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Edition 01 : 24 June, 2011.
Edition 08: 29 January, 2013.
(VERSION
EN FRANÇAIS PAS DISPONIBLE)
Summaries of
monetary reform papers by L.F. Manning published at http://www.integrateddevelopment.org.
00. Financial system mechanics explained for the first
time. “Short summary of all papers published.” (Revised version)
The
papers summarised are :
01. Financial system mechanics explained for the first
time. “The Ripple Starts Here.” Full text. (Original version)
Financial system
mechanics “The Ripple Starts Here.” A short presentation. (Original version)
Financial system mechanics “The Ripple Starts Here.” A
Powerpoint presentation. (Original version)
02. The
interest-bearing debt system and its economic impacts. (Revised version)
03. How to introduce an e-money financed virtual minimum wage system in New
Zealand. (Revised version)
04. How to introduce a guaranteed minimum income in New
Zealand. (Revised version)
05. How to
create stable financial systems in four complementary steps. (Revised version)
07. The DNA of the debt-based economy. (The summary for this
paper is the unified text also published as document 9).
08. Manifesto of the debt-based economy. (No
summary applicable.)
09. Unified text of the manifesto of the debt-based
economy. (This is the also
the summary for document 7).
10. The missing links between growth, saving, deposits and
GDP.
11. Using a foreign transactions surcharge (FTS) to manage
the exchange rate.
12. The Manning plan for permanent debt reduction in the national
economy.
13. NEW Comments on the IMF (Benes and Kumhof) paper “The
Chicago Plan Revisited”. (Summary
pending)
14. NEW Capital is debt. (Summary
pending).
Summaries of the
papers are presented in numerical order.
01. Summary of paper 1 : Financial system mechanics
explained for the first time. “The Ripple Starts Here.”
(Note : this, the original form of the debt
model, has been slightly modified in later papers to take some extra variables
into account).
There has long been a substantial
theoretical disconnect between financial and monetary policy and economic
behaviour in the real world. Recent world events show how limited economists’
understanding of the mechanisms underlying the monetary policy has been and
still is. The basic mechanisms at the heart of the “modern” financial system
itself have never successfully been put into a logical framework that is robust
enough to allow the underlying relationships to be quantified.
One effort to do so was
provided by Irving Fisher in 1911 his well-known equation of exchange that
takes the form:
MV = PQ (1)
or M= PQ/V (2)
Where: M = the amount of money
in circulation,
V = the speed of circulation
of that money; the number of times M is used over a given period T,
P = the price level of goods
and services an economy produces during time T,
Q= the monetised quantity of
goods and services an economy produces during time T.
The product PQ is what is
known today as Gross Domestic Product or GDP. At first sight, the Fisher
equation seems to be self-evident. People have to be able to produce and
exchange goods and services. To the extent money is used to do this, the total
produced must bear a relationship to the amount of money and the frequency with
which it is used.
Verifying the Fisher equation
of exchange, until now, has been difficult. A few people have tried to do it.
The main difficulties have been to work out reliable estimates for the
variables. Historically, only the price level P has been known within a reasonable
margin of error.
The relationship
presented here began with an attempt to address a psychological question. “Has
peoples’ hoarding behaviour changed over time?” The question is crucial to
understanding the Fisher relationship. For a given quantity of goods and
services Q, does the price P change when the amount of money M changes, or does
the speed of circulation of that money, V, change? Or do P and V both change?
The crude estimate of V in
The speed of circulation, V,
appears to have been reasonably constant because it essentially represents a
hoarding function. At any given time, most money was “saved”. V may be more a
structural than a dynamic component in the Fisher relationship. The immediate
response to a change in the money supply M will be a change on the production
side of the equation PQ. If the change in M is rapid, the response will be a
change in prices P until production and demand adjust to compensate for the
change in the money supply. That’s different from what happens with fresh
produce in the supermarket after bad weather. In that case the money side of
the equation remains unchanged and prices rise because production falls. That
happens in the shops regularly and from season to season.
The speed of circulation on
the other hand appears to require a change in people’s behaviour toward money,
or changes in the way the financial system works.
The main points of
the paper are :
01. Debt modelling can be used
to provide insights into the mechanics of the traditional interest-bearing
debt-based financial system.
02. The economy can be
represented by a debt model derived from the Fisher equation of exchange
(Mv=PQ) .
