Saturday, 30 July 2016

This money creation nonsense, to summarise for the umpteenth time.

1. Money is not a thing in itself (like mud or energy or clouds) it is a unit of measurement, like inches measure length, kilograms measure mass and so on.

2. Money is a measurement of indebtedness. If one person has 'money in the bank' that is only possible because somebody else owes the bank money.

3. Gold bugs please note, gold is not 'money' for these purposes, it is an actual valuable thing.

4. Lefties please note, bank notes are an asset, but the flip side is that the government owes the holder that money. Bank notes and government debts are not magically 'debt free'.

5. Banks have very little of their own money, and they don't even have to take deposits to make loans. The loans create the deposits.
- step 1, bank gives one person a cheque (or whatever its electronic equivalent is) to buy a house
- step 2, that persons buys house and gives cheque to the seller
- step 3, seller deposits cheque back with bank.

At end of the day, the banks' loans and deposits have increased by the same amount.

6. So really, banks are just glorified debt collectors, they collect the monthly mortgage payments from all the borrowers and make them available to the depositors. Banks just record a pre-existing state of affairs.

7. It is important to note that total bank lending is limited only by people's willingness to borrow. That is what creates the indebtedness of which money is merely a measure. The banks do not create the indebtedness, they just measure it and make a record of it. To say that banks 'create money' is only true in bookkeeping terms, but they have no more created it than Ole Romer decided what the speed of light is or created it.

8. Consider this simple example, a UK bank sets up a branch in Darkest Africa, how much money can it create? None because nobody has any income to repay anything and there is nothing worth buying.

8. So where does the underlying indebtedness come from? Easy, all adults who do not own land (yet) are deeply indebted to those who own land. The system says that they have to hand over several hundred pounds a month for the rest of their lives merely for the right to walk the earth. That is a massive great debt that each adult is saddled with, which vastly swamps student debts.

9. People who finish uni moan (probably rightly) about being saddled with tens of thousands of pounds of tuition fee/student loan debts. But they ought to realise that they are also carrying a debt of hundreds of thousands of pounds, being all the rent they will have to pay in future. Just because this debt is not written down anywhere does not mean it does not exist. So by going to university, their total initial debts are only one-tenth higher than the initial debts of school leavers.

10. The only way to free yourself from the liability to pay rent in future (a real but unrecorded liability) is to take out a mortgage (a real AND recorded liability), a very similar liability only with, hopefully, a limited number of years until it is paid off, even if that is half a lifetime.

11. So while in bookkeeping terms, banks appear to create money by splitting the zero, banks are just glorified debt collectors on behalf of landowners. The banks did not actually create that indebtedness.

In case I am going too fast, consider a town where everybody has a right to a council house for £80 a week, which is a fair price to pay as it covers the actual physical running costs. How much money/debt is there on paper? None, because nobody in that has a mortgage. Are school and uni leavers in that town saddled with a massive debt i.e. future housing costs? Nope. But what happens if the council decides to sell off all the housing cheaply to their current tenants and not build anymore..?

36 comments:

DBC Reed said...

@MW Those merry madcaps at the Bank of England clearly believe that they create money, hence "Money Creation in the Modern Economy" their very simple, very public demonstration that they haven't understood what they're doing, apparently.
Perhaps you should give them the benefit of your greater insight and take ,say, the first three statements in their paper, first copy them out and then re-cast them to show us ,and them, what these should say after the attention of one who knows that money is not created.
BTW It wouldn't matter how the money was created ( or whatever) if a LVT stopped it going into the high rent/ house price : low wage economy that we endure.

Mark Wadsworth said...

DBC, I refer you this paragraph:

"11. So while in bookkeeping terms, banks appear to create money by splitting the zero, banks are just glorified debt collectors on behalf of landowners. The banks did not actually create that indebtedness."

To summarise...
We agree that banks do not have to take deposits to make loans.
We agree that "loans create deposits"
We appear to be agreed that these loans and deposits are merely manifestations or a written record of actual underlying indebtedness - the fact the tenants are indebted to landlords and the only way to free themselves is to make themselves indebted to banks.
We agree that banks can only cash in on this to the extent that the government does not collect the land rent itself in LVT or indeed give people low cost council houses.

