading of Tom's post is he is interested in the human impact of rentier behaviour on others; an interest shared by many. The societal (human) impacts are far bigger than any persona. And yet it is through the persona we must debate.
I don't think this stands in Tom's way or yours; or even the said gentlemen (who I have noticed are also rather voluminous and open about their beliefs and well-equipped to publish and defend them).
As a reader - that the debate goes on thoughtfully, is more important to me.
Excuse me if I am wrong, but isn't the biggest rent seeker in the post-keynesian world...Warren Mosler.
He owns a bank, ran a hedge fund in the Cayman islands and pretty much lived off of his ability to invest in fixed income products his whole life.
It strikes me as a tad bit hypocrtical for any MMT advocate to disparage anyone else for being a rent seeker when the founder of MMT is himself the ultimate rent seeker.
Excuse me if I am wrong, but isn't the biggest rent seeker in the post-keynesian world...Warren Mosler.
He owns a bank, ran a hedge fund in the Cayman islands and pretty much lived off of his ability to invest in fixed income products his whole life.
It strikes me as a tad bit hypocrtical for any MMT advocate to disparage anyone else for being a rent seeker when the founder of MMT is himself the ultimate rent seeker.
Excuse me if I am wrong, but isn't the biggest rent seeker in the post-keynesian world...Warren Mosler.
He owns a bank, ran a hedge fund in the Cayman islands and pretty much lived off of his ability to invest in fixed income products his whole life.
It strikes me as a tad bit hypocrtical for any MMT advocate to disparage anyone else for being a rent seeker when the founder of MMT is himself the ultimate rent seeker.
I don't think that Warren has a career-bias about this, however.
For example, Warren has said that he is OK with taxing land rent as an element in reforming tax policy, which he thinks would fulfill the need of taxes to limit inflation. He is also against the highly regressive payroll tax that falls chiefly on work.
Warren has also put a pretty comprehensive financial reform proposal on the table that would drastically reduce the bulk of economic rent in the financial sector.
It's not like he hasn't addressed these issues.
Excuse me if I am wrong, but isn't the biggest rent seeker in the post-keynesian world...Warren Mosler. " - Lars
Ding Ding Ding...we have loser... You are wrong.
Michael Hudson and Bill Black are the crusaders against rent-seeking...and I'm with them.
Warren is an ordinary investor, and he isn't sucking all of the oxygen out of the room by hoarding massive amounts of financial capital, as the Wall Street banks are doing.
Tom,
I/we do this as a hobby! I only write a few articles a week because I don't have time to do full time research on MR.
Uh, Mosler pays a 4% tax rate. And he made all his money trading fixed income at banks before he started his hedge fund where he leached 2 & 20 off his investors for years. He is the epitome of everything about rich Wall Street that the little guy should absolutely despise.
Maybe he admits this all openly. Fine. That doesn't make it any better though.
STF,
That's another reason this is a bad wager - the terms aren't even something related to what Stephanie said, and they are not reasonable at all.
What would be a good wager between Stephanie and Woodford? Imagine you were setting the terms, and they were going to be "fair". What would those terms be?
Mike, I hate to get down on you guys, but the fact is that MR has set itself up in opposition to MMT, as a better answer, or at least as a credible alterative. If you guys want to play, then you have send a team onto the field rather than take just some pot shots when you have time.
Lars said...
Uh, Mosler pays a 4% tax rate. And he made all his money trading fixed income at banks before he started his hedge fund where he leached 2 & 20 off his investors for years. He is the epitome of everything about rich Wall Street that the little guy should absolutely despise. Maybe he admits this all openly. Fine. That doesn't make it any better though.
I assume that Warren would say that he played by the rules. But unlike the others that plead that defense, Warren has boldly changing the rules.
You could say that he has already made his, so he is a bit late to the game. But at least he has showed up. Who else in finance has?
Hudson's latest paper (co-written with Dirk Bezemer) is quite good...
"Incorporating the Rentier Sectors into a Financial Model...
In principle, all monopolies should be included in this rentier sector, as they represent a special privilege (control over markets, especially for necessities) whose return in the form of prices and income in excess of necessary costs of production is a form of economic rent, that is, a transfer payment rather than “earned” income. But statistically there is no practical way to isolate monopoly rent in the NIPA, as this would include a large part of the information technology sector, pharmaceuticals, and much “industry.” The ideal conceptual framework for statistics would be to separate economic rent from underlying cost value... Today’s post-bubble attempts to incorporate balance-sheet analysis into NIPA statistics on current activity are too crude."
http://michael-hudson.com/2012/09/incorporating-the-rentier-sectors-into-a-financial-model-3/
Thanks, beowulf. Promoted the link.
Where would oligopolies and local, such as health service, monopolies come in all this?
I do wish people would play the ball and not the player.
I don't GaF about the ego's/personalities invovled unless it gets in the way of the message.
Of course, if people get it wrong, one can then look at why, particularly when the direct and collateral damage of massively un/der-employed people and successive generations is involved.
can someone clarify whether the confused stuff written over at pragcap on "inside and outside money" is part of MR or not?
"Maybe he admits this all openly. Fine. That doesn't make it any better though." - Lars
Mosler spends a lot of his money advocating for policies that are not in his best financial interests.
Do you have any evidence that he has engaged in control fraud? That's where the really big money has been made (and damage). The money Warren has made is chump change by comparison, we're talking (I'm assuming) millions compared to hundreds of billions or trillions.
Monetarism is basically an extraction scheme that makes money for the top 0.01% while the investments held by households are dependent on fiscal expansion alone.
Advocating for that as a soultion for our economic woes is another case of wolves in sheep's clothing.
Warren calls himself a "tea party democrat", which suggests that he doesn't heart taxes much.
I think his main issue is that he thinks Congress is completely incompetent.
I'm going to quiz him about being a "rent seeker'.
"he thinks Congress is completely incompetent"
Or rather, "out of paradigm"
WillORNG Where would oligopolies and local, such as health service, monopolies come in all this?
I do wish people would play the ball and not the player.
I don't GaF about the ego's/personalities invovled unless it gets in the way of the message.
Of course, if people get it wrong, one can then look at why, particularly when the direct and collateral damage of massively un/der-employed people and successive generations is involved.
This is very much to the point. The neoliberal argument, based on the neoclassical conception of GE without attending to rent is that markets clear at the point of intersection of supply and demand, so that there is also a "natural rate" of interest that accomplishes this by optimally allocating saving and investment as capital.
Quite clearly this is based on the idea that a "free market" is a (near) perfect one. But if rent is involved, and especially if it is involved heavily, or if govt is intruding and picking winners and losers, then the market is not perfect and the model fails.