03. The general form of the
debt model is: PQ = (
Where :
PQ is the GDP,
Md is the total debt,
Ms is the debt representing
unearned income on deposits,
Mv is the debt borrowed for
speculative investment rather than production,
Vp is the speed of circulation
of Mp (Md-Ms),
Mo is the circulating currency
contributing to output,
Vo is the speed of circulation
of Mo,
Eo is circulating electronic
debt-free currency,
Veo is the speed of
circulation of Eo (and must be equal to Vcd).
This general revision of the
original Fisher equation of exchange allows the model to apply to countries
that are not yet cash-free, and countries where debt-free electronic cash or
E-Notes are introduced to replace bank debt.
05. When interest rates fall,
the rate of increase of the total debt Md tends to rise because borrowing
becomes more affordable. In that case, in the revised Fisher equation, both the
productive sector debt Mp and the growth of nominal GDP, (PQ) are likely to
rise.
06. The speed of circulation
Vp of the productive debt Mp in the revised Fisher equation is 1.
07. Once the bubble variable
Mv is eliminated, nominal GDP growth is immediately available by solving the
modified Fisher equation of exchange over any desired time span.
08. The investment sector debt
Ms, in the revised forms of the Fisher equation (9),(17), is generated solely
by deposit interest (unearned income) on the total debt
10. The debt model introduces
the concept of “systemic” inflation as a structural component of the debt
system that increases when interest rates rise and is a major component of CPI
inflation.
11. The level of domestic
earned savings in
12. Western world economies
have become almost entirely dependent on “good” debt management. Unfortunately,
there has been no effective debt management for decades. That is why economic
policy has failed to prevent the boom and bust cycles in the modern economy.
The paper demonstrates why that has happened and how such cycles can be avoided
in future.
02. Summary of paper 2 : The interest-bearing debt system
and its economic impacts.
The paper shows how
exponential debt expansion in the financial system used worldwide is caused by
interest paid as unearned income on bank deposits. It describes analytically
for the first time the fundamental transfer mechanism whereby the financial
system “pumps” deposits from the production cycle into the investment sector or
paper economy. This process leads to endemic systemic inflation in both the
productive and the investment sectors. In the current economic system inflation
is unavoidable except in the presence of substantial current account surpluses.
Neither the System
of National Accounts (SNA) nor orthodox economic theory provides a direct
mechanism to manage systemic inflation. Instead, orthodox inflation policy
works through the investment sector. Higher interest rates increase systemic
inflation while at the same time increasing deposit interest and reducing
purchasing power. The inflation transmission mechanism persistently damages the
profitability in the productive economy as inflation is temporarily slowed by
lower consumption, lower producer margins and higher unemployment. This is but
one reason why using an Official Cash Rate (OCR) to control inflation within
our present system is fundamentally flawed.
While some, mostly
debt-free, individuals may succeed in hoarding financial reserves, the existing
debt system does not appear to allow for any aggregate earned savings. As a
result, earned savings have to be offset by net borrowing of new capital,
consumer or other non-productive debt from outside the production cycle.
Speculative global
financial flows make current account imbalances worse and cause instability by
“chasing” large deficit, high yield currencies. This process creates a
self-reinforcing cycle of overvalued currencies, high interest rates, and
financial crashes especially where central banks rigidly apply very low
inflation targets.
Excessive debt
growth has now reached the point where the global financial system is imploding
because the productive economy can no longer satisfy the profit expectations of
the investment sector.
The pool of
unearned income in the investment sector does not usually mix with the
production cycle because there is a net financial incentive for unearned
interest deposits to remain in the investment sector.
An economic debt
model based on a revision of the Fisher Equation of Exchange provides
analytical support for the analysis given in this paper.
The theory and
model described in the paper allow, in principle, ready quantification of debt
expansion, systemic inflation, growth and the incentive to invest.
Exponential
expansion of debt and prices can be slowed or stopped by reducing or removing
deposit interest from the financial system. This could be done on a
multilateral basis but is more likely to be implemented unilaterally as
proposed in other papers of this series.
Cultural and
institutional “capture” of economic debate may explain why the causes of debt
growth and inflation have not been closely examined before now.
03. Summary of paper 3 : How to introduce an e-money
financed virtual minimum wage system in New Zealand.
The paper sets out
the underlying economic problems relating to the exponential growth of debt and
offers a detailed plan to deal with them. The private interest-bearing
debt-based financial system generates systemic exponentially increasing
transfers of wealth from the productive sector of the economy to the investment
sector. The transfers take the form of net interest paid on bank deposits. The
deposit interest has to be funded from the productive economy. This causes an
inflationary expansion in the debt levels the productive economy has to
service. Over the past few decades, the orthodox economic approach to that
inflationary expansion has been to increase the price of debt by raising
interest rates. Not only is that approach shown to be counterproductive but
debt levels in developed economies are now so high that small increases in
interest rates are enough to force them into recession. The consequence is that
interest rates now have to be reduced close to zero to stimulate the economy.
