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Money Creation & The Impact of Debt & Deficits

Updated on October 17, 2014

Everyone one of us just about every day reaches in our pocket and removes some money to purchase something. We receive money for our labor, whether self-employed or paid by an employer. Yet, many of us have very little understanding of exactly where this money originates from and how it circulates into our pockets. If you ask the average citizen who creates money, most people will say the gov’t and some will even reference the Federal Reserve Bank. However, the reality is quite a bit more complex.

Money…whether US dollars or any other currency, is simply just a medium for the exchange of goods and services. Currency is a financial asset, but has no true intrinsic value on its own. We use currency because it is simply more efficient than attempting to barter our way thru life. If we had to stand in line at the bagel store for an egg sandwich while each person offered some other product or service in exchange for their bagel, we’d be there for some time while the store owner attempted to estimate the value of each product or service offered in exchange for the egg sandwich. Using currency is simply about efficiency in the exchange of goods and services.

Legally speaking only the Federal gov’t can actively create net new currency as per the law. Yet, the lines between what we classify as money, and non-money is not always so clear. Money is broken down into many different groups. There is M0, MB, M1, M2, M3 & MZM. Rather than examining all of the details of each classification, let’s take a look at the basics for a general understanding.

Base Money

Base money is the net new money created by the gov’t. This is the amount of actual bank reserves that are held on deposit with the Federal Reserve, plus the physical currency in circulation (dollars and coins in our pockets). The bank reserves portion is what the banks must keep on deposit with the Federal Reserve or in vault cash. However, these reserves CAN’T and DON’T ever get lent out in circulation among the general public. The Fed loans these reserves to the bank, and the bank deposits them back with the Fed. At no point are these reserves ever placed into circulation as they cannot be lent out to the consumer. The Fed can also increase reserves via Open Market Operations. This is a process in which they can enter the fixed income markets and purchase or sell gov't securities as means to increase the supply of reserves, and influence changes in interest rates by manipulating demand for fixed income products.

So if the Fed is printing money...lending it to banks...while also buying and selling bonds to increase or decrease the amount of money in bank reserves, but they never place that currency into circulation with the general public…then how does it get into our pockets ??? And if so, why do these banks then need to hold these reserves ???

The reserves that banks hold are used as a base which determine a multiple of lending permitted…or bank credit. Because the amount of credit a bank can extend is a multiple of these reserves, the Fed can theoretically affect the supply of money by simply increasing or decreasing the reserve requirements that banks must hold. But this is really affecting the supply of credit. This credit is part of what is called M2, typically referred to as "broad money". In fact the vast majority of money that we see on deposit in our bank accounts or that we receive in our paychecks is a result of this bank credit. This credit is known as Fractional Reserve Lending. In this process, contrary to popular belief, banks DO NOT take in your deposit and then subsequently lend it to someone else. In fact the process is precisely the opposite. The bank creates a dollar of credit out of thin air, and simultaneously produces a loan note. To the bank, the loan is the asset and the dollar created is a liability. The new dollar lent will get spent on whatever it was purposefully borrowed for, and likely re-deposited somewhere in the banking system. At the time the loan is initiated the supply of M2 money has just expanded. And when the loan is re-paid the same dollar created is then extinguished and completely vanishes from circulation. Or more simply stated, the deposit does not create the loan...but rather the loan created the deposit. And every time we pay our mortgage, car payment or any other loan payment...we are shrinking the money supply. Each time we choose to borrow money from a bank...we expand the supply of money.

If any of these bank credit dollars are withdrawn as physical cash, the bank must increase its reserves to offset the withdrawal. So the bank can borrow from another bank with excess reserves, or go back to the Federal Reserve and borrow more from the Fed to increase its reserves. So in general, while the vast majority of the digital dollars in our accounts are created by banks, this is not net money as the financial asset is being created with a corresponding liability. Only the gov’t can purposefully create net new money. So that brings us back to how it is that the gov’t can create money and then put the actual dollars into circulation.

Gov’t Deficits

The Federal gov’t each year spends money on various things from national defense, infrastructure improvements to social entitlements. The gov’t then collects back some of this money via tax revenue, fees, fines etc. The difference between what the gov’t spends, and what the gov’t collects is the increase in the supply of net new money, and is financed via US treasury bonds. This money then gets spent by the recipients and deposited into the banking system as another source of bank reserves. In reality, every dollar of national deficit is a new dollar circulating in the system…hence permanently expanding the money supply. Each year in which the gov’t runs a budget surplus is a year in which the supply of net money has contracted. So isn’t more money good ??? And if so...then deficits must also be good. The answer to that question is Yes…and No.

The topic of deficits is not only politically charged, but also actively debated among economists in terms of when they become a concern. Some economists even believe in using a fixed money supply, although they are in the minority. The concern about deficits is really a concern about inflation. The creation of money is not necessarily inflationary. However, creating new money can become inflationary if the rate of turnover in spending increases, also known as an increase in monetary velocity. Rapid increases in inflation most typically occur when spending is not met by production and an item becomes more scarce. So when we have larger deficits, but not a corresponding increase in productivity of new products and services…the value of our currency declines, and we can buy less with each dollar. Yet at times, the price of goods and services will rise even without an item having become scarce. A seller will increase their price whenever they feel it is feasible to do so. Essentially, you may at times be charged more...just because you can afford it. Which is why at times the same product may cost more in a more expensive neighborhood. This concept also applies when we think about the aggregate money supply. So, an increase in the supply of money without a rapid increase in velocity can and has created additional inflation.

This is expressly why the gov’t cannot simply print and hand out millions of dollars to each citizen. If we all had a million dollars in extra discretionary savings, then a million dollars would not buy us very much anymore. We would all be millionaires...except many of us would be very poor millionaires. Since money is simply just a medium of exchange which holds no intrinsic value on it's own, it's supply needs to be managed carefully in order to retain its value.

So the size and scope of a deficit is not the only relevant factor, but also the composition of how the deficit occurs. If the gov’t collects less in revenue because it created a tax incentive for a business owner to invest in a new manufacturing plant, the temporary decline in revenue to the US treasury produced more dollars in the system, and assuming the business is successful…productivity also increased. When the gov’t spends money on necessary infrastructure needs that promote things like increased commerce, it can certainly be argued that this also creates an indirect benefit to increasing productive capacity. The less direct impact that there is in producing a capital investment, the less productive the new dollars created by a deficit will be, and the more inflationary they eventually will be. As an example…if the Federal gov’t began to simply pay more and more people money to dig holes all day and then fill them back up, we would be increasing the money supply and producing nothing that anyone needs or wants. That will inevitably become inflationary and hurt the purchasing power of those who hold dollars.

There are theoretically times when there is too much money circulating in the system and a period of surplus is a positive, and times when money is not turning over fast enough and an increase in the supply of money may be warranted. Unfortunately, controlling how and when we simply expand the supply of base money is not so simple because of politics. Since the Fed controls the monetary side of policy and most directly impacts lending and the monetary base, the remaining responsibility of the supply of net base money falls on the shoulders of our elected officials who control fiscal policy.

If we think back to 2009, in the midst of a global financial crisis, the President and congress proposed a stimulus spending bill designed to jump start the US economy. While there is clearly some strong need for various infrastructure spending across the US, only about 3% of nearly a 1 trillion dollar stimulus bill ended up having been directed towards infrastructure improvements, that in many cases were badly needed. The reason is simply politics. Politicians when given reign over where and how to spend money will invariably repay favors to their friends and allocate resources poorly. This is not unique to the current administration or congress. It is simply a function of the fact that political altruism is either scarce or non-existent.

