The money system

[beachlife]

Re: The official "ASX is tanking!" panic thread

Thats not how it works.

The bank is lending out 1mil in aggregate @ 6.5%, $90k+$81k+$72.9k etc
But people are also depositing that amount into the bank which it needs to pay interest on.

So $1mil lent out @ 6.5%
-1mil in deposits @ 4%
= $25k profits minus any bad debts

Ah yes, got carried away with the simplification.

So in other words, you're admitting that banks don't create money (it's money that is already in the system).

Do you accept that banks are highly levaraged (ie for every dollar of equities there is a much higher amount of liabilities)? Their profits must come at a cost, otherwise the market is constantly out of equilibrium. So what are the risks that they have to accept to reap the profits?

No, they create money.

But my point was that the savers allow the banks to do this, not the investors that trade the shares, and there is a risk for anyone with over $250k in any one bank. It all works fine while there is growth, which is why govts are desperate to keep growth alive and well.

Teachers Credit Society - up in smoke in the 80's
Challenge bank - not 100% if they were bailed or just bought cheap
Rams, bailed by RHG
RHG, bailed back to Rams
Bankwest - bailed by Bank of Scotland
BOS/Bankwest - Bailed by CBA

 

[craft]

Re: The official "ASX is tanking!" panic thread

Money creation needs it own thread. Banks do lend money into existence

Loans come first not the reserves – the reserves are generated by the loaned money being re-deposited and any slippage in the form of actual cash (notes/coins) in circulation is accommodated by the reserve balance sheet.

Whilst there is liquidity in the system, banks are never reserve restrained because they lend between themselves on an overnight basis to balance the books and it’s here the central bank acts to manipulate the interest rate and maintain liquidity.

It is actually not the reserve requirements (loans to deposits) that limit a bank’s lending but its capital ratio’s (equity to assets) – they need enough equity to cover their potential non-performing loans if they don’t have that they have a solvency problem not a liquidity problem.

 

[Value Collector]

Re: The official "ASX is tanking!" panic thread

Ok here's an idea, everyone with savings in abc bank should withdraw all of their cash and buy abc bank shares. Abc bank would disappear in a heart beat.

Yes, but there will always be cash that needs to be stored, All I am saying is that people storing that cash risk free should not be considered a favoured class that should earn high investment returns risk free at the expense of the people taking the investment risk on those funds,

for a simplified example, a new mining company might have three layers of stake holders. ( really it is probably, 8 layers)

1, equity owners Investors who are risking 100% of their capital in the project

2, Bankers, who are risking 100% of their capital in the project, but have a prior claim ahead of the equity owners.

3, depositors funding the bankers, who are risking 0% because they are guaranteed to get 100% of the principle and interest owed regardless of the outcome of the project.


Saying that the depositors should be entitled to earnings close to those expected for the other two groups who are taking all the risk is ridiculous. It's true all three groups play an important role, but there must be a big difference in earnings the system provides to the various classes or who would assume the risk? no one would want to invest.

 

[Value Collector]

Re: The official "ASX is tanking!" panic thread

The way I understand it is it goes like this.

The humble saver deposits $100,000 into the bank. Based on this the bank can lend around 10x that, so the bank lends out $1m

The bank earns 6.5%, so $65000 in interest on the $1m that they lent.

The saver earns 4% on his $100k, so $4000.

.

I thought you would say something like that, that's the "warped view" I mentioned.

It doesn't work like that.

If somebody banks $100,000 the bank can only lend out $90,000 of that. So they would pay $4,000 in interest and collect $5,850 ( not $65,000 ).

When people talk about banks creating money it comes from that cash being redeposited, When that $90,000 gets banked they can then lend out $81,000.

So money is being created, however at every step the bank is paying interest to a depositor.

for example,

the guy that deposits the original $100K earns interest, and so does the guy that banked the $90K and the guy that banked the $81K etc etc etc.

 

[Value Collector]

Re: The official "ASX is tanking!" panic thread

Contrast that to the investor that buys $100k worth of bank shares. Those shares already exist, so the investor has not provided any new capital or contributed to the banks business at all, but demands a dividend for doing nothing.

The investor that buys the $100K of shares is providing capital in a round about way. If there was no market for investors to sell the equity (capital) they own to other investors, the only way for investors to cash out of companies would be to go to the company and directly draw out working capital from the operating business.

So the fact that investors can sell their shares, means more money is left in the company and reserves build up allowing the company to use this capital to make new investments.

When BHP spends $4Billion on a big new development, they can only do this because investors have not taken 100% of the earnings as dividends, they are leaving their capital in the business to be reinvested, and they only do that because they are confident that they can sell this invested equity to another investor in the future.

