You decide to make a new monetary system from scratch. You give everyone a chequing account on your computer, with an initial balance of 0 units. If Andy buys bananas from Betty and pays her 100 units, Betty now has a positive balance and Andy now has a negative balance. The Net money supply remains at 0 units, but the Gross money supply is now 200 units.
If every individual's payments and receipts of money (which is not the same as income and expenditure, because we buy and sell non-money assets for money too) were perfectly synchronised (so that Andy sells 100 units worth of apples to Carol, who sells 100 units worth of carrots to Betty, who sells 100 units worth of bananas to Andy, all at exactly the same time) then the Gross money supply would always be zero. In a representative agent model (like the simplest version of the New Keynesian model) that perfect synchronisation is exactly what happens (which is why money seems to disappear from the simplest New Keynesian model).
But if agents are heterogenous, perfect synchronisation of payments and receipts of money won't happen automatically. And it is costly for individuals to synchronise their payments and receipts of money. So the Gross money supply will be strictly positive, and will be an increasing function of the extent of non-synchronisation of payments and receipts of money.
One way for individuals to increase the degree to synchronisation is for individuals with positive balances in their chequing accounts to lend to those with negative balances. Their incentive to synchronise depends on the spread between the interest rate paid on positive balances (the "deposit rate") and charged on negative balances (the "bank rate"). The larger the spread, the bigger the incentive for individuals to borrow and lend to each other directly. But if the spread is zero, and if the central bank sets no limits on how large a negative balance an individual can hold, there is no incentive for individual borrowing and lending.
If the central banker who creates the monetary system sets no limits on how large a negative balance an individual can hold (overdraft limits), the system is open to abuse. Transversality conditions won't just enforce themselves. Each individual has an incentive to buy an unlimited amount of consumption goods and then die with an infinitely large negative balance and negative net worth. And if accounts were numbered anonymous accounts, that could not be traced to any specific individual, individuals would have an incentive to open an unlimited number of numbered accounts, with a negative balance in each, unless the central bank restricted numbered accounts to having a non-negative balance. (The numbered accounts would work like paper currency, which is equally anonymous, and cannot be held in negative quantities.)
It is not easy to understand why individual borrowing and lending would exist. If the central bank is unwilling to allow an individual to have a larger negative balance, why would some other individual be willing to lend to him? The central bank has an additional penalty that it can impose on those who default: it can threaten to deny future access to the payments system. Perhaps the individual lender has private information on the borrower's credit-worthiness? And why should the central bank charge a spread between deposit rate and bank rate leaving gains from trade to individual borrowing and lending? Wouldn't the central bank prefer to capture those gains for itself? Perhaps because the central bank has monopoly power, faces a downward-sloping demand curve, and cannot or will not price-discriminate by offering smaller spreads to those who have better ability to borrow or lend?
If the limits on negative balances are non-binding, the gross money supply responds automatically to accommodate fluctuations in the degree of synchronisation of payments and receipts, even if the central bank keeps the net money supply fixed exogenously. But in the real world, where limits on negative balances are sometimes binding, the central bank must adjust the net money supply to accommodate fluctuations in the degree of synchronisation.
Worthwhile Canadian Initiative 
“Gross money supply would always be zero”
In this model (in the first version, without limits to debt) the supply of money is really zero? Or is more infinity?
Put it in another way – imagine that you have 100 persons, each with an initial account of 0, and there is a limit to negative accounts of -200. What is the money supply in this case? 0? Or 20.000?
Nick,
“But in the real world, where limits on negative balances are sometimes binding, the central bank must adjust the net money supply to accommodate fluctuations in the degree of synchronization.”
a) This is the first time you mention net money supply adjustment in the post. I assume you mean something like OMO?
b) Does the “the degree of synchronization” correlate with the velocity of money?
i.e.
Perfect synchronization with no gross money =
The limit of synchronization as gross money supply shrinks and the velocity of money goes to infinity ?
Majro: I think that’s right.
Miguel: Gross money supply would be zero, only if all agents perfectly synchronised their payments and receipts, which happens automatically with identical agents, who always spend the same amount of money at exactly the same time, so the same amount of money enters as leaves an agent’s pocket.
JKH: I guessed you would say: “just like the BoC and commercial banks!”
a. Yes, by OMO.
b. Yes. Velocity approaches infinity as sychronisation becomes perfect.
Quick question: what could be done via OMO that couldn’t be done just by varying the interest rate paid/received on positive/negative balances with the CB “lending” money into existence and “borrowing” it out of existence.? They could both equally used to vary the money supply and it seems interest rates would be less bother.
“If every individual’s payments and receipts of money (which is not the same as income and expenditure, because we buy and sell non-money assets for money too)”
At first glance, I am not getting that part.
Can you expand on it?
