DD5: This is inaccurate! Mises in almost every one of his writings considered inflation as an increase of the money supply! There may be 1 or 2 quotes (If I recall in "The theory of Money and Credit") that have to do with demand, and even then, he does not necessarily imply that bank notes can relieve such a demand.
Well, it definitely is up in the air on how Mises defined inflation, but I believe there is at least some credible facts that can point to the monetary equilibrium definition of inflation. Consider these quotes Steve Horwitz gives from Mises' lectures in 1951
"Inflation is an increase in the quantity of money without a corresponding increase in the demand for money, i.e., for cash holdings."
I'm not an expert on Mises' views on money, but there was a relatively big debate among the big whigs in the Austrian blogosphere about Mises' views on money and banking. The debate was more about whether Mises preferred free or full reserve banking than on how he defined inflation, though.
krazy kaju: It's double counting because the money supply hasn't actually doubled. If a bank keeps 5% reserves, then it follows that it lends out 95% of its reserves. That means that for every dollar a depositer puts in the bank, 95 cents will be loaned to someone else. So 5 cents is kept by the bank in vaults and 95 cents are loaned out. The money supply has expanded by exactly 0 cents or, in other words, it has been multiplied by exactly 1.
It's double counting because the money supply hasn't actually doubled. If a bank keeps 5% reserves, then it follows that it lends out 95% of its reserves. That means that for every dollar a depositer puts in the bank, 95 cents will be loaned to someone else. So 5 cents is kept by the bank in vaults and 95 cents are loaned out. The money supply has expanded by exactly 0 cents or, in other words, it has been multiplied by exactly 1.
I'm embarrassed to say it but I just had an Ah-Hah moment. Does anyone disagree with the above quoted text? Can member banks of the Federal Reserve expand the money supply via fractional reserve banking or is the money supply controlled solely by the Federal Reserve printing press?
That said, even if the money supply doesn't increase, money is being invested (loaned out) almost certainly at a rate higher than the consumers' true consumption/investment proportions, since a bank will always maximize the amount of money lent out while, "unproductive" as it may be, some/most clients at a bank just want a place to put their cash and have the benefit of checking and other bank services. For this reason, fractional reserve banking, while not increasing the money supply, still contributes to the business cycle to the extent that the loans go to businesses.
Alex M: I'm embarrassed to say it but I just had an Ah-Hah moment. Does anyone disagree with the above quoted text?
Scott Jefferies: Scott Jefferies: Well, it definitely is up in the air on how Mises defined inflation, but I believe there is at least some credible facts that can point to the monetary equilibrium definition of inflation. Consider these quotes Steve Horwitz gives from Mises' lectures in 1951 "Inflation is an increase in the quantity of money without a corresponding increase in the demand for money, i.e., for cash holdings."
Scott Jefferies: Well, it definitely is up in the air on how Mises defined inflation, but I believe there is at least some credible facts that can point to the monetary equilibrium definition of inflation. Consider these quotes Steve Horwitz gives from Mises' lectures in 1951
DD5: The above quote is 1000% wrong! he ignores the credit expansion process that occurs within the banking system as a whole. 1 dollar will become $20 for a 5% reserve.
The above quote is 1000% wrong! he ignores the credit expansion process that occurs within the banking system as a whole. 1 dollar will become $20 for a 5% reserve.
That would make sense if there is some specie involved for which dollars are redeemable, but in this case there is no such specie and therefore no money substitute. There's no increase in money substitutes floating around, and if depositors try to redeem the money that they deposited only to find that the bank has no more cash in the vault, then they're screwed and will have to wait for their funds to become available (or the bank will get in trouble if the contract stated that funds would be available on demand all of the time). But there's no increase in the money supply since no money substitutes are being printed.
Again, what you said makes sense in the case of money substitutes, i.e. receipts redeemable for gold.
Alex M: That would make sense if there is some specie involved for which dollars are redeemable, but in this case there is no such specie and therefore no money substitute.
DD5: If there is no money subsitutes then we are not talking about Fractional Reserve Banking since in your system there is no fraction and no reserves. You are talking about something else, which in my opinion, doesn't make any sense.