The proposed plan
resolves the exponential debt problem. It is limited in its scope to reducing
debt in the economy and stimulating sustainable growth.
The plan introduces
the concept of a virtual minimum wage. In
Debt reduction
occurs as people receiving the stimulatory payments use some of them to repay
existing consumer debt and mortgages. Debt is progressively replaced by
electronic cash circulating in the economy at the same speed as existing bank
debt. [Injections
by the Japanese Government failed to adequately stimulate the Japanese economy
in part because of the debt substitution that took place. Instead of
stimulating consumption some private debt was replaced with public debt.] The paper shows the
debt reduction process can probably continue indefinitely. The proposed cash injections
become self-limiting as normal wage increases reduce the difference between
ordinary wages and the virtual minimum wage. The plan can then be extended by
increasing the virtual minimum wage first from NZ$ 20/hour to NZ$23/hour and
then to NZ$25/hour. Each of those extra increases has approximately the same
effect as the original increase to NZ$ 20/hour, being about 2.6% of GDP. The
programme can be continued in stages, and progressively broadened until most
debt in the economy has been retired and the economy is permanently working at
full capacity.
The plan is
accompanied by at least two monetary instruments. The first is the introduction
of a supplementary deposit ratio into the banking system and the second is the
introduction of a foreign transactions surcharge to manage the current account
and retire foreign debt.
The supplementary
deposit ratio is applied in addition to the Basel III risk based capital
requirements under which the banking system operates at present. The
supplementary deposit ratio enables the effect of the E-note injection to be
sterilised (offset) so that new bank lending is correspondingly reduced. This
eliminates the possibility of inflation being caused by an oversupply of new
interest-bearing bank debt as the Official Cash Rate (OCR) is reduced towards
zero. Lowering the OCR will progressively remove systemic inflation from the
economy.
The Foreign Transactions
Surcharge (FTS) serves two main purposes. The first is to limit any capital
flight as the OCR is reduced. The second is to provide a powerful ongoing
instrument to regulate the exchange rate and progressively repay the nation’s
foreign debt. The FTS is a variable tax on all outward transfers of NZ
currency. It would start at about 10% and be automatically collected through
the banking system. The income received would be used to reduce domestic taxes,
such as GST, and to begin foreign debt retirement. The proposed 10% initial
level for the FTS is much lower than the recent percentage variations in the
NZ$ exchange rate. The proposed FTS rate would apply to ALL exchange
transactions including speculative financial transactions. It appears to come
within the context of existing international protocols such as GATT and the WTO
that allow for protecting a nation’s balance of payments.
04. Summary of paper 4
: How to introduce a guaranteed
minimum income in New Zealand.
The paper sets out
the underlying economic problems relating to the exponential growth of debt and
offers a plan based on a Guaranteed Minimum Income (GMI) to deal with them. The
private interest-bearing debt-based financial system generates systemic
exponentially increasing transfers of wealth from the productive sector of the
economy to the investment sector. The transfers take the form of net interest
paid on bank deposits. The deposit interest has to be funded from the
productive economy. This causes an inflationary expansion in the debt levels
the productive economy has to service. Over the past few decades, the orthodox
economic approach to that inflationary expansion has been to increase the price
of debt by raising interest rates. Not only is that approach shown to be
counterproductive, but debt levels in developed economies are now so high that
small increases in interest rates are enough to force them into recession.
Interest rates now have to be reduced close to zero to stimulate the economy.
The plan introduces
a Guaranteed Minimum Income for each legal resident as of right, thereby eliminating
the need for social welfare programs and releasing potential productive
capacity presently locked into welfare dependency and poverty.
The basic details
of the proposal are shown in Tables 1 and 2 of the paper. The GMI will free a large
pool of productive capacity that is barely used now. That capacity arises
because all welfare-induced constraints on productive activity will be removed.
Everyone will be able to contribute to the economy and be rewarded like
everyone else for doing so. The GMI has been set to match existing social
transfer incomes. The plan is sufficiently accurate as a first approximation,
though the numbers may need minor adjustment or updating here and there
depending on the political policy perspective adopted by those implementing it.
The GMI proposal shown in the plan is unique as it is the only one to
incorporate a universal housing allowance without which it is not possible to
generate a simple GMI that matches the existing transfer system. Failure to
match existing transfer payments would be politically unacceptable as system
implementation would create winners and losers and funding would become very
difficult to manage. Table 3 shows that the proposed GMI follows the existing
transfer system very closely.
