Wednesday, August 1, 2012

The Kotlikoff-Werner “two account” system and full reserve mesh nicely.

There are two ideas advocated by monetary radicals (for want of a better phrase) that mesh nicely. They’re as follows.

First there is full reserve banking: the idea that private banks should not create money.

Second, there is the idea advocated by Laurence Kotlikoff, Richard Werner and others, namely that those who deposit money at banks should be forced to decide how much of their money they want the bank to lodge in a 100% safe manner, and in contrast, how much they want the bank to lend on or invest.

The reason these two ideas mesh is as follows.

In a Kotlikoff-Werner (K-W) type regime, if $X is deposited at a bank, and the bank lends the money on to a borrower, money creation takes place. That is, the depositor has $X in the bank, and the borrower also has $X in the bank. M4 expands by $X.

In contrast, if $X is deposited at a bank, and the depositor wants the money to be 100% safe, the bank lodges the money in a 100% safe manner. Indeed, the latter “100% safe storage” happens more or less automatically if the bank just does nothing with the relevant money. Reason is that the above $X deposit must have come from some other bank, and that means that at the end of the relevant working day, $X is transferred from the account of the “other bank” in the books of the central bank to the account of the depositor’s bank in the books of the central bank. I.e. where a commercial bank does nothing with money deposited, that money (at least initially) is automatically lodged at the central bank.

To summarise so far, it might seem that where a bank lends on or invests depositor’s money, new money IS CREATED. Whereas if the bank does nothing with the money, the no new money is created.

However, one of the conditions attached to bank accounts under a K-W type regime is that depositors who want their money loaned on or invested do NO HAVE instant access to their money. And quite right: the money has been loaned on or invested, so it makes very good sense to say that the relevant depositors cannot have instant access. If you invest money in a house extension, you DO HAVE access to the money in that you can sell the house. But you certainly DON’T HAVE instant access. Moreover, house prices may drop between your building the extension and selling the house, so you might not get ALL the money or indeed ANY OF THE MONEY back.

Alternatively, you might double your money. In a K-W type regime, depositors who want their money loaned on or invested face similar risks and potential rewards.

Thus depositors’ money which is loaned on or invested under a K-W type regime is no longer money: it is an investment, little different from shares bought on the stock exchange.

So to summarise, under a K-W type regime, private banks CANNOT CREATE MONEY. Money deposited in a 100% safe manner does not result in money creation, and the fact of lending on or investing depositors’ money does not result in money creation either. In short, a K-W regime is INHERENTLY a full reserve banking system.


My reason for making the above point is that having read tens of thousands of words written by K & W, I don’t remember them making the above point. But it’s quite possible I’m wrong.


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