paragraph by paragraph
I hope you won't mind if I just mostly address the long quote you gave and not anything else. I do not live on formalities and generally prefer to debate on matters at hand. I think I will do it paragraph by paragraph if that sounds good to you.
I commend you though on quoting an outside source, although I do think that MMM is more authoritative then the website you give, but then, this is all a question of interpretation, so let's begin.
Modern Money Mechanics Errs in Their Choice of Word Usage
Modern Money Mechanics (MMM)[6] also states, in error, that private banks create money. But when analyzed carefully it is clear they, and many money theorists, are calling each change of ownership or control of money as it is loaned as a creation of money.
I take this as a thesis. It is a strange thesis that the people who wrote MMM were so thick-headed they did not mean what they wrote exactly, but it is a thesis and so I must leave it at that.
The proof of their error is their accounting of the money supposedly created exactly matching what we demonstrate is only a total accounting of whose hands base money (created money) has been in as it circulates. Loan repayments closely match the funds held in reserve as loans are made.
I do not know what is meant by "Loan repayments closely match the funds held in reserve as loans are made." Perhaps later paragraphs will make this clearer. If by base money money what is meant is the money the bank gets not from loans but however it gets it (the Fed buying securities, new deposits, falls from the sky), then the problem is the writer does not appreciate how FRB works.
When a loan is made according to the model I am advocating (let's call it the shell model and the model advocated by Skeptic-PK and this article the fan model so that it is shell versus fan) there are two entries, one in assets in the form of a promissory note and one in liabilities in the form of money that a borrower can spend.
The promissory note is not money since you can not go to the store and use it to buy bread (it is not fungible and so on...). The money in the borrower's account is money, new money that did not come from somewhere else. But let's hold off on that for now. I just want to get down some of the basics before going to far into the article.
MMM misnames a loan as created money when they have only moved deposited money (which is effectively a loan to the bank that can be withdrawn at any time) from their control to the borrower’s control. Their statement, “checks drawn against borrowers’ deposits result in credits to accounts of other depositors, with no net change in the total reserves,” proves this.[7]
No, this proves the exact opposite. The reserves are all of the money the bank should be able to draw upon to make a loan in the fan model. If the reserves remain unchanged (either positively, or supposedly more likely according to the fan model, negatively) then the money the check is drawing against in the borrowers' deposits does not come from the reserves, meaning of course it came from nowhere. The borrower was credited but another account was not equally debited.
Since this is a partial quote let me check if it can be expanded (freaking bibliography on that page sucks, for [7] it asks you to do a google search! How lame). Here is the full quote of the sentence I found after doing my scholarly work (from MMM of course):
The multiple expansion is possible because the banks as a group are like one large bank in which checks drawn against borrowers' deposits result in credits to accounts of other depositors, with no net change in the total reserves.
That is funny, the sentence given in the article is taken out of context! The sentence says
why the multiple expansion process works. The answer: because when people write checks the total money (total reserves in the system) out there does not change. Note: both in the fan and the shell model, writing checks does not effect the money in existence, as in both it is a zero-sum game. Check clearing is not at issue here, loan mechanics is.
We will use diamonds to prove our point. The bank has in its reserves (base money) eleven $1,000 diamonds and loans me ten $1,000 diamonds keeping one $1,000 diamond in reserve. To buy a $10,000 car, I write out a check for ten $1,000 diamonds. The car dealer deposits the $10,000 diamond demand (the check) and the bank moves the ten $1,000 diamonds (base money circulating) from my account to the car dealer’s account.
This paragraph is stating the fan model, not providing proof (as yet), to it's veracity.
Those diamonds (money) were not created by being loaned to me. Base money was only transferred from the bank’s reserves (customer reserve deposits) to my account as borrower and then to the new depositor’s account as current owner. The original money (base money) has returned to the bank both as a liability and as a replacement for the reserves (again circulating base money) loaned to me. The bank’s revolving reserves (still that same base money) are again in balance (totaling $11,000) with $9,000 available to loan and I still owe the $10,000.
