Monetary Realism

Understanding The Modern Monetary System…

Briefly Revisiting S = I + (S – I)


Some readers of Pragmatic Capitalism and Monetary Realism have been underwhelmed by the aesthetics of this equation:

S = I + (S – I)

This says that private sector saving consists of an amount required to fund investment I plus an additional amount (S – I). The structure of the equation is a tautology that cannot be falsified in purely symbolic form, of course. There has been some criticism of it for that reason. For example, one reaction (from a few people) is that a 6 year old could derive the same thing. That criticism is perhaps understandable – absent further consideration of the reason for this decomposition.

Those interested in reviewing the reasoning behind the tautological form – or perhaps seeing it explained for the first time – may wish to read further.

But before that, some earlier references:

Michael Sankowski provided an excellent, brief introduction here:

I elaborated at length here:

And Cullen Roche summarized it in part 6 of his paper here:

With that background, we briefly revisit the reasoning behind the equation. Despite its simple appearance, there is a more nuanced explanation behind it, based on an element of Keynesian style macroeconomic intuition.

Expenditure/Income Sector Decomposition

The standard expenditure/income model:

C + I + G + (X – M) = C + S + T

For purposes of this discussion, the pivotal variable is S, which corresponds to private sector saving.

S = I + (G – T) + (X – M)    *

This says that private sector saving is an amount required to fund investment I, the government budget deficit (G – T) and a current account surplus (X – M).

Subtracting investment I from both sides,

(S – I) = (G – T) + (X – M)  **

This decomposes (S – I) into its two components – funding for the government budget deficit and a current account surplus.

Substituting the left side of **  into the right side of *:

S = I + (S – I)

And that is the equation in question. It says that private sector saving is the amount required to fund investment I plus a residual amount in excess of that, equal to (S – I). The excess amount is deliberately left un-decomposed. The occasional complaint about this form is that it is a self-referencing tautology, since it can also be derived by simple rearrangement of symbols without reference to their underlying meaning.

The ‘Keynesian Skew’

Assume temporarily that the government budget and the current account are both in balance.

Then, from the Keynesian expenditure income model above:

S = I

This equation does not mean that S is the same ‘thing’ as I.

Suppose private sector saving in the current period consists entirely of household saving of S, with the result being an addition to household net worth and a corresponding bank deposit. Suppose also that a corporation has borrowed an amount equal to S to make a new investment I during the same period. Under these assumptions, S = I. But it is obvious that the substance of I (the material substance whose value is recorded on the corporate balance sheet) is different than the substance of S (a net worth increase whose value is measured on the household balance sheet and which equals an amount held in bank deposit form).

It is measured value and not substance that is being equated in S =I.

While this may seem too obvious, it is an important distinction in following the meaning of national income accounting construction and sector financial balances using such symbols.

For purposes of this post, we’ll coin the phrase “Keynesian skew”. This will refer to the idea that government deficits are a rational response to shortages in aggregate demand, as roughly prescribed by Keynes. This translates directly to corresponding saving dynamics. According to the Keynesian skew, the private sector generally desires to save in excess of what might achievable in the absence of government deficits. This means that, unless the country is running a sufficiently large current account surplus that adds to saving, there will be a tendency for S to be insufficient in quantity to satisfy private sector saving desires in full.

Our temporary assumption above was that saving S equals investment I. The Keynesian skew suggests that the quantity of investment I will be insufficient in allowing for enough private sector saving. Aggregate demand and economic output and employment will be stopped out below potential – because the private sector is starving for more saving. A temporary equilibrium has been reached where S = I, but the economy has not yet created GDP sufficient to reach potential.

Again, suppose S = I now holds in a real world situation, and that the economy is performing below potential. There are two ways in which the economy can expand from here. Either investment I increases or something else has to give. In framing the situation, we also make the upfront assumption that investment I has pretty well maxed out.

So assume the government starts to run a deficit as a deliberate policy response.


