Do You Need More Money for Economic Growth to Occur?
growthecon.wordpress.com
growthecon.wordpress.com
Economic growth occurs either because we produce more of existing things, or because we introduce new things that that are more valuable than the old things we produced – which shows up in relative price differences. The level of absolute prices is irrelevant. The level of nominal spending is irrelevant. The stock of money is irrelevant.
One of the things that I find challenging, is explaining that the "rich" don't have all the money in a bank somewhere and if they would just let it out there would be more for the "not rich" people. When someone's portfolio invests in corporate bonds that the corporation issuing those bonds is using the proceeds to increase their production, they are creating an expansion in the economy which will provide jobs for people and by working money for them to spend. And yet the company will pay back the bonds and the rich person will still have all their "money" and more people will now have jobs.
To tl;dr their argument: if the economy consists of 10 cans of beer and also of $10, then you distribute the beer at $1 per beer. If the number of beers jumps to 20, then you distribute the beer at $0.5 per beer. Economic growth (more beer) has occurred, even though the money supply hasn't.
But what if you know that next year there will be 20 cans of beer? Then you don't buy any beer this year, because each beer you buy this year costs you two beers you could have had next year. If the number of beers goes up year after year, then it is always advisable to wait to buy beer.
However, if you don't buy beer this year, then the beer company might not be able to expand its production of beer next year. In that case, everyone loses - you didn't buy beer when you should have bought beer, and the beer company doesn't get to expand production for a market that wants it to expand production.
Deflation is a prisoner's dilemma that is solved by printing money to match, as closely as possible, the rate of economic growth.
Do you realize that this makes no sense whatsoever? How many people do you know that would give up beer for a year if they knew that beer was going to be twice as cheap next year? And if we look at the recent history of technology, the prices of devices, the prices of processing power, consistently drops year-over-year yet that has not hindered the business at all. Lots of people buy stuff because they desire the utility of the product, and do not want to forgo a year of that utility. Some people buy the newest model on the first day, some people wait for a year or two, it all works itself out.
To the extent you have a point, is that high inflation overall encourages consumption over saving. This is hardly a good thing though. And if you inflate really high, you may just get the same net amount of saving/hoarding, it will just be hoarding in gold or real estate rather than in dollars.
> Deflation is a prisoner's dilemma that is solved by printing money to match, as closely as possible, the rate of economic growth.
This doesn't make sense, because each product has its own growth curve: https://twitter.com/pmarca/status/620814301289316352/photo/1 So even if you inflate at the average growth of all prices, you still are not accurately tracking any particular product.
Okay, let's replace beer with cars. How many people wait until someone else has driven the car off the lot to buy it? In 2010, 2.5x more used cars were sold than new cars. Imagine if no one bought new cars, though. Eventually, no one would be able to buy used cars either.
Beer is a bad example because it's cheap enough that people don't do the math. Once you get into very large purchases, like cars, houses, or productive capital, companies can (and do) factor inflation/deflation into their profitability calculations. If a refinery will cost half as much next year, and the amount of money it will produce for you this year is less than half its price tag this year, you will wait to buy it until next year. Otherwise, you'll end up less profitable than the person who bought in a year later, who can then out-compete you, only to be out-competed by the person who bought in the year after that, and so on.
> This doesn't make sense, because each product has its own growth curve: https://twitter.com/pmarca/status/620814301289316352/photo/1 So even if you inflate at the average growth of all prices, you still are not accurately tracking any particular product.
"Solved" is a strong word - inflation matching growth is the most practical solution currently. You could produce a more "correct" solution by giving each commodity its own currency, but that's clearly impractical.
Clearly this thought experiment doesn't model the real world. There are theories of the time-value of money and marginal utility that can help explain why this is. At the root of it, we have a finite amount of time on this earth and can't wait around forever before acting.
When bank loans are written off, there is a corresponding removal of money from the money supply.
So the correct way to formulate this is to say: when loans are taken out from the banking system, money is created, but whether or not the money supply grows depends on the balance between new lending, vs loan repayment and loan default which both cause money to be destroyed.
Only bank loans do this btw., so if a company raises money some other way, it's money supply neutral.
FRB creates liability deposit money, not cash.
Also these days, central bank reserve requirements don't really have much impact, it's more about the Basel capital controls when it comes down to control over lending and the resulting money creation.
Let's say A puts $100 in the bank. The bank loans $50 to B while still telling A that his full $100 is available for withdrawal. (Fractional reserve.) B pays C $50 for services. The services fail to make a profit for B and B defaults on the bank loan. The bank writes it off as a loss.
In this scenario, after a default, A still has $100 and C has $50. Total money supply is $150; money supply delta is +50.
Say instead that B gets $55 from D (the services were a good investment), and pays back the loan with $5 as interest. Now the money supply delta is 0: (100 0 0 55) has changed to (100 0 50 0) plus 5 profit for the bank.
The only thing I can think of is fractional reserve requirements somehow cause the new money in the first scenario to disappear.
The mistake that just keeps getting repeated in the economic literature is to confuse the two different kinds of money in the system. Banks are essentially performing statistical multiplexing between asset cash, and liability deposit accounts.
So - A puts $100 in a bank.
Double Entry Bookkeeping (DEB), that's: [debit cash, credit deposit account]
Bank loans $50 to B:
That's [debit loan (also an asset, creating it), credit deposit B]
Total assets: $150, total liabilities: $150
Notice B never got physical asset cash - they got a deposit account. Only if B withdraws the cash, or transferred the money to another bank, does physical cash get touched. Let's say B just bought something from A with the money, that would be: [debit deposit account B, credit deposit account A]
Loan gets written off. In this scenario, the bank has no interest income, no profits, and no capital. It would get closed down by the FDIC before it ever got a chance to lend B any money :)
But in a more usual case, where is has received some interest income - which would be [debit account B, credit bank interest income], it would first deduct against its required loss reserves, then its interest income, also removing that amount of the loan, [credit loan, debit loss reserves], then from any other profits, and finally from its capital holdings.
Note, credit and debit mean different things depending if the ledger is an asset or a liability - the right hand side is what you think it should be, and the left hand side isn't.
https://research.stlouisfed.org/fred2/series/M1
The "created" money is the delta between M1 and M2:
https://research.stlouisfed.org/fred2/series/M2
There is also M3 but those numbers are no longer reported so I am ignoring for the sake of brevity and because "you get the point"
Take an acre of land for example. It is measured at 1 acre. Just because we decide to pretend that it is 2 acres is arbitrary and makes no difference in physical reality.
Though I would agree that money is far more abstract and obfuscated as measurement system and is at heart a confidence game. So, it may be that arbitrarily doubling the money supply could alter psychological perceptions positively or negatively even though it is pure abstraction. The word Voodoo comes to mind