If there is no money subsitutes then we are not talking about Fractional Reserve Banking since in your system there is no fraction and no reserves. You are talking about something else, which in my opinion, doesn't make any sense.
I think the term fractional reserve banking still fits. The bank doesn't keep all of your deposits on hand, but lends them out. Instead of providing you with money substitutes that are redeemable on demand for the real money, they keep your balance in their books. You can redeem/transfer the money in your account so long as there is enough money available in the vault, and this is understood in the contract. If your bank lends out too much, then they'll simply be unable to make a transfer to another bank, honor a check you wrote, or let you withdraw for the time being. Naturally, this will cause the bank to lose costumers (once the money is paid back, allowing them to withdraw), but nothing about this increases the money supply. Does anyone disagree that this an example of fractional reserve banking? Furthermore, isn't this the exact kind of fractional reserve banking we're exposed to today under the Federal Reserve System?
krazy kaju: scineram: krazy kaju:I would also say that price deflation - of any kind - is bad. It prevents the market for loanable funds for clearing properly, which further reduces the efficieny with which savings are used. In a pure free market, price deflation would be avoided, since it would increase the profitability of currency production. What is wrong with price cuts due to produtivity increases? When the price level falls, this causes the real rate of interest to rise. It essentially creates a price floor for the real rate of interest, which in turn causes the loanable funds market not to clear if real interest rates are supposed to fall but nominal interest rates have hit their limit of 0%. In other words:The real interest rate at which the loanable funds market clears is 3%.The price level is falling at 5%.Thus, to bring the loanable funds market to equilibrium, lenders would have to charge -2% nominal interest rates.Thus, it is more profitable and less risky for lenders to simply withhold their money from the market, causing a shortage of loanable funds, which increases interest rates, reduces the productivity of saving, and lowers economic growth.
scineram: krazy kaju:I would also say that price deflation - of any kind - is bad. It prevents the market for loanable funds for clearing properly, which further reduces the efficieny with which savings are used. In a pure free market, price deflation would be avoided, since it would increase the profitability of currency production. What is wrong with price cuts due to produtivity increases?
krazy kaju:I would also say that price deflation - of any kind - is bad. It prevents the market for loanable funds for clearing properly, which further reduces the efficieny with which savings are used. In a pure free market, price deflation would be avoided, since it would increase the profitability of currency production.
What is wrong with price cuts due to produtivity increases?
When the price level falls, this causes the real rate of interest to rise. It essentially creates a price floor for the real rate of interest, which in turn causes the loanable funds market not to clear if real interest rates are supposed to fall but nominal interest rates have hit their limit of 0%.
In other words:The real interest rate at which the loanable funds market clears is 3%.The price level is falling at 5%.Thus, to bring the loanable funds market to equilibrium, lenders would have to charge -2% nominal interest rates.Thus, it is more profitable and less risky for lenders to simply withhold their money from the market, causing a shortage of loanable funds, which increases interest rates, reduces the productivity of saving, and lowers economic growth.
How come some Austrian's argue that the fear of deflation is a myth? Admittedly I don't know much about it but they seemed to have a compelling argument. I think its a truism that general prices over a long period of time will lower as competition and technology permits.
Statism is a religion.
filc: krazy kaju: scineram: krazy kaju:I would also say that price deflation - of any kind - is bad. It prevents the market for loanable funds for clearing properly, which further reduces the efficieny with which savings are used. In a pure free market, price deflation would be avoided, since it would increase the profitability of currency production. What is wrong with price cuts due to produtivity increases? When the price level falls, this causes the real rate of interest to rise. It essentially creates a price floor for the real rate of interest, which in turn causes the loanable funds market not to clear if real interest rates are supposed to fall but nominal interest rates have hit their limit of 0%. In other words: The real interest rate at which the loanable funds market clears is 3%. The price level is falling at 5%. Thus, to bring the loanable funds market to equilibrium, lenders would have to charge -2% nominal interest rates. Thus, it is more profitable and less risky for lenders to simply withhold their money from the market, causing a shortage of loanable funds, which increases interest rates, reduces the productivity of saving, and lowers economic growth. How come some Austrian's argue that the fear of deflation is a myth? Admittedly I don't know much about it but they seemed to have a compelling argument. I think its a truism that general prices over a long period of time will lower as competition and technology permits.