The GMI is funded
by a combination of redirecting most existing transfer payments to the GMI, a
1% wealth tax on all net capital assets, an annual electronic cash injection of
NZ$ 4.32 billion and rearrangement of existing taxation. The plan shows that one
socially acceptable solution is to have a flat-tax of 41.5% on all earned
income, bearing in mind that neither the GMI itself nor the housing
allowance is taxed.
The tax rate taken
over both the untaxed GMI and earned income will be less than what it is now
for the majority of income earners including almost everyone in the low to
middle income bands.
Appendix 3 examines
15 specific household incomes. The results are summarised in Table 4 which
shows how net GMI incomes relate to existing net incomes. It proves the
proposed tax rate of 41.5% (with GMI payments and housing allowances tax-free)
and a 1% wealth tax together give “appropriate” GMI outcomes when compared with
the existing earned income structure. More work will be needed to fine-tune the
proposal. For example, Table 4 first considers the case where there is just one
income earner per household. Income sharing among adults reduces the positive
“difference” figures shown in the column “Diff1” in Table 4 because shared
incomes reduce the income tax paid by the household compared with the amount
presently paid by a single earner. The result with a 1/3 and 2/3 income split
is shown in column “Diff2” of Table 4.
Overall GMI
outcomes for most families will be close to or better than what they are now
under the current system. The particular GMI solution selected for this paper
deliberately weights those net final outcomes in favour of families with
children and lower incomes to offset the rapid increase in income inequality
that has occurred in
A Foreign Transactions
Surcharge (FTS) is proposed as part of Plan B. The FTS serves two main
purposes. The first is to avoid any risk of capital flight arising from
implementation of the GMI. The second is to provide a powerful ongoing
instrument to regulate the exchange rate and progressively repay the nation’s
foreign debt. The FTS is a variable tax on all foreign transfers of NZ
currency. It would start at about 10% and be automatically collected through
the banking system. The income received would be used to reduce domestic taxes,
such as GST, and to begin foreign debt retirement. The proposed 10% initial
level for the FTS is lower than the recent percentage variations in the NZ$
exchange rate. The proposed FTS rate would apply to ALL exchange transactions
including speculative financial transactions, though it would be technically
feasible to apply more than one rate.
05. Summary of paper 5 : How to create stable financial
systems in four complementary steps.
This paper
discusses the causes of the rapid exponential growth of interest-bearing debt
in the world’s developed economies, and what pathways might be available to
reduce debt growth to sustainable levels.
The paper builds on
the theory and debt model presented in paper 1 of this series. That theory is
based on a revised form of the Fisher Equation of Exchange that takes the
presence and cost of interest paid as unearned income on bank deposits into
account.
Section 3 of the paper
offers four options, labelled Option (A) through Option (D). The options are in
ascending order of the degree of transformation of the existing
financial architecture they provide.
Option (A) leaves
the existing banking system as it is, but maintains a very low Official Cash
Rate (OCR) and introduces a supplementary reserve ratio over and above the
normal risk weighted capital adequacy ratios to manage debt expansion in the
domestic economy. Since
Option (B) is
similar to option (A) but allows the Central Bank to provide funding for some government
expenditure that would otherwise be supplied at interest by the private banking
system. The funding foreseen is a mixture of debt and electronic cash
(E-notes). The Central Bank funding is sterilised using the supplementary
reserve ratio from Option (A) so funding injections by the Central Bank have no
inflationary impact. The Central Bank funding, once spent, increases the
deposits in the banking system as is the case with existing private bank
funding, broadly maintaining the banks’ lending capacity and margins. The debt
growth exponential is reduced, but that reduction is partly offset from the
banks’ point of view, by a very low rate of inflation.
Option (C) takes
Option (B) a step further by issuing all debt and money through the Central Bank.
Option (C) is the one recommended by United States President Lincoln in the
quote at the beginning of the paper. The end-point of the process is that the
banking system reserves gradually increase to 100%, and the private banking
system becomes a savings and loan institution without the right to issue
debt. The banks’ lending margins, policies and lending criteria remain
essentially unchanged.
Option (D) provides
for an integrated, measured and taxed local currency system that can be used in
conjunction with any of Options (A) through (C) to further promote measured
local economic participation that would otherwise be unlikely to take place,
and also to further widen the equitable tax base,
Section 4 of the
paper discusses equity in society. It shows how the existing financial and
taxation systems have skewed the income structure of industrialised economies.
