Steve Keen’s Debt Watch

Fantastic essay by Steve Keen whom I did not know till today.  Real valuable insights and possibilities. Slight differences in interpretation but fundamentally in agreement with the problem residing in the creation and the quantity of debt but, more importantly, that the amount of “bailout” money we are currently throwing into the debt black hole is insignificant compared to the debt mountain. Very long essay and fairly technical but most certainly worth your time.

You can skip the section “How to be a cavalier of credit” as it goes into a theoretical exercise but

http://www.debtdeflation.com/blogs/2009/01/31/therovingcavaliersofcredit/

Some excertps:

Thus causation in money creation runs in the opposite direction to that of the money multiplier model: the credit money dog wags the fiat money tail. Both the actual level of money in the system, and the component of it that is created by the government, are controlled by the commercial system itself, and not by the Federal Reserve.

However, from the point of view of the empirical record, and the rival theory of endogenous money, this will fail on at least four fronts:

1. Banks won’t create more credit money as a result of the injections of Base Money. Instead, inactive reserves will rise;

2. Creating more credit money requires a matching increase in debt—even if the money multiplier model were correct, what would the odds be of the private sector taking on an additional US$7 trillion in debt in addition to the current US$42 trillion it already owes?;

3. Deflation will continue because the motive force behind it will still be there—distress selling by retailers and wholesalers who are desperately trying to avoid going bankrupt; and

4. The macroeconomic process of deleveraging will reduce real demand no matter what is done, as Microsoft CEO Steve Ballmer recently noted:  “We’re certainly in the midst of a once-in-a-lifetime set of economic conditions. The perspective I would bring is not one of recession. Rather, the economy is resetting to lower level of business and consumer spending based largely on the reduced leverage in economy”.[9]

Measured on this scale, Bernanke’s increase in Base Money goes from being heroic to trivial. Not only does the scale of credit-created money greatly exceed government-created money, but debt in turn greatly exceeds even the broadest measure of the money stock—the M3 series that the Fed some years ago decided to discontinue.

Bernanke’s expansion of M0 in the last four months of 2008 has merely reduced the debt to M0 ratio from 47:1 to 36:1 (the debt data is quarterly whole money stock data is monthly, so the fall in the ratio is more than shown here given the lag in reporting of debt).

To make a serious dent in debt levels, and thus enable the increase in base money to affect the aggregate money stock and hence cause inflation, Bernanke would need to not merely double M0, but to increase it by a factor of, say, 25 from pre-intervention levels. That US$20 trillion truckload of greenbacks might enable Americans to repay, say, one quarter of outstanding debt with one half—thus reducing the debt to GDP ratio about 200% (roughly what it was during the DotCom bubble and, coincidentally, 1931)—and get back to some serious inflationary spending with the other (of course, in the context of a seriously depreciating currency). But with anything less than that, his attempts to reflate the American economy will sink in the ocean of debt created by America’s modern-day “Roving Cavaliers of Credit”.

!!!!!! YOU CAN SKIP THE PART THAT GOES FROM THE PARAGRAPH ABOVE TO THE QUOTE BELOW AS IT IS A THEORETICAL EXERCISE !!!!!

In some ways these conclusions are unremarkable: banks make money by extending debt, and the more they create, the more they are likely to earn. But this is a revolutionary conclusion when compared to standard thinking about banks and debt, because the money multiplier model implies that, whatever banks might want to do, they are constrained from so doing by a money creation process that they do not control.

However, in the real world, they do control the creation of credit. Given their proclivity to lend as much as is possible, the only real constraint on bank lending is the public’s willingness to go into debt. In the model economy shown here, that willingness directly relates to the perceived possibilities for profitable investment—and since these are limited, so also is the uptake of debt.

But in the real world—and in my models of Minsky’s Financial Instability Hypothesis—there is an additional reason why the public will take on debt: the perception of possibilities for private gain from leveraged speculation on asset prices.

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2 Responses to “Steve Keen’s Debt Watch”

  1. Deflation it is… Ellen Brown’s Web of Debt.. « Guido’s temple of the absurd Says:

    […] is also pointed out by Steve Keen in his brilliant essay “The Cavaliers of Credit“, Ms Brown concurs that it is banks that front run money creation through securitization of […]

  2. Credit Crunch » Steve Keen’s Debt Watch Says:

    […] Student Loan Consolidation wrote an interesting post today onHere’s a quick excerpt Fantastic essay by Steve Keen whom I did not know till today.  Real valuable insights and possibilities. Slight differences in interpretation but fundamentally in agreement with the problem residing in the creation and the quantity of debt but, more importantly, that the amount of “bailout” money we are currently throwing into the debt black hole is insignificant compared to the debt mountain. Very long essay and fairly technical but most certainly worth your time. You can skip the section “How to be a cavalier of credit” as it goes into a theoretical exercise but http://www.debtdeflation.com/blogs/2009/01/31/therovingcavaliersofcredit/ Some excertps: Thus causation in money creation runs in the opposite direction to that of the money multiplier model: the credit money dog wags the fiat money tail. Both the actual level of money in the system, and the component of it that is created by the government, are controlled by the commercial system itself, and not by the […] […]

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