Eight Years Ago…

…the term “liquidity trap” was popular and being discussed around here.  It’s still an issue requiring discussion.  Beyond that, we could still use a jubilee and a return to the gold standard.  There is still no other permanent solution.  Presidential candidates like Bernie Sanders are discussing the former; nobody in media land is discussing the latter.  That’s a disservice to the public, but only one among many at this point.

In any event, if people want to understand our monetary system in a nutshell, they could do worse than reading what we wrote back then:

Keynes and MMT are the ones who fundamentally misunderstand the government’s relation to money. The proper role of government wrt to money is to define a monetary unit of account and adminstrate it through bureaus of weights and measures.

The liquidity trap occurs when all that has been disregarded, the unit of account becomes fiat, and the bulk of a nation’s money is created through lending to individuals and businesses. Without a reference point at the bottom of it all, new money issuance is deemed satisfactory so long as loans are being repaid on schedule. In fact this is the only criterion for monetary balance in such a monetary system. When that changes, and loans are no longer being repaid on schedule, lending constricts, and it cannot be otherwise. It doesn’t matter how much liquidity you supply to lenders, they can’t make loans because the borrowing capacity of the populace has dried up. They are debt saturated.

The only answer for this that Keynsians have come up with is for the government to act as borrower of last resort. But in that case government deficits explode and you wind up with Greece and the EU.

In the system that we have, the fact that new money is loaned into existence is not discretionary. There is no other option. Thus if lending isn’t possible, no new money is possible either, and the money supply will stagnate or contract, which of course makes the repayment of existing outstanding loans more and more difficult.

This is why the “helicopter drop” remarks are intended to be funny. New money cannot be distributed that way. All newly created money must be owed back into the system; that is, someone must borrow it into existence and owe it back. It is the only way in a fiat system to regulate money issuance.

The subprime “crisis” signaled that the lending saturation point had been reached in the US. Since the country had largely run out of qualified borrowers, loans were made to UNqualified borrowers. There is no one to blame for this except the people who instituted the monetary system in the first place, and they’re all long since dead. The system will always wind up in this spot after a few generations.

The WaPo article discusses the common MMT inspired idea that taxes are the method for managing the government deficits that occur as the government becomes the borrower of last resort in a liquidity trap, which is just what is happening now. The idea being that the government takes back more and more of the new money that has been issued to ameliorate the deficit issue.

This is a frighteningly stupid assertion. It seems to contemplate a monetary circle jerk where new money is created through a loan to the government, paid out to whomever as salary or pursuant to a contract, and then the recipient is heavily taxed so as to get most of the money back. At that point, the monetary system is not reflecting or facilitating or serving the real economy, rather it’s the reverse: the real economy is serving the monetary system. To say that this is pointless and perverse is an understatement.

No theory of money and credit is worth a largely hungry and homeless populace, yet this is what is happening all over the globe: the theory is more precious than reality to those who get to make the decisions. We have government by so-called “technocrats” who are devoted to an idea rather than their subjects. And the idea is ridiculous.

The answer to all this is redeemable money that can exist and be newly issued apart from being loaned. But to get there from where we are will require a jubilee, because all the debt that has piled up cannot be paid back.

And it will take a constitutional amendment.

But this is a good thing. People need to recover their sense of self-government.”


Following the comments section here would prove interesting for some people, too.


Filed under epistemology, financial crisis, Uncategorized

3 responses to “Eight Years Ago…

  1. Joe Smith

    I am interested in this topic, but I don’t have a background in it. I’ve seen it said often that new money has to be loaned into existence, as you wrote 8 years ago, but I don’t really understand that claim. You wrote that this is the only way for a fiat system to regulate money issuance. Why is that?

    The way I understand the claim at the moment is like this. Banks lend money into existence by simply inputting a number into a bank account. Then the money is owed back at some compounding percentage interest. As a result, even if a person took all the money they borrowed out and just paid it right back, there would be some amount of interest that also had to be paid; that money would have to come from somewhere, which means it too would have to be loaned into existence at some point if this were the only mechanism for bringing money into existence. Thus, the total amount of debt is actually un-payable and always growing, because that’s the only way to keep up with the total interest in the whole system.

    Is my current understanding very far off the mark?

    To be clear, simply as a result of observing the effects of the current system, I know something is wrong, and it involves debt. Additionally, a debt jubilee appears to me to be a good option, even if it might seem to reward bad behavior, because it looks increasingly like the choices are between debt jubilee and complete economic collapse forcing a restart. I just don’t really understand why precisely the system is broken, as it clearly is.


    • . >>You wrote that this is the only way for a fiat system to regulate money issuance. Why is that?…..Thus, the total amount of debt is actually un-payable and always growing, because that’s the only way to keep up with the total interest in the whole system.

      Is my current understanding very far off the mark?<<

      No, I'd say you understand it pretty well.

      You just have to imagine you're running the system and try to understand how it might be working – at least after a fashion – from that point of view. System-wide, you've basically set up a "game" in which people – who are in debt – are motivated to engage in economic activity to pay back the debt. They must garner money from each other to pay the lenders.

      Some people will lose the game in the ordinary course. They file bankruptcy. The money that was lent to them then disappears.

      But as long as that doesn't happen too often and, much more often, new goods and services commanding a price continue to appear, the system will function – although debt to lenders will always increase and that's important to bear in mind, too.

      That's the best case scenario.

      The temptation occurs when the ratio of new real goods and services starts shrinking relative to the debt that is being generated and the overseers have the option of fudging all that to preserve the status quo which they invariably then do. And as soon as that starts to happen, even a little bit, it's a snowball effect.

      All the waste and the errors have piled up in what is now referred to as a "derivative architecture" astride the "global economy" which in reality is nothing more than the latest sleight of hand to conceal the enormous problem bubbling up from underneath.


      • Joe Smith

        I see, thanks for expanding on that a bit. Growing up with the system as it is, it is difficult to imagine something else. But obviously incentivizing the concealment of fundamental problems is not a smart way to run anything.


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