How the banks create money

[tensordyne]

Sure, I am a lot less of an egghead than I was when I first graduated. I will defer to your expertise when it comes to the more abstract mathematics of this analysis.

It is all good, you are definitely more of an egg-head than I am about matters banking, and who knows, probably economic as well.

Absolutely not! If you look through the political or religious forums, you will find plenty of Randi-skeptics using their critical thinking skills and coming up with well reasoned arguments that challenge the official line or popular opinion.

They just happen to be conspicuous by their absence in the economics forum. Most people here seem to be wearing elephant-filtering glasses.

Yeah, it is interesting. I mean, I do not know where you stand on 9/11 CT for instance. I feel safe in telling you (whatever you position might be on the matter) that I think there is at least enough evidence to call for a new investigation. So to me the two biggest points where otherwise very sceptical people start sounding like pseudo-sceptics is on 9/11 CT's and 'how banks create money' kind of topics (a lot of Libertarian / Austrian types on this sub-forum as well for some reason).

My own pet theory is that people who call themselves sceptics are really often following patterns of critical thinking set by people that came before them. That is why on religion and politics you will see such good sceptical arguments. It is a monkey-see, monkey-do kind of thing.

That does not work on topics that might have a chance of upsetting the apple-cart (changing the paradigm as it were). That is where you need a true sceptic that really does know how to engage in doubt, weigh possibilities, check references and consider sets of counter-arguments to arguments the way a good chess player looks so many moves ahead in the mind. Most people do not know how to do that. It is my honour to say I think you do have that capability psionl0.

He does raise your hackles doesn't he? I find it a good policy not to shoot people down in flames just because of their views. It is the arguments they provide in support of their views or the way they handle genuine questions about their views that define them.

I am not sure he really raises my hackles. Undoubtedly a lot of how I write is more emotive than is required. Everyone has their own style. It is just that after reading Zarlenga's book I can not help but notice how commodity money ideas have really screwed up society over time. I think as a person I would like Tippit. Not so much Sceptic-PK, but who knows, maybe Sceptic-PK throws great parties and Tippit is dull in person? Of course, it should not really matter.

I understand that on JREF we are supposed to be very reserved and all, like scholars floating in clouds while debating whether some abstruse point or other is true. Attack the argument, not the person, sort of thing. Well, in a certain way I agree with that philosophy, if you are dealing with sensible people.

There are other times though that remind me of when Jon Stewart went on Crossfire and demolished both hosts by saying "Stop, please stop, you're hurting America." Because we all really live on the ground we all have to live with the consequences of other people's actions and beliefs. That means, while it might be better for pure argument sake to just leave normative questions alone (questions of good versus bad), I myself find it very difficult to do.

Maybe I should from now on just try to be 100% reserved except for one little salvo of what I think about the mental state of the poster.

Sceptic-PK =
Tippit =
psionl0 =
tensordyne =

Breathe, breathe! OK, that was better.

 

[tensordyne]

Seriously?

No, psionl0 is I think lying about the desire to have any kind of argument except "It is this way because I say so.. so there!"

evasion, -1 point

You honestly want me to spend time catching up on high school so I can argue with some middle-aged buffoon who still doesn't understand that banks lend customer deposits?

evasion and ad hominem, -2 points

Why would I ever do that?

extraneous, 0 points.

Enjoy your evening pounding the keyboard in righteous indignation, lulz.

extraneous, 0 points.

Hmm, pretty crappy argumentation it seems to me.

Sceptic-PK =

 

[Tippit]

Ah! That is the name of the law I was looking for. to be fair, I think Gresham was referring more to the funny bits of paper the banks issued than what was decreed by the government.

Really? What makes you think funny bits of paper issued by government are any more desireable than funny bits of paper issued by private banks, other than the government's ability to force you and others to use its particular bits of paper? Gresham's law describes the consequences of government force, and in the absence of such force, good money would in fact drive out bad.

King Henry's "tally stick" system satisfies your definition of fiat currency. It was successful for 700 years but did not stop gold being the primary currency. (The fact that tally sticks were only used to pay taxes probably helped in this regard).

Yes, the tally stick definitely qualifies as fiat money. It received a mention in the "Money Masters" documentary by William Still (a great documentary, definitely worth watching even though I've come to disagree with the proposed solution). Maybe if the government simply rescinded legal tender law, sound money would circulate, and we would resolve to paying our taxes in sticks with marks on them, or bits of paper, and paying each other in real money.

Ordinarily I would agree but there are so many tricks around for manipulating money and extracting undeserved financial gains that I can't count them all. Clearly some form of intervention is necessary.

Surely you agree that it's a lot easier to manipulate the supply of fiat money than sound money. It's not so much as there are many monetary tricks. We can simply count on bankers to make money unnaturally scarce when it is sound, like gold and silver, and to make it unnaturally abundant (for themselves and their cronies) when it is unsound, like paper or electronic credits. Perhaps we merely need freedom in money, the ability to use silver when bankers hoard gold, the ability to use platinum when bankers hoard silver, etc. This isn't an endictment of gold, it's an endictment of bankers and an unfair, unsound system.

By calling for a hard gold standard, you are already dictating one policy - the outlawing of FRB.

I want FRB to be outlawed because it's unfair and immoral, not because sound money would necessarily dictate it. We've had sound money and FRB, and now we have unsound money and FRB, but since the creation of the Bank of England in 1694, we've had FRB. If you're saying that the combination of sound money and FRB are unsustainable, I agree with you, but only because FRB is unsustainable. If anything, I would submit that it is FRB that "necessitates" fiat money, because the inherent instability of the system causes inevitable bank runs which "require" a lender of last resort, the central bank, to periodically conjure money out of thin air and recapitalize the banking system. This is the institution of socializing private bank risk, while allowing the banks to reap private profits that is only made possible with fiat money. I don't suspect Tensordyne, with his ass-backwards interpretation of monetary history, to grasp this, but I suppose you do, at least.

I presume you mean government debt - for which I agree 100%. Preventing individuals from trading with credit would be grossly invasive and counterproductive.

Yes, I was referring to government debt. Another benefit of sound money, is that it imposes natural limits on debt. While it's true the government could theoretically issue as many IOUs as it wanted to, it would be limited by the market's desire and ability to actually buy the debt. This is unlike now, when through the miracle of fiat money and institutional counterfeiting, domestic central banks, foreign central banks, and money center banks siphon off the wealth of society.

 

[tensordyne]

It's slammin' time!

Incorrect. I provided an answer some time ago. No, I can't be bothered finding it. I pointed out the bleeding obvious- that what MMM states in your stupid sig is that when I deposit $10 in a bank and they loan $9 to you, when I go check my balance it still says I have $10. The bank may have loaned my money but they haven't reduced my deposit balance. Simple.

In post #1097 you promised you would respond to my post #1092. That never happened. I have asked numerous times of you to take my sig-quote and break it down line by line. Never happened. The response is always how obvious it is that banks lend out from their reserves and so on.

And it remains as true now as it was then. There is no new money. There is the same money that has been loaned around. And around. And around. Kind've like this stupid f'n discussion.

That's your story, and you're stickin' to it!

As above. You don't understand what the quote is saying. And you're ignoring every other explanation in MMM. Including the extremely easy subtraction and addition examples. Once again: Banks do nothing you can't do yourself.

So below. At least the above is slightly different, at least in that it gives me an idea. Before getting to that idea. Banks create new money. I can not create new money in exchange for promissory notes. Therefore banks do something I can not do.

Your are referring to the steps in MMM. That is calling me out to give the evidence I said I would provide if called to do so. Unlike you, I am not lazy in my arguments and will take the time to find references for my arguments if required.

Of course "my scheme" expands deposits (or "creates money if you really must use that term). There is the $10 I have in my bank account, and the $9 you have in your hand. Wow, now there's $19! Except of course there's not, my bank has $1 and you have $9.

Your bank has $1 huh? You have proof of that? Have you ever been a banker? Been a programmer who programmed banking software? Owned a bank? Something like that? Or are you talking out your arse mate?

It's getting the point where I'm not sure I can continue to explain the same f'n concept over and over.

Yeah, maybe you will have to look at your conclusions as possibly false and see if there are any reasons why that might be so like a real thinking person. Naw...

Yeah, I've been saying this for pages. There is nothing special about banks, they can not do anything you can't.

Hmm, except they are in a highly regulated cartel where you have to follow all sorts of rules and so on. Even if I did accept your faery-tale story of how banks work, there would still be something banks could do that I could not. They could say that they had $10 when they really only have $1 and people like you would believe them.

Nonsense.

We'll see.

Lol, are you seriously trotting out psi's explanations to you about a concept only you seemed not to understand as you lead into something I've been trying to spell out to you for months?