Additionally, the expansion of credit which is supposed to be managed by the Federal Reserve is not always managed very well. If credit increases at too rapid a pace, this to can be inflationary and hurt the purchasing power of the currency. In theory the Fed can raise reserve requirements to contract excessive credit. However, practically speaking...when a bank simply asks to borrow more money to meet those increased reserve requirements...the Fed rarely denies them. So in reality credit is only limited by the demand for borrowing, as the Fed has rarely denied a solvent bank new reserve lending.

The Dangers of Political Influence

One of the arguments for the role of gov’t to be limited to just essential services is not just the notion that they don’t deliver services efficiently or timely. But also the role of currency creation is a dangerous thing when not handled carefully. When politicians can essentially buy additional votes with promises of new entitlements to the masses, the decline in the value of a currency can and usually will occur. This impairs economic prosperity and destroys the purchasing power of the very people most in need who are receiving what amounts to empty political promises.

John Maynard Keynes proposed the need for countercyclical deficits, in which the gov’t should spend more money at a time of economic contraction, while decreasing deficits during periods of prosperity and economic expansion. While this seemingly makes sense, there is little to no evidence that politicians can be entrusted with this role. And in fact if fiscal policy is limited to spending money on only essential items, countercyclical deficits will invariably be the result as a function of organic changes in the marketplace, as was largely the case prior to the 1930s.

During periods of expansion, people spend more money because they are making more money. Their spending equals income…which equals increased tax revenue…which equals deficit reduction…which translates into contractionary forces on the monetary base.

During periods of contracting growth or recession, private spending will decline and cash may be hoarded out of fear, or the patience of a consumer/investor looking for prices to achieve absolute value and eventually reach an equilibrium. This cash hoarding means less spending…which equals less income…which means less tax revenue…which equals an increase to the deficit and the expansion of the monetary base.

It should also be noted that the supply of money available in circulation domestically can also be increased via foreign dollars entering the nation. However, this requires that exports exceed imports and the counter party nation is then forced to run a deficit creating net new money. This is yet another reason for the importance of productivity.

While I don’t disagree with the premise of a need for countercyclical deficits proposed by Keynes. I do disagree with the notion that the govt’s fiscal authorities should take an activist role in the control of when these deficits and surpluses will occur. Many would argue that the marketplace would not deliver the changes to the money supply in a timely enough manner to reduce volatility in the economic environment. However, gov't does not respond timely and efficiently to very many things, if anything at all. So why would we expect that policy makers whom are forced to digest vast amounts of information, and then deliberate in a politically influenced forum of ideas and suggestions for endless periods of time would be any more effective at instituting timely changes to policy. They are not likely to be more effective than the organic changes to supply and demand that is dictated by the consumer as they determine how and when they deploy their resources. It seems that when the gov't pursues a more activist role in fiscal policy, it always results in long anemic drawn out economic recoveries not unlike the one we are currently experiencing which began in 2009


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    • stanfrommarietta profile image

      stanfrommarietta 2 years ago

      LMW: "The bank reserves portion is what the banks must keep on deposit with the Federal Reserve or in vault cash. However, these reserves CAN’T and DON’T ever get lent out in circulation among the general public. The Fed loans these reserves to the bank, and the bank deposits them back with the Fed."

      Do I understand you correctly to say that the Fed creates the banks' reserves by lending them dollars the Fed creates?

      It has been my understanding that the banks' currency in their vaults and deposits are the initial basis for the reserves at the Fed. This is the "reserve balances" at the Fed. Additionally, Federal Law requires banks to maintain minimum reserves at the Fed. "Banks can always obtain reserve balances by sending currency to the Reserve Bank and can obtain currency by drawing on its reserve balance. ... Reserve balances and vault cash in banks, however are not counted as part of the money stock held by the public." (Modern Money Mechanics. By Federal Reserve Bank of Chicago.) That would duplicate the count so are not counted?

      But when a bank's reserves fall below its minimum required reserves, the bank must get money to restore its reserves to at least the minimum required. It can borrow that from other banks. Or failing that, it can borrow from the Fed, but that would not put the bank in a good light to the Fed if it came to that.

      Now, as banks create loans, the loans are listed as assets and liabilities of the bank. When the loan money is taken by the borrower from the loan deposited to its checking account, and spent into circulation, the withdrawal counts as a debit to the bank's reserves? So, in this way, by making loans banks reduce their bank reserves, and in theory could lend more than in their reserves, which wouldn't be prudent. The minimum bank reserves requirement constrains the bank from lending too much. (Canadian banks have no minimum reserves requirement). But it is not a hard and fast rule that banks will always check their reserve requirements before making a loan. If a good loan prospect comes along, regardless, the bank may make the loan, diminishing its reserves recorded at the Fed. It will then have to go looking for money to deposit to bring its reserves back up to the minimum required. It can borrow from other banks, or as I said above, as a last resort it may go to the Fed and borrow newly created money from the Fed to bring its reserves back up to the minimum. Only in cases like that does the Fed lend money to banks. The Fed will not refuse the loan because that would undermine capitalism to be so niggardly to prevent a bank from making a good loan.

      When the Fed buys securities from banks, it credits the banks' reserves--that is debt-free money, and it makes any money originally lent by the banks to the Treasury in return for the securities, debt free money. (That is, nobody is still owed for the money that originally floated the securities the Fed has now bought from the banks).

      To me that is an important point, because it means that ultimately the result is the same as if the Treasury had simply created the money and spent it instead of floated a security for it. And it can be regarded by the fungibility of money to be equivalent to the money created by the Fed and deposited by the Fed in the banks' reserves, which can be equated in turn to the money that was in the banks' reserves before the loan was made as a a part of buying the securities from the Treasury.

      The Fed will then later swap mature T securities with the Treasury for new securities, which the Fed will then sell to banks during inflations to drain their reserves and constrain their lending, which creates money (also out of thin air).

    • LandmarkWealth profile image
      Author

      LandmarkWealth 2 years ago from Melville NY

      Sorry for the late response…Yes…part of the creation of reserves is Fed lending newly created dollars. That is not the only mechanism. But this is part of the reason that the money supply has become endogenous. When the demand for credit increases…the banks may need to increase reserves in order to increase lending. If other mechanisms such as deficits are not a sufficient source of new reserve deposits…they can just ask the Fed for more reserves by borrowing money that the Fed creates. That is not the case at the moment, as QE has created an enormous amount of excess reserves. In theory, banks can be constrained by reserve requirements...such as an increase in requirements. But in the practical world…no solvent bank is ever denied new reserves by the Fed…hence the term endogenous money. The way the real banking world works is that the demand for credit dictates reserves…when it is supposed to be the opposite. This is part of the reason credit bubbles can happen so easily. If the reserve requirement were to double, the bank can just borrow twice as much.

      When a bank makes a loan it does not reduce their reserves…it just utilizes more of their maximum capacity as a multiple of reserves. The reserves are never lent out as part of the loan. The loan is spent and most often re-deposited back into the aggregate banking system. The only time the reserves go down from a new loan created is when the new dollar spent is converted to physical currency and not re-deposited back into the system somewhere. The fact that you carry an extra dollar in your pocket was a drain on the vault portion of reserves. If that dollar was withdrawn as a result of a chain of events that originated with a new loan, then the bank would have to increase reserves if they did not have excess reserves at the moment. So only in the situation where new loans lead to more cash withdrawals which are not re-deposited somewhere in the system does this lead to a drain on reserves. That is much less common since we as a society transact digital money far more common than physical currency. I am speaking about the banking system in aggregate. Obviously Bank “A” could create a loan which would then be deposited into bank “B”. But in general new lending does not lead to a decline in reserves. It only reduces future lending capacity without new reserves.

