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Ben Bernanke's war

Stephanie Flanders | 17:16 UK time, Friday, 15 October 2010

Ben Bernanke declared war today - not on China, but on the possibility of deflation. he knows that a vicious cycle of slow growth, stagnant or falling prices and high unemployment poses a much greater threat to America's way of life than China's silly exchange rate.

Ben Bernanke

 

But like it or not, the exchange rate will be caught up in the Fed's response.

In the 1930s, the deflationary trap was the gold standard. Britain left it first, and was vilified for doing so - but it was also the first major economy to recover.

The verdict of economic historians has been that it would have been better for the world if other countries had followed Britain sooner.

Now we have no gold standard (though the euro might be playing a similar role for the eurozone). But we do have a collection of countries, most of them Asian, who have created a modern version of it, by pegging their currencies to the dollar.

America can't abandon its own currency. But it can make things as uncomfortable as possible for those that choose to stick with it. Ben Bernanke may not have planned it that way, but that is exactly what the Fed's policy will do.

Let me say something about what that policy will actually be.

The message of today's speech is that chairman Bernanke thinks that US inflation is dangerously low, that unemployment is dangerously high, and that growth can and should be much faster than it is now.

You don't have to be the world's most powerful academic economist to grasp these three features of the US economy. The September inflation numbers, also out today, make clear just how serious the threat of deflation is: the annual core inflation rate last month fell to 0.8%, the lowest rate since 1961.

Also note that Ben Bernanke doesn't buy the idea - common among some US economists - that a large part of the recent rise in US unemployment is structural, meaning growth will not bring it down.

Here's the key sentence in the speech, which Paul Krugman and other US Keynesians will like:

"Overall, my assessment is that the bulk of the increase in unemployment since the recession began is attributable to the sharp contraction in economic activity that occurred in the wake of the financial crisis and the continuing shortfall of aggregate demand since then, rather than to structural factors."

But if you're the Fed chairman and your mandate is to achieve price stability and full employment, you can't just observe these facts. You also need a plan to fix them.

In effect, the speech lays out a four point plan. First, tell investors that you have a roughly 2% inflation target. Second, tell them you are perfectly willing to buy a lot more bonds to push down long-term interest rates and increase nominal spending, and you think it will work.

Third, tell them that they're still underestimating your commitment to push up inflation, and you expect to keep rates low for longer than they think. Fourth, actually go out and buy a lot more bonds and hope for the best.

Arguably, with this speech the Fed is now up to point three of the plan (though part of its strength will lie in repetition). Apparently, the fourth, "QE 2", is only a matter of time.

Naturally, the speech doesn't have details on the likely scale of the Fed's asset purchases, or what, exactly, they would buy. But Bernanke does cite the Bank of England's gilt purchases approvingly.

True, the chairman says there is a big downside to such extraordinary measures, because markets will worry about the exit path. But in his next breath he asserts that, with the new tools at the Fed's disposal - primarily the capacity to mop up excess bank reserves - this problem has now been solved. Some will doubt that this is true. But it's noteworthy that he thinks it is.

Not all the Fed governors agree on the need for more QE. As in the UK, some have been making the case in recent weeks - while others have talked up the risks. But one has to imagine, on the basis of this speech, that Bernanke believes he has a majority on his side.

Some have talked of a linkage between Fed policy and the Chinese exchange rate: if the Fed agrees not to do more QE, then the Chinese will shift the exchange rate. That is not going to happen, and it shows a misunderstanding of the Fed's own view of what it is doing.

Ben Bernanke's goal is faster US growth, higher inflation and lower unemployment. A rebalancing of the global economy - and as a small step toward that, a change in the Chinese currency - can play a welcome contribution to that goal, and will also be a sign of the Fed's success. But it's a secondary objective. America's recovery comes first. Whether the rest of the world likes it or not.

Comments

Page 1 of 3

  • Comment number 1.

    Oh Ben, Ben Ben, BEN!
    Can you not do better than this?
    Do you not know that the United States is fighting wars, and otherwise trying to stay afloat on deflated fiat money? What is the value of the American dollar? The American dollar is circling the drain, clogging her own systems, stagnating herself onto death.
    The upcoming G-020 will likely de-beg the American dollar in favour of basket currency with drawing rights. This is how worthless the American dollar become.
    America can't abandon its own currency, but there is absolutely nothing to stop other countries (en masse) from abandoning it.
    The message of today's speech is that chairman Bernanke thinks that US inflation is dangerously low, that unemployment is dangerously high, and that growth can and should be much faster than it is now. DA!
    Also note that like Ben Bernanke, I do not buy the idea - common among some US economists - that a large part of the recent rise in US unemployment is structural. There is no money for GROWTH, even if growth could bring bring employment figures down. In case the US has not noticed, it is 13 trillion dollars in debt, the interest on which alone is mind-boggling.
    Here's the key sentence in the speech, which Paul Krugman and other US Keynesians will like:
    "Overall, my assessment is that the bulk of the increase in unemployment since the recession began is attributable to the sharp contraction in economic activity that occurred in the wake of the financial crisis and the continuing shortfall of aggregate demand since then, rather than to structural factors." Da!
    So how do you fix this problem?
    If you're the Fed chairman and your mandate is to achieve price stability and full employment, you need a plan. The four-point Bernanke plan will not work.
    What are you going to buy more bonds with - fiat money from the Federal Reserve? Well, jiminy that will push up inflation all right - a lot more than 2%.
    Sometimes these American economists just blow my financial brain!
    The fourth, "QE"? Only a matter of time? This would be insane. How did the first three work for you?
    But Bernanke does cite the Bank of England's gilt purchases approvingly, but if the UK is smart, it will go about its own business with highly restricted purchases.
    What is this: the capacity to mop up excess bank reserves - this problem has now been solved? There are no excess reserves! What problem has been solved? Let me repeat, the United States is 13 trillion dollars in debt!!
    There is absolutely no need for more QE.
    Ben Bernanke's goal is faster US growth, higher inflation and lower unemployment. A rebalancing of the global economy...Too late!
    America's recovery will not come at the hands of more QE.
    So what is the answer? Make the financial institutions, which have NEVER paid their full share of taxes, PAY TAXES - FTT and/or FAT, preferably both. These taxes will barely be felt by the huge inverstment banks, but they will make all the difference in the world to the American taxpayer and the American Government. They will put a dent in that 13 trillion dollar debt.
    I don't know why the American Government is so afraid of its banks. Is it that money is power and power is money, and no one is daring enough?

  • Comment number 2.

    The only purpose of his action is keep the word depression locked in the closet.

    Delaying the pain makes it worse!

  • Comment number 3.

    Casino economics played by the same gamblers who inflated America's and our debt bubbles in the first place. America will look inward and become protectionist, it's inevitable and I can't blame them. We likewise need to look for our own survival because due to expensive and less plentiful oil and oil dependent resources the world economy must change.

    It will become more local by necessity and less "stuff" consuming. I agree with others such as John from Hendon that teaming up with our neighbours in the EC is our best option and chance of keeping ourselves fed and supplied with energy.

    Hopefully we will take charge of our population growth and focus on a lifestyle that doesn't pollute or deplete the environment beyond what can be regenerated.

    A walk in the hills or meadows with friends or family really can be much more enjoyable and healthy than a shopping trip to the mall to buy stuff every Saturday.

  • Comment number 4.

    You mean war on savings, income and our future. Here is more desperate pro-inflation propaganda from Stephanie, on behalf of credit junkies and bonus bankers.

  • Comment number 5.

    QE is just a form of theft - the number of dollars in issue is equal to the value of the US economy. If more dollars are issued each dollar is worth less. Everyone who owns dollar denominated assets worldwide loses out.

  • Comment number 6.

    In the main article is says " high employment". Should that not be "High UNemployment".
    Get it right please.

  • Comment number 7.

    Surely, the one of the easiest ways to create higher cost inflation is to apply selective import tariffs and then either buy bonds with the revenues of those tariffs or invest the revenues direct in US infra structure like green energy, transport etc.

    QE has the problem (to the USA) of the monies leaking out of the domestic economy overseas and which weakens the QE effect in terms of local multiplier effects, which is probably what eventually happens in the UK with some of the QE monies?

    Just a few % import tariffs can make a great difference ... the US problem is also one of the lack of jobs ... and not just economic statistics. In the US, lack of jobs eventually means a change of government.

    If the US go for import tariffs or both tariffs and QE then the US economic impasse may be broken, with careful fiscal management of government led job creation. Import tariffs have more direct on main exporters to the USA, and which like China, hold a basket of currencies and government debts and will not be bothered about federal tinkering as interest rates are too low to be lowered any further and printing money usually means more money going to the US banks which immediately figure out the most profitable investment strategy for themselves in handling/investing the monies e.g. investment in China?

    The US will have to be radical and be clear if it wants to improve its situation as, in economics terms, this will likely be much more interesting than anything likely to happen in the UK. More QE can be destabilising and deflationery ... an economy can have inflation and deflation in different sectors and ... that is the risk ... eventually one of the big economies will get the balance wrong with QE and the deflation. inflation will take hold very strongly ... or even both as being 'unmanageable'... causing a flight from the currency ... run on the central bank. The USA is probably too big for this to happen... but what if inflation 'overshoots' and is higher than expected and with no significant increase in US interest rates. The USA has to be careful which kind of 'inflation' it creates ... cost? wages? money supply? If the only brake on an 'overshoot' is higher interest rates then this will raise interest rates here in the UK ... and we all probably know what that means.

    I am expecting 'economic fortress USA' before too long ... a mixture of QE and import tariffs as the USA is big enough to be self sufficient providing it puts together a nationwide alternative energy policy.

    Not many in the USA will thank Bernanke if his fiscal measures e.g. raise GDP but with US unemployment continuing to rise ... being unemployed in the USA is very scary indeed.

    The USA does have an advantage in that like or second probably or close behind only China (India, Russia, Brasil), it does have a reasonable good degree of control over US domiciled banks and their investment strategies ... contrast that with the UK ... Ha Ha Ha!


  • Comment number 8.

    Steph,
    Ignore my rant on the previous blog, you've redeemed yourself.

  • Comment number 9.

    I'm constantly amazed that the Fed's approach to solving these problems bears no relation, at all, to the cause of them.

  • Comment number 10.

    How to recover:

    1) instruct the BoE (central bank) to stop issuing government debt (it's mostly unnecessary) pay interest on excess reserves instead if necessary.

    2) Implement a properly 'funded' and ubiquitous Job Guarantee or other public works program, in order to preserve the skills and sanity of those who are unemployed until this crisis is over. This will reduce any build-up of structural unemployment, and help maintain price stability.

    3) Issue Economic Stimulus Payments (ESP) to low paid workers in boroughs with lowish inflation and highish unemployment. They can spend this into the economy or just pay off their debts.

    4) Don't cut anything, and no tax increases either until unemployment is below 5% as this will only further reduce aggregate demand. Any cuts which are made should be redirected into fiscal stimulus.

    5) Ignore what the rest of the world is doing.