MF: When the CB lends, it buys an IOU, which is the same as the CB buying a bond (because a bond is an IOU), which is the same as OMO (though OMO normally refers to government bonds only)
TMF: if I buy your house for $1m, that does not mean your income is $1m.
Nick, now we are talking!
You said: “You decide to make a new monetary system from scratch. You give everyone a chequing account on your computer, with an initial balance of 0 units. If Andy buys bananas from Betty and pays her 100 units, Betty now has a positive balance and Andy now has a negative balance. The Net money supply remains at 0 units, but the Gross money supply is now 200 units.”
I’ve been working on a similar model for the last 12 months pretty much 24/7 (it took me 24 months to arrive at it, though).
If we are doing this from scratch, why not get rid of the “money problem” in economics by first declaring that there is no money in this system? None of the agents get paid in “units”. Look at it this way: Betty gives bananas to Andy and gets nothing in return (no money, nothing). Why would Betty do this? Not knowing Andy too well, Betty nevertheless gives bananas to Andy because (a) both agree on the price of the bananas, and (b) it is recorded in a central ledger that Betty has given up something priced at 100 units, without receiving anything in return, and that Andy has received something priced at 100 units without giving anything in return. Think of a “multilateral gift economy”, with explicit records of the gifts given and received.
There is no money in this system. The seller never gets paid. The only way for her to get paid is to buy something. It’s “give and take”. Nothing is transferred between the accounts (= no money flows). Entries are made on individual accounts when the account holder either gives or takes (= there is a transaction).
Show me the money?
I have something to say about more practical matters, too. Let’s start with this:
How do the agents price goods? What is the value of a “unit”? In a system like this there is no well-defined numeraire (an abstract “unit” can never perform that role). The price level in a general equilibrium model ends up indeterminate. But that doesn’t need to be a problem in practice, if there is a history of pricing goods, and debts, in “units”. Then all goods with “sticky prices” form a “numeraire bundle” of sorts.
Do you assume that kind of “price history”, or how do you deal with the lack of a numeraire?
Antti: “How do the agents price goods? What is the value of a “unit”?”
Let me rephrase your question: How does the central bank control the price level (the price of goods in terms of units)? Suppose it wanted to target 2% inflation; how would it do this? What would it need to do to tighten/loosen monetary policy if inflation started to rise above/fall below the 2% target?
It has 4 instruments:
1. The interest rate paid on positive balances
2. The interest rate charged on negative balances (or the spread)
3. OMO’s to adjust the net money supply
4. Overdraft limits to adjust the gross money supply
Which one(s) should it use?
Stay tuned (I’m trying to keep my posts shorter and simpler)!
“If Andy buys bananas from Betty and pays her 100 units, Betty now has a positive balance and Andy now has a negative balance. ”
It is interesting to notice that in the real world (with QE) Andy can sell his negative balance to the FED and get 100 units (or close to 100) in exchange.
I must admit that the FED might not buy the negative balance from Andy but they certainly would buy the negative balance if the name on the account was “Federal Government”.
“TMF: if I buy your house for $1m, that does not mean your income is $1m.”
OK. That I get.
“because we buy and sell non-money assets for money too”
That is more difficult to understand.
“You decide to make a new monetary system from scratch. You give everyone a chequing account on your computer, with an initial balance of 0 units. If Andy buys bananas from Betty and pays her 100 units, Betty now has a positive balance and Andy now has a negative balance.”
Is Betty allowed to convert 10 “units” to currency and withdraw it?
Nick: Does “rephrasing” mean that you change my question to another one which you’d like to answer? 🙂
First you have to establish a price level. Only then we can talk about inflation and price level controls. How do you establish a price level? Remember that the initial gross balances are zero. Why did Betty and Andy agree that the price of the bananas was 100 units? Why not 10 units? Notice that ‘units’ don’t exist. They are an abstract unit of account.
If you want to design a system from scratch, you should avoid carrying unnecessary baggage — terms like “money” and “money supply” — from the previous system. Eugene Fama put it this way in his 1980 paper “Banking in the theory of finance” (p. 55):
“Suppose we have a completely unregulated banking system in the sense of section 2, and an advanced society in which it is economic to carry out all transactions through the accounting system of exchange provided by banks. The system finds no need for currency or other physical mediums of exchange, and its numeraire has long been a real good, say steel ingots. The society is so advanced that terms like money, medium of exchange, means of payment, and temporary abode of purchasing power have long ago fallen from its vocabulary, and all written accounts of the ancient ‘monetary age’ were long ago recycled as part of an ecology movement.”
