Speaks for itself

Invert that thing

My 60 Times (3) post was evidently confusing. I was talking about money, but the graph showed total debt (relative to money). So before my coffee this morning, I thought: Well, let's invert it then.

The graph below shows four measures of money (relative to total debt).

The blue line shows base money. In 2008 there was less than two cents of base money for every dollar of existing debt. Even after the Bernanke spike, which is barely visible on this graph, there is less than four cents of base money for every dollar of debt.

'Four cents' is one amount of money; therefore singular, I hope.

Ah yes: Collective Nouns. One forgets.

The red line shows the ratio for M1 money. Again, less than four cents.

The green line shows MZM per dollar of debt. There is about 18 cents.

And the orange line shows the defunct M3: less than 25 cents per dollar of debt. And that's the big measure of money, M3.

All these measures show downtrend. None of them grew as fast as debt.

The solution to the debt problem, the solution we have used, is to keep inventing new measures of money, measures that include more debt, as if by calling debt 'money' we can eliminate the burdensome cost of debt.

My solution to the debt problem is to stop using so much debt, and to use in its place money that bears less cost of interest.

Here ya go: Let's say there's a cost associated with base money. (Apparently there is.) Now let's think of M1 as the first layer of debt on top of base money. (Surely we have layer upon layer of debt.)

The interest cost of each dollar of M1-money includes the base-money interest cost plus the 'first layer' interest cost. This money is more expensive than base money.

Think of MZM as the second layer of debt, built on top of the first layer. The cost of layer two includes the cost of base-money interest, plus the cost of M1-money interest, plus the cost of interest on each extra dollar that is part of MZM. The cost of layer two is greater than the cost of layer one. The cost per dollar is greater, because each new dollar is built on a dollar that already had an interest cost.

And even if you personally have no debt, you still live in an economy that is full of debt. That debt affects the cost of the things you buy, and it affects the availability of the job you might want.

Think of M3 as the third layer of debt, built on top of the second. Again, each dollar comes with interest cost on top of all the previous-layer interest costs. Again, the interest cost per-dollar of this money must be much greater.

The entire white space of the graph runs from zero to zero-point-five of total debt. If you imagine that white space twice as high as it is, and picture where the top edge of that white space is, that top edge is total debt. And the cost of that debt is greater still.


And yes, you can say that all of this cost is somebody's income. Well yeah, that's why I call it a factor cost. It's why I say the factor cost of money competes with the factor cost of labor and competes with the factor cost of capital.

But labor is a productive factor. And capital is a productive factor. On the other hand, money is not a productive factor. Money facilitates production. So what we have is too much cost-of-facilitation relative to the costs of production. As a result, finance grows to crisis, and production remains stagnant.

Irony and strange bedfellows

"There's a rumor going around..."

I gripe about my conservative friend R every once in a while. (His concerns are so petty.) But I want to point out somethin. We're on the same side, he and I, him and me. We both want what's best for America. I know it.

We're on the same side, except for one thing: We have different views about what's best for America. He wants to spread the rumors, and laugh about them. I want to fix the economic problem.

He thinks... No, I don't know what he thinks. But it seems to me he thinks we can fix things in America by fixing the political system. I know for a fact that to fix things we have to start by fixing the economy.

Most people -- people from all over the political spectrum -- think they know what needs to be done to fix the economy. I think they don't. But they think they know, and they even pretty much agree on it, despite all their political differences. And they all put politics above economics. Irony and strange bedfellows.

They think we have to balance the budget... and if that means we have to cut spending then so be it... and if it means we have to starve the beast then so be it... and if it means the Fall of Rome then, apparently, so be it.

But we don't have to balance the budget. Or if we do, we cannot get there directly. We have to use indirection, as if we were programming in assembly language.

Not misdirection, which is too often used already.

We cannot balance the budget by balancing the budget. We have to balance it by fixing the monetary imbalance that creates budget imbalance. And you have to be willing to consider the possibility that there is more to this than "spending" and "spending cuts".


For the record, I do not call for increases in government spending. I just want to point that out. Because I also do not call for cuts in government spending. And whichever of those two you prefer, you're likely to think I prefer the other. I don't.


The economy is the driving force. Not politics. Politics is just the BS people use to turn economic policy in their favor.

The economy is the driving force. It was this that struck me in Steve Waldman's words:

Note that a government’s “political capacity to levy and and enforce payment of taxes” depends first and foremost on the quality of the real economy it superintends.

The economy is the driving force. It was this that did not strike Winterspeak:

A government's capacity to impose taxes has nothing to do with the quality of the real economy it oversees and everything to do with its sovereign power.

