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The myth of the money multiplier

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Re: The myth of the money multiplier

Unread postby Pops » Mon 02 Feb 2015, 18:10:19

Your analogy breaks down when you realize only one person at a time can use the shovel regardless of the number of claims.

Not at all, it is perfect because that is exactly the problem with fractional reserve banking.

The only way "fractional reserve" banking works is that only a fraction of the total liability (deposits) are needed at any one time. When everyone wants their mmoney at the same time is when problems happen.

Everyone on the block can say they have a claim to the shovel, as long as it doesn't snow (and everyone wants it at the same time).

Not really anything to do with fiat money because when you have a buck in yer hand, no one else has a claim to it. That is an important aspect here, a buck is a buck and it is free and clear - not so any bank deposit.

Which I haven't read up enough on but basically when you put money in the bank, it is the bank's money, you have a claim to it but it ain't yours anymore - you handed the shovel over in return for a promise you'll get it back. True, paper money is worth just as much as the next guy will give you (just like ANY money) but money in the bank is only an IOU and a hope and prayer that it is there when you ask for it.
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Re: The myth of the money multiplier

Unread postby dinopello » Mon 02 Feb 2015, 18:21:07

Pops wrote:
Your analogy breaks down when you realize only one person at a time can use the shovel regardless of the number of claims.

Not at all, it is perfect because that is exactly the problem with fractional reserve banking.

The only way "fractional reserve" banking works is that only a fraction of the total liability (deposits) are needed at any one time. When everyone wants their mmoney at the same time is when problems happen.

Everyone on the block can say they have a claim to the shovel, as long as it doesn't snow (and everyone wants it at the same time).

Not really anything to do with fiat money because when you have a buck in yer hand, no one else has a claim to it. That is an important aspect here, a buck is a buck and it is free and clear - not so any bank deposit.

Which I haven't read up enough on but basically when you put money in the bank, it is the bank's money, you have a claim to it but it ain't yours anymore - you handed the shovel over in return for a promise you'll get it back. True, paper money is worth just as much as the next guy will give you (just like ANY money) but money in the bank is only an IOU and a hope and prayer that it is there when you ask for it.


You don't need a physical buck any more to exchange for tangible items. So it is irrelevant how many bucks the banks hold. Or is that not what you are talking about ? All that matters is Amazon will accept a coded message from the bank saying I have the credit. The bank will always say I have what I have, why wouldn't they ? Only if everyone tried to buy everything all at once might there be a problem. But then it would look like there was a shortage of the thing, not that the money was worthless. If there was nothing left to exchange for the money then the money is worthless, right?

So, lets do this shovel thing.

There are 10 people, each with a dollar in the bank
There are 5 shovels at the store.
The (only) bank has 2 dollars in "reserves" (whatever that means)
It snows
All ten people go to the store and use their ATM to buy a shovel
5 people come away with shovels
The other 5 still have a dollar each but no shovel.
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Re: The myth of the money multiplier

Unread postby Pops » Mon 02 Feb 2015, 19:59:11

dinopello wrote:You don't need a physical buck any more to exchange for tangible items. So it is irrelevant how many bucks the banks hold.

Right, as long as things go along then yeah. The system has been going on since way back as such (there never has been 100% reserve banking) and up until Glass Steagall was repealed pretty predictable as the chart I posted above shows. The creation of all those IOUs isn't a big deal. The banks couldn't make an unlimited number of loans because of various restrictions, interest rates, whatever.

I think the real problem was when the repeal of Glass Steagall allowed commercial banks to get into the shadowy stuff. Even more was the creation of markets to soak up the sliced and diced chits to be sold outside that commercial bank sphere. Once you SELL a loan, it is no longer your concern so banks didn't give a rip about the creditworthiness just pass them along like a bad penny. That is a number somewhere above even the broad M3 - which itself is about 5 times real money in circulation --- it's like M43 LOL.

No one really knows how many times that one buck has been passed around now, bet on, photocopies bundled and rebundled until you can't tell whether it's a Washington or a Franklin ... it could be there really are 100 shovel claims.