More statements and elaborations of the fan model. Not proof of anything.
But that $10,000 was from the previous $11,000 deposit of base money, not this latest $10,000 deposit which did not exist as a deposit of base money until my check was cashed and the base money in my account was moved to become the base money in their account.
same as before. etc.
MMM recognizes deposits, until they are loaned, as “excess reserves.” In Section three, it states that since “lending banks expect to lose these deposits, and an equal amount of reserves, as the borrowers’ checks are paid, they will not lend more than their excess reserves.”
Despite saying, in error, “private banks create money when they credit a borrower’s account,” the previous statement acknowledges that loans are made from excess reserves. It was not created by being loaned.
First sentence: If the lending banks expect to lose these deposits - and an equal amount of reserves - as the borrowers' checks are paid, they will not lend more than their excess reserves.
As far as out of context, this sentence is not as bad as the first one from before. It looks worrying to the shell model, no doubt. I should note that in both models, however it is that loans operate, both agree that banks are legally not allowed to go over reserves.
Now let's look at the sentence after the previous one: Like the original $10,000 deposit, the loan-credited deposits may be transferred to other banks, but they remain somewhere in the banking system.
Wait a minute, "the original deposit" is being contrasted with the "loan-credited deposits" and each is said to be able to be independently transfered elsewhere while remaining in the system as a whole. Before, in one of my quotes, I showed that the reserves are not changed by loans or loan transfers, so ergo, new money is being created. What does 'loan-credited' mean? It means credited because of a loan, it is not 'reserve-credited' after all.
What about the supposed fallaciousness of the next sentence about banks crediting money and so on? I could not find it in MMM! Maybe I am a bad scholar in that regard, but if I could not find it, I certainly can not expand it. On the other hand, my signature says as much, and I am in agreement with it. Since the previous sentence was a dud and supposed to show the next one is wrong (or partial sentence was wrong), I do not have to do any analysis! Yay!
Let me break the next paragraph up some.
Both the Federal Reserve and money theorists stating that “each loan is balanced by a deposit [in an account] somewhere” is also an acknowledgment money is debited from one reserve account within a bank, credited to the borrowers reserve account, and then transferred to other deposit accounts within the banking system when those loan funds are spent.
Not so! Again, I did not find the quote in MMM and wonder who is being quoted exactly. The sentence fragment "each loan is balanced by a deposit [in an account] somewhere" shows some serious failure in understanding bank accounts. A bank account can hold promissory notes or it can hold federal reserve notes. It can hold all manner of debt instruments (which is what a note is).
Banks in FRB are required to have ballanced Asset versus Liabilities when it comes to loans (speaking in terms of shell model, not sure how you would want to interpret T accounting in fan model, so I will not put words in your mouth).
When a loan is made the promissory note goes in the Asset column under the bank's account with itself and the federal reserve notes (sorry, speaking in American USA terms, but I am sure you are used to it) are credited to the borrower account without another account being debited in turn (shell model). The notes in the borrower's account is money but not so the promissory note in the bank's account which is not money. They do match up and there was no transfer of money to do it (fed notes did not swap around).
That means the sentence does not prove what is being claimed it proves.
The use of base money (originally created money) has been accumulatively accounted for but it already existed and was not created through that loan. Reserve deposits were only expanding as both loaned money and owned money was spent and those expanded deposits were compensated for by debts, on the average, being extinguished (repaid) at roughly the same rate they are created.
The author does not even mention a promissory note or note of any kind except obliquely as "debts". This is getting tiresome now. For the reason of the author not even mentioning notes alone I conclude the above is all hogwash.
Base money is first created by the Federal Reserve-Treasury (government) typically by purchasing debt instruments. By crediting the selling agent’s bank’s reserves without debiting anyone’s account, newly created money has replaced the funds which originally funded that debt instrument.
Agreed.
If a new debt instrument is bought directly from the Treasury, those funds are deposited directly into a treasury account within the banking system, again without debiting anyone’s account. Those new reserves of base money are loaned out, spent, and return to the banking system to be credited to the next depositor’s reserve account.