“Suppose now that, for whatever reason, the government of this society decides that it would be more aesthetic to replace steel ingots as numeraire with a pure nominal commodity which will be called a ‘unit’ but which has no physical representation. Although monetary theory has long since passed away, value theory has strengthened with time, and the government’s economists realize that the ‘unit’ cannot be established as numeraire by simple decree. It must be a well-defined economic good, that is, the ‘unit’ needs demand and supply functions which can determine its equilibrium value in terms of other goods.”
Unlike Fama, I don’t think your ‘unit’ needs to be a well-defined economic good. A numeraire needs to be that, but the ‘unit’ doesn’t need to be a numeraire. Fama is thinking within the framework of general equilibrium, so he needs a numeraire (at all times, right?) in order to determine the price level, but I’m thinking in terms of the real world and there we don’t need a numeraire because we have a history of prices. If you want to start from scratch, with no history of pricing goods in ‘units’, then you need a numeraire — initially. You can set the price of a certain good at ‘1 unit’. Once you have this way established a general price level, and you probably have existing debts denominated in ‘units’, then you a can severe the link between the particular numeraire good and the ‘unit’. The prices are “sticky”, which ensures that even if the price level is indeterminate (in Arrow-Debreu world), it doesn’t tend toward infinity.
This became again more like a short blog post than a comment. Main point: Don’t make a “monetarist leap of faith” from zero gross balances to controlling the price level. First you have to explain how the initial price level is determined. We cannot make assumptions about how the price level can be controlled before we have an idea how the price level is determined.
Nick said: “If every individual’s payments and receipts of money… were perfectly synchronised”
It sounds like you are describing a mirror image in a world without mirrors. There is no need for money if every individual’s SALES AND PURCHASES OF GOODS are perfectly synchronised. Not only money seems to disappear, but it never needs to exist.
What you seem to do here is define ‘a sale’ (~delivery of goods) as a “receipt of money” and ‘a purchase’ (~receipt of goods) as a “payment of money”. Right? This is unnecessary. Why would you need to introduce some imaginary, useless “money” in your model?
TMF: there is no currency.
Antti: If all trade were perfectly synchronised pairwise, we would have a barter system, where Andy swaps his apples for Betty’s bananas. But imagine instead a Wicksellian triangle (or a Wicksellian circle), where Andy wants Betty’s bananas, and Betty wants Carol’s carrots, and carol wants Dan’s dates, and Dan wants Eric’s eggs…..and Xavier wants Andy’s apples. All at the same time. But it is very inconvenient for all 26 agents to meet in one place, and they can only meet pairwise. Remember that money is not just a unit of account; it is a medium of exchange — everything else gets bought and sold for money — precisely because barter is so inconvenient. Stop thinking like an accountant (or finance guy)! 😉
[By the way: in English, “price controls” has come to mean something quite different, like passing laws making it illegal to buy or sell something above or below the legal price.]
On price level determinacy: I find it helpful to follow Patinkin. Consider a system of equations describing agents’ (net) demands for each good. If the agents are rational, and do not suffer from money illusion, each equation will be Homogenous of Degree One in $ (or whatever the nominal units are). This means that any solution (equilibrium) to the system of equations will be indeterminate in nominal variables. (Start in one equilibrium, double all the nominal variables, and we get another equilibrium.) The only way to make the price level determinate is to assume that the equation describing the central bank’s behaviour is not HD1. In a standard “green money” world, one way to make the central bank’s behaviour not HD1 is to assume the central bank fixes the initial nominal stock of money M. (Bitcoin might or might not be an example). But in my red/green world here, the net money supply is initially fixed at 0 by the CB, so that won’t work, because that equation is still HD1. Fixing the gross money supply (or putting on an upper limit in nominal terms) might work, because that equation is not HD1.
[BTW, I always get HD1 and HD0 muddled, but you know what I mean.]
Stay tuned.
Nick, as you probably remember, I am an accountant. I suggest you stop thinking like an economist if you want to understand our accounting system aka “the monetary system” 😉
I did imagine a “Wicksellian circle”, not pairwise trading, when I talked about the perfect synchronisation of sales and purchases. If trading takes place in sequential pairwise meetings, then there should be no “quid pro quo” -constraint (sequential budget constraint) if we want to be efficient. Ostroy & Starr put it like this (“The Transactions Role of Money”, 1990):
“Even though each person aims to execute an overall net trade with zero market value, the most efficient way to accomplish this in a sequence of pairwise trades is not to constrain the value of each bilateral commodity transfer to be zero. […] An individual who takes more than he gives at some pairwise meeting is simply executing a part of the overall plan to which the members of the economy have submitted themselves.”
