Krugman on Say’s Law

Here:

http://krugman.blogs.nytimes.com/2013/02/10/still-says-law-after-all-these-years/

Still Say’s Law After All These Years

“When John Maynard Keynes wrote The General Theory, three generations ago, he structured his argument as a refutation of what he called “classical economics”, and in particular of Say’s Law, the proposition that income must be spent and hence that there can never be an overall deficiency of demand. Ever since, historians of thought have argued about whether this was a fair characterization of what the classical economists, or at any rate his own intellectual opponents, really believed.

Not being an intellectual historian myself, I won’t venture an opinion on that subject. What I will say, however, is that Say’s Law (Say’s false law? Say’s fallacy?) is something that opponents of Keynesian economics consistently invoke to this day, falling into exactly the same fallacies Keynes identified back in 1936.

In the past I’ve caught Brian Riedl and John Cochrane doing it; now Peter Dorman finds Tyler Cowen in their company.

Cowen can’t see why corporate hoarding is a problem. Like Riedl and Cochrane, he concedes that there might be some problem if corporations literally piled up stacks of green paper; but he argues that it’s completely different if they put the money in a bank, which will lend it out, or use it to buy securities, which can be used to finance someone else’s spending.

But of course there isn’t any difference. If you put money in a bank, the bank might just accumulate excess reserves. If you buy securities from someone else, the seller might put the cash in his mattress, or put it in a bank that just adds it to its reserves, etc., etc. The point is that buying goods and services is one thing, adding directly to aggregate demand; buying assets isn’t at all the same thing, especially when we’re at the zero lower bound.

What’s depressing about all this is that Say’s Law is a primitive fallacy – so primitive that Keynes has been accused of attacking a straw man. Yet this primitive fallacy, decisively refuted three quarters of a century ago, continues to play a central role in distorting economic discussion and crippling our policy response to depression.”

…………………………………

The underlying issue here at the present time seems to be the lack of investment mobilization of corporate cash hoards that presumably have resulted from corporate profits. To the degree this is correct, it concerns a certain tranche of macroeconomic saving – undistributed corporate profits or retained earnings.

Aggregate macroeconomic saving at any point in time is a recorded event that cannot have taken place unless there has been corresponding macroeconomic investment.

In addition to this macro level saving, well defined sector measures of saving can reflect dissaving in other sectors. This type of saving is not matched by investment. Sector dissaving cancels out sector saving at the macro level.

Both of these kinds of saving involve matching up of expenditure to income (or borrowed income), ex post.

Such measures are income statement measures, from a financial accounting perspective.

At any point in time, it is simply not possible for already measured macroeconomic saving to finance new investment. Such saving corresponds to macroeconomic investment that has already been made.

The saving that will correspond to investment that has yet to be made can only materialize in future accounting statements. All saving that has been made to date is already used.

And this is the case regardless of whatever pattern of corporate profits and cash hoarding that is already in place.

And that is really goes to what is wrong with Say’s Law at the most fundamental level.

Say’s Law denies that a propensity to save from income can cause underemployment of resources. In other words, it claims that a propensity to save will be matched by employment of resources. This is what Keynes attacked. Aggregate demand can fail as a process.

But saving from income doesn’t finance investment in ANY meaningful ex ante aggregate demand sense – let alone the way in which Say’s Law or Tyler Cowen seem to think it does. Macroeconomic saving cannot be deployed, ex ante, into new investment. That relationship has already happened. And so Say’s Law cannot hold simply due to the error in macroeconomic causality of saving and investment and the impossibility of attempting to force saving to “do something” in terms of an ex ante effect on the employment of resources.

Banking is part of the mix. This muddies the waters even further, and in complicated ways.

The income statement measures of consumption spending, investment, and saving are not directly related to the way in which the medium of exchange is sourced to spend on new investment – or the way in which it is used to provide inter-sector finance (e.g. bank consumer lending) that causes spending and related sector specific dissaving to generate sector specific saving in the future.

For example, there is no way that macroeconomic saving can be “put in the bank” that subsequently lends it out to new investment projects that “use” that same saving at the macro level. This is a sequence of conflated real and monetary causality and timing that is logically impossible.

First, as noted, macro saving can’t create investment, ex ante. Second, the bank deposit that both Krugman and Cowen refer to in their examples already exists in the banking system. That money corresponds (by popular presumption) to the (presumed) cash result of retained earnings, which in turn have been generated by prior sales of goods and services. The monetary execution of those sales includes transfers of money from buyers’ banks to sellers’ banks.

That money cannot fund a new loan in the macro sense. Loans create deposits at the macro level – not vice versa. Existing loans already account for deposits originally created from them. In addition, the liability composition of banking is constantly swirling in mix such that deposits may be converted into other liability forms and vice versa. But all of that occurs within the accounting constraint of double entry bookkeeping, such that deposits that exist at a point in time cannot logically be linked to subsequent incremental lending at the macro level.

More generally, banking stocks and flows are quite separate and distinct from the macroeconomic measure of saving and investment. By even referencing corporate cash hoards in the same context as presumed corporate saving, the issue of Say’s Law has become commingled with the issue of accounting coherence.

The “primitive fallacy” of Say’s Law in conjunction with the existence of a monetary system mangles the required logical linkages of accounting across time and across the real and monetary subsets of accounting at a point in time. This mangling appears to be deeply embedded in mainstream economics. Banking transactions such as those referred to are generally captured in flow of funds accounting, while any expenditure and income effects that may be subsequently associated with that flow of funds are measured in income statement accounting. NIPA is an example of macro income accounting. The Fed Flow of Funds report is an example of macro flow of funds accounting. In this sense, roughly speaking, income statement accounting is aligned more closely to the mathematical measure of real economy output – while flow of funds accounting is aligned more closely to the mathematical measure of monetary economy activities that enable the liquidity to support that income generation. That bifurcation is not pure, but it is notable. These two types of accounting, while separate, are inextricably interconnected by pristine logic – which is what comprehensive financial accounting is about.

Krugman is obviously right on Say’s Law, and in his basic message about the macro dynamics of aggregate demand. But his writing seems to complicate the explanation of aggregate monetary dynamics by citing micro level examples that obscure substantive macro accounting issues. For example, there’s no need to introduce bank reserves into such a discussion. There is no need to talk about “putting money in the bank”, when the money is already in the bank at the macro level. This micro fall back tendency is in evidence in other discussions involving banking – such as the recent monetary base debate with Steve Waldman, or the big banking debate with Steve Keen a year ago. On banking, perhaps Krugman tends to go a little too micro, when he might stay macro. Perhaps there is a way of explaining banking system T accounts at the macro level that would be translatable to his NY Times readers, although this would be difficult. Apart from that, he seems to know and explain everything as well as anybody.

The thing about corporate cash hoarding is that there is not even a precise linkage between that and corporate saving. It is quite possible and even likely that a strong correlation does exist and perhaps has been excavated from the flow of funds reports – but it is also the case that corporate balance sheets reflect complex patterns in the flow of funds that overtake the assumption of a simple connection from retained earnings to cash in the bank. In any case, it is the future flow of funds that will end up determining the future deployment of those cash balances. And when that happens, the associated future investment and saving will be separate from the macro level saving that has already occurred.

Comments
  • Ramanan February 11, 2013 at 9:35 am

    JKH,

    I am not sure what you mean when you say

    At any point in time, it is simply not possible for already measured macroeconomic saving to finance new investment. Such saving corresponds to macroeconomic investment that has already been made.

    It is true investment creates saving but saving can finance new investment.

    Say during a year I earn 100, pay taxes of 20 and consume 50.

    My saving is 30.

    I finance a new house purchase of 200 with the 30 and borrowing 170.

    Of course this act of house purchase doesn’t change my saving and it is 100-20-50 = 30 still.

    But the saving has partly financed an investment.

    I can go one more step and think of another example – consuming all my disposable income and financing a new house by a mix of sale of existing financial assets and borrowing.

    Tyler Cowen’s error seems to be that he is saying if a corporation purchases commercial paper, there is an increase in investment and thinking of the investment decision as a result of someone’s purchase of commercial paper – scarcity of funds etc.

    • JKH February 11, 2013 at 10:04 am

      Hi Ramanan,

      In your example, “already measured macroeconomic saving” is 30.

      The “point in time”, defined in sequence relative to what is “already measured”, is at the end of the year.

      And the investment has already been made.

      So saving equals (a portion of) investment, ex post.

      So that saving can’t be available to finance “new investment” – which pertains to the time period starting at this “point in time” – i.e. the upcoming time period.

      Cowen is making an error of the Say’s Law type, as well as an error in the relationship between income and flow of funds accounting.

      • Ramanan February 11, 2013 at 10:47 am

        JKH,

        What I am saying is about the sources of financing. So saving is one source and borrowing is another. So investment is financed by both saving and borrowing. So although, investment is not limited by saving alone, there is no contradiction in saying that saving finances investment if it is understood that it is also financed by borrowing and understood that investment is not limited by saving or funds in existence.

        • JKH February 11, 2013 at 11:24 am

          Ramanan,

          I’m trying to address two intertwined issues here.

          The first is the issue of aggregate demand – in the context of Say’s Law, and the refutation of Say’s Law. That requires treatment of investment and saving at the macro level. If you look at the post closely, you’ll note the number of times I’ve prefaced various statements with the macro level qualification.

          The second is the issue of the relationship between that first issue and the banking system, or more generally the flow of funds. Here I’ve tried to distinguish aspects such as “money in the bank” or “borrowing” from the basic Say’s Law and related aggregate demand logic whereby expenditure must equal income, and investment must equal saving (e.g. global macro).

          The interesting thing about Krugman’s analyses is that he makes the right case with respect to the first issue (IMO), but in explaining this in banking system terms he tends to slip a bit. This appears to me to be a common theme – throughout his debates with MMT, Keen, and Waldman.

          With respect to your statement – it is a statement of micro de-consolidation of the flow of funds. And it is a statement of the ultimate de-consolidated financing configuration that corresponds to a macro level investment/saving equivalence. And I agree with it to a point. But it doesn’t negate the macro level ex post required equivalence of investment and saving.

          But I think one still needs to be careful in characterizing the difference between income accounting and flow of funds accounting at this micro level. As an example, if a household saves from income, and deploys that flow of funds into a bank deposit, and if a corporation has borrowed from that bank to invest, then the macro marginal effect is that saving will have matched investment – but the micro effect is that the corporation has borrowed and not saved.

          So I don’t think our points are in fundamental conflict here.

          • Ramanan February 11, 2013 at 3:18 pm

            Yeah agree.

            I didn’t quite follow his debate with Waldman.

            Your points here and elsewhere about Keen are right. Krugman really had a point. But his description mixed so many things giving people a chance to ….

            What about Krugman v MMT. Did he have any discussion on these matters with them?

          • Ramanan February 11, 2013 at 3:23 pm

            Btw have you seen the “Kickstarter”?

            • JKH February 11, 2013 at 7:00 pm

              no?

      • Dan Kervick February 11, 2013 at 11:05 am

        JKH, isn’t this just a “saving” v “savings” issue? In Ramanan’s example, the income during Year One in 100, consumption is 50, taxes are 20 and saving is 30.

        These are flow quantities. That saving of 30 adds to one’s stocks of savings. Suppose for the sake of argument that the pre-existing stocks are 200, so that at the end of the Year One accounting period they have grown to 230.

        Now lets suppose that in Year Two, income is still 100, taxes are still 20, saving is zero and consumption is 300. In other words, the agent has used the 70 portion of current year income not taxed plus the 230 in pre-existing savings to finance 300 in consumption. In that case, wouldn’t we say Year One saving has helped finance the Year Two consumption?

        No just change “consumption” to “investment” throughout and we have consumption financing .

        So while it is certainly true that net saving measured over a given accounting period can’t finance investment during that same period, surely it can finance investment in a succeeding period, no?

        • Dan Kervick February 11, 2013 at 11:06 am

          Garbled: “No just change “consumption” to “investment” throughout and we have consumption financing .”

          Meant to write: “Now just change “consumption” to “investment” throughout and we have saving financing investment .”

        • JKH February 11, 2013 at 11:59 am

          Dan,

          Again, the backdrop here is Say’s Law, aggregate demand, and the banking system macro behavior that corresponds to those issues.

          In this regard, it is important to distinguish between income accounting and flow of funds accounting, and between macro and micro.

          Macro level saving – when identified – must correspond to a defined time period for that identification. And in that time period, that saving must correspond to investment in the same time period. This is a matter of expenditure/income accounting construction. That nets out all distribution patterns that relate to the micro or sectoral flow of funds. The intra-period equivalence must occur by construction of income accounting – and it is invariant to the flow of funds that connects saving to investment.

          When you say:

          “So while it is certainly true that net saving measured over a given accounting period can’t finance investment during that same period, surely it can finance investment in a succeeding period, no?”

          I’d say that cannot be true at the macro level and it’s less than half true at the micro level.

          It cannot be true at the macro level because of the temporal construction logic I noted above.

          And it really cannot be true at the micro level – with respect to the micro impact on macro investment and saving. When you say that surely the cumulative stock of net saving over several accounting periods can finance investment in a succeeding period, what you’re really claiming by default (IMO) is that the stored flow of funds corresponding to that cumulative micro saving will now be used to acquire the same amount of new investment in a subsequent period. But that application of liquidity in the flow of funds is not the same as the actual macro saving that corresponds to the new investment as both of those track in income accounting terms. The new macro investment will be offset by new macro saving in the new period. That stored cumulative saving at the micro level has already been “used by” (generated by actually) investment that has already happened in prior periods. It is the “veil” of liquidity storage that obscures this.

          This sort of logical portioning is fundamental to the difference between income accounting and flow of funds accounting.

          Also – in your example, you have “used” a stored stock of micro saving to finance micro consumption. That is a further complication, but what it really means is that somebody else has saved in the current period, in order to finance at the macro level the excess of your current period consumption over your current period income (which represents your dissaving in the current period).

          • Dan Kervick February 11, 2013 at 2:51 pm

            That is a further complication, but what it really means is that somebody else has saved in the current period, in order to finance at the macro level the excess of your current period consumption over your current period income (which represents your disaving in the current period).

            Why is that true JKH? Again, it seems like you are only talking flows. If there are pre-existing stocks of savings, then why does excess current-period consumption or investment at the macro level have to be financed by current period saving?

            If a guy decides one year to eat all the canned beans he has stored up in his bomb shelter for ten years, no one in the economy has to save any additional beans that year for that to happen. The same is true if a carpenter decides one year to invest his entire stock of saved nails in the production of new furniture.

            It seems to me Say’s Law is bunk no matter what model we use. Say doesn’t even seem to recognize saving at all, or acknowledge that businesses can build up stocks of unused capital goods or put their money in a safe. He thinks that the depreciating value of both physical goods and money means every acts on an urgent need to exchange every bit of income right away. It’s crazy.

            It seems to me that the current Say-like reasoning is based on (i) the partially-correct view that at the level of the individual, household or firm, saving in the modern world always takes the form of purchasing a financial asset, and (ii) the false and deeply misleading idea that financial assets are all claims on flows of goods and services produced by business investment, or on the monies exchanged for those goods and services. The economist and ordinary folk then misleadingly classify the purchase of a financial asset as an “investment” – no matter what kind of asset it is, and conclude that all saving in the society is concurrently investment.

            But the interest flowing from at least one form of financial asset – government securities – is not grounded in real investment at all. It is just money flowing out of a government that has the capacity to emit money without receiving it in exchange for the value created in the production of a good or service.

            • JKH February 11, 2013 at 5:54 pm

              Dan,

              Yes, I am mostly talking flows (which BTW is unusual for me, but appropriate to the emphasis here).

              In fact, investment at the macro level equates to saving at the macro level – as a period flow.