    6) Note-to-self: don't rant at our friend Stephanie.

    Kind Regards

  • Comment number 11.

    BTW - Growth in US unemployment is most definitely 'structural' ... and has become more of an a fore-front issue because the construction/ property sector is weak i.e.

    - Buoyant globalised market section of the US economy with slow growth ... but statistical/technical 'growth'.
    - Structural shift away from property lending and a subdued weak construction/property sector.
    - USA reliance on imports (arguably) at an all-time high.
    - Only import tariffs and heavy domestic investment in key projects and critical doemstic multiplier activities will rebalance the economy ... as artificial GDP growth will in part ... suck in more and more imports and put even more Americans on the dole

    Does it sound familiar?
    Bernanke is playing politics more than economics ... he does not want the White House to be seen as 'calling the wrong shots' ... but that is what the Fed have been doing as stimulating the wrong sectors of the US economy i.e. the US banks

    The Obama Administration is playing for time expecting the 'global recovery' and more and more stimulus to hold up the US GDP figures ... just like the UK governments ... but ... Guess what folks - It ain't coming any time soon ... and the USA, like the UK has to do much, much more than simply shuffling and printing more of its money.

    However, the USA is in good strategic position to sustain itself when the Republicans take over in govt. and finally come to terms with the problems facing the US... whereas, as for the UK .... Ugghhh!

  • Comment number 12.

    11 Nautonier,

    When Steph refers to Structural unemployment, it usually means that those people are unable or unwilling to return to work - typically because their skills are out-of-date, or they have lost their confidence, or they are simply unemployable because they have been out-of-work for so long. Most progressive economists don't really believe that this effect is dominant, and most of the time it is down to a lack of aggregate demand in the economy - therefore it's cyclical not structural.

  • Comment number 13.

    @Bluesberry

    The estimated total debt of the USA is closer to $80 trillion, including insurance guarantees and future social security/medicaid obligations.

    You're only $67 trillion out. The headline $13 trillion is just the national debt owed by the public (ie poor old taxpayers).

    Surely most well informed people are aware of the demise of the dollar shortly, to be replaced by the 'Amero'? Whereby the USA will incorporate North America and Mexico into itself?

    No?

  • Comment number 14.

    Ben and Merve got the same duff economic education - so what can you expect!!!

    They are both in denial (Mervyn more so). They both seemed to have leaned noting from economic history at all! Even recent economic history - just look at Japan they did what Ben is proposing to do a decade ago and it failed terribly. Also look at the 1930s and indeed the 1870s. Recovery came AFTER the debt had been deflated - unless this happens all of the money you pump in just stops the recovery from getting going. What happens in resisting deflation is that you make it inevitable! Make him go back to college - oh sorry wait a minute the colleges have been teaching wrong economics for thirty years!

    It will take a decade or more perhaps two for the Depression that Ben and Merve are deepening to unwind - and we are stuck with it (see 1870 The Long Depression). Their incorrect actions will make matters worse. Eventually they will be sacked and economics will re-invent itself a la Keynes - but that will take time - in the meantime the people will be ground down - pointlessly!

    Ben and Merve stick up interest rates - re-rescue the banks and that will get things going - what you are doing will make things worse! But there is a grim inevitability about their actions and they are WRONG - I am sad to say that is exactly what happened the last time (1930) and the time before (1870)!

  • Comment number 15.

    Well, this is what happens when the people in control are 'let's face the music and dance' types, rather than boring long-term planners. When there's no more money, they'll leave these jobs and let us get back to building the economy up again.

  • Comment number 16.

    This is just bonkers!

    In the wake of the debt tsunami, assets everywhere are grossly overvalued. Trying to prevent them devaluing is about as wrong-headed as it is possible to be.

    In previous busts after unsustainable booms assets not only devalued, they undershot; e.g. house prices in the nineties.

    It is this subsequent undervaluation of assets that sets the economy up for future growth.

    This time there is no undershoot - instead assets, particularly property, is still way overvalued compared to the long term trend.

    In this environment slow anemic growth coupled with slow deflation is inevitable.

    Unless and until people like Mervyn King and Ben Bernanke realise this, we will be stuck in an economic rut, just like Japan experienced.

  • Comment number 17.

    All this user's posts have been removed.Why?

  • Comment number 18.

    #5. QE is just a form of theft - the number of dollars in issue is equal to the value of the US economy. If more dollars are issued each dollar is worth less. Everyone who owns dollar denominated assets worldwide loses out.

    It isn't quite as simple as that. Like a tramp who dies with hordes of cash on a money belt, the dollars need to be in circulation for them to do anything. It is clear to me that they should have let the investment banks crash and burn (having separated out and saved the retail deposits). Then asset prices could have crashed to real (trend) levels. And the governments, instead of being near bankrupt trying to stop asset crashes, would have been able to shower cash on the population (tax cuts) to get things going again.


  • Comment number 19.

    12. At 8:22pm on 15 Oct 2010, Charles Jurcich wrote:

    11 Nautonier,

    When Steph refers to Structural unemployment, it usually means that those people are unable or unwilling to return to work - typically because their skills are out-of-date, or they have lost their confidence, or they are simply unemployable because they have been out-of-work for so long. Most progressive economists don't really believe that this effect is dominant, and most of the time it is down to a lack of aggregate demand in the economy - therefore it's cyclical not structural.

    ................

    Charles,

    'When Steph refers to Structural unemployment, it usually means that'...

    Thanks for that ... I know what others appear to think it means ... but economics is 'usually' not about following what others think ... it is also about e.g. observing and making an observation ... I have observed that the 'progressives' tend to be 'Yes men and women' and be more politically motivated in their own 'observations'.

    In any case, I think that you're wrong here ... if an effect is 'cyclical' ... then it is 'cyclical' ... if its 'structural' then it is 'structural'. If you read what Stephanie has written ... 'growth will not bring down unemployment' ... that must surely mean that Stephanie also thinks that the unemployment is at least in part 'structural' and is not, or is not entirely 'cyclical'.

    Accordingly, I was merely writing in agreement with Stephanie as I believe that the recent hike in the US unemployment rate is now 'structural' and that's a key and important observation, on her part ... which the US policy makers seem to be 'over-looking'.

    Really, you say 'structural unemployment ... usually means' but here's the quote:

    "Overall, my assessment is that the bulk of the increase in unemployment since the recession began is attributable to the sharp contraction in economic activity that occurred in the wake of the financial crisis and the continuing shortfall of aggregate demand since then, rather than to structural factors."

    The structural factors are:

    - more pronounced effect from imports in a weak economy but with a relatively strengthened global sector to the US economy
    - the lay offs in construction/property ... is not cyclical ... this has now become 'structural' as there is no prospect in sight of a massive return to US lending on property/real estate ... is not just a demand issue as the next supply of credit for massive property lending is not there and there is no sign of it on the horizon
    - important changes have occurred

    BTW, I think that 'Structural Unemployment' it a horrid and nasty phrase and which is frequently used by some in the business and political community for 'writing other people off'.

    Cheers!

  • Comment number 20.

    The banks, the financiers and the debt they’re burdening upon the next generation, seems to be all important.

    For me, an average working Joe, husband and father of three, I worry about my children’s future.

    I believe that the interests of the next generation, which for me are my kids, come a poor second to banks and their bloody balance sheets.

    I sometimes wish I could physically fight them; I’d lose of course; but at least have the pleasure of knocking, kicking and biting on my way down.

    Dear God, is there no justice for the average Joe?

  • Comment number 21.

    . Apparently, the fourth, "QE 2", is only a matter of time



    ----------------------------------------------------------------------------


    To be for QE d or not to be four QE d ,that is the question from the tongue twister.


  • Comment number 22.

    #19, nautonier,

    "BTW, I think that 'Structural Unemployment' it a horrid and nasty phrase and which is frequently used by some in the business and political community for 'writing other people off'."

    I totally agree with you. The unemployment is a direct consequence of the lack of employment opportunities. The lack of opportunity is a direct consequence of the adoption of short-term cost savings at the expense of the long-trm health of the economy (globalisation and off-shoring).

    Now, you will expect a 'people are more important than profits' response from me and I will not disappoint you. However, the US economy is now showing that no matter what financial schemes it engages in, things cannot get better until it puts its own population back to work. The same is true here.

    So it is not the people who have made themselves Structurally Unemployed, it is the management of the economy that has done that to them. As others have said above, until the USA takes protectionist action it has no hope of recovery. I believe that the UK (in conjunction with the EU) should take protectionist measures before we are forced to in the wake of a US change.

  • Comment number 23.

    They want to inflate the debt away and trash peoples' savings and those on low incomes in the process. The UK alone needs 5% 'growth' per year just to pay £100 billion of interest on the £2000 billion of public and private debt money in the economy. In order to get the 5% growth, new debtors have to be found, we are not allowed to pay the debt back too quickly, because otherwise the banks don't make profits on their forged money, and we don't get economic 'growth'. I wish Stephanie and Robert would wise up and realise how our money system works or perhaps they are restrained in some way.

  • Comment number 24.

  • Comment number 25.

    I like you Nautonier but,
    Steph wrote:
    "Also note that Ben Bernanke doesn't buy the idea - common among some US economists - that a large part of the recent rise in US unemployment is structural, meaning growth will not bring it down."

    Though structural unemployment can be a problem, it is not structural in this case. Structural means that for some strange reason, alot of people in 2008 dicided to quit their jobs and become unemployed. Clearly, that is not the case - they were layed off!

    I agree with FDD up till the point where he mentions protectionist measures - I've change my mind about this - we do not need to consider anything other than the aggregate demand within our own borders.

    Sufficient aggregate demand in our domestic economy is enough to secure full employment - and Imports are better than exports because, say, we get shiny new red tractors to plough our land, in exchange for a bunch of numbers in a computer, or bits of paper that may-or-may not represent some value in the future.

    I'd rather have the shiny red tractors!

    Who ever ends up holding our currency can only ever spend it on UK goods and services!

    Kind REgards
    Charlie

  • Comment number 26.

    This is a joke. The rumor is that the Fed wil buy 150 billion worth of Treasury bonds. This is a drop in the ocean compared to what is needed. The model they use is stupid. They should be thinking in terms of M4 or M5 which should include all cash equivalents such as free flowing credit. By that measure, the US economy has shrunk by probaby 5 to 10 trillion dollars in the last four years. That is how much has to be put back. This is the only way old debt can be paid off. There was a record 100,000 mortgage foreclosures last month. The economy is shrinking. The government is still trying to protect the banks. It can't. If this keeps up, the banks will own all of the money in the US and it will become worthless. There will be nothing left to buy or sell, all individuals and businesses will be bankrupt. What will they do then?

    The US needs to devalue its currency by about 60 to 75 percent and to exit the WTO so that it can impose stiff import taxes. These taxes should be used to subsidize the reconstruction of the American manufacturing sector to create jobs for the middle class who are not computer geniuses. Unless and until this happens the world will continue to sink into depression no matter what the economists say. After the US does this, then the rest of the world will have to follow suit quickly or go bankrupt itself immediately as the US market will be effectively closed to it. The claim that Smoot Hawley somehow caused or exascerbated the great depression is one of the greatest lies econonmists have told. It had nothing to do with it. The longer the US government waits, the more money it will have to print and the more it will have to devalue.