krazy kaju: scineram: krazy kaju:I would also say that price deflation - of any kind - is bad. It prevents the market for loanable funds for clearing properly, which further reduces the efficieny with which savings are used. In a pure free market, price deflation would be avoided, since it would increase the profitability of currency production. What is wrong with price cuts due to produtivity increases? When the price level falls, this causes the real rate of interest to rise. It essentially creates a price floor for the real rate of interest, which in turn causes the loanable funds market not to clear if real interest rates are supposed to fall but nominal interest rates have hit their limit of 0%. In other words: The real interest rate at which the loanable funds market clears is 3%. The price level is falling at 5%. Thus, to bring the loanable funds market to equilibrium, lenders would have to charge -2% nominal interest rates. Thus, it is more profitable and less risky for lenders to simply withhold their money from the market, causing a shortage of loanable funds, which increases interest rates, reduces the productivity of saving, and lowers economic growth.
Hey DD5, I'd be curious to get your response to my previous post.
scineram: No, but what if it does? As is almost always the case.
Then you are trying to change the definition of what fractional reserve banking is. The point, the very definition and title, of fractional reserve banking is that they do not have 100% reserves. Therefore YES, if there is a bank run and the bank is fractional reserve then someone is going to be defrauded because they do not have the adequate amount of reserves to meet 100% demand.
'It is difficult to imagine any normal person wishing to meet Marx for a third time.' - Alexander Gray, The Socialist Tradition
Laughing Man:. . . if there is a bank run and the bank is fractional reserve then someone is going to be defrauded because they do not have the adequate amount of reserves to meet 100% demand.
. . . if there is a bank run and the bank is fractional reserve then someone is going to be defrauded because they do not have the adequate amount of reserves to meet 100% demand.
All this talk about fractional reserves being "fraud" assumes an industry that works similarly to our current banks, but this need not be so. I think that fractional-reserve banks could stipulate in their contracts that deposited money may not be available for withdrawal at a given time or something similar, and then consumers who were aware of this could make the conscious choice to deposit or not deposit their money with those institutions.
I swear by my life and my love of it that I will never live for the sake of another man, nor ask another man to live for mine.
Alex M: DD5: If there is no money subsitutes then we are not talking about Fractional Reserve Banking since in your system there is no fraction and no reserves. You are talking about something else, which in my opinion, doesn't make any sense. I think the term fractional reserve banking still fits. The bank doesn't keep all of your deposits on hand, but lends them out. Instead of providing you with money substitutes that are redeemable on demand for the real money, they keep your balance in their books. You can redeem/transfer the money in your account so long as there is enough money available in the vault, and this is understood in the contract. If your bank lends out too much, then they'll simply be unable to make a transfer to another bank, honor a check you wrote, or let you withdraw for the time being. Naturally, this will cause the bank to lose costumers (once the money is paid back, allowing them to withdraw), but nothing about this increases the money supply. Does anyone disagree that this an example of fractional reserve banking? Furthermore, isn't this the exact kind of fractional reserve banking we're exposed to today under the Federal Reserve System?
The FRB you're exposed to now under the Fed is inflationary with the money multiplier equal to 1/R. Here listen to this by Robert Murphy posted yesterday:
http://mises.org/MultiMedia/mp3/misescircle-greenville09/03_MCGreenville_2009_Murphy.mp3
You are neglecting the credit expansion process. A $100 deposit with 10% reserves, a bank will lend $90. That $90 will be deposited in another bank and it will lend $81 with 10% reserves. That $81 will be deposited in yet another bank and it will lend out $74, and the process will continue until $900 worth of demand deposits have been newly created by the banking system.
Banks are called banks because originally al they did was store stuff. If one of these supposed not fraudulent, free lending banks would likely exist, it would have at point in history. I don't know a single case.
I also wonder how these constantly depreciating notes would end up being used by anyone as money.
Caley McKibbin:Banks are called banks because originally al they did was store stuff. If one of these supposed not fraudulent, free lending banks would likely exist, it would have at point in history. I don't know a single case.
This is a negative proof fallacy.
Caley McKibbin:I also wonder how these constantly depreciating notes would end up being used by anyone as money.
