I am sure there is a simple answer to this question but only going through introduction to Economics and it is not there yet.
With a fixed amount of currency in circulation, together with the economy growing there would have to be a deflation as there would be more stuff but a fixed amount of money. Now that currencies are not backed by anything physical, do central banks just print a bit of money to prevent deflation?
How do central banks account for growth of economies?
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guitarplayer
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Re: How do central banks account for growth of economies?
Yes - Central banks control inflation through manipulating the money supply. Typically they aim for an inflation target.
This article will do a better job describing how they do this:
https://www.investopedia.com/ask/answer ... lation.asp
But in short....when inflation is too high - contractionary policies ensue. When inflation is too low, or fears of deflation, then 'print' money.
Beyond that, I think things get complicated from what I learned in school...like the Federal Reserve actually buying assets and stuff like that. I'm not too read up on.
This article will do a better job describing how they do this:
https://www.investopedia.com/ask/answer ... lation.asp
But in short....when inflation is too high - contractionary policies ensue. When inflation is too low, or fears of deflation, then 'print' money.
Beyond that, I think things get complicated from what I learned in school...like the Federal Reserve actually buying assets and stuff like that. I'm not too read up on.
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guitarplayer
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Re: How do central banks account for growth of economies?
And all this to control human psychology and navigate between 'I'm gonna wait until I can buy more' and 'my money will be worth nothing tomorrow' ?
I cannot stop being amazed by how illusory money is.
ETA yup I'm just writing an assignment about expansionary policies that could be applied to aid Covid and Brexit.
I cannot stop being amazed by how illusory money is.
ETA yup I'm just writing an assignment about expansionary policies that could be applied to aid Covid and Brexit.
Last edited by guitarplayer on Thu Aug 05, 2021 3:02 pm, edited 2 times in total.
Re: How do central banks account for growth of economies?
Let me start by saying I'm standing on the shoulders of deflationists in making this description of central banks that look like the US, Japan or UK. Other CBs may be configured differently and the deflationists may be completely wrong or I may be misunderstanding them, but this is not from my personal direct research.
Firstly, I believe the premise of the question may be completely wrong, central banks for the most part don't print money, they enable credit creation by the banks. See viewtopic.php?f=3&t=11959 . If that assumption is wrong as the deflationists tell the story, I think it might be worth it to go over a bit of the components that make modern deflation.
So what are the general components of deflation:
- Debt Servicing.
- People buying less.
- More stuff being made from less.
Bonus pieces less frequently mentioned:
- Mis-allocation of resources or popping a bubble.
- Interest rates and euro dollar flow problems.
- Velocity of money
- Population of workers change
To take each of these in turn, debt servicing means that you're paying debt off, which in turn means you don't have money to spend. Also this hits that bonus deflationary piece, debt paid off means credit deletion, which means the velocity of those dollars goes to 0. You should see that link above for the theory behind that idea.
The second piece is when people simply choose not to buy as much, say when they are retired and live on a fixed income or when income inequality is high and the rich can only own so many cars and use so many gallons of gas.
The third element is what you noted, more stuff being made at lower cost. In the same way tech may deflate, a worker who previously was not available at .50 cents an hour who becomes available will also drive down wages due to competition. This frees up others to gain skill and produce more valuable goods. Or when more people retire, the lack of population to do the work may drive wages up while dropping productivity.
The last previously unmentioned elements are a bubble popping (e.g. prices dropping below intrinsic value) and interest rates. Imagine if interest rates for home loans were 20% a year. In such a case, the 1.5 million dollar home would certainly drop a great deal as most people couldn't afford such a home. If interest rates change dramatically the pricing of stuff can be radically impacted, often this correlates with a popping bubble (See 2008). Worse yet, if interest rates change in an unexpected way for the US CB, it can tip over the non-us entities that use derivatives to synthetically create dollars which can then freeze the credit markets which then tips over the US (See 2008, 2012 for examples of this).
Now that I've sorta painted a picture, let me ask you a question, why is it that the S&P can average 8-11% a year while US GDP is only ~3-5% a year for the last 100 or so years. Both those numbers are nominal, so this isn't an inflation story. I'll let you think about it a bit and answer it in the next paragraph.
The answer is leverage. They lever up their return via credit creation that the banks perform. The banks create credit via the limits they have set by law and CBs reserve requirements (when the US had them, there are none now, last I read on the topic). With this knowledge, we can better map out credit creation to GDP.
I know all that above seems unrelated, but I think it is needed to understand that GDP growth is not enough to know what CBs or even just banks do to create credit. We didn't even touch on the question of "Can a government print money?" but we'll set that to one side. In any case, banks don't create credit because of tight monetary conditions, banks create credit when they believe that credit will be paid back. Therefore, GDP growth only makes sense as a force for credit growth when the main costs for that GDP are money and human labor. In past times, if you only needed money, but no labor, you're a bank-like entity, thus a small part of the economy (finance used to be 3% of the economy). If you only need labor but not money, you're in the slave trade and shame on you! Thus labor always meant need for money and labor getting money increased the velocity of money, thus credit creation as a system made sense. In present times, a tech company for all practical purposes doesn't need labor, just money to start and then you print money so fast you don't even need that. To compare, Google makes ~63 B vs GM's ~13 B while Google hires ~10k less employees compared to GM. A fun aside, in 2010 Google only had ~25k employees to GM's 200+k while Google made nearly double what GM did. Google's 10xing of labor can largely be tied to their experimenting with things like the google car, which if ever successful might kill off 1/5th of all jobs (~20% of all jobs are in transport in the USA).