This is exactly what happens. But the only criticism that one hears from the neoliberal side is "getting govt out of the market" which means fiscally. Neoliberals are usually monetarists because the cb is picking the winners and the losers and the elite controls the cb through the financial sector. So there is a command economyi run by a few technocrats, which is exactly opposite of the picture the neoliberals paint of the "free market."
Post Keynesians influenced by Minsky. Marxians, and Austrians object to cb interference, but it is only the Minsky and Marxians that are talking about economic rent as well.
There is no way to address the issues without addressing these together, because they are joined at the hip.
In addition, political capture has resulted in tax policy that favors rent-seeking by exempting revenue other than income from work and penalizes productive contribution by taxing income from work.
These are glaring issues that are investing the so-called "free market" system. Anyone not talking about this who in the game is either ignorant, and here there is culpable and non-culpable ignorance. After one has been warned there is no non-culpable ignorance. There is also complicity, and it cases where a person stands to gain from the status quo, there is also the question of this.
Anyone who is not part of the solution is part of the problem, especially if one is deeply engaged in the issues.
I still think the obviousness of rent seeking is being missed?
Wandering off into the nuances is only instructive if you keep the primary clearly in focus.
If a group of very young kids are playing, and one kid owes another kid, and one kid owes another kid, and on it goes – that’s an economy. If one kid extracts something for nothing that’s rentiage! (Not a word but still rentiage). In less polite circles it’s called stealing. World English seems to understand rentiers!
What else do I need to understand? Perhaps a little human psychology.
The kids that suffer the extraction are going to think the rentier is a pratt. The rentier is going to surround themselves with a whole lot of ego in compensation. JKH is going to write a book.
(Meanwhile we are all rushing through space at around 1670 km/hr around the sun, on a little blue and white and green jewel of a ball spinning at 107,219 km/hr – somewhere, somebody is trying to fix their hair ) ….
Oh Yes- swap the rotation and orbit figures to be more than figuratively correct.
Again, could someone clarify whether the confused stuff written over at pragcap on "inside and outside money" is actually part of MR, or not?
y, this is probably the wrong place to ask the question. Why not ask it at MR?
"Wandering off into the nuances is only instructive if you keep the primary clearly in focus." - jbarch
Yes, this is a pet peeve of mine also. In a discussion over THE problem, we get a whole lot of input regarding A problem. It may be related, but does it matter? Sometimes it does but not usually, especially if THE problem has been properly identified.
Example: Your car has a leaky water pump, a dent in a fender and an empty gas tank. You need to go somewhere. How would you define the problem and what is the hierarchy of needs? Which problem do you solve first? Sometimes two conditions are of equal importance, and both require solutions to move forward, but in most cases there is a hierarchy and often an problem is negligible, i.e. there is a dent in a fender.
The first step in solving a problem is to define it, and many people are unable or unwilling to take this (most important) step.
Y, I like the way MR makes a distinction between inside money and outside. I find it easier to understand than the MMT idea of horizontal and vertical money.
What do you not like about it?
"I like the way MR makes a distinction between inside money and outside." - Mark Stanford
What is the distinction, according to MR? How is it different from MMT?
The distinction between inside and outside money is well known, it's not a new invention. What I find confused is all the other stuff CR lays on top of it.
What I'd like to know is if all that pragcap stuff is actually MR, according to other MRists.
As far as I can tell 'horizontal and vertical' are just other words for 'inside and outside', except that 'outside money' can also mean foreign currency.
This video and blog by Perry Mehrling is worth a look:
'The Money View' (video under 'about this blog').
http://ineteconomics.org/blog/money-view
"I find it easier to understand than the MMT idea of horizontal and vertical money"
What do you find harder to undertstand about 'horizontal and vertical'?
Y & Paul,
I think the outside/inside money distinction is a clearer way of describing the different money types. I know MR didn't create these concepts and I don't think they claim to have created them.
I find the MMT idea of horizontal "leveraging" of vertical to be confusing and not totally accurate. Maybe it's just confusing terminology.
Also, didn't Cullen create MR?
y As far as I can tell 'horizontal and vertical' are just other words for 'inside and outside',
Right, "vertical" means liabilities of the state, which are "outside" the private sector and therefore add to non-govt NFA when held by the private sector as assets.
"Horizontal" means liabilities created "inside" the private sector and necessarily always net to zero in aggregate due to double entry.
"Inside" and "outside" money are not unique to MMT. The vertical-horizontal is drawn in MMT to draw attention to the hierarchy of money.
The hierarchy of money is not an MMT-exclusive concept either. See Perry Mehrling, The Natural Hierarchy of Money
Vertical money is "outside" or "exogenous" to the private sector. Only the cb can issue currency, which is a govt liability. Only the Treasury can issue tsys where are also a govt liability.
When govt net spends into non-government it increases non-govt NFA and vice versa when it net taxes. Non-govt cannot alter the NFA it holds in aggregate since NFA is by def a govt liability and not a private one. If the ROW wants the currency to spend or save, it has to obtain it in the market, since it cannot issue the currency of another sovereign state.
Money under the present system is said to be endogenous, since the private sector can "leverage" the unit of account by issuing credit, which expands and contracts with demand. What this means is that through the use of credit the liabilities denominated in the unit of account can be increased through the credit extension process independently of govt.
As a matter of fact, M2 greatly exceeds the money base in the US, and total dollar denominated liabilities of the private sector are even greater than that. This increase at the horizontal level is said to be "leveraging the currency" generating more USD-denominated assets-liabilities than the total of US govt liabilities.
Where the vertical interfaces with the horizontal in addition to the payments system and fiscal operations is with the promise of holders of balance in the horizontal system to deliver cash if demanded. In this sense, all USD dollar denominated accounts at the horizontal level of non-govt are convertible into cash on demand, and cash is vertical or outside money that must be obtained from the monopoly issuer.
This "leveraging" of the currency as the unit of account has absolutely nothing to do with the money multiplier as some erroneously conclude, apparently from the use of the same term, not noticing the different in meaning even when explained.
It simply means that the M2 money supply is not dependent on the monetary base that is created exogenously. This is why credit money or "horizontal" money is said to be "endogenous."
The cb (Fed in US) accommodates endogenous credit expansion with automatic lending of rb in case of a bank overdraft if the bank is in good standing, so that the payments system always clears.
"I find the MMT idea of horizontal "leveraging" of vertical to be confusing and not totally accurate." - Mark Sanford
Mark, horizontal leveraging of vertical is not an MMT idea, and as far as I know it isn't ever mentioned as such.
That said, I personally have used the term "leverage" to attempt to describe the relationship between vertical (NFA) and horizontal (credit/debt), but that has nothing to do with MMT.
"not totally accurate"
In what way? Can you be more specific?
