Friday 28 June 2013

Making Money

Printing Money! The knee-jerk outcry from New Zealand's politicians, journalists and right-wing economists is that Quantitative Easing is the same as "printing money". In reality, QE its a IMF-endorsed method of freeing-up the flow of credit to businesses large and small. The Greens' QE proposal was much more limited: to provide urgently needed capital for the Christchurch re-build.  Strangely, the fact that private banks "print money" every day elicits no outcry at all from the critics of QE. 

ARE YOU MAKING ANY MONEY? It’s a common enough question – to which most of us reply with a rueful “Not enough!” A fortunate few (they would call themselves the ‘hard-working’ and ‘talented’ few) might venture a smug “Oh, well, I can’t complain.” But the truth of the matter is that only two things in this world “make” money: governments and banks. (If you’re ‘making’ money and you’re NOT one of those two things, then you’re a counterfeiter.)
The funny thing about money – given how vital it is to our lives – is that hardly anyone knows anything about how governments create their currencies, and even fewer understand why banks are allowed to ‘make’ money at all. Indeed, a recent British survey revealed that most people assume that a bank’s lending cannot exceed the value of its deposits. The idea that banks can, by means of a simple accounting entry, create hundreds of millions of dollars, tends to be greeted with considerable scepticism.
Take the recent kerfuffle over the Green Party’s (now abandoned) proposal to use “Quantitative Easing” (QE) to both assist the Christchurch rebuild and lower the value of the New Zealand dollar. Earthquake Recovery Bonds, to the value of 1 percent of New Zealand’s GDP (approximately $NZ2 billion) were to be purchased by the Reserve Bank.
Adding such a large sum to the stock of Kiwi dollars would have devalued the currency by several cents against the US dollar – making our exports more competitive on international markets. Conversely, imported goods would have become more expensive, reducing consumer demand and thereby improving the country’s balance of payments.
The additional $2 billion – available immediately from New Zealand institutions – rather than being drip-fed to us from the grudging hands of foreign-based reinsurance corporations – was also to have been used to kick-start Christchurch’s still sluggish reconstruction, boost the country’s economic growth, and reduce the level of unemployment.
A reasonable policy, you might have thought, in the light of New Zealand’s over-valued dollar and the damage it is doing to the economy. But, no. The Green co-leader’s QE proposal was decried by politicians, journalists, bloggers and bank economists, as tantamount to “printing money”.
Were Dr Russel Norman’s QE to be adopted, they wailed, we would very soon find ourselves in the position of Zimbabwe: facing hyperinflation and using million-dollar notes to buy a single loaf of bread.
Worthless Currency: Weimar Germany's hyperinflation (1920-23) was the result of its government's attempt to monetize its reparations debt to the victors of World War I. In 1938, New Zealand's first Labour Government's use of "Reserve Bank Credit" to fund its massive state house construction programme did not result in a similar inflationary surge because the money was used to create tangible assets.
Now, if Dr Norman’s proposal had been to monetize New Zealand’s debt by repaying her creditors with newly-printed $1,000,000-bills issued by the Reserve Bank, then the jibes of his critics would have been well deserved. But hyperinflation only occurs when the expansion of the nation’s money supply isn’t matched by an answering expansion in the value of its material assets.
The $2 billion Dr Norman was proposing to inject into the New Zealand economy wasn’t ear-marked for the repayment of debt, but for the reconstruction of its devastated second city, Christchurch. It would have become the steel and concrete of a reborn central business district. Transformed into the weatherboard and roofing tiles of new and refurbished homes, it would have brought desperately needed relief to Christchurch’s long-suffering earthquake victims.
Sadly, the cacophony of ill-informed criticism directed at Dr Norman’s QE proposal was sufficient to bring about its withdrawal.
As I watched the Greens back away from their perfectly reasonable and generous plans, I wondered why we have heard no similar outcry against the QE being practised by this country’s Australian-owned banks.
Every month, New Zealand’s privately-owned financial institutions conjure billions of dollars out of thin air in the form of mortgages. No printing presses are required to ‘make’ this money – a computer does the job in a fraction of a second. And, when the mortgage is granted on an existing property, adding nothing to the nation’s stock of material assets, is the effect inflationary?
You betcha! So much so, in fact, that the Reserve Bank is casting about frantically in search of some way to prevent yet another housing “bubble” from blowing up and bursting.
And yes, you’re right, the Global Financial Crisis was caused by banks and finance houses “making money”. And, yes, it was governments – using their power to make money – that baled them out. And, yes, you’re right again, the mechanism still being used to painstakingly reconstruct the shattered global economy is called – Quantitative Easing.
This essay was originally published in The Waikato Times, The Taranaki Daily News, The Timaru Herald, The Otago Daily Times and The Greymouth Star of Friday, 28 June 2013.


