Yes, the payments system is different from the lending (money creation) system and could be better managed by cutting it out of the private banking system by everyone having an account at the central bank. Yes, there are privacy issues - but the current system is already monitored by data firms that know our transactions, can agglomerate other data and sell it on, including to governments. A digital ‘cash’ option could easily be created for modest transactions.
The loan system allows 95% of our money to be created by banks for private profit, which is at the heart of our current environmental and climate crisis. I don’t think anyone has an answer to what fraction of our money should be created for profit so let’s guess 50:50 rather than 95:5. So we have a long way to go and at the heart of the journey is bank regulations. It is the key role of central banks and has been entirely lost sight of.
As for control, leaving behind the misapplied Phillips’ curve and the silly Taylor rule, and that most inflation is supply side including oil, the real question is can a complex system like the economy ever be controlled in the first place. It can’t. When economic levers are pulled, including the interest rate, feedback loops are engaged with different time constants so the lever-puller really has no idea.
Which brings us back to MMT. Warren Mosler’s view is that the natural central bank rate is zero and should be left there. No more wealthfare cheques to the wealthy as we cut welfare cheques to the poor. Because far from higher rates cutting inflation, they increase it. It’s pretty straightforward. If you’re a business person, what inflation rate are you going to build into future prices. The central bank rate, of course.
We’ve seen how this plays out in Argentina - inflation following interest rates UP until there is a revolution at the ballot box. A lot of what has been proposed is yourself-in-the-foot-shooting but getting rid of the Central Bank? Maybe not so much.
It might be theoretically tidier to get rid of private banks, but then we would then be stuck with a system where all credit is managed by non-bank finance. Such a system is going to be less stable than one with private banks, without the government itself turning itself into an active banker, which poses political problems.
You say" "The loan system allows 95% of our money to be created by banks for private profit".
Yes approx 95% of money supply is held in bank deposits. IBut this does not mean 95% of MS has been created by loans. Loan deposits are only component of money supply.
Great post (both Brian's and DFW's). Interesting, DFW, that in your last paragraph you brought up the example of Argentina and "getting rid of the Central Bank." That country's president-elect, Javier Milei is a trained economist who has raised the issue of closing his central bank, ditching the peso and US dollarizing the economy. Mind you, he also self- describes as a former tantric sex instructor, regularly communicates with his dead dog and claims to never, ever brush his hair. Dude is el loco. As a matter of fact, that was his nickname in high school... El Loco/The Madman. Never a dull moment in the land "made of silver."
Trained economist doesn’t say much. Well, anything encouraging.
I’m mildly excited about getting rid of the CB, although it will likely be the one thing that the famous Argentinian family compact will prevent.
Dollarizing the economy will, of course, be an epic disaster. It will mean what’s left of government can only spend what dollars can be acquired by selling Argentina’s present and future, all while the same family compact corrupt their dollars out of the country. All done, of course, for ‘sound’ money, never mind the starved, uneducated, unemployed, sick and untreated peasants.
Cry for me, Argentina but not so much for its Central Bank.
I see that comments took off on this post. Since this one was addressed to me, I’ll stick my nose in here. It’s possible to run a country without a central bank, e.g., the US did it pre-Fed, and if you adopt another currency, sure. But those are peg systems — the central bank is similar to other banks, since it is constrained in real terms by the peg. But a welfare state with a floating currency is going to need a central bank.
Free marketeers would love a system where private banks can veto government spending. But that’s just free marketeers being complete idiots. The main driver of the evolution of government finance was warfare, and the government is going to nationalise anything that stands in the way of war funding.
We have a long history of using ‘worthless’ tokens as money. For centuries the English crown used hazel wood ‘tally sticks’, from which we get the terms: ‘score’, ‘stock’ and ‘stub’. The difference with today’s paper money is that people, then, would have seen no need to pay interest to those who stockpiled them (another tally stick term) or that the state would decide to not issue more tally sticks when it needed to. But with today’s more enlightened economics, we now understand that when the going gets tough, we need to restrict the supply of money by cutting welfare payments to the poor (fiscal policy) while prioritizing ‘wealthfare’ payments to the rich (monetary policy).
But for an accident of history (Charles II refusing to accept his 'fiduciary notes' as payments in taxes and causing the stop of the Exchequer), there would be no central banks. Payment clearing would just be a department of government like paying pensions. 'Bank Reserves' would be 'National Savings' held by banks at the Treasury.
It doesn't do that. The job of the CB is to get out of the middle of the private banking system overnight. The British banking system ran like that for centuries. We didn't even have 'reserves' until the system was polluted with silly American ideas in 2005.
The banking system creates its own liquidity. For a deposit to move from Bank A to Bank B, Bank B has to become the depositor in Bank A. That's an interbank loan. Central bank clearing is just a collateral optimisation of the process that makes it more efficient.
Since we've had 'interest on reserves' central banks don't really do OMOs either.
