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Money creation in the modern economy (2014) [pdf]

bankofengland.co.uk

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Re: Money creation in the modern economy (2014) [pdf]

#111

Post by kgwgk »

ubercow13 wrote: post #109
kgwgk wrote: post #104

Earlier quoted context omitted.

Then you could just as well say that it can make $9m in loans, $99m in loans or $999m in loans as long as enough reserves are transferred onto the banks balance sheet from unrelated transactions the bank makes (including borrowing if required). The amount of reserves can (and will) go up and down for an individual bank as it operates depending on their strategy. 10x the initial reserves has no particular meaning for…

Yes, couldn’t you say that? To go back to your previous point > For that bank with $1m in deposits and $1m in reserves before any lending that 10% requirement means that it can not let its reserves go below 100k (10% times $1m in deposits) so it can only lend up to $900k out This just doesn’t make any sense. The whole point of the reserve requirement is to guard against the risk that depositors will withdraw enough m…

> couldn’t you say that?

Ok, then this is NOT how it works -> "if a bank has $1 million in deposits the bank can make $10 million in loans"

I can agree with either of the following formulations:

"if a bank has $1 million in deposits the bank can make $10 million in loans as long as the loans remain as deposits in the bank"

"if a bank has $1 million in deposits the bank can make loans for any amount that it wants as long is it can comply with the reserve requirements"

Re: Money creation in the modern economy (2014) [pdf]

#112

Post by ubercow13 »

kgwgk wrote: post #110
ubercow13 wrote: post #109

Earlier quoted context omitted.

Yes, couldn’t you say that? To go back to your previous point > For that bank with $1m in deposits and $1m in reserves before any lending that 10% requirement means that it can not let its reserves go below 100k (10% times $1m in deposits) so it can only lend up to $900k out This just doesn’t make any sense. The whole point of the reserve requirement is to guard against the risk that depositors will withdraw enough m…

>> For that bank with $1m in deposits and $1m in reserves before any lending that 10% requirement means that it can not let its reserves go below 100k > This just doesn’t make any sense. The whole point of the reserve requirement is to guard against the risk that depositors will withdraw enough money at once to deplete the reserves. The bank needs to meet the reserve requirement of deposits on its balance sheet, not…

> That's the whole point of fractional reserve! You have enough reserves to cover a fraction of the deposits amount.

Yes exactly, by making 9m loans, the bank has a fraction (10%) of reserves to cover the deposit amount (10m).

> The unlikely event that the people who take loans sends the money elsewhere? What would be unlikely is that they didn't.

You are assuming that 100% of deposits created by loans will be immediately withdrawn. The thing that doesn’t make sense is that you’re treating deposits created from debt as special. The bank needs reserves of 10% of all its deposits.

Why are you considering the eventuality that the loan holder buys something but not that the saver buys something? They are both equally irrelevant as they are eventualities factored into the 10% requirement.

Say there is only one current account holder at the bank with 1m savings. Then the bank gives that customer a 900k loan. Now the customer buys a house. Why do you assume the house will cost 900k? They might buy a 1.2m house, in which case the bank is stuffed, as it only has 1m reserves. There is nothing special about the 900k.

Re: Money creation in the modern economy (2014) [pdf]

#113

Post by kgwgk »

ubercow13 wrote: post #112
kgwgk wrote: post #110

Earlier quoted context omitted.

>> For that bank with $1m in deposits and $1m in reserves before any lending that 10% requirement means that it can not let its reserves go below 100k > This just doesn’t make any sense. The whole point of the reserve requirement is to guard against the risk that depositors will withdraw enough money at once to deplete the reserves. The bank needs to meet the reserve requirement of deposits on its balance sheet, not…

> That's the whole point of fractional reserve! You have enough reserves to cover a fraction of the deposits amount. Yes exactly, by making 9m loans, the bank has a fraction (10%) of reserves to cover the deposit amount (10m). > The unlikely event that the people who take loans sends the money elsewhere? What would be unlikely is that they didn't. You are assuming that 100% of deposits created by loans will be immedi…

> Why are you considering the eventuality that the loan holder buys something but not that the saver buys something?

Because people take loans for something? It could be to invest, definitely not to keep it untouched in a current account.

Do you know of a single case of someone who took a loan for the sake of it, leaving the deposit created untouched at the lending bank, and paying interests for the privilege of having that deposit?

(The eventuality that the saver buys something is why banks keep reserves, with minimums set by regulators in some countries. To allow for a fraction of those depositors to buy something without the whole setup collapsing immediately.)

Edit: and for what it's worth, this "eventuality" is also seen as a basic scenario in the paper under discussion. That's what Figure 2 is about:

"The house buyer takes out a mortgage... ...and uses its new deposits to pay the house seller."

