An economics, investment, trading and policy blog with a focus on Modern Monetary Theory (MMT). We seek the truth, avoid the mainstream and are virulently anti-neoliberalism.
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Friday, March 22, 2013
Stubborn Mule — Wall of Liquidity
Sean Carmody debunks the myths of "cash on the sidelines" and the "wall of liquidity."
I am not an economist, but I think that Carmody misinterprets the cash on the sidelines idea. True, asset purchases do not alter the quantity of money. But is that the question? To make another analogy, energy is conserved in physics. Turning potential energy into kinetic energy does not reduce the amount of energy in the universe. But it does make things happen. Cash on the sidelines is analogous to potential energy. It is not being used to make things happen.
When I first heard of cash on the sidelines, it had to do with who had the cash. The point was that large investors, mainly institutions, with a lot of cash on hand would be eager to put it to work by making investments. True, that would not reduce the amount of cash, but the cash would not be concentrated, nor would it be in the hands of people who were specifically looking to invest it.
Today it has more to do with saving or hoarding. You still have a concentration of cash in large institutions, uninvested and out of circulation. There is no automatic mechanism by which that cash will reenter circulation. But there is pressure on the people with cash to look for opportunities to make use of it.
"there is pressure on the people with cash to look for opportunities to make use of it." - Bill
Making use of it implies a goal of earning a profit…
…which requires either a source of funds added to the system or the transaction is zero-sum.
Zero-sum transactions only shift financial assets around…no net gain.
Investment requires that customers have the funds to monetize profits.
It matters who holds the cash…flow is always away from households to profits in the net.
So our otions are…
1. (increased) deficit spending. 2. expansion of consumer debt in excess of debt service. 3. a change in the net exports towards surplus. 4. draw-down of savings.
Commerce produces real goods and services not dollars.
Commerce won't occur at any meaningful level without liquidity in the hands of customers.
Where does liquidity originate and how?
Right. Most credit involves private borrowing either in the banking system or from other private entities. That is to say, most of the liquidity in the system in inside money.
However, due to changing saving desire, liquidity using inside money alone expands and contracts, creating cash flow problems.
According to sectoral balance analysis and functional finance, the chief purpose of fiscal policy is to manage liquidity in the economic system{ in order to obviate cash flow issues.
1. If private saving becomes excessive in aggregate so as to inhibit economic flow due to demand leakage to saving, then the economy will contract.
2. If private dissaving becomes excessive in aggregate so as to produce effective demand in the economy cannot expand to meet, then inflation will result.
In this way, bank money creation is delegated to banks "in exchange for" risk management, with the government backstopping the system to make sure that it operations fairly and smoothly. Anyway, that this the idea if not the reality, owning to excessive institutional influence of the financial sector.
I am not an economist, but I think that Carmody misinterprets the cash on the sidelines idea. True, asset purchases do not alter the quantity of money. But is that the question? To make another analogy, energy is conserved in physics. Turning potential energy into kinetic energy does not reduce the amount of energy in the universe. But it does make things happen. Cash on the sidelines is analogous to potential energy. It is not being used to make things happen.
ReplyDeleteWhen I first heard of cash on the sidelines, it had to do with who had the cash. The point was that large investors, mainly institutions, with a lot of cash on hand would be eager to put it to work by making investments. True, that would not reduce the amount of cash, but the cash would not be concentrated, nor would it be in the hands of people who were specifically looking to invest it.
Today it has more to do with saving or hoarding. You still have a concentration of cash in large institutions, uninvested and out of circulation. There is no automatic mechanism by which that cash will reenter circulation. But there is pressure on the people with cash to look for opportunities to make use of it.
"there is pressure on the people with cash to look for opportunities to make use of it." - Bill
ReplyDeleteMaking use of it implies a goal of earning a profit…
…which requires either a source of funds added to the system or the transaction is zero-sum.
Zero-sum transactions only shift financial assets around…no net gain.
Investment requires that customers have the funds to monetize profits.
It matters who holds the cash…flow is always away from households to profits in the net.
So our otions are…
1. (increased) deficit spending.
2. expansion of consumer debt in excess of debt service.
3. a change in the net exports towards surplus.
4. draw-down of savings.
Which one are you betting on?
Generally speaking commerce is not zero-sum, but positive sum. :)
ReplyDeleteAs for what I am betting on, it is for Congress to do the wrong thing. ;)
Commerce produces real goods and services not dollars.
ReplyDeleteCommerce won't occur at any meaningful level without liquidity in the hands of customers.
Where does liquidity originate and how?
This comment has been removed by the author.
ReplyDeleteCommerce produces real goods and services not dollars.
ReplyDeleteCommerce won't occur at any meaningful level without liquidity in the hands of customers.
Where does liquidity originate and how?
Right. Most credit involves private borrowing either in the banking system or from other private entities. That is to say, most of the liquidity in the system in inside money.
However, due to changing saving desire, liquidity using inside money alone expands and contracts, creating cash flow problems.
According to sectoral balance analysis and functional finance, the chief purpose of fiscal policy is to manage liquidity in the economic system{ in order to obviate cash flow issues.
1. If private saving becomes excessive in aggregate so as to inhibit economic flow due to demand leakage to saving, then the economy will contract.
2. If private dissaving becomes excessive in aggregate so as to produce effective demand in the economy cannot expand to meet, then inflation will result.
In this way, bank money creation is delegated to banks "in exchange for" risk management, with the government backstopping the system to make sure that it operations fairly and smoothly. Anyway, that this the idea if not the reality, owning to excessive institutional influence of the financial sector.