      Example…if the multiple of lending to reserves where 10-1, and a bank had $10 in reserves, they could lend $100. If they had outstanding loans of $80…and then you applied and where approved for a loan for $10…the total amount of outstanding loans is now $90. But the entire time the reserves were held at $10. Your new loan did not drain the reserves as it was within the banks capacity to lend. Should you have borrowed $50…the bank would have had to increase its reserves by $3 in order to make that loan and increase lending by $30 more than current capacity. That would have to come from either gov’t deficits…open market operations…or Fed Lending. Since the bank doesn’t control Federal deficits or open market activity…they would simply borrow more.

      The term looking for deposits to bring up reserves is a bit misleading. Deposits are most often created by the loan itself. So when thinking about the entire aggregate of the banking system, customer deposits may shift the reserves and lending capacity for of an individual bank. But the system as a whole cannot look for additional deposits other than that which comes from gov’t deficit spending or the FOMC’s open market operations. Those dollars are net dollars created by fiscal deficits that end up as new reserves. But bank created credit dollars are liabilities to the bank and do not add to the aggregate reserves. They are simply counterbalancing the asset of the loan on the balance sheet of the bank.

      You are correct that the buying of securities through open market operations to infuse net new money does increase reserves as debt free money. That is essentially what Quantitative Easing has been about for the last 5 years. Banks hold excess reserves as a product of this program coupled with fiscal deficits…and a lack of demand for credit consistent with the amount of reserves. Which demonstrates that creating reserves doesn’t necessarily create credit creation. In fact it is the opposite, as I mentioned above. My ultimate concern there is how effectively the Fed can drain reserves without a major economic disruption. Time will tell. Since this large scale QE is uncharted territory…I am not so confident.

    • bradmasterOCcal profile image

      bradmasterOCcal 2 years ago from Orange County California

      LMW

      I have two comment on this hub, and I think that you did a good job here.

      Notwithstanding that, I don't agree with SS and Medicare as Entitlements. This label is devoid of any real connection to these TAXES.

      The Democratic presidents, and democratic congress created these mandated taxes. They are Ponzi schemes in that they require more new people to tax. The tax has an implied benefit of retirement, and medical insurance, but the government democrats, and republicans didn't treat it as funds that would eventually pay out more than they would take in to offset it.

      The general trust fund access to these revenues is like a piggy bank for congress. Unlike the Federal Employee Retirement System the trust fund is hampered by not being free to invest the money with better investments. This is certainly an area that the government needs to understand math. They are the ones playing fast an loose with the funds.

      Mandating another tax called the ACA and steering money that would have been available for Medicare actually going to the ACA is just bad bookkeeping.

      --------------------

      My final comment is that even if all of those mechanisms about money, reserves, banking controls and the other devices used by the government in the money and credit system didn't help to even mitigate the effect of the economic collapse in 2008. And none of the economists that you mentioned in anther hub had any influence on the economic collapse or in trying to slow it down, or stop it before the collapse.

      My point is that while the federal government can't be run by the same goals as the private sector, the need to use math and adhere to its principles is still required for the government to function.

      Having the US borrow over then trillion dollars from China is not a sign of a fundtioning internal federal system.

      At the end of the day, the banks and the financial institutions must still ledger their bottom financial line.

      If the government regulates even a little bit, they own the problem and they can't pawn it off on others.

      The government has caused a problem with the SS and Medicare funds, and the congress tries to put the problem on the retirees, and the sick. If congress couldn't see the future in the SS and Medicare system negative revenue flow, then they are more than stupid. Another problem that they created is paying huge benefits and Defined Benefit Pensions for government workers. Public pensions have put many state and local governments on the road to bankruptcy, These are good things but they need to understand the math to make it work.

      There are at least two ways to balance the bottom line.

      1. Increase Revenue

      2. Decrease Spending

      3. A little of both.

      I know that you probably disagree, but the end result is still the same, the economy failed, and the government should have prevented it. You can't do that when all of congress is spending most of their time running for congressional seats, or the presidency, or trying to keep their seats in congress, and trying to help other members of their party. It is no wonder that congress, and the presidential candidates looked like deers in the headlights when the economic collapse happened shortly before the presidential election.

      Have a great weekend

    • LandmarkWealth profile image
      Author

      LandmarkWealth 2 years ago from Melville NY

      I agree that the Social Security trust fund should be a private account if we’re going to have a social security benefit at all. In general, I view both as a form of very unproductive spending. The gov’t has to create currency via deficits from time to time. But as the article references…I find programs like Medicare to be an extremely poor allocation of resources as it distorts prices and creates substantial market dislocations. I personally don’t believe that the gov’t should be charged with providing medical coverage. This could and was addressed much more efficiently in the private sector before the gov’t involved itself.

      None of the economist who predicted the 2008 crash could have done anything about it. They are not policy makers. And policy makers are not altruistic. I agree that the math is distorted. My point in this article is that deficits and surpluses should happen organically with changes in demand. Not based on policy driven attempts. Because policy is not drafted by altruistic politicians. The system that is designed is not what is flawed. It is the players who operate within the system. The reason we had the events of 2008 is because the gov’t was intervening in the market for decades. It is not the job of the Gov’t to “save the economy”. Gov't should not dictate outcomes. The gov’t needs to only create a framework of an enforceable legal system for us to operate within a competitive environment. And with that will come expansions and contractions. If you expect gov’t to save you…you’ll always be disappointed. I have no desire for the gov’t to “save the economy”. I want the gov’t to largely stay out of the private sector outside of a basic regulatory framework.

      China purchasing our debt in too large an amount is a concern and a positive at the same time. The concern about deficits is only in regard to their ratio in relation to GDP. And that has shrunk quite a bit in the last few years as a result of all the political grid lock. Which just demonstrates that when politicians do nothing, we’re better off. But by definition…we can’t have every country in the world run a budget surplus. That’s essentially impossible. Someone is going to run a trade deficit. That to should change based on nothing more than global competition, and not political influence. You can’t run a balanced budget in perpetuity at the Federal level. Think about the ratio for a moment. If you ran a 2% of GDP budget deficit, but the economy grew at 3.5%...you’re in the positive that year even though you had an annual budget deficit. Productivity grew faster than the increase in the currency supply and your currency would gain strength.

    • bradmasterOCcal profile image

      bradmasterOCcal 2 years ago from Orange County California

      LMW

      You wrote

      I agree that the Social Security trust fund should be a private account if we’re going to have a social security benefit at all. In general, I view both as a form of very unproductive spending. The gov’t has to create currency via deficits from time to time. But as the article references…I find programs like Medicare to be an extremely poor allocation of resources as it distorts prices and creates substantial market dislocations. I personally don’t believe that the gov’t should be charged with providing medical coverage. This could and was addressed much more efficiently in the private sector before the gov’t involved itself.

      bmOC

      I agree with all of that. And the Congress should own up to these debts as theirs and then not the people.

      -----------------------------------------------------------------------

      You wrote

      None of the economist who predicted the 2008 crash could have done anything about it. They are not policy makers. And policy makers are not altruistic. I agree that the math is distorted. My point in this article is that deficits and surpluses should happen organically with changes in demand. Not based on policy driven attempts. Because policy is not drafted by altruistic politicians. The system that is designed is not what is flawed. It is the players who operate within the system. The reason we had the events of 2008 is because the gov’t was intervening in the market for decades. It is not the job of the Gov’t to “save the economy”. Gov't should not dictate outcomes. The gov’t needs to only create a framework of an enforceable legal system for us to operate within a competitive environment. And with that will come expansions and contractions. If you expect gov’t to save you…you’ll always be disappointed. I have no desire for the gov’t to “save the economy”. I want the gov’t to largely stay out of the private sector outside of a basic regulatory framework.

      bmOC

      I agree with the spirit of your comment. I also think that government taxation of anything and everything is one of the biggest intrusions into the private sector that adversely affects the economy, and distorts prudent management of business. The basic ecoomic theory of Adam Smith works, but not when the government taxes, regulates and otherwise distorts the simplicity of the Smith theory.