Maybe Bill Mitchell is the only person who uses this term then, but he uses it all the time. He says "Modern monetary theorists consider the credit creation process to be the “leveraging of high powered money”."
I don't see how MMT can say that banks aren't reserve constrained, but that they leverage high powered money. That just doesn't make any sense to me. It seems like MMT tries to fit a square peg in a round hole here.
"I don't see how MMT can say that banks aren't reserve constrained, but that they leverage high powered money. That just doesn't make any sense to me. It seems like MMT tries to fit a square peg in a round hole here." _ Mark Sanford
Because the credit circuit won't work without some level of high-powered money…the leverage would be infinite. The current ratio of total debt to NFA is about 5 to 1, and it has always stayed in a pretty narrow range between 4.5 and 7 to 1 although the average has been about 5.5 to 1.
Guess when the 7 to 1 occurred.
The limitation comes from customers ability to service the debt, which is a function of NFA, not the level of reserves in the system.
Why is that confusing?
I had always assumed leverage in this context was debt-to-equity. For the private sector in aggregate, dollar equity being its net financial assets (outside or vertical money) where the liability rests on a government balance sheet and dollar debt being all the (inside or horizontal) money where both asset and liability are on private balance sheets.
In that sense it's not a prior constraint, just an ex-post observation.
Mark, believe it or not, but the same term can mean different things in different contexts, and often is. This very often leads to confusion, so it is not unusual that you may be confused about this. Others are too.. See my comment that explains this in this comment thread. The MMT vertical-horizontal distinction wrt to "leveraging the currency" as unit of account has zip, zero, nada to do with reserve balances and leveraging base money due to the money multiplier, which MMT categorically rejects. Nothing.
If you don't like the word "leverage," think that credit expands and contracts M2 independently of the govt expanding or contracting the monetary base. These phenomena are unrelated, i.e., M2 is determined endogenously rather than exogenously.
Your problem may be that you are trying to make this more complicated than it is. basically what it means is that while M2 changes endogenously based on demand for credit, M2 is denominated in the USK as the unit of account, final settlement in the payments system in reserves, and depositors can demand cash at the window and the bank promises to deliver it on demand. What this means is that M2 can be way bigger than the monetary base and even larger than total govt financial liabilities (reserve balances, tsys, and cash in circulation). That's "leveraging" the dollar because it is denominated in USD in excess of govt USD liabilities held in aggregate by the private sector.
The cb stands ready to provide liquidity in the payment system at its going rate to accommodate reserve requirements, as well as to exchange reserves for cash to meet window demand.
Maybe I am confused then.
Mitchell doesn't say NFA. He says high powered money.
Does MMT consider NFA to be the same as high powered money because that would also strike me as being incorrect?
Also, Paul, where are you getting those figures on leverage?
Thanks.
Tom,
The term leverage in finance has a very specific definition which involves the borrowing of funds to increase exposure to something.
I am not misunderstanding the word. MMT is misusing it in this context. I don't know what you're trying to describe exactly, but "leveraging" is not the right description.
"Also, Paul, where are you getting those figures on leverage?"
Mark, the numbers I quoted I derived from FRED data divided by NFA, which is the sum of deficits over history.
Here's a chart I put together for a project i'm working on:
https://dl.dropbox.com/u/33741/Leverage.png
Thank you for that. But I think you're creating causation where there is only correlation. In fact, if you included the shadow banking system's growth over the last 30 years your data would be flipped on its head. As it is, you're only including a small portion of the actual banking system's liabilities. You're missing the $23 trillion in growth since 1980.
I am still confused on the point regarding the leveraging of high powered money. I don't believe Mitchell is saying the same thing you are, but I could be wrong. It would be equally confusing to claim that banks horizontal money is leveraged vertical money. Is there a relationship? Obviously there is a relationship between risk free assets and risk assets. But I still find the language here confused and to a large degree misleading with regards to causation.
"Does MMT consider NFA to be the same as high powered money because that would also strike me as being incorrect?"
NFA and high-powered money are not the same thing. MMT doesn't say that they are. I have no use for HPM, it seems to be an irrelevant metric.
NFA is the level of net cash (demand deposits, cash on hand and govt.-issued bonds held by the public) that exist in the non-government, at least that's how I define it. I quantify it as the sum of all deficits (+ or -) over history. NFA seems to me to be a very useful metric.
That's all it means. Credit produces zero NFA, it can't, because the assets and liabilities created net to zero. A dollar liability is a negative dollar. That's just arithmetic or accounting.
Leverage is a term that can mean different things depending on the context but essentially it is a multiplier that uses a small force or input to create a larger effect.
A 200-amp home electrical panel levearges 200 amps to supply 600 or so amps worth of circuits in a home. It works because every circuit isn't needed at the same time. A money circuit works in a similar way.
The credit circuit can be said to leverage high-powered money or NFA, either one, you will just come up with a different ratio. I haven't bothered with it because high-powered money is a squishy term that doesn't necessarily correlate with economic activity…the same goes for "money supply" or "monetary base". YMMV.
As far as I am concerned it is a useless metric. What matters in the economy is the level of spending. The addition of triillions of dollars in reserves to the banking system has meant bupkis to the economy.
geerussell I had always assumed leverage in this context was debt-to-equity. For the private sector in aggregate, dollar equity being its net financial assets (outside or vertical money) where the liability rests on a government balance sheet and dollar debt being all the (inside or horizontal) money where both asset and liability are on private balance sheets.
Yes, you can think of it that way. As paul observes when the debt-equity ratio exceeds its safety zone, watch out below. There is too much leverage (private debt) in the system relative to equity (NFA). That strains the ability to service the debt on time.
Mark I am not misunderstanding the word. MMT is misusing it in this context. I don't know what you're trying to describe exactly, but "leveraging" is not the right description
I would agree that this use of "leverage" is confusing, which suggests that banks must borrow from the cb to extend credit, when they may (are permitted to) borrow. I.e., the cb will provide rb for settlement in case of overdraft.
Scott Fullwiler said recently that MMT economists are getting that message and using different terminology to describe the relation between monetary base money and and credit money.
Economists often use use terms analogously rather than univocally, to the bane of those unfamiliar with the convention. But here the MMT economists seem to be initiating a new convention, which seems to me to be unnecessary.
"Thank you for that. But I think you're creating causation where there is only correlation. In fact, if you included the shadow banking system's growth over the last 30 years your data would be flipped on its head." - Mark
Mark, all of those things are included on the chart, you must have missed it. Remember, you are looking at ratios not total numbers.
At the end of the series total Debt equals $54 T , household debt is $13T, non-fin. business debt $12T, the rest is financial business, which must be about $29T if I've added correctly.
It isn't possible to "flip the data"…the data is what it is. All I've done is express it in comparison to NFA for each period.