              Any constituent micro interactions in the flow of funds within that period are subject to a macro level accounting constraint in terms of their additivity in the total effect. The fact that a corporation may have more cash on hand to spend on current period investment than earned in current period undistributed earnings can’t undo this macro level constraint. Things must add up. And because of that, what is properly recorded as a deficit of saving relative to investment within the corporation (the excess of investment over undistributed earnings) must be offset by current period saving elsewhere.

              I think Krugman does a pretty good job of debunking Say’s Law, apart from some fine tuning that might be desirable on the banking side.

              Saving doesn’t always take the form of purchasing a financial asset. Households can save and purchase new real estate. The macro accounting actually registers this as an asset swap for an investment that has already been made by the firm that constructed the house. But it is the production of a real asset that becomes part of GDP output in the current accounting period and a real investment that is offset by household saving.

              “The economist and ordinary folk then misleadingly classify the purchase of a financial asset as an “investment” – no matter what kind of asset it is, and conclude that all saving in the society is concurrently investment.”

              Yes, that’s definitely a confusion in colloquial terminology. I’ve never sweated this one myself (in the sense of walking and chewing gum) but I can definitely see how it becomes an obstacle that interferes with a more popular understanding of the relationship of finance to economics.

              “But the interest flowing from at least one form of financial asset – government securities – is not grounded in real investment at all.”

              Right – but that difference is definitely captured in macro level accounting. Treasury bond interest is explicitly not part of macro level GDP accounting – not as an additive component. It is treated more like an internal transfer payment at the macro level – like a negative tax or tax expenditure in effect. And taxes, positive or negative, do not directly affect GDP or income. They only affect disposable income.

              Regarding beans and nails, I think that goes to customized accounting classifications. I suppose you could classify either of those things as inventory investment that would be matched by current period saving. Then, as the inventory is drawn down, there is negative net investment and saving, offset by consumption – in the case of beans at least. In the case of nails, perhaps it’s a conversion of one form of inventory to another, both of which are investment until they are sold in the case of a firm. Or I suppose an inventory of nails can be “consumed” over time if used by a household. These are reasonable economic examples, but they are sensitive to domain and accounting classification in a holistic and consistent macro framework.

              • Dan Kervick February 11, 2013 at 6:44 pm

                In fact, investment at the macro level equates to saving at the macro level – as a period flow.

                This is what I’m challenging. Why is that a macro level constraint for any period?

                • JKH February 11, 2013 at 7:21 pm

                  Because it’s the way the national accounts are constructed.

                  And it’s straight out of Keynes – consistent with the sector financial balances derivation, also from Keynes:

                  C + I + G + (X – M) = C + S + T
                  I = S + (T – G) + (M – X)

                  S is private sector saving
                  (T – G) is government saving
                  (M – X) is foreign saving

                  S + (T – G) + (M – X) is total saving

                  So, I = total saving

                  • Jose Guilherme February 11, 2013 at 9:08 pm

                    Of course, it’s never too much to stress once again that this should be understood as a mere accounting identity, not necessarily implying that “Investment is a function of Saving”.

                    In fact, the identity could be turned around to “prove” that saving is a function of investment.

                    Just like in the PK expression that “bank loans create deposits, instead of deposits creating loans”.

  • Philip Diehl February 11, 2013 at 11:10 am

    Unfortunate that this is too long to post as a Comment on Krugman’s blog. Perhaps you could introduce it and provide a link within the 1500-character limit.

    • JKH February 11, 2013 at 6:18 pm

      Hi Philip,

      I’m not sure such a link would generate a whole lot of excitement for him.

      However, I’m suddenly in the mood for some mild impertinence. I understand he lives in New Jersey, so I was thinking it would be nice if he were to go on a weekend camping trip to the Pine Barrens, for the sole purpose of reviewing banking system T accounts at the macro level.

      I’ve watched one too many Sopranos episodes to be available for that discussion – but was thinking that Scott Fullwiler of MMT fame might want to volunteer, given his notable expertise in the area and the amount of frustration he’s experienced and the investment he has made in this very issue – and with Krugman in particular.
      :)

  • Sergei February 11, 2013 at 12:50 pm

    There is no need to complicate it that much. Say’s law is a barter law and as a barter law it is correct. The problem is not that it is wrong but that we do not live in the barter world.

    • JKH February 11, 2013 at 1:34 pm

      Krugman doesn’t seem to agree with that explanation – he’s been on the case in detail ever since he published “The Dark Age of Macroeconomics”, and has never mentioned it.

      • Oilfield Trash February 11, 2013 at 3:27 pm

        JKH

        Maybe Krugman needs to read Say,

        Every producer asks for money in exchange for his products, only for the purpose of employing that money again immediately in the purchase of another product; for we do not consume money, and it is not sought after in ordinary cases to conceal it: thus, when a producer desires to exchange his product for money, he may be considered as already asking for the merchandise which he proposes to buy with this money. It is thus that the producers, though they have all of them the air of demanding money for their goods, do in reality demand merchandise for their merchandise. (Say 1967 [1821])

        Kates sum up Say law as “demand in aggregate was made up of supplies in aggregate.” (Kates 2003: 73–4).

        As you know the world in which we live is one in which goods are purchased using both the proceeds of selling other goods and credit, while what is bought and sold includes existing assets as well as newly produced goods.

        Say is relevant only to a world of either pure exchange or simple commodity production, not relevant in a montary system.

        • JKH February 11, 2013 at 6:05 pm

          You are making the same point as Sergei.

          I should probably yield on this one – because I think you guys know what you’re talking about. And in fact, one of my favorite market monetarists likes to associate Say’s Law with barter.

          But let me offer this as a final (hopefully not too impertinent) observation:

          Krugman strikes me as an economist of that very strange type who makes an honest effort to link his theories and his thinking to real world sighting. So I suspect the reason he’s never invoked the Say’s Law/barter explanation is that he is aware that Say himself was not a functioning agent in a barter economy.

          That said, Krugman has also suggested that Mars is the ideal place for everybody to export to – so that all can enjoy current account surpluses.

          Which reminds me – there is absolutely no doubt that Say’s Law is in full operation on Mars, which as everybody knows, has a barter economy.
          :)

          • Oilfield Trash February 12, 2013 at 10:13 pm

            JKh

            Krugman strikes me as an economist of that very strange type who makes an honest effort to link his theories and his thinking to real world sighting. So I suspect the reason he’s never invoked the Say’s Law/barter explanation is that he is aware that Say himself was not a functioning agent in a barter economy

            I think you are right, but Krugman is salt water neoclassical. I have no doubt he is a great economist, but only in a world where ISLM and other such models work.

            He does not undersand bankiing in a monetary system and the role of credit, therefore he offers no insight to our current situation,

            Your work has shed more light this than anything Krugman has offered. I hope he is able to catch up.

            • Jose Guilherme February 12, 2013 at 10:28 pm

              IS/LM may have shaky theoretical foundations but – with a flat LM curve – it does have a fairly good predictive power in a recessionary world.

              Maybe Milton Friedman was at least partially right when he said that unrealistic assumptions did not matter much as long as an economic model’s predictions stood the test of reality.

              At any rate, Krugman’s predictions on the economic scenario of the U.S. and Europe under austerity were right on target. He deserves credit for that.

              • Oilfield Trash February 12, 2013 at 11:31 pm

                Jose

                Ok , but asked yourself a very basic question. Do you as a economist continue to work a model, which missed one of the largest economic events in post depression time, or do you maybe have to admit something is wrong with your model.

                Any serious economist who has no detail understanding of banking and MR is of no use in the current enviorment.

                Krugman is a smart guy, but he is not current to a monetary system. Imo at the root of his thinking he sees monetary dyanmics as a veil over barter.

                I know this is a simplistic response but IMO it clouds his thinking. His debate with Keen on this very topic speaks volumes.

                I could do into very detailed debate on ISLM, using Hicks himself as my fuel, but I do not think it matters much for this thread,

                I really want Krugman to have his Mea culpa, but I can not wait for him to do this in order to move forward.

                • stearm February 13, 2013 at 4:42 am

                  Not to defend Krugman, but to believe that a model can explain everything is like believing in God. It’s a sign of epistemic closure. I am not sure that banking and monetary theory has something useful to say about real variables under current conditions.

    • BF February 11, 2013 at 3:41 pm

      Hi JKH and Sergei,

      Those who invoke Say’s Law do think the modern monetary economy can be properly understood as if it were some imagined debtless and moneyless barter economy. It boggles my mind that economists who have really basic errors in their thinking are called economists.

      In maths someone proved 2+2=4 and from then on the answer of 5 was no longer acceptable. In economics wrong ideas on what should be black or white subject matter occur all the time seemingly due to a lack of comprehension about how the accounting works. Anyway, I just wanted to add that some of the orthodox economists from yesteryear had a more pragmatic understanding of Say’s Law; than the modern day ‘Chicago School’ professors [of ignorance].

      UNCTAD, TDR, 2006, p. 35, http://unctad.org/en/Docs/tdr2006_en.pdf
      “To take Say’s Law (“supply creates its own demand”) for granted and to analyse development processes as if saving would always smoothly adjust to investment assumes away the most demanding of all economic problems. Contrary to modern interpretations J.S. Mill (1909), and along the same lines J.A. Schumpeter (1954), saw Say’s Law just as a rule for rational behaviour of economic agents in the long term. In their interpretation, Say’s Law simply states that the needs of people do not restrict supply because those needs are indefinite. It was meant as an argument against theories of need saturation that were quite popular at that time. David Ricardo, in his “Principles of economics” in 1814, already put it this way: “If people ceased to consume they would cease to produce” (Ricardo, 1814: 293). Hence, Say’s Law does not exclude the kind of event that disturbs the process of economic development so fundamentally: shocks on the demand side of the economy, including shocks stemming from the deterioration of monetary conditions.”

      • JKH February 11, 2013 at 6:33 pm

        thanks, BF – that’s interesting

    • Morgan Warstler February 13, 2013 at 12:23 am

      wrong. MONEY is for the same people that BARTER is for – the people who have and excess amount of shit to trade

      money is not a social tool for dirty hippies who have no shit to seize the reins of power.

      get over it.

      • Morgan Warstler February 13, 2013 at 12:28 am

        I REPEAT: GET OVER IT. GOVERNMENT AND MONEY ARE STRUCTURES CREATED FOR THE PEOPLE WHO MATTER, THE REST ARE LUCKY THEY GET DOWNLINE EFFECTS INSTEAD OF MUD HUTS.

        YOU CANNOT ARGUE MONEY AS A SOCIAL GOOD UNTIL THE FAT LAZY ZMP WORKERS WHO HAVE NO GUNS BUT FREE FOOD AND 500 TV CHANNELS ARE ORGANIZED INTO A KILLING MACHINE.

        Do you have that?

        Then PLEASE for the love of god, STFU.

        Money is a veil for barter, if you don’t have the reins of power, you don’t get to argue with me.

        • Tom Hickey February 13, 2013 at 1:21 am

          Off your meds again?

          • Morgan Warstler February 13, 2013 at 7:20 am

            NOTE: nobody has argued with my barter critique, I’m winning this point, JKH??? Mike??

            C’mon I’m winning on barter what is your response?

            • OhMy February 15, 2013 at 7:56 am

              You are winning? Charlie Sheen? Is that you?

            • Greg February 15, 2013 at 12:06 pm

              Money is not the veil for true barter.

              A true barter system could never end up with the distribution we have. In barter you trade things of equal value. Its a zero sum game. The barter system that must be played to end up like this is more like;

              ” Hey I want that”
              “Nope, dont want anything you are offering”
              “Okay,….well how about I kill you if you dont give me that

              Its a pure bully system
              Somewhere someone didnt trade anything other than a promise NOT to kill someone to get what they wanted.

              And as you pointed out (rightly I believe) that the state did not start out as anything other than property rights protection, that which was stolen by bullying got codified by law and then protected by enforcement of law.
              There is no modern capitalism without a strong state. It is necessary to the function of capitalism.

              A pure barter system is socialism.

  • stone February 11, 2013 at 1:11 pm

    In Ramanan’s example of his saving to buy a (presumably) pre-existing house, is that even investment? If Ramanan had paid builders to make a new house, then I would understand that as being investment but isn’t Ramanan simply passing his savings to the person selling the pre-existing house- so no investment? The investment (to make S=I) might be some unsold inventory that perished and went to waste because Ramanan saved to buy a house instead of consuming that inventory? Am I in a muddle about this?

    • JKH February 11, 2013 at 1:37 pm

      No muddle – Ramanan did note he was considering a new house.

  • Jose Guilherme February 11, 2013 at 3:26 pm

    “Tyler Cowen’s error seems to be that he is saying if a corporation purchases commercial paper, there is an increase in investment”

    Perhaps he simply fell victim to the imprecision of the English language in such matters.

    The French distinguish between “investissements” – amounts spent on new, “physical” assets such as machinery, housing etc. – and “placements” (financial “investments”, that merely swap one form of financial asset, like money, for another form of said asset, such as a share of stock, a bond, etc.).

    Maybe the time has come for Anglo-Americans to adopt a French word into their vocabulary in order to help prevent famous economists from making embarassing, likely unintended, errors.

    • JKH February 11, 2013 at 6:40 pm

      imprecision of language can be met – if absolutely necessary – by walking and chewing gum

      critical imprecision of thought goes to something more serious though

    • Dan Kervick February 11, 2013 at 6:41 pm

      Exactly. The use of “investment” has evolved, and the occasional fusion of two very different meanings continues continues to sow confusion in all of these discussions.

  • Fed Up February 11, 2013 at 4:45 pm

    This probably won’t be right the first time I say it, but here goes:

    MOA = medium of account and MOE = medium of exchange

    What is the MOA & MOE in the USA today (currency, central bank reserves denominated in currency, demand deposits denominated in currency, or any combination of those)?

    Is debt denominated in MOA/MOE the easiest way to violate Say’s Lay?

    Can saving in the MOA/MOE “violate” S = I? (See Sergei’s comment at February 11, 2013 at 12:50 p.m.)

  • stone February 12, 2013 at 3:23 am

    Am I right in thinking that we hold much of our savings in the form of “real” assets such as houses, factories etc BUT that the value of those real assets relative to say our monthly salary or the price of milk is backstopped by the total amount of financial assets that they compete with for price? Most of those financial assets are private debts that can default. So potentially the stock of real assets in the economy could collapse (in monetary value terms) down as far as private debts could default. So the core of all real and financial asset values are the government created NFA that can’t default. In the long run if the government didn’t change the amount of NFA then the stock of private debts would not grow since interest payments would be matched by defaults and consequently the monetary value of real assets would not grow even if we had some futuristic world where robots did everything and so capital was the whole economy and labour was redundant. Sorry if this has wandered off to elementary stuff that I ought to have known before trying to follow this discussion.

    • JKH February 12, 2013 at 6:56 am

      Sumner continues to try and carve out a narrative of his own personal ‘arc de triomphe’ over Krugman. He’s been obsessed with this, starting with his earliest posts. It appears that Krugman has in effect been ignoring him as a serious contender all along. And I recall now that the irrepressible Moldbug very early on pinned down Sumner as monetary crank.

    • Morgan Warstler February 12, 2013 at 1:19 pm

      It looks to me like the base mistake is Krugman’s.

      Tyler’s right. Sumner’s right. AND if there wasn’t IOR, the cash hoard wouldn’t be sitting in reserves.

      Without IOR, savings = investment again.

      Whats sick, is that anyone (lefties) are screaming about corporations hoarding, instead of screaming that banks shouldn’t be getting goosed to not lend.

      Put the money out there, sell off the shadow inventory of houses at a loss, admit the bankers are all less rich, take away their homes, kick their kids of of private school, depreciate the value of Manhattan land.

      Surely before we print more money to scare corporations we all prefer to see bankers go through a killer of musical chairs!