      Monopolies only favor the company maximizing their profits through control of supply and demand, while it is the worst for the consumer. The choices for the consumer are less, and the prices are controlled by the company.

      Super Conglomerates like AIG wouldn't have existed, and that would have lessened their impact on the economy in 2008.

      In Japan they are called Kiretsu, they are a system of diverse companies controlled at the top with names such as Sony, Toshiba etc., all the way done to the mom and pop businesses that bend over backwards to be taken advantage of by the Kiretsu.

      SuperConglomerates become too powerful for the government to control. Even before them, a company like IBM was too powerful to be sued by the government. When it was tries, IBM kept the government so busy with paperwork that the government couldn't keep up with them.

      When a company can challenge the resources of the government that the government is the underdogy, then there is something wrong with that system.

      ------------------------------

      You wrote

      China purchasing our debt in too large an amount is a concern and a positive at the same time. The concern about deficits is only in regard to their ratio in relation to GDP. And that has shrunk quite a bit in the last few years as a result of all the political grid lock. Which just demonstrates that when politicians do nothing, we’re better off.

      bmOC

      That is so true, and it would also apply to the Ca state legislature.

      ----------------------------------

      But by definition…we can’t have every country in the world run a budget surplus. That’s essentially impossible. Someone is going to run a trade deficit. That to should change based on nothing more than global competition, and not political influence. You can’t run a balanced budget in perpetuity at the Federal level. Think about the ratio for a moment. If you ran a 2% of GDP budget deficit, but the economy grew at 3.5%...you’re in the positive that year even though you had an annual budget deficit. Productivity grew faster than the increase in the currency supply and your currency would gain strength.

      bmOC

      That may be true, but you also shouldn't run the federal budget without bounds, such as the democrats with using a no limits deficit spending. It defeats the purpose of even having a budget. The purpose of a budget is to try to allocate spending. Yes, there are unknowns that federal government has to deal with from time to time, but make that the exception and not apply to the general management of the budget.

      Today, the ports of the US are filled with products from China, and they containers leaving the US are not filled as they should be filled. Trade deficit is economics, and politics, but they shouldn't put China which wants to surpass us as a super power into the driver's seat.

      We have finally gotten control of the energy arena, and it is cause world wide economic panic, especially in Russia. boo hoo.

      We could have done this decades ago, and maybe things in the world would have settled down by now.

      As for the economists that can affect policy, as you say they were non existent in 2003 to 2008. Economics to me is like psychology, everyone has a theory but successes seem to be an accident.

      ------------

      Thanks for the information exchange.

      I look at these issues on the macro level and you also provide the micro level so I can possibly change my view based on the actual mechanisms that are in play.

      Have a great weekend

    • LandmarkWealth profile image
      Author

      LandmarkWealth 2 years ago from Melville NY

      Gov’t must tax and regulate to a degree. It is just that gov’t needs to tax and regulate ONLY for essential services that can be provided for privately. NEVER to regulate and tax to dictate specific outcomes. And yes…gov’t intrusion is one of the single biggest reason for monopolies. A common misconception is that big multinational companies are always fighting tougher regulations. In my experience…it’s the opposite. They want the stiff regulatory environment because they know small entities can’t compete with them in that environment. That does not mean I don’t want to have large multinationals either. They serve an important role because they can sometimes meet demand that could not be met by the mom and pop shops. If we had to depend on local hardware stores after hurricane sandy and didn’t have Home Depot & Lowe’s…we’d be in trouble. We just should not have them created as a result of gov’t intrusion. No argument there.

      I am not too worried about China passing us. If China and India were to fully embrace free markets…which I still doubt will happen…based on pure demographics…they will surpass us. That is the nature of a competitive market.

      I didn’t say economist were non-existent in 2003-2008. There were countless economists who correctly warned of the concerns we were facing. They just don’t necessarily hold the cards of influence. For the record…the smartest economic minds in my opinion are not the pure academics…but instead the guys who have to run money and put money where their mouth is. I will take Jeff Gundlach over most of the career academics.

    • bradmasterOCcal profile image

      bradmasterOCcal 2 years ago from Orange County California

      LMW

      you wrote

      Gov’t must tax and regulate to a degree. It is just that gov’t needs to tax and regulate ONLY for essential services that can be provided for privately. NEVER to regulate and tax to dictate specific outcomes. And yes…gov’t intrusion is one of the single biggest reason for monopolies. A common misconception is that big multinational companies are always fighting tougher regulations. In my experience…it’s the opposite. They want the stiff regulatory environment because they know small entities can’t compete with them in that environment. That does not mean I don’t want to have large multinationals either. They serve an important role because they can sometimes meet demand that could not be met by the mom and pop shops. If we had to depend on local hardware stores after hurricane sandy and didn’t have Home Depot & Lowe’s…we’d be in trouble. We just should not have them created as a result of gov’t intrusion. No argument there.

      bmOC

      I was with you until the mom and pop statements.

      First Home Depot, and Lowes are not super conglomerates, or even monopolies, and Lowes has been on the verge of bankruptcy for years.

      This country was built on mom and pop stores that grew into chain stores, and many even became national. We also benefited from startup companies that grew.

      My point is that when they grow to the point that they are the single point for an industry, that is economically unsound for the consumer. Even the defense industry has whittled down to a mighty few, as did the airline industry.

      -------------------

      I am not too worried about China passing us. If China and India were to fully embrace free markets…which I still doubt will happen…based on pure demographics…they will surpass us. That is the nature of a competitive market.

      bmOC

      What is not the nature of this competitive market is that China is a Super Military Power, and they have many of the rare elements that we need for defense, and computer components. Remember, Japan went to war because they were running out of the resources that they needed, so we might be put into a similar situation.

      ---------------------

      you wrote

      I didn’t say economist were non-existent in 2003-2008. There were countless economists who correctly warned of the concerns we were facing. They just don’t necessarily hold the cards of influence. For the record…the smartest economic minds in my opinion are not the pure academics…but instead the guys who have to run money and put money where their mouth is. I will take Jeff Gundlach over most of the career academics.

      bmOC

      I agree. Economics is a soft science, compared to physics for example. Economists have differing theories on how to run the economy, but as you say we have to rely on those in the sphere of influence.

      Economics is much like cooking and baking as they need the right recipe, and then a skilled master to mix and cook the ingredients. Wotj baking and cooking we know the result immediately, but it takes a while with economics because everything keeps changing.

    • LandmarkWealth profile image
      Author

      LandmarkWealth 2 years ago from Melville NY

      This country was not built by mom and pop shops. It was built by both large conglomerates and mom & pop shops competing against each other. The Ford model T was not built in a mom and pop shop. The key is competition. You’re correct about that. Local hardware stores can’t meet the demand in certain environments that can be met by Lowe’s or Home Depot. Whether one is going bankrupt isn’t really relevant. What is relevant is that there is a role for both classes of entities. And they are both needed. When I want certain help that is a bit more personalized…I can go to the local Ace Hardware chain which is owned by a local business franchise. When I have a bulk order that they can’t meet in house I can go to Home Depot.

      China is a long way from the technological capability of the US whether military or otherwise. They steal most of the technology from us because they have trouble making it themselves. An engineer a few years ago told me this in relation to the comparison. The difference between the US engineer and the Chinese engineer is that when there is a problem…the Chinese engineer will go back to the textbook and fix the problem. When the answer is not in the text book…they’re screwed. When the answer is not in the textbook…the US engineer will rewrite the textbook.

