Thursday, October 6, 2016

Ellis Winningham — A Brief Note on Loan Payments, Accounting and Bank IOUs

Whenever I discuss banking operations, I usually receive at least one question asking me about how a loan is paid off and where the payments go, in addition to further clarification of bank IOUs. So, I’m going to answer them all at once. First, though, I want to point out that when you ask about how a bank processes your loan payments or terminates a loan, that is not exactly a macroeconomics question. It is an accounting question.
Ellis Winningham — MMT and Modern Macroeconomics
A Brief Note on Loan Payments, Accounting and Bank IOUs
Ellis Winningham

19 comments:

Kristjan said...

I would have left the reserves out of the explanation for simplicity.

Ralph Musgrave said...

So the money lending business (aka banking) can simply print money. Well that's nice for it. I'm sure restaurants would appreciate being able to print the money they need to purchase food.

When private banks print and lend out money, they don't bear the full cost of providing that service: i.e. they don't have to go out to work and save up so as to be able to lend out some money. You could of course argue that that money is eventually repaid, as Ellis Winningham does. In fact new loans are simply replaced by yet more loans (except during particularly bad recessions when the money supply actually shrinks).

Thus private banks are in effect counterfeiters, as pointed out by the Scottish economist / philosopher David Hume 250 years ago, and by the French economics Nobel laureate Maurice Allais.

MRW said...

Ralph, Winningham calls what banks lend out "coupons," not printed money. Did you read it? The US govvie "prints money" when it creates treasury securities. Banks can't do that.

MRW said...

Who is Ellis Winningham?

Ralph Musgrave said...

MRW, Fair point. On the other hand a recent Bank of England article referred to the fact that private banks "create money". Strikes me either of the words create or print will do because what private banks produce fits the standard definition of the word money: i.e. anything widely accepted in payment for goods and services.

Of course what private banks produce is not exactly the same as the form of money that central banks produce. But (as is the case with counterfeiters) the imitation is so good that 99% of the general public do not know the difference. That is, if someone gets a loan from a commercial bank for $X, they'll almost certainly think they have $X at their disposal in exactly the same way as if they had a pile of $100 bills worth $X at their disposal.

Tom Hickey said...

Who is Ellis Winningham?

His blog just says "economist."

Jure Jordan said...

Ralph
Banks print money in capitalism and it was exactly what allowed the emergence of capitalism. Insted of waiting for savings for 20 years, banks suddenly could bring that saving from the future and allow development of new firms and industries. Debt burden is what provides for closing of bad companies and emergence of new ones.

It is puzzling for me that an economist can not figure tht out: what pulling from the future means.

Yes, banks print money, it was true 100 years ago and 50 years ago and today. Why you getting to know that is suddenly a problem. Your finding out reality does not change it. It was true in bad times and great times, but why is tht bad now? Why is it so difficult to accept it and comprehend?

Banks print it but not for their own use (unless breaking the law) but for borrowers use. Why do you have an idea that that is similar to restaurants printing money for their own use.? it is not in any way similar.

But McDonalds can print money at some cost, it is not as free money as when banks do it. Printing stocks and bonds witout dividend is the same as printing money.
Stocks that pay out dividend is same as taking a loan with variable rate, but without dividends it is as printing money.

Jure Jordan said...

What interests me more (because i knew about bnks printing and destroying money for a long time) is why he mentions only HPM as reserves?

As far as i know, loans that go back to a banking system as time deposit become bank reserves at CB. Not only government's money is in reserves, also spent loans go into savings, CD and bonds that become reserves.

Savings are reserves at CB also and most of it comes from loans.

MRW said...

As far as i know, loans that go back to a banking system as time deposit become bank reserves at CB. Not only government's money is in reserves, also spent loans go into savings, CD and bonds that become reserves.

No, they don't Jure. "loans that go back to a banking system"--I assume you mean that the borrower deposits theborrowed money in his bank.

The guy who borrows (gets a loan) is usually doing it to buy something. So once he gets a loan, he writes a cheque to the car company for his shiny new hotrod. The money is moved from his bank to the car company's bank (chequing account to chequing account). The reserves backing up that loan/payment are ALSO transferred to the car company's bank. The reserves follow the loan around the system. [There's a settlement process for these interbank reserves exchanges. Trillions of tranactions per day across the system. The Federal Reserve handles this in the aggregate and it's complicated.]

OK, let's say the guy borrowed money so he could save it, or buy a (bank) CD, or bond, as you posit. And I'm assuming that the bond is a government bond. Those are savings. They belong to the depositor, not the CB, not the bank. If the guy bought a federal government bond, he bought a treasury security. And those are parked in a securities (savings) account, not a reserves (checking) account.

Reserves at the CB are never loaned out.

Under no circumstances are "savings" reserves at the CB. Read Frank Newman's 2013 87-page book Freedom From National Debt. He does a yeoman's job explaining the logic.