Long and the short of my position is that the typical "eveil bankers making money out of thin air" complaint that begrudges the fat cat for being fat - it ignores entirely the fact that none of us are holding any actual dollar bills - real money in this world - which is the thing to be actually concerned about.
Best summed up of course by another anonymous copywriter's stroke of genius (and my pshopping of a Mad Max scene):

Image
The legitimate object of government, is to do for a community of people, whatever they need to have done, but can not do, at all, or can not, so well do, for themselves -- in their separate, and individual capacities.
-- Abraham Lincoln, Fragment on Government (July 1, 1854)
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Re: The myth of the money multiplier

Unread postby Pops » Mon 02 Feb 2015, 20:36:39

Interesting scenario Dino:

dinopello wrote:There are 10 people, each with a dollar in the bank

Right off the bat, no one has a dollar in the bank (unless it's in a safe deposit box)
All they have is the bank's IOU.
dinopello wrote:There are 5 shovels at the store.
The (only) bank has 2 dollars in "reserves" (whatever that means)

It means there are only 2 actual dollars in existence, and they are in the bank vault
2 bucks - 10 claims = fractional reserve bank
dinopello wrote:It snows
All ten people go to the store and use their ATM to buy a shovel

I'm not sure.
The bank only has 2 bucks, since it can't create real money (only IOUs) it can't simply cover the transactions because it ain't got the money.
It could borrow from the FED but that is a lot - 5 times it's capitalization!
It could ask the FDIC to cover it because it is now technically insolvent, but the FDIC only has a percent or two reserve itself I believe.
Of course the FED could walk over to the keyboard and increase the money in circulation by 150% by buying up a bunch of the banks bonds but the economists would say that the market will instantly know that the value of a buck has fallen and the price of shovels will instantly rise 150% - oops, hyperinflation. Sooo...
dinopello wrote:5 people come away with shovels

I think only two because that's all the actual money the bank has, after that point the bank can't cover it's reserve requirements.
dinopello wrote:The other 5 still have a dollar each but no shovel.

Actually I think of the 10, 2 have shovels and 8 have a haircut.
They effectively made a run on the bank by all trying to get their money out at the same time. The bank is insolvent, closed down, in receivership by the FDIC (?) who itself has insufficient funds to cover everyone's chit. So the bank takes a holiday and no one buys anything for a few days hoping the snow melts.

Maybe after a time the snow melts and everyone isn't crazy for shovels and the $2 has been deposited from the store, now the bank can reopen because the snowmageddon crisis has passed.


But what if it just keeps snowing?
.
The legitimate object of government, is to do for a community of people, whatever they need to have done, but can not do, at all, or can not, so well do, for themselves -- in their separate, and individual capacities.
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Re: The myth of the money multiplier

Unread postby ralfy » Mon 02 Feb 2015, 22:35:23

From what I know, dollars are IOUs.
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Re: The myth of the money multiplier

Unread postby Pops » Mon 02 Feb 2015, 23:28:08

An IOU merely acknowledges a debt, it is not generally negotiable so not legal tender
http://en.wikipedia.org/wiki/IOU

a dollar is "legal tender for all debts public and private" - IOW, it is what IOUs are settled with, by law.
http://en.wikipedia.org/wiki/Legal_tender
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Re: The myth of the money multiplier

Unread postby dinopello » Mon 02 Feb 2015, 23:38:59

Man, the more I think about money the more ethereal it gets.

Why have paper or coin ?

SINCE cash was invented in the seventh century BC, it has generally been the most convenient way to pay for everyday purchases. But as electronic payments get easier—most recently with the launch of a “contactless payment” system by Apple—economists are beginning to ask whether notes and coins have had their day. Kenneth Rogoff, of Harvard University, reckons they have. Scrapping physical currency, he argues, would help governments to collect more tax, fight crime and develop better monetary policy.

On the surface, Mr Rogoff’s plan seems like a minor change. Notes and coins make up only a tiny part of the money in circulation: just 3% in Britain, for instance. (In America, the proportion is 10%, partly because foreigners hold lots of dollar notes.) The rest is simply records of balances in accounts, either at a bank (in the case of businesses and individuals) or at the central bank (in the case of banks). It tends to be moved around by electronic transfer, never taking physical form.