Thus the proxy measure of GDP to credit growth quits working when tech quit needing money or labor to make money. "... however, almost all the new businesses are relatively capital light... They [new businesses] eat tangible assets, whether it is factories, roads or human beings. ... As the cost of capital continues to drop, what happens is every project becomes viable, and everybody is bidding for every project, at that point in time returns for projects decline. ... Cost of capital has to fall even further.... Humans are no longer the key productivity drivers...." - Viktor Shvets (See my longer quote from a wonderful video here )
The only question you have to ask is, is the deflationist story that central banks don't create money a correct one? I included the other forms of deflation for you to consider it, which might be impacting our system without the just the typical deflationist "debt, demographics and technology" story. There are clear signs that should make you suspect they are wrong, particularly how the stock market and property values keep going up. OTOH, if you drive through much of America, you'll be hard pressed to claim the average person is doing great. Is it the wealthy just buying up all the assets or inflation due to too much cash in the system? Are California, Toronto and London more expense due to super-rich Chinese people trying to save their assets from the communist party or is it mostly internal wealth generation from tech and finance? etc. I can't speak to England or Japan regarding their people's conditions but certainly they don't have the same bubbly markets, while all have some level of rise in the Gini coefficient since the 1980s. This is about as far as I have gone on my own looking into the question. Sorry if it was TMI, but the deflationist camp does not make this question simple. I do have my own pet theories, but they go way beyond the topic, so I'll just leave it here.
Firstly, I believe the premise of the question may be completely wrong, central banks for the most part don't print money, they enable credit creation by the banks. See viewtopic.php?f=3&t=11959 . If that assumption is wrong as the deflationists tell the story, I think it might be worth it to go over a bit of the components that make modern deflation.
So what are the general components of deflation:
- Debt Servicing.
- People buying less.
- More stuff being made from less.
Bonus pieces less frequently mentioned:
- Mis-allocation of resources or popping a bubble.
- Interest rates and euro dollar flow problems.
- Velocity of money
- Population of workers change
To take each of these in turn, debt servicing means that you're paying debt off, which in turn means you don't have money to spend. Also this hits that bonus deflationary piece, debt paid off means credit deletion, which means the velocity of those dollars goes to 0. You should see that link above for the theory behind that idea.
The second piece is when people simply choose not to buy as much, say when they are retired and live on a fixed income or when income inequality is high and the rich can only own so many cars and use so many gallons of gas.
The third element is what you noted, more stuff being made at lower cost. In the same way tech may deflate, a worker who previously was not available at .50 cents an hour who becomes available will also drive down wages due to competition. This frees up others to gain skill and produce more valuable goods. Or when more people retire, the lack of population to do the work may drive wages up while dropping productivity.
The last previously unmentioned elements are a bubble popping (e.g. prices dropping below intrinsic value) and interest rates. Imagine if interest rates for home loans were 20% a year. In such a case, the 1.5 million dollar home would certainly drop a great deal as most people couldn't afford such a home. If interest rates change dramatically the pricing of stuff can be radically impacted, often this correlates with a popping bubble (See 2008). Worse yet, if interest rates change in an unexpected way for the US CB, it can tip over the non-us entities that use derivatives to synthetically create dollars which can then freeze the credit markets which then tips over the US (See 2008, 2012 for examples of this).
Now that I've sorta painted a picture, let me ask you a question, why is it that the S&P can average 8-11% a year while US GDP is only ~3-5% a year for the last 100 or so years. Both those numbers are nominal, so this isn't an inflation story. I'll let you think about it a bit and answer it in the next paragraph.
The answer is leverage. They lever up their return via credit creation that the banks perform. The banks create credit via the limits they have set by law and CBs reserve requirements (when the US had them, there are none now, last I read on the topic). With this knowledge, we can better map out credit creation to GDP.
I know all that above seems unrelated, but I think it is needed to understand that GDP growth is not enough to know what CBs or even just banks do to create credit. We didn't even touch on the question of "Can a government print money?" but we'll set that to one side. In any case, banks don't create credit because of tight monetary conditions, banks create credit when they believe that credit will be paid back. Therefore, GDP growth only makes sense as a force for credit growth when the main costs for that GDP are money and human labor. In past times, if you only needed money, but no labor, you're a bank-like entity, thus a small part of the economy (finance used to be 3% of the economy). If you only need labor but not money, you're in the slave trade and shame on you! Thus labor always meant need for money and labor getting money increased the velocity of money, thus credit creation as a system made sense. In present times, a tech company for all practical purposes doesn't need labor, just money to start and then you print money so fast you don't even need that. To compare, Google makes ~63 B vs GM's ~13 B while Google hires ~10k less employees compared to GM. A fun aside, in 2010 Google only had ~25k employees to GM's 200+k while Google made nearly double what GM did. Google's 10xing of labor can largely be tied to their experimenting with things like the google car, which if ever successful might kill off 1/5th of all jobs (~20% of all jobs are in transport in the USA).
Thus the proxy measure of GDP to credit growth quits working when tech quit needing money or labor to make money. "... however, almost all the new businesses are relatively capital light... They [new businesses] eat tangible assets, whether it is factories, roads or human beings. ... As the cost of capital continues to drop, what happens is every project becomes viable, and everybody is bidding for every project, at that point in time returns for projects decline. ... Cost of capital has to fall even further.... Humans are no longer the key productivity drivers...." - Viktor Shvets (See my longer quote from a wonderful video here )
The only question you have to ask is, is the deflationist story that central banks don't create money a correct one? I included the other forms of deflation for you to consider it, which might be impacting our system without the just the typical deflationist "debt, demographics and technology" story. There are clear signs that should make you suspect they are wrong, particularly how the stock market and property values keep going up. OTOH, if you drive through much of America, you'll be hard pressed to claim the average person is doing great. Is it the wealthy just buying up all the assets or inflation due to too much cash in the system? Are California, Toronto and London more expense due to super-rich Chinese people trying to save their assets from the communist party or is it mostly internal wealth generation from tech and finance? etc. I can't speak to England or Japan regarding their people's conditions but certainly they don't have the same bubbly markets, while all have some level of rise in the Gini coefficient since the 1980s. This is about as far as I have gone on my own looking into the question. Sorry if it was TMI, but the deflationist camp does not make this question simple. I do have my own pet theories, but they go way beyond the topic, so I'll just leave it here.