Now look at your monetary system, where we start from zero gross balances. What does Betty give Andy? Bananas priced at 100 units. What does Andy give Betty? Nothing. Going into the meeting, Andy has nothing to give; no “units”, no “medium of exchange”, nothing. Your “central bank” is an accountant. It makes entries in a ledger. Accounting is, by definition, always about recording events/phenomena happening outside of the accounts. What event does the accountant record when Betty gives bananas (priced at 100 units) to Andy? He records that Betty gave goods (priced at 100) to Andy without receiving anything in return. That’s what Betty’s account balance will reflect after the meeting. The accountant also records that Andy received goods without giving anything in return. That’s what Andy’s negative account balance tells us.
There are no commitments between Andy and Betty. But both have committed, as members of the society, to aim for a balanced lifetime budget (“an overall net trade with zero market value”, in the language of Ostroy & Starr). Betty gave bananas to Andy because she expects to get carrots from Carol; she expects this because she knows that Carol has similarly committed to a balanced lifetime budget and that Carol has no problem with giving carrots to Betty if only this “gift” of hers is duly recorded by the central bank/accountant. It should also be noted that Carol doesn’t need to know about Betty’s “banana gift” to Andy, because what matters to Carol is her own account balance, not Carol’s balance. This is why Andy didn’t need a positive balance (what you call “money”) in order to get the bananas from Betty; Betty only cared about the credit entry on her account. Once that entry is made, Betty has no claim against Andy. Neither does she have a claim against any particular entity — just a claim against the “system”, or “society”. She can choose the “counter-gift” she wants, which in this case is carrots from Carol, and once she receives the carrots she has no more claims against the system (let’s assume the carrots were priced at 100 units). Her account balance is zero.
Is there something in my description which you don’t agree with?
On price level determinacy… The question remains: Why was the price of the bananas 100 units and not 10 units? If I’m not mistaken, in your paragraph about Patinkin you say that the initial price level in your world is indeterminate. You cannot make it determinate by creating an initial positive stock of money, because M is determined by the trading (incl. pricing) history of your agents. M is a dependent variable. After Betty has given bananas to Andy, M could be 100 units or it could be a million units. In the latter case, Milton Friedman might say: “Of course the bananas cost one million units because the central bank has printed one million units!”. And we would all laugh at this otherwise brilliant man.
Btw, Nick: As an accountant I appreciate nitpicking, and as a scientist I’m obsessed with learning to pick not only the right words but the perfect ones, but when you talk about “controlling the price level” and I refer to this by “price level controls” — not by “price controls” –, I don’t see how anyone could misunderstand me. Nevertheless: point taken 🙂
“what matters to Carol is her own account balance, not Carol’s balance”
Should of course read “… not Betty’s balance”. You’ve made me insecure, Nick! I feel I need to correct these, even if there is no risk of misunderstanding.
Antti: “But both have committed, as members of the society, to aim for a balanced lifetime budget (“an overall net trade with zero market value”, in the language of Ostroy & Starr).”
Who enforces that commitment? Each individual has an incentive to have a large negative balance on death.
Garbage is not a good; it’s a bad. Imagine an economy where people use garbage as money “if you give me your apple, I will also take 10 ounces of your garbage in exchange”. Then a bank creates red paper money convertible into garbage on supply (the bank promises to exchange 1 red note for 1 ounce of garbage — “I will redeem your red note for garbage”). Then people keep their red notes in a shoebox at the bank for convenience. Then the bank keeps a record of how many red notes are in each person’s shoebox. If someone says the red notes don’t really exist, it doesn’t matter whether they are right or wrong. It’s observationally equivalent.
TMF: How would it change the system if there was currency?
Nick said: “Who enforces that commitment? Each individual has an incentive to have a large negative balance on death.”
The system enforces that commitment. Who stands to lose in case of a fraud? If the positive balances are insured, then “the taxpayer” (incl. holders of positive balances) stands to lose. “The taxpayer” instructs the accountant (central bank) to take care that negative balances don’t lead to any large credit losses. There are many ways to achieve this.
The question about enforcement, and who performs it, doesn’t affect the logic behind my description. It’s still about “gifts and “counter-gifts”, but naturally with limits on how much “gifts” one can receive without giving any “gifts”. The seller still doesn’t get paid in “money”.
I don’t want to go to your red/green world. If you think it’s equivalent to what I say, then be it. I find my world a lot simpler; there’s no weird metaphors like “garbage”.
Antti
I don’t see why you don’t incorporate banks. You have nothing to lose and everything to gain. For example, you do not have to rely on some moral sauce to enforce balanced lifetime budgets. That might work in small communities but hardly seems realistic in an anonymous, modern economy. Banks, otoh have a self interest not to let any of their clients extend their credit lines beyond what seems realistically serviceable and also no interest on having to write down assets upon the death of a client. You’re committing the opposite error as Nick is, if I may humbly say so :-).
Nick, is Betty allowed to save?
Antti, currency is a physical item. Entities store it themselves. There is an actual exchange (asset swap). I buy a DVD. I get the DVD. The seller gets currency.
Where things are stored matters.