      We know where the money is – it is sitting in reserves.

      Ask another question. If the US wasn’t wasn’t selling t-bills, and magically ran a balanced budget, what would a “safe asset?”

      Why should ANY asset be safe?

      GUYS, look to gut check some of this stuff, you need to start with things like: would real demand increase if real prices went down? Like from an immense unending supply of super cheap oil? Or an invention to to reduce personal transportation, like everyone works form home.

      You have to admit that the underlying innovation, the time savings, the lower costs of inputs, digital vs. atomic – many of things deflationary ARE EVIDENCE OF ECONOMIC GROWTH.

      And if your system of economics just freaks out and pisses down its leg whenever we get near 0 inflation, you aren’t really grokking how much growth is possbie, if you focus on ruthless cost cutting in your policy proposals.

      Surely ending the US Postal Service is evidence or GROWTH. The issue isn’t 400K no longer getting paid X salaries.

      The sad thing is that it took us so long to keep overpaying and wasting resources.

      We’re like a big fat guy running a mile, and you are worried about how he feels, and I’m furious he didn’t run 5, or run 1 3x faster.

      Printing money before you can look America int he eye and say honestly, “we are doing everything we can to make things more productive” means we are printing money to OVERPAY.

      We don’t know the real cost of things, if we aren’t letting the efficiency experts runt he show.

      Mike, let’s get busy!

      • JKH February 12, 2013 at 1:48 pm

        The entire market monetarist community is just horrifically wrong on the issue of IOR and the monetary base. Krugman makes his own errors on it as well, although somewhat softer in nature.

        Compared to that issue, your other statements are not even mildly controversial. No problem.

        • Morgan Warstler February 12, 2013 at 3:20 pm

          You get this is unhelpful right?

          Start with… “Morgan if we end IOR or even had negative IOR… then, the banks would still not be forced to loan the money / buying up assets etc.”

          And explain WHY they could take the losses on going losses. Of course I don’t expect you can. No one can. Right now the Fed is paying the banks to keep the corporate cash hordes from being lent, because not doing so will still hurt the banks.

          I’ll say this again, the discussion of printing money is BAD unless we have first committed to aggressively removing barriers to market efficiency.

          This puts a pause on your agenda, until mine is accomplished. Frankly, with mine solved, I don’t think yours exists, but I’ll keep an open mind about it.

          As a reminder on Krugman, one can’t argue sticky prices exist so x,y,z…. and support policies that promote sticky prices.

          We judge anyone who does that as immoral. They are throwing brick through a window and selling insurance.

          Which removes Krugman from the field.

          • JKH February 12, 2013 at 4:51 pm

            You’re right. It was unhelpful. Sorry.

            I was using the occasion of the appearance here of one of Sumner’s more kick-ass commenters to make a blanket statement about a particular view of banking, the Fed, reserves, etc. – without intending to be either helpful or unhelpful.

            My own involvement at Sumner’s blog goes back to the beginning when he started. There were a few interesting sessions in some detail – one where he claimed that he had never seen anybody interpret the reserve system in quite the way I did, and at the same time admitted that he actually thought I was an economist. I’m not sure which impression was the more amusing of the two, from my perspective. Anyway, some interesting exchanges, but I stopped any serious commenting there a long time ago.

            The technical stuff on reserves is a well travelled road, so no need to plunge into that in detail here. But here’s a pragmatic question: Excess reserves are now, what: $ 1.5 trillion give or take? Interest of 25 basis points a year on that amount is $ 3.75 billion pretax, which is probably around $ 2.5 billion after tax. Do you really think it’s conceivable that a banking system that makes $ 100 billion plus per year after tax is going to knock the lights out with aggressive new lending just because it loses $ 2.5 billion in reserve interest? That’s naive as a real world assumption and as economic thinking. More fundamentally, market monetarism appears not to understand the difference between bank liquidity management and bank capital management, and the relationship of those two things to bank lending decisions. And in this case it also fails to consider the way in which banks consider overall pricing strategies when faced with any systemic shock to interest margins – they tend to adjust through asset and liability pricing responses that are directional in their effect in preserving return on capital. They don’t try and make it up on volume. That latter expectation is quite frankly asinine, and belies an ignorance of the way in which banks actually operate that is almost unbelievable for people who are supposed to be seriously interested in monetary policy.

            But I’m all in favor of improved efficiency in markets and improved productivity more generally, as that seems to be part of your own thrust.

            Yes – please keep an open mind – it is still early days.

            • Tom Brown February 12, 2013 at 9:20 pm

              JKH, can you expand on exactly what kind of things banks might do in response to losing IOER? I would suppose, for example, they might cut the rate of interest they pay on CDs or to their depositors. But those are already rock bottom rates. Do you agree they might do this, and what other actions would they be likely to do? It seems they could marginally increase their lending, but it wouldn’t take much to make up for the lost IOER.

            • Morgan Warstler February 12, 2013 at 10:21 pm

              Tom Brown asks the same question I ask…

              But mine is more aggressive. Compared to printing more money, its no big deal, in fact MORAL to tell the banks they are now losing .25% on reserves, and next year it will be .50%.

              The way to prove we need to print money is to show us all the un-radical almost yawnish things you’ve done first.

              IOR is proof we don’t need to print money. You should HATE it.

            • JKH February 13, 2013 at 6:16 am
      • Greg February 13, 2013 at 4:03 am

        Efficiency experts?

        Here is how they enforce efficiency. Give you no bargaining power, strip your benefits cut your pay, threaten you with destitution or jail if you try to organize resist. Pat themselves on the back for being such smart/innovative guys who get the most out of their employees.

        There is noting innovative or smart about what our “efficiency experts” do. Abusing your position of power is something man has been doing for centuries. Its the oldest trick in the book.

        Ill take efficacy experts.

        • Morgan Warstler February 13, 2013 at 7:18 am

          BOO-HOO.

          My god man, see I’m an Internet guy, the kind who has driven Amazon to crush retailers and Skype to crush telecom, and napster to crush music, and well you get the picture.

          These are my efficiency experts, and you do not get to start out some hanger on assumptions.

          NOTE your name JKH has completely already STIPULATED that we gonna close down the US Postal service, etc.

          He doesn’t have any pretense of your populist save the current labor skills market. He’s fine with Amazon packing centers.

          We are past your concerns. Keep up with the debate.

          • Morgan Warstler February 13, 2013 at 7:19 am

            YOUR MAN JKH has…

  • JKH February 12, 2013 at 6:25 am

    Dan K.,

    Maybe the following stylized example will help further:

    Suppose the value of each of investment and saving in the current period at the macro level is X

    Macro saving = I = X

    Suppose you personally do half of the saving in the economy for this period: X/2

    But you have additional savings stored from prior periods: also X/2

    Suppose during the current period you acquire all the new investment goods with a value of I = X

    You use your saving of X/2 and your prior period savings of X/2 to pay for that

    Now consider your X/2 of savings from prior periods that you need to draw on to pay in full for I = X

    You must have stored that savings in some asset that you can use to pay for your expenditure on I in the current period – and you would need to convert that asset to the medium of exchange to use as payment in any event

    So assume one way or the other you now have a (segregated) bank account with a deposit of X/2 to be used for this purpose

    So part of your payment for I is a cheque for X/2, drawn on that bank account

    That cheque will be received by the producer of I

    The producer of I will use that money to pay in part for the factors of production – immediate factor inputs and all those down the line in the case of raw material costs etc. All these factor inputs require payment in terms of wages and return on capital. This is basic econ accounting for factor payments.

    All these factor payments which will end up totaling X/2 (for the part of the payment we’re talking about here – that part you’ve paid for from past savings), and that results in the same amount that the economy as a whole must save in the current period – because those factor payments cannot be used to purchase the current period investment that itself generated the factor payments – because you have bought that investment and so nobody else can, so somebody other than yourself has to save that amount in the current period

    That process of elimination by deduction means that the amount of X/2 paid by you from your past savings must have been saved by the rest of the economy in the current period – but not by you

    Moreover, the value of your cheque of X/2 and your bank deposit that is debited for that amount will end up in the hands of all those factors of production as saving from income in the current period – just as that amount up until this point represented prior period saving for you. You have basically swapped X/2 of your prior period savings in the form of a bank deposit for what is now X/2 of what is still prior period savings but now in the form of 1/2 of what is now your investment good of I = X

    So the total current period saving for the economy in the current period is X/2 for you and X/2 for everybody else, or X in total

    And your prior period savings remains unchanged as an equity position in your own personal balance sheet (right hand side) but changed in its flow of funds destination on the left hand side of your balance sheet where the corresponding asset is now 1/2 of your investment good asset – with the other half financed by your current period saving. When you start accounting for your next period income, you will then reflect prior period savings totaling X across from an investment good asset with a value of X.

    Meanwhile, the X/2 that you drew down in cash from your prior period saving represents ONLY a flow of funds – you are drawing down on prior period savings, but that has no implication for the measurement of current period saving or the value of prior period savings (given that you paid X/2 in prior period savings for X/2 representing 1/2 the value of your investment good.

    I could develop this example further, by assuming certain other characteristics about your prior period savings – but that shouldn’t be necessary in order to illustrate the key point. And that is that the movement of cash around the system in respect of both prior period savings and current saving is about asset swaps – you swap cash for an investment good – and that sort of thing is covered in flow of funds accounting. And that is separate from but logically connected to both income accounting and balance sheet accounting, all of which connect up with each other through consistent double entry bookkeeping over a defined sequence of discrete accounting periods.

  • Matthijs February 12, 2013 at 6:29 am

    Can I ask a question. To me, what matters in an economy is money going around (being spend) on real goods and services. That’s the bottom line. Preferably on useful goods and services, but let’s not complicate things for now.

    So the total amount of goods and services being produced in a certain time period is what matters. One way to measure that amount is to measure the amount of money being spend. A flow of money.

    Stocks of money are less interesting, because a stock of money doesn’t produce anything for real.

    Now the question: does macroeconomic measurement of investment and saving measure this flow of money (and flow of real production)?

    From a micro standpoint, if I spend 100 on the bakery, the baker spends 100 on the butcher, the butcher spends the 100 on a hotel, the hotel owner spends the 100 on me for some cleaning work and we’re back in the same starting position. That 100 went around and “produced” a lot of stuff. But there hasn’t been any investment.

    What could also happen is that I spend only 90 on the bakery and keep 10 (afraid to spend everything or something). The bakery spend only 80 and also keeps 10. Etc. If everybody does that, a lot less real goods have been produced and in the end even the savings rate goes down because the hotel owner only spend 60 on me and therefore I won’t be able anymore to earn 100, spend 90 and save 10.

    As a second question: wouldn’t it be much easier to explain all this in a more graphical way, by using pictures of stocks and especially flows? Instead of using so many words of which half the people disagree on what they mean, etc

    • JKH February 12, 2013 at 7:10 am

      “Now the question: does macroeconomic measurement of investment and saving measure this flow of money (and flow of real production)?”

      My reaction is that its the reverse:

      Does the flow of money measure macroeconomic investment and saving.

      I think the answer there is that the medium of exchange is used in the transactions that result in the recording of value for investment and saving, and the medium of exchange is typically the medium of account… etc.

      “Wouldn’t it be much easier to explain all this in a more graphical way”

      I don’t know if it would be easier.

      It might be nicer.

      On the other hand, I’ve seen ugly graphs that I’d spend no more time on than an ugly paragraph – just IMO.

      But I agree, if you can get the graphs right.

      “so many words of which half the people disagree on what they mean”

      That’s a good point, and an argument for anchoring economics more robustly in the language of accounting – where there are reasonably standardized concepts and definitions, and more importantly where the logic is coherent and closed. Post Keynesian economics is pretty good at this.

      • Matthijs February 12, 2013 at 7:25 am

        Thanks for your anwer. I’m not sure I fully understand your answer though. If I take your answer: “I think the answer there is that the medium of exchange is used in the transactions that result in the recording of value for investment and saving, and the medium of exchange is typically the medium of account… etc.”
        What is it what you are saying? If I spend a 100 dollar bill on the butcher, is that accounted in GDP? Is that accounted as investment, saving?

        • JKH February 12, 2013 at 7:39 am

          It’s defined in national income and product accounting.

          If you’re buying $ 100 worth of meat from the butcher, that’s a consumer product, and its part of GDP output.

          It’s not an investment good – it will be eaten or spoiled soon enough.

          And whether you used a $ 100 bill or wrote a cheque is irrelevant to the measure of the contribution to GDP.

          • Matthijs February 12, 2013 at 8:13 am

            OK that is clear. However, now comes the next step. As I showed in my example of the $100 going around, an economy can function fine if everybody spends his/her 100 (and in return earns 100). If this spending/earning cycle accelerates, the economy can even grow. Say, instead of waiting till the next day to spend the 100 I earned today (like everybody does), we all spend it within 23 hours. The other way around, when spending decelerates the economy shrinks.

            And this all happens without any new “investment” (a company or person going to a bank and getting a loan, and by that creating new money out of nothing).

            And the above simple story also disproves Say’s law, as far as I understand.

            This is correct isn’t it?

            • JKH February 12, 2013 at 9:08 am

              The refutation of Say’s Law generally involves illustrating how aggregate demand can collapse by individual agents attempting to save too much, in aggregate.

              In a conventional economy with fixed investment, that works in part through the investment channel (fixed and inventory). Inventories of both consumer goods and investment goods start piling up and jobs get cut, if people attempt to save “too much” in aggregate.

              It also works through the services channel. Individuals cut back on the purchase of services, and service jobs get cut.

              The goods channel (consumer and investment) necessarily involves inventory correction – which is the front end of overall business investment, along with underlying fixed investment.

              The services channel may not involve that sort of inventory correction, but most service businesses are still supported by underlying fixed investment, and that dynamic over time is included as part of ongoing investment goods production as a component of GDP.

              So it’s pretty difficult to get away from the idea that macroeconomic investment and saving is fundamental to Say’s Law and the refutation of it.

              I think your examples are tending toward the service economy type illustration, which is less investment and saving intensive than the goods economy, but not entirely severed from it.

              BTW, I keep emphasizing that it is important to separate flow of funds analysis from income analysis. Bank lending transactions are part of flow of funds analysis. They are analytically separate from the subsequent actions of borrowers to spend or invest. Spending or investing by borrowers is part of expenditure and income analysis.

              Banking system transactions as part of the flow of funds are for the most part a veil over real economy transactions – from an accounting perspective – although they are a big factor from a behavioral perspective. Those two perspectives are not in conflict with each other – they are complementary – but they shouldn’t be confused.

              • Matthijs February 12, 2013 at 10:28 am

                Yes, my examples are very simple. But you could exchange my 100 buying of meat from the butcher with 100 spend on a scientist working on a new product or 100 spend on digging a new oil field. Shouldn’t change the underlying logic.

                “BTW, I keep emphasizing that it is important to separate flow of funds analysis from income analysis. Bank lending transactions are part of flow of funds analysis. They are analytically separate from the subsequent actions of borrowers to spend or invest. Spending or investing by borrowers is part of expenditure and income analysis.

                Banking system transactions as part of the flow of funds are for the most part a veil over real economy transactions – from an accounting perspective – although they are a big factor from a behavioral perspective. Those two perspectives are not in conflict with each other – they are complementary – but they shouldn’t be confused.”

                I will keep this in mind and try to look up the definitions (if they officially exists). So “flow of funds” deals with newly created money (from borrowing at a bank) = investing = saving. And “income analysis” is what people do with existing money (earning and spending it).

                • JKH February 12, 2013 at 12:22 pm

                  I’m probably not doing a good job of summarizing this.

                  But as one more example:

                  Suppose you buy some Apple stock.

                  If you had your own flow of funds report, that transaction would show up as a reduction in your bank balance and an increase in your Apple stock holdings.