(Compare and contrast - if banks were shut down and mortgage lending made illegal/unenforceable in the courts, the income of landowners would not really change much, would it? And the position of tenants would not improve.)

Good, I am glad we are on the same page again.

ThomasBHall said...

It's strange how hard this concept is for people to grasp. I myself often find my mind thrown- even when I do understand it really. I wonder why this is. We all know money is a claim on something else, but fail to connect this with its creation.

Ralph Musgrave said...

Re No 4 (the idea that government issued money (base money)) is a debt owed by government (or the central bank), that might appear to be the case given that £10 notes say “I promise to pay the bearer £10”. But I rather doubt that if you turn up at the Bank of England demanding that they pay their debt to you that you’ll actually be given £10 worth of gold or anything else: you’ll actually be told to go away, escorted by the police if necessary.

Thus the idea that base money is a debt owed by the state is questionable. It HAS BEEN argued that it’s a debt in the sense that if you owe the state £X (e.g. in taxes), you can use £X of state money to pay off that debt, and that that’s a case of two equal and opposite debts cancelling each other out. But that’s an odd use of the word debt. I.e. the claim that base money is debt free is a far from entirely invalid point.

Re the second half of the article and the claim that commercial banks cannot create money, I suggest they can. Assume a society where no one wanted to to into long term debt, but people DID WANT a form of money to enable them to do day to day business. They’d ask their bank to credit £X to their account (after depositing collateral perhaps). The bank would do that and set up an equal and opposite debt (as is normal practice), namely the obligation on those with money credited to their accounts to repay the £X eventually. Thereafter, the balance on each person’s account would bob up and down above and below the £X in line with inflows and outflows from each account, but no one would be in long term debt to anyone else.

Mike W said...

Re Ralph above,

First point, nobody this side of 1972 thinks you would get gold. As Wray says, for 10 dollers/pounds they might slit you two fives!No need for police.

Second, Thus the idea that base money is a debt owed by the state is questionable. It HAS BEEN argued that it’s a debt in the sense that if you owe the state £X (e.g. in taxes), you can use £X of state money to pay off that debt, and that that’s a case of two equal and opposite debts cancelling each other out. But that’s an odd use of the word debt.

The second does not seem to follow from the first. So Why 'odd' this seems very logical to me?
-or-

You seem to have a semantic problem with their(MMT) use of the term Debt. Can you explain further? The above just seems cryptic.
PS No one at Positive Money meetings I attended could help:)

Mark Wadsworth said...

TBH, ta.

RM, we can see the state spending/taxing as a completely separate cycle under MMT rules - the govt creates money by spending and destroys it again by taxing. If there are short term mismatches (deficits or surplus) then this is a minor issue and doesn't seem to affect anything unduly positively or negatively.

Clearly, this post addresses the 80% of privately created money that relates to land.

You are quite right that "money" is a superbly useful mechanism for oiling the wheels of what would otherwise be a barter economy. But the short term "bobbing up and down" is entirely voluntary.

Let's take another example - a three year loan to buy a car. Ford could simply create the value (the car) and deliver it to you, and you pay them off in instalments over three years. This is entirely voluntary - you could have taken the bus and people at Ford won't make cars for free.

If instead of buying on credit from Ford you take out a personal loan, then what Ford gets is a deposit with the same bank - all the bank does is act as debt collector for Ford. The bank did not create the car, the value or the indebtedness.

In the absence of Ford making cars - or people preferring to buy them on credit rather than saving up for one or taking the bus - banks would not be able to create that credit (or appear to have created it).

MW: "It HAS BEEN argued that it’s a debt in the sense that if you owe the state £X (e.g. in taxes), you can use £X of state money to pay off that debt, and that that’s a case of two equal and opposite debts cancelling each other out. But that’s an odd use of the word debt."

No it's not. It really is as simple as you think. You have a debt to the government (tax) and the government has a debt to you (coins and notes you hold). The two then cancel out.

Think about it, if people had to pay their tax debts in cash, the taxman could just take all the notes and burn them. When the government spends money, it could spend freshly printed notes. This would not be any different to doing it electronically.