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Mister Imperceptible
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Re: How do central banks account for growth of economies?
JCD wrote: ↑Thu Aug 05, 2021 3:55 pmThus the proxy measure of GDP to credit growth quits working when tech quit needing money or labor to make money. "... however, almost all the new businesses are relatively capital light... They [new businesses] eat tangible assets, whether it is factories, roads or human beings. ... As the cost of capital continues to drop, what happens is every project becomes viable, and everybody is bidding for every project, at that point in time returns for projects decline. ... Cost of capital has to fall even further.... Humans are no longer the key productivity drivers...." - Viktor Shvets (See my longer quote from a wonderful video here )
What happens when the intangible has finished eating the tangible?Ben Bernanke wrote:At a negative (or even zero) interest rate, it would pay to level the Rocky Mountains to save even the small amount of fuel expended by trains and cars that currently must climb steep grades.
Re: How do central banks account for growth of economies?
@Mister Imperceptible
I genuinely love your questions and the logic it brings about. My guess, capitalism, as we know it, ends. It brings greater doubts to me about finance-driven ERE lifestyle than the 4% rule, mean reversion style questions, yet it's too abstract, too political and too far into the future to bring nearly as much excitement. I won't go further than that for fear of going way off topic and getting the thread locked.
I genuinely love your questions and the logic it brings about. My guess, capitalism, as we know it, ends. It brings greater doubts to me about finance-driven ERE lifestyle than the 4% rule, mean reversion style questions, yet it's too abstract, too political and too far into the future to bring nearly as much excitement. I won't go further than that for fear of going way off topic and getting the thread locked.
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Alifelongme
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Re: How do central banks account for growth of economies?
@Alifelongme
Not to say this aligns with everyone who is philosophically aligned with ERE but...
"Early Retirement Extreme (ERE) is a movement of individuals integrating ideas from anti-consumerism, DIY, the Renaissance man ideal, home economics, individualism, environmentalism, and rentier capitalism toward the goal of achieving financial independence extremely rapidly. Putting ERE principles into practice yields a lifestyle that meets all needs while minimizing ongoing inputs of money, natural resources, friction, and effort.
By embracing simple living, self-sufficiency, and prudence, a worker with a typical wage income can comfortably achieve a savings rate of 50-80%. The mathematics of compound interest and safe withdrawal rates dictate that an individual with such a high savings rate can achieve financial independence after only 5-10 years." - ERE Wiki, https://wiki.earlyretirementextreme.com/wiki/What_is_ERE? (Bolding mine)
To put it a bit crudely, if money has no value, it's not to say ERE'rs wouldn't be more resilient, but it definitely would be kicking one leg out of that stool. Also why work 5-10 years for a substance that may not have any meaning? Obviously if ownership remains, ownership of land > ownership of dollars or the digital or metal equivalents, which implies some styles of ERE will work out better than others. How the organization of such a change plays out varies greatly, ala Manna or The New Luddite Challenge.
Just to try to circle around back to the topic, I think Manna does capture some of the limitations of currency and keeping it consistent to GDP. If all your inventions cause less people to be employable, then it doesn't matter if you print more currency and lend it to those who have jobs. The jobbed people will see credit creation as "creating inflation" since there are less economic actors but more currency.
Not to say this aligns with everyone who is philosophically aligned with ERE but...
"Early Retirement Extreme (ERE) is a movement of individuals integrating ideas from anti-consumerism, DIY, the Renaissance man ideal, home economics, individualism, environmentalism, and rentier capitalism toward the goal of achieving financial independence extremely rapidly. Putting ERE principles into practice yields a lifestyle that meets all needs while minimizing ongoing inputs of money, natural resources, friction, and effort.
By embracing simple living, self-sufficiency, and prudence, a worker with a typical wage income can comfortably achieve a savings rate of 50-80%. The mathematics of compound interest and safe withdrawal rates dictate that an individual with such a high savings rate can achieve financial independence after only 5-10 years." - ERE Wiki, https://wiki.earlyretirementextreme.com/wiki/What_is_ERE? (Bolding mine)
To put it a bit crudely, if money has no value, it's not to say ERE'rs wouldn't be more resilient, but it definitely would be kicking one leg out of that stool. Also why work 5-10 years for a substance that may not have any meaning? Obviously if ownership remains, ownership of land > ownership of dollars or the digital or metal equivalents, which implies some styles of ERE will work out better than others. How the organization of such a change plays out varies greatly, ala Manna or The New Luddite Challenge.
Just to try to circle around back to the topic, I think Manna does capture some of the limitations of currency and keeping it consistent to GDP. If all your inventions cause less people to be employable, then it doesn't matter if you print more currency and lend it to those who have jobs. The jobbed people will see credit creation as "creating inflation" since there are less economic actors but more currency.
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guitarplayer
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Re: How do central banks account for growth of economies?
I think most part of what followed is beyond me, my question was maybe on a simpler level.
People agree to use something as a general medium of exchange as opposed to barter one consumer good for another.
The medium of exchange is fixed in quantity.
More consumer goods are around, but the amount of the medium of exchange is fixed.
This has to lead to consumer goods being exchanged for less nominal amount of the medium of exchange due to simple arithmetic.
But in reality this does not happen, so there has to be more of the medium of exchange (brought about one way or another and the posts above are I would think about ways of doing it).
I ordered that book 'bluff'.
People agree to use something as a general medium of exchange as opposed to barter one consumer good for another.
The medium of exchange is fixed in quantity.
More consumer goods are around, but the amount of the medium of exchange is fixed.