I came to the wrong conclusion given the information I had seen. While I was wrong in my understanding of how required reserves works, you are currently wrong about how loans work in FRB.

This is just getting comical. This entire time I've been pointing out the impact on reserves when a loan has been transferred. The creation of a loan has no impact on reserves. MMM states this categorically. I mean ****, I almost feel like I'm being trolled.

MMM does say a loan has no effect on reserves (at least not directly, see step 6 for details). It does say a loan effects deposits though, and in equal amount to all loans. This is the critical thing you are missing. When a loan of X is made, both loans and deposits go up by X. It shows it in step 3. in MMM.

Here is what it says (because I fear you are so lazy Sceptic-PK you will not look it up for yourself, not that this is probably still not all in vain anyways). The following is verbatim mind you except I broke up assets and liabilities on two lines for easier reading and added an equals sign.

Expansion - Stage 1

3. Expansion takes place only if the banks that hold these excess reserves (Stage 1 banks) increase their loans or investments. Loans are made by crediting the borrower's account, i.e., by creating additional deposit money.

STAGE 1 BANKS
Assets = Loans ....... + 9,000
Liabilities = Borrower deposits .... + 9,000

Huh! Deposits goes up by 9,000. It does not say anywhere in this step that reserves of any kind go down because of this step either. If you can find it, then maybe you would have a point, but it is not there as far as I can tell. Oh, it must be that first sentence causing you all this confusion.

Let me try and make it clearer for you. The first bank in step 1 starts off with (R,D,L) of

bank 1: (10000, 10000, 0)

Then a loan of 9000 is made at that bank of 9000. Why only 9000? I will get to that in a minute.

bank 1: (10000, 19000, 9000)

Then in step 6 a transfer is made from bank 1 to bank 2 of 9000. The numbers then become the following (bank 2 is starting out fresh as it were).

bank 1: (1000, 10000, 9000)
bank 2: (9000, 9000, 0)

Everything is OK. The R/D value for bank 1 is 0.1 = 10%, so it has loaned out the maximum it can loan. Bank 2 has a R/D value of 1, so it can still loan more. In step 3. bank 1 had a R/D value of 1, so it could afford to make loans and still keep R/D > 0.1, our reserve requirement in MMM.

If bank 1 was sure all the new loan money would not leave after the loan was made it could for instance make 90,000 in loans because then R/D would become

10,000 / (10,000 + 90,000) = 10,000 / 100,000 = 0.1,

but since most of the time new loan money usually leaves after it is created it stopped after 9,000 because (10,000 - 9,000) / (19,000 - 9,000) = 0.1.

{ note: in MMM they do one more expansion bank before coming to step 6. that I did not include }

That is how it works Sceptic-PK. If you want to rail against something, rail against the logic above. Your constant appeals to personal authority or obviousness are pretty lame as arguments go.

Sceptic-PK =

 

[tensordyne]

First Equation Post Response.

Getting an idea across can be difficult at times. You often use equations to describe what is happening in the banking system so maybe if I do likewise, you will understand me better.

Good idea.

At its most basic level, a bank's assets consist of its reserves (R) and the debts of its borrowers (D). On the liability side, a bank owes money to its depositors (M) and also to its shareholders (S). The "M" is of course, part of the total money supply. Note that the banks do not actually have to pay out their liability to their shareholders. A bank's board of directors will use the "S" in a way that is in the best interests of the bank (eg give themselves a big fat bonus).

So the balancing equation is: R + D = M + S

Hmmm. What you call D I think I called L (for loans and investments). I think your
M + S is equal to my D (for total deposits or what I guess is really total deposits/capital). So I will put the above equation provisionally as

R + L = D = M + S

when stated in the variables I used in my previous post on the matter.

Any interest payment the bank gets will more than likely come from its depositors' bank accounts which directly reduces the total money supply. However, it doesn't change the bank's assets (reserves and debts of borrowers remain the same) so the only way to balance the equation is to add the interest payment to what the bank owes its shareholders. In other words, an interest payment (i) transfers some of a bank's liability from its depositors to its shareholders.

So the balancing equation becomes: R + D = (M - i) + (S + i)

As noted in a previous post we are in agreement on this now.

M -> M - i
S -> S + i

This balancing equation is that of all the banks taken together but Tippit raised the question of what happens if an interest payment came from another bank? In that case the interest payment would be added to the bank's reserves but not its depositors' bank accounts. It (again) gets added to the bank's liability to its shareholders.

The balancing equation: (R + i) + D = M + (S + i)

OK, we have the following situation. An interest payment from bank 1 goes to bank 2 to pay off some interest on a loan. Now let's see, in bank 1 the payment either comes from M or S but either way it reduces bank 1's D. After that it goes to bank 2 increasing both reserves and deposits/capital. The only other qualifying remark is that in bank 2's deposit/capital it is the capital that goes up instead of deposits.

bank 1: (R1, D1, L1) -> (R1 - i, D1 - i, L1)
bank 2: (R2, D2, L2) -> (R2 + i, D2 + i, L2)
bank 2: S2 -> S2 + i

Although the amount of money owed by bank A to its depositors is unchanged, the amount of money owed by bank B has decreased by the amount of the interest payment so the total money supply is still decreased.

Since bank A's reserves have increased it can engage in a round of deposit expansion and you know how that works.

The end result for bank A is: (R + i) + (D + k*i) = (M + k*i) + (S + i)

Bank A's deposit expansion is counteracted by Bank B's deposit contraction because bank B's reserves are reduced by the amount of the interest payment.

If a borrower uses cash to make an interest payment then you get the same balancing equations as you get from an inter-bank transfer.

Notice that in every case, interest payments are taken from the total money supply and the bank is free to do what it will with it.

Agreed, but I am curious, why would S not be considered part of the money supply? I mean, a bank can use it to pay for salaries and such, so I do not see why it is not part of the supply of money.

If the bank spends the interest money back into the economy, it is effectively transferring its liability from its shareholders back to its depositors.

In a sum total of the banking system sense I am supposing.

So the balancing equation becomes: R + D = ((M - i) + i) + ((S + i) - i)

or more simply: R + D = M + S

THIS IS THE ZERO SUM GAIN WE NEED TO KEEP THE FINANCIAL SYSTEM STABLE.

I am not so sure this is the real problem. I say that with some trepidation because I am still trying to formulate exactly what the problem is myself. Actually, I am sure this is a problem some big-wig economists are thinking about, so it might not be all that simple of a problem. According to Dr. Michael Hudson, the problem is that the financial system created debts that could not be repaid (in the practical sense I would imagine, instead of in the theoretical sense, but who knows, maybe the debts are now mathematically impossible to repay...).

It seems to me that if M owed to S in terms of total interest a quantity I, and that if I > M + S, or, due to the fact that M has to make tax payments as well, something even like I ~ M + S, there could be definite problems. There might even be problems if the money in M does not increase over time fast enough to pay off L. Then again, there also are very likely other problems I am not even considering here, such as Derivatives.

Of course, the bank will do no such thing. The most likely scenario is that the bank will create new debt-based money to replace that which was taken out by the interest payment.

This gives the following balancing equation: R + (D + i) = M + (S + i)

which restores the money supply but increases the debt to money ratio.

If the government were to create money to replace that lost by interest payments then it wouldn't work because it doesn't stop the banks from doing the same thing. Any money the government creates will invariably be deposited into bank accounts which increase the banks' reserves. This is the same scenario as for bank A above except that now it applies for all banks taken together. If the banks are also creating money to replace interest, then after the deposit expansion, this is what the final balancing equation looks like:

(R + i) + ((D + i) + k*i) = ((M + i) + k*i) + (S + i)

and when the government removes the "i" the "k*i" also gets removed.

Well, aside from commenting on this, because I think I should wait for your response to a previous post, this brings up an issue to my mind. I am pretty sure a bank can increase its reserves by putting some of the money of S into R, as it were, but that has not been covered so far. High-powered money it is called, or some such. Otherwise my understanding is that bank reserves are influenced by a central bank's actions such as setting bank to bank interest rates, or more rarely, changing reserve requirements.

Oh yeah, I read in MMM that reserve requirements in a footnote change as banks have more money (at least in the US, which is of course what MMM covers).

As you can see from the above equations, in the early stages of the boom/bust cycle, there is plenty of money to service the debts. However, once the aggregate interest collected by the banks exceeds the value of their reserves, there is no longer enough money in the bank accounts to repay the debts. There is still some M0 money laying around but soon the debts will grow bigger than that too.

If this explanation makes any sense to you, I will discuss the "greenbacker" solution in another post.

Cheers.