Random said...

Mark is correct here. I don't think RM understands "taxes drive money."

Derek said...

Even in the absence of governments and banks, it's possible to make money that works. All you need are landlords and tenants. At the risk of adding further to the confusion, here's how.

Suppose that I am a landlord. I own many acres of nice farmland but I am not good at farming. So I decide to rent out my farm. But rather than renting it for pounds, which are the usual currency for the area, I decide to rent it out for pucks, a currency of my own invention.

I set the annual rental at 1200 pucks payable at the end of the year. I get no takers because there are no such things as pucks and no one has any. However if I then state that I will buy farm produce using pucks and promise to spend at least 1200 pucks per year, I may then get takers.

What I have, in essence, done is to "split the zero" by creating a debt of 1200 pucks and 1200 pucks to pay that debt. In a way it's like particle physics: I am creating debt and antidebt in equal amounts. In other words I have found a tenant willing to agree to a debt of 1200 pucks in return for a year's use of my farm, and my promise to create and give him at least 1200 pucks in return for farm produce so that he can pay the debt at the end of the year. I should be able to find a tenant easily as long as I am not too stingy when handing out the pucks. And I should survive okay as long as I am not too generous. Being too stingy will cause my tenant to abandon the farm; being too generous will cause the tenant to stop selling produce to me. Now replace me with the UK government, my farm with the UK, my tenant with the UK public, the rent by LVT and my spending by government spending or a Basic Income and you have a very basic taxation set up of the type described by MMT.

Adding banks on top of this basic setup and changing the taxation to VAT and Income Tax makes things more complicated, as Mark showed in this post, but it doesn't change the basics. So it is perfectly possible to have valuable fiat money even without banks. All you need are landlords.

Derek said...

For a real life example of what I'm talking about, I recommend that people read some articles about the Somali shilling, a currency which seems to show that it is not taxes but rather rents that drive money. And very successfully too. Here are a couple.

Somalia's mighty shilling: hard to kill

The curious tale of the world-beating Somalia shilling

Lola said...

D. In that sense taxes are rents. True.

Mark Wadsworth said...

D, that's an excellent example, but as I have said many a time "land ownership and government are synonymous". You cannot have one without the other.

So in the absence of a formal government, if self-declared landowners collectively can extract rent from others, they are de facto the government.

It is the "force" that gives the paper currency value, whether you use it to pay taxes or rents (or LVT), or whether you hand it in when buying scarce commodities (rationing vouchers).

DBC Reed said...

In all this arrogance, there is a steadfast refusal to address the Bank of England's authoritative rulings on the creation of money ,none more authoritative. You cannot engage in an argument on a public matter without mentioning the rationale of the system the public authority is enacting .Yet you do, despite being directly challenged to do so in a simple demonstrable way, instead preferring to argue on your own eccentric terms on your own turf. (Likewise my challenge to disavow the anti-immigration Brexit strategy, the popularity of which now makes it impossible for us to continue in the EU free trade area while there is no prudential plan for an alternative. It is also immoral and Neo Nazi something which certain Brits seem too up themselves to notice.)

Mark Wadsworth said...

DBC, I covered that at point 5 of the post.

Can you please go back to my first reply to you and tell me which of these statements you do not agree with:

We agree that banks do not have to take deposits to make loans.

We agree that "loans create deposits"

We appear to be agreed that these loans and deposits are merely manifestations or a written record of actual underlying indebtedness - the fact the tenants are indebted to landlords and the only way to free themselves is to make themselves indebted to banks.

We agree that banks can only cash in on this to the extent that the government does not collect the land rent itself in LVT or indeed give people low cost council houses.


So far you have just done ad hominem attacks, you say I'm wrong but without saying what the right explanation is. To save a lot of time, can you please tell me which of those statements you do not agree with?

Dinero said...

The currency’s value is the economic resources sold by the borrowers who issued the debt that the consequentially issued currency represents.
In the analysis described my Mark W the economic resource sold is more often than not land.

DBC Reed , there nothing in the BoE article to contradicts the observation thank banks create money in concert with borrower, and so it is the borrowers debt contract that is prime in creating the money, the deposits.

