Money. Doing it Right this Time.

I think there's a number of things in play here. One is the cost of storing cash and diversifying your counter party risk. Germany is a liquid and safe euro market. Of course, this makes funding in other EU countries more expensive in the process.

There's also the newly acquired desire to use the bund/euro as the funding vehicle for the carry trade where you borrow euros, through bunds, and invest the proceeds in say, Aussie or Canadian dollar bonds where the interest rates are higher and economies are performing better hence currency strength. You get the added benefit that this is really not a trade against Germany but the EU but you get all the safety bunds offer.

Some might contend it's a play on the future of a deutsche mark. Dubious but...

Ultimately, I see it as fear. The perception that return of capital is more important than return on capital.
 
could it be just a logistical routine to buy bonds for certain parties that would cost more to update and write exceptions to than to it would to incur the negative interest?
 
could it be just a logistical routine to buy bonds for certain parties that would cost more to update and write exceptions to than to it would to incur the negative interest?

I don't really understand what you are trying to say.
 
I'm going to swipe this from the Cool Stories thread:

The Keen/Krugman Debate: A Summary

Paul Krugman and Steve Keen have been debating endogenous versus exogenous money – as well as some other issues – for the past few days. The debate appears to have drawn to close, so here I offer a summary for those who can’t see the wood for the trees.

1. Krugman reads Steve Keen’s paper and rejects it; specifically, he rejects endogenous money, asserting that banks need deposits before they can lend.

2. Keen responds, noting that banks do not require savings before they make a loan, as they can create loans and deposits simultaneously through double entry bookkeeping. The CB has to provide the reserves required for whichever loans they do make in the short term, else the economy will grind to a halt.

3. Nick Rowe weighs in, with a comment thread well worth reading. He sides with Krugman overall but appears to agree with at least some of what endogenous money proponents are claiming, including the the double entry accounting view of money creation.

4. Krugman, however, continues to deny this, claiming that CBs have monetary control, and citing a paper by James Tobin to support his point of view. He fails to note that, not only did nobody ever assert that the CB has no control whatsoever over monetary activity, but Tobin also wrote a paper called ‘Commercial Banks as Creators of ‘Money’‘, in which he agrees with the view that Krugman opposes.

5. Scott Fullwiler schools Krugman on how banking actually works in the real world.

6. Krugman makes a post where, through a sleight of hand, he seems to acknowledge that banks can create money, but goes on to straw man endogenous money proponents by saying that they claim that they said there is no limit to this process. Of course, that’s not true – the only claim is that reserves are not the limit, the actual limitations being capital, risk and interest rates.

7. Krugman, unfortunately, goes on to make another post, one in which he effectively asserts that the Central Bank has complete control of the money supply, something completely contradictory to what he said before and blatantly falsified by the failure of monetarism in the 80s.

8. Krugman and Rowe both parade their ignorance by making it clear they have not read Keen’s latest post properly, and falling straight into his characterisation of DSGE. Keen responds. Krugman says the debate is over.

Looking over the debate, I’d score it to Keen – you might expect that, but I genuinely went through periods where I thought he might be wrong. Sadly, Krugman quite clearly moved the goalposts a couple of times, and Rowe didn’t make it exactly clear where he stands, even after I asked him. Neither of them engaged properly with Keen’s or anyone else’s arguments.

I can’t help but feel that the orthodox economists were deliberately obfuscating the debate – making it unclear exactly what they advocate, but simultaneously clinging to a core theory and asserting that its critics are attacking a straw man, ignorant of what is ‘added’ at a higher level. I’m forced to wonder if their theories are simply immune to falsification.

NB: A couple of others provide some constructive comments on Keen’s slack definitions in his most recent paper, particular with respect to units, that are worth reading in their entirety. Having said that, Keen’s accounting appears to be correct, even if it’s not the clearest.

http://unlearningeconomics.wordpress.com/2012/04/03/the-keenkrugman-debate-a-summary/

An Epic Blog Battle between Paul Krugman and Steve Keen! This definitely qualifies as cool and I liked this blog's summary of it. Click the link for some extra text links that my quote didn't capture.