Peter Cresswell said...

Chris, you "wondered why we have heard no similar outcry against the QE being practised by this country’s Australian-owned banks."

It's true that the mainstream can't seem to see the similarity you point out so eloquently. But it's not exactly correct to say there's been "no" similar outcry against QE.

We Austrians have been railing against both QE and money printing for some time, sadly without much of an audience. In fact, I've just this minute pressed "publish" on yet another outcry against it at my blog.

Patricia said...

I can understand why QE hasn't caused inflation when it only goes to repair the banks' balance sheets and doesn't get out into the community BUT what I can't understand is the statement that inflation occurred because germany/zimabwe monetized their debt. Surely it was more than that? Now if everybody received x amount of money to repay their own debts and they didn't, yes I can see that causing inflation, but if a government printed money to repay its own debts then I can't see how that would be any different from the QE that is now issued. If the creditors then flooded the market with that money surely it can be withdrawn by central Bank just as fast? That begs the question of why a Government would borrow money in its own currency to build infrastructure when it can print the stuff. I applauded the Greens announcement when they said they would print but alas politics caused the to retract. Maybe if they get into government they can just call it by another name and everyone will be appeased.

Daniel Copeland said...

Where was all this pro-QE eloquence when the Greens were still pushing it?

peterpeasant said...

I suspect that Norman got knuckled by business groups reliant on cheap imports, and I do not mean retail fluff.

Patricia said...

Daniel, there are many people who say that printing money for infrastructure is a good thing - me included - but boy oh boy do we get shot down in flames by others. Germany/Zimbabwe are always quoted and that is why I want more information on those countries. Could the sanctions imposed on those countries have had an impact?
Peterpeasant I think that it is more likely that the "coalition" of Labour, the Mana Party, the Greens and New Zealand First decided to scrap statements that provide ammunition to the National party. I think the party still believes it is appropriate to print for infrastructure - as I do - but politically not a good idea.

Anonymous said...

Zimbabwe were not able to repay debt from export earnings and had to "print money" to do so. This I think depressed their exchange rate, causing the price of imports to rise and hence inflation. But the more they did this the worse things became.

James McGehan said...

For a reasonably jargon free explanation of the German experience read "When Money Dies" by Adam Fergusson.
For an explanation of Zimbabwe your guess is at least as good as mine.
For a reason why the banking elite go unpunished look to human nature and the unwillingness of honest people to believe others would really betray their trust. Only Iceland has taken steps to deal with the rogues at the top

James McGehan said...

For a reasonably jargon free explanation of the German/Austrian experience try "When Money Dies" by Adam Fergusson.
Note only Iceland has really gone after the most modern rogues

Draco TB said...

Germany/Zimbabwe are always quoted and that is why I want more information on those countries.

Here's some:
However (as in other cases), when the monetary facts are actually examined, the argument falls apart as it becomes clear that the bankers themselves and speculators were the primary cause of the German hyperinflation, which was not stopped until the government took decisive action against them.

Yep, Germany's hyperinflation was caused by the private banksters.

Victor said...

It's obviously difficult to avoid a 1923-style German inflation.

Firstly, you have to avoid losing a major war which you've financed by borrowing, thus destroying global market confidence in your currency.

Secondly, you have to make sure you don't lose some of your coalfields to the Poles, thus reducing your export income and further depreciating the value of your currency.

Thirdly, and most importantly, you have to avoid being lumbered with sky high reparations which you can only fund by printing money with which to buy hard currency.