This has to lead to consumer goods being exchanged for less nominal amount of the medium of exchange due to simple arithmetic.
But in reality this does not happen, so there has to be more of the medium of exchange (brought about one way or another and the posts above are I would think about ways of doing it).
I ordered that book 'bluff'.
Re: How do central banks account for growth of economies?
Credit Theory of Money Creation
Imagine the banking system is one single bank (which it kind of actually is).
No money exists yet.
You go in and want to borrow $100,000.
The bank marks down $100,000 in column of "Money you owe us"
It also marks down $100,000 in column of "Money you now have on deposit" (because the banking system is just one large bank).
Voila! $100,000 just created.
You spend the money in the economy, buying things from Entities A, B and C.
As you spend the money, the bank moves money from column "Money you now have on deposit" to those columns for Entities A, B, and C.
You go to work for one of those entities. As you earn money, the bank simply moves money from their columns back to yours.
From the money you have on deposit, you pay back $5000.
Now the column of "Money you owe them" is $95,000 and all the money owned collectively by you, and Entities A,B, and C is $95,000.
Voila! $5,000 destroyed.
On a very simplistic level, inflation would result from more people taking out loans, creating more money. Deflation would result from more people paying back loans, destroying money.
It may be more helpful to think of money as a pool in a dammed up stream. Water is always entering and exiting the pool, but the water level stays the same. If you want to increase or decrease the actual level, you play around with ways of increasing/decreasing flow into the pool, or out of it.
Imagine the banking system is one single bank (which it kind of actually is).
No money exists yet.
You go in and want to borrow $100,000.
The bank marks down $100,000 in column of "Money you owe us"
It also marks down $100,000 in column of "Money you now have on deposit" (because the banking system is just one large bank).
Voila! $100,000 just created.
You spend the money in the economy, buying things from Entities A, B and C.
As you spend the money, the bank moves money from column "Money you now have on deposit" to those columns for Entities A, B, and C.
You go to work for one of those entities. As you earn money, the bank simply moves money from their columns back to yours.
From the money you have on deposit, you pay back $5000.
Now the column of "Money you owe them" is $95,000 and all the money owned collectively by you, and Entities A,B, and C is $95,000.
Voila! $5,000 destroyed.
On a very simplistic level, inflation would result from more people taking out loans, creating more money. Deflation would result from more people paying back loans, destroying money.
It may be more helpful to think of money as a pool in a dammed up stream. Water is always entering and exiting the pool, but the water level stays the same. If you want to increase or decrease the actual level, you play around with ways of increasing/decreasing flow into the pool, or out of it.
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guitarplayer
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Re: How do central banks account for growth of economies?
Aha @boomly, this I get.
I read about that argument about 'creating money' by issuing credit in at least one book (in Harari's 'sapiens') but I don't remember his line of reasoning exactly; I remember he was pretty gloomy about it.
Surely though, if one assumes a fixed stock of money and adding a temporal dimension, there is no more money from issuing credit since this is just the same money from a fixed stock of money, but from the future. (Nota bene this reminds me the project of reading 'flatland' about multiple dimensions)
Pursuing the water analogy, imagine the stream has no spring and just circulates around the globe due to some gravity aberration, fixed amount of water. If you increase the flow of the water at the input of the dam, you end up with drought elsewhere; decrease it, there will be a flood elsewhere.
Do you (or anyone) know how the issue of deflation was solved when the gold standard was in place? Was this credit, too?
I read about that argument about 'creating money' by issuing credit in at least one book (in Harari's 'sapiens') but I don't remember his line of reasoning exactly; I remember he was pretty gloomy about it.
Surely though, if one assumes a fixed stock of money and adding a temporal dimension, there is no more money from issuing credit since this is just the same money from a fixed stock of money, but from the future. (Nota bene this reminds me the project of reading 'flatland' about multiple dimensions)
Pursuing the water analogy, imagine the stream has no spring and just circulates around the globe due to some gravity aberration, fixed amount of water. If you increase the flow of the water at the input of the dam, you end up with drought elsewhere; decrease it, there will be a flood elsewhere.
Do you (or anyone) know how the issue of deflation was solved when the gold standard was in place? Was this credit, too?
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jacob
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Re: How do central banks account for growth of economies?
Gold and silver mining + the occasional conquest that delivered stolen gold for the coffers while also destroying some of the goods via war. It's not possible to keep mining fast enough to support modern growth levels.guitarplayer wrote: ↑Fri Aug 06, 2021 4:39 amDo you (or anyone) know how the issue of deflation was solved when the gold standard was in place? Was this credit, too?
Re: How do central banks account for growth of economies?
@guitarplayer The point I was making is that CB does not create money or even credit. Instead it creates a token called a "reserve". Banks create the money instead, but in order to do so they must have reserves, thus Central Banks have a printing press, but it is reserves, not money. If the CB makes a Quintillion in reserves but no bank lends out any money on those reserves, it is like pushing on a string, it has no impact.
The CB's balance sheet shows magically printed reserves on one side and collateral on the other side. The collateral is often T-Bills, etc. Some argue that many of the current activities of CBs like QE (that is where the money printing is claimed to be) actually is preventing credit creation by taking collateral out of the system, thus the money printing most people describe is actual money deletion. But let's set that to one side as I think that is going beyond your question.
The point is that the central bank does not print money, therefore the central bank does not have the impact you think it has. Bloomly's model is to say the entire banking system is one, which is fine as a generalization, but then you must ask if that bank is in fact actually generating more credit in than it is taking out? That is to say your premise is that the banking system as a whole would be motivated to create credit based upon GDP needs to prevent deflation, but the point of a bank is to make money by creating profitable loans, and that requires enough profitable loans in order to justify creating money. The other element of the question is that it seems to assume that the banking system is the only money generating player in town. It misses everything from subway tokens to the euro-dollar system.
