Read it at Asymptosis
No: Saving Does Not Increase the Supply of Loanable Funds
Or: It’s The Velocity, Stupid
by Steve Roth
Not the Post Keynesian - MMT approach, but getting close to the way it works in this view.
Demand sends a signal to invest and investment makes space for saving, since firm investment is some households' income. Saving is demand leakage, and reduced demand does not lead to increased investment.
Loanable funds is a misunderstanding of how banking works. Banks don't lend deposits. Loans create deposits. The need for reserves to settle or to meet reserve requirement comes after the loan is made, and banks can obtain reserves in the interbank market or from the the Fed as lender of last resort.
It certainly does increase loanable funds through the use of fractional reserve banking. An example:
ReplyDeleteIf I doposit $100K in a bank, they must hold back 10% in reserves. Now the bank has $90K to loan to a potential borrower. A customer comes in for a loan for $90K to start a new business. The bank agrees, and loans the money to the borrower who opens up an account with the bank for depositing the just borrowed $90K. 10% is once again held back which leaves the bank with $81K for the next borrower and so on and so forth until the bank has loaned out all of the original $100K, less the reserves mentioned.
The problem is that you cannot force banks to lend or consumers to borrow in an environment where everything about the future is uncertain to a level where everyone just sits on their hands.
Not the way fractional reserve works with a lender of last resort, Anon. Unlimited reserves are available for borrowing from the cb if there are not enough excess reserves to borrow in the overnight market. The reserve requirement just imposes a cost to a bank in extending loans. This cost influences the spread, making the interest rate the bank charges higher.
ReplyDeleteLoans create deposits. Deposits don't fund loans.
Yup, Anonymous, this is the "money multiplier" story. As Wray wryly notes, it is a nice story, especially when the Fed sets the reserve requirement at 10% to make the figures come out nice. Problem is it has nothing to do with reality.
ReplyDeleteI'm talking normal business here Tom. Are there always exceptions? Sure, but my description is exactly how our fractional system works. What exactly does lender of last resort have to do with our well established fractional reserve banking system by the way?
ReplyDeleteMy description is how we do business on a daily basis in this country. To argue otherwise ignores reality.
reserves follow loans an accounting residual and are not an ex ante factor in banking lending.
ReplyDeleteThe leverage in banking is off capital not reserves.