Now this is an interesting point. And I think we touched on it earlier. My take, in the modern capital markets, banks can make loans and then find the money to cover them. But the central banks are under no obligation to provide that money. So the banks have to go to the capital markets or other banks.
 
Arguably, the stability mandate of central banks should be read as an obligation. They are at the very least strongly inclined to just dance to the commercial banks' tune.

There's quite a lot about Keen's views on bank lending that keeps confusing me, though.

For one thing there's the point Krugman brings up: currency withdrawal. If a bank creates a loan and a deposit simultaneously and I as the client immediately ask to have currency withdrawn from said loan, the bank has to request currency from the central bank or other banks immediately. The principle of a delay between loans being extended and reserves being drawn in only holds true for as long as such withdrawals are not made use of.

Now a lot of large scale purchases (housing, for example) are not settled in terms of currency, so I imagine that in the case of such purchases the payment could just be settled in terms of one bank account being charged while another is being drained. If purchases of this kind are dominant in an economy to the point of rendering currency withdrawals of negligible magnitude by comparison, you could leave currency withdrawals out of the picture in a description of banking without getting all that much wrong.

I'm always a little bit out on a limb speaking about this issue, cause it's pretty esoteric and complex, so correct me if I'm making any serious mistakes.
 
I don't see any reason, under ordinary circumstances, for the CB to give the banks what they want. Remember that the CB is following its own agenda concerning inflation and growth. If a bank cannot cover a loan it made, tough cookies. That's their problem. I cannot see any reason to assume that the CB will cover it. Because the CB is not the only place the lending bank can get the money. Force them to pay market rates for the money.

As to the point about currency withdrawal, banks are required to keep reserves equal to 10% of deposits. But they very rarely use that much of their reserves for transactions on a given day. So they have plenty of reserves to cover it. If cash is needed, it can be gotten from another bank or an armored car service within a business day.
 
Cutlass said:
I don't see any reason, under ordinary circumstances, for the CB to give the banks what they want. Remember that the CB is following its own agenda concerning inflation and growth. If a bank cannot cover a loan it made, tough cookies. That's their problem. I cannot see any reason to assume that the CB will cover it. Because the CB is not the only place the lending bank can get the money. Force them to pay market rates for the money.

Debt defaults are deflationary (they are a reversal of the monetary expansion in the act of creating the loan), so the central bank can not pursue it's price stability mandate while letting the loans of the banking system go bad. I think where you have a point is in that the central bank doesn't need to accede to the demands of any single bank. It is when the system as a whole gets needy for reserves that it has little choice but to comply.

As to the point about currency withdrawal, banks are required to keep reserves equal to 10% of deposits. But they very rarely use that much of their reserves for transactions on a given day. So they have plenty of reserves to cover it. If cash is needed, it can be gotten from another bank or an armored car service within a business day.

I don't think it's entirely accurate that banks keep 10% of deposits in reserve in practice these days; that's just what outdated textbooks say on the topic. The rule applies only to loans to households, not to commercial institutions. In practice* the reserve ratio is much lower in the US. Closer to 0% than to 10%. Several countries such as Canada have explicitly 0% reserve banking laws. Here's Keen's take on it:

there are two factors needed to make manipulating reserves a control mechanism over bank lending:

- Reserves themselves; and
- A mandated ratio between deposits at banks and reserves

Paul doesn’t seem to have caught up with the fact that this mandated ratio no longer exists, for all practical purposes, in the USA and much of the rest of the OECD. Six countries have no reserve requirements whatsoever; the USA still has one, but for household deposits only. Figure 3 shows the actual rules for reserves in the USA—taken from an OECD paper in 2007 (Yueh-Yun June C. O’Brien, 2007). The reserve ratio of 10% only applies to household deposits; corporate deposits have no reserve requirement. And the reserves are required with a 30 day lag after lending has occurred—by which time the deposits created by the lending are percolating through the banking system.

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

* under normal conditions, that is. Right now, reserves are piling up to the point of excess, but these are not ordinary times.
 
Debt defaults are deflationary, so the central bank can not pursue it's price stability mandate while letting the loans of the banking system go bad. I think where you have a point is in that the central bank doesn't need to accede to the demands of any single bank. It is when the system as a whole gets needy for reserves that it has little choice but to comply.