I think we might be on to the same mechanisms at work here. I am not sure because the explanation above seems a bit oblique to me still. I am for instance really unsure about the following statement "However, once the aggregate interest collected by the banks exceeds the value of their reserves, there is no longer enough money in the bank accounts to repay the debts." Interest I thought just moves money from M to S. This does not effect R or L (your D).

The more I look at it, the interest problem is, it seems to me, one of M not being able to pay to S enough according to contract what I is. Well, more later I suppose.

All the best to you all!

 

[tensordyne]

psionl0, it just occurred to me that when a loan is made that S is the account that gets the money in D. Putting it in M does not make any sense. Does that make sense to you too?

 

[Sceptic-PK]

At least, that's all I am reading.

Haha of course you do. You’re very good at reading whatever you want into text!

 

[Sceptic-PK]

In post #1097 you promised you would respond to my post #1092. That never happened.

Yeah, too much nonsense was posted between then and now to bother. Unlike you and psi I have more fun things to do than wasting time on the same issues.

I have asked numerous times of you to take my sig-quote and break it down line by line. Never happened. The response is always how obvious it is that banks lend out from their reserves and so on.

I just provided you an explanation of what your quote means. That you want it “line by line” is irrelevant to me.

So below. At least the above is slightly different, at least in that it gives me an idea. Before getting to that idea. Banks create new money. I can not create new money in exchange for promissory notes. Therefore banks do something I can not do.

Wrong. I’ve explained this to you before so I don’t see what point there is in doing so again.

Your are referring to the steps in MMM. That is calling me out to give the evidence I said I would provide if called to do so. Unlike you, I am not lazy in my arguments and will take the time to find references for my arguments if required.

You’re right, you quite clearly have lots of spare time to post bollocks online.

Your bank has $1 huh? You have proof of that? Have you ever been a banker? Been a programmer who programmed banking software? Owned a bank? Something like that? Or are you talking out your arse mate?

Unable to understand simple examples I see. Why am I not surprised. It says so in MMM. If you had read it honestly you would see that.

Yeah, maybe you will have to look at your conclusions as possibly false and see if there are any reasons why that might be so like a real thinking person. Naw...

I’ve already been down that road as I have already explained to you. You almost had me convinced that banks invent money out of thin air to loan, when it is quite obvious to anyone who isn’t an idiot, that banks lend customer deposits (that’s why they pay interest on those accounts, duh).

Hmm, except they are in a highly regulated cartel where you have to follow all sorts of rules and so on. Even if I did accept your faery-tale story of how banks work, there would still be something banks could do that I could not. They could say that they had $10 when they really only have $1 and people like you would believe them.

Nonsense. You could easily do the same just with an Excel spreadsheet. And btw the latter is precisely how banks work, they say they have more money on hand than they really do. Duh.

MMM does say a loan has no effect on reserves (at least not directly, see step 6 for details). It does say a loan effects deposits though, and in equal amount to all loans. This is the critical thing you are missing. When a loan of X is made, both loans and deposits go up by X. It shows it in step 3. in MMM.

I know this already. Have always known it. That reserves do not change proves no new money is created. MMM clearly states that reserves go down when the loan money is transferred. So, if reserves do not change when the loan is made, and reserves go down when the loan is transferred, where did that money come from champ? This is the point you’re failing to grasp.

Here is what it says (because I fear you are so lazy Sceptic-PK you will not look it up for yourself, not that this is probably still not all in vain anyways). The following is verbatim mind you except I broke up assets and liabilities on two lines for easier reading and added an equals sign.

I don’t see why you think you need to quote that to me since I’ve been posting that example repeatedly over the last few months. Duh.

Huh! Deposits goes up by 9,000. It does not say anywhere in this step that reserves of any kind go down because of this step either. If you can find it, then maybe you would have a point, but it is not there as far as I can tell. Oh, it must be that first sentence causing you all this confusion.

As above, you clearly don’t understand. At no stage have I denied this process. What matters is that there is $19,000 in deposits, but only 10 in reserve. I mean honestly, how can you be this obtuse? When the loan is withdrawn, the bank has 1, the assets are 9, the liabilities are 10 and the borrower has 9 in his hand. Ie there is still only 10 floating around regardless of what deposits say. Get that through your head, chump.

bank 1: (10000, 10000, 0)

Then a loan of 9000 is made at that bank of 9000. Why only 9000? I will get to that in a minute.

bank 1: (10000, 19000, 9000)

Then in step 6 a transfer is made from bank 1 to bank 2 of 9000. The numbers then become the following (bank 2 is starting out fresh as it were).

bank 1: (1000, 10000, 9000)
bank 2: (9000, 9000, 0)

Everything is OK. The R/D value for bank 1 is 0.1 = 10%, so it has loaned out the maximum it can loan. Bank 2 has a R/D value of 1, so it can still loan more. In step 3. bank 1 had a R/D value of 1, so it could afford to make loans and still keep R/D > 0.1, our reserve requirement in MMM.

Yawn. We all already know this. There is nothing going on here you can’t do yourself through book keeping.

If bank 1 was sure all the new loan money would not leave after the loan was made it could for instance make 90,000 in loans because then R/D would become

10,000 / (10,000 + 90,000) = 10,000 / 100,000 = 0.1,

Yet you still don’t seem to understand that there would still be only $10,000 in reserves, even though you’ve written it repeatedly? Lulz.

That is how it works Sceptic-PK. If you want to rail against something, rail against the logic above. Your constant appeals to personal authority or obviousness are pretty lame as arguments go.

Of course that’s how it works. You just seem to deny the fact that the $10,000 in original customer deposits is what is getting loaned (or 9 since 1 is in reserve). I have no idea why you’re still denying this when MMM makes it quite clear. Get over your sig and get honest ffs!

 

[psionl0]

I notice that you didn't address the "transition to gold" question I raised Tippit. However, if you are not proposing that gold be made legal tender then I guess the question doesn't arise.

Really? What makes you think funny bits of paper issued by government are any more desireable than funny bits of paper issued by private banks, other than the government's ability to force you and others to use its particular bits of paper? Gresham's law describes the consequences of government force, and in the absence of such force, good money would in fact drive out bad.

One advantage of the government's funny bits of paper is that nobody has to pay interest to keep it in circulation.

I haven't studied Gresham's law in detail but I thought it was phrased the opposite way: "bad money drives out good money" (regardless of government force or the absence thereof). The rationale seems to be that people would spend their bad money as soon as they can while hoarding their good money as long as possible.

Yes, the tally stick definitely qualifies as fiat money. It received a mention in the "Money Masters" documentary by William Still (a great documentary, definitely worth watching even though I've come to disagree with the proposed solution). Maybe if the government simply rescinded legal tender law, sound money would circulate, and we would resolve to paying our taxes in sticks with marks on them, or bits of paper, and paying each other in real money.

I gather then that you are not opposed to the government issuing its own (unbacked) currency as long as it is not made legal tender (but the government can still demand that you pay your taxes only with its currency). That only works if the government runs balanced budgets. The only other potential problem that I can see is what to do if two people can't agree on which type of money to use to settle a debt.

Otherwise, I support what you are saying here.

Surely you agree that it's a lot easier to manipulate the supply of fiat money than sound money. It's not so much as there are many monetary tricks. We can simply count on bankers to make money unnaturally scarce when it is sound, like gold and silver, and to make it unnaturally abundant (for themselves and their cronies) when it is unsound, like paper or electronic credits. Perhaps we merely need freedom in money, the ability to use silver when bankers hoard gold, the ability to use platinum when bankers hoard silver, etc. This isn't an endictment of gold, it's an endictment of bankers and an unfair, unsound system.

Sure, fiat money is more manipulatable than commodity money but at least there are votes riding on how politicians manipulate the money supply. Bankers have no such fear.

If we are going to have a law that outlaws FRB then we could just as easily have a law that requires banks to distribute the interest they collect (net of costs) to their depositors or shareholders (ie outlaw the hoarding or re-lending of interest payments). That should cut down the number of tricks that bankers can use.

I want FRB to be outlawed because it's unfair and immoral, not because sound money would necessarily dictate it. We've had sound money and FRB, and now we have unsound money and FRB, but since the creation of the Bank of England in 1694, we've had FRB. If you're saying that the combination of sound money and FRB are unsustainable, I agree with you, but only because FRB is unsustainable. If anything, I would submit that it is FRB that "necessitates" fiat money, because the inherent instability of the system causes inevitable bank runs which "require" a lender of last resort, the central bank, to periodically conjure money out of thin air and recapitalize the banking system.

Although there is nothing good about FRB, FRB by itself is not unsustainable. It is the combination of FRB, usury, government overspending and the (partial) monetization of government debt that is driving countries all over the world towards economic armageddon.

This is the institution of socializing private bank risk, while allowing the banks to reap private profits that is only made possible with fiat money.