It argues the only way to correct the skew is to change the SHAPE
of the economy. A single universal financial transactions tax (FTT) is proposed
as an option to do that. The FTT would be deducted on all transfers out of bank
accounts, and in
Section 5 reviews
the impacts of the various proposals on the public sector. While Options (B)
and (C) potentially offer more leverage for greater economic participation of
the public sector, the proposals can also be presented in “a public sector
neutral” form. The degree of influence of the proposals on the public sector is
subject to political evaluation and is beyond the scope of the paper. Despite
that, even the modest application offered in Section 6 produces dramatic
downstream benefits for governments’ accounts, especially in relation to public
debt levels and the sharply reduced cost of funding that debt.
Section 6 uses the
economic debt model to produce a fully worked out comparison for the
The proposals in the paper
provide a clear practical and practicable pathway to sustainable debt, very low
inflation and high real productive economic growth. The economy can be safely
reshaped to offer more equity in society and to function much more efficiently
than it does under the current financial system.
06 : Summary of paper
6 : The savings myth.
The main conclusion
from this paper is that the nature of saving in a debt-based economy is very
poorly understood. That lack of understanding has produced academic literature
and policy frameworks, including the international System of National Accounts
(SNA) itself, that have been catastrophic for modern economies.
At the most basic
level, the international system of national accounts (SNA) presently used to
measure all the world’s economic success is shown to be incorrect in at least
five ways, which are set out in the following comments (a) to (e).
(a) The “saving”
recorded as a residual in the National income and outlay account, for example,
is a myth. This explains the title of this paper. Orthodox economic theory
requires saving to equal investment where investment relates to new productive
investment, not “investment” including existing assets.
New productive
investment is the gross fixed capital formation recorded in the national accounts.
That investment is notionally funded from productive sector incomes. The net
investment is the gross fixed capital formation less the principal repayments
that are made on existing capital goods. So the net productive Saving
according to economic theory must be that new capital formation less the
repayments made out of the gross operating surplus. That is the Saving figure
that must appear in the National income and outlay account. Once that is done,
one of the most basic equations in orthodox economics is satisfied:
S = DI –
C , being [Productive Saving S = Disposable Income DI less Consumption C].
(14)
One
can save neither more nor less than what one earns less what one spends. In aggregate that
saving MUST be invested in new capital goods so as to clear the market of all
its production. It is astounding that for sixty years since the
SNA was introduced the world has worked with a system of national accounts that
is so obviously faulty. Conceptually, those who purchase capital goods
have an accumulated debt to employees and businesses, not to the banking
system. When employees and businesses
accumulate non-productive ‘‘savings” an equivalent amount of bank debt must be
created to replace those “savings”.
(b) The
current account surplus or deficit must be reflected on both sides of the
National income and outlay account. The current account is simply a means of
settling foreign exchange transactions. All that happens is that the mix of
consumption goods and capital goods in the productive economy changes.
The
creditor country swaps surplus consumption goods for an equal amount of capital
goods while the debtor country swaps some of its capital goods for surplus
consumption goods and to pay for other remittances abroad on the current account. In
this process the debtor country initially creates new debt to pay for the extra
consumption and ends up with an equal sum of deposits received from the sale of
its capital goods to balance the foreign exchange transactions. When the banks’ net
foreign currency assets are negative they have “borrowed” foreign currency to
settle their foreign exchange requirements. In that case, foreign ownership of
the domestic economy that would otherwise be manifested in the sale of domestic
assets and corresponding increase in domestic deposits, has been replaced by
foreign currency “debt” in the form of bonds and commercial paper. It is a
liability that leaves the domestic economy especially vulnerable to the
expectations of foreign lenders.
(c) The SNA has
persisted in using depreciation (consumption of fixed capital) instead of
principal repayments in the National income and outlay account. It is
hard to believe the economics fraternity at large did not know depreciation has
little to do with the cash flow that describes incomes and outlay. Depreciation
is not a cash flow. It might be relevant to estimating wealth but has nothing
to do with income or expenditure despite its being used in business profit and
loss accounts.
The use of depreciation for measuring economic success has been
catastrophic for the world economy. As depreciation rates
have been raised, short term profit, and as a result equity values and capital
gains, have increased at the cost of lower
productive Saving and Investment.
This paper is thought
to be the first to identify the link between business profit-seeking and
declining world economic performance through the depreciation mechanism. Higher
depreciation allowances mean higher principal repayments and higher repayments
mean less saving, lower net investment and lower measured GDP growth.
A second major
influence on repayments is population mobility. As people move around much more
than they used to the average life of household mortgages has decreased.