 

[beachlife]

Re: The official "ASX is tanking!" panic thread

I thought you would say something like that, that's the "warped view" I mentioned.

It doesn't work like that.

If somebody banks $100,000 the bank can only lend out $90,000 of that. So they would pay $4,000 in interest and collect $5,850 ( not $65,000 ).

When people talk about banks creating money it comes from that cash being redeposited, When that $90,000 gets banked they can then lend out $81,000.

So money is being created, however at every step the bank is paying interest to a depositor.

for example,

the guy that deposits the original $100K earns interest, and so does the guy that banked the $90K and the guy that banked the $81K etc etc etc.

I think that error of mine has already been addressed.

The point, the banks could not do this without deposits, but could do it without someone buying their shares tomorrow, and the high gearing makes it unsafe, hence the govts need to guarantee small deposits.

 

[Ves]

Re: The official "ASX is tanking!" panic thread

Banks do lend money into existence.

Do you mean money that they've lent from a Central bank that has increased the money supply? I was actually talking about commercial banks not creating money (or as McLovin put it "they can't print money themselves"). Unless I'm missing something.

 

[Value Collector]

Re: The official "ASX is tanking!" panic thread

I think that error of mine has already been addressed.

The point, the banks could not do this without deposits, but could do it without someone buying their shares tomorrow, and the high gearing makes it unsafe, hence the govts need to guarantee small deposits.

My point is about who should earn the lions share of the earnings on those deposits.

The depositors can only earn interest if there are people willing to take those deposits and put them at risk.

I am simply saying that it makes sense to me that the ones taking the investment risk should be entitled to the lions share.

For example if a project costs $1 Billion to build, but is expected to earn 15% return on that capital (if everything goes well) and the equity holders put up 50% and the banks put up 50%, I think it is fair to spilt earnings along these lines.

1, Depositors earn a nominal rate say 4% ( risk free )

2, Bankers earn a 4% margin above the depositors ( 100% at risk, but have a prior claim and 50% safty margin)

3, equity holders, take what ever profits are left ( 100% risk, no prior claim)

If people start saying that depositors should expect 10%, that means your taking a big chunk out of the potential profits of the guys that have taken the biggest risks, put there money upfront first and were the last to get paid.

 

[craft]

Re: The official "ASX is tanking!" panic thread

Do you mean money that they've lent from a Central bank that has increased the money supply? I was actually talking about commercial banks not creating money (or as McLovin put it "they can't print money themselves"). Unless I'm missing something.

By commercial banks do you mean CBA, NAB etc? Because these banks do lend money into existence.

MO or high powered money controlled by central banks is the seed for fixed fractional banking but it is not used as a control mechanism – central banks simply accommodate what is required to maintain liquidity. When they want to influence private lending they do it through interest rates not high powered money supply.


The fixed fractional reserving requirements are a liquidity measure requiring 10% to be held in a central bank reserve account. It is an attempt to keep each individual bank liquid by forcing those that are under reserved to gather more deposits either from the private sector or other banks with excess reserves.

The reserving system needs to be distinguished in understanding banking from the balance sheet that needs to obviously be funded 100%. System wide the balance sheets stay in balance because a loan becomes instantaneously an asset to one party and a liability to another, the banking systems (as a whole) balance sheet just simply expands when a new private loan is created.

All money is created from debt.

Whist debt bears positive interest money has built in scarcity.

Whilst there is scarcity growth is required to repay capital and interest.

A finite earth can’t accommodate infinite growth.

Our money system needs attention, to accommodate humanity moving from a growth phase to a sustainable phase and soon or else we are not going to have a sustainable phase just an end phase.

This so called Global Financial crisis is a breather, subdued growth is a breather - the best recovery from here is not a return to historical growth but a new system that embraces sustainability and fairness of distribution. Redesigning money needs to be an important part of that and a first step to redesigning it is for a broader understanding of the current system and the actions it drives.

 

[Valued]

Re: The official "ASX is tanking!" panic thread

Are there other systems of money that will allow people to be compensated for their effort? My understanding is that it's very difficult to design a fair system of exchange that still allows for those who put more effort in to earn more than those who don't. Naturally, some people will be richer than others if that's the case. In our system those who are richer than are able to turn that money into even more money, at the expense of others who chose not to put so much effort in to gain buying power (for various reasons such as the good of man kind, not materialistic, or values family over possessions).

What system exists that allows each person to be compensated in line with the effort they put in to gain buying power? Is this system based on fiat currency that has no intrinsic value or something else?