As far as causation/correlation, if the data shows that the ratio between household debt and NFA has always remained between 1.2*NFA and 1.9*NFA, then we can safely assume it will never go outside those boundaries without a major event, especially since the extremes in each of the cases corresponds to a major event.
As far as correlation between debt and NFA, if one overlays a debt series on an NFA series they track linearly, meaning credit growth does not (has never) outpace NFA growth, the relationship remains near the 1.5 to 1 ratio.
Credit cannot "force" creation of NFA, so one has to conclude that NFA supports the credit circuit. They are related, in the sense that credit relies on NFA in the system for payments to be made. It is hard tp pay of debt with debt and still skim income, profits and savings out.
To me that's a pretty significant observation, but again, it has nothing to do with MMT per se. This is my own research, and it's part of an an article I'm working on.
Maybe I am confused then.
Mitchell doesn't say NFA. He says high powered money.
Does MMT consider NFA to be the same as high powered money because that would also strike me as being incorrect?
By HPM, Bill means base money, defined as currency held by the public, cash in bank vaults, and bank reserve balances at the cb.
Leverage actually has more than one meaning in finance--go look at a text book. I teach financial mgmt, investments, financial institutions, and it's ubiquitous throughout in different senses.
In financial mgmt, leverage is the ratio of total assets to total equity. It's a key part of the Du Pont expansion of return on assets and return on equity. Every textbook has it. This is one of the senses in which leverage is used in MMT to discuss using horizontal to leverage vertical. Horizontal money and vertical money are both assets for the non-govt sector, but only vertical is net equity. This is not a value statement about which is better--that always depends on context even though some think we are only about vertical (apparently they've never seen Randy's first book on credit money)--just a fact.
There is also the sense of leverage as debt. The two are often used synonymously, though that's a tad sloppy in my view (even though I've done that myself in the past).
There is also the sense of leverage as one's position relative to funds invested (as when margin is used) or increasing one's exposure to movements in prices. For instance, a bank has a natural short position in reserves--this means that it is negatively affected by an increase in their price (the federal funds rate) since banks must acquire them to settle payments or meet reserve requirements. As banks make loans and thus create deposits, they leverage this short position as they are increasing their exposure to movements in the price of reserve balances. This is how Randy intended "banks leverage reserve balances" in UMM.
When Marc Lavoie wrote his critique of MMT's use of leverage, I responded via email and he acknowledged he was not familiar with the term "leverage" as used in financial management that I explained above.
But I still find the language here confused and to a large degree misleading with regards to causation.
The exogenous money view of the QTM folks is that increases in HPM result in an increase in the money supply through the money multiplier, which is wrong. The causation is opposite. According to MMT, "loans create deposits and deposits create reserves." I would not say it that way because I think that "deposits create reserves" is confusing. What is meant that in case of an overdraft, the cb as LLR automatically credits the bank's reserve account (at the penalty rate) in order to settle in the payments system by providing liquidity as required.
FWIW, I posted this comment in response to JW Mason at Matias' site a few days ago. JWM was arguing a position much like that which Mark is arguing here. Might be of interest for helping to clear things up.
JWM--your misinterpretation of LRW there was common up to about 10 years ago. Since then, most everyone has come to understand that it was a far too literal one. As noted above, Lavoie and Parguez do understand this. At any rate, the key point is to recognize the paradigm LRW and Lerner build in terms of distinguishing b/n fiscal and monetary policy. In UMM, LRW sets monetary policy as accommodating the demand for reserves and setting an interest rate. Fiscal policy controls the qty of net financial assets--the national debt (obviously, this is somewhat endogenous through the automatic stabilizers). Given this division of labor, when there is a deficit the choice to issue bonds is part of setting the interest rate by draining reserves by monetary policy to accommodate the demand for reserves. For fiscal policy, it's just about printing the money for spending, HPM or reserves in this case (since spending is by key strokes, the part of HPM changing is reserves, not currency). So, when LRW discusses changing HPM in UMM, he's referring to a govt deficit, NOT a monetary aggregate in any sense like monetarists, new Keynesians, etc. Whether that deficit ends up as bonds instead of HPM is a separate monetary policy decision in UMM. So, we have changes to the deficit (changes to HPM) as exogenous (abstracting from automatic stabilizers) and the quantities of reserves (vs. bonds) and traditional monetary aggregates as endogenous (via the central bank and commercial banks, respectively). In the particular LRW quote you cite, he is simply saying that the non-govt sector desires to net save--i.e., a positive national debt--that's it. Again, this has NOTHING to do with monetarism or similar views of money demand, the money multiplier model, exogenous control over monetary aggregates or HPM in the neoclassical sense, and the like. Hopefully this clears things up for you--we say things differently now (though the meaning has not changed) precisely because some of the terminology there confused people. It's not uncommon for stuff like this to get hashed out after an important book is written and to determine that the same message and paradigm might be better understood if terminology is altered a bit.
Best,
Scott Fullwiler
And in response to this comment, I see Matias acknowledged that Chartlist vertical money is perfectly compatible with endogenous money.
Thanks for clarifying, Scott.
Leverage actually has more than one meaning in finance--go look at a text book. I teach financial mgmt, investments, financial institutions, and it's ubiquitous throughout in different senses.
Similar to "investment" which is used for both portfolio management and firm spending on capital goods and inventory.
And we won't get into "saving," which still seems to be a hot potato. :o
STF,
So you are using HPM and NFA to mean the same thing. Don't take offense, but why do you guys change the meanings of all these terms? It looks like a shifting of sand under your feet as time goes on and your argument evolves.
I still don't see how it matters though because the private sector's ability to borrow is not a leverage from NFA. NFA might help stabilize private balance sheets to some degree, but that's a different matter. There's no leveraging (of any definition) going on here in the way that MMT builds centrality around it.
What's the point of re-stating everything every time someone gets confused?
All these things should be clearly explained somewhere, online, in an accessible form.
"So you are using HPM and NFA to mean the same thing."
Depends on how HPM was used in the sentence. The words "too" has different meanings depending on how it's used in a sentence. If we're just talking about the monetary base = HPM, then that's obviously not the same as NFA. But if we're talking about UMM in which Randy creates a paradigm with the particular division of labor b/n monetary and fiscal policy, then it could be depending on how the CB chooses to set its interest rate target. Traditionally this has not been the case, but if the CB were to set the target rate equal to IOR and there were no bonds issued or all were purchased by the CB, then NFA and HPM would be the same. NOte also that even then there is almost always a difference as a result of lending by the govt/cb to the non-govt sector, which raises HPM but not NFA.
"Don't take offense, but why do you guys change the meanings of all these terms?"
None taken. Which term have we "changed the meaning" of? Can't think of any. There's nothing that I've written above for which any meanings have ever changed, for instance.