    There are winners and losers in inflationary cycles. The winner will be the US citizen and US individual taxpayer who owes a lot of money through individual and government debt and will get a large raise in pay to pay it off. Those Americans on fixed incomes will have to be given special treatment to avoid sending them into poverty. The losers will be those who loaned money at fixed rates when it was worth more, the banks and China. Exporters to the US will lose to, China and Europe. What is the exit strategy for this policy? A new wage price paradigm which allows expensive old American debt to be paid off with plentiful cheap easy to come by new dollars.

  • Comment number 27.

    Simondav et al.
    Stephanie explained how we left the 'gold Standard'.

    During the gold stanhdard the UK was forced to issue government debt (£ for £) against the budget deficit. Since the collapse of the Bretton Woods agreement we no longer have to do this! Now (if we chose) the government could simply spend money without issuing debt - the slack being taken up by our floating exchange rate!

    But, during the 70's the monetarists took over (who hated the demise of gold standard) and made our currency emulate the GS even though it did not have to.

    Now we have to disabuse ourselves of the gold standard rubbish and fully embrace our sovereign fiat currency -see my comment #10 above - it will solve our problems.

    Kind Regards
    Charlie

  • Comment number 28.

    Morning Stephanie,
    well this must be the worst kept secret of all time since the markets have been anticipating an announcement from that nice Mr Bernanke for the last 6 weeks.
    He was clearly unsettled when he made his last pronouncements about inflation and growth last month. However, here we are, coming up to mid-term elections (which have nothing to do with an independent Fed, of course).
    The temptation among all non engineers is that "we must do something" when one of the options which should be considered is to do nothing!
    For posterity and history researchers in the future, we've had the TARP scheme which helped the big banks on Wall Street but did NOTHING for the thousands of small banks around the States. We've had a complete restructuring of most of the big car firms but they will see a lot more pain yet. Unemployment, isn't coming down because investment and growth of the myriad small firms in the US isn't taking place due to the uncertainty factor.
    The US has $1,000 Billion in excess reserves deposited with the central bank so it's not circulating and doing nothing for the economy. It is this point which puzzles me. Surely, if they print another $3 Trillion, won't the majority of this end up in excess reserves as well?
    The housing market has collapsed so there is no velocity of money there either.
    Mr Bernanke claims to be a scholar and waxes lyrically about the causes and solutions to the great depression of the 30's. His performance so far (and I appreciate that there may have been political constraints) is poor.
    The biggest elephant in the room is how will all of these positions by the Fed be unwound? The answer must be that they will not be unwound. We know from past experience that this therefore leads to hyper-inflation once the economy recovers.
    Looking to the positive side, the USA could be the largest industrial powerhouse in the world if it wanted to be. It has the resources, the workforce , the patents and the skills to do anything it wants...they could even put a man on the moon if they wanted to!
    The politics of greed and envy are indeed a dirty business. The US needs to recover its Christian values, print no more money, repatriate its capital from abroad, make it illegal to outsource any labour that could be supplied from within, strengthen the State budgets from central taxes,
    refuse to pay any interest on excess reserves.
    Most of all, the US needs to stop blaming every other country in the world for problems which are of its own making, hegemony and survival.

  • Comment number 29.

    Sorry Nautonier, but the phrase 'structural unemployment' has a quite specific definition that has nothing to do with anything outside of unemployment.

  • Comment number 30.

    #25 Charles Jurchic,

    Charles,

    I am not really clear about what you mean when you say:

    "Sufficient aggregate demand in our domestic economy is enough to secure full employment"

    How do you measure what is sufficient? Does not our experience over the last 30 years clearly demonstrate that unless it is highly regulated (an enathema to politicians since Thatcher) the demand genrated would be met by imports?

    Regards

    dave

  • Comment number 31.

    Ah my beloved Euro. She will save us all.

  • Comment number 32.

    Stephanie
    Thank you for mentioning the gold standard. I really really really want to know if you think that coming off the gold standard and then fixed exchange rates has any implications for the need of the UK Govt to borrow to finance deficit spending. Do you have a view?

  • Comment number 33.

    Even if we, charitably, assume that on day one these people believed theoretical basis for their activities (and acted in good faith), it is hard to see how they could still believe it in the face of all the evidence to the contrary! And so hard to see how they are acting in good faith.

    I find it a useful analytical tool to assume that people intend the logical consequences of their actions - and it is beginning to look as though the purpose of all this is to protect the value of vested interests in the financial sector while keeping the rest of us indebted to those same interests.

    I hven't done the sums but if the money given directly to the banks had been given to people - who then used it to pay off their debts to the banks (including mortgages, creating an opportunity for house prices to fall) - then surely there's a possibility that we could have emerged with much of the debt written off and maybe even lower taxes (if that was the vehicle for giving money to the people).

    Instead, we are to remain in debt - and to pay far higher taxes - so as to make sure the banks are taken care of: and the funny thing is that it's not working.

  • Comment number 34.

    If Ben does get the helicopters out with more QE the result will be the same as before, the capital will accumulate in pools and will not be spent, this is the problem, capital accumulation.
    There is plenty of 'money' already, it is just in the wrong place. The tax and grant system should be used to pump the 'money' that is already out there to where it can be usefully used, just printing more and then holing it up in a vault somewhere does no good at all.

    #31 Oblivion, I can't understand why countries in the Eurozone measure balance of payments against each other (ie. Germany/Greece), we don't measure the import/export of goods travelling between Middlesex and Surrey so why do they do it between Eurozone countries ?

  • Comment number 35.

    On The Social Compact

    #33. tFoth wrote:

    "...hard to see how they (Ben and Merve) are acting in good faith"

    I wonder if it is inevitable that the social compact will cease to remain in tact in the west? Or how much will the poeple stand?

    I tend to agree with the analysis that goes that the regulators and government are only acting fro the benefit of the vested interests and wealthy of which they are either personally aspirant or already a part of. But this is precisely what was predicted by many commentators in 2008 (and earlier) as a predictable result of the bubble and inevitable crash.

    One question is how bad will it get and how much of what we see as the post war social compact will remain after the terror of the theft of the assets, livelihoods and wealth of the poor has been transferred to the bankers and their international friends? Another is: do the fools who are making these choices know what they are doing?

    Second answer first: The idiots in charge (Ben and Merve) are still I believe slightly aware of the damage they will inflict, but they will do so fro a misguided belief that they are doing the right thing. They are completely out of their depth, but they also know that they dare not admit this even though it is so obvious to any rational observer.

    First question: The post war social compact which starts with 'homes fit for heroes' and the NHS - can it survive? I don't know - I am quite frightened as I believe we all should be.

  • Comment number 36.

    This article suggests that low inflation in the United States is a reason for more QE.Apart from the fact that many people question the US inflation numbers which would be much higher if done on a comparable basis to ours I would like to draw attention to this.



    "the US economy. The September inflation numbers, also out today, make clear just how serious the threat of deflation is: the annual core inflation rate last month fell to 0.8%, the lowest rate since 1961"



    Why in a blog described as "This is my blog for discussion of the UK economy" do we get mention of the US rate of inflation but not the UK's?

  • Comment number 37.

    Reading this I get the feeling people do not live in the real world.

    Ben B thinks unemployment can be lowered, well yes its all relative isn't it.

    To employ people they need to be provided jobs that match their skills or they need to have access to training. Or the other and last option which is they work in a low skill, i.e. low hourly rate job. Much the same applies in self employment.

    When industry declines many skills become redundant with that decline. Some skills are transferable but very many are not.

    Incidentally some workers become regarded as overqualified for the mismatched jobs in the resultant marketplace.

    Training costs and takes time. The more useful therefore the more valuable skills gained through training are generally the longer the training and the more expensive the training. A medic costs more than a call centre worker. You wouldn't dream of saying you expected to fundimentally retrain the same person to medic level in different disciplines in the course of a lifetime.

    The idea you can fundamentally retrain a workforce or even a large section of it on a regular ie recurring basis as an industrial base folds decade upon decade is not viable. It is the industrial base which is the problem.

    In many cases low skill jobs are being undermined by even lower rates elsewhere.

    At best this is a very long process, certainly not a quick fix.

    The problem is trying to provoke the supply of skilled jobs and slowing the rise in overcapacity in the economy which is hidden in some part by the tax credit and benefit system and the political imperative to always claim unemployment is as minimal a figure as can be justified.

    Encouraging low wage, low skill, jobs is a hiding to nothing as most of those jobs are vulnerable to being shipped elsewhere (and in the UK attract migrant workers from elsewhere in the EU).

    Exactly the same drive has been in place in the US as in the UK. To cover up the economic decline inherent in those economies by domestic property market speculation. All that is exposed now is that decline.

    It would be interesting to see Ben B and others actually at the rock face trying to match people to jobs - or jobs to people - or hands on creating jobs - rather than detached talk about it which is so far removed it doesn't mean anything. A few percent tweek in a currency or a equivalent action here or there is neither here nor there.

    BTW America puts America first, nothing new there. When exactly is the UK government going to put the UK first.

    Regards

    Not Buzz Windrip.

  • Comment number 38.

    Greenspan was a fool, and Bernanke is a fool's fool.

    "The verdict of economic historians has been that it would have been better for the world if other countries had followed Britain sooner."

    Totally wrong.

    There will be many people who read this site, who have personal experience of dealing with debt. I would bet that none of them has resolved their difficulties by borrowing more or kicking the problem down the road.

  • Comment number 39.


    In a free market whenever someone losses the others gain, money does not vanish in thin air. (money gone theory), is a lie to cover the crimes of fraud committed by the clan of crooks.

    Bernanke - is the Ali Babba of the forty thieves, his clan of thieves have robbed America and free world countries for nearly five decades,

    their dens are in tax havens of Europe and American nemesis Israel

    Naive Americans and West, should not worry this Ali Babba will come out with another scheme to rob you all dry

  • Comment number 40.

    #38
    "There will be many people who read this site, who have personal experience of dealing with debt. I would bet that none of them has resolved their difficulties by borrowing more or kicking the problem down the road."


    Agreed - been there and got the t-shirt. Personal debt is best dealt with head-on (default or sharp deleveraging). Better to lie in the gutter for one or two years than for a whole decade.

    This dictum does not apply to nation states.

    This is not about economics, it is about politics. Keeping the lid on politically often dictates poor economics hence '..Bernanke is a fool's fool.'

    Just imagine if the USA applied good economics it would have to get to the promised land via 25%, or more, unemployment and a lot of civil unrest; with what cost to the rest of the world ?

    Posters on this board make the same mistake with the Euro. Approched from the perspective of economic purity it is deeply flawed, from a political perspective it is one smart move.

    Time for the UK to join the Euro. It will give the people of this country a secure and solid platform going forward.

  • Comment number 41.

