Home > Main > The Twisted Morality of Saving Part of Someones Bank Loan

The Twisted Morality of Saving Part of Someones Bank Loan

November 2, 2011

Is this system solvent?

Whew!  That last comments section is huuuuuge…

Here are some highlights:

  1. Banks can create loans and there is no need for defaults if the total interest is less than deposits in the system(Hugo, JKH, Neil)
  2. Savings desires of any sort causes some loans to be “unpayable” because of distribution (Peter D, Clonal, TC, John H, Ellen B..)
  3. Interest payments cause banks to swell in relation to the rest of the economy (JKH?? I think, Clonal, Neil, Peter D)
  4. Banks can expand their balance sheet and create unit of account to make the system solvent, or pay dividends, and the system is solvent. (JKH, TC)
  5. If interest is charged, the system is insolvent (Clonal, TC)
  6. 4 and 5 aren’t contradictions, just different ways of looking at the system (Neil)
  7. The real economy isn’t linked to the notional economy and should be (Dan K, TC)
  8. The web of debt causes huge increases in the price of goods (Ellen B.)
  9. Monetary policy works because it’s fiscal policy (Peter D.)
  10. Interest Charged on loans is seinorage  by another name (Neil, beowulf)
  11. Even if banks create money, the entire system can be “broke” if the payback time becomes to great in the real world. (Greg, Clonal)
  12. Natural monopolies probably shouldn’t be privately owned – so bank senioriage should be collected by the government (Clonal, beowulf, Neil?)

[Update: Sorry in advance if I’ve mis-stated or missed anyones views!  Let me know and I’ll do what I can. ]

Look at 4 and 5 closely.  I’ve argued both sides in this post. They contradict each other.  Way to go TC!

This is a situation where both sides are “right” –  people can be insolvent at any moment, but over  the system and thorugh time cannot be insolvent because banks can create money (more loans) or disburse it through a “dividend”.

The money can get stuck at the bank, but this doesn’t mean the system is insolvent.

Hope this summary helps!

I’ve found this discussion to be very, very useful for my own thinking.  I simply didn’t have a clear idea how loans worked on the accounting side.

Neil!  Your comment stuck with me and was crucial for my understanding how to reconcile these views.  Thank You!

What’s going to happen when we link aaalllll this to the real world?  I’d say the implied put of real estate makes a huuuuuge difference, as does the distribution concerns.

I’d also argue that bank lending creates an army of Ebenezer Scrooge-like moral monsters from noble savers trying to plan for the future.   How is this a good thing?

Then, add the fed and monetary policy, stir, and you get state imposed human misery as a policy tool.

This is why monetary policy sucks, at the core.

Bank loans + savings desires = twisted moral choices for real people, like my mom.

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  1. Clonal Antibody
    November 2, 2011 at 1:12 pm

    TC,

    There is one more issue that I brought out in my last comment, basically raising the issue of behavior that seeks to extract rent on natural monopolies.

    Should natural monopolies be privately owned, or should they be owned by the community?

  2. Hugo Heden
    November 2, 2011 at 1:19 pm

    6. 5 and 6 aren’t contradictions, just different ways of looking at the system (Neil)

    Probably meant that 4 and 5 aren’t contradictions?

    • TC
      November 2, 2011 at 1:27 pm

      Fixed. Thx!

  3. November 2, 2011 at 1:25 pm

    While I argued against the logic of the debt virus hypothesis, I agree with the general sentiment in your argumentation.

    Reminds me of Tom Hickey’s comment somewhere (my emphasis):

    There is a third idea and it is the current plan. The idea is 1) to reduce worker bargaining power to permanently suppress wages to the level desired by capital, 2) to decrease the government contribution to through “fiscal discipline,” thereby 3) forcing workers to borrow from the private sector to maintain lifestyle, and 4) providing enough private credit to keep workers in debt peonage.

    This is quite obviously a scenario that will lead to financial instability and risks debt-deflation. Not to worry, say capitalists. Government will bail us out to save the capitalist system.

    Sound familiar?

  4. JKH
    November 2, 2011 at 2:16 pm

    Anybody that describes bank interest margins, or bank spreads, or bank earnings as “seigniorage” is entering the debate via the basement window – when you could simply knock on the front door, and declare your position as favoring the nationalization of banks.

    The latter seems more the direct approach to me.

    • Clonal Antibody
      November 2, 2011 at 2:46 pm

      To me at least, the thought of rent extraction by the “community” is far more palatable than rent extraction by a small elite group, “elite” by virtue of acquired or inherited wealth, connections, or political power.