"It looks like a shifting of sand under your feet as time goes on and your argument evolves."
Probably, to those that haven't understood the argument. Usually those are people that have a difficult time disabusing themselves of the framework they started out in and so they aren't interpreting MMT correctly. Happens all the time. The argument has NEVER "evolved." The framing has evolved. BIG DIFFERENCE. I can't tell you why so many do get it right off the bat and so many do not. It just happens. Again, that's why the framing evolves--hopefully it gets easier to understand over time. People like Matias and Parguez get it now, but didn't originally.
"I still don't see how it matters though because the private sector's ability to borrow is not a leverage from NFA. NFA might help stabilize private balance sheets to some degree, but that's a different matter. There's no leveraging (of any definition) going on here in the way that MMT builds centrality around it."
So, when the private sector increases loans and thus bank deposits, the private sector's total assets relative to its total net financial equity has not increased? Please explain that one, because that's what you are arguing if you want to say "there's no leveraging (of any definition)." Good luck.
So you are using HPM and NFA to mean the same thing.
Not exactly. HPM is reserves (banks' rb at cb and vault cash) and currency in the hands of the public. Banks get reserves from deficit spending, which increase non-govt aggregate NFA and borrowing from the cb (which doesn't alter NFA). Unless the discount window is used, banks put up tsys as collateral to borrow and tsys are NFA, so this is just a switch in composition of NFA. So, the bulk of HPM is NFA.
And I agree that a good explanation should not require further explaining.
KISS.
y,
Good Point. It would be a very useful to have a website, or a section T NEP, that answers these questions, maybe a FAQ with through responses? It would save a lot of time. But since when are Macro folks interested in Micro efficiency?? :) ...(joking)
Some of us had hoped that this is what the MMT Wiki would accomplish when selise volunteered to put it up, but it's kind of languishing lately.
Yes, Tom. Looking it over, your answer on HPM vs. NFA was better than mine. I was going in a different direction with the framing (!).
Anyway, the point I was trying to make was that in UMM, Randy builds a paradigm with a division of labor with fiscal and monetary policies in which bond sales are the job of the CB, not the govt. Further, with the taxes drive money view, the spending comes first. So, again, in the UMM paradigm, deficits add directly to both NFA and HPM. If the CB sets its interest rate target by issuing bonds to drain reserves, then as it does this in response to a deficit, HPM will shrink while NFA will stay the same. If it sets its interst rate target via IOR instead, then NFA and HPM stay the same.
So, NFA and HPM might or might not be the same, depending on context. And we haven't "changed the definition" of either one, only clarified the framing.
There! That's a far better answer than the one I provided above, hopefully.
Unfortunately, even though things are said differently now, deprecated explanations still linger on the internet to cause confusion. I went back to see the context of the Mitchell quote Mark was referencing. It's a piece from 2009 and it really is a loose, confusing usage of HPM.
HPM is first explicitly defined as notes, coins and reserves, which logically encompasses both the actions of monetary and fiscal policy regardless of NFA. Then follows the statement that credit creation is leveraging of HPM. Next is a description of things that change levels of HPM with both monetary and fiscal actions included in that description.
If I didn't already share the assumption going in, I'd be hard pressed to parse out that leverage is really referring to NFA and not total HPM. Seriously, have a look... it's near impossible to tease out the right framing just from that series of paragraphs.
Then tack on the mistaken assumption Mark makes that leverage implies a prior constraint on borrowing and it adds up to a total breakdown in communication.
"the mistaken assumption Mark makes that leverage implies a prior constraint on borrowing"
That's the one that's just flabbergasting to me--not to pick on Mark, as many have done this--I have no idea how anyone can read all the MMT literature on endogenous money (and MMTers have written as much on this as anyone) and think MMTers' believe any such thing or have ever suggested any such thing. It's simply wrong, regardless how the interpretation was arrived at.
I'll check out Bill's piece, but in general, one should stay with published writings rather than blogs if one wants to be technical about language use. That goes for everyone, not MMT. I would never critique the language or definitions of, say, Krugman in a scholarly setting (i.e., refereed publication) on the basis of one of his blog posts. And I don't think that would make it through the referee process anyway.
geerussell
I didn't see any of the problems in Bill's post that you suggest. See my comment at 7:20pm. The deficiency in the post, if there is one, is the same as in UMM, which is assuming that the reader understands the division of labor being proposed b/n monetary and fiscal policy (or not grounding it more explicitly). Most of the time I've seen confusion here, this is the stumbling point. But if you understand that UMM sets bond sales as a monetary policy operation and not a fiscal policy operation, and that spending comes first (again, in the UMM paradigm being built), then it's quite clear that he's being perfectly consistent throughout. Deficits create HPM in that case, etc., etc.
Again, since this has been such a big stumbling block--obviously the framing wasn't stated clearly enough from the start.
Interestingly, Investopedia uses all three of my definitions of leverage (one of which was also stated by Mark).
http://www.investopedia.com/terms/l/leverage.asp
Definition of 'Leverage'
1. The use of various financial instruments or borrowed capital, such as margin, to increase the potential return of an investment.
2. The amount of debt used to finance a firm's assets. A firm with significantly more debt than equity is considered to be highly leveraged.
Leverage is most commonly used in real estate transactions through the use of mortgages to purchase a home.
Investopedia Says
Investopedia explains 'Leverage'
1. Leverage can be created through options, futures, margin and other financial instruments. For example, say you have $1,000 to invest. This amount could be invested in 10 shares of Microsoft stock, but to increase leverage, you could invest the $1,000 in five options contracts. You would then control 500 shares instead of just 10.
2. Most companies use debt to finance operations. By doing so, a company increases its leverage because it can invest in business operations without increasing its equity. For example, if a company formed with an investment of $5 million from investors, the equity in the company is $5 million - this is the money the company uses to operate. If the company uses debt financing by borrowing $20 million, the company now has $25 million to invest in business operations and more opportunity to increase value for shareholders.
Leverage helps both the investor and the firm to invest or operate. However, it comes with greater risk. If an investor uses leverage to make an investment and the investment moves against the investor, his or her loss is much greater than it would've been if the investment had not been leveraged - leverage magnifies both gains and losses. In the business world, a company can use leverage to try to generate shareholder wealth, but if it fails to do so, the interest expense and credit risk of default destroys shareholder value.
Might be worth posting as its own post, Tom. Maybe.
STF,
I don't know why your tone is so defensive and combative. I didn't say anything personal about you so take a deep breath and see if you can make it through one comment section without having an anyeurism.