To simplify that mess of words down:
- CB->print->Makes lending easy, but no direct inflation
- Bank->print->inflation
- CB->delete->Makes lending hard, but no direct deflation
- Bank->delete->deflation
- Bank->Can you repay the loan->print->inflation
- Bank->Can you replay the loan->no->deflation
Another was war, due to the Euro-style effect of gold sinks, where all the gold ends up in one place(*). Think how Greece and Italy are in infinite debt to Germany, unable to earn its way out because it's trapped in a gold-standard like system called the Euro. That is to say, Greece and Italy can't print as much as they need to, to devalue their currency to help their industry compete with Germany. The trade system where currencies are valued and devalued to each other does not naturally counterbalance Germany's production strength because they all use the same currency.
Again let's try to simplify this:
- Smaug Hoard Gold->Deflation
- Smaug Dead->Inflation
- Smaug Hoard Gold->Dwarves makeup Tally Sticks->Inflation
- Too Much Deflation->Dwarves Invade Smaug lair.
(*) My above ramble was an effort to discuss how tech deflation also may cause the same sort of effect in our current system.
The CB's balance sheet shows magically printed reserves on one side and collateral on the other side. The collateral is often T-Bills, etc. Some argue that many of the current activities of CBs like QE (that is where the money printing is claimed to be) actually is preventing credit creation by taking collateral out of the system, thus the money printing most people describe is actual money deletion. But let's set that to one side as I think that is going beyond your question.
The point is that the central bank does not print money, therefore the central bank does not have the impact you think it has. Bloomly's model is to say the entire banking system is one, which is fine as a generalization, but then you must ask if that bank is in fact actually generating more credit in than it is taking out? That is to say your premise is that the banking system as a whole would be motivated to create credit based upon GDP needs to prevent deflation, but the point of a bank is to make money by creating profitable loans, and that requires enough profitable loans in order to justify creating money. The other element of the question is that it seems to assume that the banking system is the only money generating player in town. It misses everything from subway tokens to the euro-dollar system.
To simplify that mess of words down:
- CB->print->Makes lending easy, but no direct inflation
- Bank->print->inflation
- CB->delete->Makes lending hard, but no direct deflation
- Bank->delete->deflation
- Bank->Can you repay the loan->print->inflation
- Bank->Can you replay the loan->no->deflation
Where does this fixed stock of money come from if every dollar from the first was magically made up? In other words, why are you making this assumption? I get that money stock can appear "fixed" if you can freeze time, but that assumes you know what money is and what things are worth. Are reserves money? Is credit money? If I bury a dollar to never be used again, is it money? If I hodl my currency, is it money? We assume that the last transaction for a company's stock is the correct value, but if we dumped 100% of the stock of a company all at one time, it often drops in value (See the 100m of sales of HOOD stock yesterday), meaning we don't actually know what it is really worth in a fire sale. Maybe you judge on the price paid to buy the stock, but that might also be a miss-measurement. What about derivatives that are either worth 0 or some unknown value depending on the outcome in the future that you don't know. What if I sign a contract saying I'll pay you dollars yet I don't have any. Is that new money created (This happens all the time at a nation level in the euro-dollar system, this is why the US central bank has swap lines)? What of mortgages we know people can't pay after their teaser rate goes up? My point is that it is a naïve assumption, which may or may not be bad depending on what your trying to determine by it. Is it a good first approximation? Maybe? How would you be able to tell?guitarplayer wrote: ↑Fri Aug 06, 2021 4:39 amSurely though, if one assumes a fixed stock of money and adding a temporal dimension, there is no more money from issuing credit since this is just the same money from a fixed stock of money, but from the future. (Nota bene this reminds me the project of reading 'flatland' about multiple dimensions)
Gold dealt with deflation in a few ways. One is creating other currencies, ala Tally sticks. Another was creating too many dollars backing the gold (I believe the USA only had enough gold to pay out 40% of the gold by policy, but I'm not an expert on the subject). Mining also helped, as there was a natural rate of mining. Yet another was adding silver, yet another currency.guitarplayer wrote: ↑Fri Aug 06, 2021 4:39 amDo you (or anyone) know how the issue of deflation was solved when the gold standard was in place? Was this credit, too?
Another was war, due to the Euro-style effect of gold sinks, where all the gold ends up in one place(*). Think how Greece and Italy are in infinite debt to Germany, unable to earn its way out because it's trapped in a gold-standard like system called the Euro. That is to say, Greece and Italy can't print as much as they need to, to devalue their currency to help their industry compete with Germany. The trade system where currencies are valued and devalued to each other does not naturally counterbalance Germany's production strength because they all use the same currency.
Again let's try to simplify this:
- Smaug Hoard Gold->Deflation
- Smaug Dead->Inflation
- Smaug Hoard Gold->Dwarves makeup Tally Sticks->Inflation
- Too Much Deflation->Dwarves Invade Smaug lair.
(*) My above ramble was an effort to discuss how tech deflation also may cause the same sort of effect in our current system.
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guitarplayer
- Posts: 1333
- Joined: Thu Feb 27, 2020 6:43 pm
- Location: Scotland
Re: How do central banks account for growth of economies?
@JCD money is a fascinating subject but I don't think I am there yet to constructively read the posts.
I get your point about Central Banks not printing money per se but promising to print it if need be, which I understand is what you talk about when you talk about 'reserve'.
I appreciate LOTR simplification this speaks to me.
I saw this other thread where you were elaborating more on money.
I am exercising the idea of getting some high quality tools instead of gold as the gold component of the permanent portfolio, what @jacob wrote elsewhere. Money seems just so much out of control!
I get your point about Central Banks not printing money per se but promising to print it if need be, which I understand is what you talk about when you talk about 'reserve'.
I appreciate LOTR simplification this speaks to me.
I saw this other thread where you were elaborating more on money.