Yes, but that's a systemic issue, not a common one. This just doesn't come up in the typical year, or even the typical decade. On a day to day basis the banks have to deal with the capital markets, not the CB.



I don't think it's entirely accurate that banks keep 10% of deposits in reserve in practice these days; that's just what outdated textbooks say on the topic. The rule applies only to loans to households, not to commercial institutions. In practice the reserve ratio is much lower in the US. Closer to 0% than to 10%. Several countries such as Canada have explicitly 0% reserve banking laws. Here's Keen's take on it:



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



I'd have to check on that. But it doesn't really matter that much. Banks do not keep their reserves on hand most of the time. They keep it on account with the CB. It can be transferred in seconds. Or, the banks still have to get it from the capital markets. The CB is not required to cover bad bets by individual banks, even if it is required to cover bad bets by the whole banking industry. And it should regulate to prevent the whole industry from acting in that way.

Starting with Too Big To Fail. That cannot be allowed without distorting and endangering the system.
 
Good, finally a noticeable number of people are paying attention to what Keen's been saying for years" I really hope his book demolishing neoclassical economics (and he's right that neo-keynesianism is just an appendix of it) becomes popular. Read it, please, it's well worth the time.
 
What I'm really curious about is what the implications of endogenous money theory are on the explanation of how interest rates came down so far in the last 30 years. Does the story that it's all about emerging markets exporting and saving like mad while American borrowers couldn't soak it all up fast enough still make sense? Or is the low interest rate the result of the high private debt load itself, i.e. if the banking system needs low interest rates to sustain high debt loads, the central bank will provide them given their price stability mandate and the effects of debt-deflation?

I'm still racking my brain over this.

Another issue within this question is that of how the aggregate private debt load begins to rise in the first place. Keen likes to explain it in terms of Minsky's Financial Instability Hypothesis, which basically says it just happens because people get less conservative as positive times drag on. I see the argument for that, but I'm inclined to think that some form of government lobbying is also involved. This last thing is consistent with economic rationality where Minsky's FIH is not.
 
Bernanke gave a speech about a "global glut of savings" in 2005 or so. If there's more savings than there is investment, then there is going to be downward pressure on real interest rates. Supply and demand. I don't see where the CB can do a lot about that without really drastic actions to sterilize the capital inflows.

I think the theory that people get less careful when times have been good for a long time is right. However I don't think it's the whole story. In the housing bubble in the US, there was also the factors that people actually believed their asset, their house, was sufficient to cover their debts. Further, people were trying to live in accordance to where they thought they should be while their incomes were stagnant instead of rising. So they lived as though they had rising incomes, and debt covered the difference.

Now there was a lot of regulatory gamesmanship and evasion on the parts of the banks to allow them to make those loans. The banks also ceases to be careful, in fact the banks led in ceasing to be careful. They sidelined their risk analysis.
 
Where the "global savings glut" story is concerned, I'm mostly confused by how savings are still a factor when banks can just create deposits ex nihilo when they need them. It's like the system is a hybrid of two fundamentally inconsistent things. But maybe that is part of the answer: savings bring down the interest rate, but borrowing does not rise it back up. From that alone it's easy to deduce in which direction interest rates are bound to go in the long run.
 
But money doesn't just come out of thin air. :confused: There has to be a source of the money to be loaned. It isn't fictional money.
 
What I'm really curious about is what the implications of endogenous money theory are on the explanation of how interest rates came down so far in the last 30 years. Does the story that it's all about emerging markets exporting and saving like mad while American borrowers couldn't soak it all up fast enough still make sense?

No. That was just misdirection, in order to avoid addressing the real issue.

Or is the low interest rate the result of the high private debt load itself, i.e. if the banking system needs low interest rates to sustain high debt loads, the central bank will provide them given their price stability mandate and the effects of debt-deflation?