Agreed, but the use of the word loan in the context of FRB is still in contention and for the shell model should be understood in those terms.
By crediting deposits and then loaning 90% back out, private banks are only in the business of accounting for who is in control of a measured amount of already created base money at any one moment. They are not in the business of creating money.
My signature alone proves that to be nonsense.
I have asked money theorists what happens to their deposits and am told “it just sits there.” But there being no increase in total reserves within the banking system by those deposits, stated specifically by MMM and proven in their charts, belies that statement.
Curious, no increase in total reserves? The total amount of money year in and year out increases. What charts? Tell me which one! Also another problem is banks do not strictly follow the rules of Fractional Reserve Banking in the first place, but that is outside the scope of this topic.
In other places MMM supports the goldsmith theory of private banks creating money but, throughout their outline of how modern fractional reserve banking works, then thoroughly prove, and in many places clearly say, “only the Federal Reserve creates money.”
Who says this? Not me I can assure you. I just go by what the MMM specifically states.
Quote from MMM: The actual process of money creation takes place primarily in banks.
Seems like a pretty simple statement to me! I guess the problem is with create versus transfer and how the word 'loan' is interpreted.
Private bankers tried hard to get past the U.S. Constitution, Article I, Section 8, saying that, “The Congress shall have power….to coin money, regulate the value thereof, and of foreign coin.” Their lawyers simply could not get around those words in the foundation law of the land that, even allowing for shortcomings in that statement, only the government can create money.
So, when technology advanced to money as digits in an accounting system they designed an appearance of ownership of, but not actual title to, the Federal Reserve, all this to maintain control of fiat money creation which is not permitted under the Constitution.
Wow, I do not think the author should really go down this road. What institutions get away with and whether it is constitutional is another matter. The argument here is that congress gave the Fed the responsibility that is ultimately theirs to 'coin' money.
Besides the problem that interpretation of the US Constitution is a National Past-time of sorts, and mentioning The Federal Reserve Act and the 16th Amendment as the means around Article I section 8. for banks to be able to get around the issuence problem, I would note that personally I have looked for the legislation that explains exactly how banks are supposed to operate loans and not found it. That does not mean it does not exist, but it is entirely possible banks do their business practices and are not sanctioned by any particular law.
Plus, they are 'just' swapping one debt instrument for another debt instrument, one of which happens to be money by law.
Except for private bankers being in charge, by 1935-36, when President Roosevelt’s government assigned the authority for money creation to the Board of Governors of the Federal Reserve (in concert with regional reserve banks), America’s banking system was brilliantly established. Doing away with fractional reserve banking, as proposed by some monetary theorists, is a monumental mistake.
Actually, I agree to a definite degree that money should be able to be contracted and enlarged as demand requires. "Brilliantly" - that is a stretch though. Not soon after the Fed had power was there a crash that even the current Fed Chairman admits was made worse by actions of the Fed. This is all off-topic to how the mechanics of bank loans operate under Fractional Reserve Banking however so, whatever!
The simplicity of controlling the money supply through mandated reserves is lost. Unwittingly, their goals of eliminating fractional reserve banking are the same as the corrupt bankers who pushed through legislation in the 1990s which eliminated most reserve requirements (only $40 billion are at this time backing $3.5 trillion in deposits).
I should leave this alone lest I muddy the waters.
But they did not, because they could not by constitutional law, eliminate the principle that only the government can create fiat money. That is the prerogative of the Federal Reserve which is—as proven by all profits, almost 98% of the Fed’s gross income, being paid to the Treasury—federally owned.[8] See also John Kenneth Galbraith, William Greider, and James Livingston.[9]
But privately controlled! How nice. The markets go up and they go down, and the banks know when that is going to happen, or is that too CT for you?
Synopsis, this piece of statist drivel is hardly worthy of further consideration. My signature (and its expansion in a previous post) say pretty bluntly that banks make money. The article does not disprove it either.
Thanks for the challenge though Sceptic-PK. I have responded at length to your source, now please do me the favor of responding in kind to my own.
All the best to you all.