                  The flow consists of this:

                  The reduction in your bank account is the source of funds and the increase in your Apple portfolio is the use of funds.

                  But that has nothing directly to do with GDP – you aren’t buying any GDP output and you aren’t earning any income.

                  This sort of thing is captured for entire US economy split out into various classifications, here:

                  http://www.federalreserve.gov/releases/z1/current/z1.pdf

                  If you’re not familiar with it, have a glance at the middle and end sections of the report.

                  You’ll see huge matrices that represent flows of funds and/or balance sheet positions that result from those flows of funds.

                  (The front section includes the intersection of the flow of funds with income accounting, which is more complicated and rather messy)

                  • Matthijs February 12, 2013 at 1:29 pm

                    Thanks for your answer again JKH. Please remember I have no formal economic training at all, so I have to learn all this from sites like these and I don’t always know the exact definitions being used for terms. Just have my own brain and logic thinking. Will check out the paper you link to. Thanks!

  • Tom Hickey February 12, 2013 at 10:10 am

    Money is not even necessary to refute say’s law. Say assumed:

    “products are paid for with products” (1803: p. 153) or “a glut can take place only when there are too many means of production applied to one kind of product and not enough to another” (1803: p. 178-9). Explaining his point at length, he wrote that:
    It is worthwhile to remark that a product is no sooner created than it, from that instant, affords a market for other products to the full extent of its own value. When the producer has put the finishing hand to his product, he is most anxious to sell it immediately, lest its value should diminish in his hands. Nor is he less anxious to dispose of the money he may get for it; for the value of money is also perishable. But the only way of getting rid of money is in the purchase of some product or other. Thus the mere circumstance of creation of one product immediately opens a vent for other products. (J. B. Say, 1803: pp.138–9)[4]
    He also wrote, that it is not the abundance of money but the abundance of other products in general that facilitates sales:
    Money performs but a momentary function in this double exchange; and when the transaction is finally closed, it will always be found, that one kind of commodity has been exchanged for another.
    http://en.wikipedia.org/wiki/Say%27s_law

    In essence, Say is assuming that all products produced for sale are exchanged for immediate sale. But that is not always the case due to culling. The best items are often saved back with the idea that being scarcer than less fine goods they will appreciate in value over time. If Say were familiar with producers, he would have known this obvious fact. It’s a key piece of profit strategy in many fields.

    Say might argue that these are exceptions that prove the rule, instead of counterinstances that disprove a general assertion. But it does seem to show that some qualification of the general statement is required. And once real saving is admitted then his dismissal of monetary saving is greatly weakened.

    Say might also argue that rising prices would bring product to market soon enough. Yes, everything has its price. But the bidding can get very high over time and savvy owners of fine goods are well aware this. As the goods appreciate, so do their “real” savings and they hold out as long as prices continue to rise in expectation of more. This is also part of the strategy in some fields. For example, there are people that plan on holding fine product for many years, e.g., as a retirement fund. An obvious example is the gem business. Cutters and dealers regularly hold out their finest goods as real savings.

    Thus, this kind of scarce good acts like money which is saved rather than spent, due to liquidity preference. I think that Say’s notion of immediate sale of goods produced for sale is more generally tenable today with mass markets and product standardization than it was in his own day when there was much less standardization. But it still applies in some markets in which there is less standardization and appreciation of fine goods.

    • Oilfield Trash February 12, 2013 at 9:51 pm

      Tom

      Help me on this, but should not we be looking at Walras’s Law. Imo opinion most Neoclassical are willing to throw Say under the bus, but they then simple point to Walras.

      Say’s Law and Walras’s Law, both begin from the abstraction of an exchange-only economy: an economy in which goods exist at the outset, but where no production takes place (production is shoehorned into the analysis at a later point, but unsatisfactorily IMO) The market simply enables the exchange of pre-existing goods. In such an economy, surplus in Marx’s sense would be impossible. Equally, if one agent desired to and did accumulate wealth, that would necessarily involve theft in the Say’s Principle sense. However, this condition does not hold when we move from the fiction of an exchange-only economy to the reality of a production and exchange economy.

      While Krugman may be willing to let Say go I wonder if he is able to sent Walras to the same scrap heap.

      You input would be most welcome on this question.

      • Tom Hickey February 13, 2013 at 12:47 am

        Yes, you have put your finger on it. Say’s law is not crucial to equilibrium macro, but Walras’s law is.

        “Say’s Law says that if there is excess supply of some goods, there must be excess demand for other goods (excluding money). Walras’ Law says the same thing, only including money as one of the goods.” — Nick Rowe
        http://tinyurl.com/b8dq9ox

        For Say, products buy products (essentially barter) but for Walras money buys product, so there is a separate demand for money. Say holds that exchange is immediate, which I argued against above. “Immediate” implies time-independence. In the way Walras frames his law mathematically, exchange is time-independent, so that everything is decided before the auction bell rings, so speak, and all markets clear on opening. This is the basis of neoclassical general equilibrium.

        Krugman is neither neoclassical nor New Keynesian wrt general equilibrium. He assumes only a tendency toward normality. There is a tendency to equilibrium in the long run, i.e., all markets clear at (definitional) full employment, but the short run can include things like a liquidity trap due to excess demand for money resulting in excess supply of labor.

        So I think that Krugman does not feel bound by Walras’s law in the strict neoclassical sense. In this vein, it seems Krugman assumes that there is “normal” state toward which economies tend in the long run as wrinkles iron out over time. But this is not a purely natural process if it is just left to the invisible hand. In a liquidity trap fiscal intervention is needed.

        Yet, Krugman does seem to think that something like Walras’s law holds in the long run and that that something is ISLM. This short piece on teaching macro would seem to indicate that Krugman thinks that ISLM clarifies Walras’s law as the basis of macro. (http://web.mit.edu/krugman/www/islm.html) So I think that the main issue is ISLM, which Krugman does relate to Walras’s law.

        Another related issue is that Krugman thinks that private debt doesn’t matter the way that Minskyans do since credit-based money nets to zero and one person’s saving is another’s borrowing, effectively cancelling out by netting to zero. In this view the changing ratio of borrowing and saving is key and it is dependent on the interest rate (ISLM), so he believes the way to affect aggregate demand is through monetary policy.

        Post Keynesians reject ISLM since it assumes loanable funds. And Post Keynesians, especially Minskyans, think that private debt matters a lot and how it matters has to do with “animal spirits” that result in irrational volatility and stagnation. They hold that the way to affect AG is through fiscal policy, whereas Krugman would only agree with that when the economy is caught in a liquidity trap and monetary policy is ineffective. But neither is Krugman a monetarist who rejects fiscal policy when not in a liquidity trap. He is also a Keynesian who understand fiscal stimulus at under full employment, too. So there is a basis for agreement here,

        Adhering to Walras’s law, neoclassicals don’t agree with either PK or PKE in that they think that flexible adjustment is hindered by structural unemployment since workers are not flexible enough to shift from areas of excess supply to fill excess demand. Alternatively, workers have a sudden preference for leisure, maybe because the unemployment benefits are so generous.

  • Ramanan February 12, 2013 at 10:29 am

    Dan,

    “In fact, investment at the macro level equates to saving at the macro level – as a period flow.

    This is what I’m challenging. ”

    Strange you challenge that.

  • Tom Brown February 12, 2013 at 12:25 pm

    JKH, did you actually read Sumner’s piece? How about the comments there by Saturos and Geoff:

    http://www.themoneyillusion.com/?p=19358#comment-226861

    http://www.themoneyillusion.com/?p=19358#comment-226972

    Any thoughts?

    • JKH February 12, 2013 at 1:04 pm

      Not closely ,Tom. He goes off the rails every time he starts talking about the monetary base – supposedly his stock in trade. It’s very disconnected from actual banking operations, including how monetary base transactions actually occur operationally in the real world. So I don’t spend a lot of time on it. Krugman’s message is pretty simple – he associates the Chicago school with Say’s Law type thinking, because they deny the effectiveness of deficit spending – a denial which is sort of a corollary of Say’s Law.

      • Tom Brown February 12, 2013 at 2:59 pm

        By “him” you mean Sumner? I find Sumner difficult to understand most of the time, but some of this commenters seem to do a better job of communicating. My favorite is a guy named “dtoh” who actually seems to be aware of banking operations, and yet seems to agree with Sumner on most everything. I wish he’d chimed in on this Say’s law business since I feel I can ask him intelligent questions, and he’ll take the time to write back detailed and informative responses. dtoh has his own alternate version of why NGDPLT works which he feels more accurately describes the true mechanism, and Sumner agrees that dtoh’s version may be more “marketable.” This alternate version doesn’t rely on a hot potato effect or ascribe any special significance to paper bills and coins. Just to make sure we were on the same page, I went through with dtoh what I believed were the only four ways that reserves can leave the banking system:
        1. withdrawn as paper bills and coins
        2. taxes paid by anybody
        3. Treasury bond auctions
        4. Fed OMOs (specifically OMSs)
        Additionally, when ER > 0 (for the banking system as a whole) then a conversion between ER and RR is affected in the amount of 10% (or whatever the reserve requirements are) of the net change in total outstanding loans banks make to non-banks (e.g. if the net amount of funds banks loan out increases by $100 then $10 of ER is converted to RR). He agreed w/ all that.

        • Tom Brown February 12, 2013 at 3:07 pm

          I may have given you the impression I agree w/ dtoh regarding why NGDPLT works… I don’t really know that I do, but at least I can understand his argument as opposed to Sumner’s.

        • Jose Guilherme February 12, 2013 at 3:25 pm

          “only four ways that reserves can leave the banking system”

          Nice and neat summary.

          And I’d guess that there would be 5 ways for reserves to enter the banking system: the reverse of those four ways, plus advances from the Central Bank to the commercial banks.

          Would that stand as a correct as well as thorough description?

          Perhaps that’s a question best addressed to JKH.

          • Tom Brown February 12, 2013 at 4:00 pm

            I agree, I’ll leave that for JKH, especially since I’m not familiar with these “advances” that you speak of. Is that different than loans through the discount window or OMOs?

            • Ramanan February 12, 2013 at 4:50 pm

              Advances can be to banks or even to non-banks as part of the LOLR function. So when these advances expire, reserves reduce. So discount window is one, daylight overdrafts to banks is another. Also rescue operations during the crisis are another.

              Which actually reminds me – there are other ways also. So if (when) the US Treasury sells TARP equities, that also reduces reserves. If the Fed or the Treasury were to sell foreign exchange, that will also drain reserves.

              The Federal Reserve may also sell equities it held so it is another (not included in OMOs).

              This gives a good picture. http://www.federalreserve.gov/releases/h41/ – although one has to go through the full thing to check if one has missed something or not.

              • Jose Guilherme February 12, 2013 at 6:43 pm

                “when these advances expire, reserves reduce”.

                But new deficit spending will require new advances – otherwise there will be upward pressure on the overnight rates – right?

                • Ramanan February 12, 2013 at 8:32 pm

                  True. I am discussing it using the approach of factors affecting reserve balances, not the needed operation of the desk after factors have affected the balances.

          • Tom Brown February 12, 2013 at 4:11 pm

            BTW, I’m glad you like that summary. I hope it’s true! I guess I should qualify a little and say “taxes paid by anybody to the federal government.”

            Also, I posted a very similar list to a recent David Glasner article to get his feedback as well. I think he agrees. I know David seems to be a fan of NGDPLT, but I’m not sure that necessarily makes him a “Market Monetarist.” He seemed to imply that he could not be classified as such.

            • Jose Guilherme February 12, 2013 at 4:26 pm

              I like short summaries of complex subjects. They help sharpen one’s mind and quickly wrap up matters that might otherwise be forgotten at very short notice.

              As I understand it, advances of funds from central banks to the banking system is a method used in the eurozone to prevent the interbank rate from increasing due to deficit spending.

              In the non sovereign states of the eurozone, deficit spending tends to put upward pressure on the interbank rate- if not for said advances, the ECB wouldn’t be able to prevent the interest rate from shooting upwards. Since the inception of the euro (with some exceptions after 2008), the ECB has followed a policy of not buying government bonds, so OMOs are simply inexistent. Thus the “advances”.

              I guess that’s similar to the U.S. commercial banks using the discount window to borrow from the Fed. In Europe, however, this is practised on a much wider scale precisely due to the absence of OMOs.

              Anyway, a subject where it’s always useful to listen to the experts (JKH, Ramanan).

        • Ramanan February 12, 2013 at 4:05 pm

          ” only four ways that reserves can leave the banking system:”

          Agencies receiving funds in their account Reserve also make reserves leave the banking system.

          Foreign central banks and governments and international organizations also have an account at the Federal Reserve. If they receive funds, then also banks’ reserve position reduces.

          • Tom Brown February 12, 2013 at 4:22 pm

            Ramanan, great! Thanks for bringing in the foreign aspect. I’ll have to think about that a bit. But regarding agencies… by agency, do you mean something like the DoD? Doesn’t the DoD just receive its funds from Treasury (which would already be covered by my 3? (I’m simplifying 3.: I know there’s sometimes a TT&L account, and that the Treasury must request those funds be moved to its Fed account, etc… and I guess I’m implicitly not counting Treasury’s own Fed account as part of “reserves in the banking system.”).

            I’ve also heard of “agency debt.” I’m not familiar at all with that. So do separate federal agencies (e.g. DoD) actually sell their own bonds at auctions? Does that have something to do with what you’re saying?

            Getting back to the foreign aspect you bring up, can’t we just include all those foreign banks in the “banking system.” If we did, wouldn’t that just leave foreign governments as sink holes for reserves to leave the banking system? I’d like a way to phrase my list to capture the whole, yet be short and succinct as possible.

            Thanks for your thoughts!

            • Ramanan February 12, 2013 at 4:39 pm

              Tom,

              By agencies I just meant the GSEs. Yes they issue their own debts (“agency debt”) for running the corporation and also issue mortgage backed securities by using special purpose vehicles which hold home loans as assets.

              Foreign owned banks are in a sense residents, so I counted them in the banking system. I was actually talking of not these banks but foreign governments and central banks and institutions such as the IMF, World Bank etc.

              • Tom Brown February 12, 2013 at 4:58 pm

                Ah, great! got it.

      • Tom Brown February 12, 2013 at 3:05 pm

        BTW, you like to use the terms “ex post” and “ex ante” at lot. Every time I come across that language I have to stop and look it up and think about it for a bit. Is there some phrase I can simply substitute for both “in English” that makes sense? This is not a criticism, I’m just frustrated by my own slow learning response here and am looking for a shortcut.

        • JKH February 12, 2013 at 4:02 pm

          I use those terms as short cut verbiage, when talking about past and future time. Not because they’re fancy, but because they’re simple.

          E.g.

          Actual GDP is an ex post measure at time t, for a defined period ending at time t.

          So its a measure of what is realized over past time – i.e. ex post.

          Forecast GDP is an ex ante measure at time t, of expected GDP for a defined period of time beginning at time t.

          So its a measure of what is expected over future time – i.e. ex ante.

          Simple stuff really – I just like to divide time up using those words, which are compact expressions of the intended idea, I hope.

          • Tom Brown February 12, 2013 at 4:24 pm

            Ah, great, thanks!

        • Ramanan February 12, 2013 at 4:16 pm

          “Every time I come across that language I have to stop and look it up and think about it for a bit.”

          As long as you don’t equate expected and realized, you are doing OK.

          A few months back I saw someone mixing the two – i.e., using the same variable for ex ante and ex post which clearly is erroneous.

          • JKH February 12, 2013 at 4:57 pm

            “A few months back I saw someone mixing the two”

            Can’t imagine who would do that.
            :)

            I still owe you an email – haven’t forgotten.