I think so. It was a political choice. Central banks (and governments) starting in the early 80s decided to target lower interest rates and had, as a consequence, to allow the incredible build-up of public and private debt which happened over the past few decades. But everyone was having a good time, so no complaints (until now).
The build-up of debt also required the expectation that the loans would be repaid, of course. But that expectation becomes a self-fulfilling prophecy during the ramping up of every boom phase (economic growth, yay!), so long as interest rates do not rise. As as the period of prosperity becomes longer, enter the belief that the economy is now operating under a "new paradigm" of continued stability and reduced risk - prompting even more borrowing. Then central bankers notice that thinks are getting unsustainable, and what do they do? They lower interest rates to keep it going, and so accelerate the creation of new debt. Because a political decision to raise interest rates becomes dangerous, as it would "pop the debt bubble", causing a depression without any easy exit in sight. Some small raising of the target, yes, but not enough to force the destruction of all the past debt. That can will get kicked down the road as fas as possible. Ending the debt can only happen in two ways: by massive defaults (a "reboot" of the system, with all the political risk associated with it, whichever method is chosen means a transfer of power between different classes, creditors and debtors...) or through a prolonged recession and inflation above interest rates. Which is actually extremely hard to create if the whole world is going through recession: that is what has historically been called a depression. A single country can devalue its currency and create "import inflation" while reducing external debt (if it was smart enough to keep its debt in its own national currency), but in a world depression everyone is trying to do it, to no net effect...

Another issue within this question is that of how the aggregate private debt load begins to rise in the first place. Keen likes to explain it in terms of Minsky's Financial Instability Hypothesis, which basically says it just happens because people get less conservative as positive times drag on. I see the argument for that, but I'm inclined to think that some form of government lobbying is also involved. This last thing is consistent with economic rationality where Minsky's FIH is not.

If you take rationality to be what people do instead of shat some schizophrenic mathematician said they'd d, there would be no inconsistency! Good times do lead to reassessments (downwards) of risk. And it'll seem perfectly rational to the people doing it. That's politics and there's plenty of empirical proof. Of course governments go along with it: it's what governments are expected to do! You don't win votes, or the backing from bankers, or whatever it takes to be in government in a competitive political scenario, by opposing the desires of your people. Only iron-handed dictators do that, and they risk ending up like, say Ceausescu. That one, for example, imposed years of recession on Romania in order to pay off the country's external debts, to be overthrown and killed in the year the payments were finished! There's irony and, I'm sure, some kind of lesson there... This is not to say that there are no remedies to financial instability. Plenty were proposed, and even now people are proposing new ones (not to mention the older one of doing away with private finance altogether, but that would be just a part of some of the proposed solutions).
 
cutlass said:
But money doesn't just come out of thin air. There has to be a source of the money to be loaned. It isn't fictional money.

How do you interpret the line "loans create deposits" if not as a form of private sector money creation?

innonimatu said:
No. That was just misdirection, in order to avoid addressing the real issue.

I'm not above suspecting anyone of misdirection, but I'm pretty sure China and it's high savings rate and trade surplus are real and not some illusion. :crazyeye:

If you take rationality to be what people do instead of shat some schizophrenic mathematician said they'd d, there would be no inconsistency!

I'm not talking about the "prophecy" definition of rationality, more like the ability to be somewhat consistently more right than random about the future.

Good times do lead to reassessments (downwards) of risk. And it'll seem perfectly rational to the people doing it. That's politics and there's plenty of empirical proof. Of course governments go along with it: it's what governments are expected to do! You don't win votes, or the backing from bankers, or whatever it takes to be in government in a competitive political scenario, by opposing the desires of your people. Only iron-handed dictators do that, and they risk ending up like, say Ceausescu. That one, for example, imposed years of recession on Romania in order to pay off the country's external debts, to be overthrown and killed in the year the payments were finished! There's irony and, I'm sure, some kind of lesson there... This is not to say that there are no remedies to financial instability. Plenty were proposed, and even now people are proposing new ones (not to mention the older one of doing away with private finance altogether, but that would be just a part of some of the proposed solutions).

I don't disagree with the FIH or any of what you say, I just think it is a starting point rather than a finished explanation.
 
How do you interpret the line "loans create deposits" if not as a form of private sector money creation?
Because the initial money has to come from somewhere. It may go through the system a large number of times and geat heavily multiplied, but there must be a starting point.
 
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