Monetary Realism

Understanding The Modern Monetary System…

Money and Money-Like Instruments: Part I

There’s been a few articles about how some assets are very much like money lately. Greg Ip had a good one in the Economist. vimothy points out Caballero and Gorton have been spouting something like MMR for a long time. Delong points out we need more safe assets and the market is screaming at us to borrow more. (Update: How did I forget David Beckworth on this? Here is his take. I’ll have more on his take in Part II)

Wray wrote a Levy Institute article about Money, and Rochon wrote a paper about money too.

They are missing something massively important from their analysis of money – the existence of money-like securities and instruments which are widely used in the financial world. They miss an important finance technology which makes these money like instruments all the more important and dangerous – the repo market.

It’s not just the fact these securities or equities exist. Rather, it’s the fact the repo market exists, and that it’s become very common to use stocks in transactions. What this does is take asset – which in the past were clearly not money and rather part of the Saving/Investment relationship and make them far more liquid, and therefore closer to money.

The statement by Minsky about money “anyone can create money, the problem is getting someone else to accept it” takes on a slightly different aspect when you think about the relative ease of monetizing financial assets today. The repo market has taken securities which in the past were illiquid and not able to be used as money and transformed them into something which is almost money.

It’s hard to understand why we think MMR has something important to add to the discussion until you recognize we’re able to shift between money and the instruments of saving and investment far easier today than we were 20 years ago.

Our last two recessions have been financial sector related recessions. In 2001, the internet  bubble popped and our economy shut off. And we should always remember the crisis in 2008 triggered when the repo market stopped dead and forced Lehman into bankruptcy.

Money-like Instruments

Gary Gorton has been talking about the repo market for the last several years, but I don’t think it has pierced the consciousness of most people who think about money. Here is a quote from Slapped in the Face by the Invisible Hand: Banking and the Panic of 2007:

“Creation of informationally-insensitive debt is the function of the banking system. In the regulated bank sector this corresponds to insured demand deposits. The characteristics of demand deposits are: (1) demand deposits have no fixed maturity; they can be exchanged for cash at par on demand; (2) they are senior claims; (3) they are claims on a portfolio; (4) they can be used in transactions. This form of debt is created by depository institutions and by money market mutual funds that offer checking.Shadow banking combines repo with securitization (or other forms of informationally-insensitive debt) to accomplish the same function for firms. Senior tranches of securitized debt and commercial paper (not discussed here) are also quite informationally-insensitive. The shadow banking system, the combination of repo and securitized debt, is a kind of bank, as follows: (1) repo has a short maturity; it is typically overnight and can be withdrawn (not rolled over) on demand; (2) it is senior in that the collateral is senior, but also senior in the sense that there may be a haircut on the collateral (this is discussed below); (3) repo collateral is backed by a portfolio if the collateral is securitization-based debt; (4) the collateral can be used in other transactions, i.e., it can be rehypothecated. Repo is discussed further below.”

Back in the old days of 1985, if you held bonds or stocks, the major way to translate those instruments into money for yourself was to sell them.

Today, this is no longer the case. Today, it’s much easier to get money from your investments, and you don’t even have to sell them. You can repo them out, and get money short term (or if you do it every day for an extended period, long term) for those assets.

Modern bonds and securitized assets have been designed to make them easy to use in the repo market. I do recommend reading a several Gorton papers to get a full view of what he thinks is happening with the repo market and banking.

Using Equity to Purchase Equity 

It’s become vastly more common for firms to use equity of their company to purchase other companies. This is what happened in the late 1990’s. Firms used their recently issued equity as money to purchase other firms.  There was little or no debt involved in that crisis. The crash wasn’t caused by there being too much debt in the system.

But the end result was recession – and it was a horrible recession. As far as I can tell, the economy just stopped.

S – I + (S-I)

We’ve been talking a ton about our seemingly simple equation S = I + (S-I), and showing the importance of private sector S and I. But it hasn’t been clear to people why we’re doing this and sometimes, they entirely disagree with our assessment of the importance of this equation.

The presence of the repo market and utilization of equity as money makes this equation central to our understanding of the economy.

As Minsky said “Anyone can create money – the problem is getting it accepted”. We’ve created a system where there are at least two huge ways to create money outside of the “traditional” horizontal and vertical money creation channels.

The repo market can take private sector financial assets and translate them into money for individuals for people very quickly. It’s entirely possible to take securitized assets, existing bonds or even stocks and go and get them repo’ed out for short term money.

The usage of equity to purchase other firms makes equity into a form of money entirely outside of the realm of what we consider horizontal or vertical money. The equity of a firm is simply what others will accept for that equity.