MRW said...

Just to be clear: And those are parked in a securities (savings) account at the Fed.

MRW said...

It is puzzling for me that an economist can not figure tht out: what pulling from the future means.

Actually, what they're issuing is credit. Banks don't print money, under any definition. They issue credit. It's credit-creation money, not the interest-free money the federal govvie issues. (Hell, the govt even pays interest on one form of its money creation: treasury securities. JP Morgan used to tell his richest clients in the 1890s: Government bonds are better than gold. And that's because they pay interest.]

I cn't remember the ratio, but for every buck the federal government spends to provision itself, the public sector benefits by $3-$8. (Anyone know the average return?) That's how the private sector has been able to increase its wealth. Banks will loan operating cash to private businesses that receive these massive government contracts, and these contracting companies will hire people, producing jobs. Etcetera.

MRW said...

correction: the public sector benefits by $3-$8 should read the private sector benefits by $3-$8. EVEN THOUGH the US Treasury refers to this benefit to the private sector as Net Public Debt Outstanding. Because from its point-of-view, the private sector is The Public.

MRW said...

Christ, I wish we had an edit feautre with these posts.

Calgacus said...

It is not correct to distinguish between credit and money. This distinction is the opposite of MMT. All money is credit-creation money. All money is a kind of credit, and bank credit, bank notes, bank deposits are a kind of money. Government money is "one and the same thing" as government credit. There is no fundamental, logical, conceptual, structural difference of the kind so many misperceive between government money/credit and bank money/credit. The difference is just that the government is really big. Otherwise its money is no more different from a bank's money/credit than Bank A's money differs from Bank B's. The government's money is the most moneyish, the most widely needed and accepted, and its currency is therefore the most convenient one to measure everything else, including other entities' credit, in.

Bank credit money cannot become reserves - in addition to the use of reserves in interbank settlement as MRW explains, its existence can trigger a reserve requirement, that's all.

MRW said...

And just to be clear, Jure. When Calgacus says "Government money is "one and the same thing" as government credit," the same thing can also be stated a bunch of different ways that can be confusing. For e.g.:

(1) The US Treasury spends new USD into existence by crediting the bank accounts of vendors in the private sector. (It instructs the Fed to do so after Congress gives the go-ahead, or “appropriation.”)

(2) Reserve add before reserve drain.


Another:
"Otherwise its money is no more different from a bank's money/credit than Bank A's money differs from Bank B's.

And it isn't in terms of moneyness. (You create money when you use your credit card.) But the recipients of the government's money don't have to pay it back; it’s interest-free to the receiver. The recipients of the banks' money do (and put up collateral and pay interest). And just to throw another monkey into this wrench….The latter--the bank's money—is also called debt because that’s what it is from the depositor's POV. But GUESS WHAT? so is the former. What the government spends--which it is crediting to the people of the US for their benefit—is also called government debt. (which I won’t go into.)

Let me give you an example. Let's suppose you're married and you come home one day and say, "Hey, honey, I cashed in our CD today. Now we can take that trip around the world." You don't say, "The bank paid off its debt to me today," even though that is technically accurate from the bank's POV. The bank owed you your CD capital and your interest; it was the bank’s liability, its debt.

So be careful with those words.

Bob said...

Credit is like money with a string attached. Like bait on a hook, with someone waiting patiently to reel it in.

Tom Hickey said...

Most of what happens in "money creation" is entering figures on accounting statements in a unit of account selected and managed by the issuer. The exception is cash, where the figures are on the transferable printed note or minted coin. Physical transfers of cash after the notes and coins enter circulation cease to be officially recorded in the system of accounts that comprises a financial system in a unit of account, although cash is required to be recorded on the records of successive holders of the notes and coins for tax purposes. That is not always done and trails are often not traceable through accounting records.

This is not only how money creation and extinguishment works but also it is also the basis of auditing stocks and flows that have been recorded per established accounting procedure. "Money" leaves a trail of credits and debits in various accounts, excepting cash transfers that go unrecorded. But even petty cash is required to be accounted for in organizations.

As the use of cash shrinks, "money" is figures on records entered in debits and credits and expressed in a unit of account. It's bookkeeping that records price and quantity along with transfer of ownership, both financial and non-financial (real).

There is no mystery about money other than cash trails. Which is a reason many authorities want to get rid of cash altogether and proponent of freedom and privacy are so opposed to it.

Andrew Anderson said...
This comment has been removed by the author.
Andrew Anderson said...

There is no mystery about money other than cash trails. Which is a reason many authorities want to get rid of cash altogether and proponent of freedom and privacy are so opposed to it. Tom Hickey

Well, physical fiat is currently also a means to escape negative interest rates.

This use for physical fiat would be de-legitimized if all citizens were allowed individual accounts at the central bank that were negative interest free up to, say, $250,000 US.