I am exercising the idea of getting some high quality tools instead of gold as the gold component of the permanent portfolio, what @jacob wrote elsewhere. Money seems just so much out of control!
Re: How do central banks account for growth of economies?
Money can be thought of as either a very old thing (because it was being used in Classical antiquity), or as a very new thing (because economies were not fully financialized until the 19th century).
For most of history, the majority of people used very little money, as they were agricultural laborers tied to the land. They made their own clothes, built their own houses, and grew their own food. Even the lives of the aristocrats who lorded it over them were not very financialized, as they could live off the peasants and their land with little need for banking.
For most of history, bankers did not feel they had any responsibility to manage the economy, largely because they actually couldn't.
Enter the 19th Century.
If there was an economic downturn, and people started withdrawing money from banks, the bankers would "defend the reserves". They would actually raise interest rates in order to keep deposits in the bank. This, of course, led to an even greater economic downturn.
Called "Panics" in the US, they could be very severe localized depressions featuring local unemployment rates of 40%.
As economies got more and more connected, and more financialized, these panics expanded geographically to be national and international in scope. They also began affecting more and more strata of society, as everyone's lives became more financialized.
The last of these was the Great Depression. (Very generally) at the beginning of it, most governments were advocating a hands-off approach to the economy. By the end, most governments were very interventionist.
So, the idea that banks (and governments) should play an active role in managing the economy is less than a century old, and we are still trying to figure out how to do that.
For most of history, the majority of people used very little money, as they were agricultural laborers tied to the land. They made their own clothes, built their own houses, and grew their own food. Even the lives of the aristocrats who lorded it over them were not very financialized, as they could live off the peasants and their land with little need for banking.
For most of history, bankers did not feel they had any responsibility to manage the economy, largely because they actually couldn't.
Enter the 19th Century.
If there was an economic downturn, and people started withdrawing money from banks, the bankers would "defend the reserves". They would actually raise interest rates in order to keep deposits in the bank. This, of course, led to an even greater economic downturn.
Called "Panics" in the US, they could be very severe localized depressions featuring local unemployment rates of 40%.
As economies got more and more connected, and more financialized, these panics expanded geographically to be national and international in scope. They also began affecting more and more strata of society, as everyone's lives became more financialized.
The last of these was the Great Depression. (Very generally) at the beginning of it, most governments were advocating a hands-off approach to the economy. By the end, most governments were very interventionist.
So, the idea that banks (and governments) should play an active role in managing the economy is less than a century old, and we are still trying to figure out how to do that.
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guitarplayer
- Posts: 1333
- Joined: Thu Feb 27, 2020 6:43 pm
- Location: Scotland
Re: How do central banks account for growth of economies?
@boomly, I am enjoying this exchange very much, thank you for your time.
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Married2aSwabian
- Posts: 265
- Joined: Thu Jan 07, 2021 7:45 pm
Re: How do central banks account for growth of economies?
Historically, we are truly in uncharted waters WRT to fiscal policy:
https://www.investopedia.com/articles/i ... -rates.asp
Pre 2008, the Fed’s job was to “take away the punch bowl” just as the party was getting started. That is to say the fed would raise rates before the economy could overheat and inflation started taking off beyond a set acceptable rate (traditionally 1 - 2%). Ben Bernancke (nicknamed Helicopter Ben) had studied the Great Depression and determined that what was needed in the event of a similar financial crisis is to inject massive amounts of liquidity into the system to prevent a depression: https://en.wikipedia.org/wiki/Helicopter_money
One of Warren Buffett’s great quotes is, “when the tide goes out, we’re all going to see who’s swimming naked.” Ie. Those who are highly leveraged are going to get screwed when interest rates rise again. Post Great Recession, and now especially with Pandemic, the Fed is so reluctant to bring the rate back above zero that it seems we are being kept awash in a never-ending sea of liquidity. Added to this, of course is QE bond buying of $120 Billion per month to prop up corporate and mortgage mkt debt.
So, in the current situation, I would say the question is not so much how the Fed is going to account for growth (taking off), rather how he or she is going to land the plane safely again. At this point, we are in need of the fiscal equivalent of the Miracle on the Hudson.
https://en.wikipedia.org/wiki/US_Airways_Flight_1549
https://www.investopedia.com/articles/i ... -rates.asp
Pre 2008, the Fed’s job was to “take away the punch bowl” just as the party was getting started. That is to say the fed would raise rates before the economy could overheat and inflation started taking off beyond a set acceptable rate (traditionally 1 - 2%). Ben Bernancke (nicknamed Helicopter Ben) had studied the Great Depression and determined that what was needed in the event of a similar financial crisis is to inject massive amounts of liquidity into the system to prevent a depression: https://en.wikipedia.org/wiki/Helicopter_money
One of Warren Buffett’s great quotes is, “when the tide goes out, we’re all going to see who’s swimming naked.” Ie. Those who are highly leveraged are going to get screwed when interest rates rise again. Post Great Recession, and now especially with Pandemic, the Fed is so reluctant to bring the rate back above zero that it seems we are being kept awash in a never-ending sea of liquidity. Added to this, of course is QE bond buying of $120 Billion per month to prop up corporate and mortgage mkt debt.
So, in the current situation, I would say the question is not so much how the Fed is going to account for growth (taking off), rather how he or she is going to land the plane safely again. At this point, we are in need of the fiscal equivalent of the Miracle on the Hudson.
https://en.wikipedia.org/wiki/US_Airways_Flight_1549
Last edited by Married2aSwabian on Mon Aug 16, 2021 6:30 am, edited 1 time in total.
Re: How do central banks account for growth of economies?
@Married2aSwabian
I'm not sure if the Investopedia article is as useful in describing rates as it would first appear, perhaps in part it is a tad out of date (although maybe that was your point).