In the past, the money creation process was pretty slow moving – getting a loan from a bank was a lengthy and time consuming process. Using equity to buy another firm wasn’t common enough to be a problem.

This is no longer the case at all. It’s entirely possible to get money from an asset without selling it, and without what most people would consider borrowing. Using equity to buy other firms is very common.

Repos as a Glance

Let’s look at a repo and see how they work.

A repo is a trade where you get money for an asset, with a promise to repay that money plus some interest at a future date. The lender takes possession of the asset as collateral, but ownership does not shift unless the borrower does not repay the loan.

There are two important terms to know when talking about repos: haircut and repo rate.

The haircut is the amount of discount the lender gives the asset before they allow the borrower to post it as collateral. Let’s say you have a bond worth 100. The lender might say “I’ll only let you borrow 80 for it.”  That 20% is the haircut on the asset.

The haircut is there to give the borrower an incentive to pay back the loan.

The repo rate is the amount of interest paid on the loan for the duration. The lender might say “I’ll let you borrow 80, and you owe me 88 when you pay me back.” The repo rate would be 10% for this instrument.

The haircut also determines how much money is “allowed” to be borrowed against the asset. As the haircut goes up, the amount of borrowing allowed goes down. This became important in the crisis of 2008, when the system raised haircuts on nearly every asset in the world, and the system found itself short roughly $3t in cash.

Low borrowing rates for good assets

Something even more important is you can borrow money against good assets for very low amounts. If you have high quality debt, the repo rates were and are very low.

Essentially, this becomes something close to free money. You have an asset, plus cash whenever you want it. For example, repo rates right now on U.S. government debt is 19bps.  That’s .19% per year in interest payments. Free money any time you need it.


Also, it’s good to remember the problems in 2001 had nothing to do with debt, but rather happened because the prices of some equities fell dramatically. There wasn’t a debt overhang which froze the worlds markets. Rather, the ability of companies to purchase other firms and real world assets with their equity as collateral fell dramatically.

Summary for Part I

All of this points to something interesting and even profound. We have taken some assets allowed them to be translated to money through financial techniques. I argue the widespread awareness of these techniques makes those assets far more “money-like” than they had been even 30 years ago.



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275 Responses

  1. paulie46 says

    Paul gets out his Thesaurus… :-)

  2. Michael Sankowski says


    You’re getting my meaning entirely – functional isn’t incorrect at all, but I “feel” there might be a word with different connotations which expresses the concept we’re both trying to hit with more gusto. :)

  3. paulie46 says

    Michael Sankowski March 21, 2012 at 12:20 am
    Hi paulie,

    The word functional is….wrong somehow …

    Michael you are one of the most reasonable and practical posters here so I’m only responding here to make a point. I can be a pedant too. :-)

    functional (adjective); practical, useful

    Credit can technically be “created forever”, but practically speaking it can’t because there is a limit to an agents ability to borrow.

    The borrower is limited by his ability to service debt (income) and by the limited existence of dollars he must obtain to repay.

    One can’t depend on others to borrow dollars into existence in order to service one’s own debt. Practically the definition of unsustainable.

  4. Michael Sankowski says

    Hi paulie,

    The word functional is….wrong somehow. There isn’t a functional limit on credit creation. We can create credit forever. The problem is as minsky says “getting it accepted”

    I take your point very seriously and think its correct- creating too much credit ends in tears, and we created too much credit.

  5. JJ says

    *this is my simplified understanding

  6. JJ says

    “you guys have gone and changed the definition of FE just like you do with so many words”

    The current mainstream meaning of FE was introduced by Milton Friedman, who stated that FE corresponds with the NAIRU, at best. MMTers argue his use of the term is incorrect and misleading, and serves to paper-over a policy of controlling broad inflation through unemployment. The MMT view is that everything currently achieved through NAIRU could be achieved more efficiently through what Mitchell calls a NAIBER policy (JG) – which would also have the benefit of reducing hysteresis and other costs associated with unemployment.

  7. Ramanan says


    Yes of course, I can’t so easily substantiate online plus difficult to keep record hence a few things I said were opinions. Hence I quoted Lavoie specifically about instances on leveraging and even found one more. Of course there are more.

    Conclusions take time so one should carefully assess everything. More generally, all I was trying to ask is to keep this distinction in mind about what actually is and how it ought to be when reading MMT.

