The Nature of Money and Debt       John Bradford, Ph.D.
What is MONEY?• First, we must distinguish between MONEY and  MONEY-THINGS, those material objects that  represent or symb...
What is MONEY?• Second, and more importantly, we must  distinguish between WHAT MONEY IS versus  HOW MONEY FUNCTIONS (i.e....
Money = Debt, Credit• Money is first and foremost a unit of account  measuring credits and debts defined by a public  auth...
Money = Debt, CreditRelated Definitions:   – Money is a public monopoly; the ‘currency of taxation’       [Wray; Knapp]   ...
‘Taxes Drive Money’               Fundamentals• Money is fundamentally a unit of accounting; a  unit of measuring credits ...
Two Views on ‘Money and Taxes’Conventional View • Taxes finance government spending.   Whatever revenue isn’t collected in...
How Money Circulates                   Historical Illustration                                             OCCUPIEDRome is...
Explaining Public Deficits• Normally, tax revenue will                $10  be less than total  government spending:  TAXES...
Explaining Public Deficits• Step 1: Zero Money (i.e. no                        $10  credit-debt relationship  between gove...
Is ‘Public’ Debt a Problem?• A government cannot collect in taxes more  money than it makes available: if all ‘debts’  wer...
Is ‘Public’ Debt a Problem?          Two Views on ‘Austerity’Conventional View• Persistent deficits should be avoided• Aus...
Explaining Private Deficits• Banks ‘make money’ by                      $10  ‘making money’, (i.e.  creating new credit fr...
Explaining Private Deficits• In the aggregate, private                                $10  credits and debts cancel  each ...
Explaining Private Deficits• Question: In the                       $10  aggregate, where does  the extra money come      ...
Public Money vs. Private CreditPublic (State) Money            Private (Bank) CreditCurrency created by state via   Privat...
Public Money vs. Private CreditPublic (State) Money              Private (Bank) CreditValue is relatively stable, based Va...
Accounting Fundamentals• In the aggregate, financial assets always equal  financial liabilities.• In other words,         ...
Accounting Fundamentals• WHY? One person’s debt (liability) is another  person’s credit (asset).                          ...
Accounting Fundamentals       ASSETS                   LIABILITIES AND NET WORTH       Financial Assets (FA)    Financial ...
Accounting Fundamentals      ASSETS                  LIABILITIES AND NET WORTH      Financial Assets (FA)   Financial Liab...
Why Deficits = SavingsConsider three scenarios:• SCENARIO 1: Govt must balance its budget    – Private sector makes a nuke...
Why Deficits = Savings • SCENARIO 2: Govt deficit spends by creating money      – For example, in this (imaginary) scenari...
Why Deficits = Savings • SCENARIO 3: Govt deficit spends by ‘borrowing’ money      – The Treasury must raise revenue by se...
Money Creation in the U.S.                                IOUs (Bonds)                                Money as Debt       ...
Money Creation in the U.S.• In the US, the Federal Reserve  prints “Federal Reserve  notes” which function as legal  tende...
Money Creation in the U.S.            OPEN QUESTIONS1. Why does the Treasury have to ‘borrow’   money from the Fed? Would ...
Accounting Fundamentals• Here is what happens when $10 of interest is applied:  Banker’s assets increase $10, and “Bob’s” ...
Accounting Fundamentals• The application of interest makes the financial assets  of the banker and the financial liability...
Accounting Fundamentals• Unlike governments and unlike banks, “Bob” can only  acquire the money to repay his liability fro...
Linking Inequality and Debt• New money (i.e. credit) is primarily loaned into  existence by private banks.• Because of the...
Linking Inequality and Debt1. The current system functions like a   pyramid scheme: it is built on the   expectation of in...
Linking Inequality and Debt• COMPOUNDING INTEREST  INEQUALITY• Compounding interest means that creditors  exponentially e...
Linking Inequality and Debt• The debt pyramid is like a game of musical  chairs: in the aggregate, the total liability  of...
Total Debt-to-GDP Ratio                 United States (1976-2008)                        Total Debt to GDP Ratio          ...
Income earned by the top 10%                                              (1970-2010)                           Percentage...
CEO and Worker Pay            CEOs pay as a multiple of the average workers pay, 1960-2007Source: Domhoff 2011
The United States does not “borrow”         Dollars from China• The United States  cannot “borrow” dollars  from China bec...
The United States does not “borrow”         Dollars from China• Next, China trades these  dollars for interest-  bearing I...
