Dimitri Papadimitriou claims
full reserve banking is chronically dependent on what he calls “demand
injections”. Hilarious.
So how would he characterise
the billions or trillions recently spent to prop up the existing FRACTIONAL
RESERVE system? For me, the words “chronic” and “dependent” spring to mind. How
about you?
But it’s worse than that.
The above trillions are a SUBSIDY of banks. In contrast, “demand injections”
cost nothing in real terms. Though unfortunately, economic illiteracy amongst
so called “professional” economists is such that half of them don’t understand
the latter point.
Papadimitriou's arguments are indeed misguided. But not for the reasons you indicate. Papadimitriou is confused because, according to MMT's Bill Mitchell:
ReplyDelete"The required reserve ratio has no direct influence on credit growth. So it wouldn’t matter if the required reserves were 10 per cent, 0 per cent or 100 per cent".
Mitchell has argued this for several years, the latest being in:
http://bilbo.economicoutlook.net/blog/?p=27599&cpage=1#comment-34498
See his explanation and the discussion of Question 3.
Mitchell's argument has radical implications. Narrow banking, even 100% reserves, would merely provide some extra safety for "rich" depositors not covered by deposit insurance. But it would have NO effect on banks ability to make loans, expand credit, etc.
So Papadimitriou's arguments are misguided because they suppose that a 100% reserve requirement would affect the economy.
Likewise my own earlier understanding of 100% reserve banking was confused on this point.
Similarly misguided is the thinking of the Chicago Plan, Friedman, Positive Money, Cochrane, Kotlikoff and even Ralphanomics !
Perhaps you could respond to this harsh accusation here or in another post.
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It was the following comment by "FlimFlamMan" which belatedly enabled me to understand Mitchell:
"You could add a 100% reserve requirement to the existing system and laws...Banks would make loans, as they do now, creating new bank money...The central bank would create new reserves as necessary, as it does now.
If you want to ban bank lending you have to ban bank lending. It might even be better for all money creation to be done by the treasury/cb, with democratic accountability, but setting the reserve req at 100% won’t get you there."
KongKing,
DeleteI agree with Mitchell’s points, but they are not actually relevant to full reserve and for the following reasons.
Under the existing system, as Mitchell rightly points out, reserve requirements are near irrelevant. But full reserve is a totally different set-up. Under full reserve banking, one half of the former banking industry is 100% reserve, but it is NOT ALLOWED to lend: it just deposits money at the central bank or perhaps invests in short term government debt.
Re your claim that full reserve “…would have NO effect on banks ability to make loans, expand credit, etc.”, I’m 99% sure that lending would decline a bit under full reserve. Reason is that lending under full reserve is done by the other half of the industry: a half that is funded just by shareholders (who stand to lose out when silly loans are made, rather than being rescued by taxpayers, as under the present system).
But the demand reducing effect of fewer loans is no problem: it can be countered by standard stimulatory measures. The net effect would be less lending based activity and more non-lending based activity: not a bad outcome given the excessive levels of private debt.
I don’t agree with Flim Flam’s claim that “setting the reserve req at 100% won’t get you” to having “all money creation done by the treasury/central bank”. At least, FF’s claim is dodgy.
As to the 100% or full reserve half of the banking industry under full reserve, that doesn’t create money: i.e. each £X deposited is simply lodged at the central bank.
As to the lending half of the industry, if the rule is that that half can only lend on as much as is deposited with it (in the form of shareholdings) then there is no money creation there either.
Ben Dyson of Positive Money goes into this in detail in his various publications, e.g. his book “Modernising Money”.
Net result: it can only be the central bank that creates money.
Ralph, thanks for your reply.
ReplyDeleteI am puzzled by your first sentence "I agree with Mitchell’s points, but they are not actually relevant to full reserve".
Mitchell claims that reserve requirements have little effect not just under the existing system, but even with a 100% reserve requirement.
He writes: "The required reserve ratio has no direct influence on credit growth. So it wouldn’t matter if the required reserves were 10 per cent, 0 per cent or 100 per cent".
The fundamental point is that an explicit ban is essential to prevent deposit-taking banks from lending to the private sector. You seem to agree with Mitchell and FlimFlamMan when you write "Under full reserve banking, one half of the former banking industry is 100% reserve, but it is NOT ALLOWED to lend".
Your view that "lending under full reserve is done by the other half of the industry" rests on the assumption that there is such a ban.
In the absence of a ban, deposit-taking banks would probably continue to lend because they have access to cheap (low interest) finance from the public (deposits) and from the government (loans through the discount window).
A ban on lending to the private sector by deposit-taking banks would end credit creation by banks and the need for deposit insurance, bailouts etc. No need for reserve requirements or other complexities advocated by Positive Money.
“The fundamental point is that an explicit ban is essential to prevent deposit-taking banks from lending to the private sector.” Quite right. Full reserve banking, at least as set out by Milton Friedman, Hyman Minsky, Positive Money, Lawrence Kotlikoff, etc etc involves that explicit ban.
DeleteI’d guess Mitchell just assumed that full reserve banking involved taking existing reserve requirements (10% in the case of large US banks) and raising that to 100%. I may be doing him an injustice but looks to me like he should have studied full reserve banking in more detail before expressing views on the subject.
Re the first sentence of your last paragraph, I agree. Re the second sentence, Positive Money does not advocate reserve requirements apart from 100% reserve requirement imposed on deposit takers. As to other “complexities”, they are by definition complex (genius aren’t I?). But seriously, I think some of the complexities that form part of PM’s full reserve system can be cut away. But I’d need a few thousand words to set out the details there.