    • JKH February 12, 2013 at 1:15 pm

      BTW, its very clear from reading the General Theory (or parts of it) that Keynes in his time knew a lot more about actual monetary operations than most modern day economists know about today’s system.

      • Ramanan February 12, 2013 at 4:23 pm

        Keynes had a friend and an intellectual opponent Dennis Robertson who worked at the Bank of England. All monetary operations are in Robertson’s 1922 book “Money”.

        • Ramanan February 12, 2013 at 4:28 pm

          Although I should say Robertson interprets some operations rather strangely.

  • Tom Brown February 12, 2013 at 3:31 pm

    BTW, on a different topic going back to the Krugman/Keen debates, I’ve had some correspondence w/ Nick Rowe regarding this article:

    http://worthwhile.typepad.com/worthwhile_canadian_initi/2012/04/the-supply-of-money-is-demand-determined.html

    In trying to follow this, the part that confuses me is why he says that over periods of time longer than six weeks (his “mid-term” or about 2-years), why is it that the supply curve is vertical (perfectly inelastic) wrt interest rates (interest rate on the y-axis)? I understand that the interest rates changes every 6-weeks because the CB is targeting inflation, but why wouldn’t it have some other shape? This makes no sense to me, but I haven’t gotten to the bottom of it yet. I understand that he may well be wrong, but I can’t follow his internal logic. Do you understand why he says that? If he is wrong, where is the problem w/ regards to this 2-year time interval. To simplify I think we could suppose a hypothetical situation in which interest rates vary continuously as a deterministic function of perfectly accurate instantaneous measurements of the inflation rate. Then we no longer have to worry about 6 weeks vs 2 years. Still I don’t see how a vertical supply curve makes sense wrt interest rates. It seems to me that both interest rates and the stock of money will vary (assuming we keep inflation on target at all times), but I don’t see them varying in a perfectly correlated fashion, not to mention in a fashion which would result in a vertical supply curve (which implies only one stock of money is possible). Any insights you have would be much appreciated!

    BTW, I guess what I’m picturing is w/ inflation targeting — say in my instantaneous example — if you were to plot interest vs the stock of money you’d get a cloud of points… a 2-dimensional distribution perhaps, not a curve. In other words, for any given inflation rate target, each pairwise combo of {interest, stock of money} you would have a likelihood, and you could plot this likelihood at each point (probability distribution) as a two dimensional surface.

    • JKH February 12, 2013 at 5:16 pm

      I’m not sure I can relate very well to the monetarist view of “money” and its elasticity in the abstract, but I did find the following discussion interesting (2nd half comments) with respect to different reserve management regimes and the interpretations of reserve supply and demand elasticities:

      http://neweconomicperspectives.org/2013/01/understanding-the-permanent-floor-an-important-inconsistency-in-neoclassical-monetary-economics.html

      Of course, you were there, Tom.

      But that’s the only context in which I’ve found (so far) these sorts of analyses to be interesting and pragmatic.

      • Jose Guilherme February 12, 2013 at 6:53 pm

        Perhaps I’m being unfair, but on re-reading Fullwiler’s description of the divergences between the new keynesian and post keynesian (MMT) approaches realtive to monetary policy I couldn’t help thinking that an outsider to these theoretical debates might well sum up the divergent positions thus:

        New Keynesians (Krugman): since we’re in a liquidity trap, QE doesn’t work.

        MMT and post keynesians: there is no such thing as a liquidity trap; in any case, QE doesn’t work.

        Both schools then engage in hundred of pages of rather turgid prose to explain how – while agreeing on the non results of QE – they have very different theoretical models to support their quite similar conclusion.

        Said outsider might inadvertently conclude, at this point, that monetary economics seems much more akin to literary theory, say, than to the more objective “hard” sciences.

        • Ramanan February 13, 2013 at 12:26 am

          “there is no such thing as a liquidity trap”

          I don’t think that is the view. The view is whether there is liquidity trap or not is not so relevant.

      • wh10 February 12, 2013 at 7:44 pm

        Gah – just realized I never followed up on that. Still don’t have time. There’s something there though, just not sure how important it is.

  • Tom Brown February 12, 2013 at 4:55 pm

    BTW, I love these debates about Say’s law, etc. I’m a total amateur, but I’m always fascinated by how different schools of thought differ from each other exactly. It’s great that so many people/schools are contributing to this. I consider MR to be my “home” since I’ve kind of converged here and accept the MR framework (mostly I read pragcap, so that’s why you may not have seen me here much), but I’m convinced that there are a lot of smart people out there who may not be “in paradigm” as Cullen likes to say. I’m curious at just what point they leave the paradigm. That’s why I’m so interested in Nick Rowe and David Glasner… and to a lesser extent Sumner and Krugman. Rowe and Glasner seem like they *could be* close to being “in paradigm”… so I’d really just like to nail down exactly at what places they depart, if possible. Krugman doesn’t respond (I’ve been told) and I’m often left wanting from Sumner’s responses to questions. The Austrians don’t interest me much at all…. even though I think a few of them also have an understanding of the banking system which is more or less in agreement with MR…. it’s just that they seem to think that fiat money, floating exchange rates, and “fractional reserve banking” are inherently evil.

    • Ramanan February 12, 2013 at 5:49 pm

      Oh you seem to be doing great – going by your comments. Never tell an economist you are an amateur. Instead beat them in their home territory. The best weapon is to pinpoint the internal contradictions and self-inconsistencies in their approach.

      As Joan Robinson once said, “The purpose of studying economics is not to acquire a set of ready-made answers to economic questions, but to learn how to avoid being deceived by economists.”

  • stone February 13, 2013 at 2:11 am

    Are there are ways that bank reserves can transfer out of the banks and so be spent by people?
    When a bank pays its staff, does that entail a transfer from bank reserves to the deposits of the staff? In the UK the banks are having to pay out £7B as compensation to customers for mis-selling payment protection insurance. Is that a transfer from bank reserves to customer deposits? The “London Whale” made losses for JPMorgan trading credit derivatives. Did settlement result in a transfer of bank reserves from JPMorgan to non-bank counterparties?

    • stone February 13, 2013 at 2:18 am

      I should have written, “Are there other ways…. ”
      -Sorry

  • JKH February 13, 2013 at 5:06 am

    Tom/Morgan @
    http://monetaryrealism.com/krugman-on-says-law/#comment-15559

    Not a precise answer – just a directional one. Suppose excess reserves move to $ 2 trillion. There’s about 10 times that amount in the nominal total of remaining assets and liabilities and equity on the banking system balance sheet. So if the system on average can increase the interest rate on its assets and reduce the cost on its liabilities and equity by 2.5 basis points, it can recoup that margin loss. That’s a fair bit of leverage (if excess reserves become $ 3 trillion, then that number becomes something like 3.5 basis points). And although that’s an oversimplification of what the approach would be (e.g. some deposit rates are already at zero), in fact the banks have monitoring systems for what’s happening to their margins and would be looking at this comprehensively in terms of their pricing strategies going forward. In addition to that, they can modify fee structures – particularly on the deposit side. And even if the margin cost were fully absorbed by a reduction in the return on equity for the banking system, then ROE would only decline by a fraction of a per cent. At the end of the day, all of these things would be considered as part of the mix in resetting overall pricing and acceptable ROE targets as necessary.

    The point is that they’re not going to try and make it up on lending volume. That’s just suicide from a credit risk management perspective. The banking system is stuck with those reserves, and they all know it. It becomes a matter of who ends up with reserve share – and that’s a function of asset/liability pricing and corresponding asset/liability share strategies. Banks generally respond to required reserves by viewing them as a tax – and they build the cost of that tax into their pricing and required return on capital calculations. This issue of forced excess reserves is different, because the actual share of the excess reserve burden itself depends more dynamically on the competitive strategy for the rest of the balance sheet – relative movements in assets and liabilities will affect the gross amount of excess reserves 1:1, whereas required reserves only change as a fraction of the gross amount of deposits.

    Another perspective on this that isn’t widely understood is that the excess reserve injection by the Fed has had a significant effect in expanding the nominal size of the liability side of banking – other things equal. The explanation for this is that the assets which the Fed has acquired in its QE program did not originate from commercial bank portfolios – for the most part – they originated from non-banks. Commercial banks have never been big holders of Treasuries, for example. And to the degree that those assets originated from non bank holders, those sellers were credited with new bank deposits in exchange for their bonds – meaning that both bank assets (reserves) and liabilities (deposits) expanded in the process. So QE has expanded the size of bank balance sheets, other things equal, even if it doesn’t appear that way from time series observation (where other things are not equal, and where the counterfactual would have implied a shrinking system balance sheet due to deleveraging otherwise). So QE has forced not only reserves into the system, but deposits and other liability forms. And so the banks will view it in that context and will focus in part on deposit pricing in the case of deposit expansion that has essentially been forced on them. And if deposit interest rates are zero or near zero already, they will turn to fees. Again, it’s all a delicate balancing act in terms of pricing, but they will not attempt to make up for what is essentially a pricing issue with a volume oriented strategy. And that is all consistent with the fact that banks in technical terms simply don’t “lend reserves”, and that they price new lending on the basis of credit risk assessment, the cost of capital, and the cost of other required funding

    In a limited way, the excess reserve injection by the Fed is comparable to the banking system operational effect of various ideas/proposals for full reserves, the “Chicago Plan”, or MMT “no bonds”. In all cases, the banking system is being used as a conduit for the Fed’s own reserve funding and related asset strategies. The Fed is controlling and channeling a chunk of the private sector banking system through to its own balance sheet structure in all these cases – far more than is normally the case.

    • Morgan Warstler February 13, 2013 at 7:12 am

      You gotta understand what a big giant odd assumption this is:

      “The point is that they’re not going to try and make it up on lending volume. That’s just suicide from a credit risk management perspective. The banking system is stuck with those reserves, and they all know it. ”

      No we aren’t. You are suddenly super protective of the banks?

      We do not have to live with those, I told you yesterday to assume negative IOR with a growing schedule to force the banks to put the money out there.

      Look, I started this is good faith, I said right up front – be willing to assume there are no risk-less assets.

      That’s totally acceptable, more risk in credit market means we REALLY are going to see that money come out, and we REALLY are going to see some guys who wouldn’t get that money today, who get that money tomorrow.

      And SOME of them are going to go under, get liquidated, the banks that put those reserves out there desperate to not get them negative IOR’d are going to eat losses, tif they are the unlucky ones, their bankers are not going to get bonuses, these bankers kids are going to get taken out of private school, and their house sold.

      We’re gonna rerun the game, with everyone’s eyes open, and there’s no TBTF – musical chairs for banks!

      And ALL of that is great.

      Now using those assumptions, explain to me why corporations are still hoarding cash and we have to print money.

      JUST SAY, if we use Morgan’s assumptions, THEN Savings and Investment align.

      You can follow it up with, why you don’t think x,y,z… but USE MY ASSUMPTIONS and tell me if I’m correct. You owe me this, analysis based on my assumptions.

      Keep expecting me to just drive the negative IOR lower until reserves are back to pre-crisis levels.

      This s where the debate is now, we’re further down field. Everyone else! Pay attention!

      • JKH February 13, 2013 at 7:34 am

        “No we aren’t.”

        What bank do you work for?

        I’d like to buy some stock at the open.

        • Morgan Warstler February 13, 2013 at 7:51 am

          JKH,

          this is why its very hard to take this place seriously.

          I’m asking legitimate questions, where if you don’t take my hypotheticals and assumptions seriously… and run the model to tell me what the new outputs are.

          ALL of your previous analysis comes down to your ASSUMED ASSUMPTIONS.

          This debate is a big yawner if you start with negative IOR is off the table, but money printing is just fine. And you wont get off those assumptions.

          It just about assumptions then.

          Mike can you help here?

          • JKH February 13, 2013 at 7:57 am

            What’s your plan to deal with banknote arbitrage under negative rates?

            • Morgan Warstler February 13, 2013 at 8:23 am

              Please be clear – game it out.

              I’m not gonna be too upset if at the end of it, the reserves are loaned out.

              I really want this discussion to be fruitful

              • JKH February 13, 2013 at 9:09 am

                If you “really want this discussion to be fruitful”, then I suggest you consider the following before we go any further:

                Clean up your tone or I’m shutting you down on this thread. Entertainment has its limits and you’ve now hit that. Your commenting has reached the point of becoming an official distraction – unless you change your approach. Mike can open you back up if he supports your current style of making your case – just not on this thread – and then you can continue to go crazy on a separate one. As for this one, feel free to change your approach and engage on friendlier terms, and in a less spasmodic and disruptive and childish writing style, if you are able to do that. Your last comment seems to open up that as a real possibility.

                In good faith toward that end (which in fact I suspect you are quite capable of choosing to meet yourself), here are some opening thoughts:

                With negative interest rates on reserves, fed funds go unambiguously negative, because fed funds sellers will quickly sell the rate down to the IOR rate – as a potential use of their own excess reserve positions. That arbitrage will occur almost instantaneously, at the moment of the IOR rate announcement. Any higher legacy target rate for fed funds will be laughed at – unless it is changed and dropped down at the same time, which it would be.

                At the same time, the entire short term rate structure will tend to go negative in sympathy – including bills and short bonds, and maybe even more negative than funds due to repo market technicalities and the need for collateral.

                So the entire foundation structure for US interest rates will shift down.

                Consistent with my previous description, banks will be watching this and reacting with their own pricing. The banking system rate structure will also shift – and the precedent of negative rates on reserves may well cause the banks to consider negative rates on certain categories of deposits – but that will also depend on overall margin economics and on the extent of the drop in the IOR and funds rates.

                The banknote dilemma is that there is clearly an economic arbitrage opportunity for both banks and non-banks to demand banknotes – banks as an alternative to holding reserves on which they will now pay interest, and non-banks as an alternative to holding negative rate treasury bills and bonds and maybe even negative rate bank deposits.

                This arbitrage math is a potentially serious disruption to any efficiency that might be hoped from negative interest rate markets. It has to be dealt with somehow and coherently from an institutional perspective before the idea can be considered in any serious way.

                BTW, I don’t claim to have the answer to this – because it’s not my problem – because my view is that the entire premise of using excess reserve pricing to influence bank lending is absurd – and I don’t care whether the rate is positive, negative, or zero. In that sense, I haven’t attempted to find the solution to this problem – which is why I asked you if you had considered it.

                • Morgan Warstler February 13, 2013 at 9:35 am

                  JKH, I think I’ve been respectful to you.

                  I do like to speak for the hegemony – who are not the 1%s, but are the top 1/3 of US that own everything and vote. And when I speak for them, I use the language of force. Thats their language. it should feel viscerally like an threat. there’s a real one there.

                  As in, they own the guns, they own the homes, they own the churches and the PTAs and Main Street. And they have a veto power, that has taken the left 60 years just to head nod toward health insurance for have nots.

                  So on the barter thing, its a real deep and serious argument. MONEY is for the same people that barter was for.

                  Why? because barter was for the hegemony, and they were the deciders on moving to money.

                  And just asserting thats not fair or pointing out the end effect is nothing changes, well man I’m not in this to “change things” I’m in this to find policy proposals that the hegemony – the top 1/3 will approve and accept.

                  I want action today. Policies today that can fix things.

                  And I am willing to throw the 1% under the bus to get it done. This is why you guys should be paying close attention to my arguments about #distributism

                  As to bak note arbitrage, I was with you and still comfy thru all of it.

                  Bans suddenly realize reserves are gone. This means a giant advantage: nobody gets to lie and claim that corporations are hoarding money and Say’s Law doesn’t exist.

                  This is a huge advantage, because clarifies which Economists and politicians were playing hide the salami and intentionally blaming the wrong people.

                  From then on, we don’t listen to them. They are out of the discussion until they learn charitable debate.

                  This is as big an advantages as banks and their equity holders having to eat the losses. We need to have social punishments for people cloaking social agendas in economic arguments and not stating clearly where the economics ends and the obfuscation for their desired goals begins.