Beyond the article and how interest rates are tied together, I think there is a fair amount of doubt that the federal reserve is doing much of anything regarding the money of the economy. Before I justify that claim, let me try to capture the four styles of actors that stage the broader monetary and fiscal debate. These are about the only four styles of thinking I'm aware of, so if I'm missing any, I'd love to hear about them. There are the tech-deflationists, ala Cathie Wood. They believe tech will push us in the general direction of replicators and create a Star Trek style no-money world. Then there are the plumbing deflationists like Jeff Snider who suggest QE is tightening policy, not loosening policy. Then there are the inflationists like Peter Schiff who believe the fed balance sheet is money printing, so just buy gold or bitcoin or land or whatever can't be printed. Finally there are the inflationists like Louis-Vincent Gave who believe some combination of government spending/MMT, lack of investment in commodities/energy, worker aging, climate change and supply chain de-optimization/new cold war will generate inflation. Ironically, I've not run into a camp who actually believes the Fed can do what they say they can do and not be destructive.
It seems to me that the inflationist stories don't need any explanation, which is why I rarely discuss them, they are first derivative thinking for the most part. That is not to say they are wrong, just they are easy to grasp. It's why I said the premise of a CB accounting for growth at all should be questioned, because its part of a particular camp, that many people don't realize there are other views, much less how those other views work. By asking mechanical questions about how the system actually works, you tend towards the deflationist camp because they tend to have the more complex models which attempt to answer that sort of question. The assumption that it is "easy" to understand what the CBs are doing and that it must be money printing is really about as deep as the inflationists I've listened to go. They seem disinterested in investigating the system. If you know of a inflationist who does plumbing and still concludes it is inflationary, I'm interested in learning how that person sees the pipeline from reserves to dollars actually works.
My earliest post was a mix of the tech-deflationists with just a side of the structural ones. I think the tech deflationists are also pretty simple thinking once you get over non-linear systems. Google does something in the neighborhood of 10x growth in 10 years, with no signs of slowing while GM does no growth. So of course, like the chess board doubling grains of wheat every day, we'll all soon be living in virtual reality sims, hating Broccoli not fixing the replicators fast enough during our trek in the stars. So let's talk about the structuralists instead.
The structuralists, as I understand them, would say that banks require collateral on their balance sheet in order to be legally compliant. That collateral would be something like T-bills, other treasuries, business bonds, mortgages, etc., but generally not cash. Cash is a less useful piece of collateral, if not an outright liability. Since the way they get assets like T-bills is via the treasury, they need government debt to continuously flow. For example, treasuries are used to be the asset against the liability of your savings account, since the money you deposit is a liability for the bank (as they have to pay it back to you with interest in the future). Treasuries of course cost something to buy, so the more demand for the treasuries, the more expensive they become. While the deflationists have more complex reasonings, perhaps the simplest idea is the banks all feel they need x% in safe assets and when more competition for these treasuries shows up via QE, the less willing banks will be to have additional liabilities on their books.
In part because the banks spent more on treasuries than in the past, so they can't "afford" to lend out more. If they have too many liabilities and need to deal with them by buying treasuries, yet the price of the goods they need is constantly going up, they are going to have to factor that into their future business. Therefore, they are going to say no to average business and only take amazingly good business opportunities to lend to. Therefore, lending growth will go down and thus CBs are forcing the economy to shrink via QE. I'm very much over-simplifying the argument, but hopefully that captures about half the deflationist view.
The second half is while the cost of safe assets goes up, the perspective of the risk of riskier assets is worse. In 2008 there were bank-ending events which means you don't want to hold as much illiquid, riskier assets like loans or mortgages, as they are the most likely to fail and if you believe that the system is synchronized (e.g. 2008 where the entire housing system went down as one, 2020 where COVID shut everyone down) you don't see diversification value in holding a variety of risky assets. Therefore, you'll be inclined to not make loans, even without QE, but doubly so with QE. This correlates well with the 1-2 million missing businesses we did not create relative to earlier periods.
In effect, the structure of the system and incentives are such that deflation is likely to occur. That is not to say governments, monetized by their CB, can't cause inflation, but it isn't clear it will every time. Also the politics of this make a set of long term government cash injections more difficult, but certainly not impossible.
I guess ultimately the question is, do we really know how the system works, what the state of the system is, how it got there, how to patch any issues with the current state and then how to fix the system to not get into that state again? Given we've been in what appears as relatively stagnant conditions over the past 20 years while we have some companies growing like weeds (see FAANGs), it makes me doubt any Fed policy that looks like the past policies will work in the long term. Could we see stagflation? Absolutely. Deflation or Disinflation. Yep, that could happen. A helicopter so full of money it gets weighed down and ends up landing in the Hudson. Color me skeptical, for now.
Hopefully by now my point is well made, that the premise of the topic can be put into doubt, and that the way it is framed indicates a particular view. That's not wrong, but it's not great to unknowingly hold a particular view just because the media have not popularized alternative idea on how the monetary system works.
I'm not sure if the Investopedia article is as useful in describing rates as it would first appear, perhaps in part it is a tad out of date (although maybe that was your point).
If the reserve requirement was to prevent bank runs and to provide liquidity, it seems like we'd want those during a major panic, such as in March of 2020. However, the CB did the reverse of what you'd expect:"According to U.S. regulations, lending institutions have to hold a percentage of their deposits with the Federal Reserve every night. Requiring a minimal level of reserves helps stabilize the financial sector by preventing a run on banks during times of economic distress. What happens when a U.S. bank is short on cash at a given time? In this case, it must borrow from other lenders. The federal funds rate is simply the rate one bank charges another institution for these unsecured, short-term loans."
