Thursday, February 21, 2019

John Mauldin — This Money-Destroying Policy Could Soon Become A Reality

John Mauldin obsessing again.
It was my first encounter with what I thought was economic insanity.
More than 10 years ago, I came across the ideas of economist Bill Mitchell of the University of Newcastle in New South Wales.
He was teaching what he called Modern Monetary Theory (MMT). I looked into it and quickly dismissed it as silly...
Congress has tried to create agencies which would use the Fed to directly create money. These agencies and methods have all been ruled overwhelmingly unconstitutional by the Supreme Court.
So, for the Fed to create money as MMT advocates want, you would have to amend the Federal Reserve Act. Certainly a possibility, but not easy.
Who is being silly here? Congress appropriates, the executive branch enters into contracts, contractors send invoices, and the Treasury pays the bills by directing the Federal Reserve as the government's fiscal agent to settle the accounts. The Fed credits bank accounts in the payments system with its own liabilities (reserve balances) and directs the banks to credit their customers accounts on their books. 

This is how the government issues currency through spending. Transfer accounts and interest payments are pre-appropriated, so the Fed just issues the necessary currency to cover the government's requirements. It's all "free money" for the currency issuer, which doesn't need to obtain its currency and logically can't obtain it since it is all issued by the government. John Maudlin is seriously confused about this process.

What about bank created money? When a bank creates money (M1) by extending loans and crediting deposit accounts, it is not issuing currency. The bank must obtain vault cash from the Federal Reserve to meet demand at the window and it does this by exchanging funds from its reserve balances at the Fed in the payments system which are credits on the Fed's books, which can only be created by the Fed. Similarly, if a bank customer writes a check to the US Treasury to cover a tax liability the bank has to settle that in the payments system using credits in its reserve account at the Fed that only the Fed can create.

This is what the government as monopoly issuer of the currency as its unit of account means operationally. John Mauldin doesn't know this.

He may object that the Fed is a private institution politically independent and can therefore refuse to cover the government's checks. Ben Bernanke scotched that by saying that that the Fed is the government fiscal agent and does what the government authority tells it to do. Is the Fed going to bounce government checks to cover government appropriations and periodic obligations when the Fed is an institution created by Congress and delegated its powers by Congress?  

Again, who is being silly here?
  For perma-bear John Maudlin's record and others similar, see Predictions - A Fool's Errand by
Wade Slome, CFA.

1 comment:

Jure Jordan said...

When banks issue credit they do not create currency but money that is exchangeable with currency. Banks create new money that has to be destroyed. State issues money that is permanent.
Since banks issue money that has to be destroyed later on, the amount of debt has to grow in order to make old credits repayable and then destroyed.
This is the reason that Steve Keen points out to correlation and most likely causation of debt growth and employment. It is also the reason for necessity of inflation to eat the debt away. With moderate inflation partly caused by everincreasing debt levels it makes debt repayable. If there was no increase in debt, then economy would have not enough money to return previous credits and interest. Banks would end up with all the money due to interest payments and become even more damaging to growth.
Just as state finances that services the debt and interest payments with new debt, new bank credit does that for economy at large.