      Economist are generally gathering data an observing to formulate theories. They too often take too long on too many details and do at times lose sight of practicality. Which is why I tend to put more weight in the opinions of professional money managers who are held to account daily for their economic calls. When Gundlach gets a call incredibly wrong…his firm will lose billions. When Krugman gets it wrong…he just writes another paper. People who run money use the data that economist collect and report on more efficiently. But the principals in economic theory aren’t really changing that much. There are a few core theories such as the Monetarist, Keynesian, Austrian School etc…and there is a lot of overlapping consensus among them.

    • bradmasterOCcal profile image

      bradmasterOCcal 2 years ago from Orange County California

      LMW

      The relevance for Lowe's near bankruptcy is that consumers lose their choice, and without competition Home Depot can set their prices. The thing that the local hardwar stores provide is catering to the needs of the area. Their sales people know what these neighborhood needs.

      -------------------

      In Northern California there are many Chinese, Japanese and Korean Engineers, and they make the products that have filled our homes, and supplied are vehicles since the 1980s.

      China does a lot of copying, and then sells it to us cheaper than we could do it. So unless, the US engineer is working with government money, the rest of us will be buying the products from China.

      And China has our scarcest raw materials without which the US Engineer can't make the product.

      -------------------------

      How many money managers got through 2008 compared to how many didn't make it through. I do agree that street level is where the real economics is tested. And maybe over time the lessons learned on the street make it into a better more pragmatic theory.

      I think that are viewpoints differ because you are looking at the machine in action, and I am just looking at the results. I don't care about the machine to make a determination of whether it is bad or good, the results make that determination.

      -------------------------------------------

      Thanks

    • LandmarkWealth profile image
      Author

      LandmarkWealth 2 years ago from Melville NY

      Bankruptcy is part of creative destruction. There is a certain amount of aggregate demand. A Lowe’s bankruptcy would not necessarily imply lack of competition. It can mean multiple stores if not more stores competing for that total aggregate demand. There can be five new chains that open to meet that demand. The only time this is a concern is when the gov’t is influencing the outcome via public policy that distorts market mechanisms. Otherwise success and failure are a normal part of the business cycle.

      I was not talking about engineers in terms of ethnicity…I was talking about the nations they operate in. The Chinese nation does not have a true free market yet that foster the type of creativity produced in the US. Obviously a Chinese person can accomplish anything in the US.

      Almost all money managers made it thru 2008. People mistake many things when looking at money management. They presume that if a fund manager lost 30% in 2008 that he didn’t see the crash coming. They fail to understand that in the world of retail investing…the fund manager must remain 90% or more invested and is not permitted to raise cash even if he wants to. The exception is the alternative asset class which took on about 1/3rd the volatility because they did see it coming and where permitted to hedge the risk away.

      The machine is not broken…only some of the parts…Aka…politicians intervening in markets.

    • bradmasterOCcal profile image

      bradmasterOCcal 2 years ago from Orange County California

      LMW

      you wrote

      Bankruptcy is part of creative destruction. There is a certain amount of aggregate demand. A Lowe’s bankruptcy would not necessarily imply lack of competition. It can mean multiple stores if not more stores competing for that total aggregate demand. There can be five new chains that open to meet that demand. The only time this is a concern is when the gov’t is influencing the outcome via public policy that distorts market mechanisms. Otherwise success and failure are a normal part of the business cycle.

      bmOC

      I would have to respectfully disagree. There are no chains that can compete with Home Depot, including Lowes. So the agregate demand would be taken up by Home Depot.

      This has happened with department stores, and even malls. A handful of companies control the entire country. At one time going across the country from CA to NY, you would find local stores, but today they have been acquired by national chains.

      I agree that government involvement makes things worse, but competition is the basis of supply and demand. Without it there is no reason factor demand as it has been consolidated when there is little competititon.

      -------------------

      you wrote

      I was not talking about engineers in terms of ethnicity…I was talking about the nations they operate in. The Chinese nation does not have a true free market yet that foster the type of creativity produced in the US. Obviously a Chinese person can accomplish anything in the US.

      bmOC

      China doesn't need a free market, they already have the market that we lost. Our engineers don't build the products that they design, but China, Japan, Korea, and the many countries that even these three countries outsource to, do build the products. We used to do that, but not much anymore, as we have turned into a service rather than manufacturing country.

      ----------------------

      you wrote

      Almost all money managers made it thru 2008. People mistake many things when looking at money management. They presume that if a fund manager lost 30% in 2008 that he didn’t see the crash coming. They fail to understand that in the world of retail investing…the fund manager must remain 90% or more invested and is not permitted to raise cash even if he wants to. The exception is the alternative asset class which took on about 1/3rd the volatility because they did see it coming and where permitted to hedge the risk away.

      bmOC

      That didn't help the millions of people that lost heavily on their 401ks. Once again the results trump the machine.

      If your car doesn't run, or runs poorly, you don't have to be a certified mechanic to say that the maintenance program didn't help.

    • LandmarkWealth profile image
      Author

      LandmarkWealth 2 years ago from Melville NY

      Lowes competes with Home Depot every day. In fact I greatly prefer them to Home Depot. And there are chains that are yet to be created that will meet the demand. Before there was Home Depot there was Rickel, Pergament, & Channel. Today we have Lowes, Home Depot & Ace. Entities are created and destroyed all the time. If Home Depot was the only company left...quality would go down due to lack of competition which would make room for venture capital to create a new entity to meet the demand for better quality. We see this in every field. Today everyone wants to buy sporting goods at Dick’s sporting goods stores. 15 years ago it was the Sport Authority who was leading the way. It’s all part of the normal business cycle. Competition is inevitable when the gov’t leaves markets alone.

      Many of these national chains you see are small business. They are often franchises where the local business owner simply pays an override for use of the name. Ever have a sandwich at Subway ??? They’re all small business owned. There are over 900k franchise’s in the US today…all owned and operated by small business. Each one of those 900k has 100’s if not 1000’s of outlets with different owners.

      China most certainly needs a free market, or the economics don’t last long. Once they deplete their excess reserves in the next 2 decades they’ll need other market forces for capital formation. They seem to know that and are moving more and more towards competitive markets. But they have a way to go. I don’t know why people keep making this statement…but the manufacturing base in the US is still extremely strong. We outsource more menial labor work. That is not such a bad thing. When the Chinese make an article of clothing for less money…the US worker pays less for it and has more discretionary dollars to spend elsewhere. You can’t on one hand want competition, but then complain when you’re out competed. Economics is global…and doesn’t operate only in the silo of the USA. Besides, low skilled overseas unemployment has not been what is effecting the US to any significant degree. The vast majority of growth in our trade deficit since the 1980’s has been in the energy sector…and that is rapidly changing thanks to the exploration in the Bakken. A huge percentage of job losses is due to productivity improvements and automation. We have a labor force that doesn’t have the appropriate skills to meet the demand by employers. There is a total mismatch causing huge structural unemployment.

      “That didn't help the millions of people that lost heavily on their 401ks. Once again the results trump the machine.

      If your car doesn't run, or runs poorly, you don't have to be a certified mechanic to say that the maintenance program didn't help.”

      You also wouldn’t logically blame your coffee machine for the fact that your car wasn’t running correct. You’re citing unrelated issues.

    • bradmasterOCcal profile image

      bradmasterOCcal 2 years ago from Orange County California

      LMW

      you wrote

      Lowes competes with Home Depot every day. In fact I greatly prefer them to Home Depot. And there are chains that are yet to be created that will meet the demand. Before there was Home Depot there was Rickel, Pergament,

      bmOC

      These were regional, and not found in CA. I liked Pergament, the one on Levittown. There were similar regionals here in CA, but they are all gone, and Home Depot and Lowes are national. Lowes may be your preference, but they are not doing as well as Home Depot.

      I don't see anyone on the economic horizon that can compete with Home Depot.