Even if you set aside the reserve requirements issue, it really failed to describe the national vs international impact on the federal funds rate and how during crises the rate can end up being "manipulated" downward by not lending. I think this clips captures that problem nicely: https://youtu.be/HiFzwTqs8EI?t=1110"As announced on March 15, 2020, the Board reduced reserve requirement ratios to zero percent effective March 26, 2020. This action eliminated reserve requirements for all depository institutions." - https://www.federalreserve.gov/monetary ... rvereq.htm
Beyond the article and how interest rates are tied together, I think there is a fair amount of doubt that the federal reserve is doing much of anything regarding the money of the economy. Before I justify that claim, let me try to capture the four styles of actors that stage the broader monetary and fiscal debate. These are about the only four styles of thinking I'm aware of, so if I'm missing any, I'd love to hear about them. There are the tech-deflationists, ala Cathie Wood. They believe tech will push us in the general direction of replicators and create a Star Trek style no-money world. Then there are the plumbing deflationists like Jeff Snider who suggest QE is tightening policy, not loosening policy. Then there are the inflationists like Peter Schiff who believe the fed balance sheet is money printing, so just buy gold or bitcoin or land or whatever can't be printed. Finally there are the inflationists like Louis-Vincent Gave who believe some combination of government spending/MMT, lack of investment in commodities/energy, worker aging, climate change and supply chain de-optimization/new cold war will generate inflation. Ironically, I've not run into a camp who actually believes the Fed can do what they say they can do and not be destructive.
It seems to me that the inflationist stories don't need any explanation, which is why I rarely discuss them, they are first derivative thinking for the most part. That is not to say they are wrong, just they are easy to grasp. It's why I said the premise of a CB accounting for growth at all should be questioned, because its part of a particular camp, that many people don't realize there are other views, much less how those other views work. By asking mechanical questions about how the system actually works, you tend towards the deflationist camp because they tend to have the more complex models which attempt to answer that sort of question. The assumption that it is "easy" to understand what the CBs are doing and that it must be money printing is really about as deep as the inflationists I've listened to go. They seem disinterested in investigating the system. If you know of a inflationist who does plumbing and still concludes it is inflationary, I'm interested in learning how that person sees the pipeline from reserves to dollars actually works.
My earliest post was a mix of the tech-deflationists with just a side of the structural ones. I think the tech deflationists are also pretty simple thinking once you get over non-linear systems. Google does something in the neighborhood of 10x growth in 10 years, with no signs of slowing while GM does no growth. So of course, like the chess board doubling grains of wheat every day, we'll all soon be living in virtual reality sims, hating Broccoli not fixing the replicators fast enough during our trek in the stars. So let's talk about the structuralists instead.
The structuralists, as I understand them, would say that banks require collateral on their balance sheet in order to be legally compliant. That collateral would be something like T-bills, other treasuries, business bonds, mortgages, etc., but generally not cash. Cash is a less useful piece of collateral, if not an outright liability. Since the way they get assets like T-bills is via the treasury, they need government debt to continuously flow. For example, treasuries are used to be the asset against the liability of your savings account, since the money you deposit is a liability for the bank (as they have to pay it back to you with interest in the future). Treasuries of course cost something to buy, so the more demand for the treasuries, the more expensive they become. While the deflationists have more complex reasonings, perhaps the simplest idea is the banks all feel they need x% in safe assets and when more competition for these treasuries shows up via QE, the less willing banks will be to have additional liabilities on their books.
In part because the banks spent more on treasuries than in the past, so they can't "afford" to lend out more. If they have too many liabilities and need to deal with them by buying treasuries, yet the price of the goods they need is constantly going up, they are going to have to factor that into their future business. Therefore, they are going to say no to average business and only take amazingly good business opportunities to lend to. Therefore, lending growth will go down and thus CBs are forcing the economy to shrink via QE. I'm very much over-simplifying the argument, but hopefully that captures about half the deflationist view.
The second half is while the cost of safe assets goes up, the perspective of the risk of riskier assets is worse. In 2008 there were bank-ending events which means you don't want to hold as much illiquid, riskier assets like loans or mortgages, as they are the most likely to fail and if you believe that the system is synchronized (e.g. 2008 where the entire housing system went down as one, 2020 where COVID shut everyone down) you don't see diversification value in holding a variety of risky assets. Therefore, you'll be inclined to not make loans, even without QE, but doubly so with QE. This correlates well with the 1-2 million missing businesses we did not create relative to earlier periods.
In effect, the structure of the system and incentives are such that deflation is likely to occur. That is not to say governments, monetized by their CB, can't cause inflation, but it isn't clear it will every time. Also the politics of this make a set of long term government cash injections more difficult, but certainly not impossible.
I guess ultimately the question is, do we really know how the system works, what the state of the system is, how it got there, how to patch any issues with the current state and then how to fix the system to not get into that state again? Given we've been in what appears as relatively stagnant conditions over the past 20 years while we have some companies growing like weeds (see FAANGs), it makes me doubt any Fed policy that looks like the past policies will work in the long term. Could we see stagflation? Absolutely. Deflation or Disinflation. Yep, that could happen. A helicopter so full of money it gets weighed down and ends up landing in the Hudson. Color me skeptical, for now.
Hopefully by now my point is well made, that the premise of the topic can be put into doubt, and that the way it is framed indicates a particular view. That's not wrong, but it's not great to unknowingly hold a particular view just because the media have not popularized alternative idea on how the monetary system works.
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Mister Imperceptible
- Posts: 1669
- Joined: Fri Nov 10, 2017 4:18 pm
Re: How do central banks account for growth of economies?
Happy 50th anniversary
How it started:
https://en.m.wikipedia.org/wiki/Nixon_shock
https://m.youtube.com/watch?v=ye4uRvkAPhA&t=0s
How it’s going:
https://wtfhappenedin1971.com/
How it started:
https://en.m.wikipedia.org/wiki/Nixon_shock
https://m.youtube.com/watch?v=ye4uRvkAPhA&t=0s
How it’s going:
https://wtfhappenedin1971.com/