I'm not sure that we need fiat money to be able to do this. The government can use taxpayers money to nationalize the risks of any businesses it chooses. However, the combination of FRB and fiat money allows the government to rack up incredible levels of debt (and in the process make the banks incredibly rich).

I don't suspect Tensordyne, with his ass-backwards interpretation of monetary history, to grasp this, but I suppose you do, at least.

If you want tensordyne to understand you then quote from Zarlenga.

Yes, I was referring to government debt. Another benefit of sound money, is that it imposes natural limits on debt. While it's true the government could theoretically issue as many IOUs as it wanted to, it would be limited by the market's desire and ability to actually buy the debt. This is unlike now, when through the miracle of fiat money and institutional counterfeiting, domestic central banks, foreign central banks, and money center banks siphon off the wealth of society.

Yes, a fixed money supply would put a natural limit to government debt. Unfortunately, politicians being what they are, they would borrow beyond that limit at which time there would not be enough money around to service the government debt.

Of course, there is always the risk that people would use the government IOUs as currency which would give the same problems as with a fiat money supply but with taxpayers paying for the money.

There is no doubt about it, governments borrowing money is bad no matter what the financial system is and should be unconstitutional.

 

[psionl0]

Haha of course you do. You’re very good at reading whatever you want into text!

Surely you don't think you can hide your ignorance by saying, "I choose not to do the maths". Only a child would think he could fool anybody that way.

Of course "my scheme" expands deposits (or "creates money if you really must use that term). There is the $10 I have in my bank account, and the $9 you have in your hand. Wow, now there's $19! Except of course there's not, my bank has $1 and you have $9.

And why have you gone back to saying that the banks lend money from the cash in their vault?

Don't you realize that borrowing money and spending money are two separate things?

 

[Sceptic-PK]

Surely you don't think you can hide your ignorance by saying, "I choose not to do the maths". Only a child would think he could fool anybody that way.

Are you stupid? Who is hiding anything? I stated honestly and without ambiguity that I, at this minute, would be unlikely to be able to bring anything to that party. I then stated I could if I was willing to dust off ye olde textbooks and do some study. For some reason you seem to think I have as much interest in this as you obviously do. There is nothing difficult about your high school equations.

And why have you gone back to saying that the banks lend money from the cash in their vault?

EXPOSITION of course, sheesh. You two are clearly too tied up in your wingnut “banks invent money from nothing” meme to really grasp what’s going on so one is forced to simplify things for you. The point is that the process does not differ in any significant manner with regards to money “creation”. Stevea already explained the process to you using the mattress analogy. This is how banks work, just with computers instead of mattresses. Read MMM again.

 

[psionl0]

Are you stupid? Who is hiding anything? I stated honestly and without ambiguity that I, at this minute, would be unlikely to be able to bring anything to that party. I then stated I could if I was willing to dust off ye olde textbooks and do some study. For some reason you seem to think I have as much interest in this as you obviously do. There is nothing difficult about your high school equations.

OK OK OK, don't have a tantrum just because I (and everybody else) can see through your obvious lie.

EXPOSITION of course, sheesh.

Is that another way of saying, "I can't prove that banks use their reserves if they are crediting bank accounts so I will claim they lend the money from their vault instead"?

I am going to run this by you yet again (because I love seeing you squirm :EVIL: )

I have $10 in my bank account and the bank has $10 in reserves. The bank lends you $9 by crediting the money to your bank account. Now I have $10 in my bank account, you have $9 in your bank account and the bank still has $10 in reserves.

THAT'S IT! . . . . . .THE M1 MONEY HAS BEEN CREATED!! . . . . . .END OF STORY!!!!

Whether a borrower chooses to make a cash withdrawal of this newly created money, pay this newly created money to an account holder at the same bank, pay this newly created money to an account holder at a different bank or even just sit on this newly created money is a separate issue altogether.

 

[Sceptic-PK]

OK OK OK, don't have a tantrum just because I (and everybody else) can see through your obvious lie.

Haha yeah, basic maths I excelled at as a child is way too hard! Lulz.

Is that another way of saying, "I can't prove that banks use their reserves if they are crediting bank accounts so I will claim they lend the money from their vault instead"?

No, it was a rather obvious way of calling you guys idiots. Nobody has disputed that banks credit accounts without affecting reserves, it says so plain as day in MMM.

I am going to run this by you yet again (because I love seeing you squirm :EVIL: )

I have $10 in my bank account and the bank has $10 in reserves. The bank lends you $9 by crediting the money to your bank account. Now I have $10 in my bank account, you have $9 in your bank account and the bank still has $10 in reserves.

THAT'S IT! . . . . . .THE M1 MONEY HAS BEEN CREATED!! . . . . . .END OF STORY!!!!

Nobody has disputed this either. What tensordyne fails to understand is that when this loan is used it is funded from reserves, and that there is nothing in this entire process that is special to banks. You can create M1 money in just the same fashion. What matters is where the money comes from when it is used. It wasn’t invented out of thin air, it came from customer deposits.

Whether a borrower chooses to make a cash withdrawal of this newly created money, pay this newly created money to an account holder at the same bank, pay this newly created money to an account holder at a different bank or even just sit on this newly created money is a separate issue altogether.

No, that’s pretty much the only discussion we’ve been having these past few months. Again, nobody is denying banks “create” M1 deposits through loans. tensordyne just still seems confused about where the loans come from.

 

[psionl0]

Yep, the more M1 money the banks create, the faster banks shift reserves in and out and among themselves.

Can we put this question to rest now?

 

[tensordyne]

Semantic Shamans of Pointless Proclivities

Yeah, too much nonsense was posted between then and now to bother. Unlike you and psi I have more fun things to do than wasting time on the same issues.

So I guess you are not one to keep your promises. Good to know.

I just provided you an explanation of what your quote means. That you want it “line by line” is irrelevant to me.

I have seen no form of in-depth analysis of my signature quote by you. I will look again. I do not care to necessarily see it line by line, although that is one way to make sure the other party is not cheating and just saying "it is the following way... why, because I say so!"

I would even be satisfied with efforts at analysis that even quoted segments of the signature and gave some form of analysis as to how you interpret it. Alas, such scholarly treatment is below you it seems.

Wrong. I’ve explained this to you before so I don’t see what point there is in doing so again.

Yes, that is right, you have explained that banks lend out from the money they have in excess reserves, while acting as if they still have it. What I have not seen though is any reference to a source, other than yourself, who says this is so. I have not seen argumentation of any kind that a true sceptic would consider as an argument. Only appeals to obviousness and appeals to personal authority, over, and over, and over again.

You're a two-trick pony and both of your tricks both suck.

You’re right, you quite clearly have lots of spare time to post bollocks online.

My ability to respond to your 'arguments' (I use quotes because all of your arguments are of a fallacious kind) has no bearing on the arguments themselves. This is just a pathetic attempt to make some kind of damning statement. If you want to argue with adults Sceptic-PK then I suggest you learn how to take the time to understand critical thinking.

Unable to understand simple examples I see. Why am I not surprised. It says so in MMM. If you had read it honestly you would see that.

Where, specifically, or are you too pressed for other pursuits to answer a question? This is what I have been talking about Sceptic-PK. You make a claim:

"It says so in MMM.",

but then you do not provide any evidence, logic or argumentation. Saying "If you had read it honestly you would see that." is not an argument, it is an accusation. I am starting to think psionl0 is fundamentally correct in how to respond to you. Put up, or shut up.

Sceptic-PK, put up (show some kind of argument based on some kind of reference, analysis, something!!), or shut up. Actually, I should not say shut up. You provide an excellent example of how someone acts who is not thinking. Perhaps it is useful to have examples of what an uncritical, thoughtless person would write. "Look kids, that is how not to argue."

I’ve already been down that road as I have already explained to you. You almost had me convinced that banks invent money out of thin air to loan, when it is quite obvious to anyone who isn’t an idiot, that banks lend customer deposits (that’s why they pay interest on those accounts, duh).

Ad hominem use of idiot. Affirming the consequent. A twofer of fallacious arguments. Outstanding Sceptic-PK, you really are one of the best pseudo-sceptics on this here little forum!

Nonsense. You could easily do the same just with an Excel spreadsheet. And btw the latter is precisely how banks work, they say they have more money on hand than they really do. Duh.

Whether I could use some software to keep track of numbers has nothing to do with whether banks work the way you say they do, I say they do, or just about anyone says they do. That merely means that however it is that one is saying banking works is at least expressible in mathematical terms.

But, what of your evidence? Hmmm, yes, I do not see any. I feel like I am dealing with a child, "Santa Claus exists because he puts presents under the tree. Duh." Stellar use of logic Sceptic-PK. Keep 'em rolling. I realise now the appropriate response is to look at the comedic value of your assertions.

