Tuesday, November 13, 2012

Democratic monetary policy - Novel proposals

There is only 2 valid sources of complaints/concern over monetary policy:  It benefits a select/chosen few even when it achieves economic goals, and it includes a presumption of trickle down voodoo economics that the chosen few will spread the benefits to the wider economy/society.

The complaints traditionally heard are infighting among groups that wish to be privileged.  This article offers a novel (AFAIK) approach to monetary policy that may seem radical, though it is fairly simple, and should be popular, but first explains monetary policy in the context of some key points.

Public Monetary policy provides 2 functions.  Printing new money, and banking collusion on setting interest rates.

Collusion on interest rates
Central banks have dual masters.  The state and the national banking system.  This is justified primarily by the notion that what is good for the banks is good for the nation:  Healthy, profitable, banks are able to fund business and land development.

High interest rates are set primarily to prevent wage inflation, while allowing the bank cartel to increase loan profits.  During economic boom times, businesses and land purchasers are optimistic about the future and willing to pay a higher "tax" (interest rate) on money.  Higher interest rates are designed to slow economic growth, and boost savings rates as a source of lending funds.  While directly harming the labour force's competitive position is hard to justify, the justification is made that increased corporate profits will make the businesses more sustainable when the economic boom vanishes.  It can be harder to lower wages or fire people when times get more difficult.

Since this article is not primarily concerned with interest rate policy, I will point out that removing regulatory barriers to firing and lower wages, while always keeping low interest rates, would allow the labour force to gain a higher total share of income during boom times, and might be considered progressive.

Low interest rates are the result of government pressure in poor economic times.  It helps promote consumption and investment instead of savings, and hopefully hiring.

Printing Money
Printing money is necessary at least to keep up with population increases.  Otherwise, the average wealth per person necessarily falls.  The best measure of the money supply is cash bills and coins + bank and financial brokerage deposits.  Amazingly, this is not an official measure of money supply.  The official measures focus only on money that could be spent in the next 5 minutes, and some deposits are restricted in that you may need to transfer them to a chequing account first.  "Real/natural money supply" is obviously all cash deposits. It represents the tangible liquid wealth of the nation.  We could add the main "near-tangible wealth items" of market value differences to acquisition costs for financial and real estate transactions to tell us total main national wealth.

The reason that tangible liquid wealth of the nation is the real natural money supply is that whenever you sell anything, all of the purchasing money, whether it comes from purchasor's account or is created by the fractional reserve banking system through a loan, gets deposited back into the financial system.  How long it stays in a chequing account is completely irrelevant to the actual supply of money (real cash availability) of the nation.

Returning to the gold standard is a terrible idea
The main and only necessary point to dissuade any ideas of returning to the gold standard is that total US money supply was $10T in 2005, and the US bullion (claimed) reserves are 147.2 million oz. troy.  The price per once would need to rise (from ~$1700) to $67934 per troy once in order to make the currency exchangeable.  Anyone that knows that a return to the gold standard is imminent can become extremely rich.  That wealth comes at real expense to everyone one else.  A house that is worth 100oz today becomes worth 3oz tommorow.  A salary worth 40oz/year today is worth 1oz tommorow.  Does a corn farmer still want 1oz of gold for 500 bushels? Very likely.  Switching back to the gold standard is a horrible idea because a very small amount of huge lucky or politically connected winners are created at the expense of a super-vast majority of completely miserable losers.

Current money printing policy - quantitative easing
In the US and Europe, central banks have been buying poor credit instruments worth $0.20/$-$0.70/$ for (nearly) 1$ of printed/fabricated money.  The winners of this policy are the financial institutions that would be otherwise stuck with large losses in poor investment choices.  Because these financial institutions are using the cash proceeds to buy US and German government bonds, secondary winners are those that sell their bonds at inflated prices.  As long as all of the money gets spent in financial instruments, there is no benefit to the real economy, and so the losers are everyone else whose purchasing power is diminished by any money printing, and who are excluded from the primary "free money" of acquiring garbage securities for the purpose of flipping them to the central bank's generosity programs.

More recently, the US Federal Reserve's current quantitative easing program involves printing $40B per month to buy 30 year mortgages at only 2% yield.  If we agree that there is no rational investor that would want to hold a 30 year mortgage for less than 4% yield, then we know that this quantitative easing program has nothing to do with helping banks stay solvent.  The fed is paying a large premium (5%-10%) for these mortgages.  The huge problem with this activity is that it is equivalent to auctioning dollar bills where one buyer has promised to spend $40B/month, and a select few sellers are allowed to collude to get $1.05 or $1.10 for each of their dollars.  Selected favoritism of free money recipients, can be justifiable when collapse of the financial system is threatened, but not so when it is simply awarding rich banks with printed money.