Typical table mortgages have much smaller principal repayments at the start of
a long-term mortgage than they have later in the life of the mortgage. The
mortgage repayment rate underpins most of the “average” repayment of 1.23 times
depreciation used in this paper.
(d) By convention, the
SNA counts increases in inventory (stocks of consumption goods) in the Gross
Domestic Product (GDP). That is understandable if the increases result from
population growth or inflation. Otherwise, they represent a market failure and
a loss to the economy. Consumption prices have been too high to clear the
market of all the available production. That means future sales must be
discounted to clear the increase in inventory, and that, in turn, gives it a
low or even zero economic value.
For the purposes of the
calculations included in this paper the increase in inventory has been
arbitrarily set at zero and the gross operating surplus reduced by the same
amount. That also reduces the National Disposable Income (DI).
(e) The “balance
on external goods and services” in the gross domestic product and expenditure
account of the SNA must be deducted from the gross operating surplus when
calculating National disposable income (NDI). This is to enable the full
current account offset in (b) above to be recorded on both sides of the
account. The National Accounts
set out in the appendices of the UN protocols therefore need to be
systematically reviewed and corrected.
Figure 7 shows that the
use of revisions (a) to (e) in section 8 for the National income and outlay
account yield a NDI for New Zealand that more or less matches the existing DI
produced by the national accounts until 2005. Figure 7 is preliminary because
it is calibrated against the depreciation figures recorded in the existing SNA
accounts.
The major change is not to GDP or to DI but to prospective policy
options for the future. This paper reveals
The existing fixation
on non-productive saving in
On the face of it, GDP cannot increase faster than the Saving rate, so
improving economic performance means increasing transaction deposits (My in the debt model) by simultaneously increasing
incomes and production.
The decline in Saving
in the present financial system is due to the increase in depreciation rates,
moderated by changing population mobility. While some of that can be
attributed to changing technology and rapid obsolescence, the main contributor
has been the self-interest embodied in business focus on short-term profit and
the accompanying permissive regulatory framework that has made high
depreciation rates (and short product durability) possible.
Aggregate economic
performance cannot be improved without changing the underlying business and
banking philosophy in favour of longer-term national growth objectives.
The comments on the New
Zealand Savings Working Group (SWG) report in Appendix 2 illustrate very well
how business self-interest presently takes priority over the national interest.
The “Saving” promoted by SWG and included in the existing SNA format is
economic suicide because, as shown in Figure 6, it adds nothing to the economy
while directly adding to asset inflation, consumer debt, higher inventories,
wage stagnation, increased unemployment and recession.
In the absence of
business leadership, the
07 : Summary of paper 7. The DNA of the debt-based economy. (The summary is the
unified text under document 9.)
Debt.
For practical purposes,
debt-based financial systems in modern industrialised countries are cashless.
In industrialised (and most other) countries, privately owned banks create new
debt and charge their clients for doing so. In the
debt-based system the debt is created before its corresponding money deposit.
Except for residual
cash transactions, in a debt-based financial system there is a unit (dollar) of
debt for every unit (dollar) of “money”. For every unit (dollar) “saved” by one
person there is a unit (dollar) of debt owed by another.
Debt can only be
used once. Once debt is used it must eventually be repaid with interest. Unless
it is written off by bank failure, existing debt can be repaid only by reducing
the banking system deposits or net worth.
Debt growth.
The debt based
financial system is dynamic and independent of orthodox economic equilibrium
theory. Orthodox economics offers no mechanism to achieve
elimination of unsustainable debt growth. As the ratio of unearned income to
GDP increases, the ability of the productive economy to fund the pool of
unearned income decreases.
Net after-tax
interest paid by banks on their clients’ deposits forms an exponentially
increasing pool of non-productive unearned interest income that is never repaid
and is a structural part of the debt-based financial system. The interest rate
on deposits must be eliminated if the exponential growth of the pool of
non-productive unearned income is to be stopped. Unless the deposit interest
rate is zero, Domestic Credit, unearned deposit income and nominal GDP must all
grow exponentially because, in the debt based financial system, they are all a
function of the deposit interest rate.
In the absence of
realised capital gains it is impossible to maintain exponential debt expansion
greater than GDP expansion over an extended period because the added debt
servicing costs will always leave the productive sector insolvent. The debt
supporting the exponentially increasing pool of non-productive unearned income
leads to an ongoing transfer of real wealth from the productive sector to the
non-productive investment sector.