      --------------------------------

      you wrote

      & Channel. Today we have Lowes, Home Depot & Ace. Entities are created and destroyed all the time. If Home Depot was the only company left...quality would go down due to lack of competition which would make room for venture capital to create a new entity to meet the demand for better quality. We see this in every field. Today everyone wants to buy sporting goods at Dick’s sporting goods stores. 15 years ago it was the Sport Authority who was leading the way. It’s all part of the normal business cycle. Competition is inevitable when the gov’t leaves markets alone.

      bmOC

      It is not the same, when the company that goes out of business, or is acquired by a conglomerate, as when regional companies get replaced.

      I believe that King Kullen which was local to the area, got edged out by bigger regional, and national chains.

      My point is that a conglomerate has the edge, and it can keep competition at bay.

      -----------------------

      you wrote

      Many of these national chains you see are small business. They are often franchises where the local business owner simply pays an override for use of the name. Ever have a sandwich at Subway ??? They’re all small business owned. There are over 900k franchise’s in the US today…all owned and operated by small business. Each one of those 900k has 100’s if not 1000’s of outlets with different owners.

      bmOC

      McDonald's, and Burger King are franchises as well, but as an entity they are a conglomerate through product branding. No one has gone above MeDonalds or Coca-Cola.

      There is a major difference between a small business, and a franchise of a conglomerate.

      ---------------------------

      you wrote

      China most certainly needs a free market, or the economics don’t last long. Once they deplete their excess reserves in the next 2 decades they’ll need other market forces for capital formation. They seem to know that and are moving more and more towards competitive markets. But they have a way to go. I don’t know why people keep making this statement…but the manufacturing base in the US is still extremely strong.

      bmOC

      They keep saying it because it is true.

      This is especially true in technology. We don't have steel plants like those that existed in the 1950s. Try an find an American Manufactured electronic or computer device in the US.

      As for passenger airplanes, Boeing has acquired all the US competitors and those companies resided in states other than Washington. California used to be the place, but now those jobs are gone up north.

      What manufacturing are you referring to here?

      --------------------------

      you wrote

      We outsource more menial labor work. That is not such a bad thing. When the Chinese make an article of clothing for less money…the US worker pays less for it and has more discretionary dollars to spend elsewhere. You can’t on one hand want competition, but then complain when you’re out competed.

      bmOC

      While that is partially true, the impact is that many American workers lost jobs to them, and they have no income to purchase products. And the only menial jobs that exist are those in companies that have strong unions. Take Detroit, no one else will.

      ------------------------

      You wrote

      Economics is global…and doesn’t operate only in the silo of the USA. Besides, low skilled overseas unemployment has not been what is effecting the US to any significant degree. The vast majority of growth in our trade deficit since the 1980’s has been in the energy sector…and that is rapidly changing thanks to the exploration in the Bakken. A huge percentage of job losses is due to productivity improvements and automation. We have a labor force that doesn’t have the appropriate skills to meet the demand by employers. There is a total mismatch causing huge structural unemployment.

      bmOC

      So you don't think that mergers, acquisitions, outsourcing, and the globalization through super conglomerates is the basic cause of this mismatch.

      The reason that the energy sector in the US is behind the rest of the world is due to our higher environmental standards. Products can be produced in other countries, that can be produced here because it violates the environment laws.

      Environmental laws in the US prevent much of the energy solutions from being implemented here. The US can't even modernize their rail system, while China has the most extensive high speed rail system in the world. The US has one pathetic 125 mile per hour track sharing train, not surprisingly servicing Washington DC. Politically engineered for the politicians, not the people.

      ----------------------

      you wrote

      “That didn't help the millions of people that lost heavily on their 401ks. Once again the results trump the machine.

      If your car doesn't run, or runs poorly, you don't have to be a certified mechanic to say that the maintenance program didn't help.”

      You also wouldn’t logically blame your coffee machine for the fact that your car wasn’t running correct. You’re citing unrelated issues.

      bmOC

      You missed the point here.

    • LandmarkWealth profile image
      Author

      LandmarkWealth 2 years ago from Melville NY

      That’s not true…there other chains…like Menards which is regional. If you live in LA you can go Hioutlet. And a large number of the Ace’s are individually owned. You have no idea what is on the horizon because competitors pop up overnight with venture capital. I used sports authority as an example before. They were totally non-existent until some private equity money financed the idea. The same can happen in any industry.

      King Kullen still exists and is less than 2 minutes from my house. Shoprite is local to NJ and Key Food is still local in Queens. Stop & Shop has failed to stop them. Conglomerates don’t have an implied edge unless they work in a very overly heavily regulated industry.

      Who care if Mcdonald’s is a global conglomerate…the owner is a small business owner in many cases who is the one benefiting as much as anyone in a non-franchise business. The franchise is about brand recognition and a built in process and model. It’s still a small business. And yes…they have competitors as well. Checkers…Five Guys etc. Five Guys is popping up on every corner. And they’re better than McDonalds.

      They keep saying it because they don’t understand economics.

      http://www.voxeu.org/article/us-manufacturing-base...

      You need to update your data. Try finding a Japanese car driven by an American that was actually made by a Japanese worker. Try finding a cheaper plastics manufacturer than those in the US. In Virginia Beach they’re booming with jobs in fabricated metals, aerospace & autos. Manufacturing has multiple layers in the supply chain. The menial labor jobs can’t assemble something unless the intellectual capital designs it first. That mostly happens in the US. The manufacturing sector has been growing very well in recent years. It’s just regional because a number of states are simply unfriendly towards business, and others are doing quite well.

      http://www.bloomberg.com/news/2014-09-02/manufactu...

      “the impact is that many American workers lost jobs to them, and they have no income to purchase products. And the only menial jobs that exist are those in companies that have strong unions.”

      Then they need to improve their skill set to meet the demand for the 2 million openings that go unfilled in the labor market. Unless we should pay people to take a job they are totally unqualified for.

      “So you don't think that mergers, acquisitions, outsourcing, and the globalization through super conglomerates is the basic cause of this mismatch”

      Not in the least. Globalization creates competition. Either you want competition…or you don’t. I can by a DVD Player for a fraction of the cost of a VCR 35 years ago without even adjusting for inflation. That is the same as a pay increase for me. Companies merge…and they also spin off divisions and create new companies. Mergers create synergy and efficiency. That creates growth…which creates more opportunity…not less. A merger also create room for more venture capital to be deployed. It’s just more opportunity in higher skilled work. Unfortunately, we have too many unskilled people waiting for someone to give them something rather than improve their skill set and meet the demand of the market.

      I didn’t miss the point. Blaming economist or money managers for bad policy that disrupted the markets is the same as pointing to the coffee machine and saying it caused your car to break down. The blame is on Washington DC…no place else.

    • LandmarkWealth profile image
      Author

      LandmarkWealth 2 years ago from Melville NY

      Look at the financial services industry. Even with all the mergers/consolidation and the heavy handed regulation that makes it harder for the smaller firm to compete...they still employ more people...not less. There are periods of economic recession that trigger layoffs. But the mergers don't cause less job growth over time. Every time I turn around there is a new bank being started. The aggregate demand must still be met in any industry...and to do that you need a certain amount of human capital regardless of it's one company or three. The merger only hurts cost and service to the consumer if you achieve monopoly or oligopoly. And the heavy hand of too much regulation is typically the cause of that.

    • bradmasterOCcal profile image

      bradmasterOCcal 2 years ago from Orange County California

      I just lost an hour writing my comment, and it is gone.

      So I will not do it again.

      My comment is that you missed the points.