I know this already. Have always known it. That reserves do not change proves no new money is created. MMM clearly states that reserves go down when the loan money is transferred. So, if reserves do not change when the loan is made, and reserves go down when the loan is transferred, where did that money come from champ? This is the point you’re failing to grasp.

Did you happen to notice that total deposits went up? In answer to you question, champ, they came from the additions made to deposits.

A new loan means Deposits and Loans both go up by an equal amount. Reserves are unaffected by loans.

This is my assertion. My argument for this assertion is that in step 3. this is what is said in MMM, as I so kindly even quoted for you. Here is a thought, forget everything else I might say in this response, all of it. Just honestly test that one statement by reading MMM and trying to see if the above is false or not.

If you say it is false, I want a quote! If you say it is true, I want a quote! I want a quote!

I was going to say that this goes against your model, but then I realised, you do not really have a model Sceptic-PK. I have yet to see you state a single equation or set of sentences that clearly says what the bank has, or does not have.

The point you are failing to grasp is the sentence in bold above. If you want to argue with me about anything, let it be that.

I don’t see why you think you need to quote that to me since I’ve been posting that example repeatedly over the last few months. Duh.

Because you have not taken what is said in MMM at face value but instead put an overlay of your own ideas on things. Here is an example, before the bank transfers the 9,000 out of the 19,000 to the other bank from deposits, does the bank have 19,000 in actual deposits in the bank?

I am pretty sure your answer would be no! But then, that calls for quite an extraordinary leap to make such a conclusion. I have not found any sentence in MMM that says something to the effect of "oh, by the way, when we say this bank or that bank has this added money, it is not really new added money. It is just a fictional device."

Barring such a statement, when MMM says some bank has 19,000 in money in deposits, that means it really has 19,000 in deposits. If you can find me such a statement I will happily concede. As it is though, assuming that some publication is lying about the numbers it is using is most odd.

As above, you clearly don’t understand. At no stage have I denied this process. What matters is that there is $19,000 in deposits, but only 10 in reserve. I mean honestly, how can you be this obtuse? When the loan is withdrawn, the bank has 1, the assets are 9, the liabilities are 10 and the borrower has 9 in his hand. Ie there is still only 10 floating around regardless of what deposits say. Get that through your head, chump.

So below. Regardless of what deposits say. Interesting turn of phrase. So your assertion is that when bank 1 banks the loan and goes like so (R, D, L)

(10000, 10000, 0) -> (10000, 19000, 9000)

it simply does not matter now that deposits are at 19,000. There is really only 10,000 actually in the bank, because that is the reserves it has, huh. So you are defining the real money the bank has as the reserves a bank has. Is there anywhere in MMM that defines this the same way.

I hate to burst your bubble, but there are these things called bank runs. The deposits do matter because people are supposed to be able to withdraw from them at any time and use the withdrawals as money. That means that total deposits is money, new money. It's money on the books, and money on the books is money. It is money, new money... repeat as necessary.

I wonder though, is this what this is all about, a game of semantics? How utterly boring. If you agree with the mathematics as listed before, I really, really, really, do not give two fecal deposits in the middle of a barn what you, or anyone else, considers is the 'real' money. That is just a term. The mathematics is what counts. So if you do not have the intelligence or the know-how to put your ideas in even roughly mathematical terms, then all I can say is:

FAIL.

Yawn. We all already know this. There is nothing going on here you can’t do yourself through book keeping.

I can keep books anyway I want, that does not mean I can buy a $10 bill for 10 cents as banks do. It does not mean that if I kept the books the same way a bank did for making loans I would not go to jail for a very long time for committing fraud and for practising banking without a banking license. It does not mean I could not go to the discount window (using the US system, have no idea what the equivalent mechanisms are in other parts of the world) and get a super-cheap loan.

There are a whole slew of things banks can do that I can not. Oh yes, banks can write numbers on a piece of paper just like I can, weeee!

Yet you still don’t seem to understand that there would still be only $10,000 in reserves, even though you’ve written it repeatedly? Lulz.

As I have said nothing you disagree with mathematically, but you do not like perhaps my choice of word usage,

FAIL.

Of course that’s how it works. You just seem to deny the fact that the $10,000 in original customer deposits is what is getting loaned (or 9 since 1 is in reserve). I have no idea why you’re still denying this when MMM makes it quite clear. Get over your sig and get honest ffs!

You want me to be honest. Here it is.

I realise I have honestly wasted time arguing with your over the semantic use of some words. I honestly think you do not have much capability in explaining what you are thinking. I honestly think, if we both agree on how the mathematics works, that I honestly do not care about what you have been trying to argue for. I honestly think I can state what you have been trying to argue, better than you can.

Here goes: The sum total of reserves remains unchanged in the whole of the banking system, baring any actions by a central bank. If we define lending in the traditional sense of the word, in that when an amount is leant, another amount diminishes, then the actions that usually happen when loans are made mean that reserves constitute the money that is leant in FRB in terms of the word leant as previously defined.

I honestly think, well, I do not think I should say next what I honestly think. By the way, in mathematics speak if two systems are the same up to some point, one often describes the situation as isomorphic, or maybe even equivalent. Here are my equivalent statements to all you have been trying to argue for.

1. Sum of reserves = constant. (barring changes made by central bank)
2. Define lending as a zero-sum operation, then reserves between banks are leant.

Since you do not seem to understand how equivalent mathematical statements work, perhaps I should not hold it against you. Here is how it goes, 1. implies 2. which then implies 1. So boh statements are logically equivalent. If, at any time, I was to say 1., then, if you were a logical person, you should have said, "OK, everything is good". Ergo, you are a person who does not understand logic because even as you noted:

Yet you still don’t seem to understand that there would still be only $10,000 in reserves, even though you’ve written it repeatedly? Lulz.

I wrote it repeatedly huh, oh, and I did not understand that total bank reserves remain constant (barring actions by central banks). That is odd, you are saying I do not know how to do basic mathematics.

I wrote in post #1152

Let (R1, D1, L1) be the triple for bank 1 and (R2, D2, L2) be the same for bank2. Let the transfer amount be t. Let the transfer be from bank 1 to bank 2. Then the two triples will change like so:

bank 1: (R1, D1, L1) -> (R1 - t, D1 - t, L1)
bank 2: (R2, D2, L2) -> (R2 + t, D2 + t, L2)

That is an equivalent statement to 1. and 2. Therefore, I now want to now say an expletive directed at you, but will not.

Trust me, I know mathematics that would cause most people's head to melt, I knew that the reserves worked in the sense of being a zero-sum game. What I did not know up until this point was about how utterly obstinate you are in not trying to understand how the other person is thinking, which is worse than being wrong, failing, or illogical, it is being lazy. Luckily I have done that chore for you so we can be done with your pointless semantic game.

FAIL = LAZY = LAME = Sceptic-PK.

tensordyne =

Have a nice day Sceptic-PK! You semantic wanker!


p.s. Thank goodness I can now debate with psionl0.

 

[psionl0]

Hmmm. What you call D I think I called L (for loans and investments). I think your
M + S is equal to my D (for total deposits or what I guess is really total deposits/capital). So I will put the above equation provisionally as

R + L = D = M + S

when stated in the variables I used in my previous post on the matter.

Well, I got to pick the letters out first! Actually, I have no problem with your choice of letters (You could use swear words instead if you like ).

As noted in a previous post we are in agreement on this now.

M -> M - i
S -> S + i



OK, we have the following situation. An interest payment from bank 1 goes to bank 2 to pay off some interest on a loan. Now let's see, in bank 1 the payment either comes from M or S but either way it reduces bank 1's D. After that it goes to bank 2 increasing both reserves and deposits/capital. The only other qualifying remark is that in bank 2's deposit/capital it is the capital that goes up instead of deposits.

bank 1: (R1, D1, L1) -> (R1 - i, D1 - i, L1)
bank 2: (R2, D2, L2) -> (R2 + i, D2 + i, L2)
bank 2: S2 -> S2 + i

I understand you perfectly here. However, for the benefit of the more mathematically challenged members of this forum (PM me if you don't know who I am talking about) I would probably write your triples like this:

bank 1: (R1, M1 + S1, L1) -> (R1 - i, (M1 - i) + S1, L1)
bank 2: (R2, M2 + S2, L2) -> (R2 + i, M2 + (S2 + i), L2)

Agreed, but I am curious, why would S not be considered part of the money supply? I mean, a bank can use it to pay for salaries and such, so I do not see why it is not part of the supply of money.

