Winterspeak responds to JKH's recent elaboration of a previous discussion of Paul Krugman's assertion that banks are not special based on his reading of Tobin-Brainard 1963. That reading is contested by some.It is significant in that it reveals how Krugman's idea of endogenous money compares to heterodox views that he contests. However, in the course of it a lot of information is coming out about bank operations that is of interest, especially in the discussion in the comments.
A Bank is still not a financial intermediary: redux
Winterspeak
The question hangs on the interpretation of "intermediary." In the broad sense, an intermediary is an agent that facilitates a relationship between principles, usually for a professional fee, like a matchmaker. But this is not the only use of intermediary and banks are usually considered financial intermediaries even though they do not lend out deposit but rather fund their loans with a combination of capital and borrowing from various sources only part of which includes deposits.
The difference with banks is that their primary function is risk management rather than intermediation in the sense of savings and loan institutions and credit unions, for instance, that actually lend out deposits that they take in. The argument is not so much about this kind of intermediation, since banks are clearly special cases in that they have access to borrowing in the interbank payment system not only from other banks but also from the central bank.
Banks lend against capital and fund their assets resulting from loans by borrowing from a variety of sources, other banks, depositors and the money market. In extending credit, banks don't just receive interest as a fee for matching borrower and lender. Banks actively participate in the creation of flow, not only by arranging for existing funds to be lent, but also by adding to deposits, thereby generating a flow that increases the money stock through expansion of M1. As Neil Wilson notes in a comment at Winterspeak's, this necessitates dynamic analysis of flow rather than static analysis of stock. Other intermediaries free up existing funds to generate flow while banks create flow "out of thin air" by creating deposits and only afterward obtaining matching funding in order to balance accounts.
The question is whether this makes a difference that makes the special case of banks special economically. The fact that banks lent imprudently to borrowers who were not creditworthy based on dodgy collateral would argue that banks are indeed specially economically in generating financial instability, as Minsky hypothesized. Yet, shadow banking was also heavily involved in the crisis, which would argue against banks alone being special in this sense. However, many of the shadow banking institutions were owned and controlled by banks and were used to by banks to increase leverage beyond that which regulation allowed.
Tom -- I think the distinction some make between the 'regular' banking system and the shadow banking system is spurious in regard to this specialness. They work in concert to profit from the implicit gov't subsidy and privileges.
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ReplyDeleteThe big, the HUGE difference with banks is government deposit insurance and a central bank that can create new fiat to lend to them and to buy assets from them.
ReplyDeleteMost of us should be in a Postal Savings Service where the banks and other speculators can't use our own deposits to drive up our prices and to destabilize our jobs.
But since the money system is no doubt a huge plank in the Devil's System, I'm probably wasting my breath with non-Christians EXCEPT it has sure helped MY faith to see how stubbornly the current money system is defended.
I think the distinction some make between the 'regular' banking system and the shadow banking system is spurious in regard to this specialness. They work in concert to profit from the implicit gov't subsidy and privileges.
ReplyDeleteSome hold that the reason shadow banking has increased the way it has is not spreading risk but to avoid regulation imposed on banks so that it generates greater systemic risk owing to hypothecation.
The banks are quite special entities because they are part of a highly centralized banking system. This seems to be a point that is constantly lost on people, although they might verbally use the term "central bank" all the time. Many economists in the US and UK seem strangely resistant to grasping and accepting the fact that they live in countries that contain centralized banking systems - systems that are close to outright monopolies. The operating, consumer-facing branches of this system are permitted to operate for profit, and compete with each other on modest packaging differences in services and fees, but not in the fundamental product line, the provision of which is strictly controlled by a central authority.
ReplyDeleteThe realization of this institutional fact about the money and credit industry flies in the face of the Anglo-American self image as a home of competitive free market liberalism. That's why economists are psychologically resistant to getting it.
Exactly, and the big banks have taken over the central authority and pretty much run it in their interests.
ReplyDeleteSen. Dick Durbin (D-Ill.) has been battling the banks the last few weeks in an effort to get 60 votes lined up for bankruptcy reform. He's losing.
On Monday night in an interview with a radio host back home, he came to a stark conclusion: the banks own the Senate.
"And the banks -- hard to believe in a time when we're facing a banking crisis that many of the banks created -- are still the most powerful lobby on Capitol Hill. And they frankly own the place," he said on WJJG 1530 AM's "Mornings with Ray Hanania." Progress Illinoispicked up the quote.
Earlier Wednesday, Senate Majority Leader Harry Reid (D-Nev.) told the Huffington Post that the most important provision of bankruptcy reform -- the authority for a bankruptcy judge to renegotiate mortgages, known as cramdown, which banks strongly oppose -- could get ripped out of the bill. Speaker Nancy Pelosi (D-Calif.) pushed back, saying that a bill without such a provision wouldn't be reform at all.
While Durbin has been negotiating with individual banks over the last several weeks, bank lobbyists and Senate Minority Whip Jon Kyl (R-Ariz.) have been whipping up opposition to it. A growing number of Democrats have announced opposition to cramdown, including Ben Nelson (Neb.), Mary Landrieu (La.) and Jon Tester (Mont).
"There's been a tendency on the part of some who are advocates for the legislation to overestimate the number of votes in favor," said Sen. Evan Bayh (D-Ind.). "When I was actively involved at the moment it broke down it was my impression there were no Republicans who were willing to support it and at least a few Democrats have stated openly on the record that they were in opposition. How you get to 60 with those numbers is a mathematical problem."
Dick Durbin: Banks "Frankly Own The Place"
Tom,
ReplyDeleteThere is no difference between savings and loans and normal banks. It's just that they have a private clearing account, and the commercial banks have a public clearing account.
Both organisations - in fact all organisations - operate their spending and funding operations *asynchronously* via a spending buffer. They spend on one side of the organisation and fund on the other and link together via a price function.
The problem with classical serial analysis is that they believe that the saving has to come before the loan. So some money stops moving around the system before some other money starts moving around the system. Therefore you can ignore the effect because it is just a tag changing exercise.
That is not the case.
During the period that a loan is thought about and applied for and setup there is an expectation that the loan will complete. Orders are placed, products are made, plans are drawn up in expectation of real transactions or changes in asset ownership.
That happens in addition to other transactions caused by other money already in the economy *that will become stored savings in the future when the loan completes*.
So you when you aggregate these effects together you get a forward impulse in the real economy from net additional loan issuing - wherever it comes from - ahead of any retardation from subsequent savings.
The loan and its economic stimulating effects are ahead in time of any retarding effects of the funding that it may need.
Neil's right.... and govt spends the same way as banks lend, asynchronously: govt spends FIRST and THEN collects the taxes...
ReplyDeletersp,
Some hold that the reason shadow banking has increased the way it has is not spreading risk but to avoid regulation imposed on banks so that it generates greater systemic risk owing to hypothecation.
ReplyDeleteExactly, Tom.
Neil -- Great insight. And quite true from my own experience with real estate investments. There is a significant amount of pre-funding activity by both borrower and others involved in the ultimate transaction, much of which does not get reversed in the event the loan does not materialize.
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