The United States does not “borrow”         Dollars from China• The bottom line: THE US  GOVERNMENT NEVER  NEEDS TO ‘BORRO...
Holders of US Treasury Securities                       2010                                 Other                        ...
The countries that own the 47% of foreign-              owned Treasuries                Major Foreign Holders of Treasury ...
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Nature of money and debt 2 16-13

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  • Monetary exchange is irreducible to discrete, bilateral barter exchanges.
  • Monetary exchange is irreducible to discrete, bilateral barter exchanges.
  • In all major economies, the vast majority of money is created by private banks as debt through the fractional reserve system. In the US, all new money is created by private banks, as debt.
  • In all major economies, the vast majority of money is created by private banks as debt through the fractional reserve system. In the US, all new money is created by private banks, as debt.
  • In the U.S., much of the ‘debt’ is artificial, an internal account procedure- arising from the fact that the Treasury appears to ‘borrow’ from the Federal Reserve whatever it doesn’t collect in taxes; the Treasury could just as well exercise the power to create currency itself!
  • In all major economies, the vast majority of money is created by private banks as debt through the fractional reserve system. In the US, all new money is created by private banks, as debt.
  • Compounding growth will engender “power-law” distributions of wealth and/or income even when profits and losses are randomly distributed (i.e. when mean profits = 0); compounding interest is a monetary (rather than physical) form of compounding growth.
  • For the Federal Reserve (aka Monetary Authority) holdings, go to: http://www.federalreserve.gov/releases/z1/current/accessible/l108.htm
  • Acceptability as a means of tax payment is sufficient (but not necessary)for something to become money.
  • Two individuals are shown to indicate that the recipient of state credit (i.e. fiat currency) does not necessarily incur a corresponding debt. The state can lend money, but it also spends it into existence (or at least it could do so). Whereas in dyadic debt relationships, the debtor is the recipient of the loan, public currency effects a kind of generalized exchange: the debtor is not necessarily the recipient of government funds, but whoever must pays taxes (e.g. whoever ends up with the money).
  • ‘Lending’ is in quotes for steps 2 and 3 because here the ‘money’ that is loaned is created by the bank itself. Deposits = reserves = government, fiat currency.Question: What is the difference between ‘lending reserves’ so that banks meet
  • ‘Lending’ is in quotes for steps 2 and 3 because here the ‘money’ that is loaned is created by the bank itself. Deposits = reserves = government, fiat currency.Question: What is the difference between ‘lending reserves’ so that banks meet
  • Nature of money and debt 2 16-13

    1. 1. The Nature of Money and Debt John Bradford, Ph.D.
    2. 2. What is MONEY?• First, we must distinguish between MONEY and MONEY-THINGS, those material objects that represent or symbolize money to us. – Throughout history, many things have been used to represent money. – Today, most money is virtual or digital money- electronic entries in bank accounts- not cash.
    3. 3. What is MONEY?• Second, and more importantly, we must distinguish between WHAT MONEY IS versus HOW MONEY FUNCTIONS (i.e. what it does).• Some Functions of Money: 1. medium of exchange 2. store of value 3. medium of deferment (Luhmann; Esposito)
    4. 4. Money = Debt, Credit• Money is first and foremost a unit of account measuring credits and debts defined by a public authority. (Keynes, Innes, Ingham, Knapp, Wray)• NOTE: A ‘DEBT’ PRESUPPOSES A ‘CREDIT’ AND VICE-VERSA, JUST AS A DEBTOR PRESUPPOSES A CREDITOR, BORROWING PRESUPPOSES LENDING, ETC . They are like two sides of the same coin.• MONEY REPRESENTS A SOCIAL RELATIONSHIP OF OBLIGATION, i.e. an agreement, contract, or quantified obligation expressed in standard unit of account.‘ TOKEN OF DEBT
    5. 5. Money = Debt, CreditRelated Definitions: – Money is a public monopoly; the ‘currency of taxation’ [Wray; Knapp] – Money is a unit of social obligations [Ingham; Wray] – Money is credit [Macleod, Innes] – An Agreement, a contract – Debt; Debt = a quantified obligation – Money = debt claim against society [Simmel, Soddy] – Universally redeemable IOU TOKEN OF DEBT
    6. 6. ‘Taxes Drive Money’ Fundamentals• Money is fundamentally a unit of accounting; a unit of measuring credits and debts.• This unit is determined by a government that issues currency denominated in this unit (e.g. US Dollars).• Money is valuable because governments accept only their own currency as a means of payment for taxes (and fees and penalties, etc.)• Money is accepted as a means of exchange because people need money in order to pay taxes.