The reason I brought this up was because I was reading a paper by Wray which states this:
"Privately created credit money can thus be thought of as a horizontal
“leveraging” of reserves (or, better, High Powered Money), although there is no fixed
leverage ratio."
http://www.cfeps.org/pubs/wp-pdf/wp17-wray.pdf
This makes it pretty clear that MMT says reserves are used to "leverage" horizontal money. I still don't see how that's not confusing or how you're not changing the argument after the fact. It looks pretty cut and dry to me and it is not consistent with the way you've rephrased the story here.
I agree with Geerussell. The communication and framing is horrible on this stuff. Even with your clarifications I still don't see how there aren't inconsistencies in all these comments. The fact that you respond so negatively to relevant questions only makes the problem worse.
See my comment at 7:20pm. The deficiency in the post, if there is one, is the same as in UMM
Yes, that's exactly what I was trying to suggest. This:
So, NFA and HPM might or might not be the same, depending on context.
needs to be explicit or the burden of sorting out the context may fake out readers new to MMT.
"If you guys want to play, then you have send a team onto the field rather than take just some pot shots when you have time."
Isn't that about what General Westmoreland told the NVA?
:o)
"one should stay with published writings rather than blogs"
An important lesson there I think for bloggers who think they're having BIG DEBATES with economics.
didn't think I was responding negatively or combatively at all. Sorry if I did or it seemed that way. I certainly wasn't upset with you, Mark. I'll stop now for today then.
Best,
Scott
"The S-I Debates"
LOL
(like it's the capital debates or something)
Honestly, I am trying to better understand MMT. Wray said the same thing in this paper:
"Of course, most transactions that do not involve the government take place on the basis of private credits and debits, that is, privately-issued credit money. This can be thought of as a leveraging of HPM. However, this should not be taken the wrong way—there is no fixed leverage ratio (as in the orthodox deposit multiplier story). "
To me, that reads to mean that MMT's idea of leveraging is an unorthodox form of the money multiplier. Maybe I am just too stupid to understand MMT, but I don't think so. It seems like there is a real problem with either the theory or the way its being communicated. I can't tell which.
"an unorthodox form of the money multiplier"
Perry Mehrling argues that each level in the "money hierarchy" "pays their debts" in the money issued by "the level above them in the hierarchy".
So if you promise to pay so and so x amount of money, you are promising to pay them money issued by the level above. You can hand out as many promises as you like, but at the end of the day, you have to pay them in that money, which to you is relatively "scarce".
So your "promises" "leverage" your ability to acquire that "scarce" money, which you cannot issue.
Off the top of my head, but does that make sense?
Might be worth posting as its own post, Tom. Maybe.
Copyright issues?
Yes, Y, that's exactly what I meant when I said leverage can refer to an increase in an existing short position. In your example, you are short the "money" higher up the hierarchy, and your promises leverage that short position. It's not a money multiplier at all of any form. There doesn't need to be any of this money higher up the hierarchy in existence for you to have a short position or to leverage the position. And whatever qty there is does not constrain the leveraging. Hope that helps people a bit.
OK, really got to go. Thanks everyone.
Y,
That is helpful. Thanks. I still don't like the word leverage, but I think I see what you're getting at.
Thank you.
I look at banks ability to piggyback on the currency as a different use of "leverage" altogether. "Leverage" is very often used analogously to mean to build on or to increase an advantage. Teamwork "leverages" the abilities of individual players, having technological superiority "leverages" the advantage of a military, etc.
Banks have an extraordinary privilege granted through their charter of access to the central bank and govt guarantees. This greatly increases their ability to "leverage" their capacity to extend credit over simply leveraging their capital as other lenders must do in lending in that they have direct access to the currency even though they cannot create it themselves. This privilege is granted without special fee, which why it is an extraordinary privilege. This is what enables them to leverage M2 way beyond HPM and NFA, to the degree that it can threaten not only themselves but the entire system. Because their privileged position is on the basis of a public/private partnership, they agree to certain constraints on operations, such as submitting to regulation and inspection.
""I still don't see how it matters though because the private sector's ability to borrow is not a leverage from NFA." - Mark Sanford
So, based on your statement, we should assume that if there were no NFA in existence you believe we could still have a functioning credit circuit that works similarly to the one we now have.
"If you guys want to play, then you have send a team onto the field rather than take just some pot shots when you have time."
Isn't that about what General Westmoreland told the NVA?
:o)
Or as W so indelicately said, "Bring it on." :)
An important lesson there I think for bloggers who think they're having BIG DEBATES with economics.
But blogging does move economists, I think.
"The S-I Debates"
I think that the S-I debate was significant for several reasons. First, there has been a running debate over a number of blogs over the meaning of S and I. This includes economists and financial pro's, which indicates that clarification is needed.
Secondly. I think that the S-I debate in particular sharpens the framing. These are confusing concepts for many and getting the framing right is important if this knowledge is to grow legs.
It seems like there is a real problem with either the theory or the way its being communicated. I can't tell which.
The theory is OK, its the framing that needs work. DEspecially with the kerfuffle over the money multiplier, I'd stay way far away from the term "leverage" in this context. It's inviting confusion by using the opponents' meme. That is a no-no in framing.
"But I still find the language here confused and to a large degree misleading with regards to causation."-Mark Sanford
What is your view of the source of causation…where does it all start? What drives the system?
Since you seem so sure MMT is wrong, explain why and what the correct interpretaion of the dynamic is?
If credit can't add net financial assets how does the economy grow, or do you think growth can occur in the absence of an increase in the net money supply?
Perry Mehrling argues that each level in the "money hierarchy" "pays their debts" in the money issued by "the level above them in the hierarchy".
So if you promise to pay so and so x amount of money, you are promising to pay them money issued by the level above. You can hand out as many promises as you like, but at the end of the day, you have to pay them in that money, which to you is relatively "scarce".
So your "promises" "leverage" your ability to acquire that "scarce" money, which you cannot issue.
Off the top of my head, but does that make sense?
I like it.
This is my point in saying that all dollar denominated promises are implicitly to deliver cash on demand. Only banks that members of the FRS or have access through another bank that is have access to the currency issuer. Everyone else making such promises has to get the currency from some other currency user. This gives banks a lot of "leverage" (used analogously) as "middlemen" that other lenders do not have.
I still don't like the word leverage
I think that the term "leverage" is OK but under the circumstances, the framing is bad. I'd say to lose it and use different framing.
"the framing is bad"-Tom
Why?
As I said above, this is too close to the QTM/money multiplier/monetarist view and it is resulting in confusion. Mark is just one example, and he was kind enough to come by and surface it here. A lot of people are just harboring the wrong impression and we only find out about when some one in some blog post or comment somewhere surfaces it.
"all dollar denominated promises are implicitly to deliver cash on demand"
Not necessarily though.
The point is, I can pay you with bank money. We can settle our debts in bank money (credit).
Cash - paper cash- is not necessarily important.
