William Hummel_

What Exactly Is the Money Supply?

MV=PT is also known as the equation of exchange, and is used by the monetarists to explain the supposed relation between money and inflation. It is has no particular place Keynesian thought.


On Dec 19 12:59 PM morph man wrote:

> The formula MV=PT is one of the least helpful in a supposed science
> that has most of the qualities of a medieval superstition.
> I've never come across a convincing explanation of any one of the
> symbols in that equation. The term "Money supply" shares a characteristic
> with most concepts in economics - it promises an explanatory theory
> and prescription for policy but actually delivers nothing.
> Like much of Keynesianism it provides a lot of technocats and political
> opportunists with convenient cover for pretending to know what they're
> talking about.

Understanding Government Debt: The Treasury's Indispensable Role

Celent claims that "Interbank lending is at record highs and has increased during the credit crisis." However its own graph shows that total bank credit outstanding was higher in October than November.

The Fed's website at www.federalreserve.gov... shows it dropped by 50 billion in November. It also shows that total bank credit grew by 4.7%from April thru November 08 compared to 8.9% for the same period in 07.

The annualized growth rate for the three-year period ending June 2007 when the sub-prime mortgage fiasco began to hit the financial markets was 9.4%. That's twice the growth rate during the last 8 months, a huge difference.

On Dec 18 05:05 PM Smarty_Pants wrote:

> "base money (except for billfold cash) is not a part of the money
> supply. It exists only as bank reserves. And if banks are not lending
> against those reserves, there is no inflationary problem." - Mr.
> Hummel
>
>
> Apparently there is cause to believe that this is not the case.
> A recent report published by Celent regarding the implementation
> of the credit crisis response has come to the conclusion that lending
> is occuring a levels higher than before the bailout was undertaken.

>
>
> "1) Overall lending by US banks is at a record high and has increased
> during the credit crisis.
> 2) Interbank lending is at record highs and has increased during
> the credit crisis.
> 3) Consumer credit is at record highs and has increased during the
> credit crisis.
> 4) Commercial paper markets are operating within their historical
> norms.
> 5) Lending by banks to businesses is at record highs and has been
> growing rapidly.
> 6) Municipal bond markets are operating within their historical norms.
>
> 7) Deposits at banks have shown a substantial increase since the
> start of the credit crisis."
> 8) Commercial bank lending has increased 15% since Fannie/Freddie
> were nationalized.
>
> Source:
>
> www.celent.com/PressRe...

>
>
>
> Sure looks like inflationary tendencies are what to expect at this
> point in time.

Understanding Government Debt: The Treasury's Indispensable Role

The excess base money can be recaptured either by the Fed selling securities from its own portfolio, or by the Treasury net selling its securities.

Treasury spending is not a function of its bank balances. It only acts as the government's fiscal agent by making payments and collecting the funds needed to make those payments, through taxes and if necessary the sale of its securities.

The Treasury doesn't know or care what the motives are for those who buy its securities. It simply keeps inflows balanced against outflows so its commercial bank balances remain roughly constant at a level sufficient to cover its near term payment obligations.




On Dec 18 10:35 AM moonbat1775 wrote:

> ""However if there is more base money in the system than meets their
> needs or wishes AS A WHOLE, the only way the excess can be eliminated
> and earn a return is when some buy Treasury securities. " the author
> via Smarty
>
> The key question is "buy Treasuries from WHOM"? If from the Fed,
> then the money is sterilized since what does the counterfeiter-in-chief
> need with money? But if from the Treasury then it goes to the government
> which will just spend it.

Understanding Government Debt: The Treasury's Indispensable Role

If there is more base money outstanding than is desired, that implies the private sector as a whole is ignoring the returns they could get by buying Treasuries with the excess. Remember that base money (except for billfold cash) is not a part of the money supply. It exists only as bank reserves. And if banks are not lending against those reserves, there is no inflationary problem.

The inflationary potential is there if the credit money supply begins to expand out of proportion to available goods and services. Of course the Fed recognizes this and will start selling its huge portfolio of recently acquired assets to drain the excess reserves as needed to restore the Fed funds rate to a non-inflationary level.


On Dec 18 09:50 AM Smarty_Pants wrote:

> "However if there is more base money in the system than meets their
> needs or wishes AS A WHOLE, the only way the excess can be eliminated
> and earn a return is when some buy Treasury securities. If they continue
> to buy and sell financial instruments created in the private sector,
> that will simply move money around without eliminating excess." -
> Mr. Hummel
>
>
> But if they 'continue to buy and sell financial instruments ... without
> eliminating excess' doesn't that imply inflationary pressures will
> result?

Understanding Government Debt: The Treasury's Indispensable Role

My comment in quotes says nothing about individual choices and actions. That's why I emphasized IN THE AGGREGATE, which I thought would make it clear.

Individuals will of course buy or sell according to their needs or wishes. However if there is more base money in the system than meets their needs or wishes AS A WHOLE, the only way the excess can be eliminated and earn a return is when some buy Treasury securities. If they continue to buy and sell financial instruments created in the private sector, that will simply move money around without eliminating excess.