Mark W , money is a "measurement" that's a good point.

Ralph M - that would ony be true if the thing used as collateral was sold to the bank.

Mark Wadsworth said...

R, ta for back up, I think we ought to see "government money" (tax and spend) as a separate cycle.

Din, ta for back up.

"it is the borrowers debt contract that is prime in creating the money, the deposits."

Exactly! The banks can only "create" money if there is a borrower willing and able to repay the debt (and something which is he is wants to buy so urgently that he is willing to borrow money to do so).

Clearly, this post looks at "land backed money" which is different to "government money" and indeed the small + and - balances required to oil the wheels of the economy (truly private money). They use the same unit of measurement, so are interchangeable in practice.

DBC Reed said...

@MW
You do not set the Bank of England straight because you cannot.You have chickened out of the outrageous challenge you have foolishly taken on, seeing that the BoE is clearly gunning for people like you who misrepresent the money creation process.
To tempt you out of the bunker , I will use your language:
"We agree that banks do not have to take deposits to make loans" Where does the bank find the money from to loan if its doesn't have 100% deposits?

Mark Wadsworth said...

DBC: "Where does the bank find the money from to loan if its doesn't have 100% deposits?"

See para 5, step 3. I covered that!

DBC Reed said...

@MW There are numerous numbered paragraphs and steps in your refutations of the Bank of England.Please write the correct one out.

Mark Wadsworth said...

DBC, I referred you to the relevant paragraph. There is not much point you continuing with blanket denial of everything for sport.

Anyway, I am not "refuting" what the BoE said. I merely explained the background position which enables banks to do what the BoE says they do.

Lola said...

MW Doesn't your Ford analogy show you where actual 'money' comes from. That is it arises in the market from the creation of value? The fact that that value is measured in GBP (say) is not really relevant. It just so happens that we have a nationalised money protected by legal tender laws to exclude alternatives (competition).

The point about banks is that they create most money in the economy because of the state monopoly and their special privilege sanctified by the various banking Acts. (The BoE can also create money). I found that BoE report that states very clearly the 95% of the money in the UK is created by banks - lost the link I am afraid.

So if it wasn't for the money monopoly Ford could create 'Fords' to pay their suppliers and to measure the price / value of their cars and trucks. This has actually happened in the past. (Matthew Boulton did exactly that, and his coins or 'tokens' were widely accepted.). As long as Fords were exchangeable with other moneys at no fixed price (Gresham's Law) then quality would be assured (which has also happened before).

Overall I really don't think it matters who makes money, as long as who makes it can be trusted to make good, 'sound', money - which the current banking settlement means that banks not only can't and won't but are positively encouraged not to.

This is where a Gold Standard comes in, but I am not going to go into that now, here.

Ben F said...

Hi

"If instead of buying on credit from Ford you take out a personal loan, then what Ford gets is a deposit with the same bank - all the bank does is act as debt collector for Ford. The bank did not create the car, the value or the indebtedness."

I feel this analogy is terminally broken by the supply side. If everyone in the world wanted to buy a Ford they could scale up production to meet this demand.

Land is artificially constrained by planning and genuinely constrained by physical space (in some cases). Demand exceeds supply. When this is the case banks facilitate a bidding war at and above the possible amount that could be borne under normal circumstances. This pushes up prices to the max available credit, which basically tops out at a lifetime's earnings.

Yes in theory the house seller might arrange with the "buyer" to take repayments over 30 years. In practice it's the bank debt drug pushers who facilitate this.

I really can't agree that the banks are not culpable. They are part of the pipeline that is rent extraction.

Yes kids might start refining their own heroin if drug pushers were not in town, but most likely they'd just buy beer.

Mark Wadsworth said...

L: "MW Doesn't your Ford analogy show you where actual 'money' comes from. That is it arises in the market from the creation of value?"

In an ideal world yes, Ford (company and workers and suppliers) create value. Good stuff. People are prepared to pay for value others created (and expect to be paid for value that they create).

"The point about banks is that they create most money in the economy because of the state monopoly and their special privilege sanctified by the various banking Acts…."

