Transcript Money and inequality Bath 2014 slides for Quakernomics blog

Money and Inequality:
Bath
2014
What is Money?
What is Money?
social construct
Store of value
 Medium of exchange
 Unit of account
Based on trust

Conclusion
Above all, money is
accepted by
society as a call on
its resources.
Money Creation
“The process by which
banks create money is so
simple that the mind is
repelled. Where
something so important is
involved, a deeper
mystery seems only
decent.”
- J. K. Galbraith,
Canadian economist
Creation of Money




2.6% is notes and coins
All the rest only exists as entries in an
account
97.4% has been created by banks, lending
it into existence
When a bank makes a loan, it creates a
liability for itself in the credit it puts into the
recipient's account and balances that with
an asset which is the loan
Process of Money Creation
• Starts with lending, not saving
• Really banks’ role is accepting
(guaranteeing the ability of someone to
meet their obligations)
• Once they offer a loan, they create a loan
instrument, which becomes their asset, and
they also create a deposit in the recipient’s
account (a balancing liability)
• That’s it!
The Myth of Fractional Reserve
Banking
•
In USA 10% of deposits required in reserves
•
In UK reserves are variable depending on the perceived riskiness of
the loan
•
The problem is not whether banks have the right ratio of deposits to
lending; but whether they are believed to be solvent by other banks,
who will happily lend them extra themselves to meet their obligations
to other banks.
•
However, the idea of FRB is a myth, as Central Banks will lend extra
reserves as needed until things go egregiously wrong, as with
Northern Rock – but couldn’t apply to the bigger banks – the systemic
consequences would be too great
•
Too big to Fail is a reality
Asset Transfer
•
Once the borrower spends the money, there needs to be
a transfer of resources from the borrower’s bank to that of
the recipient of the “money”
•
This takes place within the BoE’s accounts. A regular
settling of accounts takes place, whereby the net
amounts are transferred between all the participating
banks.
•
If one bank is short of reserves in its account with BoE,
they normally will borrow reserves from another bank at
the inter-bank lending rate (Libor); failing that they borrow
from the BoE, as “Lender of last resort”.
•
All is fine so long as confidence is high…..
Massive Growth in Debt-based
Money (1)
Massive Growth in Debt-based
Money (2)
Quantitative Easing




BoE creates money (Base Money (M0) with
which it buys govt bonds from banks and others
This increases the price of bonds, benefiting all
bond-holders & reducing effective interest rate
It also increases the liquidity of the banks for
settling transfers between each other
No direct effect on bank lending or on real
economy
Mechanisms by which inequality
fuels financial crises
• Sharp increases in debt-to-income ratios among lowerand middle-income households looking to maintain
consumption levels as they fall behind in terms of income;
• The creation of large pools of idle wealth, which increase
the demand for investment assets, fuel financial
innovation, and increase the size of the financial sector;
• And disproportionate political power for elite financial
interests which often yields policies that negatively affect
the stability of the financial system.
The evolution of income
inequality, 1960{2008
Inequality measures 19612011/2
Key Points
• UK income inequality increased by 32% between 1960 and 2005.
During the same period, it increased by 23% in the USA, and in
Sweden it decreased by 12%.
• In the 1960s Sweden and the UK had similar levels of income
inequality.
• By 2005 the gap between the two had increased by 28%.
• Since the 1980s income inequality in the United States and the UK
has increased substantially and has returned to levels not seen since
the 1920s.
• The growth in inequality in the last 30 years has been driven by the
top 1% of wage incomes.
Key Points (2)
• Inequality measures drawn from standard household
surveys underestimate income inequality by as much as
10 percentage points, due to the under-representation of
the top 1% of incomes.
• There is scope for governments to tackle inequality. Large
income inequalities are not inevitable; Sweden owes its
high levels of equality to policies introduced since the 50s.
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Distribution of Bank Lending 1997-2013
3000000
2500000
2000000
1500000
secured individuals
other financial instutions
business
unsecured indivs
1000000
other
500000
0
Relative distribution of wealth
drain from banking sector
What is Contribution of Money
System to Inequality?
•
With 97% of money borrowed into existence, interest is being paid by
someone for all of that. This flows to the banks.
•
Bank lending goes primarily to asset purchase, resulting in an increase
in value of existing assets (owned exclusively by the haves, whether this
is housing, shares or more exotic financial instruments).
•
Financial crises lead to recessions in the real economy. Unemployment
and pay restraint hits lower income groups more heavily, leading to a
further increase in inequality.
•
Recessions result in a fall in government revenue. Cut-backs in
government services always hit the poor harder than the rich. So posttax and post-benefits income distribution becomes even worse.
•
Bank lending at present is highly “pro-cyclical”, ie banks will lend any
amount they think can be repaid, but their expectations are based on
economic conditions. In a boom they lend more and in a recession they
lend less.
Fiscal consolidation
Budget deficit reduced,
on average, by ~1%
GDP in each case
Decline in budget
deficits followed by rise
in inequality
Why?
-
-
-
-
-
Social benefit and public
sector wage/employment
cuts disproportionately
affect lower-income
groups
Long-term unemployment
reduces earnings
Source: IMF, 2013
The Banking System
•
•
•
•
Money system
‘on loan’ –
interest being
paid on most of
the money in
the economy
House prices
are pushed up
by ‘loan
money’
Stock market
bubbles
created
Fear and envy
are created
Source: Positive Money
Conclusions – Bank lending
• Thought experiment
• Lending at interest requires perpetual growth in
money supply to make repayment of loans and
interest possible.
• Requires (at present) perpetual growth in debt
• As debt becomes ever greater in ratio to GDP,
increasingly unstable
• Greater GDP only way to reduce debt ratios
• This is clearly unsustainable – need to find a new
way to run financial system