                  So we agree, that the cost of borrowing stays low for a while? And then there is a clearing of new losses as more risk enters system?

                  I’m unclear on why a move to bank notes isn’t an accurate reflection of distrust in market without the fed putting finger on scales of justice for banks…

                  Does’t it signal the jig is up?

                  • JKH February 13, 2013 at 10:57 am

                    Morgan,

                    I think there’s a big income/wealth distribution issue there, obviously important, plus a separate technical issue with the monetary system

                    They potentially intersect, but I think it’s important to be as clear as possible on each one separately as well.

                    I don’t downplay the distribution issue, but there’s a great deal still to clear up on the technical issue – in terms of the macroeconomic approach to it.

                    On that, there’s a point I really should emphasize here:

                    The entire question of negative rates is framed improperly by monetarists and market monetarists in particular, IMO.

                    The right question is not about IOR – but about the central bank’s target policy rate.

                    The policy rate question is the right starting point, because IOR is a function of excess reserves, and the excess reserve question is only a subset of the much bigger monetary policy question, which is the target policy rate – with or without excess reserves.

                    This is important because monetarism resists framing monetary policy in terms of interest rates – it frames it in terms of the quantity of money. That is the defining feature IMO of the conflict between monetarism on one hand and post Keynesianism (for example) (or MMT) on the other hand – merely as a matter of understanding monetary operations and monetary policy. You don’t have to be a member of any of these groups to have a view on this, and I’m not, and I do. I believe monetarism is very wrong on this issue.

                    So in that sense, the framing of a debate in the context of IOR is wrong, IMO. And the reason monetarists frame it this way is because they believe in the power of quantity in the case of monetary transmission. And excess reserves are a quantity. On the other hand, if you believe that interest rates are the driving force of monetary policy, then excess reserves are just one more type of quantity than needs to be priced properly in order to implement monetary policy. And in this sense, the question becomes, not the interest rate on reserves, but the target policy rate, and what is the effect of a negative target policy rate on the rest of the system more generally – bearing in mind that properly understood, the reserve effect on lending is zilch. The objective in changing the target policy rate would be to bring the entire rate structure down – including lending and deposit rates to some degree. And then the question becomes, what does one expect in the way of behavior of private sector borrowers and depositors in this regard? And that’s a much better way of framing the thing. In that sense, the issue of excess reserves at negative interest rates is no different than at positive interest rates – they play no role in bank lending decisions or credit risk or capital management – except that the one difference is the prickly complication of banknote arbitrage. But before that is dealt with, somebody has to answer the question of why negative risk free interest rates should stimulate the economy much more than zero rates do now, and is it worth to make the necessary institutional adjustments that would adapt the system smoothly to negative nominal rates.

                    That’s probably not so interesting relative to your interest in the distribution issue, and I don’t mean to dodge that one, but I do think the banking system should be understood as much as possible before using it in an attempt to resolve income distribution issues.

                    • binve February 13, 2013 at 12:04 pm

                      JKH,

                      Your replies on this particular thread are superb (as is this post and on the conversations on it). I really appreciate that fact that you are calmly responding to this line of questioning, because your insights are extremely useful.

                      I agree that before any distribution issues are discussed from various monetary policy options the banking system response must be thoroughly understood, because this will be the ‘mechanism’ by which that policy is transmitted. And as is clear from these discussions, there is still disagreement and confusion on the banking system responses. Your efforts here are getting to the core of understanding those responses, and seeing as how big the banking system and outstanding bank liabilities are this is a crucial point in any discussion regarding monetary policy. Thank you again for yet another great post.

                    • JKH February 13, 2013 at 12:21 pm

                      Thanks, binve – I appreciate that

                    • Morgan Warstler February 13, 2013 at 12:44 pm

                      WAIT. I am making a real single point. Then we can get to your broader critique.

                      I’m asking you to model with my assumptions, and state out loud so everyone can read it your answer.

                      Krugman and company are talking about Says Law and Corporations hoarding cash. S I and all that.

                      I started this with a very clear claim:

                      IF the reserves are forced out of reserve accounts, by any means unnecessary, by the Fed THEN the current “corporations are hoarding cash” Says Law argument is false.

                      Now the S = I argument is still intact as assert by monetarists (in their own internal view,), because every single dollar is indeed OUT THERE not in reserves.

                      I want you to say that under my assumption, that is correct. And if it is incorrect, stay away from “bad effects” and stick to, Says Law and corporations holding cash.

                      This is important because it goes to intellectual credibility. Its important to admit when someone else has a valid internally consistent position.

                      You are welcome to then go bigger, but before we get into disadvantages of doing my assumption, I want to know that we agree S = I is intact, and it is reserves causing the issue not corporations hoarding cash.

                      I am being as calm and clear as I can be asking a single very specific question, please give me the answer on that alone.

                    • JKH February 13, 2013 at 1:29 pm

                      I actually don’t understand what your question is Morgan. I can’t congeal your various statements into a coherence that I can understand.

                      So can you give me a simple model for you’re driving at with your question(s) – maybe with some numbers for S and I , bank reserves, a representative bank transaction, etc.

                      And also what that has to do with corporate cash, because bank reserves are not included in the corporate cash data that is being popularly analyzed.

                      And watch your tone please.

                • Tom Brown February 13, 2013 at 12:51 pm

                  JKH, vault cash is considered to be reserves, correct? Do banks currently get paid IOR for their vault cash?

                  • JKH February 13, 2013 at 1:35 pm

                    no

              • Max February 13, 2013 at 10:13 am

                Morgan, the financial industry prefers a “zero bound” which is above zero, so they can offer 0% deposits at a profit (although there’s no legal obstacle to negative deposit rates, it would be a sales/marketing issue).

                If the Fed raised rates just a little, it would go almost entirely into profits (deposit rates wouldn’t increase). That’s why the WSJ keeps running editorials begging for higher rates.

                That’s the distributional politics of IOR. What about the economics? A lower IOR would lower the Fed Funds until you hit the true lower bound. At that point, you would be converting idle reserves into idle currency.

                Now if the Fed were to suspend conversion of reserves into currency, then it’s a new world. There would be no lower limit on the Fed Funds rate. This is, in my opinion, what they should do (and should have done in 2008). It’s less radical than other proposals like Sumner’s GDP targeting, or Krugman’s fiscal stimulus, etc. But for some reason, it’s not on the table.

            • Morgan Warstler February 13, 2013 at 1:35 pm

              Assume zero RR.

              Assume banks have cleared their Reserves and have no desire to keep them with Fed again.

              When Corporations deposit cash, that money does not go into reserves, it goes to some other purpose – the banks is deciding.

              As such, in that exact circumstance Say’s Law is intact. And PK’s attack on it using his argument is invalid.

              Right?

              • JKH February 13, 2013 at 1:40 pm

                That appears to be a response under my earlier question to you on banknote arbitrage.

                If its supposed to be an answer to the other request I just posed, it hasn’t given me anything that I asked for.

                • Morgan Warstler February 13, 2013 at 2:03 pm

                  “So can you give me a simple model for you’re driving at with your question(s) – maybe with some numbers for S and I , bank reserves, a representative bank transaction, etc.”

                  I said:

                  zero bank reserves, with tax / negative rate on keeping them.

                  Some amount, say $1M deposited / hoarded in corp profits.

                  Banks loan money out someplace or do anything but them in reserves.

                  S = I, Say’s law is completely intact. Corporations hoarding $ has no effect under Say’s Law, and Krugman critique was incorrect.

                  JKH, I do believe you know what i’m asking. Its pretty clear. I just want you to say in this circumstance, Say’s is perfectly internally valid.

                  Right?

                  • JKH February 13, 2013 at 2:15 pm

                    “JKH, I do believe you know what i’m asking. Its pretty clear.”

                    OK. That’s attitude – and that’s the third time now. You’re REAL close to getting booted out of here.

                    You’re not allowing for the possibility that what I’m seeing from you is completely incoherent in my perception of it, and that I’m actually making an effort to understand what you think you want me to understand.

                    Now let me look at what you’ve given me.

                    You have a corporate deposit of $ 1 M in the bank.

                    And then I think you have a bank lending – it might help if you took a little more time to type out something that hangs together.

                    When a bank makes a new loan, bank deposits increase.

                    That’s unrelated to the original $ 1 M.

                    Now, what do you think those two things have to do with S or I?

                    Tell me what you’re thinking about that connection.

                    • Morgan Warstler February 13, 2013 at 2:38 pm

                      This is what PK wrote to prove Say’s Law a fallacy:

                      “Cowen can’t see why corporate hoarding is a problem. Like Riedl and Cochrane, he concedes that there might be some problem if corporations literally piled up stacks of green paper; but he argues that it’s completely different if they put the money in a bank, which will lend it out, or use it to buy securities, which can be used to finance someone else’s spending.

                      But of course there isn’t any difference. If you put money in a bank, the bank might just accumulate excess reserves. If you buy securities from someone else, the seller might put the cash in his mattress, or put it in a bank that just adds it to its reserves, etc., etc.. The point is that buying goods and services is one thing, adding directly to aggregate demand; buying assets isn’t at all the same thing, especially when we’re at the zero lower bound.”

                      I read your critique, and rather than get into the bigger arching thing, I want to stay right on top of PK’s exact examples:

                      In his reasoning is it reserves, the bank might accumulate excess reserves, the bank might just add to its reserves, etc etc.

                      He uses etc. etc. but in his examples the only time Cowen is wrong about green pieces of paper, is when there are reserves where corporate deposits accumulate, and the bank is making that choice.

                      My point is, if reserves are taken out of the picture, if they become basically an impossibility, then Krugman;s making no actual point against Say’s law.

                      And I’d like you to agree, in that exact assumption, I am correct.

                    • JKH February 13, 2013 at 2:53 pm

                      My analysis of Krugman’s analysis was in fact highly qualified.

                      Here is what I wrote:

                      “Krugman is obviously right on Say’s Law, and in his basic message about the macro dynamics of aggregate demand. But his writing seems to complicate the explanation of aggregate monetary dynamics by citing micro level examples that obscure substantive macro accounting issues. For example, there’s no need to introduce bank reserves into such a discussion. There is no need to talk about “putting money in the bank”, when the money is already in the bank at the macro level. This micro fall back tendency is in evidence in other discussions involving banking – such as the recent monetary base debate with Steve Waldman, or the big banking debate with Steve Keen a year ago. On banking, perhaps Krugman tends to go a little too micro, when he might stay macro. Perhaps there is a way of explaining banking system T accounts at the macro level that would be translatable to his NY Times readers, although this would be difficult. Apart from that, he seems to know and explain everything as well as anybody.

                      The thing about corporate cash hoarding is that there is not even a precise linkage between that and corporate saving. It is quite possible and even likely that a strong correlation does exist and perhaps has been excavated from the flow of funds reports – but it is also the case that corporate balance sheets reflect complex patterns in the flow of funds that overtake the assumption of a simple connection from retained earnings to cash in the bank. In any case, it is the future flow of funds that will end up determining the future deployment of those cash balances. And when that happens, the associated future investment and saving will be separate from the macro level saving that has already occurred.”

                      So what I was saying there about Krugman in a polite way I suppose was that his analysis of the Say’s Law issue was correct in general – and this goes back 5 years BTW – and quite apart from his dabbling in bank reserves on this occasion. But what I also said was that he’s not exactly right in the way in which he analyzes the bank reserve issue – indeed some would say he is very wrong. But in saying all of that, my view is that the bank reserve issue is a red herring in terms of understanding the Say’s Law issue. Now you read my assessment quoted above again ,and tell me if that get’s you and I any closer to something we can agree on here. I can’t tell yet until we discuss it more and figure out what each other is saying exactly.

                    • JKH February 13, 2013 at 3:00 pm

                      Give me a few more minutes here – I may be getting a bit of traction on this that at least might progress things a bit.

                    • Morgan Warstler February 13, 2013 at 3:05 pm

                      I did read what you wrote, I mentioned again just above I understood you have I have a larger critique.

                      I want to just make sure you are in agreement:

                      Krugman’s critique of Cowen on Say’s Law has nothing to do with corporate hoarding (Krugman was wrong), it has to do with bank choices and the Fed approach to reserves, and with those off the table, Say’s Law and Cowen’s use of it stand 100% untarnished by Krugman’s blog post as written.

                      Admitting to the lost debate, stipulating the reason why, makes sure we agree on going forward, exactly why Krugman was wrong. It lets me make sure when you make your argument, I can verify whats already out of bounds in the discussion.

                      I can’t look at a bigger different argument with loose ends on the original point I was trying to make. Its confusing.

                    • JKH February 13, 2013 at 3:20 pm

                      OK.

                      I think Cowen is wrong in making a distinction between banknotes and a bank deposit in terms of the Say’s Law issue.

                      I think Krugman is right in his similar objection.

                      I think Krugman is right in general terms on the Say’s Law issue – and his soap box on this goes back to “The Dark Age of Macroeconomics” about 5 years ago – which started his recent program of attack on the Chicago boys.

                      BUT I’ve said a number of times in this thread and in the past that Krugman is not strong in the area of understanding and/or explaining the bank reserve system. I’m not sure that that he’s hopelessly lost, but he’s not very good in explaining things where he invokes examples of reserve operations. You may be aware that MMT has a very strong view about Krugman along these lines, one which is much less patient than mine, but directionally the same.

                      And so Krugman plunges here into an example that uses reserves – and that’s dangerous for him to do that.

                      Now you as well are pointing out something about the way in which Krugman is approaching the role of reserves in this.

                      So directionally at least, you and I may both have a similar area of concern about Krugman’s analysis insofar as the reserve issue is concerned.

                      So to the degree that you and I both have a problem with something about that, we are directionally together.

                      My overarching point is that the issue of reserves SHOULDN’T necessarily have much to do with the Say’s Law issue or be required to explain it. While it is feasible to get into examples that include some detail on banking and reserve management, it is not necessary.

                      Now as to the correct way of thinking about Say’s Law or the correct way of thinking about the reserve system – you and I may be far apart or close together – I don’t know at this stage.

                      But what Krugman is right about is that Cowen’s distinction between banknotes and bank deposits is absolutely irrelevant to the Say’s Law issue in the context of today’s environment. So on that he’s right. Whether he’s explained that in the best way in his reserve system example is quite another issue – BUT I qualified his lower grade on that in the post.

                      And then I think you may be asking if that distinction between bank deposits and banknotes becomes moot in a zero required reserve system. Does that start to get at your question? Because I don’t think it does, but let me pause there for your response to what I’ve written so far.

                    • Morgan Warstler February 13, 2013 at 4:04 pm

                      See I’m far less trusting of Krugman, I think he’s intellectually dishonest, I don’t care about his historical body of work, I care about proving that Krugman in this specific instance should have said:

                      “Cowen is correct in his invocation of Say’s Law in this instance, corps are not hording profits, banks are sitting of the cash, and if they didn’t everything else I say in this specific post about Say’s law is incorrect.”

                      And I think in your round about way are basically granting Krugman brought nothing but a loss to the table for himself on in blog post.

                      ——–

                      Ok, assuming you agree generally with above, I can move on to Cowen’s bank notes issue.

                      If the corporation literally just socked the money away in a vault in their offices. And Just sat on it, Say basically accepts that this person is choosing value depreciation, and since that’s just plain ugly to do (like banks getting negative IOR), he won’t do that.

                      I see Cowen simply allowing that given a certain set of circumstances, you might think of those as lack of demand, not enough customers,etc.

                      I might think of those as distrust of regulations, in certain sectors at certain times. Certainly, MERS was uncertainty. New regs on fracking and shale are freaking out the North Dakota crowd.

