Is a fixed monetary supply inherently better than a money supply which expands with population?

[Ultima]

@esuric

(This post is long because the topic is extremely complex)

First, I do not support an invariable supply of money, but these arguments are either invalid and/or irrelevant. Next, I think a proper definition of inflation/deflation is required in order to avoid confusion. Inflation occurs when the supply of money is elevated beyond the demand for cash holdings, and deflation occurs when the supply of money is reduced below the demand for cash holdings. Thus, you can have inflation without a change in the objective price level whatsoever (due to productivity gains). Inflation and deflation, if such terms are to be useful at all, do not refer to general or aggregate price levels measured by various indices.

Additionally, in a perfect theoretical world, newly created sums of money would flow to those who wish to increase their cash holdings and not their consumption and/or investment. In the real world, however, financial rigidities make this process problematic. Thus, even if the demand for cash holdings rises, and if the supply of money rises pari passu with this altered demand for money, relative and arbitrary price distortions may still occur.

Instead of supporting an invariable supply of money, you support a supply that adjusts with demand. Am I understanding you correctly? How would you engineer such a currency? What are the drawbacks of a theoretically perfectly fixed monetary supply?

@esuric

Does price deflation cause a significant imbalance between creditors and debtors, rewarding savers at the expense of borrowers? Is it unbalanced in this regard, and would the effect of high price deflation be the same as a high rate of real interest, thus causing hoarding?

This argument is irrelevant. The degree by which there is an imbalance between debtors and creditors depends on the degree of inflation/deflation. Severe deflation will benefit creditors at the expense of debtors if the interest rate is not property adjusted. At the same time, though, high inflation will benefit debtors at the expense of creditors because it lessens the debt burden (you pay off your debts with devalued currency). But this issue is the least of our worries. It is raised by inflationist’s who lack any actual theoretical support.

Do you refer to only inflation / deflation as per the definitions above of supply vs demand? What about pure monetary inflation/deflation (change in the supply of money irrespective of demand), or price inflation/deflation (change in the amount of wealth in the economy, with no changes to the supply of money)? How do these affect the interest rate? Do they also affect the balance between creditors and debtors?

How do you adjust an interest rate below 0%? Why would anyone lend anything in those circumstances, being as they would be paying to lend?

Furthermore, “high interest rates” are only “high” if they are arbitrarily set above the natural or equilibrium position. This means that a 15% rate of interest may be “too low,” and a 4% interest rate may be “too high.” The interest reflects time-preference, that is, the rate at which individuals prefer current goods relative to future goods. In other words, it attempts to establish inter-temporal equilibrium; it tells entrepreneurs how to order their capital, what production methods to employ, what capital goods to produce, and tries to create a logical capital structure from the various individual capital combinations amongst firms. It is a price just like any other price which reflects subjective valuations.

Is it possible for the “natural” rate of interest to be below a nominal rate of 0%, which would be impossible to reach since nobody would pay the borrower to lend them money?

First, “no good work done” is both meaningless and arbitrary. “Good work” is determined by the market and not by subjective whims. Next, money is not wealth. The newcomers would produce and would engage in cooperative production relationships because cooperation is always economically superior to isolation. The goods they produce, and the capital they create, will give them bargaining power. It is highly unlikely that money would emerge on an island with a 10 person population, but if it did, it would circulate (exchanged for commodities) and prices would merely adjust.

Agreed.

• I get statements such as this: “The key is to maintain the same value. As the supply is limited, but with growingdemand, the units will be more valuable. Companies and individuals would prefer to know that a unit would be worth roughly the same now for many years in the future. This allows businesses and individuals planning easier.”

The first part of this statement is inherently meaningless. Value cannot be aggregated, nor can it be compared. Value is purely ordinal, i.e., it’s a list determined by subjective preferences that are in continuous flux. It cannot be added, divided, subtracted, or whatever. The goal of economics is not to “maintain” some imaginary level of “total value,” but rather to facilitate coordination and production amongst individuals with different tastes, levels of knowledge, and abilities.

The second part of his statement is correct if he means that inter-temporal and monetary equilibrium are relatively beneficial and preferred conditions. He is absolutely incorrect, though, if his position is that stable objective prices is an economically efficient condition. Price “stability” is an inflationist dogma which has failed time and time again.

The debaters have redefined their idea of “stable value” to refer to supply/users, rather than an actual targeting of prices. If the users of the currency increase, then the supply should also increase. Maybe they are trying to approximate your supply & demand definition above.

[Southern]

Now, I’ve seen people here, non Austrians I imagine, saying that when a debt is repaid the money supply shrinks. But I don’t see how. The dollar bill that the banker gets is still there, waiting to be spent.

It is my understanding that the same way money is created through FRB, it is destroyed. Get out of your mind physical, tangible cash. It only makes up a small portion of the money supply and is not what is created through FRB.

Most money is created by banks through nothing more than ledger entries. Assume someone at the bank has their checking account and a loan account. They write a check to pay their loan. We just reduce the balance in their checking account and reduce the principal balance of thier loan.

If no other transactions take place in the economy then amount of money available has been reduced by the amount of the principal payment. Those virtual dollars have been destroyed. Yet the amount of physical currency remains the same.

