Wednesday, April 4, 2012

Scarecrow


This woke me up, to write. At Winterspeak:

winterspeak said...

The notion that reserves somehow enable lending is a terrible confusion of how the "monetary base" works, bank lending works, and reserve works.

Ramanan said...

It is true that the bank is attracting deposits and that it may have found itself with a lot of reserves before making the loan. However it doesn't "cause" the bank to make more loans because it doesn't make the borrower more creditworthy.

And at Asymptosis, Tom Hickey:

The argument is about causation. One claim is that reserves cause lending, and deposits lead to reserves, so deposits cause lending... The other claims is that demand causes lending...

Tom's complete comment is particularly good, I think, and useful to me. But that's beside the point just now.

Winterspeak and Ramanan and Tom Hickey all express the same thought: "The argument is about causation," as Tom says. The argument is about whether reserves cause lending.

But this is just the argument MMTeers are having amongst themselves. Nobody outside MMT says that reserves "cause" lending. MMT has adopted this as an argument they can shoot down, but it's nonsense because nobody is making that argument.

Reserves do not cause lending. Reserves limit lending. Whether they work or not is another matter; but the intent of the reserve requirement was from the beginning to give central bankers some control over other bankers in regard to money-creation. The intent was to put limits on the fractional-reserve process.

So Winterspeak's focus on reserves enabling lending, Ramanan's focus on reserves causing loans, Tom Hickey's focus on reserves causing lending, it is all just a red herring. A straw man.

4 comments:

davegerlitz said...

Sorry, I think you have this wrong. Reserves don't limit lending either, as you say. And Ramanan is not an MMT'er, fwiw. I only say that b/c I think he would resent the association.

The Arthurian said...

as would i. Thanks.

Greg said...

openturirActually I think you are dead wrong on this Art. Plenty of people are worrying that an increase in reserves will "lead to" an increase in loans, possibly down the road. Plenty of people (over 75% I bet) think that the direction is 1)reserves are increased .... thus 2) money is made available to lend 3) loans are made

This direction is demonstrably wrong

And its important that this is understood correctly if you wish for more loans to be made (I dont but.....)

Only good credit worthy customers asking for loans will increase the volume of loans made (except during the end of the Bush years which saw loans to anyone with a pulse.... as long as it was for a house)

The Arthurian said...

Good, Greg.

Let me go back to winterspeak:

This used to be my model of banking as well -- what does it matter if people save more by putting more money in the bank? That just gives banks more money to lend out, right? Wrong. Academic macroeconomics does not understand how banks work. Loans create deposits. Bank lending is not reserve constrained.

I shorten those words into two concepts

1. Putting money in the bank does not give banks more money to lend out

2. Bank lending is not reserve constrained.

These two concepts do not fit together. I think for a proper fit you have to say:

1. Putting money in the bank gives banks more money to lend out, but does not force them to lend it out.

2. Bank lending is not reserve constrained.

My #1 is the same as "you can't push on a string". Winterspeak's #1 only leads to the question, "So, what do banks DO with the money we leave with them?"

My two points are separate, but they fit together. Winter's do not.

My #1 is essentially identical to Ramanan's statement at Winterspeak:

It is true that the bank is attracting deposits and that it may have found itself with a lot of reserves before making the loan. However it doesn't "cause" the bank to make more loans because it doesn't make the borrower more creditworthy.

But the question that I asked was this:

So, what do banks DO with deposits? Are you saying they refuse to lend them out? It seems to me a piece of the story is missing.

The piece is still missing when Ramanan is done.

//

We have "enabling lending" and "causing loans" and "causing lending"...

Let's get rid of those phrases, and work with verbs like "allows" and "forces" and "prevents". I think they're verbs...

When the wind is good, letting out more string allows the kite to fly higher. It does not force the kite to go higher, of course, as a day with no wind will show. On the other hand, refusing to let out more string prevents the kite from going higher -- unless perhaps the wind is very string and one's grasp on the string is feeble.

//

Always, in the explanation that I question, at some point the argument comes down to saying: But the central bank HAS TO supply the additional reserves on demand [or the banking system will fail].

That's one of those truisms, somehow, true but not fact. I think the Volcker squeeze, the forceful reduction of inflation in the early 1980s, shows that the central bank does NOT have to supply the additional reserves on demand. It is simply a matter of policy.

The explanation that I question always relies on the argument that To keep the interest rate at the target level, the Fed must supply more reserves when the demand for reserves increases.

The argument is extremely bad. The Fed does not have to keep the interest rate at the target level. The Fed can change the target.

The explanation that I question looks at the end result of 60 years of bad policy, looks at the result and says "This is how the economy works".

No, Greg. This is how the economy fails.