No that is not the point. Banks piggy back on land ownership. People are prepared to pay for land because they are forced to. Banks also benefit from bail outs, state subsidies etc but that is a secondary issue.

"This is where a Gold Standard comes in, but I am not going to go into that now, here."

Here we heartily disagree. If landowners can extract rent, and banks can extract rent from landowners and those wishing to buy land, then it matters not whether the rent is measured in £, in gold or in cucumbers.

BF, I completely agree with all of your comment, except for maybe this bit:

"in theory the house seller might arrange with the "buyer" to take repayments over 30 years. In practice it's the bank debt drug pushers who facilitate this."

I covered that already. If banks and lending on land were made illegal and unenforceable tomorrow, the transfer of wealth from tenants/purchasers to landowners would remain much the same. Banks just tap into/facilitate that transfer of wealth.

DBC Reed said...

@MW
You are refuting that banks create money as the Bank of England explains in good plain English. God knows why.Your insistence that you have dealt with points somewhere else and can't be bothered to explain them again is verging on the megalomaniac.Go on then, as its so straightforward to explain,"Where does the bank find the money from to loan if it doesn't have 100% reserves?" Can't be that difficult surely?

Mark Wadsworth said...

DBC: "Where does the bank find the money from to loan if it doesn't have 100% reserves?"

To recap:

"Money" is a unit of measurement of indebtedness. The debt and the asset net off.

Tenants are already in debt to landowners. They are face with a lifetime of paying hundred of pounds a month in rent. The landowner has a corresponding asset (the right to receive hundreds of pounds a month forever.

Tenants can choose, instead, to paying slightly more to pay off a mortgage debt for a shorter period. The landlord can choose to forego hundreds of pounds a month forever in exchange for a large lump sum today.

So that indebtedness/asset which the land market creates are then converted to a single lump sum today.The banks solemnly record the collectible from the borrower and the payable to the seller and act as debt collectors.

In case you failed to read all my previous replies - imagine a town where everybody gets a low rent council house for life as of right and private renting or selling of land is illegal - could banks "create money" in this town? No, of course not. Nobody would want to buy and there would be nothing to sell.

Ben F said...

Hi Mark,

thanks for taking the time to reply. I do get where you are coming from in that banks are also "a product of the system" and that removing them leaves the inherent issue of landed vs serf.

However I think the banks could be allowed to exist were land value tax to be used in conjunction with state issued money via some kind of basic income. In stating this I mean to also say that banks are making a bad situation much worse by being such blood sucking sods! They have become *so* efficient in reacting to productivity improvements and mopping them up with new fiat issuance.

Lola said...

Me: "The point about banks is that they create most money in the economy because of the state monopoly and their special privilege sanctified by the various banking Acts…."

You: "No that is not the point. Banks piggy back on land ownership. People are prepared to pay for land because they are forced to. Banks also benefit from bail outs, state subsidies etc but that is a secondary issue."

I think we are talking at cross purposes. Both me and you are right. I am not denying that banks create money so that people can / are forced to buy / rent land. It's the special privileges that help that along the way - including the bail outs.

Going back to Gold, I am no gold bug. But using your own tried and tested test, gold has always worked as money. The GBP 'promise to pay' is a statement of the guarantee of convertibility, now of course abandoned. People, money users, felt safe knowing that they could get a real thing in exchange for paper promises, at any time.

I actually think that money is probably mankind's greatest invention. It enables the exchange economy and specialisation and all the benefits that flow from that. It frees workers from being 'bondsmen'. It gives us all a measure by which we can successfully prioritise. And because it is such a good thing and that if one can become a monopoly producer it bestows on you enormous power. Which is why all governments through time have sought to monopolise it. It also makes it possible to collect taxes (all taxes, and rent is a tax). Having the monopoly means that governments have no effective limit on what they can spend - in the same way as your rents create money analogy - government spending creates taxes. And what they cannot get by taxes they get by 'borrowing', aka printing even more of the stuff. And that is where currency convertibility comes in. It effectively stops government forever inflating. It makes money sound. Which also affects rents. That is LVT/Bank Asset Taxes etc are all well and good, but they must be accompanied by other reforms, and sound money and banking reform are fundamental ones of those.