    • TC
      November 2, 2011 at 5:55 pm

      Apparently the definition seigniorage includes interest on bank notes over the cost of creation of those notes.

      http://en.wikipedia.org/wiki/Seigniorage

      Didn’t know this until I went over to wikipedia. It makes sense in our toy economy.

    • beowulf
      November 2, 2011 at 9:37 pm

      Right, its the difference between RSJ’s “Option 1: Ban the Rents” and Option 2: Tax the Rents Away” (I linked to this in the last thread).

      As I’ve since pointed out to RSJ, the bank asset tax he calls for, which seems extremely unlikely to ever pass Congress— has already passed Congress. Per Dodd-Frank, FDIC insurance premiums are now levied on bank assets (at a rate set by the FDIC board). The FDIC could walk in through the back door using the key Congress left under the mat and begin setting the bank policy rate by use of its de facto RSJ tax.

      The new assessment implicitly increases the cost of the federal funds by adding that assessment rate onto the fed funds rate. As a result, some banks have exited the market, reducing overall demand for the funds dramatically. The fall in demand has reduced the funds rate.”
      http://conversableeconomist.blogspot.com/2011/07/fdic-changes-base-for-deposit-insurance.html

      • TC
        November 2, 2011 at 9:52 pm

        I’m trying to imagine what would happen if this change took place and I just cant. I think the entire banking system would shut down in protest.

        Do we then have the amount of interest charged added to net financial assets in the system?

      • TC
        November 3, 2011 at 8:12 am

        I find the interactions between lawyers, accountants, traders, and economists to be inherently amusing – like a squirrel water skiing

    • November 3, 2011 at 5:10 am

      It’s not really seigniorage in the strictest sense, since the bank has ‘earned’ the interest by lending the money.

      It’s not printing tokens for its own use without doing something for it first.

      But a bank does expand the money supply when charging interest since it increases its own purchasing capability.

      But I suspect that pales into insignificance compared to the amount of loans outstanding to other departments of the banks to play the derivatives casino. And those expand the money supply too.

      • TC
        November 3, 2011 at 3:03 pm

        Derivatives don’t expand the money supply. It’s a different idea. These are true leverage without money creation and are intended to be zero sum.

        And this is exactly where I create the final word (for myself) on “banks don’t create net money by charging interest”.

        Banks can create money, but we don’t let them.

        Leverage is “money-like”, but not money. I’ll get to this more in a bit. I’ve got to pick up the kids!

  5. PaulJ
    November 2, 2011 at 3:38 pm

    As Martin Wolf wrote in today’s Financial Times:

    “Blessed are the creditors, for they shall inherit the earth. This is not in the Sermon on the Mount. Yet creditors believe it: if everybody were a creditor, we would have no unpaid debts and financial crises. That, creditors believe, is the way to behave. They are mistaken. Since the world cannot trade with Mars, creditors are joined at the hip to the debtors. The former must accumulate claims on the latter. This puts them in a trap of their own making.”

    The trap is about to snap shut.

  6. Clonal Antibody
    November 2, 2011 at 4:25 pm

    PaulJ :
    if everybody were a creditor, we would have no unpaid debts and financial crises.

    There is only one way that everybody can be a creditor – Public Banking

    • PaulJ
      November 2, 2011 at 8:26 pm

      I’m with you there.

  7. November 2, 2011 at 9:24 pm

    In regards to the savings desires( and the compound interest being charged) causing loans to be un payable, I think maybe this could be illustrated by trying to think of an economy in which there was no money.

    How, in a moneyless economy, could there be compound interest? At least how could there be compound interest for more than a very very few people? Think about what savings in real terms means and then imagine holding that saving for thirty years with a 7% return. Is it possible to expect three to four doublings of your real savings over that time?. This would be about 16 times the real production needed to satisfy your needs. How could that be supported for every saver? What would current consumers be asked to give up so the savers from 10 years ago could realize their returns.

    Its only through the miracle of money that interest is even a viable concept it seems to me. This belies the entire edifice of classical economics and Austrian economics which does virtually all its analysis in real terms, ignoring money (so they say).

    Dont take this as an argument against saving. If your current consumptive capacity is beyond what you need today you should put some aside for later but to expect that your act of saving today should allow you to consume twice as much in 12-15 years is quite unrealistic I think. Especially if you think EVERYONE should do that.