S = I + (G – T)

Recalling the distinction mentioned above between substance and the measure of substance, the above equation means:

Private sector saving S equals an amount of saving equal to the amount of investment I, plus saving in the amount of the budget deficit (G – T). Thus, private sector saving funds both private sector investment and the government budget deficit.

(The term “fund” is used here in the sense of standard flow of funds accounting and sources and uses of funds accounting. This does not contradict the dynamic of macroeconomic construction, which is that for any accounting period, it is the expenditure on investment and the act of government deficit spending (as well as foreign sector effects in the more general case) that allows the actual private sector saving result. This dual interpretation is analogous to that emphasized in the case of banking, as described in a previous post on ‘loans create deposits’, where it is also the case that ‘deposits fund loans’:

Now bring an active current account into the picture:

S = I + (G – T) + (X – M)

That says that the quantity of private sector saving funds private sector investment, the government budget deficit, and a current account surplus.

This equation might be represented as:


Where SAVEGAP = (G – T) + (X – M)


Why not just write:

S = I + (G – T) + (X – M)



Instead of:

S = I + (S – I)?

This is the question.

The Keynesian skew suggests that investment alone is not capable of delivering an adequate supply of saving to the private sector. Notwithstanding the amount of saving that must be generated by the same amount of investment, there is a residual shortage of saving relative to private sector desires in total – a shortage that can only be alleviated by finding outlets other than investment.

Thus, there need to be two components of private sector saving:

a) The amount corresponding to investment I – which is the amount of saving that at the macro level is created by investment, and which funds investment in the sense of both macro/micro flow of funds accounting and micro level competition for the form of financial intermediation

b) An additional amount, which by residual (tautological) equivalence, is (S – I)

And according to that decomposition,

S = I + (S – I)

This decomposition is logical, according to the assumption of the Keynesian skew. The equation is derived without direct reference to further detail in the national income equations. And that accounts for the simple term (S – I), instead of the explicit sector decomposition (government deficit and current account surplus) noted earlier.

As an alternative, the notation might have been something like:


But the logical association still holds:



Those whose instinct is to dismiss the relevance of such a tautology might consider that the chosen decomposition has a meaning that supersedes the mere observation that it is a tautology. The message of the decomposition is that the Keynesian skew suggests a natural inclination by the private sector to save more than the amount required to fund private sector investment alone – i.e. an excess amount which is (S – I) by residual decomposition.

More generally, the basic idea behind a residual or tautological decomposition is found in Boolean Algebra and Venn diagrams – where a given set is split in two subsets, according to the defined outer set (S), a known subset (I), and the residual gap that remains (S – I).


S = I + (S – I) delineates the idea that (S – I) is the additional saving component, when investment I alone is insufficient to deliver enough saving to achieve economic capacity. That said, a good deal of saving comes from investment I, not (S – I), and that should be a point of emphasis as well. The comparison between those two quantities is important. From there, further sector decomposition of the component (S – I) is naturally of interest. And the full expansion as derived earlier, is:

S = I + (G – T) + (X – M).

The Keynesian skew suggest that the private sector wants to save more than the amount that corresponds to investment I alone. It doesn’t exactly specify that desire as a desire for net financial assets (NFA). The fact that the demand for saving gets satisfied through net financial assets is a consequence of monetary configuration. If investment I is assumed to be maxed out, then additional private sector saving is forced into net financial asset form. But that’s not necessarily because the private sector seeks net financial assets because of their financial form alone. It’s because net financial assets is the only form in which that additional saving can be manifested, given the assumption of maxed out investment I. If investment I could be expanded, a similar aggregate demand impetus and overall private sector saving result might be achieved. In this sense, the NFA ‘solution’ is the result of the ‘failure’ of private sector investment to produce enough saving on its own. It is consistent with the judgment that government needs to act in these circumstances, absent additionally compensating export expansion.

