Saturday, April 26, 2014

Warren Mosler tries to criticise full reserve.

Warren criticises Wolf’s recent Financial Times article on full reserve banking (aka 100% reserve banking). Basically Warren doesn’t say anything that seasoned advocates of full reserve like cannot demolish. So here goes…
Warren’s first criticism is that Wolf “has not yet defined ‘money’ for the purposes of this analysis”. Well the simple answer to that is that when no SPECIFIC definition of a word is given, the normal assumption is that the word is being used as per dictionary definition.

Bank subsidies.
Next, in the passage starting “Banking is not a normal market activity….”, Wolf correctly points to the fact that banking is not “normal” in that it is subsidised: he cites two subsidies, namely deposit insurance and the lender of last resort facility provided by central banks.
Incidentally, it’s important here to distinguish between different deposit insurance regimes, some of which constitute a subsidy, and some not. In the US, there’s the Federal Deposit Insurance Corporation which covers small banks and is funded by insurance premiums paid by small banks. Clearly that is not a subsidy. In contrast, deposit guarantees for larger banks in the US and all banks in the UK are funded by taxpayers. So that definitely IS A SUBSIDY.
Anyway, Warren clearly does not get the above subsidy point. That is, he does not answer Wolf’s valid criticism of the existing banking regime, namely that it is subsidised.

Next, Wolf makes the point that bank failures are destabilising, to which Warren answers “How about aggressive fiscal adjustments to sustain aggregate demand as needed?”
Well the answer to that is that “aggressive fiscal adjustments” can certainly do much to counter the effect of large scale bank collapses, but we’re still better off without those gyrations, aren’t we? If your kid suddenly jerks the steering wheel of your car in one direction you can probably compensate quick enough to avoid disaster, but you’re better off not letting the kid anywhere near the steering wheel.

Aggregate Demand.
Next, Warren says, “Yes, a 100% capital requirement, for example, would effectively limit lending. But, given the rest of today’s institutional structure, that would also dramatically reduce aggregate demand…”.
Well hang on: Warren said just above that the demand reducing effect of bank collapses don’t matter because “fiscal adjustments” can compensate. Now all of a sudden he’s implicitly saying fiscal adjustments can’t compensate for a drop in demand.
Moreover, there’s a difference between a sudden and unexpected collapse in the banking system, and a pre-planned rise in capital requirements up to 100%. In the first case, fiscal policy can perhaps avoid the worst effects of the banking collapse, but there are still dislocations. In contrast, the switch to full reserve can be done at any speed we like. For example the requirement could be raised by just 10% a year, which would mean the adjustment too place over a ten year period approximately (though personally I think, as does Positive Money, and as did Milton Friedman, that the switch can be made in much less than 10 years).

Types of money.
Next, Warren deals with this sentence of Wolf’s: “A maximum response would be to give the state a monopoly on money creation.” To which Warren responds, “The state is already the single supplier/monopolist of that which it demands for payment of taxes.”
False logic from Warren there. It’s true that taxes must be paid in the state’s money, but the state’s money is not the only form of money!!! Indeed, at the start of his post, Warren agrees that the vast majority of money (he cites 97%) is created by commercial banks, not the state.
Next, in relation to Irving Fisher’s claim that full reserve would “greatly reduce business cycles”, Warren repeats his point that full reserve would reduce demand. To repeat, as Warren himself correctly points out, the government / central bank machine can increase demand by any amount any time it likes.
And a few sentences later, Warren repeats (for the third time) his claim that full reserve reduces demand. He refers to a “vicious deflationary spiral to lower ‘real wages’..”. Now this is getting boring.
Advocates of full reserve are well aware of the fact that the INITIAL EFFECT of full reserve is to reduce demand. 

The IMF.
Next, Wolf says “A 2012 study by International Monetary Fund staff suggests this plan could work well.” to which Warren replies “No comment”.
That’s fair enough. Warren is a leading advocate of Modern Monetary Theory, and the IMF is widely regarded as incompetent in MMT circles. I had a look at the full reserve system set out by two IMF authors here,and wasn’t too impressed.
Next, Wolf refers to the fact that full reserve is supported by Laurence Kotlikoff, Ben Dyson and Andrew Jackson. Wolf could have added Milton Friedman and Hyman Minsky to that list.
Warren’s answer is the single sentence: “None of which have any kind of grasp on actual monetary operations.” That’s a totally useless sarcastic remark which I’m not going to bother answering. The above list of leading economists may be wrong, but the idea that you can write off their ideas with one single sarcastic sentence is ridiculous.
Next, in the passage starting “Today, state spending…” Warren makes the bizarre claim (for the second time) that base money is the only form of money. To repeat, has Warren himself pointed out at the start of his post, the vast majority of money  is commercial bank created money, not central bank created (i.e. base money).
Next, in the passage starting “So anyone who got paid…” and ending “Deficit spending does that.” Warren objects (for the FOURTH time) to the fact that full reserve reduces demand. For the FOURTH TIME, the answer was given by Warren himself: government and central bank can make good any deficiency in demand.
Plus Warren seems to object to the fact that Wolf’s advocacy of deficit spending as a means of dealing with the deflationary effect of introducing full reserve is not original. Well sure: the idea that deficit spending boosts demand is not original.
All the advocates of full reserve are saying (to repeat the point for the umpteenth time), is that introducing full reserve has a deflationary effect, and that can be countered with deficit spending.
Go back and re-read the latter paragraph sixteen times or a hundred and sixteen times if you like.

Too Big to Fail.
Next, in response to Wolf’s claim that full reserve would “end too big to fail”, Warren says, “That’s just a matter of shareholders losing when things go bad which is already the case.”
Whaaaat? Just shareholders losing?? Hasn’t Warren noticed the trillions of dollars of taxpayers’ money diverted into banksters’ pockets over the last four years?

Next, Warren objects to Wolf’s claim that full reserve “would also transfer seignorage – the benefits from creating money – to the public.” And that’s the first point that Warren gets right and Wolf gets wrong. Reasons are thus.
When the state creates $X and spends it on let’s say roads, the benefit of that money printing accrues just to the state or the citizenry (assuming the printing is not so excessive as to cause excess inflation). However, when a commercial bank lends $Y into existence, that does not boost bank profits by $Y: nowhere near. The bank charges interest of course, but it has to cover staff costs, paying for bad debts, etc. All in all, the bank may make a profit out of the loan, or may make a loss.

Permanent zero interest rates.
Next, in the passage starting “In any case…”, Warren points to the fact that, if as argued by full reserve advocates, the state simply creates and spends money into the economy when stimulus is needed (without paying interest to holders of that new money), then that comes to much the same as his own “permanent zero interest rate” policy. And Warren ends the passage by saying “But that doesn’t require any of the above institutional change, just an announcement by the cb that zero rates are permanent.”
Well it’s perfectly true that a zero interest rate policy does not require full reserve. Indeed that point is pretty obvious: several large Western countries have actually had a zero or near zero rate policy for the last four years or so without implementing full reserve.
However, it is false logic to argue, as Warren does, that because policy A involves B, and B can be achieved without A, that therefor A is devoid of merits. Travelling northwards from somewhere South London will get you across the river Thames. But crossing the Thames can be achieved in other ways. Ergo the London Underground is pointless?

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