What is good for the nation is good for the banks
The initial justification for the above was that preventing banks from failing is good for economic stability.  The fact that giving them free money doesn't help the general economy is a problem.  The simple reason why giving free money to banks is a poor method of money printing is that all investment is based on good ideas and not just the availability of lending funds.  There is a shortage of good ideas if chronic unemployment and political corruption and mismanagement are endemic.  There will never again be sufficient investable good ideas unless the policy proposals from this site are implemented.

Another way to save or benefit the banks is, indirectly, by boosting the economy.  They just have to work for the money instead of getting it free.

before I get to recommended policy, here is a thought experiment.
what if tomorrow....
All funds held in banks and brokerages will be doubled (through money printing)
... or increased by 10% instead of 100%.  A 10% increase is comparable to current quantitative easing plans.  I will stick with doubling for the analysis.  Simplistic economic analysis suggests that there will be an inflation pressure that will cut the purchasing power of every dollar in half, but that inflation pressure is not instantaneous.  Note that the proposal doesn't include an adjustment to all existing contracts, and so there are winners and losers from the proposal.  The winners are those that receive cash tommorow well before the full inflationary consequences of the proposal are realized.

Winners:

  • banks.  All of their deposits are doubled.  They are thus able to lend more.  Existing loans are more likely to be repaid
  • landlords.  Even if rents don't increase right away, the value of the property eventually doubles, and future rents will double.
  • borrowers. The amount owing doesn't change, but their income will eventually, and their other financial resources are instantly higher.
  • Government fiscal position.  Income inflation means pushing individuals into higher tax brackets and so higher real revenue.  Debt eventually halved in real value.
  • spenders.  If inflation is delayed, then buying them tomorrow is better for the purchaser than if they wait until the price doubles.  For sellers, since they need to trade what they produce for what they consume, there is no cost in selling item tomorrow if they also buy tomorrow.
Controlling inflation through maximum adjustment of existing contracts
Adding to previous proposal, a government decree that all existing contracts (wages, rents, social assistance, future deliveries) may only have a maximum adjustment of 20% per year (starting tomorrow) would spread the inflationary impact over 5 years.  In the case of wages and future deliveries, we could give the payment recipient the option to terminate/renegotiate the contract.  Landlords do not need that option, as their eventual wealth is assured, and social assistance/pension recipients might even be offered a slightly lower than 20% annual increase, which they are not in a position to refuse.  Note that there is no increase offered to debt holders.

Effects of controlled inflation policy:
  • Consumption items would inflate around 20%/year as they are funded through income and not wealth, and incomes are only increasing by 20%.
  • Investment and large ticket items would inflate to their full 100% increase more quickly, because they are often funded through wealth.  The impulse to convert wealth into more affordable consumption would substantially boost the economy.
  • Interest rate increases.  20%/year interest rates would be affordable on a 5 year loan due to expected value of the investment, and represent an approximate opportunity cost for lenders for not spending tomorrow.
If all contracts and loans are also instantly doubled...
Then no one gains or loses.  Or the effects are very minor:  The cost of changing all the price tags.  When they start adding exceptions, such as government debt and obligations, then they can target specific losers.  If they also exempted home ownership debt from doubling, then even though they would not make banks as happy as the banks would prefer, the process would still improve bank health.

The politics involved
There is no way that the $150k in US national debt per 100M (capita) taxpayers will ever be repaid by them or any descendants   Default or inflation are the only solutions to runaway debt.  So the purpose of the above "even to all" doubling would be to specifically exempt government debt from doubling, and so halve its real cost/levels.

The current policy mechanisms of printing money for the direct benefit of financial institutions and then keeping that money within the financial system, and so only generate asset/commodity/financial instrument inflation rather than general consumer inflation has the benefit of keeping interest rates very low.  It creates the same currency devaluation that costs all, but keeps the benefits of the free money within the financial industry.  Furthermore, and more importantly, the propping up of the financial industry is only sustainable through sustained quantitative easings and sustained free money giveaways to the financial industry.  The price premiums for government bonds go away if there is ever a hint that no more free money will be injected, and there is a strong possibility of a significant rubber banding rise in interest rates if the existing money printing policies are stopped.  The financial industry does create food and metal/resource inflation.