Moreover, the circumstantial nature of NFA compositional demand can be revealed further by looking one more level down in sector decomposition terms. The private sector is composed of the household sub-sector and the business sub-sector. From the perspective of their own balance sheets, households save in the form of both real assets (e.g. residential real estate) and net financial assets (e.g. bank accounts, bonds, stocks; net of financial liabilities). And the household NFA component is present even when private sector S = I. This is because much of investment I is present on corporate balance sheets, from where it is intermediated back to household wealth through financial claims. And that puts the household sector into its own ‘NFA long position’, even when S = I. So when the private sector as a whole is in a state of seeking additional saving beyond the level of investment I  – i.e. seeking positive (S – I) – one should remember that the household sector already holds considerable NFA of its own via financial intermediation from the business sector. It is saving that is the primary quest – not so much NFA – and the NFA result at the private sector level is a function of the assumption that investment has been maxed out, with NFA expansion being the private sector saving outlet beyond that.

(MMT was the original blogosphere promoter of the NFA concept. Like most ideas, it’s been subject to scrutiny and interpretation. The equation in question has been involved in that process.)


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388 Responses

  1. Oilfield Trash says


    Yes I know, I followed JKH and your spirited debate with Matheus, who does not seem to have the same concerns with Steve’s model as you do.

    In the end all of you are smart and my hope is in collaboration ya’ll can work it out.

  2. Fed Up says

    “Loanable funds is wrong because it assumes a fixed money supply (at least that’s the rough idea).”

    I thought loanable funds assumed only the central bank can increase the “money supply”?

    “Endogenous money is right because loans create deposits.”

    So what should people be told who say debt doesn’t matter because we owe it to ourselves, debt doesn’t matter because it is an asset to one entity and a liability to another entity, and debt doesn’t matter because for every borrower there is a lender?

  3. Fed Up says

    More attention needs to be given to how MOA/MOE (currency plus demand deposits) increases and decreases???

  4. Fed Up says

    “Can “It”—a Great Depression—happen again? And if “It” can happen, why didn’t “It” occur in the years since World War II?”

    Yes, it can.

    … because World War II destroyed excess supply and excess labor so economies went back to being AS constrained instead of AD constrained. It took awhile to go from AS constrained back to AD constrained again. I think the 30-year mortgage also played a role.

  5. JKH says

    strange and mystical

  6. Fed Up says

    Ramanan said: “Aggregate demand is simple. It is C – IM + I + G + X and differs from aggregate supply by change in inventories.”

    JKH said: ““aggregate demand = GDP + change in debt”

    And, “That’s the equation that PK called Keen on very specifically in PK’s initial post – i.e. that it made no sense in terms of an internally consistent conceptual framework. And he’s right about that.”

    I believe that Keen includes financial assets in aggregate demand. I think that is a poor definition, but definitions matter once again.

  7. Ramanan says

    Yes right.

    He later changed it to effective demand – as if the change makes any difference.

    There was a strange defense of his accounting here – written at the time:

  8. Tom Hickey says

    I didn’t intend to single out Ellen, since Michael Hudson and others are also factors in that they are widely read and quoted. But this is also a pervasive idea I have seen all over the place without attribution. It’s an idea that seems intuitive and has caught on. In fact it has sort of become a meme that self-propagates.

  9. JKH says

    “aggregate demand = GDP + change in debt”

    People may have forgotten this, but that was the equation that set off the Krugman/Keen debate a year ago.

    That’s the equation that PK called Keen on very specifically in PK’s initial post – i.e. that it made no sense in terms of an internally consistent conceptual framework. And he’s right about that.

    From there it generated into a peeing contest about endogenous money. And Krugman strayed off course on that. But that stuff was all a red herring relative to the original issue, which was the equation.

  10. JKH says

    My interpretation of the circuitist interpretation flows through a Keenian filter.


  11. Cullen Roche says

    Ha, well the whole “diagonalist” terminology was kind of a play on words anyhow and probably confused more than it helped so it never deserved to be #1.

  12. Ramanan says

    I think circuit theory doesn’t conclude it happens like that because outside sectors can add to profits for example but take issue if anyone comes with a resolution with a purely private economy because they think the attempts are not satisfactory enough – at least there is no consensus. They believe however that it can be explained – unlike Marx who I believe thought capitalism is doomed because of this.