Oliver: Good that you mentioned “moral sauce”. I forgot to mention above that enforcement is taken care partly by the shared norms of the society. Most people like to be liked and be considered as good citizens/members of the community. This is essential in a “gift economy” without explicit gift bookkeeping, where “mental accounting”, and rumors by which this “mental ledger” is shared, play an important role.
You’re right about an anonymous, should we say “faceless”, economy. I haven’t discussed it yet. When me move there, I can bring in more banks (now I only have the central bank, just like Nick has). But these banks, just like the central bank, performs the combined role of an accountant and a “lifetime budget enforcer” (I include “gatekeeper” role in this). There is no “money”, and the banks are not owed to by non-banks, neither do banks owe non-banks (just like in the case of our central bank accountant). Banks themselves never stand to suffer any credit losses, but entitities on the RHS of the bank’s balance sheet do (shareholders and other credit balance holders and/or taxpayers — the latter is usually added on the RHS when absolutely necessary). The accountant’s risk is a risk of losing his job.
How anonymous is our economy, I wonder? I haven’t seen that any considerable amount of credit (“overdraft limit”) has been extended to anonymous entities. The bankers (someone working in a bank, today) at least think they know their customers, even if they haven’t always met them face-to-face. The world of “three C’s of credit”, Character, Capital and Capacity, hasn’t totally vanished.
Nick: One thing about “garbage” (It wasn’t fair to say that I don’t want to play your game, so I should explain.)
I give you an iPad as a birthday gift. You feel that you should return the gift, say by giving me an iPhone, when my birthday comes. You might be pissed at me for giving you such a valuable gift, but still you want to return the gift (perhaps because otherwise you’d feel inferior — to you gift-giving is a sign of power). You feel you owe me one and/or you think I think you owe me one.
I gave you an iPad and garbage. Right? I don’t see why we need to bring in garbage in this model, but I see what you mean by it.
TMF: I hear you, partly. Where things are stored matters. And the accountant loses the “big picture” (assuming no numbered, anonymous accounts), because he doesn’t know who holds the currency.
The asset swap part of your argument is not relevant. Currency is a “portable credit/positive balance”, no more an asset than the credit balance on your account in the bank’s ledger is.
Nick,
We might enhance the discussion to add reserve requirements to your model. I think it would work like this in the U.S.:
” If Andy buys bananas from Betty and pays her 100 units, Betty now has a positive balance and Andy now has a negative balance.” The bank making the positive balance is required to place 10% of that amount on reserve deposit at the central bank. (see https://www.federalreserve.gov/monetarypolicy/reservereq-reserve-maintenance-manual.htm) The deposit must be in positive account.
To do this in your model, the bank would create another account in it’s own name and the CB’s name. The bank would then credit the CB 10% of the amount that Betty received, and take the negative balance in the bank’s account.
Somewhat following Antti’s comments, we now see that we have two gatekeepers. The positive accounts are more and larger than just Betty. Negative accounts are now held by both Andy and the Bank.
Antti
I agree with you more than I disagree with you. So how about this definition: money = goods receivable.
The bankers (someone working in a bank, today) at least think they know their customers, even if they haven’t always met them face-to-face. The world of “three C’s of credit”, Character, Capital and Capacity, hasn’t totally vanished.
Which is precisely why they belong in the model.
Antti, are you saying if Betty has currency in her pocket that the currency is not her asset?
Oliver: You say that banks belong in the model? I agree with you. My model has banks. Real banks. But how I interpret them, how I describe their role in the economy, differs from the conventional interpretation (which is based on the implicit model we all use when we think of banks and money, and which we have been building since we were children). Money and banks as entities which lend money and are owed to by debtors, and owe to depositors, don’t belong in my model. But still all bank-related phenomena (which consists mostly of accounting and contracts) is in my model. Within that framework, it just doesn’t make any sense to talk about money as a means of exchange/payment, nor about “money” being deposited or lent.
Regarding “money = goods receivable”… Well, kind of. But we should avoid “kind ofs” (there are enough of those in all texts about money). What we are after is a precise definition. If we cannot define ‘money’ in a precise way, then we should avoid using the word altogether. Money means something to everyone, so if we use the word ‘money’ but the concept differs from the concept people have in their minds, then we will have trouble communicating.
What you mean is that “money = positive bank account balance = goods receivable” — am I right? Now, what can we say about a “positive bank account balance”? It’s within the realm of accounting. It’s a result of cumulative positive and negative entries made on the account (arithmetics). It is not an object (a thing) which can be moved from one account to another. Once we make an entry on the account, the previous balance disappears and a new balance emerges. To call this account balance, which cannot be touched or moved and which disappears once an entry is made, ‘money’ would be problematic, because this would be money which cannot flow, which cannot be transferred from the buyer to the seller, and which isn’t a “means of payment”.