    28 splendidhashbrowns

    .... 'the USA could be the largest industrial powerhouse in the world if it wanted to be. It has the resources, the workforce , the patents and the skills to do anything it wants'...

    Nope. The American Dream is bust as a model. It was based on gross exploitation of a continent and a people. A culture that is based on simple exploitation runs into trouble when it runs out of stuff to exploit. The current adminstration's problem is it has to torch the American Dream before it turns into an American Nightmare.

    The UKs problem is it has lost an Empire and doesn't know what to do next.

    Meanwhile the passengers on the bus have no idea the driver has no idea where he is going. Are we there yet, Are we there yet?

  • Comment number 42.

    You can't solve problems with productivity by magicking money.

    America is bust and Bernanke is about to make it more bust.

    It really is that simple. I pity the fool who thinks it isn't.

  • Comment number 43.

    Inflation is the only way out of deflation, growth is the only way out of recession this is so simple its a no brainer.

    Every thing in nature happens in cycles and so it is with the economy, but. 1 You must prepare for the lows during the highs this we have failed to do. 2 The longer the high the deeper the low.

  • Comment number 44.

    Reply 40 Richard

    Granted, countries have bigger margins for borrowing but the maths and psychology are still the same. Confidence of investors will drive the interest rates and willingness to lend and the maths will take care of the rest.

    History is littered with examples of individual country's belief in their own exceptionalism.

    Economists like to talk down to people and attempt to overpower them with complex mathematical models and theories, but the business cycle is the same now as it was thousands of years ago, because it is determined by the same human psychology. This is a tendency for over exubberence that everyone understands. Nobody wants the party to end. Nobody wants the hangover.

    Debasing the currency has a long tradition as a way to keep the party going and prevent the creative destruction that is essential for the productive reallocation of capital. Nobody wants to lose, especially alpha male, highly ambitious politicians and bankers.

    Incidentally, U6 unemployment in the USA is already at 17% after years of low inflation, and huge stimulus. If you think that another round of QE is going to do anything other than make things much worse, then you clearly believe the Emperor still has his clothes on.

  • Comment number 45.

    44. At 12:12pm on 16 Oct 2010, Elduderino01

    You miss my point in spectacular fashion.

    I was trying to say that politics will always come before good economics. I was not saying it should.

    I also do not agree '..that another round of QE'.. is a a good move just that the alternatives might 'open up a rather large can of worms'.

    Only that the consequences of not looking at the political reality might be sobering.

    So 'sticking plasters' all round is an understandable approach for politicians.

    China is in a relatively strong position due to its 'state organised capitalist' approach. So much easier if you dispense with the incoveniences of civil liberty and democracy. For example, dealing with property inflation by banning all new builds by diktat. I am not a supporter of this approach (before you post).

    We are heading into a scenario that can only be sorted by war; enter Ms Palin stage right. I would not support her either (before you post).

    Between a rock (a very big one) and a hard (very) place comes to mind.

  • Comment number 46.

    Steady controlled inflation, and low bank rates of interest, is much the best way to deal with the post recessionary problems most countries are experiencing at the moment. It should encourage those companies siting on large piles of cash to spend some of it on investment for the future, and this is just what the economy needs.

    It is also a much fairer way of dealing with the public debt mountain than the cuts most European governments are implementing. It is a blunt instrument, tax increases targeted on the rich would be better, but it actually benefits those who are in debt and those whose lose out are those who have net savings, and are therefore better off than most.

    It is the way that the post war Labour government dealt with the enormous war debts after 1945. But then it was a genuine left wing government, prepared to ignore the howls of anguish coming from the holders of war bonds and the like. Our present government, which is arguably in economic matters the most right wing since the 1920's, is unlikely to follow their example willingly, though they may end up having to.

  • Comment number 47.

    I don't have any serious issue with Ben Bernanke or Merv - their hands are tied anyway, as they (and we) are a victim of this artificial division between monetary and fiscal policy - this being caused by the independence of the central banks (which is not the fault of the CBs). QE 'seems' like the only monetary option which might actually work (though it probably won't). However there is another, better, monetary option available!:

    They can stop issuing government debt (the govt doesn't issue debt normally, the BoE does)- this would actually be a monetary policy, so they would be within their remit to do so.

    Hopefully governments would get the hint and spend more on fiscal stimulus knowing that it does not 'cost' them anything other than some very modest devaluation of the £ (who cares about that? - I'd rather have full employment! - and it would naturally boost our exports)

    30 FDD
    "How do you measure what is sufficient? Does not our experience over the last 30 years clearly demonstrate that unless it is highly regulated (an enathema to politicians since Thatcher) the demand genrated would be met by imports?"

    Less than 10% of the (net) costs (and therefore job opportunities) on average go to imports, and it is mostly the rich and middle-class that contribute to that. As most of the costs are close to the 'point-of-sale', so are most of the jobs. When we import - someone, somewhere ends up holding our currency - and this can only be used to purchase UK goods and services at some point in the future.

    As for aggregate demand, we can tell its quite low by things like retail sales figures, and this is because real wages have not kept pace with productivity over the last 30 years. So as firms become more 'efficient' and hire fewer workers and pay them as little as possible, those same workers have less money to spend in the shops on those same products these firms are making - unless they borrow to spend, which is the only reason why the last 'boom' happened.

    We need to boost incomes (and therefore aggregate demand) so that people don't have to borrow, and can pay off their existing debts. This is more important than international trade I think.

    Kind Regards

  • Comment number 48.

    27. At 02:08am on 16 Oct 2010, Charles Jurcich wrote:
    Simondav et al.
    Stephanie explained how we left the 'gold Standard'.

    During the gold stanhdard the UK was forced to issue government debt (£ for £) against the budget deficit. Since the collapse of the Bretton Woods agreement we no longer have to do this! Now (if we chose) the government could simply spend money without issuing debt - the slack being taken up by our floating exchange rate!

    But, during the 70's the monetarists took over (who hated the demise of gold standard) and made our currency emulate the GS even though it did not have to.

    Now we have to disabuse ourselves of the gold standard rubbish and fully embrace our sovereign fiat currency -see my comment #10 above - it will solve our problems.

    Kind Regards
    Charlie

    Thanks for reply Charlie.
    The main requirement is to get away from the 'banks creating money as debt', or 'fractional reserve banking' as it is known, only the government or Bank of England would be allowed to create new money by spending it into the economy. This web site [Unsuitable/Broken URL removed by Moderator]gives a good explanation of the problem and possible solutions. A limited start has been made with Douglas Carswell's bill allowing transaction and investment accounts at the bank. The account holder can specify that his transaction account is not used by the bank as a basis for lending. He can put money at risk and get a return by putting some into an investment account. This solution is not ideal. A better solution is 100% registered money where all deposits at all Banks are registered at the Bank of England and the banks cannot lend beyond their registered deposits. In effect they are like individual account holders are now within an individual bank. The Bank of England is the only agency that can create new money. We have a big problem because we are debt addicts (or we are forced to be so), so there are withdrawal effects in moving to a more sustainable system of money. However we cannot achieve 5% growth every year just to pay the debt interest, because we run out of good debtors to lend to, and raw materials like oil are becoming scarcer and more expensive as time goes on. The boom then bust is like mania followed by depression. I see the government is trying to get students to take on more debt 'to grow the economy - create the new money to pay the debt interest on existing money'. The house price Ponzi scheme is collapsing. The only way out I can see using the existing system is high wage inflation to erode the debts, however not good if you are a pensioner, have savings or are on a low income. It is not so easy for the UK to inflate as we did in the 1970s because the economy is much more global now and high inflation would bring a raft of new problems. I wish like many others I did not have to use the bankers' forged money.

  • Comment number 49.

    ##44 Part 2
    "..the creative destruction that is essential for the productive reallocation of capital"

    How creative do you want to be and what will the side-effects be ?

    I have posted many times argueing that the 'bank bailout' was just about as wrong as a policy move could be. 'Creation destruction' in this scenario would have worked and given the UK a better banking system with a new culture and kick started the move back to a more balanced economy. Unfortunately the politicians bottled-it. Visions of 'white van man' in a strop no doubt.

    There is no argument for productive reallocation of capital in the context of the US economy. It efficiently reallocates (bank bailout an exception) all the time.

    The only example in the Western world of creative destruction being thwarted (in living memory) and preventing reallocation was the bank bailout and we will now pay the price.

    Bailing the banks out for making 'bad calls' was like bailing out a gambler for putting his life savings on a 3 legged horse, only the gambler would have had the decency to put it back into the system (by betting on another 3 legged horse), the banks have just put it under the 'bank mattress'.

    The problem is debt and liquidity and how best to deal with it. Bernanke's approach is one approach and will just defer the problem -'kicking the can down the road' as you point out.

    The World Bank needs to do some lateral thinking and come up with a plan of debt cancellation and roll-back for planet Earth.

    Now, that would be creative !



  • Comment number 50.

    This is what should be in previous post [Unsuitable/Broken URL removed by Moderator]

  • Comment number 51.

    Why are you moderating out the link to positive money ????

  • Comment number 52.

    See if this gets through, maybe it will [Unsuitable/Broken URL removed by Moderator] This web site is not inciting racial or religious hatred, telling people to do anything illegal, merely explaining the problems with our debt based money system. No more controversial than notayesmanseconomics

  • Comment number 53.

    simondav,
    I am aware of the Bank of England Act, and I sympathise, though I come at the problem from a slightly different angle. I believe that the BoE should be rolled up into government and all the budget deficit should be unfinanced (i.e. no govt debt issuance (or very little)) - in this way we fully exploit our floating currency. I follow MMT which says that banks need to be regulated, and you have highlighted one way above. MMT says that while the private sector deleverages, the government has to plug the spending gap (i.e. support aggregate demand) through fiscal stimulus, whenever, and to whatever extent the economy needs it (inflation allowing). During this process there is no need to tolerate high unemployment, and this is central to MMT. Also central to MMT is the primacy of fiscal policy over monetary policy, as fiscal stimulus can be targetted very precisely (see #10 above).

    If you are interested in this complementary view (Modern Monetary Theory) of the problem, more information can be found on Prof William "Bill" Mitchell's blog "Operational Design Arising From Modern Monetary Theory":

    http://bilbo.economicoutlook.net/blog/?p=5098

    Kind Regards
    Charlie

  • Comment number 54.

    Well I am getting a little paranoid, maybe the giant vampire squid has a tentacle around the moderators. How about this, which you have let thru before http://www.bankofenglandact.co.uk

  • Comment number 55.

    52. At 1:19pm on 16 Oct 2010, simondav wrote:

    I tried [Unsuitable/Broken URL removed by Moderator] and it seems to work.

    :)

  • Comment number 56.

    Well done Richard - Look on right hand side of bankofenglandact, there is no direct link there, you need to end with [Unsuitable/Broken URL removed by Moderator] Moderators might have removed because there is a video on the first page of [Unsuitable/Broken URL removed by Moderator] :)))

  • Comment number 57.

    http://www.usdebtclock.org/

    Moderators before you get all 'unsuitable link' on me, this is provided by the US treasury itself.