    The idea has however helped them come up with great insights.

  13. Tom Hickey says

    Getting an open source model up and running is hugely important since it will attract “crowd-wisdom.” One person working alone and not full time at that is not going to solve this.

  14. Ramanan says

    Yes I think he needs to make small changes in the sense that it won’t affect his infrastructure – but if irons out some starting points, he can come to the right track. Simple tweaks can be useful to him – such as assuming a econometric relationship – variables at any time depending on variables at t – delta so that accounting constraints are not violated. My pessimism is because he doesn’t seem to realize it in spite of various people saying it.

    He knows a lot of literature/history of economics etc., so won’t be stuck by those things – it’s just that someone needs to put him in the right track but he has a track record of going off track.

  15. wh10 says

    Ramanan, but do you think it’s useful to at least have a robust computer model to work off of, even if the accounting isn’t right? For example, some one down the road could re-engineer it to get the accounting right, but it’d maybe be useful to have what Keen’s doing as a starting point.

  16. Ramanan says

    Oilfield Trash,

    I have given up on him.

    He definitely needs to get his accounting right. He had this fashionable idea called anti-money but seems to have gone out of fashion.

    He now has this

    aggregate demand = GDP + change in debt

    which looks like the engine of his model.

    Aggregate demand is simple. It is C – IM + I + G + X and differs from aggregate supply by change in inventories. That is the former doesn’t include change in inventories but the latter does and one can be higher than the other. (although in neoclassical theory it is a curve which intersect the aggregate supply at a price).

    The bad thing about accounting models is that the accounting needs to be tight – else one can produce strange self-inconsistent results. Also from a behavioural point of view, he uses the same variable for the actual and expectation of the variable. He can write big models and even manage to get a supercomputer to solve models but unless he gets the simple things right, he is not going anywhere. He will keep getting Dirac’s runaway solutions.

  17. Oilfield Trash says


    Exactly, money circulates therefore the amount of money (stock) doesn’t limit uses over time (flow where stock turns over several times in a given period). Need the variable of velocity to tie this together.

  18. wh10 says

    Matthijs – right. I do think there is an institutional component as well as behavioral, though; the relative magnitudes of importance, I don’t know. The way loan contracts are structured can increase or decrease flexibility as to timing of payments, which seems like it could affect stability as well.

  19. Matthijs says

    @wh10 “BTW Matthjis I do think you’re over-reaching a bit with this mathematical claim. Like I said, it depends on the temporal relationship. $1 can be used for $1000 worth of activity, but realistically, it can’t all be done at the same time.”
    True, it’s just an example. But I think it’s enough to show what I tried to explain.
    “Matthijs – I think I agree. I used the word “temporal” before, which was my way of getting at “flow.” The idea of principle+interest at the exact same time vs. interest before principle etc is a matter of timing of flows, and in one scenario there’s enough and in one there isn’t. That all said, I must admit, I think the more realistic assumption is that the timing of flows is problematic if you don’t have a base pre-existing deposits, even if comparatively small, not tied to bank loans, but I really have no basis for that other than uninformed intuition. It’s just a sense of what’s needed for stability in general.”
    Yes. In fact isn’t this what you see already happening in the real world? Almost as soon as the flow of new loans/investments decreases temporarily, that can be enough to trigger some recession. Even a decrease in economic growth, say from 4% to 1%, while that is still growth, can trigger a recession if a vicious cycle is created. However, that’s more a behavioral thing then a mathematical rule (as in “there is not enough money to pay the interest”). If enough people start saving too much and spending or investing too little, this negative cycle is created and more and more people can’t pay their debts.

  20. Oilfield Trash says


    Most criticisms of the new theory are often based on alternative theories, rejection of the abstract-mathematical method, misunderstandings, and alleged errors in the theory.