3% cash in Britain. I guess my question is, if physical currency is completely eliminated (no legal tender in physical form, just bits in a bank computer) then do reserve requirements have any meaning ?
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Re: The myth of the money multiplier

Unread postby Pops » Tue 03 Feb 2015, 09:52:10

I know, my brain has a hard time with the abstractness (I guess that's a word, my spell checker didn't flag it, LOL) I dig these kind of threads tho because they make me study.


Reserves are not just vault cash. In fact, I have an Ally bank account (formerly GM Credit) that is online only. It has no "vault" and no "cash" that I know of, just the money available in ATMs - and it has no ATMs. But it has good enough credit with all the banks (or whatever) that DO have ATMs that I guess the Fed thinks it's OK (Ally pays interest on checking and allows free access to any ATM anywhere, which is why I have it.)

I think (from looking at the fed website mostly) that reserves are more complicated and inclusive of everything on a bank's balance sheet. First, the reserve requirement is either cash in the vault OR deposits at the Fed OR even the credit standing of the bank itself. So even reserves in a broad sense can be IOUs to an extent. Digi-bucks on deposit at the Fed is considered as good as gold, sorta-speak.

"Demand" accounts like checking and regular savings are subject to reserve requirements but timed accounts like money market or Certificates have no reserve (as far as cash on hand goes), since theoretically the bank knows when CDs come due and so can plan to have cash on hand.

But cash is not the only "reserve" a bank has to have, they must be collateralized (loans that are in good standing mostly I'd guess) so they can lay them off against cash in case the have a "liquidity" problem, they must be profitable, they must have enough assets to cover bad loans, and they must not be overly sensitive to a particular risk - home loans for example.

The whole point of the fed was to prevent the panics that caused bank runs and crisis on a regular basis prior to 1900 or whenever. People want to have a "savings and loan" to borrow money from but they also want to have their money available when they want it and the Fed's job is to make sure they can get it. Cash reserves in the vault are a part but a lot of it is subjective P&L gazing. We've all heard of the bank examiner, they score a bank on 5 areas which are mostly about quality of assets, P&L collateralization etc. Their acronym for the areas the score is CAMELS and of course the score is secret - wouldn't want consumers knowing their bank's strength, they couldn't handle it!

The score determines the banks credit rating with the fed and other banks that it might borrow from - which in turn affect its liquidity and in effect, its reserves. (an article on CAMELS)

(I did find Bankrate, you tap in your bank and it gives you a score - not the actual Fed score but one reverse engineered from public data so kinda similar. You can also look up your bank on one of the stock analysis sites if it is traded, even my little 2 branch bank is traded on the NASDAQ and it's chart is kinda ugly, LOL, Bankrate gives it 2 stars out of 5, Ally gets a 4 but a 1 on liquidity)

Anyway, I would say after 20 minutes of intense study that completely cashless banking would be entirely possible. Still, I'd guess that people know (whether they KNOW or not) that money in the bank is just an IOU and not the same as "money" under the mattress.

https://www.stlouisfed.org/in-plain-english
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Re: The myth of the money multiplier

Unread postby Subjectivist » Tue 03 Feb 2015, 10:41:47

II Chronicles 7:14 if my people, who are called by my name, will humble themselves and pray and seek my face and turn from their wicked ways, then I will hear from heaven, and I will forgive their sin and will heal their land.
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Re: The myth of the money multiplier

Unread postby ralfy » Tue 03 Feb 2015, 11:44:29

It's still an IOU. And it's backed by governments that essentially work for the same commercial banks that they are supposed to regulate.
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Re: The myth of the money multiplier

Unread postby Pops » Tue 03 Feb 2015, 12:22:40

And so what does one use to pay a debt if legal tender is not legal tender?
The legitimate object of government, is to do for a community of people, whatever they need to have done, but can not do, at all, or can not, so well do, for themselves -- in their separate, and individual capacities.
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Re: The myth of the money multiplier

Unread postby careinke » Tue 03 Feb 2015, 19:24:21

dinopello wrote:Man, the more I think about money the more ethereal it gets.


3% cash in Britain. I guess my question is, if physical currency is completely eliminated (no legal tender in physical form, just bits in a bank computer) then do reserve requirements have any meaning ?