On Dec 17 03:10 PM Smarty_Pants wrote:

> "If the public has more base money IN THE AGGREGATE than it wishes
> to hold, it cannot get rid of it by buying corporate debt, stocks,
> or any other non-government assets." - Mr Hummel
>
> I'm afraid you've lost me there. Your statement makes no sense to
> me whatsoever.
>
> It appears to me you are stating that, somehow, magically, all the
> base money that "isn't needed" (whatever that means) is always returned
> to purchase Treasury debt. You will need to further define your
> terms because it seems you intend them to mean other than their usual
> and accepted definitions.
>
> It seems to me that if I have more money than I wish to hold I can
> use it for a great many things other than to buy Treasury debt.
> I can only imagine that you mean something other than 'income in
> excess of my expenditures' when you speak of "more base money ...
> than [I] wish to hold".
>
> To me these refer to the same thing. Money I have earned that I
> don't have to spend on necessities. What mechanism is there that
> forces me to put that money into Treasury debt?
>
> You also write as though all the "excess base money" (in the aggregate)
> is somehow moved as a single block, as though one party is deciding
> where it must go, instead of millions of individuals making independent
> decisions on where they will each put their excess earnings.
>
> Once that 'excess base money' is in circulation SOMEBODY must own
> it and be able to decide what to do with it. It certainly can't
> be one entity, and they all presumably have free reign to do with
> it as they wish. What economic law forces them to return it to Treasury
> debt?

Understanding Government Debt: The Treasury's Indispensable Role

There is no crowding out effect in buying Treasury securities. You are neglecting to account for the government deficit spending that caused the Treasury to sell its securities. The private sector still has the same amount of money to spend. There would be some temporary crowding out if the Treasury sold in too large an amount at one time because loanable funds might be depleted. But the Treasury borrows frequently in small amounts rather than in large chunks to avoid that squeeze on loanable funds.

If the public has more base money IN THE AGGREGATE than it wishes to hold, it cannot get rid of it by buying corporate debt, stocks, or any other non-government assets. Thus it's only interest earning alternative is to buy Treasury securities.


On Dec 17 11:46 AM Smarty_Pants wrote:

> "In effect the Treasury pays for its deficit spending by issuing
> securities rather than base money. That means deficit spending has
> no net effect on the immediate purchasing power of the private sector."

>
>
> Well, if you want to ignore the crowding out effect of selling Treasury
> debt then sure, no effect. In truth however, the private money that
> was used to purchase Treasury debt might have been spent or invested
> in a profitable enterprise instead of tied up in Treasury debt (so
> the gub'mint could waste the same amount on pork barrel spending).

>
>
>
> "If the private sector has more non - interest - earning base money
> in the aggregate than it wishes to hold, its only alternative is
> to buy Treasury securities."
>
> This is one of the most myopic statements on money I have ever read.

>
>
> The *ONLY* alternative for extra money is to buy Treasury debt?
> Really?? What about corporate debt? Stocks or mutual funds? Commodities?
> Real estate? Foreign currencies or debt? Precious metals? Small
> businesses? Mattresses or cookie jars?
>
> What the author claims to know about monetary theory is almost as
> scary as what he appears not to know, IMHO.

Understanding Government Debt: The Treasury's Indispensable Role

No statisticians trick. The reason for the post war inflationary bulge had nothing to do with the large debt/GDP ratio that built up during the war. Rather it was due to the very high private savings during the war together with the lack of goods and services available immediately after. Rationing and price controls during the war left little for the public to buy until civilian production ramped up.

The peak post war annualized inflation rate was 19% in April 1947, and averaged 14.7% for the year. In 1948 it was down to 7.7%. Thereafter it was very low for about 20 years, except for a blip (7.9%) in 1951, probably due to the Korean War.


On Dec 17 09:40 AM puttster wrote:

> Bad example saying the WWII debt did not lead to inflation. Inflation
> was Truman's biggest hurdle after the war. The tasks of restraining
> consumer spending while convincing labor and businesses to hold down
> wage and price increases became insurmountable for him. In 1945 and
> 1946 he tried to control the economy through price freezes. Despite
> those efforts, by August inflation was at 25% and the nation was
> near paralysis from a wave of strikes for higher wages.
>
> I liked the article till I got to your statistician's trick of using
> a 20-year infalation average to make a point. Tricks like that impune
> the truth so now I don't know what to believe.

Understanding Government Debt: The Treasury's Indispensable Role

I was not a career government worker unless you count the millions of World War II draftees as career workers for the government. I worked for a private firm, whose customers included NASA and the Defense Dept


On Dec 17 06:21 AM Alan von Altendorf wrote:

> Mr Hummel was a career government worker. He's on the winning side,
> and proud of it, I suppose. NPR reported today that the only people
> now qualifying for home mortgages are teachers, cops and firefighters,
> the public servants who can't be fired, won't lose their jobs.

