What sets apart $100 in cash from $100 in a checking account? On the surface, they are both equally spendable and can be converted from one form to another. However, the distinction lies in the fact that the paper bill represents an obligation of the government, while the electronic entry is an IOU from your bank. The idea that they can be exchanged at a one-to-one rate is not inherent but rather a social construct. Therefore, they are not exactly the same.
Now let’s delve into the creation of money. Banks don’t have to rely solely on deposits to issue loans. When you approach a bank for a loan, they can simply input the desired amount into your checking account, creating new money in the process. You owe this money to the bank, and the bank owes it to you. Money creation is not limited to banks; governments also create money through deficit spending, while entities like the Federal Reserve do so by purchasing bonds.
As we ponder the concept of money, it becomes increasingly bizarre. In the past, government-issued money was backed by tangible assets like gold and silver. Nowadays, paper money derives its value solely from government fiat, a declaration that it is legal tender. Surprisingly, society accepts this arrangement.
Money is not defined by its value but rather by its transactability. In certain situations, even mere scrip can function as a currency, such as in prisons or prisoner-of-war camps. Conversely, valuable assets like real estate do not qualify as money. Cryptocurrencies aspire to become money, but their status remains limited.
Economist Paul Sheard explores the complex nature of money in his book “The Power of Money: How Governments and Banks Create Money and Help Us All Prosper.” He challenges commonly held beliefs, including the notion that current debt will burden future generations. He aptly points out that our grandchildren will not only bear the responsibility of paying interest on the national debt but also receive interest payments. In the grand scheme of things, this will balance out, although discrepancies may exist among individuals and countries.
Sheard possesses substantial expertise on this subject, as demonstrated by his previous works. He has also garnered support from various experts, including those from esteemed institutions like the Bank for International Settlements and the Federal Reserve.
Another perspective on money is offered by Anat Admati, a professor of finance and economics at Stanford’s Graduate School of Business. Alongside Martin Hellwig, Admati published “The Bankers’ New Clothes: What’s Wrong With Banking and What to Do About It,” which criticizes banks for relying excessively on borrowed money.
Admati and Hellwig argue that deposits are not equivalent to cash since they are essentially IOUs from the bank. While this is true, deposits can still function as money without being exactly the same as cash. They highlight the risk of borrowers withdrawing the loan proceeds, leaving the bank with a gap in its balance sheet. Additionally, when banks transfer money between each other per customer request, they deplete their reserves at the Federal Reserve.
Regarding these points, Sheard acknowledges that banks can borrow reserves from other banks when short on supply. If the entire banking system lacks reserves, the Federal Reserve will inject more to maintain the federal funds rate at the desired level.
However, Sheard does agree with Admati and Hellwig that banks should rely more on shareholder financing and less on borrowing and deposits. The money banks create belongs to their depositors, while the banks themselves are left with the loans they make, which may turn sour. As Yale economist James Tobin once remarked, bankers cannot create means of payment to finance their own purchases.
During the early stages of the pandemic, many proponents of Modern Monetary Theory (MMT) called for significant fiscal stimulus. While this contributed to economic growth, it also led to high inflation. Sheard admits that both he and the MMT followers underestimated the detrimental impact of the pandemic on the supply side of the economy. This resulted in an inadequate supply meeting surging demand, leading to price increases.
Sheard advocates for government coordination of fiscal and monetary policies. One suggestion is to include the Treasury secretary in the Federal Reserve’s rate-setting committee. However, Sheard acknowledges the need to reassess and discuss the best macroeconomic policy framework.
In conclusion, Sheard’s book provides valuable insights into the complexities of money and its creation. It challenges conventional wisdom and offers a primer for discussions on macroeconomic policies.
Denial of responsibility! VigourTimes is an automatic aggregator of Global media. In each content, the hyperlink to the primary source is specified. All trademarks belong to their rightful owners, and all materials to their authors. For any complaint, please reach us at – [email protected]. We will take necessary action within 24 hours.