[Smiling_Dave]

@Southern

It is my understanding that the same way money is created through FRB, it is destroyed.

I don’t get it. Are you saying that when a bank uses FRB and gets repaid, they cannot spend the money they got back?

Then why are banks so terrified of people defaulting on laons? Even if they pay back, the bank gets nothing.

Also, why are banks incredibly reluctant to foreclose on houses? If they got paid back with money, they wind up with nothing. This way they have a HOUSE. Now granted they are not in the business of selling houses, but I’m sure they can set up a deal with some agent, giving it to him at half price even. That way on a $100,000 loan on a $100,000 home, instead of getting back nothing, they get $50,000.

Bottom line, it sounds very fishy to me.

Get out of your mind physical, tangible cash. It only makes up a small portion of the money supply and is not what is created through FRB.

It makes up about 10%. So you are saying if the bank is paid back in tangible physical cash, they are making an incredible profit, but if they get paid back by a check, they are not making any money. They cannot spend the amount written on that check. It is useless to them. But they accept it anyway. Why?

If what you are saying is true, then if I was a bank, I would offer a partial or even total interest rebate for people who pay in cash. Instead of winding up with say $5 for every loan of $100 I make, I would wind up with a full $100.

Most money is created by banks through nothing more than ledger entries. Assume someone at the bank has their checking account and a loan account. They write a check to pay their loan. We just reduce the balance in their checking account and reduce the principal balance of thier loan.

If no other transactions take place in the economy then amount of money available has been reduced by the amount of the principal payment. Those virtual dollars have been destroyed. Yet the amount of physical currency remains the same.

Until I get an explanation of why my above q’s and comments are wrong, I must assume there is some huge mistake in there somewhere.

[z1235]

@Ultima

They are not pushing for a central bank, necessarily, but they do think that sound money has its limitations since, by its nature, it cannot have its supply changed very easily. They would prefer to see a monetary system whose supply expands easily, in order to keep the “value” of each unit stable rather than to keep the supply stable. They prefer if 1 unit of currency can always buy a similar amount of goods and services. That is what they are arguing for.

Without a central money regulator, why would I care about what anybody else preferred? I could prefer that my 1 acre of land can always buy me 20 cows. Shall I force your debaters to accept my preference into a law and empower a central land/cow regulator to maintain a fixed land/cows ratio? I’m sorry but calling them ignorant would be the charitable alternative.

Z.

[Southern]

I don’t get it. Are you saying that when a bank uses FRB and gets repaid, they cannot spend the money they got back?

Then why are banks so terrified of people defaulting on laons? Even if they pay back, the bank gets nothing.

Also, why are banks incredibly reluctant to foreclose on houses? If they got paid back with money, they wind up with nothing. This way they have a HOUSE. Now granted they are not in the business of selling houses, but I’m sure they can set up a deal with some agent, giving it to him at half price even. That way on a $100,000 loan on a $100,000 home, instead of getting back nothing, they get $50,000.

Bottom line, it sounds very fishy to me.

It gets confusing when you start flowing funds back and forth between different banks. Ex) When a loan at one bank is paid off by a funds drawn from another bank. To clarify the the picture assume there is only one bank in an economy and the funds to pay off the loan are drawn off the same bank. All of it is done by entries on a balance sheet.

If someone defaults on a loan then the hit is taken in the equity portion of the balance sheet. Assets fall but liabilities do not. The only place to balance the fall in assets is equity. So the owners loose equity in the bank. Very bad thing for any business.

Same thing with foreclosing on a home. The bank almost always sells the home at less than is owed. The difference is taken out of equity.

Also, dont confuse profit with principal balances and payments. A bank profit comes from interest. Not from principal payments. The principal ultimately has to return to the original depositor. Interest is what the bank gets to keep for its own.

It makes up about 10%. So you are saying if the bank is paid back in tangible physical cash, they are making an incredible profit, but if they get paid back by a check, they are not making any money. They cannot spend the amount written on that check. It is useless to them. But they accept it anyway. Why?

If what you are saying is true, then if I was a bank, I would offer a partial or even total interest rebate for people who pay in cash. Instead of winding up with say $5 for every loan of $100 I make, I would wind up with a full $100.

Physical cash is totally irrelevent to banks. Physical cash and the numbers on a computer screen are indistinguishable. The only time a bank thinks about physical cash is for the daily demands for physical cash by customers which is really insignificant when compared to the rest of the banks balance sheet. And really its mostly a wash when you compare the deposits and withdrawals. Again dont get wrapped up in physical money being different. As far as our banking system is concerned it isnt.

Until I get an explanation of why my above q’s and comments are wrong, I must assume there is some huge mistake in there somewhere.

I hope this helps a little. I am still trying to iron out my understanding of the details. And if there are any others who may have better insight into our banknig system please correct me if I am wrong.

Just so this dosent seem like my posts are derailing the thread. I think this may help to show how (as someone stated above) deflation is caused by different things. Deflation caused by a collapse of the money supply created through artificial credit expansion is a very bad thing. While deflation caused by increases in productivity is a good thing.

[Smiling_Dave]

Oki I have to conclude its over my head for now. maybe its the liquor.