Rather than rely on my own authority here, I will quote from page 2 of MMM:

Today, in the United States, money used in transactions is mainly of three kinds - currency (paper money and coins in the pockets and purses of the public); demand deposits (non-interest-bearing checking accounts in banks); and other checkable deposits, such as negotiable order of withdrawal (NOW) accounts, at all depository institutions, including commercial and savings banks, savings and loan associations and credit unions. Travelers checks also are included in the definition of transactions money. Since $1 in currency and $1 in checkable deposits are freely convertible into each other and both can be used directly for expenditures, they are money in equal degree. However, only the cash and balances held by the nonbank public are counted in the money supply. Deposits of the U.S. Treasury, depository institutions, foreign banks and official institutions, as well as vault cash in depository institutions are excluded.​

So there you have it. The bank's capital account is a liability just like the demand deposit accounts. However, the "nonbank public" does not have access to it so under the MMM rules, it does not count towards the M1 money supply. Whenever the bank "spends" its capital money, it transfers money from its capital account to a demand deposit account which increases the M1 money supply. There is a caveat that limits how much of its capital the bank can spend at any one time. Do you know what that is? (hint: required vs excess reserves).

If the bank spends the interest money back into the economy, it is effectively transferring its liability from its shareholders back to its depositors.

In a sum total of the banking system sense I am supposing.

Actually, in a very specific sense. Banks spend their interest money by transferring money from their capital account to a demand deposit account.

So the balancing equation becomes: R + D = ((M - i) + i) + ((S + i) - i)

or more simply: R + D = M + S

THIS IS THE ZERO SUM GAIN WE NEED TO KEEP THE FINANCIAL SYSTEM STABLE.

I am not so sure this is the real problem. I say that with some trepidation because I am still trying to formulate exactly what the problem is myself. Actually, I am sure this is a problem some big-wig economists are thinking about, so it might not be all that simple of a problem. According to Dr. Michael Hudson, the problem is that the financial system created debts that could not be repaid (in the practical sense I would imagine, instead of in the theoretical sense, but who knows, maybe the debts are now mathematically impossible to repay...).

The equations we have been using invite us to draw the inference that spending rather than lending interest back into the community will prevent debt from compounding. The fact that this inference sits uneasily on your shoulders suggests that you have access to information that would invite a different inference. If so, lets bring it on and see if we can adjust the formulae accordingly and thereby test your information.

In the meantime, have some faith in the mathematics you are doing and go where the mathematics takes you. (It's logical).

It seems to me that if M owed to S in terms of total interest a quantity I, and that if I > M + S, or, due to the fact that M has to make tax payments as well, something even like I ~ M + S, there could be definite problems. There might even be problems if the money in M does not increase over time fast enough to pay off L. Then again, there also are very likely other problems I am not even considering here, such as Derivatives.

You sure like putting things mildly! Long before the interest bill even came close to the money supply, the economy would have well and truly collapsed!! Problems with share trading such as derivatives, short-selling etc. are separate from the problems with the banking system and should be dealt with separately (unless you can tie these problems together).

Well, aside from commenting on this (banks re-lending interest etc), because I think I should wait for your response to a previous post, this brings up an issue to my mind. I am pretty sure a bank can increase its reserves by putting some of the money of S into R, as it were, but that has not been covered so far. High-powered money it is called, or some such. Otherwise my understanding is that bank reserves are influenced by a central bank's actions such as setting bank to bank interest rates, or more rarely, changing reserve requirements.

Oh yeah, I read in MMM that reserve requirements in a footnote change as banks have more money (at least in the US, which is of course what MMM covers).

Don't forget that the bank's capital (S) is a liability to the bank (but an asset to its owners) while the bank's reserves (R) are an asset and you can't subtract money from a liabilility account and add it to an asset account. If you look over our equations again, you will see that everytime the bank interacts with the public, it does so on the liability side of its ledger. The movement of bank reserves between banks mirrors the movement of demand deposit monies between banks but reserves is not something that the public has anything to do with. Similarly, the rise and fall of debts (principal only) mirrors changes in the money supply but again, it is the changes in demand deposit accounts (liability side) that affects the public.

I think we might be on to the same mechanisms at work here. I am not sure because the explanation above seems a bit oblique to me still. I am for instance really unsure about the following statement "However, once the aggregate interest collected by the banks exceeds the value of their reserves, there is no longer enough money in the bank accounts to repay the debts." Interest I thought just moves money from M to S. This does not effect R or L (your D).

This is true if the banks sit on the interest they collect. The money in the demand deposit accounts (and hence, the money supply) goes down but the debts and the interest bill don't. Have a look at the triple again:

(R, M + S, L) -> (R, (M - i) + (S + i), L)

If "i" gets big enough then (M - i) < L meaning that there is not enough money in the demand deposit accounts (M - i) to repay the loans (L).

The more I look at it, the interest problem is, it seems to me, one of M not being able to pay to S enough according to contract what I is. Well, more later I suppose.

That's how it ends up but not how it starts. The interest problem is that it causes debts to grow exponentially but not the money supply.

 

[Tippit]

I notice that you didn't address the "transition to gold" question I raised Tippit. However, if you are not proposing that gold be made legal tender then I guess the question doesn't arise.

Transition to sound money will be painful absent a necessary debt default. The economy needs to reset, and illegitimate debts need to be cleared.

One advantage of the government's funny bits of paper is that nobody has to pay interest to keep it in circulation.

Each dollar used to monetize debt is a dollar that requires the public to pay interest in order to keep it in circulation. Are you talking about a hypothetical world of credit-based fiat money?

It's probably worth pointing out that Zimbabwe has a credit-based fiat monetary system, albeit with no limitations. My contention is that fiat money systems lead to governments which eventually shrug off such "barbaric" limitations anyway.

I haven't studied Gresham's law in detail but I thought it was phrased the opposite way: "bad money drives out good money" (regardless of government force or the absence thereof). The rationale seems to be that people would spend their bad money as soon as they can while hoarding their good money as long as possible.

Gresham's law, unqualified as "bad money drives out good", is wrong. Bad money drives out good when the government forces or otherwise creates a demand for bad money. Remember that sellers, left to their own devices, will drive out bad money in preference for good.

I gather then that you are not opposed to the government issuing its own (unbacked) currency as long as it is not made legal tender (but the government can still demand that you pay your taxes only with its currency). That only works if the government runs balanced budgets. The only other potential problem that I can see is what to do if two people can't agree on which type of money to use to settle a debt.

I am opposed to the issuance of fiat money. I merely expressed weak support for the idea that sound and unsound money could perhaps circulate simultaneously, absent legal tender laws. The graveyard of history is littered with fiat currencies (in spite of Tensordyne's alternative history).

Sure, fiat money is more manipulatable than commodity money but at least there are votes riding on how politicians manipulate the money supply. Bankers have no such fear.

I don't believe real political accountability exists, hence, I don't see much difference between a printing press for bankers, and a printing press for politicians, other than the frail hope that politicians are spending that money on me, or in my best interest. This is probably the biggest fundamental difference in our views. I think Duverger's law, combined with monetary corruption has eliminated any hope of real political accountability.

If we are going to have a law that outlaws FRB then we could just as easily have a law that requires banks to distribute the interest they collect (net of costs) to their depositors or shareholders (ie outlaw the hoarding or re-lending of interest payments). That should cut down the number of tricks that bankers can use.

We can make lots of different laws, some more practical than others. The beauty of sound money is that it operates independently of those laws. I don't need to trust the government, or bankers not to inflate my currency. I have gold. It requires sweat and ingenuity to dig it from the ground.

Although there is nothing good about FRB, FRB by itself is not unsustainable. It is the combination of FRB, usury, government overspending and the (partial) monetization of government debt that is driving countries all over the world towards economic armageddon.

I think FRB is unsustainable, by itself. It necessitates malinvestment and the business cycle. It necessitates bank runs, absent a central bank. It is usury.

I'm not sure that we need fiat money to be able to do this. The government can use taxpayers money to nationalize the risks of any businesses it chooses. However, the combination of FRB and fiat money allows the government to rack up incredible levels of debt (and in the process make the banks incredibly rich).

Granted. However, keep in mind that when an undercapitalized bank takes fiat money loans from the central bank at below market rates, risk is socialized (not nationalized, which has a different meaning). This is independent of bank failures that "require" massive bailouts, which is obvious. But yes, we could theoretically operate a central bank with gold, silver, and income taxes.

Yes, a fixed money supply would put a natural limit to government debt. Unfortunately, politicians being what they are, they would borrow beyond that limit at which time there would not be enough money around to service the government debt.

How? The market's appetite for government debt would be strictly limited by the supply of money. If the government issues too much debt, the market for government debt would simply dry up. That's the beauty of sound money. If the government finds itself unable to service its debts, then that is on the investor who was unwise enough to invest in the government. I think we are finding out that investing in sovereign debt denominated in fiat money is turning out to be a bad investment too, see Greece.