Fourthly, when the French occupy your very best coalfield (and the home of your best iron ore deposits), you have to avoid paying the patriotic local workers who go out on strike against the occupation, thus further inflating your currency.

Now how, I ask you, is New Zealand to avoid losing a major war, having some of its coalfields handed over to the Poles, being landed with a sky high inflation bill and having to subsidise patriotic workers when the French invade?

Obviously disaster would have been staring us in the face had the Greens not given up on QE!

Chris Trotter said...

Magnificent summary of the factors driving the German hyperinflation of 1920-23, Victor. Thank you.

Chris Trotter said...

To: Draco TB.

I've had a look at your link, Draco, and it is riddled with factual errors.

If you need more detail than is contained in the admirable summary Victor's supplied above, then simply check out the Wikipedia entry and its references. Or, visit your local library.

Anonymous said...

Iceland let the banks go bust I thought, putting the burden on depositors?

Dave said...

Victor, if I may make an addition to your list.
The U.S addopting protectionist policies to prevent the sale of German goods to the U.S which meant Germany had no way to create a balance of payments through which to service war debt.
Cynics will note this policy, could be substantial in precipitating the Second World War, as the only option left would be to renounce war debt. Leading to a new war. Thus after smashing Europe secured American imperialism.

On a different note bank credit and printed "fiat" money are substantially different. Remember bank credit only exists as long as the creditor believes he will be paid in "fiat" money. A shock to the credit "market' will cause a credit collapse. Fiat money doesn't collapse in the same way. It inflates, or deflates. Is should be enough to show that they are substantially different.

I suggest for a complete theory of money, referral to Marx's 'capital' the first chapter deals with money. And why money doesn't represent commodities in circulation but is itself a commodity. Hence explains why credit is necessary as a mechanism to move commodities under the explosive and chaotic capitalist mode. But also why it also creates the fallacy of false prosperity before crisis.

Dave said...

Victor if I may add to your list, the protectionist policies which the U.S adopted. Meant Germany could not sell its commodities for gold which caused staggering inflation after its reserves collapsed. Remember we are talking about he world of the gold standard not "fiat" currency's
This is one of the reasons Keynes hated the gold standard as he believed it did not give the tools to the govt/monetary authority necessary.

On another note
Bank credit and fiat money are substantially different. Marx recognised this. He pointed out that bank credit was a promise of payment in money, not actual money. As such when the creditors confidence in the debtors ability to pay collapses so does its value. Fiat money on the other hand does not collapse, but inflates or deflates. Credit is necessary for capitalism's chaotic mode of production where the need for money is unpredictable, without credit production would constantly freeze up as commodities went unsold. Marx also pointed out that, credit crates the false sense of prosperity on the eve of capitalist crisis, allowing the productive forces to develop, temporarily divorced from reality in excess of the markets ability to absorb them, in terms of money, not human need.

For a full theory of money and value, which if we are talking about money is what we are "really" talking about. I would recommend Marx's 'capital', chapter one, which has the most concise scientific theory of money and value.

OneTrack said...

"Obviously disaster would have been staring us in the face had the Greens not given up on QE"

Who says the Greens have given up on QE?

They have parked the policy to avoid scaring the horses. Then at some appropriate time, say the day after the election, they will suddenly have a road to damascus vision and QE will be back on again.

Dave said...

I think there are some key differences being ignored between the current round of q.e and Weimar hyper inflation. It is worth remembering that the value of a gold mark during hyper inflation did not fall as gold of a certain finesse is universal. Paper marks devalued against gold (remember the gold standard?) even with the various attacks on the German territories, gold was what ultimately decided the value of the mark, the decision to suspend the convertibility of the gold and paper mark was disasterous, but unavoidable.
The war reparations demanded from Germany were denominated in gold marks or foreign currency. Thus the standard trick of using debased printed currency was impossible to the Germans which meant reparations could be paid in only two ways
1. Mining gold deposits to be minted into fresh gold marks. This was impossible since Germany had no substantial gold reserves.
2. Run a positive balance of trade to secure foreign gold as payment for war reparations. THis initially had some success as Germany's industrial infrastructure was still mostly intact. But America, Germany's largest market began passing protectionist measures which made the realisation of a profit near impossible.
This ultimately lead to a run on the gold mark, as Germany's gold reserves plunged so did the value of the,paper currency which represented that gold. Even if the Germans hadn't printed marks their paper currency would have collapsed, as under the gold standard there was nothing left supporting it. Printing marks just spread the remaining smear of value over a sea of liquidity.

