Wednesday, August 4, 2010

On Money


When money supply was limited because it was tied to real assets such as land or gold it was beneficial to allow lending beyond the actual amount of gold. as it allowed a larger volume of commercial transactions and access to capital beyond the money supply. This is what allowed tradesmen and businesses to grow, in Europe, in the renaissance, by transferring wealth from the landowners.

The prudential ratio is the proportion of deposits in the bank that a bank is allowed to lend out.
Interest charges for the time value of money. Ie if I need a house or business capital  now it is worth my while to pay the owner of the capital extra to have the use of the money immediately.

Velocity of circulation is also important. How fast money flows around the system. The more transactions it is used for the greater the effective money supply. M3.

Too much money chasing too little production leads to inflation as the real basis for money is labour production. loans are charges on future production.

The next source of money are derivatives. Money not immediately associated with the money supply. Shares, futures, onlent mortgages, financial products such as bonds. (Not all bonds are derivative). Keynes called this money market, the casino.

The idea of floating exchange rates was if a countries exports were valued less than its imports its currency would deflate evening up the values so that there was no currency  deficit.

The neo-liberals cut or removed financial regulation such as prudential ratios. Internationally now, there are effectively none, allowed all sorts of funny money derivative markets, allowed capital flows to be unrestricted, sold everyone o the idea that privatization and the market cured everything and the idea that inflation is a great evil. (Because it transfers wealth from the owners of capital to younger working people).

In NZ.
The reserve bank act was bought in to cut inflation. Resulting in an overvalued currency and international deficits as the casino gambled with NZ money. Whenever our exporters showed signs of recovery they were clobbered again and again by excessive interest rates. Manufacturing in nZ almost disappeared as a result.

Banks and overseas investers took windfall profits out of the country from the high rates. gambling with our currency meant that it was way over the value it should have been resulting in borrowing to cover export deficits. Removal of jobs, businesses and manufacturing from NZ increased our reliance on imports.
Prudential ratios were removed from the reserve banks control and they were given the narrow focus of fighting inflation with only the OCR as a tool.

With free flows of capital, asset strippers moved in and bought companies that were earning adequate incomes. Took all the capital out and reinvested it in the casino because they could make 20% or more profit by gambling.
De regulation of finance companies allowed the crooks to move in with obvious results.

In the states the share market money value went up 40 times while in the same period the underlying productivity of the companies went down. The US now owes so much that the future productivity of the States can never catch up with the compounding interest on their borrowings. Federal debt alone is now $13 trillion. $42000 per American.
It must be every bankers nightmare at the moment that debtors just say to hell with it and refuse to pay. Especially indebted countries.

A replacement financial system still has to account for the time value of money, allow some form of borrowing for things such as starting businesses, (You cannot have no cost to borrowing) allow supply for transactions, moderate between exports and imports and allow sufficient velocity of transactions for people to live.
We also say it has to be steady state. (Sustainable) . Ie a business person  who is satisfied with the boat, beamer and bach should not be forced by their finance sources to choose between continual expansion and asset stripping or bankruptcy.

 To those who argue against a Government producing fiat currency. What about the money market in the US where the price of shares rose 40 times and the price of derivatives many times that while the underlying productivity of the companies traded dropped. If that is not producing money out of nothing, what is!  Before we even begin to talk about bailing out failed banks.

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