    As Minsky pointed out

    Can “It”—a Great Depression—happen again? And if “It” can happen, why didn’t “It” occur in the years since World War II? These are questions that naturally follow from both the historical record and the comparative success of the past 44 thirty-five years. To answer these questions it is necessary to have an economic theory which makes great depressions one of the possible states in which our type of capitalist economy can find itself. (Minsky, 1982a, p. 5)

    At a minimum Keen’s economic theory and models can product and explain a Great Depression with out the need for black swains. DSGE models or Krugman’s attempt to breathe life back into IS-LM cannot.

    I doubt he is Einstein of economics but I also doubt he is the Silberstein.

  21. JKH says

    which is sort of interesting because we all know that the content of the post itself isn’t exactly universally popular


  22. JKH says


    a bit rushed now so I’ll have to look at your example later today

    but just a point on overall logic around the question/problem at hand:

    as I understand it, the general premise of what we’re talking about is that there are some who believe that it is not “possible” for the banking system to service its interest payments over time without new lending – I would describe that as a categorical proposition – which I think is wrong

    so to demonstrate it’s wrong, I try and falsify it

    the first example falsified it, but happened to include the condition you pointed, which was the existence of pre-existing deposits

    so the next case is to prove that such a condition isn’t necessary in order to falsify the proposition further

    in order to do that however, we must understand what the prohibition of pre-existing deposits means – which I conclude as implying a state of the world in which the banking system simply hasn’t been created yet – by implication of there being no deposits yet

    so I construct an example where the banking system is created and everything is happening for the first time, and where the proposition is again falsified in my construction

    so far, that means to me that I have completely falsified the proposition, because it seems to me that I’ve proven its false in a bisection of all possible world conditions according to the existence or non-existence of pre-existing deposits – if I’ve covered it off in those two states of the world, I’ve covered it off for all space and time, it seems to me

    now, beyond that, I can construct any particular case where the proposition as applied to that particular case is true – but that particular mode in itself is not the essence of the proposition, which is supposed to be universal and therefore unfalsifiable

    for example, if I am unable to pay my credit card bill and go into bankruptcy and if as a result of my personal financial recklessness there is a butterfly effect that ends up causing another global financial crisis and a world depression, then I have proven the proposition in a particular case, but that is not the same as it being a categorically true proposition, which is what I think I have proven to be false

    my guess is that your example(s) may fall into the particular case category, as in my example above, but that does not in itself undo my falsification of the proposition as a universal one

    that’s where I am so far – but I’m open on it – but I’ll have to come back later

    meanwhile, boys and girls, this post is now # 1 on the most popular post list on MR

    pushed the one on diagonal MR out of # 1

    sorry about that Cullen


  23. wh10 says

    BTW Matthjis I do think you’re over-reaching a bit with this mathematical claim. Like I said, it depends on the temporal relationship. $1 can be used for $1000 worth of activity, but realistically, it can’t all be done at the same time.

  24. wh10 says

    Matthijs – I think I agree. I used the word “temporal” before, which was my way of getting at “flow.” The idea of principle+interest at the exact same time vs. interest before principle etc is a matter of timing of flows, and in one scenario there’s enough and in one there isn’t. That all said, I must admit, I think the more realistic assumption is that the timing of flows is problematic if you don’t have a base pre-existing deposits, even if comparatively small, not tied to bank loans, but I really have no basis for that other than uninformed intuition. It’s just a sense of what’s needed for stability in general.

  25. Greg says

    Capitalism vs socialism was the wrong wording, I should have said profit making or surplus. There seems to me to be no profit or room for growing profits the way youve set up your virgin bank story. How does one party become better off than the other?

    How does one party have a higher worth, measuring worth in whatever units the bank is using as its numeraire?

    Somewhere someone in real life ends up with more relative to the rest. More nominal money AND higher prices of the things they own, how does that happen in your virgin bank example is what I want to know?

    Additionally it seems to me that the only way one ends up wealthier is to have more nominal money than someone else. Certainly not JUST more nominal money but the real wealth (or price to use your terminology) difference is accompanied by nominal money difference. Im struggling to find out the mechanism by which that happens in a solely private bank scenario

  26. Matthijs says

    @wh10: your example of not being able to pay the interest only happens on an individual level. Say in a 2 person system, one participant makes money and doesn’t spend it (keeps it in a mattress). The other now has a problem because he can’t earn enough to pay the bank the interest.
    But in the system as a whole, you can’t say there’s not enough money, like in “not enough stock of money”. That’s mathematically impossible, as JKH showed before.