                      None of this leads to “stacking green pieces of paper” but IF folks took to doing that, I’d agree that Say’s notion of products by products is seeing people buy pieces of paper – it is irrational to that in almost any situation except drug dealing or tax avoidance.

                      So I don’t think Cowen offering this exception to the Say’s Law as as bad faith support of Say’s.

                      Not like I saw Krugman do on reserves.

                      ——

                      I do think it is helpful to get to the barter thing, b/c I’d LOVE to get you really working through the importance of the who and why of it.

                      Barter is the basis of my saying money is not a social tool.

                      Please get that I don’t say this because I am against social agendas out of hand, I just don’t like picking up a tool created for one task, and using it for another.

                      If all you have is a hammer….

                      But we have far more tools for social justice, and monetary policy is a horrible one.

                    • JKH February 13, 2013 at 4:07 pm

                      We’re posting at the same time here, but:

                      Here’s where I think Krugman is wrong.

                      And I actually said this in the post, but I’ll put it more bluntly here.

                      He says:

                      “But of course there isn’t any difference. If you put money in a bank, the bank might just accumulate excess reserves. If you buy securities from someone else, the seller might put the cash in his mattress, or put it in a bank that just adds it to its reserves, etc., etc. The point is that buying goods and services is one thing, adding directly to aggregate demand; buying assets isn’t at all the same thing, especially when we’re at the zero lower bound.”

                      The error is where he says: “the bank might just accumulate excess reserves”.

                      That’s an error because it implies a false counterfactual.

                      The implied counterfactual is that the bank has a choice between accumulating excess reserves or “lending out” reserves. And that’s a false choice.

                      And it’s a false choice because banks don’t making lending decisions based on the availability of reserves (and they don’t technically “lend reserves” at all). They make them based on risk assessment and capital allocation guidelines.

                      (BTW, this is standard post Keynesian/MMT/MR view of reserve operations, although it’s not clear to me that you would agree with that.)

                      Nevertheless, this is an example of where I think Krugman’s technical transgressions in the area of reserves and lending are really small fare relative to what’s important. What’s more important in this case that he gets the idea that there is no difference in terms of the Say’s Law impact of hoarding banknotes or putting money “in the bank”. He restricts that equivalence to the case where the bank does not subsequently lend – which is a false restriction – but even that is not serious because the overarching issue is that banks will make lending decisions for reasons that are entirely unrelated to the distinction that Cowen is making.

                      So regarding deposits/reserves and lending – Cowen’s view is absolutely wrong; Krugman’s is half right.

                      I.e. Krugman has the right conclusion for the half-right reason.

                      Cowen has the totally wrong conclusion for the totally wrong reason.

                      My sense is that may be slightly closer to but not exactly the same as your contention.

                      That was more of a micro drill down to my macro description in the post:

                      “First, as noted, macro saving can’t create investment, ex ante. Second, the bank deposit that both Krugman and Cowen refer to in their examples already exists in the banking system. That money corresponds (by popular presumption) to the (presumed) cash result of retained earnings, which in turn have been generated by prior sales of goods and services. The monetary execution of those sales includes transfers of money from buyers’ banks to sellers’ banks.

                      That money cannot fund a new loan in the macro sense. Loans create deposits at the macro level – not vice versa. Existing loans already account for deposits originally created from them. In addition, the liability composition of banking is constantly swirling in mix such that deposits may be converted into other liability forms and vice versa. But all of that occurs within the accounting constraint of double entry bookkeeping, such that deposits that exist at a point in time cannot logically be linked to subsequent incremental lending at the macro level.”

                    • JKH February 13, 2013 at 4:11 pm

                      “Ok, assuming you agree generally with above, I can move on to …”

                      No I don’t agree.

                      And stop assuming I agree with anything you write – until I say I agree – its irritating and ignorant and you’re a serial abuser of that technique.

                      Try having a discussion instead.

                    • Morgan Warstler February 13, 2013 at 4:24 pm

                      Ok, I think it is helpful to get to this bit, because it underpins your response:

                      “And it’s a false choice because banks don’t making lending decisions based on the availability of reserves (and they don’t technically “lend reserves” at all). They make them based on risk assessment and capital allocation guidelines.”

                      I really do grok the MMT “banks make loans” not based on reserves.

                      But you are skipping over again, the fiated effect of negative IOR I’m hypothesizing, which is banks lose as much money as it takes, so they loan it

                      If they aren’t loaning it fast enough? Even more negative IOR.

                      —-

                      Again, I understand you accurately describe happens now status quo why banks make loans – I know they don’t technically lend reserves. I know how that leads to your 3T math from our first discussion here.

                      I’m saying, it is not a false choice because we can make it nigh impossible for banks to do anything other than loan that money instantly.

                      I’m not saying you must agree that it is great, I just want you to grant that risk assessment changes when any reserves you hold start to evaporate.

                      We agree on that bit?

                    • JKH February 13, 2013 at 4:46 pm

                      “We agree on that bit”

                      There you go again.

                      No – and I’m not convinced you’ve understood anything I’ve said about reserves, or lending, or capital, or negative interest rates.

                      I don’t claim to be necessarily right on everything, but a reasonable discussion requires more flexibility on the part of both sides than what you’ve demonstrated in this one. You seem to have this tic about forcing agreement with your view where there is no conclusion on agreement whatsoever.

                      I’ve tried, but I think this one needs to stop here, for now at least.

                      Thanks.

      • Tom Brown February 13, 2013 at 9:51 am

        Morgan, you write “banks that put those reserves out there” … but lending to non-banks does not decrease the reserves on the banks’ BS. See the thread on this page regarding the only possible ways that reserves leave the banking system:

        http://monetaryrealism.com/krugman-on-says-law/#comment-15600

        If the net amount lent by banks increases, then a small fraction (the required reserve ratio) of this amount in ERs on the banks’ consolidated BS gets converted to RRs, but overall reserve levels remain unchanged. So if the required reserve ratio is 10%, and we use JKH’s $1.5T in ER, then the banks’ need to increase outstanding loan balances by $15T to convert all their ER to RR. And if they’re getting negative IOR on the RR as well, they haven’t escaped anything.

        • Morgan Warstler February 13, 2013 at 11:28 am

          I’m comfy with no reserves at all.

          Let the risk fall where it may.

          • Tom Brown February 13, 2013 at 12:34 pm

            But starting from where we are now, reserves can only leave the system in the ways JKH (and others) have exhaustively pointed out… or in my more limited list:
            1. non-banks convert deposits to paper bills and coins
            2. taxes paid by anyone to the federal gov
            3. Treas auctions of bonds to anybody
            4. Fed OMSs
            (I’m skipping forgein CBs and re-payments to discount window and Bernanke’s salary, etc. here). So unless the banks (in aggregate) can figure a way to increase the flow into one of these limited channels and still gain something from it (that takes paying more taxes off the table), they are stuck with them, negative IOR or not. Of course any individual bank can also currently get rid of its reserves by transferring customer deposits to other banks (assuming the customer initiates this), paying salaries, dividends, and interest, purchasing assets from private non-banks, or buying goods and services for the bank (office supplies, electric bills, etc), but in aggregate, those reserves don’t leave the banking system except in these limited ways.

            • Morgan Warstler February 13, 2013 at 1:05 pm

              Tom that’s a big list of ways to remove money from the reserves. There are some more from above as well.

              You have $50B in reserves and if you don’t get it out, I’m (the fed) going to take it from you aggressively. You”ll find a way.

              I’d expect MBS is where the money ends up, but who knows.

              Canada gets by with zero RR.

              Worse case scenario, the money is sucked up by Fed.

              Now that there is no reserves, we can get back to my very important point. Savings now equals investment and corporations are not hoarding cash. The real issue is that IF the fed is paying banks to keep big reserves, instead of pushing them to not, thats not proof Say’s is wrong.

    • TallDave February 13, 2013 at 10:48 am

      That relationship has already happened.

      I’m not sure why we care? If it happened in the past, it was “new investment” in the past.

      Keynes seems to have attacked a strawman version of Say’s Law, which in it’s simplest, strongest form is little more than a couple truisms — consumption is limited by production, and money has a time value.

      I do agree with you that Say’s Law can be and is misapplied — clearly when expectations are deflationary hoarding money makes sense both for liquidity and value, and I think that actually explains most of our issues today. Basing our monetary policy on CPI was probably a mistake.

  • vimothy February 13, 2013 at 6:45 am

    Say’s Law. Always an interesting topic of conversation. I have a lot of mostly half-formed thoughts on the matter.

    We know that, by identity, S=I.

    And we think that, in equilibrium, S=I.

    So that naturally we are drawn to ask what happens to the economy off the equilibrium path.

    Say for example that we start in equilibrium with S=I. Then, there is some event that causes a “shift” to the savings function, so that now S>I everywhere.

    In the classical view (or perhaps Keynes’ version of the classical view), the interest rate adjusts to clear the saving-investment market.

    Which is great in theory, but it doesn’t explain how interest-elastic saving and investment are, or how long the process of adjustment is.

    It’s also maybe not obvious that interest rates are the variable that adjusts. Income instead might provide the degree of freedom necessary to solve the system for the equilibrium state.

    And, of course, in practice we do observe business cycles, unemployment and so on, so it seems that, whatever the merits (or otherwise) of Say’s Law, it’s not the whole story.

    • Ramanan February 13, 2013 at 10:12 am

      Vimothy,

      S = I is always true whether equilibrium or not because it is an accounting identity.

      Rather the question is what is the mechanism which brings about this equivalence all the time.

      • JKH February 13, 2013 at 10:32 am

        Ramanan,

        Old subject for you and me, but I wonder if economics needs a new notation, something like:

        S* = S + (T – G) + (M – X)

        to avoid well worn ambiguity with Keynes and sector balance symbols, or to avoid having to qualify with closed economy/balanced budget assumptions, etc.

        so S* = I,

        always and unambiguously in that sense of consistent notation

        • Ramanan February 13, 2013 at 10:54 am

          Yeah makes sense.

        • Tom Brown February 13, 2013 at 1:15 pm

          So would introducing S* change the

          S = I + (S – I) that MRists love so much? I certainly hope so! I consider myself ‘MR’ or at least an MR sympathizer, BTW, but I hate that equation because every time I look at it, it seems to convey no information. Any 6th grader could tell you that was true w/o knowing ANYTHING about what S and I represent:

          S = I + (S – I)
          S = I – I + S
          S = S
          QED

          We had a longish thread on this topic over at pragcap a month or so ago. I was surprised at how many MR sympathizers shared my view! (I thought it was just me the whole time!)

          • JKH February 13, 2013 at 1:34 pm

            I’m the author of both of those expressions Tom.

            They are totally complementary. I know there’s been some frustration with the second one.

            Let me get back to you on this a bit later – try and suspend disbelief for a day or so.

            • Tom Brown February 13, 2013 at 5:40 pm

              OK, I’m eagerly awaiting your response ;)

              • JKH February 15, 2013 at 3:57 pm

                Working on a few other things in parallel, Tom.

                I’ll have something for you here by next Friday, Feb 22.

                Guaranteed.

                • Tom Brown February 15, 2013 at 7:45 pm

                  OK, great.

                  • JKH February 22, 2013 at 10:37 am

                    I have something nearly ready on this, but I’m wavering between answering you here, versus making a post out of it. So I think I’ll refine it a bit more, and on Monday I’ll either make it a new post – or a reasonably thorough comment back here. Sorry for the delay again, but my time has been partly consumed with comments at the more recent post.

                  • JKH February 25, 2013 at 4:35 am
      • vimothy February 13, 2013 at 10:48 am

        Yes, I agree with that.

        By identity, S=I for any observable outcome. But when we think about behaviour, supply of saving and demand for investment are not exactly the same thing. So given that any change in S implies a change in I, something has to happen to bring those two variables into equality.

        A lot turns on what you don’t and can’t ever see, alas. That identification problem is one of the joys of economics, I guess, but also the reason that these debates go on and on…

        • Ramanan February 13, 2013 at 11:15 am

          Change in inventories brings about the change mainly.

          Suppose people decide to consume more. Their saving decreases and this has the effect of decreasing firms’ inventories.

          There are other dynamic processes also. A more dynamic picture in one particular scenario is:

          Imagine a spontaneous rise in the household propensity to consume. This first has the effect of decreasing decreasing inventories. Seeing more demand, firms will increase production and incomes will rise and the government’s tax receipts rises. An increase of output and incomes also has an effect on the current account. In each stage however, over the economy S = I.

          So in this example, inventories changed and then the government’s budget balance and the current account balance.

          I think I know what you meant but to avoid ambiguities, separate notations needs to be used but there is a multiplier effect there with more and more symbols needed :)

          • vimothy February 14, 2013 at 5:59 am

            I think the point is that we want to consider more than just the realised, equal by identity, quantity S=I. We also want to consider what the quantity S=I is, and if it changes, why it changes. And what other things it influences, and so on.

            To talk sensibly about what actually happens, we need a way to discuss what does not happen because it cannot, because, for example, it violates consistency. This means we need a way to talk about saving and investment over a range of potential outcomes, many of which will never occur.

            If you consider saving and investment as functions, as behavioural equations that describe actions over potential outcomes, then S=I only in places where they meet. It’s not something that is true everywhere the functions are defined.

            So S=I is true by identity, but it’s not just an identity, it’s also a (or part of a) model. In equilibrium, supply of saving and demand for investment is consistent. Something that to make those two things consistent, and that something might be the interest rate, but it might be something else.

            Could that something else be inventories? Well, I’m not sure if I understand you. It seems to me that inventories might bear some of the short-term adjustment process, but in the long-run, something else has to happen. Producers can run down their stocks for a time, but that can’t be true indefinitely–at some point, these stocks will have to be replaced and production of consumption goods will have to rise, meaning that production of capital goods will have to fall, or people will have to consume less, etc.

            • Ramanan February 14, 2013 at 8:15 am

              “Producers can run down their stocks for a time, but that can’t be true indefinitely–at some point, these stocks will have to be replaced and production of consumption goods will have to rise, meaning that production of capital goods will have to fall, or people will have to consume less, etc.”

              I don’t know why such a thing is said Vimothy.

              That is what is you is as if producers cannot expand production capacity and somehow consumption crowds out production of capital goods.

              • Greg February 15, 2013 at 12:10 pm

                “That is what is you is as if producers cannot expand production capacity and somehow consumption crowds out production of capital goods.”

                HUH??

                • Ramanan February 15, 2013 at 12:55 pm

                  Sorry ate some words!

                  “That is what is you is as if producers cannot expand production capacity and somehow consumption crowds out production of capital goods.”

                  should be:

                  “That is what you are saying is – it is as if producers cannot expand production capacity and somehow consumption crowds out production of capital goods”.

                  • Greg February 15, 2013 at 1:19 pm

                    Ahhh better. Funny thing, I still pretty much knew what you meant.

                    It does sound like a crowding out argument. “Hey your consumption is eating into my production…. stop it!!”

                    Seems kinda silly

              • vimothy February 15, 2013 at 2:46 pm

                Well, consumption goods do crowd out investment goods in a very direct sense: output cannot be consumed _and_ invested, it’s got to be one or the other. So the output mix represents a genuine trade-off between consumption today and consumption in the future.

                With that said, various outcomes are possible when the public’s MPC increases. I wasn’t intending to give an exhaustive list. My point was only that, whatever happens, the adjustment is not going to be born primarily by inventories, because that is not a process that is sustainable indefinitely. At some point, the inventories will run out, be replaced, or whatever.

                Instead the natural candidates would seem to be the real interest rate and income.

                • Ramanan February 15, 2013 at 3:15 pm

                  “Well, consumption goods do crowd out investment goods in a very direct sense: output cannot be consumed _and_ invested, it’s got to be one or the other. So the output mix represents a genuine trade-off between consumption today and consumption in the future.”