For me the essential element seems to be that people need to go to work and get access to stuff in return as a result of that work. Those who do more difficult jobs, work harder, do a job that requires more education, or does longer hours naturally deserve to get more stuff. How does the system choose who gets what stuff?

By the way, as to banks printing money, like what craft said my understanding of it is that by lending money they are actually creating money. I believe it works something like this: I deposit $1000 into Bank A. Bank A retains $100 of this, credits my account with $1000, and then lends the $900 to Company A. Company A then deposits their $900 with Bank B (or they spend the $900 on say a plumber and he deposits it into Bank B or even back into Bank A). Bank B retains 10% being $90 and credits the account with $900. Bank B then lends $810 to Company B and so on. We now have more money than we started with. The banks just made money from thin air.

 

[Value Collector]

Re: The official "ASX is tanking!" panic thread

By the way, as to banks printing money, like what craft said my understanding of it is that by lending money they are actually creating money. I believe it works something like this: I deposit $1000 into Bank A. Bank A retains $100 of this, credits my account with $1000, and then lends the $900 to Company A. Company A then deposits their $900 with Bank B (or they spend the $900 on say a plumber and he deposits it into Bank B or even back into Bank A). Bank B retains 10% being $90 and credits the account with $900. Bank B then lends $810 to Company B and so on. We now have more money than we started with. The banks just made money from thin air.

Yes, but it is not really from "thin air". It is backed by a contract, where some body promises to pay a sum + interest.

Money is just really a coupon that you can exchange for something of value later, If I give you an IOU, you have a claim against my real world assets and any future productivity I may have. That IOU is worth something, especially if I am a productive honest person and it comes with an attractive interest rate.

 

[Value Collector]

Re: The official "ASX is tanking!" panic thread

.

Whilst there is scarcity growth is required to repay capital and interest.

I agree with every thing else you say, But I don't get why people say this bit.

I have heard people make claims that our money supply doesn't have enough money to pay the interest bill on the lending, I think this is false.

They make claims that if the total money supply is $100, and there is $100 + $20 interest owed, the system couldn't pay because not enough money exists, this is just false.

think of it like this, you and I are on an island, You owe me $100, but only 1 $20 note exists. It is still possible for you to pay me back the full $100 + interest by breaking up the payments,

You catch a fish, I buy it from you for $20, you then repay me $20 ($80 owing)

You build me a hut, I pay you $20, you then repay me $20 ($60 owing)

You collect coconuts and I pay you $20, you then repay me $20 etc etc etc ( $40 owing)

 

[craft]

Re: The official "ASX is tanking!" panic thread

I agree with every thing else you say, But I don't get why people say this bit.

I have heard people make claims that our money supply doesn't have enough money to pay the interest bill on the lending, I think this is false.

They make claims that if the total money supply is $100, and there is $100 + $20 interest owed, the system couldn't pay because not enough money exists, this is just false.

think of it like this, you and I are on an island, You owe me $100, but only 1 $20 note exists. It is still possible for you to pay me back the full $100 + interest by breaking up the payments,

You catch a fish, I buy it from you for $20, you then repay me $20 ($80 owing)

You build me a hut, I pay you $20, you then repay me $20 ($60 owing)

You collect coconuts and I pay you $20, you then repay me $20 etc etc etc ( $40 owing)

Hi value collector

Nice to see somebody doing some thinking on the subject.

It’s not that the money supply is insufficient – as you say $20 bucks could pay back $120 if the velocity is high enough. Without the growth in production though you won’t have the required velocity. (that's what's happening globally now)

$120 dollars worth of product/service has to be produced whereas without interest, only $100 worth of product or service was needed. That extra $20 worth is the growth demanded by the money system and the growth requires resources for product or the conversion of something we used to do for ourselves or as community (ie cooking/childcare etc) for services. The planet is finite and a lot of the crap we consume is already far less valuable then what we destroy to make it and there are only so many things to turn into service before we are reduced emotionally by not doing them for ourselves or within a freely giving community– probably overstepped that mark already too.

 

[Value Collector]

Re: The official "ASX is tanking!" panic thread

None. if the government is going to bail you out how can you loose.

If the bank writes a $10,000 loan and the borrower refuses to pay, the government doesn't bail them out, they lose the $10,000 but they still must pay the depositor back the $10,000, this is the risk they take. If they are making a 4% interest margin they have to write a lot of good loans to pay for the bad one.

If your talking about the American Bailouts, those were on pretty embarrassing terms, the "toxic" assets were bought at cents on the dollar, and shareholders suffered big dilutions from the capital stakes taken. Not to mention that before it got to that stage some firms went under losing everything.

 

[Value Collector]

Re: The official "ASX is tanking!" panic thread

Hi value collector

Nice to see somebody doing some thinking on the subject.