Understanding Government Debt: The Treasury's Indispensable Role

The Fed has always been able to buy assets of any kind in whatever amount it chooses. As long as banks continue to hoard reserves rather than lending, the additional reserves created by the Fed's actions are non-inflationary. Indeed the current problem is getting out of a deflationary trap. When that problem is solved and bank credit begins to flow freely again, the Fed will recapture the excess reserves to drive the Fed funds rate up to a more normal range in order to prevent inflationary pressures.

Hyperinflation is entirely different from ordinary inflation. It occurs when the government is unable enforce tax collection or sell its bonds, and resorts to simply printing money to spend. That only happens when governmental authority collapses due to revolution, war, or gross corruption.



On Dec 17 05:44 AM constructe wrote:

>
> The Fed asked to be allowed to buy any debt. If they can then since
> they are allowed to issue any money on any debt... ie US treasuries,
> they basically own the ability to make as much money as they want
> without any congressional mandate or approval or knowledge. Doing
> this basically could result in an Argentina like hyper-inflation
> where the Fed is Eva Perone.
>
> Don't cry for me oh America... for I always loved the greenback.

The Reality of Government Spending and Money Supply

The Treasury normally sells its securities only to the private sector, not the Fed. The only reason it sells its securities is to cover its own deficit spending. The outflow due to its spending is matched by the inflow from the sale of its securities. Thus there is no net change in the amount of base money.


On Dec 16 11:25 AM Smarty_Pants wrote:

> "When tax revenues do not fully recapture government spending, the
> Treasury recaptures the excess with the net sale of its securities.
> Conversely if the Treasury receives more tax revenues than needed
> to recapture its spending, it net redeems its securities. Government
> spending therefore has no direct effect on the aggregate money supply,
> on average."
>
> Unless the party which buys the Treasury securities is the FED.
> Then the money supply skyrockets. See St. Louis FED graph of adjusted
> monetary base:

The Reality of Government Spending and Money Supply

On balance, Federal government spending does not affect the money supply. All of its spending is recaptured by taxes and if necessary the sale of Treasury securities.

Note that deficit spending has no direct effect on the money supply. In the aggregate the private sector pays for the Treasury securities it buys out of the deficit spending itself.


On Dec 16 05:39 AM The hand wrote:

> william, welcome to seeking alpha. avowed keynesians are always
> welcome as they bring fresh meat to the table.
>
> "In the long run it [government] must spend at least as much as it
> recaptures. Otherwise the economy would be drained of the base money
> it needs to operate."
>
> of course this is a good argument why the government should spend
> and tax less. in fact this is an argument why governments need to
> minimize their consumption in the monetary system as it distorts
> the non-governmental portion of the money supply where the real economic
> work is performed.
>
> but what happens when the government turns on the taps and spends
> massively more than it takes in? how is this difference (which i
> will call debt) metabolized in the monetary system? Doesn't government
> debt itself create instability in the money supply, and massive debt
> creates massive instability? My point is after the money is spent
> and it performs its "work", isn't debt a black hole which sucks money
> in which could be used for productive "monetary work".
>
> William, i got hung up on the words "at least" in the quoted paragraph
> as this seems to be the current battle cry of treasury and the fed
> to try to short circuit the economic collapse we are experiencing.
> i am afraid it it will not have any effect on the economic free fall,
> and will restrain economic recovery.
>

The Reality of Government Spending and Money Supply

QUESTION: If all base money comes from we the people, where did we the people get it?

ANSWER: The Fed creates all base money in the process of monetizing the Federal debt via open market operations. Neither we the people nor the Treasury create base money. We the people sell our Treasury securities to the Fed to acquire base money. The Treasury acquires base money through taxes and if necessary the sale of its securities to we the people.


On Dec 16 01:59 PM Socialism cannot compete! wrote:

> "In reality it spends its own base money and recaptures it with taxes
> and the sale of bonds."
>
> Couldn't get past this one early line...lost credibility and didn't
> even finish reading. CLUE train for the author: the government
> HAS NO base money of its own -- every penny it has, is given it by
> WE THE PEOPLE, to do OUR BIDDING. It has ceased to do so. But the
> fact remains that every penny the government has, comes from us.
> Even when they create more currency and coin...WE are paying for
> them and own them...via inflation.

The Federal Reserve and the Velocity of Money

The Fed’s ability to increase the money supply is not limited by the size of its balance sheet. It automatically expands when it purchases securities in the open market, and contracts when it sells them. It can expand its balance sheet without limit if it so chooses. However under normal conditions, the Fed purchases securities only when the demand for bank reserves exceeds the supply at the Fed’s target Fed funds rate.

On the other hand, the size of the Fed’s balance sheet limits how much it can reduce the money supply by selling securities from its own portfolio. That limit depends on the market value of the securities it has available to sell. The recent sale of Treasury securities to the Fed substantially increased the amount of its available securities. The Fed sold them in the open market as needed to recapture most of the funds it created in buying toxic assets from various financial institutions.