Beware the false dichotomy here: Keynesian economics vs Austrian School is a false dichotomy. Keynesians say that money supply (M) doesn't matter but only velocity (V). Austrian economics like Maudlin say that inflation is all about money supply (M) and not velocity (V). This article is misleading by saying Milton Friedman supported money supply (M) over Velocity (V) "Friedman concluded that “inflation is always and everywhere a monetary phenomenon.” And that has been that ever since." Friedman was not an Austrian economist. Friedman's monetarist equation: dM/dt + dV/dt = dP/dt + dQ/dt accounts for both Money Supply (M) and Velocity (V).
The truth is that both Velocity and Money Supply play a role in inflation and economic growth. Anyone who argues one vs the other is just playing into the historic false dichotomy set up my the Keynesians vs the Austrians.
Velocity can very independent of money supply or production. This is why the economists track consumer confidence. Some of what this writer is saying is because we live in a "just in time" economy. But the reality is that people spend more if they have more. However, on rhe other hand we could easily produce more than we could consume. Just consider the problem of too much commercial real estate in Atlanta. This also is why the US government pays farmers on occasion to not harvest their crop.
The following is an example of how MPE would lead to inflation and fails to account for velocity of circulation. If you don't like my numbers, feel free to substitute numbers you like
SSS
Imagine a city with 1000 families. Each family makes $75,000/yr, $6250/mo.
All 1000 families bring in a total town imcome of $75,000,000/yr
Each family lives in a house that cost $250,000.
Each family has a fee-based 30-yr loan and pay $700/mo, $8400/yr
This means the economy retires at least $8,400,000/yr
This means builder will need to build and sell at least 34 houses/yr to replace the retired money
34 new home loans will cover the annual salary of 112 workers/yr
The velocity of currency $75,000,000/$8,400,000 = 9
Local Builders can build at least 1000 houses in 30 year
MPE
Repaying at rate of depreciation on $250,000 house is $208/mo, $2500/yr.
1000 families would retire $2,500,000/yr
Builders could replace this retired money building 10 new houses/yr
10 houses/yr will cover the salary of 33 employees/yr
Velocity begins at 30.
However, since only $2,500,000/yr is retired. Town builders are likely to build more than 10 houses/yr. Therefore, the excess money will circulate in the economy until retired. Let's say that builders build 20 houses/yr. this means that an extra $2,500,000 more is added to the money supply each year than is retired. After 50 years, the economy will be circulating $125,000,000. This is 1.667 times over the salary of all 1000 families/yr. however, only $2,500,000 is retired each year. And if builders build 30+ houses, that means even more new money is injected into the system and this doesn't even take into account velocity that $1 dollar can do the work of at least $3, if not more.
The problem with MPE is not that the money created is akways backed by the value of a depreciating house. The problem is that money is not retired fast enough from circulation and therefore new money will continue to build up in the economy year after year causing inflation. After several years, there will be too much money chasing too few things for sale.
Monday, August 13, 2012
Wednesday, August 08, 2012
The Fundamental and Fatal Flaw of MPE (Mathematically Perfect Economy [tm])
[You are correct that Capitalism is as bad a Communism. We dont need unelected capitalists making all the economic decisions any more than we need the government making all the decisions]
MPE is based on the assumption that you need money circulating that represents total value of all assets in the economy. Loan money to build or purchase 1000 houses is created and then repayed and retired from circulation at the rate of depreciation of the 1000 houses over 50 years. However, all this time (50 years) that currency for the 1000 houses is circulating in the economy (velocity) and going towards the purchase of other things. The consequence of all this circulating currency is that money supply actually exceeds GDP resulting in inflation.
SSS (Safety Society System) is very similar to MPE but its much better thought out and controls for inflation and currency velocity. MPE does not. The issue here is that to control inflation, It is important that there is currency availible on demand to make purchases for ONLY those assets that are on currently for sale. There doesn't need to be cash availible to purchase everything in the economy all the time.
MPE generates and injects cash into the economy to represent all the total value in every real asset in the economy whether its for sale or not.
SSS only generates and injects cash (on demand) into the economy for those assets in the economy that are for sale. In this way, SSS is not inflationary like MPE. MPE ignores velocity.
MPE is based on the assumption that you need money circulating that represents total value of all assets in the economy. Loan money to build or purchase 1000 houses is created and then repayed and retired from circulation at the rate of depreciation of the 1000 houses over 50 years. However, all this time (50 years) that currency for the 1000 houses is circulating in the economy (velocity) and going towards the purchase of other things. The consequence of all this circulating currency is that money supply actually exceeds GDP resulting in inflation.
SSS (Safety Society System) is very similar to MPE but its much better thought out and controls for inflation and currency velocity. MPE does not. The issue here is that to control inflation, It is important that there is currency availible on demand to make purchases for ONLY those assets that are on currently for sale. There doesn't need to be cash availible to purchase everything in the economy all the time.
MPE generates and injects cash into the economy to represent all the total value in every real asset in the economy whether its for sale or not.
SSS only generates and injects cash (on demand) into the economy for those assets in the economy that are for sale. In this way, SSS is not inflationary like MPE. MPE ignores velocity.
Sunday, July 22, 2012
Libor Manipulation, Velocity, and Sterilization
The Libor manipulation may have had a positive purpose/effect. Not that I approve of manipulation. QE (quantitative easing bailout) money was given to banks to cover the Bank of International Settlement Basil 2 Accords. The Basil 2 Accords increased fractional reserve requirements of banks. However, had the QE money gone into the real economy, it would have caused much greater inflation than we have seen.