    7. 7. Two Views on ‘Money and Taxes’Conventional View • Taxes finance government spending. Whatever revenue isn’t collected in taxes must be borrowed by issuing government IOU’s (i.e. bonds).‘Taxes-Drive-Money’ View(Lerner 1943; Wray 1998)• Governments do not need the public’s money in order to finance their spending! Instead, the public needs money issued by government in order to pay taxes.
    8. 8. How Money Circulates Historical Illustration OCCUPIEDRome issues (spends) coins VILLAGEto Roman soldiers occupyinga village. Rome thenimposes a tax on thevillagers, and the tax canonly be paid in Roman coins!Now, the villagers willprovision the Roman soldierswithfood, clothing, shelter, etc. inexchange for these coins, sothat they can use them topay taxes to Rome. ROME
    9. 9. Explaining Public Deficits• Normally, tax revenue will $10 be less than total government spending: TAXES < SPENDING Government Public• Why? Governments cannot collect more money than they have created! TAXES <= $10
    10. 10. Explaining Public Deficits• Step 1: Zero Money (i.e. no $10 credit-debt relationship between government and public).• Step 2: Government spends money into existence, in exchange for goods and/or Government Public labor, thus crediting bank account reserves.• Step 3: Government imposes tax liability; citizens are able to pay their tax ‘debt’ with government ‘credit’.’ Taxes debit bank reserves. TAXES <= $10
    11. 11. Is ‘Public’ Debt a Problem?• A government cannot collect in taxes more money than it makes available: if all ‘debts’ were paid off, there would be no money left in circulation! TAXES < SPENDING• Deficits are normal, and budget surpluses are necessarily temporary.• Unlike households, currency-issuing governments have no budget constraints.
    12. 12. Is ‘Public’ Debt a Problem? Two Views on ‘Austerity’Conventional View• Persistent deficits should be avoided• Austerity is the inevitable result of ‘too much’ borrowing and spending, and its ‘remedy’!• NO PAIN, NO GAIN‘Modern Money’ View• Persistent deficits are normal.• Austerity is unnecessary and self- imposed.• ALL PAIN, NO GAIN! Austerity protests in Greece
    13. 13. Explaining Private Deficits• Banks ‘make money’ by $10 ‘making money’, (i.e. creating new credit from IOU lending “borrowed” money, aka leveraging.) Private Bank Public 1. ‘Make money’ = ‘make a profit’ 2. ‘Make money = ‘expands money supply’ $10 + compounding interest!
    14. 14. Explaining Private Deficits• In the aggregate, private $10 credits and debts cancel each other out: no net IOU money (credit) is created.• However, because of the Private Bank Public application of interest,• CREDIT (of Bank) > LOAN• DEBT (of Bob) > LOAN – The original loan amt is called the loan “principal” $10 + compounding interest!
    15. 15. Explaining Private Deficits• Question: In the $10 aggregate, where does the extra money come IOU from to pay off the interest??? Private Bank Public• Answer: MORE DEBT! $10 + compounding interest!
    16. 16. Public Money vs. Private CreditPublic (State) Money Private (Bank) CreditCurrency created by state via Private credit created by“deficit” spending private firms as loans,Collected (or ‘destroyed’) Collected (or ‘destroyed’)through taxation. through repayment of loans.“Debtors” = tax payers; Debtors = borrowers; whoeverwhoever has to pay taxes. is originally given the moneyLocus of Debt is flexible Locus of Debt is fixed
    17. 17. Public Money vs. Private CreditPublic (State) Money Private (Bank) CreditValue is relatively stable, based Value is volatile, based solelyon governments ability to on the expected ability ofcollect taxes borrowers to repay original loan, plus interestFacilitates indirect, Generalized Facilitates direct, DyadicExchange Exchange(potentially) Counteracts Amplifies inequalityinequality
    18. 18. Accounting Fundamentals• In the aggregate, financial assets always equal financial liabilities.• In other words, TOTAL DEBTS = TOTAL CREDITS; TOTAL DEBITS = TOTAL CREDITS; or lastly, TOTAL BORROWING = TOTAL LENDING.