The democratic benefits of doubling money, contracts, and private loans
Creating no losers except for the targeted government debt holders means that printing money would not have popular political opposition.  Debt holders are not without political influence, but as long as the system is based on the most individual votes, that influence is not necessarily sufficient.

The one negative compared with the more deceitful, less democratic, current money printing system is that the appetite for more debt is significantly decreased if doubling the money supply is expected to be a recurring policy.  Or, more accurately, requires higher interest rates to compensate for the value of the debt being halved again.  For this reason, instead of doubling account values some day like tomorrow, they should be increased 10 fold.  As long as there is no expectation of the event occurring again over the next 30 years, then there will be no impact on interest rates for future borrowing, and in fact, since the real value of the nation's existing debt burden will have been cut by 90%, the nation will have a healthy fiscal/borrowing profile, and an ability to afford more debt.

Selective politically friendly debt holders bankrupted by the process can be bailed out.  The process is equivalent to a near national default, but there is no breach of any contract.

Progressive, not just democratic, money printing
When all money, contract and private loans are doubled, it is called democratic money printing because there are no losers other than those specifically targeted through exceptions.  An even better solution exists when you have already accepted that money printing is necessary.  Progressive benefits are those that more directly benefit lower income earners.  I'll show later that high income producers gain great benefits too.

Print money to give every adult government ID holder $10,000.
Giving all 200M Americans aged 18-65, 10k each would cost $2T.  (seniors already receive $10k+/year). US wealth was $66T in 2007, and has perhaps recovered to that level in 2012.  A doubling of the financial (real money) supply would take 33 years, at $2T/year.  Only 3.3% expected inflation per year.

Basic income as a needed social policy
Providing basic income to citizens means giving say $8000/year to every adult citizen.  Its intended as a taxable benefit (Those with high other income would pay a higher tax on this additional income than those with low income).  The main benefits of basic income are significant economic growth, replacement of bureaucratic anti-poverty programs, and its the only possible social response to the diminishing necessity of work and unsustainable old age social assistance.  Basic income also lays the philosophical understanding for social dividends:  We each deserve an equal share of social (tax) revenue because the purpose of taxes should be meeting social needs and harmony and not funding a state empire.  The individual is far more capable of determining his own needs through cash then the state can.  With social dividends, every social program is funded through an equal share (payment) from each citizen.

Tax funding of basic income
Total 2012 US government spending is $6.3T.  Eliminating all government spending would free enough money to give $21k/year to 300M Americans.  There are actually 265M Americans over 18.  If the goal is to provide all of them $8k, then the cost would be $2.12T.  $1.85T of that cost can come from eliminating current old age and welfare programs.  Because basic income is a taxable benefit that would go to rich and poor, assuming a 33% average tax-back, then a $12000 basic income level would have the same $2.12T after tax cost.  Since social security benefits has a very low tax rate applicable only to those with over $59k total income, and welfare benefits are unlikely to be taxed, lets use $1.75T as the after tax cost of those 2 programs.

Then, to provide basic income to every adult American at the same cost as (replacing) social security and welfare programs, a benefit of $9905 can be given to every adult.  $9905 is the deficit neutral amount.


Monetary printing funding for basic income
3 headlines ago, I brought up a $2T money printing plan to fund basic income.  Last paragraph I showed that  monetary printing is not necessary to fund basic income.  If we combine funding, though, we can pay higher stipends to citizens and/or cut social security less.  A strange quirk in US SS compared to Canadian Old Age funding is that there is very little subsidy from high contributors to low recipients.  So, we can give SS recipients the same $10k as everyone else, but clawback SS benefits by up to $10k.

Understanding inflation
Inflation is comparable to a tax on disposable income, from an individual's perspective, without directly raising social revenue.  Current monetary policy benefits the income of the financial sector, but costs the entire society with inflationary pressures.

Although economists/government do not explicitly make the distinction, inflation impacts can be separated into 2 or 3 classes:  High, middle, and low wealth/income.  Private jets and home ownership costs affect one end of the spectrum, cars, electronics and designer clothes affect the middle, while rent and food can be a disproportionately high percentage of spending on poorer people.  A $50 higher monthly grocery bill can be either devastating or negligible depending on the percentage of disposable income spent on groceries of the individual.  Jet fuel prices can be irrelevant to many people in a society.

