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Briefly, Kotlikoff’s system works as follows. Where a depositor wants interest on their money, they put it in a mutual fund. That means that if the underlying loans or investments do badly, the depositor takes a hit, as is the case with any mutual fund.
And mutual fund stakes are not counted as money in any jurisdiction, so no money creation takes place there.
Alternatively, if the depositor wants 100% safety, they put their money into a “cash only” fund: one that simply lodges money at the Fed, where little or interest is earned. There again, no money creation takes place.
One big advantage of that system is that when investing or lending institutions do badly, there is no reason for a run: and it was a run on the shadow bank system that largely caused the crunch. As Clint puts it, “A crash like 2008 would simply not be possible under this system.” For more on the latter point, see this WSJ article by John Cochrane:
Ralph had a different comment on my page, this is my response to it (not his comment above). Ralph, As always, good points.
However, on one point there is a problem. You write: “I suggest the above “asset” point is not relevant. The money supply increase comes about as follows. Someone deposits $X at a bank, and the bank lends that money on, then both the depositor and borrower have access to $X: i.e. $X has been turned into $2X.”
This is not correct – this is the old discredited “loanable funds” idea [and, incidentally, the reason some people get hung up on reserve requirements, which are not important bc the system does not work that way].
Banks do NOT wait for anyone to deposit before they loan. They loan to any creditworthy person who walks in the door, regardless of their reserves. They then find reserves, and the Fed (in the US) has to accommodate them since they target interest rates. So the tail wags the dog here – the private banks force the hand of the Fed on money creation. This is what is usually meant when people talk about money being “endogenous” – its creation comes from “within” the economy, and is not dictated by “outside”, by the government.
It is crucial to understand that the “loanable funds” model is false to understand why quantitative easing does not work. Mainstream economists still believe in QE, because they still DO think banks are waiting to have money to be able to loan it.
So they gave the banks money and…..nothing happened.
That is because the loanable funds model is false. Banks make loans whenever there are creditworthy customers, and after 2008, there aren’t many. So it is the desire and quality of borrowers that allows banks to lend, and private bank-credit money rises and falls with this process. Some people see this as a good thing – an elegant system that allows the private sector to create the funds needed to make the economy work without the government interfering. They think anyone who criticizes this system just doesn’t “get it”. I think they are mesmerized by the elegance of it. Box- jellyfish are also elegant, but I don’t want to swim with them.
A system of only circulating Treasury notes as money seems overall much fairer, more functional, and more stable. A nice golden retriever instead of a box-jellyfish.
2 comments:
Clint says “It is possible to simply not allow banks to create private bank-credit money.” That’s true, though it’s not part of MMT.
A system where commercial banks’ freedom to create money is severely restricted, if not totally banned, is advocated by Laurence Kotlikoff. See:
http://www.bloomberg.com/news/2013-03-27/the-best-way-to-save-banking-is-to-kill-it.html
Briefly, Kotlikoff’s system works as follows. Where a depositor wants interest on their money, they put it in a mutual fund. That means that if the underlying loans or investments do badly, the depositor takes a hit, as is the case with any mutual fund.
And mutual fund stakes are not counted as money in any jurisdiction, so no money creation takes place there.
Alternatively, if the depositor wants 100% safety, they put their money into a “cash only” fund: one that simply lodges money at the Fed, where little or interest is earned. There again, no money creation takes place.
One big advantage of that system is that when investing or lending institutions do badly, there is no reason for a run: and it was a run on the shadow bank system that largely caused the crunch. As Clint puts it, “A crash like 2008 would simply not be possible under this system.” For more on the latter point, see this WSJ article by John Cochrane:
http://www.hoover.org/news/daily-report/150171
Ralph had a different comment on my page, this is my response to it (not his comment above).
Ralph,
As always, good points.
However, on one point there is a problem.
You write: “I suggest the above “asset” point is not relevant. The money supply increase comes about as follows. Someone deposits $X at a bank, and the bank lends that money on, then both the depositor and borrower have access to $X: i.e. $X has been turned into $2X.”
This is not correct – this is the old discredited “loanable funds” idea [and, incidentally, the reason some people get hung up on reserve requirements, which are not important bc the system does not work that way].
Banks do NOT wait for anyone to deposit before they loan. They loan to any creditworthy person who walks in the door, regardless of their reserves. They then find reserves, and the Fed (in the US) has to accommodate them since they target interest rates. So the tail wags the dog here – the private banks force the hand of the Fed on money creation. This is what is usually meant when people talk about money being “endogenous” – its creation comes from “within” the economy, and is not dictated by “outside”, by the government.
It is crucial to understand that the “loanable funds” model is false to understand why quantitative easing does not work. Mainstream economists still believe in QE, because they still DO think banks are waiting to have money to be able to loan it.
So they gave the banks money and…..nothing happened.
That is because the loanable funds model is false. Banks make loans whenever there are creditworthy customers, and after 2008, there aren’t many.
So it is the desire and quality of borrowers that allows banks to lend, and private bank-credit money rises and falls with this process. Some people see this as a good thing – an elegant system that allows the private sector to create the funds needed to make the economy work without the government interfering. They think anyone who criticizes this system just doesn’t “get it”.
I think they are mesmerized by the elegance of it.
Box- jellyfish are also elegant, but I don’t want to swim with them.
A system of only circulating Treasury notes as money seems overall much fairer, more functional, and more stable. A nice golden retriever instead of a box-jellyfish.
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