However, banks still have to pay each other in central bank money - what Chartalists call state money.
Even if the quantity of actual central bank money in existence is infinitesimally small - it doesn't change the basic structure of the "hierarchy of debts".
However, the existence of the central bank as a "lender of last resort" - a buyer of assets, maintainer of stable interest rates, provider of support during times of stress - etc etc etc - does mean that commercial banks occupy a very privileged position in the "money hierarchy".
Once you see how privileged their position is, you have to ask yourself - are they really "free market" participants, or just quasi extensions of the state?
This is true and it is entirely possible to run an economy on digital money. I think it is justs a matter of time.
But for the present, the promise to convert USD obligations to cash or to be able to convert them to cash, however one wishes to phrase it, is essential to most people. We are some way away from being able to demand cash at the window. So if someone credits an account through the banking system to settle an obligation, this means that a promise is there to deliver cash on demand. I think that at this point there would be "issues" if that were to "go away."
Once you see how privileged their position is, you have to ask yourself - are they really "free market" participants, or just quasi extensions of the state?
Right, Warren's point after sitting on sessions with bank examiners.
Libertarian/Propertarian Austrians sometimes refer to "the Federal Reserve Note" as their greatest enemy.
It does all come back to that simple piece of paper - a kind of contract, I suppose.
Should be We are some way away from NOT being able to demand cash at the window.
While bank runs are a thing of the past due to FDIC etc., the promise is still important to people that haven't grown up in the digital age and still conceive of money as "thing" rather than en entry.
I see it as a "thing" fetish similar to the gold fetish. It's irrational, but it's a real phenomenon.
So then we come to the big question again - should money be "privatized", or does "money" (as an institution) rightfully belong to the state?
Or perhaps there is some inbetween? Is that maybe where we are today?
(By "privatized" I mean the sort of thing Hayek was talking about)
"As I said above, this is too close to the QTM/money multiplier/monetarist view and it is resulting in confusion." - Tom
Leverage is a legitimate term that describes a real-world function…it implies multiplication of effort…the fact that a handful of people don't like how MMT uses it (I wasn't aware that it did) is not a good reason to abandon it imo.
Or are you saying that credit isn't leveraged off of NFA (or HPM for that matter)?
Or is it better to say credit is a function of the level of NFA, or credit is limited by the level of NFA?
"Cash - paper cash- is not necessarily important."
It has almost no importance. There is only about a hundred billion dollars worth of paper money in existence, $800B in coins.
The fact is, most people think of their ATM card as "cash", and for all practical purposes it is. I suppose the technical term is demand deposit but, whatever.
For over a decade now we have heard of Apple's growing hoard of "cash" now in the neighborhood of $130 B. I guarantee you that only a teeny-tiny portion of that is actual petty cash.
The only thing that matters in an analysis is that it represents net dollar assets on a balance sheet somewhere in the non-government. A paper dollar and an electronic one look exactly the same on a balance sheet or in a mathematical expression in terms of money.
Thinking again, obviously banks hold their privileged position for a reason... right?
They are companies capable of generating vast profits, and of distributing money throughout 'the economy' in profitable ways (supposedly)... right?
So then we come to the big question again - should money be "privatized", or does "money" (as an institution) rightfully belong to the state?
Or perhaps there is some inbetween? Is that maybe where we are today?
This is the debate that is now underway. Proposals are being put on the table.
Paul, I am saying that the use of the term "leverage" is OK theoretically, but the framing is bad because of other associations, e.g., money multiplier, leverage as a factor in the financial crisis. So I would stay away from it for framing my issues in a positive light.
The only thing that matters in an analysis is that it represents net dollar assets on a balance sheet somewhere in the non-government. A paper dollar and an electronic one look exactly the same on a balance sheet or in a mathematical expression in terms of money.
Tell that to most people and add that as a result the teller window will be closed tomorrow for cash and you will have a bank run.
Supposedly, banks serve as intermediaries that facilitate circular flow and make a reasonable return for doing so. This service is productive. That is not banking today, which is mostly rent-seeking based on risk taking, financial engineering, and fees. Warren's reform proposal would return banking to plain vanilla.
"the teller window will be closed tomorrow for cash and you will have a bank run"
Our direct access to 'state money', or 'base money' or 'central bank money' is through paper notes, or coins (state money - but not CB money).
(You can own money-like assets, such as bonds, but that's different)
The AMI crowd seem to argue that the main aim of bankers is to make us forget what money is.
I don't necessarily agree with that view, but I think it's worth considering.
I suspect that most people that haven't grown up in the digital age think of their bank deposits as "cash in the bank" instead of "cash under the mattress."
I don't necessarily agree with that view, but I think it's worth considering
There is a lot of truth to that. In a modern monetary system, money is a public utility. Bankers have a vested interest in keeping that quite.
BTW, IIRC, polling reveals that most people think that money "comes from the government," and when questioned prefer that to money coming from the banks. So most people have this backward, since credit money dwarfs state money due to "leveraging." Oops, bad framing.
"Or is it better to say credit is a function of the level of NFA, or credit is limited by the level of NFA?"
We take two numbers, total assets and total equity, juxtapose them in a ratio, label it "leverage" and then infer some things about solvency and risk.
As with the money multiplier, action words like leverage and multiplier suggest a limit or constraint but it's just an ex-post accounting.
"As with the money multiplier, action words like leverage and multiplier suggest a limit or constraint but it's just an ex-post accounting." - geerussell
If you make this statement, you are implying that there is no relationship between the two variables, growth of NFA and growth of credit- that they are independent variables.
Is that what you mean?
The term leverage has always been used this way in finance…this isn't anything new. What's new to me is that anyone is confused by it.
"since credit money dwarfs state money due to "leveraging."" - Tom
I'm glad you brought this up because technically, it is wrong.
Credit "money" nets to zero, so mathematically there is no credit "money" in the economy. Zero.
Calling credit "money" is only possible if one ignores the liabilities…which are negative money…and this is a persistent error. It has come about over time from a misunderstanding of the system.
The confusion probably comes from the fact that credit generates spending, and then spending is conflated with money…but they are two completely different things.
Non-mathemeticians seem to have a problem with this but it it what it is. Only NFA is "money" in the mathematical sense.
I suppose semantically one could make the argument that credit is money but mathematically it doesn't hold up.
"Tell that to most people and add that as a result the teller window will be closed tomorrow for cash and you will have a bank run." - Tom
Tom, I'm not suggesting that we tell people that …i merely stated a fact.
My point is that making a distinction between cash and demand deposits in a technical discussion is usually unnecessary, yet it happens often in discussions.
Yes, independent variables. The way passenger count and lifeboat seats are independent. The ratio tells you about your buffer vs insolvency but either variable can change independently of the other.