"The mortgage lender creates new deposits... ...which are transferred to the seller’s bank, along with reserves, which the buyer’s bank uses to settle the transaction. But settling all transactions in this way would be unsustainable: [...] the buyer’s bank will in practice seek to attract or retain new deposits (and reserves) [...] to accompany their new loans."

Re: Money creation in the modern economy (2014) [pdf]

#114

Post by ubercow13 »

kgwgk wrote: post #113
ubercow13 wrote: post #112

Earlier quoted context omitted.

> That's the whole point of fractional reserve! You have enough reserves to cover a fraction of the deposits amount. Yes exactly, by making 9m loans, the bank has a fraction (10%) of reserves to cover the deposit amount (10m). > The unlikely event that the people who take loans sends the money elsewhere? What would be unlikely is that they didn't. You are assuming that 100% of deposits created by loans will be immedi…

> Why are you considering the eventuality that the loan holder buys something but not that the saver buys something? Because people take loans for something? It could be to invest, definitely not to keep it untouched in a current account. Do you know of a single case of someone who took a loan for the sake of it, leaving the deposit created untouched at the lending bank, and paying interests for the privilege of havi…

Sure it is likely, and the bank will have to take into account the cost associated with future possible changes in its balance sheet (including if it needs to attract or borrow reserves) when deciding whether to make the 900k loan, or a 1.2m loan, or any loan. But the 10% reserve limit at no point directly limited the amount of loans the bank could make to 900k.

The whole premise of the paper seems to be that this way of thinking is backwards (in terms of the order and causality of events) and not really relevant to modern banking.

Another toy example - there are two banks in the banking system with 1m deposits and reserves, and they are let loose making loans at the same time. Why would they only create 900k of loans? The situation is symmetrical, they can expect the net reserve transfer between them to be small if they make similar amounts of loans. In what way is the 10% reserve requirement limiting them to making 900k of loans in this scenario?

Re: Money creation in the modern economy (2014) [pdf]

#115

Post by kgwgk »

ubercow13 wrote: post #114
kgwgk wrote: post #113

Earlier quoted context omitted.

> Why are you considering the eventuality that the loan holder buys something but not that the saver buys something? Because people take loans for something? It could be to invest, definitely not to keep it untouched in a current account. Do you know of a single case of someone who took a loan for the sake of it, leaving the deposit created untouched at the lending bank, and paying interests for the privilege of havi…

Sure it is likely, and the bank will have to take into account the cost associated with future possible changes in its balance sheet (including if it needs to attract or borrow reserves) when deciding whether to make the 900k loan, or a 1.2m loan, or any loan. But the 10% reserve limit at no point directly limited the amount of loans the bank could make to 900k. The whole premise of the paper seems to be that this wa…

Fine, as I said I agree that "if a bank has $1 million in deposits the bank can make $9 million in loans as long as the loans remain as deposits in the bank". But that has little interest.

As for the other question, it's clear from the beginning that things can be said about the banking system that are not necessarily true for any individual bank. That paper says as much "Figure 1 showed how, for the aggregate banking sector, loans are initially created with matching deposits. But that does not mean that any given individual bank can freely lend and create money without limit."

So long!

Re: Money creation in the modern economy (2014) [pdf]

#116

Post by ubercow13 »

kgwgk wrote: post #111
ubercow13 wrote: post #109

Earlier quoted context omitted.

Yes, couldn’t you say that? To go back to your previous point > For that bank with $1m in deposits and $1m in reserves before any lending that 10% requirement means that it can not let its reserves go below 100k (10% times $1m in deposits) so it can only lend up to $900k out This just doesn’t make any sense. The whole point of the reserve requirement is to guard against the risk that depositors will withdraw enough m…

> couldn’t you say that? Ok, then this is NOT how it works -> "if a bank has $1 million in deposits the bank can make $10 million in loans" I can agree with either of the following formulations: "if a bank has $1 million in deposits the bank can make $10 million in loans as long as the loans remain as deposits in the bank" "if a bank has $1 million in deposits the bank can make loans for any amount that it wants as l…

Yes then I think we’re in agreement and just talking around in circles! It seems the second statement is most meaningful in relation to how banks actually operate (based on my understanding of the paper). The example where 9m loans are made and none transferred out, and the example where 900k loans are made and 100% are transferred out are both extremes.

Re: Money creation in the modern economy (2014) [pdf]

#117

Post by majormajor »

rahimnathwani wrote: post #50
majormajor wrote: post #40

Earlier quoted context omitted.