“Goods receivable”… If I have ordered goods from you / you owe me goods, then I have “goods receivable”, right? I might have an account in my own ledger named “Goods receivable”, and there I would have recorded the nominal value of those goods. But I would probably also have a contract which defines the goods I’m to receive. On the other hand, a positive bank account balance doesn’t tell us from whom I’m to receive goods nor what kind of goods. It doesn’t even guarantee that I will receive goods, because it is not an explicit claim on goods (say, I’d be in coma for years and after regaining consciousness, I’d notive that a hyperinflation has taken place).
As I said, “kind of”. But we have to be careful when choosing words. Terminology plays a crucial role in a theory. When we look at our current monetary theory, there is too much inaccuracy and ambiguity in the terminology: money is a “social construct/contrivance”; money is debt/an “IOU”, even though the central bank doesn’t really owe anything to its holder; “money is what money does”; etc. The courageous people who try to give a precise definition for money end up where Pesek&Saving, Friedman&Schwartz, and for instance Eric Lonergan ended up: money is fiat money, an asset to its holder but in no real sense debt to anyone, which in their minds makes money net wealth of the community. (Btw, just like Nick, Lonergan too has something against accountants… Accountants have ruined their “money”, I believe.)
Just thinking out loud here. Does anyone find any sense in this?
TMF: No. It’s an asset. In our system, a record which tells the community around you that you have given up goods (with a certain nominal value) without receiving anything in return, yet, is an asset to you. But if you’re a buyer, the seller doesn’t care if you have such an asset or not, or if you have earned it by really giving up goods or not. What the seller cares about is only that a record will be created which tells the community that she has given up goods without receiving anything in return. To be precise, the seller might have a negative balance from before, in which case she won’t end up with an asset at all. So it’s really the individual entry which matters — not the “positive bank account balance” as an asset. The hand-over of currency to another person can be viewed as a credit entry on the recipient’s account. What we are really interested in is the recipient’s net balance (bank account balance + currency).
In all I say I assume, for now, a world where there are no bilateral debts denominated in the unit of account between non-banks. It is also helpful to consider the banking system as a whole, as One Bank.
What you mean is that “money = positive bank account balance = goods receivable” — am I right?
I mean that real money, for lack of a better term, is that which one earns by giving up goods or services at t=0 in hope of receiving goods or services of equal value at t=0+x. At the same time it is promise by society to deliver those goods. Whether the promise pans out and indeed who controls to what extent it does, are separate questions.
Does anyone find any sense in this?
I do.
Antti, Oliver. These comments continue to make sense if we consider money as if it were a “national gift certificate”.
This money model is based on a merchant-gift-certificate specific to one store or chain of stores. A rudimentary development can be found at http://mechanicalmoney.blogspot.com/2016/09/money-is-like-national-gift-certificate.html.
Nick, When comparing your model with the national gift certificate model, Andy takes the role of a merchant issuing the gift certificate. Therefore, red money (negative balance) = gift certificate obligation = bond.
Betty takes the role of purchasing a national gift certificate. Therefore, bananas = green money (positive balance) = gift certificate in hand = money
Quoting Oliver, ” Does anyone find any sense in this? I do.”
Good, Oliver. We are on the same page. I still suggest we talk about ‘positive account balances’ instead of ‘money’, because everyone is used to think of money as something (a good, an object, an item, a digital item, etc) that is transferred from a buyer to a seller, and this transfer is a “transfer of funds” which constitutes a payment. In other words, perhaps because of our childhood learning, when we think of money we think of physical cash/currency. When we move into the realm of “pure accounting”, there is no money as we used to know it.
Look at the way you put it above. It’s not really something no one has ever before suggested? But still it seems to me that no one has taken that as a starting point and built a macro model where the monetary system is part of the “real economy”. At least I haven’t seen that kind of model. Have you? In my opinion, the best way to approach this is through comparison with a “gift economy”. That’s where I ended up, after using “Occam’s razor” for about 24 months on various versions of the theory I was working with (in previous versions there were “indirect, fungible IOUs” of non-banks flowing between bank accounts).
Let me put it this way:
IOU. I owe you. “I” is me, “U” is society. This is a negative balance on my bank account.
UOM. You owe me. “U” is, again, society at large. “M” is me. This is a positive balance on my bank account.
Negative balance = IOU.
Positive balance = UOM.
IOU ≠ UOM.
When people like Milton Friedman and Eric Lonergan say that UOM is not an IOU, they are right. If they say that there is no offsetting entry for the UOM, and that makes the UOM net wealth for the community, they are wrong. There always exists an IOU for every UOM out there (credit=debit).
How does this sound?