    For example there is no meaning to the statement that the government neither has nor has no money. Literally it untrue because the government has cash balances in bank accounts and foreign exchange reserves. It is intended to convey the message that the government can in principle run with no financial assets or any money-like asset in one definition or another or without issuing bonds. Should that be taken to mean that the government need not have foreign reserves? Unclear. But that is normative economics, even if it may be right or partly right as a proposal.

    More importantly there is a mixup between positive and normative and this is where problems arise. I guess in this specific instance “positive” and “normative” are not the best words but it is more about “as is” and “how it should be”. The above example may appear minor to you (not me) but there are many instances where one sees this.

    One instance of this is if you see Stephanie Kelton in her journal version of “Do Taxes and Bonds Finance …” says explicitly that the view that taxes are respent is an erroneous view and the purpose of her paper is to get this straight. Of course I know well what she is “trying” to say :-) but it not an erroneous view.

    This positive versus normative may sound silly because MMT does come out much better than say Austrian economics. But according to the latter group, they are right. So everyone has to go through some test.

    Okay time for me to stop. But the reason I wrote the above is that in recent 2-3 weeks or so you pointed out about my constant criticism in 2-3 places and i didn’t get a chance to reply properly so this is one. I was merely pointing out the “what is” and “what ought to be” distinction which IMO is highly important as was pointed out by commenters. In the above example, this is straightforward to see
    in more complicated discussions, this is even more troublesome given that there is an informality in the language.

    So maybe I will point this out over time but next time you hear Mosler talking about shredding notes by the tax collector, do remember me :-) [He has changed “notes” to “old notes”].

    So its less about the volume of material than keeping this in mind.

  8. Cullen Roche says

    Someone getting paid to do something in exchange for no productive output.

  9. geerussell says

    What’s less efficient than an unemployed person?

  10. Cullen Roche says

    Yes, we’ve covered the buffer stock in detail. No need to keep repeating the semantic points about it.

    On FE – you guys have gone and changed the definition of FE just like you do with so many words. FE in your world is no involuntary UE. But to the rest of the field of economics it’s a situation in which all available labor resources are being used in the most economically efficient way. So yeah, we achieve YOUR definition of FE and PS with the JG. But there’s zero proof that the JG provides the most efficient use of available resources. But here we go again just up and changing the definition of words to fit a political agenda….

    The data on the JG simulation is there for everyone to see. The stimulus cost 600B and the JG cost 324 according to Fullwiler. The stimulus added 3.13MM jobs and the JG added 1.73MM. So you’ve paid 187K per job vs 191K in the stimulus. That’s a 2% difference. In a simulation like that that’s a negligible difference. So it’s not a more liquid buffer stock despite your claims.

    So we’re back to square one. The JG is a moral/political position and not much else.

  11. geerussell says

    And what it doesn’t help is stop the boom….

    Let’s just retire this once and for all. Using it as a criticism of the JG misunderstands the role of the buffer stock. Think of it in terms of the current arrangement. What stops the boom is whatever set of fiscal and monetary measures that are deployed to contract the economy and drive people out of private sector jobs. That’s what it means to stop a boom, yes?

    The buffer stock is where they land when driven out of private sector employment. Changing the buffer stock so that the landing pad is a JG job instead of unemployment only changes the composition of the buffer stock. The whole dynamic of what caused the boom in the first place and the measures deployed to fight it are unaffected.

    Why sell it as “full employment AND price stability” when it’s really only one?

    Because it’s the only proposal for full employment suggested so far that is compatible with price stability at the same time. Otherwise, FE gets sacrificed to maintain PS.

    The data shows that the JG doesn’t achieve anything that a stimulus and unemployed buffer doesn’t…

    According to the presentation you’re referencing, the JG has only a bit less impact than stimulus for about 1/2 the cost and less than 1/2 the budgetary effect. More importantly, the two aren’t mutually exclusive. The JG has never been sold as a standalone answer to everything. It’s part of a larger framework.

  12. wh10 says

    Thanks Ramanan. Helpful to know and understand. Obviously, it’s hard for me to just consign myself to simply believing your assertion that you have read enough to levy these claims as substantive and fair. I admittedly don’t have your breadth of experience and knowledge and am several years behind in terms of the time I have spent with this material. That being said, I am still going to make sure I think for myself, taking into account the various different perspectives I come across, as my knowledge evolves.

  13. Ramanan says


    Here is a background – since you raised some points anyway wh10.