  8. beowulf
    November 2, 2011 at 10:28 pm

    I’ll forward to TC the long version of this (yes, THIS is the short version), he can post as much of it he wants. In the course of trading emails with a member of Sen. Sanders’s Fed reform group, I suggested four changes to current law. The first two to reform the monetary policy; the second two, more importantly, to reform fiscal policy.
    1. Put the Fed under the direction and control of the Secretary of Treasury.
    2. Have Tsy and the Fed swap jobs. Tsy will issue and deposit (interest-free) US Notes into TGA a millisecond before spending, the Fed will issue its own bonds to control interest rates.
    3. Use (on-budget) coin seigniorage revenue to offset trade deficit demand leakage and the cost of an automatic payroll holiday system (perhaps net interest costs as well if Fed-Tsy job swap isn’t adopted).
    4. An automatic payroll holiday system (that, by the by, uncaps SS FICA).
    (U3 rate – 2.5 points) x 10, adjusted quarterly. So a 9.1% U3 would mean a 66% reduction in FICA taxes. $1.1T in revenue from FICA base rate ($200B from uncapped SS) means a $724B annualized in fiscal stimulus, without adding a dime to the budget deficit.

    After writing out the new laws required to enact the above (I told you it was the long version), I pointed out that any budgetary savings that aren’t spent just mean a bigger tax cut for the next GOP president. The additional revenue (trade deficit is $600B, uncapped SS FICA, $200B, net interest, $200B) would more than pay for Sen. Sanders’s single payer healthcare plan without new taxes, increased deficits or an individual mandate.
    http://www.ntu.org/ntuf/taxpayerstab/2-31.html

    • November 8, 2011 at 9:48 am

      How about paying for Conyers/Kucinich HR 676? That’s a better bill. No reason why PPCS shouldn’t pay for that as well.

  9. Clonal Antibody
    November 2, 2011 at 11:04 pm

    beowulf :

    4. An automatic payroll holiday system (that, by the by, uncaps SS FICA).
    (U3 rate – 2.5 points) x 10, adjusted quarterly. So a 9.1% U3 would mean a 66% reduction in FICA taxes. $1.1T in revenue from FICA base rate ($200B from uncapped SS) means a $724B annualized in fiscal stimulus, without adding a dime to the budget deficit.

    Do I take this to mean tax credits if the U3 goes above 12.5% (God forbid!)

  10. beowulf
    November 2, 2011 at 11:54 pm

    “Do I take this to mean tax credits if the U3 goes above 12.5% (God forbid!)”

    I’ll leave it to the Tax Court to sort out, but that is a great question. Since we all know how sticky “zero bound” situations are, I’d say yes, tax credits for everyone!

    As for my point that it wouldn’t add a dime to the deficit, well, there’s a story behind that… There’s a Tea Party-backed House bill (HR 2977) introduced recently that seeks to to replace dollar bills with dollar coins. The bill”s section (d) would put coin seigniorage profits on-budget, which is actually a wonderful idea. The part where I take the Tea Party bill in an unexpected direction begins with “The total deposits”:
    “The ninth proviso of section 5136 of title 31, United States Code, is amended by inserting, after ‘miscellaneous receipts’ the following: “and such amount shall be included as an estimated receipt of the Government and a receipt of the Government under paragraphs (6) and (7), respectively, of section 1105(a) in any budget submitted under such section. The total deposits of said miscellaneous receipts each year shall be no less than the annual sum of Secretary’s estimates of Tax Holiday Transfer of Funds, Net Interest and Trade Deficit.”
    http://tpmdc.talkingpointsmemo.com/2011/09/house-republicans-want-to-replace-1-bill-with-gold-plated-coins.php

    • beowulf
      November 3, 2011 at 7:24 am

      “Tax Holiday Transfer of Funds, Net Interest and Trade Deficit.”

      Net interest is the cost the US Govt pays to borrow its own money, so it should be paid (if it must be) with seigniorage. Leaving that aside, the big gaping hole in neoliberal economics is a peculiar double fantasy. To quote an old Paul Krugman paper, “The standard textbook version of the Ricardian model assumes full employment in both countries… The standard textbook presentation of the Ricardian model assumes balanced trade”.
      http://web.mit.edu/krugman/www/ricardo.htm

      Those assumptions haven’t been accurate for 40 years, Unless the govt counteracts the double fantasy with deficit spending and tariffs– or with good old fashioned coin seigniorage– they won’t be accurate for another 40 years either.

  11. November 3, 2011 at 4:31 am

    Schrodinger’s insolvency – an interesting concept that I’m having a little trouble wrapping my head around

    • TC
      November 3, 2011 at 8:25 am

      It’s all a matter of letting go of your preconceived notions of reality and…na it’s really easy.