The economy is the driving force. I'm not sure if it struck Jazzbumpa:

[Winterspeak's] dogmatic statement about the nature of taxation is simply wrong. Sure taxation policy is a vital element of sovereign power. But to suggest that tax policy is irrelevant to the quality of the economy is nonsense.

The economy is the driving force. Economic troubles give rise to discontent. Unless you're an artist, or suicidal, discontent expresses itself politically. Political discontent gives rise to political solutions. Political solutions do not solve economic problems.

The economy is the driving force.

60 Times (3)

MZM is a new measure of spending money. New to me, anyway: I'm not comfortable yet with what it is. But I can add it to the graph to my graph of debt relative to various measures of money:

The green line is much, much lower than either of the other two measures, because MZM is a much, much bigger number. Note that the Bernanke spike has no apparent effect on DPD based on MZM.

Now I eliminate debt-per-base-money (the blue line) and debt-per-M1 (the red line) to get a better look at debt-per-MZM:

Two ways to look at this one:
1. Rapid increase until about 1990, and then just flat.
2. Rapid increase until about 1981, and then very gradual increase.

I go with option two, for two reasons. First, finding the kink at 1981 agrees with the obvious kink locations in my three FRED graphs of 29 April. Finding the kink at 1981 also agrees with the timing of the Keynes-Reagan shift.

Second, the rapid-increase phase is a series of rapid upward movements punctuated by temporary pauses or flat spots in the uptrend. The gradual-increase phase, by contrast, is a series of humps. And the period running from 1977 to 1983 is a hump.

I would be willing to say that 1977-1987 is a transition period, showing both a hump and rapid-increase. (The hump itself ends at a much higher level than it begins. And it ends with a rapid-increase.)

What does this mean? I don't know, yet. For sure, though, the Bernanke spike had no noticeable effect on this trend-line.

60 Times (2½)

In the micro economy, you go to your bank for a loan. The banker looks at your debt and your income, and bases his decision-to-lend largely upon these these numbers.

Debt and income. And in a macro economy "built on micro-economic foundations", economists compare total debt to total income. This is a mistake. As long as the economy keeps growing, there is always more income to support more debt. But that is not the same thing as having more money in the economy.

You need money to pay off debt. You can pay off debt with income, but if that income exists because somebody added to total debt, then paying off debt with income does not reduce total debt.

60 Times (2) // and Happy Birthday, Aaron!

The "debt per dollar" graph shows monetary imbalance. It shows how much of the money in our economy is debt.


When you add a second DPD, with M1 as the money measure, this is what you get:

The blue line is debt per dollar of base money, same as in my early post yesterday. The red line is debt per dollar of M1 money. The red line peaks lower, because M1 is bigger than base money. Otherwise, the two trend-lines are comparable. Except for one thing: The Bernanke spike.

The Bernanke spike, the massive increase in the quantity of base money, had a very big effect on the blue trend line. It reduced DPD to a value it had back in the early 1970s.

The increase in base money translated into a much smaller increase in M1 money. It reduced this version of DPD to the value it had around 2005, just before our financial troubles started. By this measure, the Bernanke spike has not solved the problem. It has not corrected the monetary imbalance.

Assessment

From Sunday:

Graph #3: The Monetary Base relative to Actual-Price Output

Graph #3 shows a remarkable decline in the quantity of money from the end of World War II until about 1981. Then a persistent, gradual increase lasting until just after the year 2000. Then a brief decline, followed by the Bernanke spike. That spike, however, does not this time appear to increase the quantity of money to a dangerous and unprecedented level. It only restores the quantity of money to the level it was starting from, at the end of World War II.

We came out of World War II with too much money. The evidence is not in the graph above, but rather in the wartime and post-war inflation we experienced.

A combination of rising prices and anti-inflation policy helped reduce the quantity of money relative to Actual-Price Output.

By 1960 inflation was almost non-existent. Soon, however, it started coming back.

In my view, after 1960 the quantity of money was insufficient. In my view, after 1960 the increasing use of credit was more and more responsible for inflation.

But policymakers continued to reduce the quantity of money until 1981. By that time, we didn't have enough money to have a vibrant economy. And by that time, the cost of credit-use was the major force behind inflation.


So the Sunday graph, at the top of this page... The quantity of money is back up where it was at the end of World War II. At that time, it was enough to cause inflation. So it is probably enough to cause inflation now. But there is more to the story.

Back at the end of WWII we had financial technology that could turn a dollar of base-money into 12 dollars of debt.