    A picture tells a thousand word, apparently.

    Note the debt per citizen, somewhere around $43,000.

    Now note the debt per tax payer,$122,000(!)

    A bit of twiddling with QE isn't going to make any difference, the only options left to the USA are massive defaults with the associated carnage on the streets or, heaven forbid, war.

  • Comment number 58.

    The moderators think that the opposite of negative ?? and you need this stuff ?? to buy anything is a swear word. Never mind

  • Comment number 59.

    49 Richard

    I completely concur. Letting Lehman go was correct. Bailing everybody else out created even more moral hazard that means that the next crash will be even worse.

    Bankruptcies restores confidence. The separation of financial responsibility and liability is absolutely deadly to an economy.

    My only caveat would be that the Retail side of the system would have to be temporarily protected by Government. And then obviously, Retail and Investment banking needs to stay separate.

    Unfortunately, we have crony capitalism not free markets.






  • Comment number 60.

    Ben Bernanke does not seem to know Economics. He is trying to stimulate the Economy by buying Debt in the Market place and junk securities from Wall Street. No doubt by purchasing the securities he is keeping Interest rates low, how will that help? As an Indian I have seen 20% interest rates and 6% rates too. There is no correlation between growth and interest rates, unless you are in the business of speculation. When US rates were 5% growth was much better than when the were reduced to 1%. He is climbing the wrong tree but is definitely helping Wall street buddies to earn stupendous risk free Profits. That his policies of easy money is causing rampant inflation in fast growing countries elsewhere, bothers him not a bit. He seems hell bent on exporting America's economic and Debt problems overseas.

    Secondly Bernanke thinks he has the tools to fix unemployment - this is absurd. Instead of being made Chairman of Fed he should have been appointed the Labour Commissioner. He could have made a difference in that post instead of playing havoc in the financial World. He is abusing and misusing the dominant status of the Dollar as the World reserve currency. Bugger and beggar thy neighbour like yourself is now Ben's official policy. He is a nuclear dynamo that the World needs to neutralize fast.

  • Comment number 61.

    ..... oh and to answer your question directly.

    It isn't a matter of how creative I or anybody (including Central Bankers!) want to be. The creativity is in the free market itself, with unencumbered participants providing each other with goods and services that are desired. It is a naturally creative process itself, as long as politicians and central bankers stay out of the way.

    And the side effects are a transparent market place that determines price, upon which people are free to determine risk with their own liability.

  • Comment number 62.

    25. At 01:48am on 16 Oct 2010, Charles Jurcich wrote:

    I like you Nautonier but,
    Steph wrote:
    "Also note that Ben Bernanke doesn't buy the idea - common among some US economists - that a large part of the recent rise in US unemployment is structural, meaning growth will not bring it down."

    29.

    22. FDD

    Hiya Charles and FDD

    The point I am trying to make, is one that I think follows on from the point raised by Stephanie Flanders and that is the US higher level unemployment or rather an element of the recent additional unemployment is 'structural' for want of a better term and by what I understand it to mean and is not just 'cyclical'.

    How the US deals with its unemployment will probably have an effect on the UK down the line in terms of e.g. UK interest rates, currency and how the UK deals with our own balance of payments crisis.

    If the US is going to chug along with stagnation with millions of people unemployed and inactive like the UK has been and is is still doing(although, being economically inactive in the USA is, by necessity, fairly rare) then the UK's overall economic position isn't changing anytime soon... as in the absence of stimuli monies ... there is no general improvement in overall global trade, except in the sectors with monopolies, oligopolies and in essential commodity markets.

    The USA is not generally pre-disposed to protectionist measures like 'raising import tariffs' ... the Obama administration is careful to avoid these as will become a political issue in both the mid-term elections and next Presidential election ... and the Republicans are keeping quiet on these in case the US government needs to use them after the next US elections.

    The worrying position for the UK is that how and when and by how much the US decides, mainly for political reasons, to tackle its own unemployment situation, will, in my view, determine when decisions will be forced on the UK govt in terms of major changes to its holding position on economic management of the UK economy.

    What I don't like is that both the UK and US governments seem content to carry high unemployment through the short term and into the mid-term or even longer, in terms of their current macro economic management policies ... this is 'writing people off' in my view.

    When govts look for big fiscal fixes for their economies, this is an excuse for failing to apply strategic economic management by e.g. strategic planning, rebalancing, reorganising, rationing, employment policies ... the general difficult stuff that is needed. The UK is still tied into the USA as much as it is tied into the EU and elsewhere.

    The govts that are 'more suceesful' in times of adversity are those that have more than the 'big fix fiscal, one dimensional economic mentality'.

    In other words, our UK economic outlook is being driven by US politics!

  • Comment number 63.

    Moderators before you think the below is unsuitable this is documented history!!
    “So what is a central bank? A central bank is an institution that produces the currency of an entire nation. Based on historical precedent, two specific powers are inherent in central banking practice: the control of interest rates and the control of the money supply, or inflation. The central bank does not simply supply a government’s economy with money, it loans it to them at interest. Then through the use of increasing and decreasing of supply of money the central bank regulates the value of the currency being issued. It is critical to understand that the entire structure of this system can only produce one thing in the long run: DEBT. It doesn’t take a lot of ingenuity to figure their scam now. For, every single dollar produced by the central bank is loaned at interest. That means every single dollar produced is actually the dollar plus a certain percent of debt based on that dollar. And since the central bank has the monopoly of the production of the currency for the entire country and they loan each dollar out with an immediate debt attached to it, where does the money that pay for the debt come from? It can only come from the central bank again. Which means the central bank has to perpetually increase its money supply to temporarily cover the outstanding debt created which in turn, since that new money is loaned out at interest as well creates even more debt? the Federal Reserve bankers decided that the gold standard should be removed. In order to do this, they needed to acquire the remaining gold in the system. So, under the pretense of “helping to end the depression”, came the 1933 gold seizure. Under the threat of imprisonment for 10 years everyone in America was required to turn in all gold bullion to the Treasury, essentially robbing the public of what little wealth they had left. And at the end of 1933 the gold standard was abolished. If you look at a dollar bill from before 1933 it says it is redeemable in gold. You look at the dollar bill today, it says it is legal tender which means it is backed by absolutely nothing. It is worthless paper. The only thing that gives our money value is how much of it is in circulation. Therefore, the power to regulate the money supply is also the power to regulate its value which is also the power to bring entire economies and societies to its knees.

  • Comment number 64.

    Stephanie,
    The Keynesian solution of deficits and low interest rates took place in an economy much admired by Keynes for the implementation of his prescription.

    It was overseen by Schacht on behalf of the 1933-45 Government of....Germany.

    The German economy boomed...autobahns etc, employment plummeted within months ...but to avoid the consequences of the application of this policy with the attendant need to address the debts thus created, his boss saw war as the way out of his dilemma.

    Keynesianism does not work..all it does is burn the furniture and raid the pantry in one big 3 year party....then the problems come back even bigger. Hitler decided that war was a way out of his QE induced economic trap.

  • Comment number 65.

    #48

    Until I started reading these blogs a couple of months ago I had never heard of the Fractional Reserve Banking (FRB) theory and the idea that banks create money and all money is debt. When I looked it up it seemed seductively credible; I just could not believe that it was true but could not put my finger on where it went wrong. After much brain ache I think that I have put my finger on it. I am sure people will point out if I have got it wrong.
    I think that where they go wrong is the way that they define money which seems to be the sum of all bank accounts, then say that ‘all money is debt’ which is true by definition as the balance of a bank account is the amount that the bank owes to the customer. However, they seem to conveniently overlook the debts the other way i.e. the amounts that the customers owe to the banks.
    They seek to demonstrate the principle with a simple example where Customer A pays £100 into an account at Bank 1. The bank then lends £80 to Customer B who deposits it in Bank 2 which then lends it on etc. This is said to show that new money of £90 has been created and indeed this is the case if you consider the sum of bank accounts to be money. Much is made of the fact that the balance of A’s account is not reduced when the loan is made to B. Of course it isn’t; the bank still owes him £100 whether it has kept the money, lent it to someone or burned it!
    In reality the amount of spendable money has remained the same. A and B cannot both spend the balance on their accounts. If A goes into Bank 1 and asks for his £100 they will not be able to pay him without getting it back from B.
    A couple of simple questions:
    If banks can create money why is there ever a run on a bank?
    If banks create money how do they deliver cleared funds to a solicitor to buy a house; they have to give real money to her bank?
    Can anyone show me where I have gone wrong (words please not links)?

  • Comment number 66.

    #65 AnotherEngineer

    The BoE is the only one that can create spendable money

    The ordinary bank shuffles credits and debits between accounts, no spendable money required.

    If they create a debt by lending someone some money (to buy a house) and that person spends the money with another account holder with the same bank then they just shuffle the accounts.

    If the seller just wants to take the cash (emigrating to a place with no banks) then the bank sells the debt to the BoE in the form of a bond, the BoE creates and then hands over a bag of cash.

    The BoE sells the bond to another bank for a bag of cash, takes the cash out the back and burns it and the circle is complete.

    The seller pays a fee to the bank (either up front or in foregone interest)
    The buyer pays a fee to the bank (both up front and in ongoing interest payments)

    The bank pays the BoE a fee when it exchanges bonds for cash (it receives less cash than the bond value but gets liquidity)

    The bank pays the BoE a fee when it exchanges cash for bonds (it pays the full cash value of the bond but exchanges liquidity for future interest)

    A run is a liquidity (cash flow) problem, too many people demand cash at a faster rate than the bank can sell bonds.

    A crash is when the bonds will not buy sufficient cash to cover deposits.

    (I can only assume that in the normal course of business the BoE only buys a bond if it already has a buyer lined up, it doesn't want to be the one left holding the baby if the bond turns out toxic)

    At least that's how I see it working, no doubt someone can give a better (and correct) explanation.





  • Comment number 67.

    62 nautonier:

    'In other words, our UK economic outlook is being driven by US politics!'

    The UK economic outlook is driven by who the UK can export to. Simple as.

  • Comment number 68.

    Whichever way the USA goes on either QE or protectionism, it will be the end of globalisation as we've known it - other countries can't continue without trade controls if the US has them - and the dollar can't continue as it is either.

    It will be the end of the dollar as the world reserve currency and trading currency - QE will dillute the currency volume so badly and its depreciation will so damage the value of dollar holdings that the real risk is then a total collapse in value, at which point there will be no need for import controls.

    How does this leave the impending UK "negative stimulus" package?

    To those that say a US Keynsian style stimulus approach has only a short term effect that doesn't work in the long term, I'd ask why they think a massive negative stimulus won't have a catastrophic short term effect here?

    I'd say taking up to a trillion pounds of demand out of the UK economy is as close to economic suicide as you can get in the current climate - i.e. a £124 Bn cut times a multiplier effect of +4 to +8.

    The OBR says it doesn't know whether the correct multiplier should be: they suggest research shows it ranges fron -1.3, +4 or more. Yet they are prepared to forecast 2.7m new private sector jobs, £400 +Bn of new industrial investment and exports up a third by the end of this Parliament.