Another note. Bank credit and "fiat" paper (non gold standard) currencies are not the same thing and neither is expanding their supply. Credit is between a creditor and debtor and is only valuable as long as the creditor believes the debtors posses the ability to service their debt. If they can't the debt collapses. Fiat currency is payment directly for debts including credits and taxes, thus credit is a promise of payment in "money". Fiat currency doesn't' collapse like credit but inflates or deflates. Marx pointed out bank credit was necessary under the capitalist mode of production as under this chaotic mode of production it is near impossible to predict where money is required to circulate commodities at any on point in time. This credit is necessary to avoid crisis where commodities fail to be circulated due to a lack of liquidity. However Marx pointed out also that this credit also creates the false prosperity before the crisis. As production outstrips money, credit balloons to compensate until when finally 'shocked' by the failure of a debtor to pay, the entire system collapses plunging capitalism into crisis. But once more through deflating credit, onto a firm monetary basis of payment.

I recommend reading Marx's 'Capital' chapter 1, for a complete theory of money and value.

Davo Stevens said...

There is a lot of mis-info regarding "Printing Money". Firstly the Banks are doing it on a daily basis. When you or I go to a Bank to get a Mortgage and it is granted, they Bank doesn't go into it's vault and deposit a pile of cash in your account. They simply tap a keyboard and "Viola" the money is created!

What the Greens are proposing is that the Govt. would take control of the money creation and print what is necessary to produce a lower Exchange Rate.

Simply put the German Banks had to print money to survive throughout the 1920's because as others have said, the US blocked their exports. The Weimar Banks had some Jews in control of them and that is one of the reasons why the Nazis cracked down on the Jews. The many paid for the mischief of a few. Edmund Rothschild was one and he skipped first to Switzerland and then the US when war broke out. He was the only person the US Govt. prosecuted for trading with the enemy. He took a fast boat to Switzerland when he was pre-warned and was never extradited. He and Prescott Bush were Hitlers personal Bankers.

Robert M said...

I suspect the massive house and apartment building project in Auckland, the sudden decision to go ahead with the rail loop in Auckland and try and give early approval to a harbour tunned, combined with the Christchurch convention centre and new East Christchurch development are all straightforward pure keynes. In the sense that Keynes basically said in an economic slump pay people to dig holes, roads and buildings even if their dosen't seem likely to be much long term return. 'In the long term we are all dead' as Gordon Brown liked to quote Keynes.
But of course it isn't really much difficult from quantative easing. Its just that if its keynes housebuilding and rail construction the working class workforce and basic industry is the primary beneficiary where quantitative easing would flow thru from the top first to the finance industry and middle class.

Patricia said...

No, I can't agree with your there Robert. As I understand Keynes advocated a deficit when times were hard. I think Politicians these days will do anything in places where they think there are votes. Whether it will benefit the country is immaterial. A convention centre is the last thing Christchurch needs to give people work. There is such a lot of work here but many workers are brought in from overseas who will work for lower wages that New Zealanders. The policies post WW11 were for the benefit of the country through full employment - give people money and they will spend - from 1984 onwards the policy was that full employment gave the people too much power and the current economic policy advocates a minimum of 4% unemployment. Cost cutting became the mantra. And coupled with saying that those who didn't have a job only had themselves to blame we now have a very cruel society

Davo Stevens said...

Quite right Patricia except for what is referred to as; 'An Industrial Surplus', i.e. 10% of the able workers must be kept out of work all the time and be actively seeking work. That keeps wages low and profits high.

Blaming the un-employed for their situation is a particular nasty Conservative attitude that started in the 1960's. Even accusing them as being 'Mentally' deficient and having no drive to better themselves, can be traced to a book written in the early 1960's. The author, whose name escapes me at the moment, recanted the accusation later but the damage was done.