Credit bubbles, recessions and depressions result from the failure of
the banking sector to properly align demand for credit with the productive
capacity of the economy. Credit expansion in the banking system above what the
debt system requires means there is a bubble in the economy while credit
expansion below what the debt system requires means there is a recession or
depression in the economy. A credit bubble or economic contraction is
neutralised when credit expansion has been adjusted so that it just satisfies
what the debt system requires taking into account the full productive capacity
of the economy.
There is no “money”
multiplier in the debt based financial system other than the (slightly) variable speed of circulation of
the transaction deposits actually used to generate productive economic output.
Exponential debt growth can be eliminated by progressive credit
monetisation of the existing debt and by permanently reducing the OCR (Official
Cash Rate) towards zero, at which point systemic inflation caused by interest
paid on deposits would be removed from the financial system.
Inflation.
Systemic inflation
and exponential debt growth are caused by interest paid on bank deposits.
Interest paid by banks on their clients’ deposits forms an exponentially
increasing pool of non-productive unearned income that is a structural part of
the debt- based financial system and cannot be repaid.
In a debt-based
economy where interest is paid on deposits, systemic inflation is half the
interest rate paid on deposits provided adjusted wage rates rise in line with
that systemic inflation plus productivity growth and there are no changes to
indirect taxes. Systemic inflation arising from deposit interest automatically
reduces towards zero as deposit interest rates reduce towards zero. However, in
the absence of quantity controls on the issue of new debt, low interest rates
can lead to unproductive “bubble” lending, thereby increasing price inflation.
In an economy based
on interest bearing debt, almost all price is inflation. Aggregate consumer
prices inflate with the deposit interest rate so that deposit interest on
existing productive investment can be paid into the unearned income pool
without disrupting the productive economy. Increasing interest rates to manage
inflation increases the flow of deposits from the productive sector to the
investment sector by increasing the unearned income pool. It is no longer possible to combat inflation
by substantially increasing interest rates (or to stimulate growth by reducing
them) because modest increases in interest rates are now enough to drive the
economy into recession.
Foreign ownership
of a part of a debtor economy causes asset inflation there because there are
more domestic deposits available to fund the exchange of assets remaining in
domestic ownership.
The supply of new electronic cash (not debt) to businesses to fund
virtual increases in minimum wages does not necessarily cause immediate
increases in prices because the E-Note injections are not part of production
costs and some of the extra wages will be used for private debt retirement.
Banks.
In a debt-based system,
the interest banks charge their clients to provide goods and services (the bank
spread) is part of productive economic activity and does not cause inflation.
When the bank spread and costs are constant, the larger the total debt of a
nation the larger the turnover of the banks and the more profit they make.
Deposit interest paid by banks to their
clients is not specifically beneficial to the banks but is the fundamental
source of systemic inflation in the debt-based financial system. Public credit
and money issue enables domestic banking systems to operate in high growth, low
risk, low interest, low inflation economies while retaining their existing
profit margins.
Gross domestic product (GDP).
The nominal
increase in GDP over any period equals the increase in National Saving, which
is the gross capital formation less principal repayments over the same period.
Productivity growth
is inherently deflationary. It usually affects prices rather than GDP and
declines as an economy becomes more service-based. Except by utilising existing
idle productive capacity, the only way to increase GDP is through new
productive investment through the supply of new transaction deposits to make
use of spare labour and resources in the economy or to increase the skills of
and re-employ existing resources, and by the relationship between the
production of capital goods and goods and services for consumption
Interest rate
reductions stimulate an economic recovery only when the capital gains from the
exchange of existing capital assets produce enough new debt to satisfy the
systemic debt requirements of the financial system.
In a cash-free debt
based economy with zero interest rates on deposits the increase in GDP equals
the speed of circulation of debt in the productive sector times
(a) the change in
domestic credit, less
(b) the current
account deficit, plus
(c) a correction
for any imbalance between the change in domestic credit and what the debt
system requires taking into account the full productive capacity of the economy
Business cycles.
A recession
provides for inflation but not economic growth, while a depression provides for
neither economic growth nor inflation. A recession occurs when the change
(increase) in the total debt (both public and private) over time is less than
what is needed to service the financial system costs made up of the net
unearned interest that has to be paid on all bank deposits plus any new current
account deficit plus any increase in the productive debt used to generate new
economic output. A depression is a deep recession that also fails to provide
for inflation.
Income distribution.
Apart from utilisation of
existing unused productive capacity, the additional production from new capital
assets is the ONLY way to increase earned purchasing power in a debt-based
economy.