Of course, there is always the risk that people would use the government IOUs as currency which would give the same problems as with a fiat money supply but with taxpayers paying for the money.

Government IOUs will never be used as currency, because that would require sellers to become experts at bond valuation. Government IOUs come in different maturities and coupon rates. Even barter would be preferrable.

There is no doubt about it, governments borrowing money is bad no matter what the financial system is and should be unconstitutional.

I agree. I would go so far to say as spending in excess of constitutional limits is bad, because if they're not borrowing it, they're taking it from someone else.

 

[tensordyne]

intermediate notes

Well, I got to pick the letters out first! Actually, I have no problem with your choice of letters (You could use swear words instead if you like ).

Spoken like a true mathematician. So let banana represent total debt... Naw. It is funny though, this idea of not caring about what things are named is related to a very important set of mathematical ideas such as one-to-one(injective) and onto(surjective) mappings (if a mapping is both one-to-one and onto at the same time it is called bijective. So you could have said "As long as you have a bijective mapping from your choice of letters for variables to swear words, I really do not care", and rightly so!), but enough about abstract mathematics.

Tell you what, let's split the difference on variable naming, I get L instead of D and you get M and S. Since all the rest of the variable names are the same, you come out one variable ahead

I understand you perfectly here. However, for the benefit of the more mathematically challenged members of this forum (PM me if you don't know who I am talking about) I would probably write your triples like this:

bank 1: (R1, M1 + S1, L1) -> (R1 - i, (M1 - i) + S1, L1)
bank 2: (R2, M2 + S2, L2) -> (R2 + i, M2 + (S2 + i), L2)

Good point, I did not include the information that out of bank 1's D it is M that is getting subtracted from. So I should have either written it the way you did above or added perhaps a line such as

bank 1: M1 -> M1 - i

in order to be completely thorough.

Rather than rely on my own authority here... There is a caveat that limits how much of its capital the bank can spend at any one time. Do you know what that is? (hint: required vs excess reserves).

Well, that answers that question to my satisfaction, thank you very much for taking the time to find that answer! It also gives a credible reason why to expect that a bank has an account "with itself", such as the capital account.

Although now I am being put on the spot as it were in order to answer the last question. I feel this may betray some ignorance I have of how banking is supposed to work. All the same, here is my response.

A bank's shareholders certainly can not spend more than S, so that is one limit. On the other hand, if a bank spends its money by transferring within a single bank from S to M, I do not see any limit going on related to reserves. Since D = M + S, and RR = 0.1 * D, if one moves say i from M to S one has as the new total

D = (M + i) + (S - i) = M + S.

Nothing changed. Very odd, please explain what you mean...

If S goes to another bank, in either its S or M, then general reserve requirement considerations kick in.

Actually, in a very specific sense. Banks spend their interest money by transferring money from their capital account to a demand deposit account.

Sounds correct to me.

The equations we have been using invite us to draw the inference that spending rather than lending interest back into the community will prevent debt from compounding. The fact that this inference sits uneasily on your shoulders suggests that you have access to information that would invite a different inference. If so, lets bring it on and see if we can adjust the formulae accordingly and thereby test your information.

In the meantime, have some faith in the mathematics you are doing and go where the mathematics takes you. (It's logical).

Oh, I try not to have faith of any kind. To me, everything is a calculus of doubt.

Here is what causes me doubt about what we have been talking about so far: the actions of Federal Governments in having ever increasing loans with Central Banks. As far as I can tell, these governments do not pay off the principal on the loans they have (at least I have read that the US does not, but since pretty much all countries follow the same economic policies these days, it seems to me to be likely, barring further research, that most countries would act in this way), just the interest.

This is important because government loans infuse an economy with new money that can be used by M to help pay off some of I to S, thus possibly complicating our analysis. I have even read in some places that government debt acts like a de facto version of the real money supply (real in Sceptic-PK sense of total reserves).

You sure like putting things mildly! Long before the interest bill even came close to the money supply, the economy would have well and truly collapsed!! Problems with share trading such as derivatives, short-selling etc. are separate from the problems with the banking system and should be dealt with separately (unless you can tie these problems together).

I was trying to err on the side of at least making sure there was a problem. I wonder though, what is the interest bill for some given economy versus how much money it has, as of now? US, Australia, Germany, France...

Don't forget that the bank's capital (S) is a liability to the bank (but an asset to its owners) while the bank's reserves (R) are an asset and you can't subtract money from a liabilility account and add it to an asset account. If you look over our equations again, you will see that everytime the bank interacts with the public, it does so on the liability side of its ledger. The movement of bank reserves between banks mirrors the movement of demand deposit monies between banks but reserves is not something that the public has anything to do with. Similarly, the rise and fall of debts (principal only) mirrors changes in the money supply but again, it is the changes in demand deposit accounts (liability side) that affects the public.

This is true if the banks sit on the interest they collect. The money in the demand deposit accounts (and hence, the money supply) goes down but the debts and the interest bill don't. Have a look at the triple again:

(R, M + S, L) -> (R, (M - i) + (S + i), L)

If "i" gets big enough then (M - i) < L meaning that there is not enough money in the demand deposit accounts (M - i) to repay the loans (L).

That's how it ends up but not how it starts. The interest problem is that it causes debts to grow exponentially but not the money supply.

(M - i) < L is definitely an inequality I can bite my teeth into. That would most certainly be a problem. I think though it was said that "However, once the aggregate interest collected by the banks exceeds the value of their reserves, there is no longer enough money in the bank accounts to repay the debts."

So, parsing this last statement I come to, once I > R, there is no longer enough M to repay debts. As far as I understand it, R < (M + S) but this does not necessarily mean that R < M or how this relates to L. For sure one can conclude that M < L at all times.

I think I can agree with (M - i) < L being a problem, barring new spending from a government, that statement above in the quotes though does not make sense to me.

Here are two suggestions, just for your considerations.

1. Start two new threads, one about stuff Tippit is going over, the other about the possible instabilities in FRB. Possible title of each "Monetary Case Scenarios: History or Myths?" for Tippit type thread, "On Possible Instabilities of FRB" for this topic me and psionl0 are covering?

2. Since everyone seems to agree about how FRB works (Tippit is not complaining, Sceptic-PK agrees with the mathematics and me and psionl0 seem to agree about the main points), make one huge last post in this thread covering how banking ideally and to some extent in practice works as far as new loans, transfers, and debt repayments. Provide evidence for everything from MMM and or that nifty book you have psionl0 and then leave this thread to the ancients. It could be a group project.

A, turn off the lights, whomever is left, post. That way, if in the future some other thread comes up asking about this someone will be able to say, "Oh, come one, just look at post #120x of 'How the banks create money', it is all right there."

Just an idea...

All the best to you all!

 

[psionl0]

Spoken like a true mathematician.

I would have thought "engineer". Engineers are less likely to be worried about the form of an equation (nor even its validity sometimes) as long as it is useful.

Tell you what, let's split the difference on variable naming, I get L instead of D and you get M and S. Since all the rest of the variable names are the same, you come out one variable ahead

A truly diplomatic solution. Agreed.

Well, that answers that question to my satisfaction (why S is not considered part of the money supply), thank you very much for taking the time to find that answer! It also gives a credible reason why to expect that a bank has an account "with itself", such as the capital account.

Although now I am being put on the spot as it were in order to answer the last question. I feel this may betray some ignorance I have of how banking is supposed to work. All the same, here is my response.

A bank's shareholders certainly can not spend more than S, so that is one limit. On the other hand, if a bank spends its money by transferring within a single bank from S to M, I do not see any limit going on related to reserves. Since D = M + S, and RR = 0.1 * D, if one moves say i from M to S one has as the new total

D = (M + i) + (S - i) = M + S.

Nothing changed. Very odd, please explain what you mean...

Sorry to put you on the spot like that. Just making sure I haven't lost you. The caveat is that a bank can only spend money from its capital account if it has excess reserves. This is obvious when the bank A transfers money from its capital account to a demand deposit account at another bank (Bank B):

Bank A: (R1, M1 + S1, L1) -> (R1 - i, M1 + (S1 - i), L1)
Bank B: (R2, M2 + S2, L2) -> (R2 + i, (M2 + i), S2, L2)

This is also true if the bank transfers money to one of its own demand deposit account holders. D = M + S and RR = 0.1 * M (not RR = 0.1 * D).

As you pointed out D = (M + i) + (S - i). Since the amount of money in the demand deposit accounts has increased (M + i), so must the required reserves which can only come from excess reserves.

Oh, I try not to have faith of any kind. To me, everything is a calculus of doubt.

Of course it is. However, at some point you need to go with the best information you have. Mathematics is better information than the views of any author because it lays bare any fallacious reasoning. In this case, the mathematics is verifying that interest is a problem which was your original claim.

