The Nobel* Prize for economics announced Monday resulted in the usual mainstream/heterodox mud slinging, reviving arguments about banking. The arguments that I saw confirmed my prior views that economist banking debates are largely pointless; the mainstream and post-Keynesian sides largely recite talking points past each other. Although I have obvious sympathies to the post-Keynesian side, the means of expressing the critiques have drifted into a stylised form that does not help anybody at this point.
In my studies I found the Diamond Dybvig Model extremely beautiful and in comparison to other Economic Nobel theories that I understand, I was expecting this to happen sometime
"If we take that advice, we see that a deposit outflow from a bank"
There can't really be deposit outflow from a bank. Balance sheets have to balance. For a deposit to be transferred to some other entity, there has to be another entity that takes the liability on instead or the transfer cannot happen in the first place. Without a central bank the target institution of the transfer becomes the depositor in the source bank or the transfer doesn't happen. (That's what correspondent banking does). With a central bank, the central bank becomes the depositor (assuming no excess reserves) and the bank tries to persuade some other bank to become the depositor instead at a cheaper price by buying the corresponding central bank deposit from them with their own liabilities.
I know we talk about outflow and inflow but really it just means the price of the liabilities has gone up and down.
I don't think capital or liquidity buffers are required to end the loop. If you get rid of those the loop still ends when a bank (including the central bank) refuses to become a depositor in another bank and the payment transfer fails.
A bank that can't make payments to other banks doesn't tend to sell a lot of loans. A bank without a capital buffer doesn't usually get to make a lot of payments. All back to your point that its all about credit risk.
Liquidity buffers are required due to timid central banks who want to pretend that they aren't really backing all the loans in the system - even though they regulate that lending.
Deposits can't go down unless there are excess reserves in the system to permit that. The deposit just ends up being owned by the central bank intraday. It's a change of ownership tag, not a reduction in the size of the balance sheet.
If you DR a deposit and CR the central bank, then the central bank becomes the depositor. The central bank charges more than the original depositor.
For an individual bank, if it has an outflow, it reduces the amount of deposits it has and has to make a payment through the payments system on the behalf of the customer. The amount of deposits it has on its balance sheet goes down, which is what I wrote. What happens on the other side of the transaction is not material from the perspective of the bank making the payment.
If it had a positive balance with the payments system before the transaction, that asset is reduced by the amount of the outflow. If the transaction results in a negative balance with the payments system, it has a new liability that has to be settled by the end of the day, which would not be considered a “deposit” under most sensible definitions.
thanks for these insights!
In my studies I found the Diamond Dybvig Model extremely beautiful and in comparison to other Economic Nobel theories that I understand, I was expecting this to happen sometime
"If we take that advice, we see that a deposit outflow from a bank"
There can't really be deposit outflow from a bank. Balance sheets have to balance. For a deposit to be transferred to some other entity, there has to be another entity that takes the liability on instead or the transfer cannot happen in the first place. Without a central bank the target institution of the transfer becomes the depositor in the source bank or the transfer doesn't happen. (That's what correspondent banking does). With a central bank, the central bank becomes the depositor (assuming no excess reserves) and the bank tries to persuade some other bank to become the depositor instead at a cheaper price by buying the corresponding central bank deposit from them with their own liabilities.
I know we talk about outflow and inflow but really it just means the price of the liabilities has gone up and down.
I don't think capital or liquidity buffers are required to end the loop. If you get rid of those the loop still ends when a bank (including the central bank) refuses to become a depositor in another bank and the payment transfer fails.
A bank that can't make payments to other banks doesn't tend to sell a lot of loans. A bank without a capital buffer doesn't usually get to make a lot of payments. All back to your point that its all about credit risk.
Liquidity buffers are required due to timid central banks who want to pretend that they aren't really backing all the loans in the system - even though they regulate that lending.
It is an outflow with respect to an individual bank: its deposits go down. I then went on to discuss the circular flows within the system.
Deposits can't go down unless there are excess reserves in the system to permit that. The deposit just ends up being owned by the central bank intraday. It's a change of ownership tag, not a reduction in the size of the balance sheet.
If you DR a deposit and CR the central bank, then the central bank becomes the depositor. The central bank charges more than the original depositor.
For an individual bank, if it has an outflow, it reduces the amount of deposits it has and has to make a payment through the payments system on the behalf of the customer. The amount of deposits it has on its balance sheet goes down, which is what I wrote. What happens on the other side of the transaction is not material from the perspective of the bank making the payment.
If it had a positive balance with the payments system before the transaction, that asset is reduced by the amount of the outflow. If the transaction results in a negative balance with the payments system, it has a new liability that has to be settled by the end of the day, which would not be considered a “deposit” under most sensible definitions.
"timid central banks who want to pretend that they aren't really backing all the loans in the system - even though they regulate that lending."
- does that mean that loans never should fall through?