DBC Reed said...

@Lola
Naughty, naughty, you say above "Banks create most money in the economy"How many times has MW told you, banks don't create money?
I am shocked, truly shocked.Don't you know that in a town with low cost rented housing there is no buying and selling so no need for banks at all?Why is it you cant get your head round this simple, realistic scenario?

Lola said...

DBCR, well as far as I know that 'banks create most of the money in the economy' is exactly what MW has said. What he has also said, is that it is the privatisation of land taxes combined with the current banking settlement, which drives this money creation. The deposits made by landlords on the receipt of the sale of land financed by a bank loan, a loan created from thin air as permitted and encouraged by The Power That Be.

DBC Reed said...

@L
Fraid there's still too much thought crime here.And you've said "a loan created out of thin air". No hope for you then.

Dinero said...

> DBC Reed

the BoE article you refer to " Money Creation in the modern economy" tallies with Mark W's Post .

Mark has - " 7. It is important to note that total bank lending is limited only by people's willingness to borrow. That is what creates the indebtedness of which money is merely a measure. The banks do not create the indebtedness, they just measure it and make a record of it. To say that banks 'create money' is only true in bookkeeping terms, but they have no more created it than Ole Romer decided what the speed of light is or created it."

the BoE Document has -


"Limits to broad money creation"

"Although commercial banks create money through their
lending behaviour, they cannot in practice do so without limit.
In particular, the price of loans — that is, the interest rate (plus
any fees) charged by banks — determines the amount that
households and companies will want to borrow."

and

"The ultimate constraint on money creation is monetary
policy. By influencing the level of interest rates in the
economy, the Bank of England’s monetary policy affects
how much households and companies want to borrow."

"In order to make extra loans, an individual
bank will typically have to lower its loan rates relative to its
competitors to induce households and companies to borrow
more."

end quote.

no so different, very similar indeed.

Bayard said...

"In all this arrogance, there is a steadfast refusal to address the Bank of England's authoritative rulings on the creation of money ,none more authoritative."

Since when has the BoE been, like the Pope, infallible? The creation of money is something that happened many thousands of years ago. I would have thought it better to listen to historians on the subject than the BoE.

Mike W said...

DBC Reed above, I use the language the same way as you. St Louis Fed also has published a similar paper to BOE. The Benaky said money was created by typing it into a computer at the Fed. The Fed/USA can 'never run out'.

How about: The State creates a legal structure that enshrines into being debtors and creditors. It creates courts that will judge who is who. It invents police or military who will enforce this and prisons or exile as punishment for ultimate non compliance with the above.
So banks 'monitise' this process and record it in the money unit of the state. Who owes who. Therefore If 'Create' = 'monitise'onto the Bank ledger these social debt arrangements you are both correct!

ps above, I always thought Keynes: 'pushing on a string' described the situation where there were no takers of debt at a lower and lower price.

Lola, please reread the Wayne Godley quote. Putting Greece et al, on a Gold standard destroyed it/them. This is how Godley knew the Euro would fail as early as 1992. Max Kieser Gold Standard = massive shocks no ability to adjust and 50%+ youth unemployment, then your real problems start!

Derek said...

Must admit that I don't see an incompatibility between what the BoE says and what Mark says. In essence the BoE explains how money is created. And It basically says that borrowers are required to accept debt for the creation process. Mark is merely pointing out that there are limits to how much debt borrowers will agree to take on, limits which depend to a large extent on the demand for land.

As far as I can see that doesn't contradict anything that the BoE is saying.

Lola said...

MW. Yes, I am aware of that. IMHO he has analysed only half the problem. It is the preceding bubble, engendered by the absence of a Gold Standard that permits the massive expansion of money and credit that then leads to a bust.

Yes, indeed inflicting a gold standard on Greece - at the wrong price - will have such an effect as all the bubble activities are unwound. A parallel although not exact one is the UK return to the Gold standard in the 1930's at the old pre WW1 rate.

Mark Wadsworth said...

L, Din, B, MW, D, thanks for back up, looks like most of us understand this :-)

Lola said...

Worth a read:-
http://bawerk.net/2016/06/30/off-target/