Here is what causes me doubt about what we have been talking about so far: the actions of Federal Governments in having ever increasing loans with Central Banks. As far as I can tell, these governments do not pay off the principal on the loans they have (at least I have read that the US does not, but since pretty much all countries follow the same economic policies these days, it seems to me to be likely, barring further research, that most countries would act in this way), just the interest.

This is important because government loans infuse an economy with new money that can be used by M to help pay off some of I to S, thus possibly complicating our analysis. I have even read in some places that government debt acts like a de facto version of the real money supply (real in Sceptic-PK sense of total reserves).

My equations analyzed the effect of money being created by the government and demonstrated that it didn't stop debt rising compared to the money supply. (Check those out again).

The real problem here is not the interest the government may or not pay to the fed (that gets returned to the treasury) but to other bondholders (that is a gift from the taxpayers).

I think I can agree with (M - i) < L being a problem, barring new spending from a government, that statement above in the quotes though does not make sense to me.

Consider the case where S = 0 (initially) and "R" is paid off as interest:

(R, M + 0, L) -> (R, (M - R) + R, L)

M = R + L so (M - R) = L showing how deposits become less than loans if "R" is paid in interest.

Don't forget that new spending by the government doesn't solve the problem.

Here are two suggestions, just for your considerations.

A case could be made for having a separate thread that discusses interest but this is still tied in with banks creating money so the case could also be made for keeping it in this thread.

It is true that this thread has become large enough that if a question comes up about creating money, we should be able to answer it just by referring to a post number. However, as long as the question of FRB remains unresolved with some members, I would favour a live response instead of a post# so I would prefer to keep this thread alive.

 

[tensordyne]

Some analysis of some sound-bites...



I know I said I would let psionl0 argue with you Tippit, but there are just too many juicy pieces of misunderstanding in your last post for me not to want to take a bite. I will therefore make a bite into a few of them.

Transition to sound money will be painful absent a necessary debt default. The economy needs to reset, and illegitimate debts need to be cleared.

I agree there needs to be a debt default. By law it should have already happened in many countries already.

Sound money, well, I am going to cover it below. Define for me sound money in a neutral way that would not in an a priori way make it "hard money" by circular definition, then maybe we can talk of this sound money.

Each dollar used to monetize debt is a dollar that requires the public to pay interest in order to keep it in circulation. Are you talking about a hypothetical world of credit-based fiat money?

For someone who has looked at Zarlenga's ideas (or at least his organisation's Monetary Reform ideas), I find it funny you would even need to ask this question. Of course psionl0 is talking about credit-based (also known as debt-free) money.

It's probably worth pointing out that Zimbabwe has a credit-based fiat monetary system, albeit with no limitations. My contention is that fiat money systems lead to governments which eventually shrug off such "barbaric" limitations anyway.

Ooooh, I love this one. It is worth pointing out Zimbabwe, but not for reasons you might expect Tippit. Here is an interesting link.

http://www.thirdworldtraveler.com/Banks/Weimar_Hyperinflation.html

Some choice quotes from that article written by Ellen Brown:

Light is thrown on this mystery by the later writings of Hjalmar Schacht, the currency commissioner for the Weimar Republic. The facts are explored at length in The Lost Science of Money by Stephen Zarlenga, who writes that in Schacht's 1967 book The Magic of Money, he "let the cat out of the bag, writing in German, with some truly remarkable admissions that shatter the 'accepted wisdom' the financial community has promulgated on the German hyperinflation." What actually drove the wartime inflation into hyperinflation, said Schacht, was speculation by foreign investors, who would bet on the mark's decreasing value by selling it short.
​

Or this quote by Henry C. K. Liu from the same article:

The Nazis came to power in Germany in 1933, at a time when its economy was in total collapse, with ruinous war-reparation obligations and zero prospects for foreign investment or credit. Yet through an independent monetary policy of sovereign credit and a full-employment public-works program, the Third Reich was able to turn a bankrupt Germany, stripped of overseas colonies it could exploit, into the strongest economy in Europe within four years, even before armament spending began.
​

What does this have to do with Zimbabwe though? Before going there, consider the following quote:

The dramatic difference in the results of Germany's two money-printing experiments was a direct result of the uses to which the money was put. Price inflation results when "demand" (money) increases more than "supply" (goods and services), driving prices up; and in the experiment of the 1930s, new money was created for the purpose of funding productivity, so supply and demand increased together and prices remained stable. Hitler said, "For every mark issued, we required the equivalent of a mark's worth of work done, or goods produced." In the hyperinflationary disaster of 1923, on the other hand, money was printed merely to pay off speculators, causing demand to shoot up while supply remained fixed. The result was not just inflation but hyperinflation, since the speculation went wild, triggering rampant tulip-bubble-style mania and panic.
​

Now comes Ellen Brown's synopsis of what happened in Zimbabwe that continues from directly above:

This was also true in Zimbabwe, a dramatic contemporary example of runaway inflation. The crisis dated back to 2001, when Zimbabwe defaulted on its loans and the IMF refused to make the usual accommodations, including refinancing and loan forgiveness. Apparently, the IMF's intention was to punish the country for political policies of which it disapproved, including land reform measures that involved reclaiming the lands of wealthy landowners. Zimbabwe's credit was ruined and it could not get loans elsewhere, so the government resorted to issuing its own national currency and using the money to buy U.S. dollars on the foreign-exchange market. These dollars were then used to pay the IMF and regain the country's credit rating. According to a statement by the Zimbabwe central bank, the hyperinflation was caused by speculators who manipulated the foreign-exchange market, charging exorbitant rates for U.S. dollars, causing a drastic devaluation of the Zimbabwe currency.

The government's real mistake, however, may have been in playing the IMF's game at all. Rather than using its national currency to buy foreign fiat money to pay foreign lenders, it could have followed the lead of Abraham Lincoln and the American colonists and issued its own currency to pay for the production of goods and services for its own people. Inflation would then have been avoided, because supply would have kept up with demand; and the currency would have served the local economy rather than being siphoned off by speculators.
​

You have fallen for the trap set by Neoclassical Economists Tippit. They did not tell you the whole story, only a kind of sound-bite history. Formula for when anyone brings up having the government in charge of the printing press: say Zimbabwe did the same thing and look at how messed up they are. Don't mention how 'real' money works or any mitigating circumstances. No, keep the story real simple. They printed money, then they had hyper-inflation, end of story.

Gresham's law, unqualified as "bad money drives out good", is wrong. Bad money drives out good when the government forces or otherwise creates a demand for bad money. Remember that sellers, left to their own devices, will drive out bad money in preference for good.

Gresham's Law is interesting in that it shows why the Austrians are wrong on so many fronts. Simply put if there are two moneys and one is made of a material that is worth more than the same amount of another money whose face value is the same, then the money that has a material value of being higher is hoarded.

Wait a minute, doesn't that go along with Austrian ideas? No, because it shows there is a difference between money as an institution and commodity valuation of some material. That the two can even be different is not something that should be in existence according to Austrian based ideas.

Another aspect of this is that when a commodity becomes newly convertible from some money, it increases in relative value. This should not happen if the Austrian's were correct.

I am opposed to the issuance of fiat money. I merely expressed weak support for the idea that sound and unsound money could perhaps circulate simultaneously, absent legal tender laws. The graveyard of history is littered with fiat currencies (in spite of Tensordyne's alternative history).

First off, it is tensordyne with a lower t. It is bad etiquette to misspell someone's name. I do not really care, just thought I would ding you on it is all. I have seen a trend of people using common shortened versions of other posters' names here on JREF. As such shortened versions of a name, it seems to me, are chosen by others, perhaps it is bad for me to suggest a shortened version of my name, but, all the same, I suggest 'td' for tensordyne, if you want to save a few keystrokes.

Secondly, sound money, as you apply it, is a propaganda term. Sound money is synonymous for you with Hard money, which means of course commodity convertible money, or direct commodity money. Two can play at that game, credit-based money as you call it, well, that is real money. If real money is used then history has shown that prices are stable, jobs are created, and there is general prosperity for the mass of the people.

Lastly for this section, the graveyard of history is filled with graveyards of people, both massive and small, Nations, Languages, Customs, and every single type of money that has ever even been thought off. Using the words "The graveyard of history..." is so cliche it smells like rotten cheese (which is probably not a new metaphor either).

It is not a worthy argument to say a type of money has come and gone, when pretty much every type of money has come and gone. The graveyard of prehistory includes sabre-tooth tigers, but I dare you to say that they were not ferocious creatures just because they are not around any more.

The rest I leave to psionl0, it is just that the quoted parts responded to above really peaked my interest (I).

All the best to you Tippit, the inestimable psionl0 and even Sceptic-PK whom I seem to have scared away or something.