Sounds fine to me. You might want to look into some Bernard Schmitt. Here’s Claude Gnos on Schmitt:
With reference to bookkeeping Schmitt (1984) points out a double flaw in this view.
First, the double-entry principle does not allow banks to extend credit to borrowers without gaining an equivalent credit from depositors. This is an argument Keynes made in the General Theory and that on the post-Keynesian side has been confirmed by Moore (Moore, 1988). As a consequence, banks’ liabilities, that is, deposits, are the source of bank financing, and match the credit they grant to borrowers. Depositors are creditors of banks and ultimately the creditors of bank borrowers. Banks (as Moore also emphasises) are thus one type of financial intermediary; they are not the actual source of the credit granted to borrowers. Money creation has to be seen for what it really is: bookkeeping entries — debits and credits that banks record in their books in nominal units of account, and that resolve into banks’ assets and liabilities denoting (indirect) financial relations between borrowers and depositors. Bank money is therefore a dual entity, and not one and the same thing as considered in monetary flows (payments) and stocks (assets).
The second point, which is closely related to the first, concerns the nature of the circuit. The common circuitist view in a sense maintains the (neo)classical approach by which economic transactions are exchanges achieved by means of a peculiar good or asset that is deemed to be money. The rigorous reference to bookkeeping delivers a more original view, so much so that Schmitt came to distance himself from other circuitists (cf. Rossi, 2004).
Antti, (Oct. 30, 10:26 AM)
I am comparing the IOU ≠ UOM model to national-gift-certificate model, and find it nearly identical.
However, we need a mechanism because “There always exists an IOU for every UOM out there (credit=debit).” is incorrect. The mechanism to render credit≠debt occurs from/when the issuer of debt borrows from the holder of debt. In national-gift-certificate theory, this occurs when the gift certificate issuer borrows a gift certificate and reissues it. This constitutes reuse of the gift certificate so the physical number of gift certificates does not increase, only the accounting number of gift certificates issued increases. Thus credit no longer equals debt on the positive account side.
How does this sound?
Antti, if currency is an asset and exchanged for goods (like the DVD example or other things), then there is an asset swap (balance sheet transactions) and the currency moves from one person’s pocket to another person’s pocket (storage).
Let’s assume no entity has a negative balance. Entities only have a positive balance or zero balance. Now what happens?
TMF: Some entity must have a negative/debit balance. Otherwise currency wouldn’t be in circulation. Currency is a credit balance on the CB balance sheet. What kind of debit balance you have in mind? Treasuries or gold, for instance?
Roger: I read your blog post about “national gift certificates”. Interesting! I need to think about it, but it really doesn’t sound that far off from what I’m saying. A thorough comparison of these two ideas could be fruitful!
I’m still trying to get my head around your “credit≠debt” argument. First I have to point out, that I just stated an accounting identity, credit=debIt. It might be that I had in mind a broader definition of “IOUs” and “UOMs” than you had. Let’s see. I have some problems with matching your terminology with mine… Who is the “issuer of debt”? Is it “United-States-as-a-big-store”, or who? And who is the “holder of debt”? In my “multilateral gift economy with explicit record-keeping” there are those who are in debt to the society and those who hold credits against the society.
It sounds to me that you might think of “gift certificates” as (physical) currency, because you talk about the physical number of them? I’m not interested in currency at the moment, because it can be modelled as “pure accounting”, by netting it against the account balance. We lose anonymity, but I don’t view it essential to what I’m trying to study at the moment.
So I’d like you to elaborate a bit (meanwhile, I’ll do some additional thinking). What you mean by your sentence “credit no longer equals debt on the positive account side” isn’t clear to me, either.
Oliver: I’ve been reading some Bernard Schmitt lately, too (three times someone has mentioned Quantum Economics when I’ve presented my ideas). There are clear parallels, but something seems to be missing, though I can’t say what before I’ve read him again. Even the name Quantum Economics sounds too complicated, but perhaps it was considered just a catchy name and the theory itself is simpler? From your quote:
“denoting (indirect) financial relations between borrowers and depositors”
I guess I mentioned earlier that I was at one point thinking in terms of “indirect IOUs” flowing between accounts/holders. If you hold money, that would be an “indirect IOU” of, say, a non-bank business with a “loan” from a bank. But I had to conclude that even this indirect relationship breaks down because of explicit and implicit guarantees of most of the credit balances in banks’ ledgers. This is related to some “loanable funds” models, too. Holders of positive balances have clearly not lent goods to holders of negative balances, because they don’t hold any explicit claims against goods, and they might as well receive goods (“counter-gifts”) from people with non-negative balances.
Roger: I had missed your comment “October 30, 2016 at 09:50 AM”. That clarifies, at least partly. I’ll get back to you later. But please elaborate meanwhile, if you find time.
I was thinking of the central bank being technically insolvent and doing an equity transfer to Andy.