It’s not that the money supply is insufficient – as you say $20 bucks could pay back $120 if the velocity is high enough. Without the growth in production though you won’t have the required velocity. (that's what's happening globally now)

$120 dollars worth of product/service has to be produced whereas without interest, only $100 worth of product or service was needed. That extra $20 worth is the growth demanded by the money system and the growth requires resources for product or the conversion of something we used to do for ourselves or as community (ie cooking/childcare etc) for services. The planet is finite and a lot of the crap we consume is already far less valuable then what we destroy to make it and there are only so many things to turn into service before we are reduced emotionally by not doing them for ourselves or within a freely giving community– probably overstepped that mark already too.

I am not getting the part where you say the velocity wouldn't be high enough without growth. the interest payments are constantly being recycled back into the economy through bank running costs, wages, dividends and investments, and the borrowers work and provide goods and services into the economy for which they get paid and then make principle and interest payments.


The environmental factor is real, But I think we will find ways around that.

 

[McLovin]

Re: The official "ASX is tanking!" panic thread

It is actually not the reserve requirements (loans to deposits) that limit a bank’s lending but its capital ratio’s (equity to assets) – they need enough equity to cover their potential non-performing loans if they don’t have that they have a solvency problem not a liquidity problem.

Which partly explains why QE has been such a failure at stimulating credit growth. Banks need credit worthy borrowers (in their opinion of course), not excess reserves.

 

[Value Collector]

Here is an interesting BBC Documentary if anyone wants to sit down with a cup and tea and get a good introduction into the banking system.

 

[craft]

Re: The official "ASX is tanking!" panic thread

I am not getting the part where you say the velocity wouldn't be high enough without growth. the interest payments are constantly being recycled back into the economy through bank running costs, wages, dividends and investments, and the borrowers work and provide goods and services into the economy for which they get paid and then make principle and interest payments.


The environmental factor is real, But I think we will find ways around that.

Value Collector - I'm not sure I can explain it other than I have.

It is this growth forced upon the physical economy by people creating production to pay back the original debt and then EXTRA to pay back the interest component which is the current money system’s Achilles heel in a finite world. It’s a physical growth problem.

Money can easily be manipulated to accommodate the physical – but the physical cannot always be manipulated by the money system as we are experiencing now.

High power money is being lifted left right and centre but it’s not creating actual money supply because it is all just sitting in reserve accounts because the banking system has a solvency crisis not liquidity crises. Too many of the past promises can’t be economically fulfilled and that will stifle growth until it is worked through the system via default, austerity, inflation or financial repression.

This working through the current insolvency issue is actually a blessing in my opinion because it gives us a breather to growth and time to find a more sustainable system.

Japan was the first to hit the solvency issues caused by complacent lending justified by unsustainable growth. Others are following. Beware property lending in Aus - property is not a very productive asset and can't liquidate all the promises via its own internal return - Many sources of national income and growth are currently under a cloud - watch employment rates closely as a precursor to property instability with economy wide implications.

 

[craft]

VC

Sorry I kept editing the last post until it locked up and I fear it will still make no sense.

I really am struggling to explain it. Eventually after lots and lots of reading about the money system it all sort of dropped into place for me but obviously I can’t explain it very well.

The clearest point I think I can try and make is that our current money system is viewed as in crises in many places around the globe where growth has stalled. Because it is not designed to operate at zero growth, it hums along fine with growth and the underlying design component that causes this situation is positive interest rates.

We cannot have infinite growth in a finite world – we need to redesign the money system to suit the next phase where we seek quality over quantity.

 

[Klogg]

VC

Sorry I kept editing the last post until it locked up and I fear it will still make no sense.

I really am struggling to explain it. Eventually after lots and lots of reading about the money system it all sort of dropped into place for me but obviously I can’t explain it very well.

The clearest point I think I can try and make is that our current money system is viewed as in crises in many places around the globe where growth has stalled. Because it is not designed to operate at zero growth, it hums along fine with growth and the underlying design component that causes this situation is positive interest rates.

We cannot have infinite growth in a finite world – we need to redesign the money system to suit the next phase where we seek quality over quantity.

Agreed on all of that - except perhaps your definition of 'physical' growth (assuming you mean physical in the literal sense of the world). I concur that we have limited physical goods and services, but there's also the growth of the virtual ones that could grow the economy.

Not sure if it'll ever be enough, but thinking about how large and quickly this can grow, there's no reason why transactions, incomes and therefore overall growth can't hinge off of this.

I much prefer the idea of reducing the debt burden and going through a period of austerity and defaults. Start from a clean slate.