Saturday, July 12, 2014

Cameron K. Murray — A tribal ceremony: Reconciling the economics of debt

To begin, a theory of resource allocation is right to treat debt as an internal allocation mechanism of real resources in the economy.
In a my household, for example, I can lend my wife money to treat herself a new dress today. If we were accurately keeping internal household accounts that would be a transfer from myself to her. In real terms, my consumption of resources decreases and hers increases.

Next week the debt is ‘repaid’ according to our internal accounts when my wife lends me money to take the kids to the football.
When we look at our household as an aggregate entity, our total resource consumption is unchanged by the debt, which merely represents an internal reallocation.
There were no future resources brought forward for my wife to consume. The debt did not leave a cost to our children. Even if it was never repaid, I already paid for my household’s debt with the resources I didn’t consume when I transferred purchasing power to my wife.
It surprises me that on this crucial point the core mainstream concepts are consistent with the functional finance or modern monetary theory perspective, yet there remains animosity between these groups. I have come to believe that this is mostly a result of inadequate understanding of their own conceptual apparatus by the mainstream (here’s an example of how the noisiest mainstream commentators remain confused about their own theories). [emphasis added]
Much of the mainstream has equated 'looking through' debt to the real resources of the economic with ignoring the money creation aspect of debt altogether. This has lead to further confusion in the analysis of banking and economics generally, with the Bank of England recently having to explain the process to the economics community.
These core economic concepts are easily confused when one fails to properly understand the complete accounting of the system at all points in time. Specifically the use of overlapping generations (OLG) models can confuse more than inform, and many students come away from learning these models believing in the possibility of inter-temporal reallocations of resources.… 
Fresh Economic Thinking
A tribal ceremony: Reconciling the economics of debt
Cameron K. Murray

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