                  Your assumption is GDP = C+I+G

                  GDP is given by the supply side so an increase in C leads to a decrease in I.

                  But GDP is not determined by the supply side – which is what makes John Maynard Keynes great. Both C, I and GDP can increase together. I don’t know how C will crowd out I. We live in a world where consumption has been increasing over the years and so has I. When has C crowded out I?

                • Greg February 15, 2013 at 6:36 pm

                  Here’s my point. If a good is produced and not meant to be consumed then dont sell it! If a good is consumed someone intended for it to be consumed and was paid for it. Its not a crowd out its a choice.

                  Consumption and investment can both be growing simultaneously. Its NOT an either or. You are correct that the same good cannot simultaneously be consumed and saved but in aggregate they can both be rising.

  • JKH February 13, 2013 at 7:26 am

    RE Tom @
    http://monetaryrealism.com/krugman-on-says-law/#comment-15539

    Interesting sub-thread begins there, regarding ways in which reserves can enter and leave the banking system – and very useful as Jose points out. It helps get a deeper understanding of how it all works. I think it was mostly covered, but some thoughts:

    At the margin, most Treasury and Fed transactions will affect reserves – because most Treasury transactions from its account at the Fed are settled with reserve credits or debits to commercial bank reserve accounts and most Fed transactions for its own account create or destroy reserve balances in commercial bank reserve accounts.

    One interesting exception to this highlighted recently would be the actual transaction whereby Treasury might deposit a platinum coin with the Fed, where there is no immediate reserve effect and whereby Treasury must engage in actual deficit spending transactions to affect reserves. This is a particular case of an internal government transaction between Treasury and the Fed, which is why bank reserve accounts are not affected at the time of the transaction. Another interesting example is that of Fed transfers of its own profits to Treasury – which is an internal government transaction that is in effect a debit to Fed equity and a credit to Treasury balances, which does not touch bank reserves at the time.

    At a higher level of classification, reserve accounts can be affected by the Fed acting in three different banking capacities – as principal in asset and liability transactions for its own account, as agent for the Treasury in the sense that the Fed processes the transactions that flow through Treasury’s deposit account, and as an operating institution in the sense of its non-asset/liability related operating expenses:

    The first category of principal transactions includes:
    - Banknote transactions, issuing and redeeming, destroying and creating reserve balances respectively
    - Fed advances to banks, including daylight overdrafts and overnight LLR
    - Tactical OMO transactions, such as system repos and system reverses, creating and destroying reserve balances respectively
    - All asset activity more generally, including the Fed’s standard Treasury bond purchases over time to offset trend growth in banknotes, bond purchases related to QE, and the earlier crisis phase of asset programs under its various credit easing programs; and of course the realized or projected reversal of those extraordinary easing programs

    The second category of agent transactions includes
    - Coin transactions, where the Fed typically acts as a dealer in Treasury coins, temporarily positioning them in inventory, but ultimately “selling” them in exchange for debits to bank reserve balances (the platinum proposal was not designed as an ultimate sale)
    - All of the activity that flows through the Treasury account at the Fed, including expenditures that increase reserve balances and taxes or borrowing that reduce them*. And this includes transfers between the TGA account at the Fed and the TTL accounts at the commercial banks.

    The third category of Fed operating transactions includes:
    - Bernanke’s salary
    - The cost of Bernanke’s ball point or fountain pen (if bought from a private sector manufacturer)
    - Etc.

    No doubt I’ve missed some things.

    * This is a point that has created some controversy. The net reserve creation or destruction potential from Treasury activity is limited by design, due to the very controlled nature of Treasury’s net position with the Fed at a point in time, which reflects the fact that Treasury is set up institutionally as a “currency user” (e.g. precluded from overnight overdrafts).

    This point was emphasized by Brett Fiebiger:

    http://www.peri.umass.edu/fileadmin/pdf/working_papers/working_papers_251-300/WP279.pdf

    I realize this is a sore spot with MMTers, but Fiebiger makes a valid empirical point with respect to the nature of the institutional framework that is currently in place.

  • stone February 13, 2013 at 8:40 am

    Morgan, wouldn’t negative interest rates simply encourage commodity speculation that could actually disrupt the real economy?
    In 1943 Michal Kalecki said “the inducement to invest in fixed capital is not affected by a capital tax because it is paid on any type of wealth. Whether an amount is held in cash or government securities or invested in building a factory, the same capital tax is paid on it and thus the comparative advantage is unchanged.”
    Perhaps replacing current taxes with such an asset tax would be a way to ensure that wealth gets put to use.

    • Morgan Warstler February 13, 2013 at 9:02 am

      Who knows where the money goes?

      T-Bills? Commodities?

      I frankly think it goes to housing. And the real losses get flattened.

      I have a dog in this fight, but the banks are still sitting on a bunch of housing inventory, hoping to see home prices go up (by printing money).

      With this trillion being forced into system, the jig is up, banks are gonna have to try and find safer long term assets.

      So I suspect, you force this move and the banks are going to dump the money into buying the homes up cheap from each other for long term rentals, and view appreciation as relatively safe long term.

      This would only force them to go public with their full losses on housing. The tide goes out, we see who is naked. The least naked ones, own lots of rental properties. The most naked ones are done, toast.

      So, Im not concerned about a commodity bubble, per se, but if one happened, I’d be ok with it too, it would eventually drive home prices up, the banks would still be taking on real risks, on their reserves, some will be losers (the best thing), and the housing inventory can clear.

    • Morgan Warstler February 13, 2013 at 9:11 am

      more generally stone, as a geo-libertarian, I believe that land taxes should be much higher, offset by lower taxes on SMB owners.

      We should start with land taxes as the base of our tax revenue and then add other things. For all but the longest term players, housing should be pure consumption, never investment.

      Really high land taxes, gets you lots of vertical tall building growth in really nice areas.

      Lots more people get to enjoy the best parts of country.

  • stone February 13, 2013 at 12:13 pm

    Morgan, are you saying the banks would directly own residential homes and rent them out? Even if the banks did buy all of the houses in the USA would that reduce the amount of bank reserves? If two banks sell each other foreclosed homes don’t they still between them have the same amount of reserves? The high transaction costs of buying houses would mean infrequent trading and so not keep the reserves in motion? Wouldn’t it be better to buy and sell stuff on a second by second basis? Such hot potato juggling of reserves would be much better suited to making price spikes in oil futures and such like with highly liquid assets wouldn’t it? That would enable banks to extract trading profits at the expense of producers and consumers who couldn’t choose when to buy or sell but would simply be a drag on the real economy. Already it looks as though we get a sort of new style business cycle driven by speculative price spikes in commodities.

    Your negative interest rates would give a fabulous windfall to everyone holding 30 year treasury bonds and gold.

    What you say about a land value tax causing land to be used to its full potential is true for all wealth being used to its full potential with a generalized asset tax isn’t it?

    • Morgan Warstler February 13, 2013 at 12:30 pm

      Stone, reserves can be loaned out, used to buy treasuries, poof gone from reserve account.

      Essentially money currently earning .25% becomes a money losing account, if you don’t empty it, the fed will be emptying it for you.

      • Tom Brown February 13, 2013 at 1:57 pm

        Morgan you write “reserves can be loaned out” … I agree if you mean from one individual bank to another. But I don’t agree for the banking system as a whole (unless borrowers take those reserve loans out in the form of paper bills and coins), thus bringing us back to the list of the only possible reserve exit paths from the banking system.

    • Morgan Warstler February 13, 2013 at 1:18 pm

      Read up on geo-libertarianism.

      The goal isn’t you for to see all wealth as “ours”

      The goal is to recognize the very first thing we do when the hegemony forms a govt. is start a title office. Thats before security.

      As such, that right there, thats the thing to tax OWNING LAND, precisely because it alleviates taxing other things. We do it, so there are fewer thing you think of as “our” wealth.

      Just as denying the digital can be owned, increases the value of atomic property rights, a high tax on land, does the same thing in a different way.

      • stone February 13, 2013 at 4:34 pm

        Morgan, I had a go at getting my head around land value taxes in something I’ve tried to write: http://directeconomicdemocracy.files.wordpress.com/2013/01/direct-economic-democracy8.pdf
        Does the part “How this relates to land value tax, Georgism and wealth taxes today” , fairly represent the land value tax logic?

        • Morgan Warstler February 14, 2013 at 12:20 am

          Ok I read it.

          I’d move the adam smith ground rents argument to the very top of the article. Re-read after this.

          I say the very first form of taxation should and ought to be highly levered towards the thing it is for: titled property ownership.

          Look, property titling is the FIRST function of the state. The state is formed by land owners who want to create and protect the guys who already own the land.

          The state doesn’t begin to affirm ownership, it confirms it. The first is about what’s true, so it says nothing. The second if about agreeing with someone else’s truth, that’s what states do.

          But we don’t want guys forming a state for property titling, getting it engraved as law, and then putting the costs of government as taxes first on other activities.

          Titling starts govt. let it pay the biggest share for government. They get the most, charge them the most.

          Notice what I did there?

          I made a populist appeal that distinguishes between types of wealth and types of investing.

          Anytime someone is so crude and elementary to think rich and poor, chastise them for not thinking land vs. not land. Land owners are consuming more value from government than anyone.

          This isn’t about a bigger state, this is about a smarter approach to properly assessing the folks with platinum protection insurance against risk of their holdings.

          If you want a big plot of choice land to call your own, you are going to feel rax increases before anyone else, and the size of payments will almost ensure nobody can expects to hold it long term.

          Once you have dialed in that tax, then you think about others.

  • BF February 14, 2013 at 12:58 am

    I have a recommendation to make the comments section a more constructive and respectful forum.

    Is there a way to introduce a pathetic drivel meter? And by that I mean a way for readers to flag their opinion that the style of argument by any given commentator is dismal and inappropriate.

    The idea is X number of flags = look at by moderators = a decision to either keep or remove content. And if that commentator were to register on the pathetic drivel meter on different posts above say X times = suspension of freedom to post a comment for X period (may be up to infinity).

    By “style” I obviously do not mean the analytical content of the comment. If someone is relatively new to economics or old to economics but still new to understanding it, then, there is no problem IMHO in that person expressing an opinion even when fully suspecting that the technical matters might be a bit more complicated.

    The problem is commentary that is thought clever but just a waste of space and waste of time such that the very posting of it lowers the collective intelligence of humanity; and, leaving it up is a crime against reason. That includes the thought clever waffle that adds nothing to the subject intermixed with ego claims about rightness of oneself and wrongness of others; baseless inferred positions; and feeble-minded victory dances on self-defined parameters incomprehensible to anyone who is in not fluent in mumbo jumbo (or the less known dialect gobbledygook).

    A little bit of randomness and cluttered thoughts is fine, still, when accusative incoherent ramblings are the game it is a game not worth watching or playing. I mean everyone can feel sad for someone who needs to sate a insatiable ego at a primary school styled level of debate; nonetheless, I’d like to be able to flag churlish idiocracy because pathetic drivellers just distract to whatever insights might otherwise occur.

  • stone February 14, 2013 at 1:51 am

    BF, if that is about me -sorry for lowering the tone. I’m stupid but I hoped goofy comments were OK since they can elicit responses that clarify things. Let’s face it, even you clued up people presumably benefit by being caused to think of ways of explaining things so that they can be grasped by the most stupid of us.

    Morgan, my issue with your land titling idea is that homesteaders in the USA, for instance, had land and yet got into debt buying equipment, dealing with droughts etc and lost their land in foreclosures. If you read the histories of which homesteaders actually prevailed and kept their land, it was typically those that had other non-land forms of wealth from the outset. Cheers for your response though.

    • BF February 14, 2013 at 3:57 am

      Goofy is fine.

      IMHO JKH sets a high standard in three respects. Firstly, judging by written words he has an extraordinary technical understanding over a range of different subject matters; and his intuition on any grey areas is characteristically sound. Secondly, on those grey areas which we all have to some extent, he certainly seems driven more than most to seek out the truth of the matter and deliver thereon.

      Thirdly, JKH’s characteristic humble demeanour is refreshing; and alas in limited supply in the blogosphere and among those who inhabit the field of economics. I’ve never see him take a cheap shot at an opponent; indeed, the words honest, measured and fair come to mind in respect to his debating style.

      My suggestion for a “pathetic drivel” or “troll-like behaviour” meter was to express my own opinion about the worthlessness of those who try and sometimes succeed to hijack a thread through the use of an abrasive shock-jock style of debating. Such web etiquette should not be tolerated especially if it just wastes the time of one of the most respectful commentators in the blogosphere.

      • JKH February 14, 2013 at 6:04 am

        Thanks BF – appreciate those words and your recommendation.

        Regarding your recommendation – that’s an interesting idea, and I’ll discuss it with Cullen, Mike, and Beowulf at some point, offline.

        Regarding this particular post, I am the moderator for it, so I am responsible for any accumulation of the type of drag that you note. But I hear you loud and clear.

        Regarding my own participation in comments and how that relates directly to the issue in the case of this post, I think it’s clear from some of my responses that I’m evolving the criteria that will apply in this particular case, with more force if necessary. And I’m evolving them because I don’t yet have what should be a more permanent framework for those kinds of criteria firmly set in my own mind. So it becomes a matter of evolving judgement on how this sort of thing should be handled. But feedback like yours helps develop that sort of judgement.

        Unfortunately I’m out for a good part of the day today, so any further irritation that might occur along these lines may have to wait until later today for any necessary response. But I’ve been pretty clear on my guidelines for this case, as they have evolved.

        Meanwhile, my approach to this so far is to view the comments in question as some rather curious graffiti across what is a much longer wall of economic understanding. And that on its own is actually not a point of disrespect – this sort of thing has not caused me not to think about economics. That’s can be a constructive thing – up to the point where it inflects into something that is actually unnecessary and even disruptive.

        But the real issue here at the end of the day is one of behavior and the effects of that behavior on others. That requires a sober evaluation of that behavior and the consideration of consequences that flow from the evaluation. In this case, it will end up being an authoritarian evaluation – should it become necessary to act on the warnings I’ve expressed so far. And the justice in this case has the potential to be rather severe for somebody who currently enjoys (presumably) commenting on blogs.

        Your idea for a democratic process is interesting. My first reaction is that it would have to strike the right balance in terms of being a respectful process in its own right – but that is only my first reaction. So I will discuss it with Cullen, Mike, and Beowulf a bit later.

        Thanks for taking the time to opine on this.

  • Oilfield Trash February 14, 2013 at 5:39 pm

    Tom

    Wow thanks for the input, much to digest.

  • Greg February 15, 2013 at 12:08 pm

    OhMy
    You are winning? Charlie Sheen? Is that you?

    No Morgan is just like those DBs who get torched for 6 TD passes and then dance and taunt when they make a meaningless 4thqtr INT.

  • stone February 16, 2013 at 5:55 am

    Morgan Warstler, do you agree that “loans create deposits”?
    Do you agree that bank lending decouples credit provision from the prior stock of money?
    It almost seems as though you somehow have a distinct vision of bank lending where loans don’t create deposits. If you see things in a way different from “loans create deposits” then PLEASE explain your view of bank lending.

  • stone February 16, 2013 at 7:46 am

    Morgan Warstler, I can definitely see the sense of some of what you seem to be getting at. I agree that it is damaging to the economy to have the government provide a massive supply of risk free financial assets such that wealth can be stored in a non-productive way. To me though it makes no difference whether those risk free financial assets are bank reserves or treasury bonds- having a few extra trillion of either is equally damaging IMO. Also I don’t get your meaning about bank reserves somehow “disappearing” in response to your proposed negative interest rates. As far as I can see an asset tax is the only hope for reducing (or keeping a lid on) that stock of risk free financial assets. Government securities (whether bank reserves or treasury bonds) are out there in the system until they are retired and the only entity that can retire them is the government and retiring them is what we call taxation.