Adair Turner and the Emperor's New Clothes

February 10th, 2013
in Op Ed, syndication

Written by

The historic address last week by Adair Turner, head of the UK regulatory agency, the Financial Services Authority, is news of historic importance.  Anatole Kaletsky called it the unveiling of the emperor's new clothes.


Follow up:

With Mark Carney taking over as head of the Bank of England and Turner's recent unveiling as a monetary realist, the pound sterling may become the first currency system to enjoy macro-numerate management. The arithmetic NECESSITY, not "option", of adding non-debt government money into a currency's money supply has been understood and promoted at least since Irving Fisher and CH Douglas in the 1930s.

Monetizing Debt

Banks "create" the bank deposit money that they lend out. Banks are in the business of monetizing debt. The borrower signs a promissory note (or a Treasury Secreatary signs government bond) acknowledging his debt and promissing to repay it, and the bank "purchases" that debt by creating new credit money in the borrower's bank account.

Banks don't merely "recycle" their depositors' savings by using savings to fund new lending. A bank loan, or a bank purchase of a government security, is ALWAYS funded by the creation by the bank of a "new" deposit in the borrower's bank account. Bank lending is where our money "comes from", and Turner and Carney have both publicly expressed their recognition of this 'heresy' against the false truisms of mainstream macroeconomic theory.

The Myth of Recycled Savings

Long dominant neoclassical economic theories and models, which purport to accurately represent what happens in the real world, have no "banks" in them issuing credit money. Dominant macroeconomic theory magically claims that bank lending merely recycles savings, but never tells us where all these current trillions of pounds and dollars and yuan and yen and euro came from in the first place.

Or did God provide Adam and Eve with trillions of money denominated in all currencies that would be to come, and their heirs eventually deposited this money in banks to enable bank "recycling" of people's savings into new bank lending of the trillions of money? Neoclassical non-treatment of the money question, in a world whose economies ALL use money, invites this kind of sarcastic mockery against unreason.

With Insufficient Expansion of Money, Busts are Inevitable

Bank loan money is 100% "repayable", which means bank loans add no permanent money into a currency's money supply. So in this "zero sum money" environment where all the money is owed to banks by the people, firms and governments who borrowed that money from banks and spent it into circulation, the accumulation of financial capital and money savings by some parties can ONLY be possible if other parties have outstanding bank loans.

One party's money is some borrower's debt within the currency's banking system that is legally empowered to create credit money denominated in that currency. Turner is advocating adding some permanent non-debt money into the equation to break the deadlock, between borrowers/spenders who "owe" all the money to banks, and earners/savers who now "have" all that money.

Once the system get sufficiently close to the conditionabove, there is another credit bubble collapse.

Will Great Britain Lead a Monetary Reformation?

England pioneered central banking with the establishment of the Bank of England in 1694. With Turner and Carney now at the helm of the pound sterling money system, England may be the first to make central banking actually "work". In previous centuries the English government issued "gilts", which are perpetual bonds with no maturity date. Essentially a gilt is a permanent interest only mortgage on the nation, secured by the government's future tax collections.

A bank (or a "bond merchant" in the era before private money creation was institutionalized as "banking") creates the principal sum of the mortgage as immediate "bank credit" spending money for the government. The government NEVER repays the principal, and the bond merchant cum banker lives happily ever after collecting interest paid by English taxpayers.

Turner is recognizing that the government does not need a bank to create money for the government, when the government has the authority to issue that money itself. As Irving Fisher wrote in the 1930s, most people think the government is ALREADY creating the national money, when in fact it is the nation's banking system that creates virtually all of the money as loans of new bank deposit money.

Zero Interest Gilts

The simplest way to implement Turner's idea of adding money into the pound sterling zone would be for the government to issue zero interest gilts, purchased by the Bank of England, and funded by the B of E in the same way all banks fund all loans: by creating a deposit in the government's bank account at the B of E in the amount of the new gilt.

US money and banking legislation prohibits the Fed from directly purchasing and monetizing government debt in this way (in QE the primary dealer banks (PDs) create the new bank deposit money to fund their purchases of new issues of Treasury securities, then the Fed buys the Treasurys from the PDs, but the Fed is not allowed to bypass the private banks and "directly" purchase new Treasurys).

I'm not sure if British legislation likewise prohibits the B of E from directly monetizing government debt but, once you understand the source of the recurring financial crises in our zero sum bank-debt money systems, the technical solution (just add permanent money) is clear and simple.

Zero interest gilts are not technically "non-debt" money, because the central bank is holding the government's "debt security," it's "bond". But because the bonds pay zero interest and NEVER have to be redeemed, they "effectively" add permanent no-cost money into the currency system's money supply. Besides, since 1946 the B of E has been owned by the British government, new B of E money created to purchase the government's new issues of gilts is just an internal accounting formality, like your left pocket that you call your "bank" creating money and putting it in your right pocket that you call your "Treasury".   Your left pocket fills up with gilts and you spend the money out of your right pocket.   But you never have to take money out of your right pocket to redeem the gilts because they have no maturity date.

The Bankers' Secret

Adair Turner and Mark Carney are two of the very few men at the top levels of monetary operations who have publicly acknowledged that private bank lending is actually the "creation" of new credit money. As the history of credit bubbles and busts has amply demonstrated, there is no evidence to support the ideological slogan that governments cannot be "trusted" with the money issuing function but that private bankers are universally "prudent" in their issuance of new credit money.

Financial history "proves" that private money issuers are every bit as susceptible to excessive money issuance as governments are "theorized" to be.  We've tested the private issuance theory and found it wanting.  Now let's test the government issuance theory.

Let's take the private banking bubble machine out of the closet and unmask the bankers' darkest secret.

Both Private and Public Money Creation

Turner is not advocating the radical move of taking the money issuing function away from the private banking system entirely and having the government create all the money, as Fisher and Douglas advocated during the Great Depression, and as IMF research authors Kumhof/Benes are advocating today in their "Chicago Plan Revisited".

Turner is suggesting the much more modest and eminently practicable move of simply allowing the govenment to create and spend "some" additional money into its currency equation, to make the system positive sum so that at least not "all" the money is always owed as debt to the currency system's banking system.

If Milton Friedman, the godfather of modern monetary policy, clearly saw that governments should fund some or all of their deficit spending by creating their own money, and that a negative income tax and/or helicopter drops of money to the people would benfit the economy, and that central banks should be replaced by laptop computers that automatically add 2% per year more money into the currency systems, then maybe it's time we tried practicing what he preached.

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