    I have seen this over 3 years and initially there was a tendency to take a few things without complaining. However it has so happened for some commenters including me, some things are met with hostility . So you may see myself as extra-complaining but there’s a specific reason to that. You wouldn’t have seen me doing that initially in that period if you chance to see my earlier comments. But over the years and broadening my readings and comparing it with other approaches on and off blogs, literature such as PKE etc., I have come to a specific opinion. And this is not unique to me among the commenters and I have many opinions common with Cullen/MMR. In the specific case at hand, if you read Lavoie’s critique, he also says that this leveraging thing is used in many instances across literature and blogs and also quotes his earlier critique from years ago.

    The specific opinion I have in mind is roughly about positive economics versus normative economics. Sometimes it is difficult to notice and it took me a while to notice this and this was after some commenters such as JKH pointed it out – who obviously – given the range and depth of JKH’s knowledge/experience/exposure – was quick to realize this. (of course don’t take it my attitude and behaviour as the same as JKH’s or MMR or other individuals or groups. There may be similarities but careful about other things. I know you wouldn’t – this is for others reading!)

    One of the blogs – Econrevival – who got mentioned in Lavoie’s critique had an “a-ha” after reading his critique and mentions this: positive versus normative. Maybe the blogger doesn’t “get it right” generally speaking, but he was quick to figure it this out! Actually more than reading Lavoie’s specific article, I see some of the things more clearly from Cullen/MMR!

  14. FDO15 says

    It’s dead on arrival if they try to sell it as a moral position. So they try to sell it as economics.

  15. Cullen Roche says

    We’re perfectly good at fighting the deflation that results from the boom/bust cycle. We haven’t had a major sustained deflation in 80 years. The JG doesn’t help this. We don’t need a JG to fight off deflation. We already have countercyclical policy in place that achieves this. I don’t see what the JG adds that we don’t already have. And what it doesn’t help is stop the boom….So what’s the advantage? Why sell it as “full employment AND price stability” when it’s really only one?

    As for the liquidity buffer stock – yeah, your intuition is accurate, but the Fullwiler simulation doesn’t confirm this. The data shows that the JG doesn’t achieve anything that a stimulus and unemployed buffer does…..

    So what do we have left? MMT taking a moral stand. Which is fine. But why not say that is your primary reason? Why sell it as a superior economic approach?

  16. geerussell says

    Yes, not just admit that point on inflation but proclaim it. A JG isn’t how you fight inflation, it’s how you clean up the wreckage created by inflation fighting.

    The liquidity of a buffer stock, like other types of liquidity, is how readily you can move it. Is there any disagreement that private sector employers have a strong bias towards hiring people who are currently employed or only very short term unemployed? That’s what liquidity means in terms of a JG.

  17. Ramanan says

    “Are you ignoring the fact that Treasuries are considered “money good” and in many applications stand in quite well for “money”?”

    The standard statistics do not count it as money. It is true that there is a logic to broadening and consider wealth as more appropriate rather than the narrow focus on monetary aggregates of which I am very well aware of.

    Doesn’t affect my comment @Ramanan March 18, 2012 at 4:04 pm

  18. Cullen Roche says

    So you admit the JG doesn’t do much on inflation. Okay. Good to know.

    According to the Fullwiler simulation of the GFC the JG would cost ~$324B over this period while the stimulus cost ~$600B. The stimulus adds 3.13MM jobs while the JG adds just 1.73MM jobs. So while the JG gets slightly better bang for your buck the difference is negligible. Liquid buffer stock? Nope.

    I didn’t frame MMR in a way that it takes moral stands. Personally, I am in favor of full employment and world peace and all that good stuff, but my moral decisions are peripheral to MMR and nothing more than my personal opinions. It’s not my duty to tell you how to achieve those things. MMT is the theory which has mixed in all sorts of policy into the theory. So don’t turn this back on me and try to claim I am being immoral and anything close because I’m not the one who positioned an economic theory around a political agenda. You guys did that so the onus is on you to prove that your ideas are driven by fact and not just ideology. I am not convinced.

  19. geerussell says

    One-off inflation is kind of a contradiction in terms. Yes, there’s a one-off adjustment when a JG is introduced and other wages find their spot relative to the new floor. What it doesn’t cause is sustained upward pressure on prices, as inflation is more commonly described.

    Wages and prices can still float up under a JG exactly as they do now with a buffer stock of unemployed. As stated previously, the point of the JG is to mop up residual unemployment, not to be a panacea against inflation or wage increases. It is sufficient that a JG does not itself cause those things.

    I looked at the same simulation you did. I didn’t see where the JG was described as less liquid. In fact, such a notion flies directly in the face of current experience comparing the job prospects of a person with a job than one without. The employed are more employable.

    As for the stimulative effect of a JG vs pump priming, the two aren’t mutually exclusive, they are complimentary. The JG begins where pump-priming ends, at the inflation barrier.

