Ralph Musgrave

Can the Fed Really Just Print Money?

Josh Patt is not quite correct to say that “Modern money is credit, meaning a promise to pay a certain value as denominated in a currency.” This is NOT really true of the monetary base, whereas it IS true of the “pyramid of credit” that commercial banks build on the monetary base. It is true that dollar bills (which are part of the monetary base) are ostensibly a liability of the Fed (i.e. a “promise” by the Fed to pay). Indeed the total of all “cash and coin” in a country appears on the liability side of the country’s central bank. But this is a big charade: go along to the Fed and they wont give you $20 of gold in exchange for a $20 bill. Indeed they wont give you anything.

In contrast, every dollar of credit created by commercial banks (the vast majority of the money supply) IS a debt owed by someone to someone else.

Congratulations to Josh for the following two sentences, which are spot on: “Real inflation is caused not only by the amount of money in existence, but also by its velocity, which is how quickly it moves from one person to the next. To get inflation, you need to get people to spend the new money and then to borrow more.” If more of those who comment on the money supply had tumbled to this one, we would save billions of tons of paper, ink and billions of man hours. David Hume in his essay “Of Money” written in 1752 made much the same point. He said in relation to money supply increases: “If the coin be locked up in chests, it is the same thing with regard to prices as if it were annihilated.”

I don’t agree with the following few sentences. “In the present economy people are less able and less willing to borrow and spend money into existence. So, to cause inflation, the Fed needs to replace the borrowing and spending “efforts” of hundreds of millions of people. It’s not clear that Ben Bernanke’s printing press will be able to accomplish this before it destroys the value of the dollar.”

This contradicts the above point where Josh effectively says that inflation will not take off till the increased money supply has raised demand to the point where the economy’s ability to supply cannot keep up with demand. (The “David Hume” point). I.e. the printing presses can roll away, but there will be no effect TILL there has been a significant increase in demand. But WHEN there has been a significant increase in demand (and hopefully not too much of an increase) the problem will have been solved. Employment will have risen. All those folk layed off will be back in work.

An absolutely beautiful example of this is taking place before our very eyes at the moment. The US monetary base has DOUBLED over the last quarter. This is totally unprecedented in the history of the Fed or any central bank as far as I know. And what is the result? Practically nothing. But if this money supply increase continues, the point will come where there is an effect.

What Constitutes 'Worthy' Stimulus Spending?

Dianne Rogers claims at the end of her article that “bang per buck” (i.e. “jobs created per $m of government spending”) is important. Prof Joseph Stiglitz agrees with her. E.g. see Financial Times article by Stiglitz at www.ft.com/cms/s/0/a78...

I strongly disagree with Rogers and Stiglitz. “Job creation” is an example of what economists call and “intermediate objective”: that is, something that sounds worthy, but is not always closely related to the basic purpose of economic activity: creating work for those who want it, and maximising output per head (within environmental constraints). Intermediate objectives are generally frowned on in economics.

A classic example of the harm that comes from targeting “job creation” occurred in Japan: the so called “bridges to nowhere”. The attraction of civil engineering projects and other forms of government spending is that more jobs are created per $ of government spending than is the case with tax cuts. This lead to some totally pointless civil engineering projects in Japan: “bridges to nowhere”.

Another reason for the irrelevance of “bang per buck” is that the bucks absorbed by a civil engineering project are a measure of real resources consumed (labour, concrete, etc). In contrast, printing money and handing it out to citizens cost virtually nothing. One is comparing chalk to cheese here.

I therefore favour printing whatever amount of money is needed to get households spending again, and if that is $10,000 per household, then so be it. If market forces are operating properly, that will automatically bring about the optimum number of “bridges”. This printed money may well prove inflationary in two years time. But if that is the case, governments will have to claw back the money (e.g. increase taxes). Strangely enough Stiglitz has long advocated money printing as the cure for Japan. He now seems to be contradicting himself.