    19. 19. Accounting Fundamentals• WHY? One person’s debt (liability) is another person’s credit (asset). $100 Banker IOU “Bob” $100 ASSETS LIABILITIES ASSETS LIABILITIES Bob’s IOU $100 cash $100 cash $100 DEBT worth $100 (loaned to Bob)
    20. 20. Accounting Fundamentals ASSETS LIABILITIES AND NET WORTH Financial Assets (FA) Financial Liabilities (FL) Real Assets (RA) Net Worth (NW) ASSETS = LIABILITIES• “Net worth” is a ‘residual’ category: NW = FA + RA - FL• TOTAL Net financial wealth = the sum of all financial assets less the sum of all financial liabilities, which always nets to ZERO. Why? Because total financial assets = total financial liabilities.• However, nonfinancial or REAL assets (i.e. material wealth) DO NOT SUM TO ZERO- i.e. ARE NOT OFFSET BY ANOTHER’S FINANCIAL LIABILITY.
    21. 21. Accounting Fundamentals ASSETS LIABILITIES AND NET WORTH Financial Assets (FA) Financial Liabilities (FL) Real Assets (RA) Net Worth (NW) WHY DOES THIS MATTER?• If total financial assets = total financial liabilities, then the financial liability (DEBT) of government must EQUAL the financial assets (SAVINGS) of the non-governmental private sector!• Summary: government debt = private savings!
    22. 22. Why Deficits = SavingsConsider three scenarios:• SCENARIO 1: Govt must balance its budget – Private sector makes a nuke worth $100. Govt spends $100 to purchase the nuke. But to purchase the nuke, govt must collect $100 in taxes! The net result is that the real assets (e.g. the nuke) are just moved from the private sector to the government.Government Private sector +$100 ASSETS payment +Nuke MINUS $100 in taxes! $100 - $100 = ASSETS ZERO $0 Nuke -Nuke
    23. 23. Why Deficits = Savings • SCENARIO 2: Govt deficit spends by creating money – For example, in this (imaginary) scenario, the Treasury could spend without borrowing money from the Fed or elsewhere, i.e. without selling Treasuries, and without incurring debt.Government Private sector ASSETS Liability +Nuke $100 +$100 Cash ASSETS Liability +$100 --Govt prints money, gives it to private sector -Nukein exchange for nukes. No tax liability is Note: the $100 is a “liability” of the govt in the senseimposed! The result is that the net worth of that it is a govt IOU which it must accept back as a meansboth parties increases. of paying taxes.
    24. 24. Why Deficits = Savings • SCENARIO 3: Govt deficit spends by ‘borrowing’ money – The Treasury must raise revenue by selling bonds (‘Treasuries’) to the private sector (or to a central bank), which is just an IOU. In this case, exactly the same thing happens as in scenario 2: the net worth of both parties increases. The only difference is that the asset of the private sector is in the form of a bond (IOU for cash) rather than cash.Government Private sector ASSETS Liability +Nuke $100 Bond +$100 Bond ASSETS Liability +$100 Bond --Govt prints money, gives it to private sector -Nukein exchange for nukes. No tax liability isimposed! The result is that the net worth ofboth parties increases.
    25. 25. Money Creation in the U.S. IOUs (Bonds) Money as Debt Federal Reserve Federal Reserve prints money, from US Treasury nothing, and pays Treasury.Whatever bonds the other banks do not purchase, the Federal Reserve purchases.The Federal Reserve can exercise a power that the Treasury cannot: it can simplyprint the money from nothing! But it creates this money as public debt, i.e. thegovernment’s liability to the Fed. This is exactly scenario #3 in previous slide!
    26. 26. Money Creation in the U.S.• In the US, the Federal Reserve prints “Federal Reserve notes” which function as legal tender or fiat money.• This money essentially represents debt to the Fed, (i.e. the government’s liability).• US coins, however, are produced by the US Treasury, and do not represent debt to private banks.