A = L + Eq
0 = 100 + (-100) for the central bank.
Andy’s assets of currency go to 100 from 0 plus his other assets.
Also, assume gold is MOA and MOE (it was explained to me that gold is no entity’s liability). There are no demand deposits and no currency. There is no private debt, no gov’t debt, and no stocks.
There are no commercial banks and no central bank.
No entities “spend” more than they “earn”. They can “spend” what they “earn” or less.
I don’t think there are any liabilities here and no negative balances here.
Antti: Thanks for reading my post about “national gift certificates”. Yes, it sounds like our models compare well.
Yes, the “United-States-as-a-big-store” can issue gift-certificates=money. Why would USBS issue gift-certificates? We follow Nick’s model; someone provides USBS with services or resources and USBS pays with a gift-certificate. Our local hardware store could do the same thing, no longer paying for services with money. Instead, our local hardware store begins paying for services with gift-certificates good only at the issuing store.
If our local hardware store did this often, it could find itself with a dangerous amount of gift certificates issued. A solution would be to borrow gift certificates from those who held them. The store would get the gift certificates back and issue a credit=bond to the person who surrenders gift certificates. The store can then reissue the surrendered certificates in trade for additional services and resources.
You would do the accounting better than I but think that following the reissue, accounting for the store would show: Store owes 2 certificates issued; recent service providers hold one certificate, past service providers hold one certificate. In addition, both store and past certificate providers also must show on their books a record of their trade of gift certificate for a store issued bond. (The bond is a promise to return the borrowed gift certificate).
I think this mechanism fits into Nick’s model but he has not yet discussed the process. Does it fit into your model?
Roger: OK. That clarified things. I see some problems here, though, when I try to fit your ideas into my model.
1. Who is USBS? The central government or just any “Andy”? If USBS hands over a gift certificate to a service provider, in which store does it tell the certificate is valid, and what makes the certificate valid in that store? If “all stores”, then what makes it valid in a store which the issuer doesn’t own? The buyer of the services has to be an entity we can name.
2. Your local hardware store seems to be paying “in kind” for services, and if the certificate is valid on the issuing date, then the role of the gift certificate is diminished: it’s an IOU (“I owe you hardware of your choice”), but redeemable right away. (See next point for more on maturity.)
3. It seems you are trying to explain government borrowing when you talk about borrowing gift certificates (which are your “high-powered money”?) — correct? Anyway, it seems to me that by borrowing a gift certificate the issuer in effect extends the maturity of the gift certificate (here is a parallel to government taking high-powered money from circulation and replacing it with Treasuries). I don’t see how this kind of action would lead to “credit≠debt”. And when I said “extends the maturity”, what I really mean is that the issuer makes sure that the gift certificate is redeemed EARLIEST at the date when the issuer is due to return the gift certificate. A gift certificate has, in one sense, usually a zero maturity. But what is beautiful (from the issuer’s point-of-view) about gift certificates is that some of those are NEVER redeemed. If the issuer doesn’t set “must be redeemed by” -date, then the certificate might be forever outstanding (not necessarily circulating) — not wholly unlike in the case of fiat money.
4. Whether the store re-issues a borrowed certificate (the same physical object ends up in circulation again) or issues, instead, a new certificate, doesn’t make any difference. I haven’t heard of stores running out of their own gift certificates (no doubt this is possible, just like in Weimar they didn’t manage to print enough central bank notes to meet the demand even though they worked in three shifts). So the only reason I can see for “borrowing” a certificate would be to make sure that the certificate is not redeemed yet. This could be achieved in the first place by issuing a certificate with a “can be redeemed starting on” -date. As I said above, in no way do I see how “credit≠debt” would be true in this case. A gift certificate in the hands of the recent service provider + a promise to return a gift certificate to the past service provider = store’s debt = service providers’ credit. Right?
TMF: I don’t follow you now. You redefined ‘currency’ as equity or gold, just to avoid the existence of any liabilities? Nice trick 🙂 Why would equity be worth anything if the bank is insolvent (LHS of balance sheet is zero)? And what is the offsetting entry on the RHS — 100 + (-100)? One of those is Andy’s equity, but the other?
Let’s skip the currency part for now.
Assume Andy, Betty, and Carol use gold as MOA and MOE (it was explained to me that gold is no entity’s liability). Gold can only be used as “money” or as a savings vehicle (no other use). There are no demand deposits and no currency. There is no private debt, no gov’t debt, and no stocks.
There are no commercial banks and no central bank.
Andy, Betty, and Carol don’t “spend” more than they “earn”. They can “spend” what they “earn” or less. They can spend more if they find more gold.
I don’t think there are any liabilities here and no negative balances here.
Andy finds 100 oz of gold. He then uses it to exchange with Betty and so on.