They probably wouldn't be, but that doesn't mean that fractional-reserve banks would cease to exist entirely. I imagine they would just be a lot less plentiful than they are now, and operate alongside full-reserve banks.
Justin Spahr-Summers: This is a negative proof fallacy.
I haven't seen any leprechauns or tooth fairies either.
Justin Spahr-Summers: They probably wouldn't be, but that doesn't mean that fractional-reserve banks would cease to exist entirely. I imagine they would just be a lot less plentiful than they are now, and operate alongside full-reserve banks.
Who said they would exist to begin with?
Do "free bankers" even think that these banks would issue notes?
Caley McKibbin:I haven't seen any leprechauns or tooth fairies either.
Leprechauns and tooth fairies aren't entities created by humans, nor has anyone rationalized how they could possibly exist.
Caley McKibbin:Who said they would exist to begin with? Do "free bankers" even think that these banks would issue notes?
I assert that fractional reserve banks would probably exist, because I can conceive of a demand for earning interest on savings despite the risk. As far as notes, I don't know if they would try to or not, or feel a need to or not. But even in the absence of banknotes, some depositors may have no need for a checking account with such a bank (in other words, they would always withdraw the specie or commodity itself).
DD5: You are neglecting the credit expansion process. A $100 deposit with 10% reserves, a bank will lend $90. That $90 will be deposited in another bank and it will lend $81 with 10% reserves. That $81 will be deposited in yet another bank and it will lend out $74, and the process will continue until $900 worth of demand deposits have been newly created by the banking system.
That only applies to the classical case of fractional reserve banking where there are money substitutes being printed that aren't backed by specie. Even if the money loaned out is spent in such a way that it ends up deposited in another bank, which in turn lends a portion of it out, there is no expansion of the money supply. The example you gave above is merely that of how money I deposit in a bank will be propagated throughout the economy, and not how the money I deposit will be turned into more warehouse receipts. While there is $900 of total deposits, they aren't so much demand deposits as demand-per-availability deposits, and, as I mentioned earlier, they are limited in their ability to be withdrawn or transferred based on this availability.
In the past, what you wrote would lead to expansion of the money supply because banks printed warehouse receipts that said they could be redeemed for the money commodity when they weren't backed 100%. Nowadays, the warehouse receipt IS the money supply. You don't redeem your Federal Reserve Notes for some other commodity (whereas in the past, you redeemed your paper money for the money commodity). Banks are forbidden from printing warehouse receipts (in the traditional guaranteed-to-be-redeemable sense) for Federal Reserve Notes in addition to the notes themselves. Therefore, the money supply can only be increased/decreased by the Fed).
In reply to the OP, I don't think Israel Kirzner is really happy with the ABCT, at least not Hayek's development of it. He stated so in the following interview:
http://mises.org/journals/aen/Aen17_1_1.asp
Alex M: DD5: You are neglecting the credit expansion process. A $100 deposit with 10% reserves, a bank will lend $90. That $90 will be deposited in another bank and it will lend $81 with 10% reserves. That $81 will be deposited in yet another bank and it will lend out $74, and the process will continue until $900 worth of demand deposits have been newly created by the banking system. That only applies to the classical case of fractional reserve banking where there are money substitutes being printed that aren't backed by specie. Even if the money loaned out is spent in such a way that it ends up deposited in another bank, which in turn lends a portion of it out, there is no expansion of the money supply. The example you gave above is merely that of how money I deposit in a bank will be propagated throughout the economy, and not how the money I deposit will be turned into more warehouse receipts. While there is $900 of total deposits, they aren't so much demand deposits as demand-per-availability deposits, and, as I mentioned earlier, they are limited in their ability to be withdrawn or transferred based on this availability. In the past, what you wrote would lead to expansion of the money supply because banks printed warehouse receipts that said they could be redeemed for the money commodity when they weren't backed 100%. Nowadays, the warehouse receipt IS the money supply. You don't redeem your Federal Reserve Notes for some other commodity (whereas in the past, you redeemed your paper money for the money commodity). Banks are forbidden from printing warehouse receipts (in the traditional guaranteed-to-be-redeemable sense) for Federal Reserve Notes in addition to the notes themselves. Therefore, the money supply can only be increased/decreased by the Fed).
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