In today’s instalment I want to step back a bit to ask a more fundamental question: does the issuer of a money-denominated liability need to obtain some of those liabilities before spending or lending them?Economonitor — Great Leap Forward
In this instalment I will examine three analogous questions (each of which has the same answer):
1. Does the government need to receive tax revenue before it can spend?
2. Does the central bank need to receive reserve deposits before it can lend?
3. Do private banks need to receive demand deposits before they can lend?
If you’ve already answered “Of course not!”, you are probably up to speed on this topic. If you answered yes (to one or more), or if you haven’t a clue what the questions mean, read on.
Creationism Versus Redemptionism: How A Money-Issuer Really Lends And Spends
L. Randall Wray | Professor of Economics, University of Missouri at Kansas Cit
First, an apology for delays in posting blogs and dealing with comments over the past couple of weeks. I’m in China for an extended stay and don’t always have access to the internet.
12 comments:
"One cannot redeem oneself from sin or debt unless that sin or debt has been created."
Bingo.
"libertarians" or those "anti-authority" cannot see it that way though...
The view of some that the non-govt is "lending money" to the govt is the same thing as someone doing charitable works in order to justify themselves... both exhibit no view of authority.
this is the same thing as the "Peter vs. Paul" (ie "works vs grace") issue that has been an ongoing misunderstanding within Christendom since its establishment in the west...
So we probably get this "Creation vs Redemption" issue settled within our monetary economics just as soon as we get the "grace vs works" issue settled within our matters of faith... imo its the same thing that is operating that is causing both of these "controversies" for lack of a better word...
From both the economics/faith matters, the libertarians are on the side of "redemption/works" while the authority people are on the side of "creation/grace"...
rsp,
Wray is wrong to claim that a straight “no” is the right answer to question 3.
If the economy is at capacity, and private banks increase loans, then spending that new money will be inflationary unless those loans are matched by increased savings, i.e. increased deposits. I.e. when the economy is at capacity, one set of entities spending an extra billion must be matched by another set cutting expenditure by a billion.
In contrast, if the economy is not at capacity, then there may be room for extra lending and spending. I.e. it may be possible for private banks to lend more without there being any corresponding increase in savings / deposits.
but Ralph isnt that view "its about quantity not price" rather than "its about price not quantity"
iow, if the economy is "at capacity" and housing prices are say $125/psf... and then somebody borrows for a house, but the govt will not allow a price for the house above $125/psf, how can the price increase? If the govt will only allow 125/psf?
Now I agree if they raise the conforming loan limits to $130psf then we will have what many term "inflation"... but if the govt holds the line at $125/psf then there cannot be any "inflation"... How can there be?
If the developer says "I'll do it but for $130", but the govt says it wont do it for more than $125, then there cant be any "inflation" but also the thing wont get built... but again that shouldnt matter as we are at "full capacity" and therefore nobody needs any more work in the first place...
rsp,
Ralph,
"If the economy is at capacity, and private banks increase loans, then spending that new money will be inflationary unless those loans are matched by increased savings, i.e. increased deposits."
er... the loan creates a deposit..
And 'it will be inflationary' is not the same thing as 'banks need deposits to make loans'.
Ralph,
If the economy is at capacity, why would anyone need an additional loan?
rsp,
Lately I've been getting tired of this "at capacity" argument in economics. It's a fictitious ideal used as a point of argument. But there would NEVER be such a situation considered "at capacity", except in maybe in a highly regimented world war time.
This "at capacity" notion is a very static idea. Economies are dynamic. Inflationary pressures begin building up in various ways before "capacity" is reached, and there are negative feedback loops in play; e.g. as labor power increases near full employment, and wage pressure increases, owners have increasing incentive to find ways to automate… and so on.
Do we really need this "at capacity" argument? Maybe we do.
Matt, That’s a clever question of yours: “If the economy is at capacity, why would anyone need an additional loan?
To expand on that . . . given a perfectly functioning free market, and assuming all investments yield just enough to cover the market price for loans, and assuming all potential investments that yield that return are being made, then no one would want a loan.
However the real world is very messy: it’s not a “perfectly functioning free market”. I.e. in the real world there are a mass of investments yielding a return way above and way below the market price for loans.
So in the real world, it strikes me that if someone spots a viable investment and gets a loan to fund it, and assuming the economy is at capacity, then some of those non-viable investments has to be closed down to make way. I.e. the extra spending that viable investments involve has to be matched by reduced spending in the “non-viable investment” area.
I prefer, "as the economy approaches optimal capacity," which is different from maximum output characteristic of wartime. Optimal capacity includes expansion of supply to meet increasing demand.
The reason thee is "wage pressure" is threefold. The first is obviously competition for scarcer skilled workers. There is almost never wage pressure for unskilled workers in porous economies where there is some immigration and importation of embedded labor, and increasing automation. Wage pressure occurs at higher skill level especially from poaching to improve firms competitive position in an industry. But even here there is a tendency to poach less expensive workers from other countries now that the emerging world is coming online and salaries are still higher in developed countries.
But the other factors are, first, the business cycle, where nominal wages fall in downturns and pick up in upturns. When they start picking up, it's also called wage pressure, which may make no sense in terms of the real wage. Wage pressure is figured in terms of the real wage.
Finally, there is share distribution. When capital share is high, labor agitates for a larger cut and that too is considered wage pressure, when it is a distributional issue.
Looked at in these terms there is no actual wage pressure in the US other than for knowledge workers and other very skilled workers, and there won't be for the foreseeable future.
"Inflation" will come from the supply side, especially rising energy prices, rather than so-called wage pressure.
Al the talk about wage pressure is rhetoric by capital to maintain and increase its distributional share.
@ Ralph
That's Schumpeter's creative destruction and it is ongoing. It's not perfect owing to institutional power of one sort or another, and Austrians are correct in calling attention to the role of institutional power in creating and maintaining malinvestment. The armies of lobbyists are proof of this, for instance, as well as the the huge amounts spent on marketing and advertising,
@ Ralph
That's Schumpeter's creative destruction and it is ongoing. It's not perfect owing to institutional power of one sort or another, and Austrians are correct in calling attention to the role of institutional power in creating and maintaining malinvestment. The armies of lobbyists are proof of this, for instance, as well as the the huge amounts spent on marketing and advertising,
Tom, I agree with mot of what you said. I'm a little skepticall of the word "optimal" as that seems like a static and predetermined concept; sooth-saying and unknowable future. And if it's not predetermined, then there is simply no way of knowing what and when "optimal" is reached.
How about just "as the economy approaches full employment of labor" ? At least "full employment of labor" is conceptually definable: everyone that wants a job, has a job.
"Full employment of resources" is not definable because of how dynamic economies are. There is constantly either a harvesting or developing of new resources or a recycling, recombining, reconfiguring of already existing resources.This to both capital equipment and natural resources.
Generally, "optimal capacity" would be defined as maximum output at full employment at the inflation target. It's what the Fed shoots at wrt to monetary policy, and it would also be the target if fiscal policy were used under functional finance. This is actually the Fed's mandate.
FRA Section 2A: "The Board of Governors of the Federal Reserve System and the Federal Open Market Committee shall maintain long run growth of the monetary and credit aggregates commensurate with the economy's long run potential to increase production, so as to promote effectively the goals of maximum employment, stable prices, and moderate long-term interest rates."
This brings growth, employment and price stability into balance. Optimal capacity is dynamic since it presumes investment forthcoming when increasing demand indicates that it is profitable to expand quantity without materially increasing price. This is a virtuous cycle of supply rising to satisfy increasing demand.
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