Today we have the financial technology that can turn a dollar of base-money into $60 of debt. Five times as much. So there is the chance that inflation can be five times worse now, as compared to the inflation we had in the years after World War II.

To prevent it, we need economic policies that encourage accelerated repayment of debt and policies that limit our exploitation of the financial technology.

60 Times (Afterthought 2)

Secondly, I showed this graph:

Graph #1

And what I said of the graph was this:

The graph begins shortly after 1950 and shows continuous up-trend -- a continuous increase in debt as compared to money -- until 2008 or so, when the Bernanke spike drove DPD down to a level not seen since the 1970s.

Oh yeah, there is one significant drop from 1990 to 1994...

True enough. And what that means is, that debt growth was unfailingly faster than money growth. And that means that the monetary imbalance was growing more severe, without letup, since the early 1950s. Except for that one significant drop, the one that preceded the golden decade of 1995-2004.

Graph #1 above shows a ratio: debt per dollar of money. Graph #2 below separates the two components of the ratio and considers the growth rate of each component.

Graph #2: Debt Increases Faster than the Quantity of Money

The blue line is total debt. The red line is the quantity of money, base money, Fed-issued money, the money they "print".

The blue line is consistently higher than the red line. The growth of debt is consistently higher than the growth of money. Or again, the growth of credit-use is consistently higher than the growth of money. So, when people say "printing money causes inflation" you can tell 'em: Maybe, but the use of credit causes even more inflation.

Tell 'em the use of credit creates debt, too, and leads to debt accumulation and financial crisis.

And tell 'em the economic policy that allows debt to increase faster than money is an unsustainable policy.

60 Times (Afterthought 1)

Reviewing my four o'clock, I had too many follow-up thoughts to let it be.

First of all, I wrote:

Base money is created when the Federal Reserve removes debt from the economy.

Until the recent crisis, that was always the case. The U.S. Treasury issues government securities, and somebody in the non-government sector buys them. When the Federal Reserve buys some of those government securities from the non-government sector, it takes debt out of the private economy, and puts money in.

All very nice. After the Fed buys those securities, the government owns them. So when the Treasury makes payments on that debt, the government makes payments to itself. This is basically the same as if that debt did not exist at all: It's "out of the economy."

Some people might use this as an example of the stupidity of government or something equally unpatriotic. I do not. I use it simply as a description of what happens in the world we live in.

But things change. Back in the autumn of 2008 the financial system was collapsing and the Federal Reserve responded with extraordinary measures.

Source: Billy Blog, November 10th, 2010.

The first big event, which shows up in green on Bill Mitchell's graph at right, was a massive increase in "Lending to Financial Institutions". The second big event, if not quite so big, shows up in purple. Mitchell's graph calls it "Liquidity to Key Credit Markets". To me that sounds a whole lot like more lending to financial institutions.

Anyway, both the green and purple emergency-increases gradually tapered off and by mid-2010 the balance sheet of the Federal Reserve had fallen in size, back almost to where it was before the start of the crisis -- except, of course, for that big dark blue cloud sitting ominously above the majestic purple mountain on the graph.

That big dark blue cloud. The graph identifies it as "Fed Agency Debt Mortgage-Backed Securities Purch". To be honest, I don't know exactly what that is. I just have a vague notion. But the key phrase there is "Mortgage-Backed", which means the money that creates income for the holders of those securities comes from people making the mortgage payments.

If that is right, then what the graph shows is a doubling of the size of the Fed's balance sheet, achieved by the purchase of derivatives based on mortgages.

The Federal Reserve created "money from nothing"...

To make a big deal of 'money from nothing' is to get caught up in distraction.

... created "money from nothing" and used it to buy up "toxic assets" in order to reduce "risk" in the financial sector. Myself, I think it had to be done.

That is not to say I think it wise that we let ourselves get into the situation where such a rescue operation becomes necessary.

It had to be done. But look what it did: It took risky assets out of the economy, but left the risky liabilities to fester.

When the Fed buys government securities, the government pays more interest to itself, and there is a net reduction of interest costs. This is not the case when the Fed buys mortgage-backed securities. To get the same advantage, we would have to let the people paying mortgages make payments to themselves. Or just have the Fed forgive all that debt. Or something equivalent, to take that debt out of the economy.

The increase in base money that was used to "Purch" those "Mortgage-Based Securities" was not counterbalanced by removing debt from the economy. If it had removed that debt, if it had removed the risky liabilities, the economy would be in far better shape now than it is. But that did not happen.

So unfortunately: No, it is not true that the only way to create base money is for the Fed to remove debt from the economy.