    • stanfrommarietta profile image

      stanfrommarietta 2 years ago

      LandmarkWealth: "One of the arguments for the role of gov’t to be limited to just essential services is not just the notion that they don’t deliver services efficiently or timely. But also the role of currency creation is a dangerous thing when not handled carefully. When politicians can essentially buy additional votes with promises of new entitlements to the masses, the decline in the value of a currency can and usually will occur. This impairs economic prosperity and destroys the purchasing power of the very people most in need who are receiving what amounts to empty political promises."

      But what about superrichs' buying votes to get things they want? That leads to things like deregulating derivatives, default swaps, CDO's in budget bills. Those will be hugely destablizing and can lead to confiscation of people's pensions,

      and deposits when a superbank dealing in these fails. They call it 'bail in' instead of 'bail out'. The International Bank of Settlements is recommending central banks all over the world use this procedure to pay back the obligations of derivatives and default swaps when the banks have insufficient funds to cover them. It's what was done in Cyprus when their banks failed. Right now derivatives and default swaps get first priority to the assets of the bank in a bank failure. The scale of a major bank failure would swamp the FDIC's attempt to cover the losses of depositors, and bail ins would result. Moral hazard abounds if the Congress has to come to their resecue.

    • stanfrommarietta profile image

      stanfrommarietta 2 years ago

      The author said: "John Maynard Keynes proposed the need for countercyclical deficits, in which the gov’t should spend more money at a time of economic contraction, while decreasing deficits during periods of prosperity and economic expansion. While this seemingly makes sense, there is little to no evidence that politicians can be entrusted with this role. And in fact if fiscal policy is limited to spending money on only essential items, countercyclical deficits will invariably be the result as a function of organic changes in the marketplace, as was largely the case prior to the 1930s".

      But what you are saying distrusts democracy itself. And the buying of votes seems more a problem than the demand for more entitlements (which are paid for from taxes and the incomes of citizens).

      The problem is that democracy can't function when super wealthy individuals can spend billions on elections to get their way with the politicians, when super wealthy pander to the masses with lies and distortions to get them to vote their way. Congress is not truly debating and deliberating now when politicians cannot be independent and rely on facts not insinuations. But that doesn't have to be. We had nearly 200 years with periods of prosperity because people eventually saw reality and dealt with realities.

      I like your account about banks and deficits. It is close to views I am acquiring as I learn more about how the banking system actually works. But I depart from some of your views when you think it would be better to privatize social security and regard social security as distorting the economy. Social security was never intended to be a complete pension plan; it was a safety net. And the funds held by the Social Security Trust will not be paid out all at once. So it will take some time before that is exhausted. If we could get the economy back into prosperity, we could afford to raise SS taxes to pay for benefits of the baby boomers.

    • LandmarkWealth profile image
      Author

      LandmarkWealth 2 years ago from Melville NY

      @ Stanfromarrietta,

      Stan, whether it’s a rich person buying a politician or a labor union buying favor, the point is the same. The markets function better when the gov’t largely stays out of the market and provides only a framework of a functioning legal system with enforceable contracts. The problem was the derivatives market was less about a lack of regulation and more about the gov’t influencing the market via social engineering. People’s pensions don’t get confiscated because of volatility in the derivative market. Pensions to the extent that they exist are segregated assets. The issue with them is more often underfunding. When a company goes out of business, the asset are either distributed by the employee’s commuted value…or it’s paid out in normal installments based on the funding level. Because a number of pensions have been underfunded…the PBGC is often called in to cover a part of that gap. In general… this is becoming a non-issue since the use of defined benefits are not actuarially feasible anymore. So all plans will soon be defined contribution plans where 100% of an employer and employee’s contribution is in a segregated account totally inaccessible to creditors. And those people who still want a pension when they retire can privately annuitize 100% of their defined contribution plan…with a 100% guarantee regardless of bankruptcy. Although that is rarely advisable.

      Major bank failures come from panic’s created by a public that has a total lack of knowledge of the banking system. As referenced above…the deposit is created by the debt issuance. So there is always counterbalancing liability to offset the credit. If a debt instrument is issued to create a dollar…that dollar will end up somewhere in the banking system. If a bank is short on reserves, they borrow from each other using the overnight lending rate. But the dollar created doesn’t disappear…it is somewhere in the banking system until the debt is satisfied. So the banking system in aggregate always has the money to satisfy the debt. It just moves from one bank to another. The only way the deposit in the bank disappears is when the debt is paid off…not defaulted on. The exception is when people in mass numbers begin to withdraw deposits in physical cash. Also known as a “run on the banking system”. When bank deposits are converted to physical cash…banks must then increase their reserves for each dollar withdrawn. If this happens in large numbers, then there are theoretically not enough reserves to borrow from each other. So then reserves need to be increased. This happens various ways as referenced above. Deficits…QE…etc. This was the essential fear that the Fed had in 2008. A misinformed public would pull cash from the bank’s creating a self-fulfilling prophecy. That’s why the most healthy banks were still forced to take bailout money. Because they didn’t want to single out any one bank. But the issuance of debt is how we get the currency in the system. Without it…the money supply would collapse. So the fears about derivatives or any other debt is way overblown. There is always a counterparty to the transaction. Banks fail…when people in large numbers withdraw deposits. The argument that swaps are problem is a weak one by people who don’t seem to understand the role they play. In fact they are quite necessary. Attached is a working paper published by the National Bureau of Economic Research which explains in fairly basic terms why this is not the case. http://www.nber.org/papers/w15384.pdf

      That being said, there is a risk if too much of the banking system is concentrated in too few banks. Unfortunately, as per my original point…the heavy hand of regulation…such as Dodd-Frank has made it virtually impossible for smaller banks to compete with large multinationals. So once again…gov’t intrusion is creating more of a monopoly, and producing the exact opposite effect of which they claim to be setting out to reverse.

    • LandmarkWealth profile image
      Author

      LandmarkWealth 2 years ago from Melville NY

      @ Stanfromarrietta,

      “But what you are saying distrusts democracy itself. And the buying of votes seems more a problem than the demand for more entitlements (which are paid for from taxes and the incomes of citizens)”

      The demand for entitlements…is the buying of votes. Politicians promise things to one person which must be paid for by another…in return for votes. Entitlements consume an increasing share of the Federal budget. In the next 10 years they will explode based on pure demographics if changes are not made. It is one of the least productive forms of Gov’t created deficits…and undermines the value of the currency. As far as distrusting democracy…I am saying no such thing. If people are foolish enough to vote for a larger and larger entitlement state…they are free to do so. But they reap what they sow. Eventually, you end up with structural problems that cannot be solved by monetary policy. And you’re forced to take extreme measures, not unlike the problems Europe currently faces.

      I am not sure which lies are being told by the super wealthy…but for every dollar of influence by a wealthy business man…there is a corresponding dollar spent by labor unions and other supposed pro-worker groups. No matter what…billions will be spent on elections. If we took away the ability to make campaign contributions…who pays for the political campaigns. Let’s assume that a gov’t fund allocated those dollars. And who do you think would get awarded the funding…you ??? Either politicians will take in campaign contributions form donors. Or the political class will directly control the purse strings out of a gov’t fund and further insulate themselves. Giving the gov’t a fund to allocate political contributions is about as foolish as we could be. Out of the frying pan…and into the fire. I for one have no concern about people making political contributions. For every point of few there is a wealthy person and or group willing to fund the cause…and it balances it out. The fact that politicians don’t deal with fiscal reality is true. But I attribute that to the fact that entire world operates under a fiat currency system. That is what should change. The fact that money is essentially endogenous is the problem.

      I agree that SS was never intended to be a pension plan. Too many people expect it to be something they can depend on solely for their retirement. There are no funds in the SS trust fund. It hold only intra-governmental debt. All SS liabilities are met by the general tax fund. This has been the case since the LBJ administration. I personally don’t think we should have a SS system to begin with. But if we are going to have a safety net…then that safety net should actually provide safety. Privatizing it would actually allow for things like survivor benefits for spouses and various other benefits. Additionally, it would put money paid into the system more directly to work in the US economy rather than allowing DC control over the funds for things we don’t need.

