Figuring out how the world really works
Podcasts – radio shows you can download – are a great medium when you’re driving, in the gym, or cooking dinner.
Here is my current top four podcasts that deal with money and economics in general. For each series, I’ve picked one episode that I enjoyed a lot. Continue reading “My favorite finance and economics podcasts”
Professor Christopher Balding has published a blog post with his views on the link between the China’s banking system and its currency: Can China Address Bank Problems without Having Currency Problems?
He believes that “it is much more likely that if there are systemic banking issues that currency problems will also arise.”
It is laudable that Prof. Balding summarizes his arguments. By being explicit about the assumptions, readers don’t just have to trust his opinion. Instead they can follow the logic and evaluate the strong and weaker points themselves.
The goal of this post is to counter some of the points listed by Balding to support his conclusion. Continue reading “Problems with Christopher Balding’s analysis of Chinese banks and currency”
Banks create money. To be more precise, when a bank grants a loan, it simultaneously creates a deposit. Bank deposits are functionally equivalent to cash.
The insight that bank lending creates money is a direct result of basic accounting, and has been explained many times. See for example the Bank of England, Positive Money, this blog, and most recently the Bundesbank (h/t Benjamin Braun) and Norges Bank (h/t Frank van Lerven).
A while ago, Daniela Gabor pointed out that economists have know this for a long time (see the replies to her tweet for even earlier references):
Waldo Mitchell, writing in 1923(!) on banks' power to create money ex-nihilo. Incredible we're still debating this. https://t.co/rAuoG0ALeu pic.twitter.com/JI5vHN2dk6
— Daniela Gabor (@DanielaGabor) March 21, 2017
I wouldn’t be surprised if the Renaissance bankers who understood double-entry bookkeeping were well aware of the fact that they were creating money.
So how is it possible that some famous economists still don’t know that banks really do create money? Why do they insist that banks lend out savings?
Economics education apparantly fails to pass on some elementary knowledge to students.
It doesn’t help that the activities of banks are often described as ‘monetary intermediation’. Intermediation implies that bankers are the middle men between borrowers and savers.
Monetary intermediation is even an official term in the statistical classification of economic activities in Europe:
However, there exists a much better description for banks. In Dutch, the formal description of banks is “geldscheppende financiële instellingen”, which literally means “money-creating financial institutions”:
As far as I can tell, Dutch is the only European language in which banks are described as active money creators1. All other languages use ‘monetary intermediation’.
Maybe everybody should take a cue from Dutch and start saying ‘money creating institutions’ from now on, so we don’t have this debate a hundred years from now 😛
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David Beckworth recently interviewed1 (podcast) professor Jesús Fernández-Villaverde. Among other things, they discussed the hyperinflation in the Weimar Republic, i.e. Germany after World War I. The economists ponder why a hyperinflation that occurred in 1923 has had such a large impact on German economists and central bankers, even to this day. After all, the NSDAP rose to power in the 1933, at a time of mass unemployment and austerity. This was almost a decade after the hyperinflation ended.
The professors get to the hyperinflation at 8:20 into the conversation. Fernández-Villaverde tells the story of how inflation got out of hand when French and Belgian troops occupied the Ruhr2. The Weimar government encouraged workers to resist the military occupation. Strikers were paid with money freshly printed by the Reichsbank, the German central bank. The combination of no real economic production with an increasing amount of Papiermarks tanked the purchasing power of the currency. The hyperinflation began. Continue reading “Why do Germans remember the Weimar hyperinflation?”
Central banks (CentBs) have drastically expanded their balance sheets in the wake of the global financial crisis. The Federal Reserve (Fed) and the European Central Bank (ECB) followed the example of the Bank of Japan (BOJ) by buying trillions of dollars and euros worth of long-term bonds, a policy known as quantitative easing (QE).
The CentBs make these purchases by “base money”, i.e. cash and reserves1. Neglecting legal restrictions, CentBs can create base money at will.
There is a lot of controversy among economists about QE and its consequences for the balance sheets of central banks.
This post discusses the question of whether or not base money should be considered a liability of the central bank. After that issue is understood, we can clarify when the CentB can book a profit and how this affects government finances.
One of the stated goals of QE is to raise inflation. Some worry that once this happens, rising interest rates will cause massive losses to the central bank, resulting in unspecified “bad things”. I argue that these fears are unjustified. Continue reading “Central bank liabilities and profits”
What is helicopter money (HM)1 supposed to accomplish? Advocates of HM believe that HM acts as a stimulus which increases the level of economic activity. In this post, I construct a simple model and show in detail how it works. The steady state economy – an economy with a constant aggregate nominal income and expenditure per time – is described first. Next, the effect of reduced spending and income of the agents is illustrated. And then it is discussed how the economy can be returned to its previous steady state of spending.
What are the assumptions behind the model? And what is the scope of this post?
The effects of stimulus on prices and exchange rates will be discussed in later posts.
Easy numerical examples are used throughout this blog post. As I wrote before, this avoids the hidden inconsistencies that many words-only economic commentaries suffer from. The reader can check the logic of the model and expand it further for his own use. This should make it a powerful analytic tool for economists. I am planning to frequently use this model for further research, to answer questions regarding balance of payments and transfers between economic classes2.
Continue reading “Helicopter money part III: economic stimulus”
As I know a thing or two about helicopter money, I like to help out when people have misconceptions about it. American economics professor Brad DeLong recently accused Claudio Borio, Piti Disyatat, Anna Zabai1 of manufacturing objections against helicopter money on his blog and on Twitter. I reacted to the tweet of DeLong, pointing out that Borio et al. had raised a valid point.
When I checked back to see if DeLong had replied, it turned out that he had blocked me. As I am new to Twitter, I thought that maybe I was blocked because DeLong received too many messages from me.
Continue reading “Manipulating Brad DeLong suffers from status anxiety. Sad!”
Helicopter money (HM) is money printed by the central bank that is given to the people. Figuratively speaking, Mario Draghi1 would fly over the Eurozone and drop new €50 bills out of a helicopter to the population below. In the first part of this series, I explored the possible sources of HM. The current post looks at the political constraints that prevent the ECB from firing up the engines of its helicopters. Continue reading “Helicopter money part II: politics”
Scientists build models that capture the essence of some observed phenomenon. The models that I like best are strongly simplified. This in contrast to very complex and non-transparent models that try to replicate every aspect of reality. Good models allow us to gain insight into something we observe by using a limited number of key concepts. I use simple models to be explicit about the underlying assumptions and to be consistent. Continue reading “My favorite type of model”
I was doing some research for a post about how the Trump presidential candidacy exposes the political biases of economists. But then I came across the blog of Scott Sumner. Professor Sumner has been teaching economics for over 25 years. Mr. Sumner is an advocate for a monetary policy called NGDP targeting. He also hates Donald Trump.
What I found stunning while reading Dr. Sumner’s articles are not his political views, but rather how poor his understanding of financial economics really is. As an exercise, I recommend that you take a look at these three articles. Can you identify his implicit assumptions and outright false claims? Continue reading “Quiz: Can you spot the economic errors of Scott Sumner?”