And if we want an institution in the middle, then Treasury can do that as well. For every 'loan of last resort' there will be a 'deposit of last resort' from another bank. Or an 'overdraft' as it is known. All things Warren has put forward to get rid of the drama.
The balance sheets of the CB and Treasury could easily be merged. On the other hand, opening the CB to citizen accounts would give it a reason to continue. So could a much stronger focus on regulating money-creation by private banks. But the 'independence' of the CB is illusory - it works hand in glove with government. But most importantly, I believe it should stop messing with the interest rate - it has no idea what damage it is doing. It's modelling is hopeless and there is absolutely no evidence to support IT. It needs to be put back into its box. The caveat is that government needs to be unafraid of exercising fiscal policy. And there's the rub. Polyester and Trudeau would never agree on the day of the week, although I have much more respect for Trudeau than Polyester.
Same in Australia, the Australian Office of Financial Management (AOFM). They manage the the daily operating account BUT also decide on the issuance of treasurys 'to meet budget funding requirements' as they put it.
The Govt's role as currency issuer is implemented throught the CB. Any money floating around the CB member banking system is created by CB and is a liability of the CB. Some comments here suggest the CB should butt out of banking. The biggest problem I see here is the CB liability for any member bank deposits is lost when the liability is transferred between individual banks without CB liability protection. Hope this makes sense.
The national debt is nothing more than the accounting mirror image of the national money supply, which is the sum of non interest bearing liabilities (cash) and interest bearing liabilities (bonds). Reducing the national debt is not even a sensible idea. And swapping cash for bonds is not a borrowing operation. Fiat currency governments do not borrow. Why would they when they create money by fiat?
All CBs do is prevent the Treasury’s account at the CB going into the red. But who cares if the government owns the CB?
Mosler’s proposition is to create money to the resource limit of the economy, let the interest rate fall to zero, stop paying wealthfare to the rich and let the masters of the universe deal with the fallout no matter how much it might squeeze them. Pensions and asset prices will require careful thought. But I’m not losing any sleep over it.
I'm quite aware of 'Debt Derangement Syndrome' and that CB don't directly monetize debt. In my comment when I said 'through the back door' I meant that a CB could buy bonds in the Secondary Market resulting in Govt owing money to itself. The Treasury redemption to CB will net to zero in consolidated Govt accounts.
Yes, the payments system is different from the lending (money creation) system and could be better managed by cutting it out of the private banking system by everyone having an account at the central bank. Yes, there are privacy issues - but the current system is already monitored by data firms that know our transactions, can agglomerate other data and sell it on, including to governments. A digital ‘cash’ option could easily be created for modest transactions.
The loan system allows 95% of our money to be created by banks for private profit, which is at the heart of our current environmental and climate crisis. I don’t think anyone has an answer to what fraction of our money should be created for profit so let’s guess 50:50 rather than 95:5. So we have a long way to go and at the heart of the journey is bank regulations. It is the key role of central banks and has been entirely lost sight of.
As for control, leaving behind the misapplied Phillips’ curve and the silly Taylor rule, and that most inflation is supply side including oil, the real question is can a complex system like the economy ever be controlled in the first place. It can’t. When economic levers are pulled, including the interest rate, feedback loops are engaged with different time constants so the lever-puller really has no idea.
Which brings us back to MMT. Warren Mosler’s view is that the natural central bank rate is zero and should be left there. No more wealthfare cheques to the wealthy as we cut welfare cheques to the poor. Because far from higher rates cutting inflation, they increase it. It’s pretty straightforward. If you’re a business person, what inflation rate are you going to build into future prices. The central bank rate, of course.
We’ve seen how this plays out in Argentina - inflation following interest rates UP until there is a revolution at the ballot box. A lot of what has been proposed is yourself-in-the-foot-shooting but getting rid of the Central Bank? Maybe not so much.
It might be theoretically tidier to get rid of private banks, but then we would then be stuck with a system where all credit is managed by non-bank finance. Such a system is going to be less stable than one with private banks, without the government itself turning itself into an active banker, which poses political problems.
You say" "The loan system allows 95% of our money to be created by banks for private profit".
Yes approx 95% of money supply is held in bank deposits. IBut this does not mean 95% of MS has been created by loans. Loan deposits are only component of money supply.
Great post (both Brian's and DFW's). Interesting, DFW, that in your last paragraph you brought up the example of Argentina and "getting rid of the Central Bank." That country's president-elect, Javier Milei is a trained economist who has raised the issue of closing his central bank, ditching the peso and US dollarizing the economy. Mind you, he also self- describes as a former tantric sex instructor, regularly communicates with his dead dog and claims to never, ever brush his hair. Dude is el loco. As a matter of fact, that was his nickname in high school... El Loco/The Madman. Never a dull moment in the land "made of silver."
Trained economist doesn’t say much. Well, anything encouraging.
I’m mildly excited about getting rid of the CB, although it will likely be the one thing that the famous Argentinian family compact will prevent.