"Yes, independent variables. The way passenger count and lifeboat seats are independent. The ratio tells you about your buffer vs insolvency but either variable can change independently of the other." - geerussell
I disagree…I believe they are related inextricably in the sense that NFA limits the upper level of credit…
…it's a "pull" not a "push". The level of credit can vary upwards independently to some extent yes, but only within a very narrow range.
Whenever the upper extremes of the observed range have been tested we have had a serious financial event. Do you think this is coincidental?
If you look at the history of the two series in comparison it is apparent that credit is not going to rise independently of NFA. One can count on it.
This does not imply causation, NFA does not "cause" credit to expand.
Credit isn't necessary for economic activity to occur, credit (the way it is set up) has the government assuming most of the risk in investment decisions.
"I believe they are related inextricably in the sense that NFA limits the upper level of credit…"
To try and get a visual for what we're talking about I totally stole this chart (Hi, Art!) and added a line of graffiti to it because FRED is fun.
In terms of the conversation so far, blue is total assets, red is total liabilities, green is total equity and the heavy black line is leverage (blue/green).
When I look at the black line, I a relationship I care about a lot as a barometer of risk and fragility but I don't see a "limit" imposed by the green line on the black one.
I'm glad you brought this up because technically, it is wrong.
Credit "money" nets to zero, so mathematically there is no credit "money" in the economy. Zero.
This is the "magic of money." The bulk of transactions are credit-based so no actual "money thing" or equity is involved in the exchange.
But we do figure this in the M2 "money supply" which includes demand deposits (loans created deposits) and small time deposits, so in that sense it makes perfect sense to say that M2 (money supply) "dwarfs" both HPM and NFA. And while the "money multiplier" (ex ante) is wrong the "money multiple" (ex post) as the ration of M0 and M2 is correct.
And the ratio of MZM and M3 wrt M0 is much greater than M2. Then there are all the derivate contracts that also result in obligations denominated in the currency. That's a pretty huge magic wand that is wielded by the financial sector.
My point is that "money is just keystrokes" or "accounting entries" may be true but there are framing issues to overcome. People knowledgeable about finance and accounting don't have issues with this, and I suspect that digital people in general won't either, but most people don't think that way. Money is a fetish.
"When I look at the black line, I a relationship I care about a lot as a barometer of risk and fragility but I don't see a "limit" imposed by the green line on the black one." - geerussell
geer, OK , now we're getting somewhere. The limit is within the black line itself…the green line doesn't add anything and it goes beyond my original assertion.
Your graph indicates a limit of some ratio less than 10 based on total credit market debt owed. I have already looked at this very thing myself.
We can say with fairly good confidence the ratio as you have expressed it will never exceed 10 without a credit event, and it would probably occur at a somewhat lower ratio. now that the thing has fallen apart. In previous years the events have occurred at ratios of around 7 to 1.
The reason for the difference is likely because of underwriting issues. We could get above 10 if we just threw away underwriting and just made loans to everybody willy-nilly, but this applies mainly to households…businesses have no reason to borrow unless households are spending.
I've gone further and looked at this in terms of household debt, because households fund the debt service, and thus the gains of businesses, both financial and non-financial.
If it weren't for household spending businesses would have no need for investment borrowing. Household income is largely funded by government spending and profits of businesses (and household saving) by net government spending.
In other words, the costs of business borrowing (debt service) is rolled into the price of products and recovered when their products are purchased. Business debt doesn't mean as much…it's not as volatile as household debt.
The important metric is household debt and it's growth, the repayment of which is linked to NFA. This in turn limits business borrowing.
I've been playing with FRED data myself:
https://dl.dropbox.com/u/33741/graph2.png
https://dl.dropbox.com/u/33741/graph3.png
The first chart illustrates the point I've been trying to make…that household debt expands linearly with respect to NFA.
If you were to take the data points on the first graph and plot the ratio on a normal (non-logarithmic) scale it looks like the second graph.
There is an average level (near 1.5) and upper (and lower) extremes. The upper extremes correlate with financial shocks, the lower indicate the result of the shocks as far as the level of credit in relation to NFA.
I can say with pretty good confidence that the level of credit extended to households will likely remain below a ratio of 1.8 to 1 debt-to-NFA. There is a reason this is the case, it's not a random result. Currently we're at about 1.1 to 1.
Of course, if banks decide to throw away underwriting standards even further, all bets are off, the ratio could rise above 1.8, and the shit would hit the fan again unless the government unleashed the deficit cowboy.
Of course, if banks decide to throw away underwriting standards even further, all bets are off, the ratio could rise above 1.8, and the shit would hit the fan again unless the government unleashed the deficit cowboy.
Yes, meaning increase deficit to increase NFA to bring down the private debt/equity ratio.
"This is the "magic of money." The bulk of transactions are credit-based so no actual "money thing" or equity is involved in the exchange. " - Tom
Actual money is involved in the exchange…transactions are based on the anticipation of future income, which is yet to be earned, rather than the vapor of credit "money", which doesn't exist unless you ignore the liabilities.
The future money to be earned is a direct function of NFA.
NFA is the only "real" money when the rubber meets the road.
Actual money is (hopefully) involved in the exchange
That the magic. It's a "game of musical chairs," to paraphrase former Citi chairman and CEO Chuck Prince.
As you say, it's "anticipation of future income" and the future is uncertain. That's why it's said that money is trust, and all money is someone's IOU, even state money.
That's the reason for the otherwise irrational gold fetish, and related "thing" fetishes that people convert money into when trust wanes.
paul,
Nice charts. I think I see where you're coming from and agree. I had a more mechanical notion in mind for "limit" as in prior constraint, a dollar of new credit needing a dollar of new NFA that I was arguing against.
In the sense I think you mean it, limit as "danger zone where you need to be really afraid the whole thing is about to blow up" we're on the same page.
Right, the private debt/equity (NFA) ratio and the credit money/NFA ratio are the things to be watching instead of the public debt/GDP ratio.
Guys, Thanks
I suppose this is the same problem Steve keen is working on…he's just trying to do it with a robust software analysis tool and mathematical models.
My approach (since this is just a hobby and I have no funding) is to keep things simple and use information that we already have (and it's free) that anyone can use to try to solve different parts of the puzzle. I see geerussell has already fiddled with it as have others.
Another thing I would like to point out re the 2nd chart I posted…the areas above the line are periods of increasing leverage, the areas below periods of de-leveraging.
It appears that we have considerable more de-leveraging to do before things get back to normal.
While I commend Steve's efforts and dedication to developing an econometric model sufficient to the task of describing a modern complex economy, it's probably a lot more than we need to get the outline of the system and see what the basic parameters are where the limits lie. I think you are on the right track to this, Paul.
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