    • stanfrommarietta profile image

      stanfrommarietta 2 years ago

      Would you like to see a return to the Treasury issuing US Treasury Notes instead of borrowing from banks for deficit spending? I think it really doesn't matter. The roll-over scheme which has operated for 200 years still works. It's the private banks' loans that create debt to citizens. And the Fed from time to time will step in and buy up a lot of those securities because it needs them for OM operations to deal with inflation by selling them. It has already done so for the stimulus deficit spending of 2009. And a lot of other portions of the debt for deficit spending has probably been redeemed in QE as well as far as government owing the banks for the deficit spending money goes.

      Have you reviewed the Preamble to the Constitution? Look at all the reasons cited there for the form of government we have. Among them are provide for the defense and promote the general welfare. If you believe all interventions by govt are dysfunctional, you essentially do not believe in the democratic process and take a cynical view of govt.

      On the government series securities held by the SS fund. The Treasury could replenish those at any time by just borrowing money like it does for deficit spending and buying them back. By that I mean issue securities for the banks to buy to acquire the money for the government series securities. And it doesn't require the Treasury to buy them all up at once but as needed, so that the money dribbles into the economy rather than in a single gush. The Fed can buy the marketable securities issued for the money to buy up the T-securities for buying the SS govt series securities. That would totally cancel that debt of the govt to the banks. Or Treasury could just do the roll-over process over and over forever, so the debt on these securities also is not really a debt because it is never to be paid.

      And your negative views of social security may reflect your personal bias toward eliminating competition as a financial planner, selling investments in the private sector. You'd like to get your hands on the money taxpayers pay for SS and collect commissions on sales of investment instruments, no?

      I don't think the stock market is a safe floor for retirement. It is for the upper floors.

      BTW, you're not saying are you that SS does not provide survivor benefits to spouses? I thought they did.

      I think the problems could be solved if we grew the economy like China did its. Once enough money is flowing people can save more. Didn't you say that investment, govt spending creates savings as money circulates around and each individual takes a portion of the money that comes his/her way and saves rather than spending it.

      BTW have you read that little book by Frank N. Newman on

      Six Myths that are holding back America. Newman was a Deputy Secretary of the Treasury under Clinton, and has been a CEO and CFO of banks like Bank of America (I'm trying to take this from memory) and several other large banks. He also joined a group of investors who bought up a failing bank in China, which they turned around to profitability. But I think they did it to get an understanding of how the Chinese monetary and banking system works. They have fiat money.

      And they have done very well to grow their economy at a fantastic rate. Newman runs an advisory firm for investors in Asia out of Hong Kong.

      I'm concerned that if we don't in Congress get people there who know how to manage fiat money properly rather than wanting to go back to commodity based money, we will go down the tubes like Europe is with its Euro which is basically deflationary.

    • LandmarkWealth profile image
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      LandmarkWealth 2 years ago from Melville NY

      I would prefer to see the dollar convertible into a basket of commodities. Gold as a stand alone asset is not a practical monetary standard. But linking currency to a broad basket of commodities links the creation of currency to economic activity and imposes fiscal discipline without too much restraint.

      I don’t know what you mean by “And a lot of other portions of the debt for deficit spending has probably been redeemed in QE as well as far as government owing the banks for the deficit spending money goes”

      QE just creates more reserves in the banking system by buying the debt issued by the treasury. It’s just the Fed buying debt to suppress rates and increase reserve. Nothing is really redeemed because as an issue matures…there is more debt being issued then redeemed. That’s what expands the reserves.

      I didn’t say all interventions…I said intervening in markets to do things that can be provided for privately. I believe in Life, Liberty and the PURSUIT of happiness. I don’t believe in the gov’t intervening to socially engineer economic outcomes. That never works well. However, as I said…I do believe in our democratically elected republic. And you get the gov’t you vote for. If you want socially engineering…you’ll get it. But then you must live with the consequences of your vote.

      “On the government series securities held by the SS fund. The Treasury could replenish those at any time by just borrowing money like it does for deficit spending and buying them back.”

      “so the debt on these securities also is not really a debt because it is never to be paid”

      None of the US gov’t debt is to ever actually be paid back. The debt will grow and rollover in perpetuity to constantly expand the monetary base. The government can theoretically simply spend money to fund SS and any other liability without ever issuing any debt at all if they wanted to. The ability to create currency to pay for liabilities is infinite in a fiat currency. Treasuries are technically not even required. They are a holdover from the gold standard. However, that is itself the problem. The ability to debase the currency is also infinite.

      “And your negative views of social security may reflect your personal bias toward eliminating competition as a financial planner, selling investments in the private sector”

      Social Security is in no way competition for me. I do not sell investments. I manage wealth. It makes no difference to me if I am dealing with a liquid investment or advising a client on a secondary residence. My compensation is not based on sales commissions. In fact it is illegal for me to receive a sales commission from an investment solution.

      I am opposed to social security because it is a deplorable rate of return…which routinely cheats people out of years of contributions. It is an extremely poor way to compliment retirement. However, if the gov’t wanted to have a mandated safety net…they could have a gov’t sponsored private account (which social security originally was at inception) which permitted portability. They could also put investment constraints that offer guard rails for the average investor who understands little to nothing about investing. They could index the entire process to avoid any risk of high investment costs thru lifecycle index solutions.

      If the stock market is a poor floor for retirement…then we ought to do away with gov’t pension funds…because the majority of them are in the stock market. Along with every retirement plan in the world outside of SS. In fact any retirement plan with zero exposure to the market of equity investments of some sort is guaranteed to lose money on an inflation adjusted. If we used a lifecycle approach referenced above…private accounts would be designed to start out more aggressive and shift to income oriented solutions as a participant aged…no different than any sound retirement solution. Even current defined contributions plans have such guard rails set up to auto enroll people who don’t understand markets. It’s not all that complex to create. There are just too many people who don’t understand how markets work, and allow themselves to be scared by political leaders who need to keep the sheep dependent upon them.

      “BTW, you're not saying are you that SS does not provide survivor benefits to spouses? I thought they did”

      They don’t. Social Security pays $240 in a onetime survivor benefit. The surviving spouse is entitled to the higher of the two payments. The other spouses earning are forfeited. So if you are unfortunate enough to die shortly after you retired as my father in-law did…your spouse collects one benefit…and the other 40 years of contributions are lost forever.

      “Once enough money is flowing people can save more. Didn't you say that investment, govt spending creates savings as money circulates around and each individual takes a portion of the money that comes his/her way and saves rather than spending it.”

      Gov’t spending creates currency. That currency just ends up as bank reserves. When people save money…there is less income…so deficits go up…and more currency is created, hence creating more reserves. Savings doesn’t create more money circulating…it’s less. People spending creates more money circulating. China has a trade surplus. So they are creating reserves. They are not running deficits. That’s because they export so much. That can’t always be the case…nor should it. The Chinese deposit their reserves with us and other nations. It’s obviously not possible for the whole world to run a surplus…so somebody has to be creating currency while others are not.

      China’s approach only works because of their ability to currently exploit very cheap labor, and not accurately report data. That won’t be the case much longer. But their system is a recipe for disaster…which is already showing serious signs of cracking. 50% of China’s GDP in the last decade has been construction to build 100’s of cities the size of Dallas TX which are literally totally vacant because none of their population can afford to live there. They are a house of cards. They have a long way to go to create a true free market.

      China Ghost cities

      https://www.youtube.com/watch?v=pbDeS_mXMnM

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