    No doubt once we've discovered that this has simply driven our economy off the same cliff as the Irish economy has just fallen off, then we'll be forced to implement trade protection too - but only after the ConDems have done massive damage to our economy and public services.

    THE PROBLEM ISN'T PUBLIC SPENDING - IT'S UNFAIR COMPETITION AND THE STATE OF OUR MANUFACTURING INDUSTRY.

    The idea that we have to make large spending cuts to preserve our credit rating, I'd say that all these things are relative. The world's economic is deeply fragile - Ken Clarke is right about this - with so many Euro economies in trouble, with the US economy flatlining and the serious impact of a trade/currency war, whether our borrowing is up or down a few percent on our GDP is pretty marginal to confidence.

    The other critical impact will be on the Chinese economy - when exports to the US and other countries are suddenly turned off, there will be mass unemployment and serious social unrest - we then all have to hope and pray that the Communist Party doesn't decide on the military option and do something dire like invading Taiwan.

  • Comment number 69.

    65 AnotherEngineer

    How I look at it is that banks do not create money, they create currency though debt issuance. I do not recognise sterling, euro, dollar as money, as it fails in the basic requirement of money to be a store of value. When I buy gold, I am trading currency for money. Those who put all of their faith in paper are going to regret it.

    There appears to be a number of posters who are very comfortable with the idea of savers losing their wealth through inflation and subsidising the indebted through low interest rates. To me this is not morally justifiable. It also sends out a message, as if we needed any more, that saving is a waste of time.

    They also ignore the obvious point that the poor suffer worst through inflation as food and essentials become more expensive.

  • Comment number 70.

    At first it appears that Ben is doing the right thing for USA. However the first impact it will have is that prices of imports to USA(and there is a lot of it) will rise due to the falling dollar. Rising commodities, energy, finished goods prices will impact cost push inflation pretty soon.
    Do you want cost push inflation in USA when the economy is down and unemployment high -> result is stagflation a much worse state of affairs than now. Simultaneously growth in emerging economies will cool, falling dollar makes them less competitive.
    Disaster for the world economy!!

  • Comment number 71.

    67. At 5:02pm on 16 Oct 2010, Not Buzz Windrip wrote:

    62 nautonier:

    'In other words, our UK economic outlook is being driven by US politics!'

    The UK economic outlook is driven by who the UK can export to. Simple as.
    ...................................
    Ha Ha Ha!
    A bit too 'simple' perhaps?

  • Comment number 72.

    From the Guardian yesterday

    ' His remarks come as Kenneth Clarke, the justice secretary, warned for a second time in a fortnight that Britain could yet tip back into recession.

    In unscripted remarks to the Prison Governors Association, he said the world faced a "grave danger of financial collapse" and the UK was "not out of the woods" yet. "There is an extremely serious financial crisis," he said.

    Clarke said the UK had rescued itself at the moment, but added: "If we fail to deliver with the [comprehensive spending review] programme we're going to set out, we'll be back there all too soon."

    He said the review (CSR) would be "quite the most dramatic in living memory". He added: "There's no one alive who remembers a crisis of this kind. It is not the usual public spending squeeze." '

    ------

    this edition also carried

    'David Cameron orders defence to be spared from deepest cuts

    George Osborne agrees that the Ministry of Defence will face cuts of 8% over the next four years'

    ------

    Coming hot on the heels of the fiasco over the 'fairness' of Child Benefit cuts doesn't sit well with Clarkes' "If we fail to deliver.."

    At this rate they won't even be able to cut the biscuit budget at no.10

  • Comment number 73.

    #65 You are spot on. Banks create money in the form of balances that can be exchanged, matched pound for pound by an opposite balance with debtors. No one gets richer. The borrower gets cash to spend, but he still owes money to the bank. The depositor can use his balance to say, pay for food in Tescos, but all he is doing is moving the balance so the bank(s) go from owing money to him, to owing money to Tescos. There is no hocus pocus. Money is created, but not value.

    The next bit is "how I understand it". The BoE interest rate is a regulator in this process, and relates to the interest banks can earn on deposits with the BoE. If this system starts creating "too much" money, indicated by higher inflation, the BoE puts up its interest rate, so that the bank will earn more by depositing the next additional deposits they receive with the BoE rather than relending them in the market, which stops the cycle. It's like a thermostat, albeit governed by a committee unsure about the temperature and the effect of their actions.

    The anti-FRB posters really have their proverbial in a twist about this mechanism, mainly because they don't seem to understand how it works. I really wish someone like Stephanie could do a quick explanation, once and for all, to kill off these postings.

  • Comment number 74.

    69 truths33k3r

    'There appears to be a number of posters who are very comfortable with the idea of savers losing their wealth through inflation and subsidising the indebted through low interest rates. To me this is not morally justifiable. It also sends out a message, as if we needed any more, that saving is a waste of time.'

    I am one of these posters so I will answer.

    The key point is where in general has the wealth held by savers come from. The issue has to be general because all policy has to be general. Policy cannot select between savers source.

    In general in the UK, a country which has been obsessed with domestic housing for decades, the wealth has come from the growth in housing values. Further benefit, very short term benefit, from the housing obsession has spread into the general economy. People have made money selling stuff into the housing and related sector.

    The UK has to compete with countries like France, which is only a few miles away. However French housing is considerably cheaper than British housing. Housing values feed through into rental values and in turn through into the housing benefit system. That is shown in the massive growth in the UK housing benefit bill. Housing is a major cost in the cost of living. It looks to me as though the cost of housing is stopping quite a number of people being able to save as they have little left over.

    The obsession with housing, which has tacitly been encouraged by HMGs of all colours has been damaging to other areas of the economy over the years.

    The end result is the carnage you see around. The end result is people, the young in particular, without jobs. Its also not hard, if you are in the right age group to be in a million pound house.

    I am entirely comfortable with the idea that people who have gained via what is basically property speculation and property market manipulation via the NIMBY movement and its spin off effects are asked directly or indirectly to pay towards the after effects.

    This is a transitional situation and pulling the rug out from under the indebted will simply lead to wholesale bankruptcies. Whilst some of the indebted probably deserve this to some extent or another most do not. Simplistically anybody holding a house with no mortgage on it will see its price fall rapidly very far down if the housing market collapses so they are in some part helping protect their asset.

    I appreciate that some savers will not fit the picture but that's the way it goes, policy has to be general. Lawson looked hard at differential rates but concluded it couldn't be made to work.

    I thought you worked in banking, how come you don't get this.

    So in the meantime my question is who else do you suggests pays.

    Apart from this at present in view of the lack of credit in the system it is better to encourage people to spend.

    Are you a saver then. I am as it happens. I am also a borrower as I wish to have access to immediate cash. I am therefore paying at both ends because I could cancel things out if I wanted too.

    Again very simplistically you can't take money from people who dont have it. the middle class have it so it will be taken form them. There are not enough rich people.

    I believe it was Lord Desia who was begging the last lot to stop subsidising the middle class.

    The poor. Well they have problems. Its not much of a achievement when approaching 1 in 4 children in this country are raised in poverty. But that is a different story. I would suggest that there may well have been less poverty if efforts in spinning housing up and up had been directed into more sustainable and worthwhile activities. If higher skilled therefore higher paid work was generated.

    So again, a bit like There is a hole in my bucket dear Liza, who do you expect to get money from to pay the bill. You can only get it from people who have money.

    Regards Not Buzz Windrip.

  • Comment number 75.

    71 nautonier

    : )

    Best to keep things simple buddy.

    All else follows export. After exports its borrowing. So onj and so on.

    It started in the US and will end in the US. Perhaps they need a slick lawyer. No can't get one, there all being used by BP.

    Regards

  • Comment number 76.

    72 Rocketman

    'At this rate they won't even be able to cut the biscuit budget at no.10'

    Yeah but the Number 10 fudge budget is booming

  • Comment number 77.

    73. At 6:47pm on 16 Oct 2010, Chris B wrote:
    The anti-FRB posters really have their proverbial in a twist about this mechanism, mainly because they don't seem to understand how it works. I really wish someone like Stephanie could do a quick explanation, once and for all, to kill off these postings.



    Seconded.

  • Comment number 78.

    74 NBR

    Your post does not make sense to me. You seem to be suggesting that equity is the same as cash savings, which it clearly is not as equity has to be realised through the sale of the asset.

    The problem in our economy is asset bubbles and excessive debt. Unless this is liquidated we will have no recovery. I reassert my point that stealing peoples cash savings through inflation is morally wrong. This is a matter of principle, it matters not whether I am a saver or a borrower.

  • Comment number 79.

    78 truths33k3

    The housing money comes out of housing, there is a great deal of it floating about. Downsizing, moving to cheaper areas, then in turn disrupting those areas. (It is now almost impossible for young couples to buy here). It is cash that has done that, most of it unearned. There are a number of people not far from me with sizable cash on deposit out of housing and still owning houses. Equity always finds its way into the bank account sooner or later. When it does part of it will be grabbed by the system. There is no way around it.

    Peoples savings have always been stolen through inflation. That's why the genius Brown issued pamphlets saying parents should put their Children's Trust handout into the stock market and gave graphs showing what a bad deal bank accounts gave. I don't think there has every bar the odd year or so been the situation that savings have grown ahead of inflation over the last 4 decades.

    You refer to asset bubbles and excessive debt being the problem. I agree but I don't see how you can deflate an asset bubble overnight without carnage. The excessive debt is directly related to the asset bubble. The holding of savings is almost certainly strongly correlated with beneficiaries of the asset bubble. The best way forward with debt is the paying down of the debt which is in progress.

    One either needs people with money spending it or one wants a slice of it to pay the bill. You can't grab part of an asset because it hasn't been realised.

    You still haven't said who you think should pay the bill other than savers. There is only the tax system and the welfare budget, or all three. Oh yes the sale of assets, but that's tricky.

    In the 90s HMG knowingly let people go to the wall who were doing nothing wrong but just in the wrong place at the wrong time. That is a distinct outcome if the bill is not spread about.

    In the way that the banking system could not be allowed to melt overnight the secondary problem of assets and debt have to be dealt with. Both effectively involve subsidy to push the problem into the future. There is no system on earth where long term debt is crystalised overnight and dealt with other than by bankruptcy. So time has to be engineered.

    The only point in pursuing somebody to bankruptcy is to claim on insurance.

    All principles are artificial. Don't kid yourself.

    Regards

  • Comment number 80.

    Guys,

    1. Try reading the wiki....(Creation of Money)

    2. Synthetic financial instruments and in particular the role of the traded consolidate debt obligation (CDO) and associated (or not) tradable quasi insurance product of the credit default swap.

    When a cdo is created from a set of debt obligations it can be sold for its monetary value determined by the cash flow that is (supposed!) to be receivable in the future.

    For example: say a bunch of mortgages are nominally paying 8% (with a face value of 100M$) now as interest rates fall the (supposed!) value of these goes up just like other bonds so they are priced at two or three times their nominal value say 250M$. So because they started at 100M$ and they are now priced at 250M$ miraculously 150M$ has been created. Hence in a falling interest rates market CDO's themselves create money.