When analyzing the impact of money-printing-caused-inflation, we need to consider who is benefiting from the money printing while who is inflicted by the inflation.  Current monetary policy confers narrow benefits to the financial sector, while inflicting inflation broadly.  Current monetary policy acts as a regressive tax on poorer citizens.  When inflation occurs as the result of demand for labour increasing, inflation becomes a progressive tax, because the benefits side/cause of the inflation is mostly received by lower and middle classes.

The purpose of the initial exercise of doubling everyone's money while doubling the cost of everything was to show that inflation in of itself is not damaging, and can be completely neutral.  With a progressive-democratic money printing policy used to fund basic income, costs/inflation would go up 3% but middle and low income citizens would get an income increase of 10%-100% (10k basic income added to either 100k or 10k income).  Even if marginal tax rates were as high as 50% (and basic income is a taxable benefit), anyone earning below $160k/year would gain more through money printed basic income than they lose to inflation.

The failures of recent fiscal and monetary policy
High end tax cuts and free printed money for the rich has not helped the economy prosper because trickle down economics is a lie that doesn't exist.  People and companies don't invest in production or jobs because they have extra money available.  They only invest if there are customers.

While the payroll and middle income tax cuts could have helped demand somewhat, it is still focused aid for those that have jobs, and ignores the poor.  Because these are temporary measures, it does not alleviate long term job insecurity of the middle classes, and so it doesn't create jobs and long term investment, because returns on such investments cannot be made as a result of a short term band-aid.

Democratic money printing benefits producers and the financial sector too
Printing money in order to give every citizen $10k/year, benefits everyone equally.  But because wealth trickles up, and the program is long term, producers will create jobs to go take that extra money from lower and middle income citizens.

Basic income funded one way or another is necessary to bring economic recovery and prosperity in the future.  Without basic income, there will never again be enough demand to support the technology and productivity increases that humanity is capable of.

Increased economic activity and wealth always benefits the financial sector.  When money is scarce and in great demand for investment, financial service fees increase.  When there is a wider monetary base, there is a larger base for the financial sector to earn income from.  Even if in short sighted fashion, banks may prefer to maintain the exclusive monopoly on free money printed, there is no need to defer to such greedy short-sightedness.  In reality, not only will banks do just fine, but they will be even richer under democratic monetary policy because of the resulting increases in economic activity.

Also, unlike the doubling all deposits but not (public) debt proposal, progressive money printed basic income does not threaten the solvency of debt holders.  Absolutely no one can claim any hardship whatsoever as a result of free money basic income.

Effect on interest rates
With $2T printed and handed out as basic income, there would be $2T in additional financial institution deposits.  This allows banks to offer lower deposit interest rates and improve margins.  For those that believe in supply side benefits of current monetary policy, with a fractional reserve system that amplifies the supply of lendable money by 6-10 times deposits, the availability of loans would increase far more than $2T,  lower borrowing rates, and increase potential economic investment and activity as a result.

A benefit for banks is that they remain unforced to lend to businesses and home owners.  They can continue investing in paper securities, but benefit from the spread with lower deposit rates.

Nominal GDP targeting
The smartest concept in economics that I have not personally developed in the last few years is called Nominal GDP targeting   The concept advocates conducting monetary policy such that GDP grows by 5%, regardless if the entirety of that GDP growth is caused by inflation.  The difference with traditional economic policy is that the latter targets real GDP (Nominal GDP less inflation).  Nominal GDP targetting does not imply that inflation is awesome, but rather than 5% GDP growth with 5% inflation is better than 0% GDP growth with 0% inflation.

The advantages of nominal GDP targeting includes encouraging investment just to stay even with inflation, encouraging spending today before price increases, and inflation of tax revenue.  All of these result in real jobs and real growth.

NGDP targeting with democratic monetary policy 
The tie-in of NGDP targeting with democratic monetary policy has to do with basic income.  As shown, basic income can be provided either through taxes or through money printing, or a combination thereof.  When real economic growth occurs, or if there is ever a good argument for organic debt repayment, tax funding of basic income or social dividends can replace money printing.

Anatole Kaletsky - Quantitative easing for the people
A reuters journalist has made the same proposal this summer, and claims the idea originated with Milton Friedman in the '30s.  A followup article suggested that controllers of US and UK monetary policy may be forced to consider such proposals, and he addressed some of the typical kneejerk misconcieved responses (though in way's I've disagreed with above) to printed basic income.

1 comment:

  1. Reading about that gold standard heading had me thinking about the idea of bringing it back. It sounds like it's going to be a problem for a financial modeller to make any charts out of movements based solely on gold, which is fairly unstable on its own.

    Bridget Hall

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