No. Not at all. The transaction that has occurred is fully symmetrical. It is as accurate to say that the bank is in my debt as it is is to say that I am in debt to the bank. The most important thing one must understand about banking is that “money in the bank” also known as “deposits” are nothing more or less than bank IOUs. When a bank “makes a loan”, all it does is issue some IOUs to a borrower. The borrower, for her part, issues some IOUs to the bank, a promise to repay the loan. A “bank loan” is simply a liability swap: I promise something to you, you promise something of equal value to me. Neither party is in any meaningful sense a creditor or a borrower when a loan is initiated. Now suppose that after accepting a loan, I “make a purchase” from someone who happens to hold an account at my bank. That person supplies to me some real good or service. In exchange, I transfer to her my “deposits”, my IOUs from the bank. Suddenly, it is meaningful to talk about creditors and debtors. I am surely in somebody’s debt: someone has transferred a real resource to me, and I have done nothing for anyone but mess around with financial accounts. Conversely, the seller is surely a creditor: they have supplied a real service and are owed some real service in exchange. It would be natural to say, therefore, that the seller is the creditor and I, the purchaser, am the debtor, and the bank is just a facilitating intermediary. That is one perspective, a real resources perspective.I try to excerpt, but really, the whole thing continues in the same vein. The word "multifurcated" is used. The word "investor" never is. Here's a simpler description: When a bank makes a loan, it is making a credit decision. It creates the money out of thin air and credits the borrower, who usually turns around and buys something with that money, which the seller then deposits back in the bank (thus completing the circle of life). However, the borrower still holds a liability (the amounts owed) which mirrors a receivable that the bank holds. If the borrower pays back what he owes, everything is fine. If the borrower defaults, the receivable is written down, and the bank's equity is written down as well. The bank makes a credit decision when it makes the loan. Investors make an investment decision based on their assessment of the bank's wisdom in making credit decisions when they decide to invest in the bank. Since depositors are not and should not be making an investment or credit decision when they choose to save, they should not have those responsibilities put upon them (which happens to a limited degree today via FDIC insurance).
Wednesday, August 01, 2012
Does Interfluidity still not understand?
I like SRW and I like his site. He and I have emailed a number of times and I know he understands MMT, at least in part. He may not buy the whole program, but he's certainly familiar with it.
So I'm not sure what to make of long discursions like this one and this one about the nature of banking when it's all pretty simple.
I'll forgive certain commenters for talking about "maturity transformation" because they don't know better, but I'm not sure why Steve still entertains the concept. The very term suggests that a loan of one maturity (say, a deposit) is somehow transformed into a loan of a different maturity (say, a mortgage) when this simply is not how it works. Loans create deposits, deposits are not "transformed" into loans. A bank may actively manage its maturity exposure, but that is fundamentally a different thing. There is no "transformation".
And then there's the long exegesis on how a bank loan is suddenly real money because even if the borrower defaults, the seller (say, of the car) remains whole:
I don't understand why you think maturity transformation is so wrong. Only part of the story, sure, but a real part, no?
ReplyDeleteEconomic actors desire liquidity. We live in a world of uncertainty, where economic decisions cannot be thought of as allocating a fixed stock of productive resources to their best ends because income and expenditure are determined simultaneously. It's therefore necessary to preserve one's freedom of action, which in practice means holding money or immediate claims on money. Most economic units therefore want to be able to realize the full value of their assets at any time, but to make payments on their liabilities only on a fixed, known schedule. In other words, they want to hold long(er) liabiliteis and short(er) assets.
Banks allow the rest of the economy to achieve these otherwise incompatible balance sheets by specializing themselves in short (liquid) liabilities and long(illiquid) assets. I agree that "transformation" is a slightly unfortuante word since it implies that there was one kind of asset or liability first that then became another, whereas, as you say, they are all created together. But it is nonetheless true that bank balance sheets, unlike everyone else's, combine short liabilities and long assets, and this is pretty central to what makes them banks.
Do you not agree?
Also, a serious question. What's the best text or texts for laying out the canonical "MMT" position? I've read a lot of Randy Wray's stuff -- I've read a lot of all this stuff -- and while the specifics are clear I don't feel like I fully grasp the overall structure.
The term "maturity transformation" suggests that an instrument at one maturity (usually a deposit) is somehow transformed into an instrument of a different maturity (usually a loan) via a bank. This is like transforming some apples and dough into an apple pie via baking.
ReplyDeleteThe implication is, no deposit, no loan, just as if you had no apples and no dough, you could not get any pie.
Banks simply don't work like this. It's the wrong analogy, and it doesn't capture what I think of as a core mechanic of balance sheet expansion and contraction, and the connection between banks via reserve accounts.
I full acknowledge that different manturities exist and there are good reasons for them. But banks don't work by transforming one into another.
The easiest MMT stuff I know of is Mosler's 7 deadly frauds.
Not looking for easy. Looking for canonical. Is it really necessary for you to assume everyone who is not down with MMT is a stupid child?
ReplyDeleteJW:
ReplyDeleteI wasn't recommending Mosler because it was easy and I think you're a stupid child! Quite the opposite.
I don't think there is a "canonical MMT". I think there are hard realities around how things like reserves, and the accounting around them works, and then there's a bunch of theories from that which are pretty solid (and most would agree on) and then there's some stuff which I think is a policy prescription and not part of MMT at all but others would say are central and part of the "canon".
It's better just to make sure you understand the basics cleanly and then make up your own mind about things. When I said Mosler was "easy" I meant it was "clear".