I mean that if you created a new bank, and never accepted any customer deposits, you are going to run into problems if you simply offer a bunch of loans. If your loan customer wants cash, or wants to move some of that loaned money into another institution... whatcha gonna do? Your nonbank credit card company would run into similar problems if they didn't have any income and simply were letting people buy products wit…

"I mean that if you created a new bank, and never accepted any customer deposits, you are going to run into problems if you simply offer a bunch of loans." 'Deposit-taking institution' is pretty much the original definition of a bank (see 'Banking Act 1979'). But, putting that aside... "If your loan customer wants cash, or wants to move some of that loaned money into another institution... whatcha gonna do?" The same…

> The same thing you do every night: borrow money overnight in the interbank market. If this becomes a regular thing, liquidate some assets.

You don't have any assets in the scenario we're talking about. Nobody is going to lend you money, because you're not a bank, you're a sham scheme trying to start up a magic money-printer.

You can't disburse another institution or to cash without having some assets somewhere to back all of this up. Your balance sheet, ultimately, has to make sense. Your supposed bank here couldn't loan me money to buy a car, because the dealer isn't going to be happy with numbers on a ledger in my account at this bank, they want something harder.

Re: Money creation in the modern economy (2014) [pdf]

#118

Post by rahimnathwani »

majormajor wrote: post #117
rahimnathwani wrote: post #50

Earlier quoted context omitted.

"I mean that if you created a new bank, and never accepted any customer deposits, you are going to run into problems if you simply offer a bunch of loans." 'Deposit-taking institution' is pretty much the original definition of a bank (see 'Banking Act 1979'). But, putting that aside... "If your loan customer wants cash, or wants to move some of that loaned money into another institution... whatcha gonna do?" The same…

> The same thing you do every night: borrow money overnight in the interbank market. If this becomes a regular thing, liquidate some assets. You don't have any assets in the scenario we're talking about. Nobody is going to lend you money, because you're not a bank, you're a sham scheme trying to start up a magic money-printer. You can't disburse another institution or to cash without having some assets somewhere to b…

"You don't have any assets in the scenario we're talking about."

I'm not aware of any country that will allow you to start a bank without any assets.

I'm sorry, I don't think any explanation I give will satisfy you, so I won't comment further.

Re: Money creation in the modern economy (2014) [pdf]

#119

Post by majormajor »

luca3v wrote: post #54
NovemberWhiskey wrote: post #48

Earlier quoted context omitted.

This is right, but then the house seller now has $0.9mm in cash. When she deposits it in her bank, that bank can make another loan but only for $0.81mm and so on and so on. The geometric sum to infinity ends up being 1/reserve_ratio; so if that's 10% in this example, the theoretical money creation is 10x.

Yes, this is correct! But some people, and perhaps not the grandparent comment, understand the "money creation" point as that money can be replicated infinitely, that is a bank get $1 mil deposit and makes $10 mil loans, and those loans, if deposited, could lead to $100 mil loans and so on

I'd say that's creating circulation more than creating money.

If you had no bank deposits at all, and nobody ever saved money, saving is outlawed, you gotta spend it, you'd have 1M in total cash in the economy. It would be moving around a bunch, but if you froze the system and counted it, there's 1M available to be spent at any moment in time. Let's compare to 1M deposited in a bank. 900K of it is circulated to the house seller, etc... The total amount circulated follows the geometric sum.

But, if you freeze the system at any moment in time, there is NOT a geometric sum of money in cash or other places immediately available to be spent! Most of this is going to be in accounts with daily withdrawal limits, for instance. We're messing with time here much more than we're creating money - it's a bit of a magic trick, yes, but one that's based on "not everyone is going to want to move all their deposits at the same time, let's take advantage of that to make the system more efficient, at some risk of stability." Not based on infinitely printing money at retail banks. And the risk has, in the better part of the last century, been fine - it's distributed, it's insured, etc. We could have a big discussion about if it's gonna be ok for ever, but first, that's different from this claim of "banks have special privileges to create money that I wish I had."

And the bank still needs to make sure their loans were sensible and low-enough-risk - things have to balance up in the end as people do make various withdrawals at various points in time - and many of those loans also go into accounts at other institutions.

In a world without this sort of banking, you'd still have loans backed by other things, like interest and payment income, like credit cards, but not ones tied at all to deposits - and it should be pretty clear that credit card companies aren't printing money, they're just shuffling it around.

Re: Money creation in the modern economy (2014) [pdf]

#120

Post by [deleted] »

vkou wrote: post #98
nO0b wrote: post #79

Earlier quoted context omitted.

[citation needed]

There's 6 trillion M0 USD in circulation, and 20 trillion in M2. Hyperinflation is defined as ~50% monthly inflation. This means that the value of money drops ~100 fold in a year. You tell me - how much money will the fed have to print, in order to hit that target, and where would it need to parachute it?

[deleted]
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