    Is there a moral component to not abandoning millions of americans to unemployment? Sure, that’s not exactly a scandalous admission. It also makes economic sense.

    So admit it. You are either arguing in favor of policies that maintain unemployment or ones that end it. Which are you doing? If you are defending the status quo, it’s an argument in favor of unemployment. If you are arguing pump-priming alone, you’re still in the status quo NAIRU wheelhouse just with a more politically palatable level of unemployment. If it’s some other policy as yet unrevealed, let’s hear it.

  20. wh10 says

    Interesting, I need to check out the Fullwiler paper and this issue with pump-priming vs JG. Also interesting because if that is what Fullwiler says, it is directly contrary to what Pavlina is working on

  21. Cullen Roche says

    I personally have no problem with them selling it from a moral perspective. Hell, it might even go over better. My problem is that they try to make it an economic argument. It’s very easy to prove that the JG doesn’t improve growth much when compared to normal pump priming, isn’t an inflation anchor and isn’t a superior buffer. So sell it for what it is – a moral position. It’s the obfuscation that bothers me.

  22. FDO15 says

    Of course it’s a moral position. Are you just discovering this Cullen? The MMTers are taking a political stand on unemployment. Did you ever believe it was anything different?

  23. Cullen Roche says

    Looks like you misconstrued my entire comment. I didn’t say the JG would cause no inflation. I said it wasn’t a price anchor just like I’ve been saying for months on end….I also said that even MMTers say it will cause at least a “one off” inflation so I don’t really know what your point is. You seem to be falling for the “price anchor” myth. No, it’s a price buoy. Wages and prices can still float up because the JG doesn’t control the wage spectrum. It only controls the very lowest wages which don’t even drive spending in this country. You think Goldman Sachs will change their pay scale because the govt sets a minimum wage? Uh, wake up and take your political blinders off. It’s just absurd to think the JG is some sort of price stabilizing tool. Absurd. Some of this is just common sense.

    I didn’t evaluate the JG in a simulation. Fullwiler did. His results showed that it’s not a liquid buffer stock and that its growth benefits are meager when compared to pump priming. That’s not my data. It’s his and I know for a fact that he’s said the JG doesn’t pack the punch some MMTers think it does….

    You’re just repeating your political talking points. Nothing new here. So admit it. You want the JG for moral purposes. That’s fine. But just say it. You probably want universal healthcare and social security also. Hell, I do too. It’s a moral position. I would never sell it as an economic position though as MMT tries to do….

  24. geerussell says

    Cullen Roche
    And this is where things get messy. MMR and MMT both agree that govt should issue enough NFA’s to maintain a healthy and stable economy. But when you say that the govt should just issue the NFA’s then MMTers say “but don’t be surprised when inflation flares up with 2-3% unemployment without a JG!”

    The missing element here is that if all you’re doing is issuing NFAs you will encounter inflation while still having unemployment. So you back off the NFAs to maintain price stability… and are left with UE. So what then of the residual UE? Too bad, grist for the mill? If only there were a non inflationary way to address that. Oh wait… that’s the entire point of the JG.

    You say the JG doesn’t create inflation as though it’s a drawback when in fact it’s the key feature. Fiscal policy that fights inflation creates unemployment. A JG fills that gap.

    And then the MMTers say that the JG will optimize output. But then we go to the Fullwiler simulation and find that pump priming beats the JG as stimulus. Okay, back to square one. Then the MMTers say the JG will be a better “buffer stock”. But then we look at the Fullwiler simulation and find that’s wrong also. Back to square one.

    You want to evaluate JG in a vacuum and then say if it doesn’t, by itself, solve every economic difficulty then you’ve debunked it. That’s the wrong measure.

    The baseline for success is swapping the buffer of unemployed for a buffer of employed without causing any net harm. There’s a lot of JG literature which claims the net benefits go beyond this but at a minimum that’s enough.

    So what it all really comes down to is whether you think the govt should eliminate unemployment on moral grounds

    I think there’s a mandate for the government to conduct economic policy towards the goals of price stability and full employment. That’s not exactly fringe thinking.

    since it doesn’t contribute to our inflation discussion, doesn’t boost growth and doesn’t serve as a more liquid buffer stock.

    What are you pointing at to support the assertion that in terms of finding private sector employment a pool of unemployed is more liquid (employable) than a pool of currently employed?

    And that’s just a political position.

    To the extent that any policy involves politics, yes. Being against a given policy is no more or less political than being for it.

  25. JJ says

    Ok, I’m not sure why that should follow though.