You're almost there. The real question is; If currency does not have to be physical, why do you need banks at all? For that matter, why do you need a national currency at all, with all the government interferences? You can just use a crypto currency like Bitcoin (there are others), and be your own bank. Surprisingly, if you wanted, you could do it today.

Think about it, the real goal of the treasury is to make the dollar worth less every year. It is designed that way (since 1913), to work that way. Debt based economies are almost impossible to run in a deflationary economy, inflationary ones like we have had for the past 100 years are much easier to control.

This is all well and good for government, and big banks (but I repeat myself), but sucks for the individual. The money you make today, by design, will be worth less tomorrow. This is a huge disincentive to save for the future.

Cryptocurrencies are inherently deflationary. There are a set number of "units" and it never changes. Similar to a gold standard except you can divide it down a lot more than you could an ounce of gold. The other difference is the crypto currency is "stored" over the NET (not really but as close an analogy as I can come up with), rather than in a central place like a physical vault for gold.

Do some reading on crypto currencies, it is an interesting concept, that appeals to my Minarchist nature. 8)
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Re: The myth of the money multiplier

Unread postby ralfy » Tue 03 Feb 2015, 21:58:03

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Re: The myth of the money multiplier

Unread postby radon1 » Thu 12 Feb 2015, 00:58:45

The money multiplier in its traditional interpretation is indeed myth.

The logical flaw in this interpretation is a hidden assumption that the multiplication effect occurs all at once. While in fact, it is spread over time.

This logical flaw leads to a conclusion that the multiplication leads to an increase of money supply, and therefore to inflation. While in fact, it leads to a decrease in the aggregate amount of consumer money in circulation at any given time - because the fractional balance is always retained by the bank - and therefore to deflation.

Hence, the traditional economic forecasts may have been based on a wrong model for decades (and centuries) already.
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Re: The myth of the money multiplier

Unread postby joyfulbozo » Fri 20 Feb 2015, 03:51:22

davep wrote:
radon1 wrote:Well, yeah... But how the banks would be making money, and how the depositors would be earning interest, if any?


Banks can charge for their services, but there's no interest IIRC. There are other types of companies allowed that are specifically NOT banks that can do more speculative stuff with their clients' money. Actually, that may be the money masters reform act.

Read section 4A of the IMF report for the future status of banks according to their vision of the Chicago Plan.

Thanks.
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Re: The myth of the money multiplier

Unread postby evilgenius » Fri 20 Feb 2015, 16:39:40

careinke wrote:
dinopello wrote:Man, the more I think about money the more ethereal it gets.


3% cash in Britain. I guess my question is, if physical currency is completely eliminated (no legal tender in physical form, just bits in a bank computer) then do reserve requirements have any meaning ?


You're almost there. The real question is; If currency does not have to be physical, why do you need banks at all? For that matter, why do you need a national currency at all, with all the government interferences? You can just use a crypto currency like Bitcoin (there are others), and be your own bank. Surprisingly, if you wanted, you could do it today.

Think about it, the real goal of the treasury is to make the dollar worth less every year. It is designed that way (since 1913), to work that way. Debt based economies are almost impossible to run in a deflationary economy, inflationary ones like we have had for the past 100 years are much easier to control.

This is all well and good for government, and big banks (but I repeat myself), but sucks for the individual. The money you make today, by design, will be worth less tomorrow. This is a huge disincentive to save for the future.

Cryptocurrencies are inherently deflationary. There are a set number of "units" and it never changes. Similar to a gold standard except you can divide it down a lot more than you could an ounce of gold. The other difference is the crypto currency is "stored" over the NET (not really but as close an analogy as I can come up with), rather than in a central place like a physical vault for gold.

Do some reading on crypto currencies, it is an interesting concept, that appeals to my Minarchist nature. 8)


You know, I just don't get this argument that there is some kind of 'design' to the process. You march naked into the truth that the fear of inflation is what has driven decision making for much of recent financial history. The depression, with its accompanying deflation, was the greatest fear for the particular group of people who might have been coming along in the immediate aftermath of the depression, but the rest of humanity dealt mainly with the economic reality of the post-war world. And it was in that economic reality, of the post-war world, that central bankers, financiers, governments, etc. found that their idea of how to manage business cycles and such was suspect at best. They didn't build inflation into it. It was there and they couldn't understand it. Most of the efforts of the Twentieth Century along these lines were to either understand or better control inflation and thus to influence the business cycle so that it would be much more moderate in its behavior. The assumption, if there was one, was that a more moderate business cycle would be better for all of us, and not just for some reptilian led wonder group hiding in the shadows.