By artifically increasing Libor, interbank loaning was still expensive compared to buying bonds. Thus, banks who got QE, bought bonds with it instead of lending it out to smaller banks. Thus most the QE money stayed out of the real economy. When central banks buy bonds or conduct foreign currency swaps, this decreases velocity in the money supply as money is tied up in bonds or tied up in a foreign currency and consequently is not circulating in the real economy. This practice is called "sterilization".
Both overall Money Supply and Velocity contribute to inflation if they exceed economic growth.
dM/dt (money supply) + dV/dt (velocity) = dP/dt (price/inflation) + dR/dt (Real Output)
The recent LIBOR Manipulation scandal is an interesting manifestation and evidence for Velocity of Circulation.
By artifically increasing Libor, interbank loaning was still expensive compared to buying bonds. Thus, banks who got QE, bought bonds with it instead of lending it out to smaller banks. Thus most the QE money stayed out of the real economy. When central banks buy bonds or conduct foreign currency swaps, this decreases velocity in the money supply as money is tied up in bonds or tied up in a foreign currency and consequently is not circulating in the real economy. This practice is called "sterilization".
Both overall Money Supply and Velocity contribute to inflation if they exceed economic growth.
dM/dt (money supply) + dV/dt (velocity) = dP/dt (price/inflation) + dR/dt (Real Output)
The recent LIBOR Manipulation scandal is an interesting manifestation and evidence for Velocity of Circulation.
Wednesday, July 18, 2012
D&C 93:53
And, verily I say unto you, that it is my will that you should hasten to translate my scriptures, and to obtain a knowledge of history, and of countries, and of kingdoms, of laws of God and man, and all this for the salvation of Zion. Amen.
Sunday, July 15, 2012
Velocity of Circulation
From Wiki:
The velocity of money (also called velocity of circulation) is the average frequency with which a unit of money is spent on new goods and services produced domestically in a specific period of time. Velocity has to do with the amount of economic activity associated with a given money supply.
If, for example, in a very small economy, a farmer and a mechanic, with just $50 between them, buy new goods and services from each other in just three transactions over the course of a year
Farmer spends $50 on tractor repair from mechanic.
Mechanic buys $40 of corn from farmer.
Mechanic spends $10 on barn cats from farmer.
then $100 changed hands in the course of a year, even though there is only $50 in this little economy. That $100 level is possible because each dollar was spent on new goods and services an average of twice a year, which is to say that the velocity was . Note that if the farmer bought a used tractor from the mechanic or made a gift to the mechanic, it would not go into the numerator of velocity because that transaction would not be part of this tiny economy's gross domestic product.
[ Some economic schools of thought believe velocity doesnt change.] This view has been discredited by the precipitous fall in velocity in the Japanese "Lost Decade" and the worldwide "Great Recession" and its aftermath of 2008-10. Monetary authorities undertook massive expansion of the money supplies, but instead of lifting nominal GDP as predicted by this theory, velocity fell as nominal GDP was relatively unchanged.
[Basil 1 Accords and Basil 2 Accords increased fractional reserve requirement which decreased both the overall money supply and velocity of circulation. Even with an expansion of the money supply via QE1-2, GDP has remained stagnant because of a slowdown of velocity. MPE fails to account for velocity. SSS does account for velocity]
Because "Velocity of Circulation" is difficult to control as it can depend greatly on human nature, there must be a mechanism to make adjustments to regulate the value of the currency. This is the purpose for the simple prime interest rate in SSS. Because of "Velocity" no economic system can be totally "Mathmatically Perfect." Therefore, there needs to be a corrective mechanism.
The velocity of money (also called velocity of circulation) is the average frequency with which a unit of money is spent on new goods and services produced domestically in a specific period of time. Velocity has to do with the amount of economic activity associated with a given money supply.
If, for example, in a very small economy, a farmer and a mechanic, with just $50 between them, buy new goods and services from each other in just three transactions over the course of a year
Farmer spends $50 on tractor repair from mechanic.
Mechanic buys $40 of corn from farmer.
Mechanic spends $10 on barn cats from farmer.
then $100 changed hands in the course of a year, even though there is only $50 in this little economy. That $100 level is possible because each dollar was spent on new goods and services an average of twice a year, which is to say that the velocity was . Note that if the farmer bought a used tractor from the mechanic or made a gift to the mechanic, it would not go into the numerator of velocity because that transaction would not be part of this tiny economy's gross domestic product.
[ Some economic schools of thought believe velocity doesnt change.] This view has been discredited by the precipitous fall in velocity in the Japanese "Lost Decade" and the worldwide "Great Recession" and its aftermath of 2008-10. Monetary authorities undertook massive expansion of the money supplies, but instead of lifting nominal GDP as predicted by this theory, velocity fell as nominal GDP was relatively unchanged.
[Basil 1 Accords and Basil 2 Accords increased fractional reserve requirement which decreased both the overall money supply and velocity of circulation. Even with an expansion of the money supply via QE1-2, GDP has remained stagnant because of a slowdown of velocity. MPE fails to account for velocity. SSS does account for velocity]
Because "Velocity of Circulation" is difficult to control as it can depend greatly on human nature, there must be a mechanism to make adjustments to regulate the value of the currency. This is the purpose for the simple prime interest rate in SSS. Because of "Velocity" no economic system can be totally "Mathmatically Perfect." Therefore, there needs to be a corrective mechanism.
Subscribe to:
Posts (Atom)