    Similarly, other tradable derivative financial instruments (options, futures and insurance contracts like CDSs. etc) also create money, but these do so in an even more risky fashion as they only often require payment of the option price rather than the full cost of the underlying security etc.. It is all to do with the initial price and the sale price.

    Now the opposite is true when interest rates rise.

    Also this completely explains why NR became illiquid as it requires that rates continue to fall for this method of money creation to continue to work and of course it requires that the market for CDOs itself remains liquid - that is there are both buyers and sellers. So the financial destruction was inbuilt into increasingly relying on securitisation (consolidation ) of debt and it is bound to fail as it did in 2008.

    If one further adds to the mix the non-performance of the CDOs then cataclysm must follow as it did - and as I and others warned of for the last decade!

    This is my overview of the market and its instruments with regard to the creation of money. In essence the instruments themselves and the futures, options and derivatives markets allow trading of these instruments on the margin and this is where the money comes from. This, buying and selling on the margin is by the way exactly the same problem that crashed the stock market in 1929.

    The whole edifice is inherently unstable - provided the parcel is passed everything is OK, but... (the rest is history)

    Note: I don't think I am making too much of the role on interest rate policy in creating the collapse, but I may be. If rates had been raised as soon as the problem became apparent in the early noughties none of this would have happened - hence my view of Merve and his mate Ben!

    That's my twopennyworth on the subject of money, interest rates and the role of synthetic financial instruments. (I too find the details very complex!)

  • Comment number 81.

    #79. #Not Buzz Windrip wrote:

    "I don't see how you can deflate an asset bubble overnight without carnage."

    Q. Is carnage better done quickly in a year, or slowly over decades?

    The advantage of rapidity is that the assets that are presently unproductive as they are overpriced can be put back into productive use quickly at a more appropriate price.

    I am have formed the opinion that this is the best option. Getting the Nation back to work as quickly as possible; getting the vacant over priced shops on the high street back trading again and getting back to making and investing in doing real tangible things.

    Another way of thinking about it is: when a man comes in with gangrene do you wait till the whole leg is rotten before you amputate it or just cut off the big toe?

  • Comment number 82.

    81 John_from_Hendon

    If you think making swathes of people bankrupt overnight and throwing them on the streets is going to get people working you are wrong. These overvalued assets are peoples homes and in most cases they are endeavoring to pay for them. A kid in care costs 50K pa, a suicide is 250+K loss to society. The only reason you advocate this sort of thing is because it will not affect you. You have absolute no idea of the welfare bill that would be generated. Look up the current housing benefit bill and multiply it up.

    If a man comes in with a damaged leg you show him the way to the doctor. depending on the diagnosis action is taken. In most cases more than one action is possible and the amputation you advocate is the last resort. An amputee subsequently need rehabilitation and prosthetic limb. There is also the PTSD issue which is a major factor in subsequent life. I am glad you are not a field doctor in Afghanistan.

    The problems in the economy are not just the asset bubble and the debt. The problem is making something or providing something that people value and want. Which incidentally I very much doubt you can do.

    'Another way of thinking'. Try thinking first.

  • Comment number 83.

    80 JFH

    NR and RBS etc etc got in trouble because they lent short term money out on long term loan. When the short term loan ended they found they could not renew new loan on the interbank market and could not call in the long term loans they had made so insolvency loomed. Tt was a credit crisis. A failure of trust. I promise to pay the bearer. All the rest is fluff. So called toxic books were sold at 7 to 8 cents in the pound in the US pre 2008. That was the market valuation. So no security against a new loan.

    You try to make it all too complicated.

  • Comment number 84.

    65. At 4:13pm on 16 Oct 2010, AnotherEngineer wrote:
    #48
    THE FRACTIONAL RESERVE BANKING THEORY (OR FALLACY)
    Until I started reading these blogs a couple of months ago I had never heard of the Fractional Reserve Banking (FRB) theory and the idea that banks create money and all money is debt...

    Fractional Reserve Banking - Banks in the UK do not really do so called fractional reserve banking. Banks have to hold a small quantity of money at the Bank of England and have some share capital. In reality the only limit on new money creation is a supply of good debtors and the price of money, the interest rate. People are trying to pay back debts now faster than the banks can create new debts so the economy is stagnant or in recession - not enough new money is being created to pay the interest on all the public and private debt (over £2 trillion). M4 measure of money in the economy has gone up by 100 times since the early 1960s from about £17 billion then to more than £1800 billion now. Money is destroyed when debts are re-paid to the bank, but the interest has to be new money. Almost all the growth in M4 since the early 1960s is the compound debt interest on all the money from then until now, a growth rate of about 10% per year. Inflation is necessary to pay the debt interest and in the 1970s was sometimes more than 20% per year. New money is created when a loan is made and it lands in another bank account as a deposit, but the money is slowly destroyed over time as the loan is re-paid, except for the interest.
    Why is there a run on a bank ? For example Northern Rock had lent long on many high risk mortgages. They had borrowed short from savers like myself, who could ask for their money back at any time. They had also borrowed short from other banks, who could ask for their money back at any time. Depositors like myself asked 'were they good for the money, could they re-pay their depositors' because they had lent out so much of their deposits on long term high risk mortgages. The answer was they could not pay out because of their very risky and over the top lending so 'there was a run on the bank', and they had to be bailed out by the tax payer. They might have got away with it if the situation had not been amplified by bad publicity. In the end they would probably still have had to be bailed out, along with Halifax and Bradford and Bingley who had also behaved in an irresponsible manner with their depositors money. If the moderators allow it, http://www.positivemoney.org.uk explains how the system works very well and how we have got to where we are today.

  • Comment number 85.

    65. At 4:13pm on 16 Oct 2010, AnotherEngineer wrote:
    #48
    THE FRACTIONAL RESERVE BANKING THEORY (OR FALLACY)
    Until I started reading these blogs a couple of months ago I had never heard of the Fractional Reserve Banking (FRB) theory and the idea that banks create money and all money is debt. When I looked it up it seemed seductively credible; I just could not believe that it was true but could not put my finger on where it went wrong. After much brain ache I think that I have put my finger on it. I am sure people will point out if I have got it wrong.


    For the avoidance of doubt:
    It went wrong when they started creating money and lending it to those who could not pay it back.

    And more to the point, why in God's sweet mother earth would we want to encumber the next generation with a debt that will disable their lives so that the creators of this debt should benefit from the creartion of it?






  • Comment number 86.

    #82,83. Not Buzz Windrip wrote:

    "f you think making swathes of people bankrupt overnight and throwing them on the streets is going to get people working you are wrong"

    Sorry you need to think it through. Your solution is insane and will lead to further collapse. Debts have to be repaid or if the borrower cannot repay the security has to be taken in exchange. Changing this is abrogating over a thousand years of law. And as I have said before I don't like revolutions. The most likely outcome of a revolution will be the seizure of property without legal process - debts will not be forgiven all that will happen is that all land will be nationalised and owned by a small clique of the good and great. You are far more likely be able to retain assets upon which you have given a security for the loan to 'buy' it is you work within the rule of law. Doing what you propose is directly the abrogation of law.

    If the debtor cannot pay he MUST forfeit his security.

    This process will happen. It is unavoidable. The only choice we have is doing it slowly or quickly. I opt for quickly for the reasons I have given already. (And I am not so sure there really is a choice as I don't believe that the Mervs and Bens actually have any clue of what to do - the market will force the change through whether they like it or not and a a time of the market's choosing!) The best way is to get it over with quickly - try reading between the lines of Irving Fischer's analysis of the 1930s debt deflation.)

    As to NR etc. NR's problem was its inability to continue to securitise its loans. Its business model therefore collapsed. All lenders tended to lend long and borrow short and this was not unique to NR - everybody did it. The collapse of NR was due to the collapse of the market for its securitised debt - hence it could not continue as its business model had collapsed - it had a liquidity crisis.

    And I am sorry the World of banking and finance is complex!

  • Comment number 87.

    The US / UK Quantitative Easing will either have little effect or none at all. Here is a quote from Prof William Mitchell about the effects of QE:

    "In terms of changing portfolio compositions, quantitative easing increases central bank demand for “long maturity” assets held in the private sector which reduces interest rates at the longer end of the yield curve. These are traditionally thought of as the investment rates. This might increase aggregate demand given the cost of investment funds is likely to drop. But on the other hand, the lower rates reduce the interest-income of savers who will reduce consumption (demand) accordingly.

    How these opposing effects balance out is unclear but the evidence suggests there is not very much impact at all."


    Something similar happens when interest rate reductions are used to induce monetary stimulus - people with mortgages have more spending power, but people living off interest have less spending power - and the net result is probably quite small. This is usefull though because at least there are people who can pay off their debts.

    What it proves though is that monetary policy is inferior to fiscal policy. We need fiscal stimulus now; low interest rates are helpfull; and QE won't really help at all.

  • Comment number 88.

    Interesting point on QE Charlie, I agree low interest rates have little stimulus effect on the economy now.
    Further to my previous post, some of the growth of M4 money since 1960 is down to new business, population growth etc, but most of it is caused by compound debt interest. Fiscal stimulus would really help get the economy moving and be much more effective than more QE which mainly benefits the banks, or very low interest rates.

  • Comment number 89.

    88 simondav,
    For various reasons I agree with your arguments about compound debt interest, though i'd probably describe them differently to you. For example, I assume that making it too hard for banks to issue loans by, say, making them match loans to deposits from savers is unlikely to happen - so I would look for another way, and that would be for government to spend money into the economy (without corresponding debt issuance) which will create the funds in circulation in the real economy (and therefore for ordinary people) to pay back the compound debt interest. As far as I can see either would help.

    Further, whereas some say that the MPC should dictate how much 'new' money is spent into the economy, I would see it and phrase it differently - I would say simply that none of the deficit should be matched by government debt issuance (at least normally), and the amount spent should be controlled by democratically elected politicians. The usual criticism is that politicians might spend too much, but the fact that the Tories managed to get so many votes on an austerity ticket (rightly or (in this case) wrongly) proves that voters can be quite responsible. Also the opposition will always find a way to attack a government and hold it to account if it can be shown the government are spending too much. The trick is to have mandatory processes within the civil service to ensure transparency I think.

    Kind Regards

  • Comment number 90.

    65. At 4:13pm on 16 Oct 2010, AnotherEngineer wrote:
    #48
    THE FRACTIONAL RESERVE BANKING THEORY (OR FALLACY)
    ...
    A couple of simple questions:
    If banks can create money why is there ever a run on a bank?
    If banks create money how do they deliver cleared funds to a solicitor to buy a house; they have to give real money to her bank?
    Can anyone show me where I have gone wrong (words please not links)?



    >>>>

    I too have struggled with the above concepts but I think I now agree with Dempster on its negative consequences although I am sceptical of switching the system.

    Here is my take on your questions:-
    If banks can create money why is there ever a run on a bank?