As for your 'deflationary' currencies, yes, they are like gold; in that you had better not be holding them if true deflation really strikes. Under that scenario cash is king because so much of the money supply has been destroyed that actually holding a dollar is worth so much more than holding any promise. The people who did fear another depression knew that because for quite a while they couldn't get their money out of the banks. For them a bird in the hand was worth two in the bush, no matter if the bush was a gold plated promise or not. Insofar as money in the bank being an IOU, this is its only real weakness, that in the worst kind of deflationary panic it can actually serve to worsen the crisis by trapping money and preventing it from participating in the economy, even if it's acknowledged that it still exists. It's far better to have a system to deal with bank failures than to stand around and cast about judgment and doubt.
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Re: The myth of the money multiplier

Unread postby Pops » Fri 20 Feb 2015, 17:27:41

Very good.

It seems like fear of inflation is a gut reaction, it goes hand in hand with other conservative ideologies but it is really, like many conservative ideas, something for rich people to fear, not poorer folks who typically have their net worth tied up in physical assets that can - just like happened in '08, lose half their value overnight.

All the hyperinflationists forget that the largest asset class in the US - primary residence - took a huge hit in '08 and were snapped up by investors at bargain prices to be rented back to the dispossessed.

If one were to come up with a mind-worm to stick in poor peoples heads so that they may be more easily cleaned out in a crash, it would be to put all your worth into physical assets with no intrinsic value rather than cash. The result would be cheap money now and cheap assets after. And of course the people with the money "after" can take their pick of the cheap assets.

Image


Prior bouts of deflation in the 1800s saw hard currency increase in value while all other asset classes fell (granted some deflations were price deflation alone). During the Great Depression, there was no money to be had, it didn't matter a whit what you had to sell, if you had no money you were toast because no one else had money either.
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Re: The myth of the money multiplier

Unread postby evilgenius » Sat 21 Feb 2015, 13:45:01

More important than housing is who owns the factors of production. Those are real assets, things you can invest in out of which you can expect a return. Housing isn't, largely, an asset. It isn't because people can't cash it out at any point in time, unless they are an empty nester or somone similar in a position to downsize and cash out the difference between the more valuable home they are in now and the less valuable one they can move into. Otherwise, if you sell, you have to move into something similar, and in the same value class.

What happens with ownership of the means of production under deflation is interesting. Shares get cheaper. They get cheaper because there is less demand for them. There is less demand for them because people view the money they have, whether that is cash flow or savings, as more valuable. With cheaper share prices it becomes easier for a particular interest, either a person or a corporation, to buy more shares, and with them gain more control. Here's the deal; when share prices are higher, meaning there is more competition for control, it is harder to gain control at the highest levels, but it is also easier to control with fewer shares under ownership. The thing is that the very competitive atmosphere that exists in more robust times leads to the ability to gain control with a smaller number of shares. This isn't outright control, which is still really expensive because a party would have to purchase more than fifty percent ownership to get that. It's minority control, which is possible at lower ownership levels, depending upon the severity and diversity of the competition for control.

Yes, it's true most people don't evaluate stocks according to how much control they can exercise. Never forget, though, that a share is a share in ownership. If you can own enough shares, then you can have things your way. Thus you can see how it is that in robust times, with all sorts of varying concerns for ownership of shares bidding up the price of a share, it can be harder to own a majority stake outright, while due to the disinterest in actual control on the part of many of these competing concerns, more possible to gain control from a smaller position. And you can also see how, when times are tough, the competition for ownership may consist of a greater percentage of like minded people, who also want control. The lack of diversity amongst such a competition for ownership could mean to get control in those conditions a person or group would actually have to own a greater percentage of a company. Obviously, this scenario wouldn't hold out over all considerations, large conglomerates, for instance, are always going to have enough disinterested parties vying for shares that majority ownership would seldom be necessary.
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