    It’s only a problem for some participants if the flow of money is going elsewhere and gets stuck there and the participants are not able to earn enough.

    Of course in the real world there are billions of participants in a system and there’s trillions going around. So then for each participant it’s just a matter of earning enough individually to pay the loan+interest back. Of course some will not be able to do that and will default.

    What can confuse this issue I think is the stock vs flow thing. When people talk about “not enough money in the system to pay the interest”, they talk about stocks, like there’s literally not enough money. Stocks only matter if you would create an artifical situation in which at exact moment X in time every loan plus interest has to be paid. That doesn’t happen of course. And even then, as JKH showed, mathematically there’s always enough to pay loans plus interest.
    But in the real world what matters is flows. And in that case, there isn’t even a lot of money needed to pay back loans plus interest: person 1 pays the bank $10 interest. The bank pays a supplier for a service. Supplier pays $10 in interest to his bank. That bank also pays someone for something. That person again pays some interest. Etc etc. One $10 note can pay back many times that amount in interest, just by going around many times.

  27. stone says

    JKH, I think Michael Hudson was saying that compounding of interest was symptomatic of the problematic distribution of credit and debt you mention and that it exacerbated that problem. AFAIK Michael Hudson says that although Marx also said the same thing about distribution of credit and debt, Marx mistakenly presumed that industrialists would force the finance system to serve industrialization and so problems with finance would NOT be the problems with capitalism in the future. I don’t know anything about Marxism though (apart from it didn’t seem to work :) ).
    Perhaps (as Tom Hickey mentioned above) Ellen Brown is the one to blame for so many people being muddled about this. Unlike Michael Hudson, she doesn’t give much (if any) prominence to the issue just being one of distribution and spending patterns rather than being an intrinsic accounting property of debt based money.

  28. wh10 says

    JKH – I think I understand this point about dividends taking care of interest payments. However, I think that only works under certain assumptions. I guess, first, do you disagree with what would happen in my specific example, where I used simple numbers and Periods 1 and 2? Secondly, in your Garden of Eden example, if the interest and principle were required at the same exact time, rather than separately, there still seems to be a problem (this basically becomes my example). However, I don’t know what assumptions are most realistic.

  29. JKH says

    that’s my super rough summary of it – maybe too rough

    can you explain your interpretation of it?

  30. vimothy says

    JKH, I don’t see why a fixed money supply is necessary for loanable funds. (My reading is that the loanable funds market is a market for intertemporal trade.) Can you explain the connection?

  31. JKH says

    capitalism versus socialism is not the issue

    the issue is to demonstrate how interest is paid in banking

    one thesis is a categorical statement to the effect of “where does the interest come from”, etc.

    its about that

  32. JKH says


    Loanable funds is wrong because it assumes a fixed money supply (at least that’s the rough idea).

    Endogenous money is right because loans create deposits.

    The money in either case is separate from the issue of investing and saving.

    The money in either case can be used in some cases to spend on newly created investment, which in turn creates new income for the factors of production and forces the creation of saving at the macroeconomic level

    (because investment = saving, at the margin, at the macro level).

    Banks don’t “create savings” by making loans. They create deposits.

    New lending is an asset-liability swap that in itself as a banking transaction creates zero wealth and therefore zero saving.

    The saving and the wealth come later, depending on how the money is used.

    Banks do “create savings” in the form of their own retained earnings – but that’s not the issue of lending creating deposits that you’re referring to.

  33. Greg says

    It seems to me JKH that all youve done in your example of a “virgin bank story” is change a barter of goods to a barter of currency or bank deposits. Help me if Im missing something.

    That scenario does not sound like capitalism its just a third party accounting record of socialism where all the exchanges result in the parties remaining on equal footing, accounting wise.