    FRB makes 'runs' on banks potentially more dangerous because, by definition, the do not have the reserves to pay out every depositor. Eg. if the ratio requirement is say 10% then for every £100 deposited they need only retain £10 and lend out the rest. Thus if say 20% of their deposits are required in a short space of time they have to start getting extra liquidity from the markets. If the markets perceive it to be a problem they will demand higher interest rates and you can get problems such as NR.

    If banks create money how do they deliver cleared funds to a solicitor to buy a house; they have to give real money to her bank?

    The are inflows and outflows all the time to banks. The can lend to each other etc - if the banks can borrow from the markets or each other at say 4% and charge 8% for mortgages etc then that is a great deal for them. The problem is if there is no-one to provide that liquidity (hence problems at RBS and HBOS). Borrowing short term and lending long term is a dangerous game.

    Finally a little word of my own - money as we know it is an illusion (or more correctly a collective delusion). It is a promise to pay but all that lies behind it is the strength of the economy on which it draws. Of the money assets held in banks - the majority of it is a series of codes in computer memory. If you think of it in that way it is quite easy to see how FRB works to the advantage of the banks.

  • Comment number 91.

    Flanders, you are now part of the US Fed's subterfuge is manipulating the US public's ignorance. A major part of what was done so far by the US politicians was a success, this lot succeeded immensely in saving the banks. Notwithstanding, ex-Premier George Brown self-proclaimed “We not saved the world...”, the politicians are too good in not sounding too parochial in whatever benefits they gave out.

    Fed Governor Bernanke is just playing politics, he knows that if the current malaise was attributed to structural unemployment, then, the solution would probably lie with the elected politicians embarking on some policy initiatives. So far, what the politicians did in terms of stimulus outside of saving the banks, had a limited and rather slow pay-off. After Presidents Bush and Obama succeeded in saving the banks, the major constituents of the US Fed supervision. Bernanke knows this is payback time for his 'sloppy supervision' in the run-up to the 2008-2009 financial crisis, he has go for the maximum in monetary policy, he has to show gratitude when among friends. Stagflation is not the Fed's concern, if it ever gets there, then, the problem is shifted back to the country's political administrators. The Fed had by then done its job: the desired inflation and the arbitrary monetary liquidity were already in place.

    This talk of 'currency wars' is only politicians and economic-journalists hype. As an ex-commodities trader, I know there are 'currency battles' every day in the world of floating exchange rates. There are no free lunches even for proponents/administrators of fixed rate regimes. The Chinese knows this, and China has to be conscientious in prioritising who among its constituents shall be the main beneficiaries. Japan is a case study in point who after obliterating US textile, steel, automobile etc industries, the Yen finally appreciated when it is already too late for the 'dead' industries.

  • Comment number 92.

    What Ben Bernanke appears to be signalling is that by using QE to target growth the US is going to keep on printing new money until their currency falls to a level that makes American exports competitive in the global marketplace.
    In what sense is that not currency manipulation and how, when in order for the US to gain by this some other country has to lose, will other central banks react?
    Take Japan for instance, they are already struggling to cope with a falling $ and have created billions in the past few weeks to weaken their currency all to little or no avail. It is obvious they will have to do more and yet Japan is a country with a healthy trade surplus and if they are allowed to devalue then what will every other country feel they need to do in order to protect their own positions?
    Not to mention the growing moral hazard posed by any number of central banks who's actions are causing all sorts of distortions in stock markets and bond yields.
    It seems to me that Bernanke's speech is pointing to the end of planned global cooperation and the start of every man for himself.

  • Comment number 93.

    65. At 4:13pm on 16 Oct 2010, AnotherEngineer
    A couple of simple questions:
    If banks can create money why is there ever a run on a bank?
    If banks create money how do they deliver cleared funds to a solicitor to buy a house; they have to give real money to her bank?
    Can anyone show me where I have gone wrong (words please not links)?


    Great questions engineer. Let me have a go.
    2 points here. The run on a bank and where money comes from.
    Note I am talking about Sterling money only in the following.

    The Run.
    In theory, every night, banks are required by the BOE to have minimum reserve positions. In other word their ratio of deposits has to be a certain percentage of loans made out.
    If they are short they will borrow from other banks (with excess reserves) at the interbank rate. If they can't do this they can go to the lender of last resort the BOE who will lend to them at a punitive rate. The BOE as we've seen will always lend. It will also presumably tell the idiots who run the bank in no uncertain terms to sort their act out. What they should never do is make this public because then you scare the willies out of people and they get nervous about having their deposits with said bank. Hence The Run.

    Where does money come from?
    Because of the lovely texbook idea of Fractional Reserve Banking and the Govt chossing to borrow to finance deficit spending we have got completely the wrong idea of where money comes from. Banks will always lend to any credit worthy customer and will worry about their reserves after the event as described above. So FRB whilst a lovely idea is not how it works in practice.

    First accept that money is a financial asset. The Govt creates money by spending, by buying goods and services and paying public sector workers.

    Private banks create money by leveraging this money. They create new money but at the same time they also create a debt. The addition to net financial assets in the economy is NIL. When that private debt is repaid by the borrower putting money back into the bank the debt reduces obviously but the money still exists however that money will be lent out again (another debt created)

    So the net amount of net financial assets out their at any one time will be the total amount of Govt spending less total tax collected. Money is destoyed when it leaves the taxpayers bank account. (You will of course be aware that the Govt does not record spending and tax collected in this way)

    The deficit (Govt spending less tax collected) in any one year merely reflects increased net financial assets i.e. Savings (debt from bank to us) less private debt (from us to banks)

    The public debt (accumulated deficits) simply represents the 'financial' wealth of the country.

    You wont get that in any mainstream text book. Neither will you hear it from any mainstream economist or politician.

    The simple answer to your second question is they transfer money from their reserves. Remember all money exists in banks most of the time even though they are indebted to their savers.

  • Comment number 94.

    @ 90, 65 & 48 (and probably others) here's my take on FRB.

    In the 1960s when I studied Economics at Uni FRB was never mentioned. But the Liquidity Ratio was. Most textbooks explained that the Ratio in the British banking system was around 8%.
    That meant that a bank could lend (up to) 92% of deposited funds. At the same time the banks "guaranteed" to pay depositors. They could provide this guarantee because the BofE would cover any shortfall. Hence the BofE was known as the "lender of last resort". The same books acknowledged that "loans create deposits".

    The system had been in operation for decades and had proved to be a stable system for nearly 100 years.

    So, whatever has 'gone wrong' it's probably unfair to point the finger of suspicion solely at FRB.

    Have a look at FRB on Wiki - it's a good explanation. (It saves me a lot more typing here)


    On the other hand - Too many bad debts will sink a business - even a banking business.



  • Comment number 95.

    I never could understand why the proposal that chinese yuan valuation could be a big help to US unemployment.

    Could it mean, v.g., that Apple would take the manufacture of its product back in USA and not transferred to India, which is more cheaper? Or even to Mexico?

    In my humble opinion, the only ones that would benefit from yuan valuation are those international speculators, Soros and those hedge funds, which have already parked their leverage money (1% capital 99% borrowed money) in yuan waiting for the God send 25% rise.

  • Comment number 96.

    #94, The-iterant-ex-pat “... it's probably unfair to point the finger of suspicion solely at FRB.”

    Your exasperation and nativity, I blame it on the press and the politicians and not your “Uni”, because what is happening now occurs long after your tertiary education. The US Fed supervises banking activity with a simple aim that regulated banks serve the economy and not be a cause of economic hurts. But the systemic financial catastrophe of 2008-2009 highlighted what USA government had known all along, the Fed is in no position constitutionally and financially to save the banks. The Fed, the superior regulatory authority with all the prerequisite economics intelligentsia under its employment cannot claim inculpability in what is essentially a banking-economic crisis. What is most exacerbating is that Fed supervision accounts for nothing in preventing the financial meltdown. The Fed is only an unimaginative Supervisor and can never be a Saviour of bankrupt banks. The raison detre of its existence is now in question. Hence today, Bernanke is proposing a 'maxi' act of a monetary policy, this is within its jurisdiction and capability.

  • Comment number 97.

    Whilst it's interesting to read all of the posts and thought provoking, it actually gets us no further forward. QE, MMT, Fiscal Stimulous, FRB - it's all sophistry.

    Unless and until we focus our attention on the true fundementals of our, Europe's and the world economy we will merely be blown about direction-less. The above thread illustrates that money/finance is still taking the leading role. In reality it is merely the oil that keeps the wheels turning it is NOT the driver.

  • Comment number 98.

    86 JFH

    I have not suggested that people do not pay their bills have I. Where have I said that. I have effectively said they should be given some time to sort them out. You apparently have little experience of the law. It is far from cut and dried and the higher you go the worse it gets. Do you really expect sense from the House of Lords because that is where difficult cases end up. Then there are the appeals.

    You have an obsession with high interest rates and have relentlessly posted that they are the salvation. In my opinion they are not right now.

    The situation is one of transition.

    Why do you think the BoE has said it expects interest rates to remain low for a number of years. why do you think interest rates are low everywhere.

    If you are driving somewhere with a slow puncture and no spare you don't get out and slash the tyre, you proceed with caution until you can sort it out.

    Quite clearly all borrowers who cannot immediately pay are not demanded to forfeit their security overnight. So I fail to see your point.

    I also fail to see how your latest comment on NR differs from mine. NR lent long and borrowed short to do it and found they could not borrow short so face insolvency. The complexity of individual deals in that process is neither here nor there. It does not matter how common the long / short practice is, all that matters is if it meets a problem. Almost all failures are nothing to do with inherent profitablity they are down to cashflow.

    The culprits in this are the banks and the regulators who failed.

    Your approach is to concentrate on one set of figures which is common and does not work. This is why you get bedblockers in hospitals. Social services do not want to spend the money taking on the individual so they are left in the hospital using a specialist facility bed at a multiple cost of the social services alternative, the taxpayer picking up the bill.

    Your approach would swamp the housing market with repos, collapse the market instead of letting it steadily decline which is starting. It would create truly massive welfare bills and social disruption. All for the matter of an interest rate which is set as a matter of economic control anyway.

  • Comment number 99.

    This comment was removed because the moderators found it broke the house rules. Explain.

  • Comment number 100.

    95 ifigeniaa:

    'I never could understand why the proposal that chinese yuan valuation could be a big help to US unemployment.

    Could it mean, v.g., that Apple would take the manufacture of its product back in USA and not transferred to India, which is more cheaper? Or even to Mexico?'

    Quite. It looks like posture, trying to find a scapegoat, externalising the problem. Its not an American problem fellas its a Chinese problem. The labour cost differential is too big. From the UKs point of view EU protectionism which has much of the same claims would fail because of the differential in labour rates within the EU. The only way forward is producing stuff which is driven by either culture, cannot be produced other than locally, or a skill or tech or investment advantage. Other than that there is always somebody prepared to work for less.

    I have not seen any sensible strategy to address the problem on a wide front, US or UK. Until there is one things will not get markedly better.

    Consumers do not have to buy imports but they relentlessly do even if it costs them their jobs.

 

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