      Just think about it like this:

      1. There is no government. The bank is the government. It can issue units of account with no limits. Who owns the banks? The people. When the bank has equity in the unit of account, somebody has to own that equity. When it issues a dividend, it’s issuing it to someone.

      2. Interest can’t be collected above the amount of money in the system. So money needs to be created or someone is insolvent. We know what inflation caused by money supply increase is a form of default.

      Just substitute the bank where we usually think about the government. All of the same ideas apply.

    • TC
      November 3, 2011 at 8:38 am

      Of course some of the implications are different. Banks will grow in size in relation to the rest of economy. Clonal’s idea about natural monopolies comes into play. Compound interest makes the financial sector huge.

      Every dollar saved becomes misery for another. Banks don’t have to create more money, but can just let people fight it out.

      More than one bank in the system with unknown total loans and interest means financial instability. There might not be enough equity in the system to cover the interest.

      Savings desires can change and cause unexpected defaults as banks don’t issue enough equity quickly enough.

  12. November 3, 2011 at 4:46 pm

    Well now I’m still not sure if I’m right.

    I took it that people could be insolvent, but the system as a whole cannot be (since the bank is the monopoly)

  13. derryl
    November 4, 2011 at 4:36 pm

    As Irving Fisher put it (I’ll paraphrase), “Nationalize money, and there will be no need to nationalize the banks. Then the banks can become what people think they already are: financial intermediaries between savers and borrowers.”

    Currently banks charge interest on money they issue as bank deposits, and yes, this is akin to seignorage. Except seignorage is where the issuer spends the money for his own purposes and enjoys 100% of the purchasing power of the money he created (like a bank creating a loan to its prop trading arm). Bank interest is merely “rent” charged on bank loans, so our current system where banks issue the money as loans at interest is more accurately called rentierism than seignorage.

    • TC
      November 4, 2011 at 5:30 pm

      Clonal has done some incredible work on how the relationship between the “nationalization” of usury laws and the decline of middle class purchasing power.

      I’d agree that this is closer to rentierism than pure seignorage. It’s a natural monopoly, and one that’s been granted at least in part to banks.

    • November 5, 2011 at 1:58 am

      I just don’t see it like that. The banks charge a ‘turn’ on what they get the money for and what they lend it out at. They don’t care where the money comes from as their charge is relative, not absolute.

      Banks ability to issue money is *exactly* the same as getting it a-priori from the central bank at 0%. (In the UK there is a slight charge for it as the banks have to up their ‘Cash Ratio Deposits’ at the Bank of England when credit is issued). And they are limited in the amount of this 0% money they can use by their capital ratios.

      If you ‘nationalise’ money (which is a 100% reserve idea) in a system where there is net financial savings then by definition you will drive the interest on savings to 0%. People will be charged to store money and the banks would make exactly the same turn as before – plus a profit on the storage fees for the excess.

      In a credit system when nobody wants the money the excess simply disappears out of circulation at no cost (or rather it is transformed into ‘potential credit’ at the banks awaiting a borrower).

      Money is already nationalised. That’s why we don’t let just anybody issue credit – they have to have a licence to do so. If the terms of that licence aren’t working systemically, then change the terms.

      • Clonal Antibody
        November 5, 2011 at 8:42 am

        Neil,

        “Nationalization” of money is not what at least I am talking about. I am talking about “public” vs private” ownership of banks. Also, I think TC used the term “nationalization” of usury laws in quotes.

        He was referring to the US Supreme Court ruling in 1978-79, that basically removed the limits that had been imposed by US states on the amount of interest that could be charged by the banks on loans. Ostensibly, this was triggered by the high Fed rates brought about by Volcker. However, this was the doorway opening to the massive deregulation of banking that followed, coupled with the lowering of the taxation on the very rich. It is very clear that these policies have led to the impoverishment of the bottom 90 % of the US population, and the enrichment of the top 1%

        • Clonal Antibody
          November 5, 2011 at 2:12 pm

          A good video on Fiat Currency

        • TC
          November 6, 2011 at 10:48 am

          That’s exactly what I was referring, Clonal, and why I put “nationalization” in quotes. They weren’t “nationalized” in the common sense, but rather the long-standing state jurisdiction over usury was made invalid and the national laws became the laws governing interest levels.

          The effect was gigantic – it basically marks the end of the U.S. middle class.

  14. TC
    November 6, 2011 at 10:52 am

    Here is Louis-Philippe Rochon’s summary of the different approaches of addressing this dilemma:

    http://www.beneventoconference.it/abs_14.asp

    Interesting, eh?

  1. November 2, 2011 at 12:16 pm
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