    27. 27. Money Creation in the U.S. OPEN QUESTIONS1. Why does the Treasury have to ‘borrow’ money from the Fed? Would it be better if it printed the money itself?2. Since much of the public ‘debt’ is just a consequence of this law which stipulates that only the Fed (a private bank) can create Federal Reserve money from nothing-but not the Treasury- is the public debt at all important? Or irrelevant?3. Finally, to what extent does the application of interest exacerbate inequality? Does the universal expectation of growth (implied by interest) make perpetual growth a requirement for our economy and hence, guarantee its unsustainability? US Treasury
    28. 28. Accounting Fundamentals• Here is what happens when $10 of interest is applied: Banker’s assets increase $10, and “Bob’s” liabilities increase $10. This is a net transfer of wealth of $10. $100 Banker IOU “Bob” $110 ASSETS LIABILITIES ASSETS LIABILITIES Bob’s IOU $100 cash $100 cash $110 DEBT worth $110 (loaned to Bob)
    29. 29. Accounting Fundamentals• The application of interest makes the financial assets of the banker and the financial liability of the borrower GROW EXPONENTIALLY.• Assets still equal Liabilities in the aggregate, but the net financial wealth of the bank increases by the same amount as the net financial wealth of the borrower decreases. Banker Net transfer “Bob” of $10 ASSETS LIABILITIES Bob’s IOU $110 DEBT worth $110
    30. 30. Accounting Fundamentals• Unlike governments and unlike banks, “Bob” can only acquire the money to repay his liability from somewhere else. From where?• In the aggregate, all new money comes either from the government (in the form of deficit spending) or from banks (in the form of private loans’). Banker Net transfer “Bob” of $10 ASSETS LIABILITIES Bob’s IOU $110 DEBT worth $110
    31. 31. Linking Inequality and Debt• New money (i.e. credit) is primarily loaned into existence by private banks.• Because of the application of interest, total debt will always exceed the size of the existing money supply to repay it. (amount that can be used to pay debts) < (TOTAL DEBT)
    32. 32. Linking Inequality and Debt1. The current system functions like a pyramid scheme: it is built on the expectation of infinite, exponential growth!2. This is impossible, because aggregate financial wealth always nets to zero. (assets=liabilities).3. Interest payments generally do not recycle back into the general population as earned income.
    33. 33. Linking Inequality and Debt• COMPOUNDING INTEREST  INEQUALITY• Compounding interest means that creditors exponentially expand their claims on wealth.
    34. 34. Linking Inequality and Debt• The debt pyramid is like a game of musical chairs: in the aggregate, the total liability of the borrowers can only be paid off (cancelled) with the creation of new money,• New (net) money comes from only two possible sources: 1. Private banks, which will lend the money, thus reinforcing the debt cycle, or 2. Government, which can deficit spend, i.e. spend more than it collects in taxes, thus adding net reserves to the system.
    35. 35. Total Debt-to-GDP Ratio United States (1976-2008) Total Debt to GDP Ratio United States (1976-2008) 2.4 2.3Ratio 2.1 2.0 1.8 1996 2000 2003 2007 2010 Year
    36. 36. Income earned by the top 10% (1970-2010) Percentage of Total Income Earned by the Top 10 Percent United States (1970-2009) 50.0 47.1 44.3 Percentage 41.4 38.6 35.7 32.9 30.0 1970 1980 1990 2000 2010 YearSource: Picketty and Saez
    37. 37. CEO and Worker Pay CEOs pay as a multiple of the average workers pay, 1960-2007Source: Domhoff 2011
    38. 38. The United States does not “borrow” Dollars from China• The United States cannot “borrow” dollars from China because $USDollars China does not produce dollars!• Instead, China trades Chinese Goods their goods in exchange for US dollars.
    39. 39. The United States does not “borrow” Dollars from China• Next, China trades these dollars for interest- bearing IOU’s (bonds) called Treasuries. IOU Dollars• Treasuries are just (Treasuries) promises to pay back more dollars in the future.• This is basically like $US Dollars moving one’s cash from a checking account to a savings account, that earns interest.
    40. 40. The United States does not “borrow” Dollars from China• The bottom line: THE US GOVERNMENT NEVER NEEDS TO ‘BORROW’ THE CURRENCY (MONEY) IOU Dollars (Treasuries) THAT IT CREATES IN THE FIRST PLACE! (whether from China, or anyone else) $US Dollars• Any currency-issuing government can ‘afford’ anything sold in that currency.
    41. 41. Holders of US Treasury Securities 2010 Other 2%Here is some actual data Mutual Fundson who holds US Pension 7% Individualsgovernment debt. Funds 12% Banking 9%More than half of the Institutionspublic debt in the US is 3%owned within the US. Insurance CompaniesInstead of borrowing the Federal Reserve 3%funds, the Treasury could 11%have 1. raised the money Foreignthrough taxation, or 2. 47%printed the moneyitself, debt-free. State and Local Govts 6%
    42. 42. The countries that own the 47% of foreign- owned Treasuries Major Foreign Holders of Treasury Securities 2011 Other 23% ChinaSwitzerland 26% 2% Hong Kong 3% Russia 3% Taiwan Japan Carib 20% 4% Bnkng Ctrs 4% Brazil United 4% Oil Exporters Kingdom 5% 6%
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