The opposite applies to many politicians who believe that they are "Born to Rule".

Scouser said...

"And yes, you’re right, the Global Financial Crisis was caused by banks and finance houses “making money”. And, yes, it was governments – using their power to make money – that baled them out. And, yes, you’re right again, the mechanism still being used to painstakingly reconstruct the shattered global economy is called – Quantitative Easing."

I would modify that:

The Global Financial Crisis was caused by utterly stupid Government polices via the likes of Nanny Mae, which the US Government pushed and corporates took advantage of. Massive bad debt under Government fiat.

The fact that moral hazard was not applied and the US Government could have nationalised many banks for a pittance whilst bailing them out and later sold off at a profit shows how susceptible the US is to corporate leverage.

None of the above is relevant to QE. QE increases the money supply. The only truly dependable economic rule then kicks in - supply and demand. It increases demand. If the economy is about to deflate then it CAN defer this through stimulated demand - that money has to go somewhere. QE applied to an economy without pending deflation mostly leads to inflation. There are deep suspicions that QE in a deflationary environment still inflates away debt.

In NZ QE would probably exacerbate the housing price problem and lead to lots of bad debts and inflate away savings. We do not have a pending deflation whereas many EU countries and the US do.

Your comments around fractional banking show a, probably deliberate, misunderstanding (as you are an intelligent man). Money supply is generally increased through debt with some sort of backing for repayment for that debt. For instance, a mortgage has an asset behind it, the house. Under QE the central bank starts buying assets to effectively drive down the long term cost of money once the effective shorter term interest rate is zero or close to zero. They do this because they have no other tools available once central interest rates no longer work. It is a desperate measure that has not yet been proved as effective. It hasn’t worked for the Japanese who started out trying it over 10 years ago. There is a decent chance that all the US and the EU have done is deferred and possibly increased the size of the problem. There is a lot of debt. It has not gone away, yet.

Chris Trotter said...

To: Scouser

You've been corrected by commentators to Bowalley Road several times before in relation to this "It was all Fanny Mae's and Freddie Mac's fault!" line of argument.

Go away and investigate the percentage of bad loans that can be sheeted home to the Federal lenders compared to the number of toxic loans deliberately peddled by private lenders.

Then stop talking rubbish!

Scouser said...

"You've been corrected by commentators to Bowalley Road several times before in relation to this "It was all Fanny Mae's and Freddie Mac's fault!" line of argument."

Nonsense - it was both not what I said and I have not repeatedly promoted and been rebuked for such promotion.

I talked about the likes of Fanny Mae (must admit I did chuckle to see my malapropism of Nanny Mae) as an example of Government policies.

However, the two Government sponsored organisations did buy over $400 billion dollars of sub-prime debt if you would like to check some facts. They were a significant contributor and there is a decent argument that they have less bad debts because they have not written them off - it is not politically acceptable - but yes it was not all the FMs fault - it was a team event.

There were a plethora of activities by the government including the long term provision of cheap credit via the money supply, the refusal to reduce interest rates for political reasons, the super lax regulations on financial institutions etc.

The US is so susceptible to rent seeking by major corporations it's just silly.

Interesting to see you just blurted out with the angry accusations rather than respond to the real point that QE is just not appropriate for NZ - it is the resort once everything else fails.

Anonymous said...

INTERESTING how we create value where the isnt any a favourite trick of the banks
Money use to be value for value but now its all about hoarding to create a workless society to indulge as much leisure time in unprincipled and immoral and gladiatorial activity as you care to pick rather than educating people to exercise some personal responsibility in their lives and be valued and supported by the govt
Theres alot to be said a life which doesnt require an over indulged image of how much of the worlds resources it can waste which is the norm now as it wasnt around years ago and to be greedy and brainless was not upheld by the majority
But we have a govt now that we pay for that is sending us down the road to a third world existence where the rich determine what you get and you do your fellow man to be one rung higher up the ladder and show no remorse but invent any excuse to justify it
Its a case of controlling the masses by allowing them only one way to live and so long as they can be hooked on money then thats easy to control by the keepers of that