Dollarizing the economy will, of course, be an epic disaster. It will mean what’s left of government can only spend what dollars can be acquired by selling Argentina’s present and future, all while the same family compact corrupt their dollars out of the country. All done, of course, for ‘sound’ money, never mind the starved, uneducated, unemployed, sick and untreated peasants.
Cry for me, Argentina but not so much for its Central Bank.
Well, I must pass the ball to Brian with this question: Are central banks necessary?
DFW seems to think Argentina could do without, but what about, say, Canada?
And to you, DFW: Could/should Canada do without its central bank?
I see that comments took off on this post. Since this one was addressed to me, I’ll stick my nose in here. It’s possible to run a country without a central bank, e.g., the US did it pre-Fed, and if you adopt another currency, sure. But those are peg systems — the central bank is similar to other banks, since it is constrained in real terms by the peg. But a welfare state with a floating currency is going to need a central bank.
Free marketeers would love a system where private banks can veto government spending. But that’s just free marketeers being complete idiots. The main driver of the evolution of government finance was warfare, and the government is going to nationalise anything that stands in the way of war funding.
We have a long history of using ‘worthless’ tokens as money. For centuries the English crown used hazel wood ‘tally sticks’, from which we get the terms: ‘score’, ‘stock’ and ‘stub’. The difference with today’s paper money is that people, then, would have seen no need to pay interest to those who stockpiled them (another tally stick term) or that the state would decide to not issue more tally sticks when it needed to. But with today’s more enlightened economics, we now understand that when the going gets tough, we need to restrict the supply of money by cutting welfare payments to the poor (fiscal policy) while prioritizing ‘wealthfare’ payments to the rich (monetary policy).
But for an accident of history (Charles II refusing to accept his 'fiduciary notes' as payments in taxes and causing the stop of the Exchequer), there would be no central banks. Payment clearing would just be a department of government like paying pensions. 'Bank Reserves' would be 'National Savings' held by banks at the Treasury.
But what about the role CB plays in managing liquidity through Open Market Operations and interbank overnight money market?
It doesn't do that. The job of the CB is to get out of the middle of the private banking system overnight. The British banking system ran like that for centuries. We didn't even have 'reserves' until the system was polluted with silly American ideas in 2005.
The banking system creates its own liquidity. For a deposit to move from Bank A to Bank B, Bank B has to become the depositor in Bank A. That's an interbank loan. Central bank clearing is just a collateral optimisation of the process that makes it more efficient.
Since we've had 'interest on reserves' central banks don't really do OMOs either.
And if we want an institution in the middle, then Treasury can do that as well. For every 'loan of last resort' there will be a 'deposit of last resort' from another bank. Or an 'overdraft' as it is known. All things Warren has put forward to get rid of the drama.
The balance sheets of the CB and Treasury could easily be merged. On the other hand, opening the CB to citizen accounts would give it a reason to continue. So could a much stronger focus on regulating money-creation by private banks. But the 'independence' of the CB is illusory - it works hand in glove with government. But most importantly, I believe it should stop messing with the interest rate - it has no idea what damage it is doing. It's modelling is hopeless and there is absolutely no evidence to support IT. It needs to be put back into its box. The caveat is that government needs to be unafraid of exercising fiscal policy. And there's the rub. Polyester and Trudeau would never agree on the day of the week, although I have much more respect for Trudeau than Polyester.
Argentina will be our Petri dish.
Same in Australia, the Australian Office of Financial Management (AOFM). They manage the the daily operating account BUT also decide on the issuance of treasurys 'to meet budget funding requirements' as they put it.
The Govt's role as currency issuer is implemented throught the CB. Any money floating around the CB member banking system is created by CB and is a liability of the CB. Some comments here suggest the CB should butt out of banking. The biggest problem I see here is the CB liability for any member bank deposits is lost when the liability is transferred between individual banks without CB liability protection. Hope this makes sense.
1) Central Banks have to tame the member banks who pressure them into setting higher interest rates.
2) You make the CB role sound quite benign.
CBs play a significant role by indirectly (through the back door), monetising Govt debt.
CBs do not monetize government ‘debt’.
The national debt is nothing more than the accounting mirror image of the national money supply, which is the sum of non interest bearing liabilities (cash) and interest bearing liabilities (bonds). Reducing the national debt is not even a sensible idea. And swapping cash for bonds is not a borrowing operation. Fiat currency governments do not borrow. Why would they when they create money by fiat?
All CBs do is prevent the Treasury’s account at the CB going into the red. But who cares if the government owns the CB?
Mosler’s proposition is to create money to the resource limit of the economy, let the interest rate fall to zero, stop paying wealthfare to the rich and let the masters of the universe deal with the fallout no matter how much it might squeeze them. Pensions and asset prices will require careful thought. But I’m not losing any sleep over it.
I'm quite aware of 'Debt Derangement Syndrome' and that CB don't directly monetize debt. In my comment when I said 'through the back door' I meant that a CB could buy bonds in the Secondary Market resulting in Govt owing money to itself. The Treasury redemption to CB will net to zero in consolidated Govt accounts.