    Barter is socialism really. I exchange something to you of equal value for something of yours. Neither one of us ends up better off or profiting. To realize a profit someone has to end up relatively better off then the other and in our system a third party bank does the accounting to determine how much better off A is then B……. but the bank gets their piece of every transaction as the mediator.

  34. vimothy says

    “the loan itself does not create saving or savings (flow or stock)”

    Why I ask is that I sometimes see the argument that the loanable funds model is wrong because banks can create the savings needed to finance investment by making loans. (Writing it down like that, it doesn’t seem to make much sense, so maybe someone can help me out with a “stronger version” of the argument?)

  35. JKH says

    I think you’re right.

    I’ve noticed Hudson writing on compound interest but haven’t read his stuff closely.

    I think he’s pretty much associated with MMT.

    What he writes may be compatible, or perhaps more accurately, not necessarily incompatible.

    What I’m responding to I think is a “theory” that it is impossible to earn enough interest to service loans without more borrowing. That’s VERY rough, and as I understand it the idea is associated with Marx and with the Circuitist school (according to Steve Keen). I believe Keen is correct in identifying the theoretical error as one of stock/flow consistency – which is basically accounting. I can’t follow his demonstration of this but I agree with the premise.

    The Hudson issue I think is more associated with how debt and interest payments play a role in economic cycles. I can’t disagree with that – except that I don’t think the problem is with compounding of interest per se, although that doesn’t help. The problem is one of distribution of credit and debt, which is always an issue in recessions and depressions.

  36. stone says

    Further to what I just wrote, I do see that debt funded real wealth can sustainably grow in a compounding way if debt is used to finance real expansion of the means of servicing that debt through improvements in technology, infrastructure and organisation that can find paying customers. Those are crucial caveats though.

  37. stone says

    , I must say there is an ideological tinge to the survival of that misunderstanding – as in those bad banks who must keep on lending in order to get the interest paid, and as in Marx ensuring the collapse of capitalism because interest simply can’t get paid. ……. I also don’t recall seeing where the MMTers have written about this, but quite possibly I’ve just missed it.

    Does Michael Hudson count as a MMTer? He is a standard bearer for the “miracle of compound interest = disaster” brigade. To my mind however Michael Hudson’s stuff seems entirely compatible with all you are saying because Michael Hudson is so clear about unsustainability being a consequence of those receiving interest NOT choosing to spend it back to those paying the interest. He is repeatedly very explicit about that. After all “compound interest” by definition means compounding the interest rather than spending it on tattoos or whatever :) . To my mind all the issues regarding wealth inequality etc are actually brought into sharper focus by the clarity you are giving this.
    Before I started reading this blog I had a go at wrapping my head around the whole “miracle of compound interest” thing; it is on page 11 “Monetary expansion attempts to realise the miracle of compound interest” of this link:
    Looking back at it, I still think it is compatible with what you are saying because you are talking about servicing a steady state of debt that can be funded out of the current economy whilst “the miracle of compound interest” is all about creditors not wanting to spend and more debt being issued to compound “imaginary” wealth.

  38. JKH says

    So you acknowledge the example works with pre-existing deposits.

    Therefore the only question is whether it works without pre-existing deposits.

    We can prove that by demonstrating it can work at the birth of the monetary system – before there were any banks or deposits.

    We’ll refer to this as … um… the Garden of Eden monetary system.

    Two agents emerge from the wilderness of barter, seek to bite into something of a monetary nature.

    X produces something real that he would have exchanged with Y for something of equal value.

    So God sets up a monetary system with banks.

    God decrees no risk and no capital requirements – things will work out.

    So X and Y each borrow an equal amount from the bank and are credited with a deposit.

    They each swap their deposit with the other in exchange for the goods they each produce for the other.

    The bank charges each of them the same interest on their loan but pays no interest on their deposits.

    God in his wisdom instructs the bank to pay a dividend to each of X and Y, based on an initial allocation of equal common shares in the bank for each of them.

    All payments occur at the end of the period.

    The dividend pays for the interest.

    They each have their desired stuff and pay back their loans.