The SHAPE of an economy, which is the basket of goods and services
produced in relation to incomes and consumption patterns, is largely determined
by its income distribution. Poor income distribution suppresses demand for
domestically produced goods and services. Since the employed workforce is already producing goods and services, the
SHAPE of the economy must change to improve economic efficiency and promote domestic production.
Socially mandated income
redistribution is necessary to distribute productivity increases throughout the
economy and improve real wages and purchasing power. The application of a
single flat financial transactions tax to all withdrawals from bank accounts
changes the shape of the economy by redistributing income.
Taxation.
Skewed tax systems
benefit a relatively small section of society at the expense of everyone else
because they impair economic performance and economic growth potential by
systemically transferring purchasing power from the productive sector to the
unproductive sector through increased debt and debt servicing.
A uniform wealth tax on all net wealth from all sources is
redistributive because it (gradually) reverses the accumulation of net wealth
inherent in the presently dominant debt-based financial system. A single Financial
Transactions Tax (FTT) automatically
collected on withdrawals from bank deposits can help correct the tax skew
inherent in existing taxation systems that substantially exempt the investment
sector from paying its “fair share” of tax.
Consumption (with housing).
Most residential
housing is economically unproductive once it has been built, thought its
construction is part of the productive economy. Residential housing that does
not generate income is incompatible with a financial system based on
interest-bearing debt.
Assuming incomes are constant and there are no productivity gains or
realisation of capital gains through asset inflation, homeowners must reduce
their domestic consumption by an amount equal to the principal and interest
payments they make on their non-productive capital assets. The reduction can be
(partly) offset through capital gains. Realised values from the exchange
of existing assets must in that case increase by an amount sufficient to cover
both the interest and principal repayments. The reduction in domestic
consumption must otherwise be matched by the export of the
resulting surplus consumption goods and services if structural employment and
recession are to be avoided
The process of production and consumption in
the productive economy is self-cancelling wherever it takes place and however
its phases of production and consumption are shared amongst nations. Export of surplus consumption goods and services to avoid structural
unemployment and recession decreases foreign ownership of the domestic economy.
It does not directly improve domestic wellbeing in the exporting country.
Inclusion of a
housing provision in a tax-free guaranteed minimum income (GMI) system allows close matching of the GMI
to existing government income transfer structures in many industrialised
countries
Capital formation.
Capital formation in
a debt-based economy takes place in accordance with the basic tenet of orthodox
economics that National Saving equals Productive Investment. It arises from the
redistribution of employee income and gross operating surpluses of businesses
to purchase the capital goods created by the productive economy. Production
must always, but only just, lead consumption to provide the incomes that enable
consumption to take place.
Saving.
In the modern world,
faster depreciation has swapped longer-term productive investment to boost
existing stock and existing property prices. Saving for productive investment and real GDP
growth as measured using the international System of National Accounts cannot
be restored to modern developed economies unless the protocols around
depreciation are altered, bank lending polices and regulations reviewed and the
serious distortions in the System of National Accounts (SNA) records themselves
are corrected.
In a debt-based
financial system and in the absence of a debt bubble it is impossible to
increase National Saving (and therefore GDP) without increasing production
loans and new productive investment. In the absence of asset inflation, any
attempt to withdraw any part of deposits for non-productive investment purposes
(“savings”) reduces purchasing power in the productive economy or leaves
capital goods unsold, leading to increases in inventory, and subsequent
unemployment and recession. Unproductive savings and pension schemes such as
Kiwisaver in
Investment.
The investment
sector represented by the accumulated net after tax interest paid on bank
deposits produces nothing itself and is paid for through inflation in the
productive sector. Increased depreciation allowances speed up principal
repayments and reduce national saving and productive investment. Increased
repayment of debt, including household debt, reduces national saving and
reduces net new productive Investment.
The accumulated net outstanding principal invested in productive capital
goods is equal to the net accumulated national saving because in a competitive
market economy the long-run economic profit of business tends toward zero as
profit falls toward the opportunity cost of capital. Productive investment
represents the redistribution of production incomes to clear the capital goods
market in the productive sector.
Economies in
recession must be stimulated by direct investment in new production because the
lead-time before the benefits of increased productivity from infrastructure
investment exceed the infrastructure costs is usually too long to be effective.
System of national accounts.
The
use of depreciation for measuring economic success has been catastrophic for
the world economy.
When the current account
balance is included as income in the national income and outlay account of the
SNA an entry of equal value entitled “purchase of capital assets on the current
account” should be included on the other, “use of income”, side of the national
income and outlay account.
The National income
and outlay account of the SNA needs to be restructured and the National capital
account consequentially adjusted to reflect orthodox economic theory as follows:
Use of income side:
= Final consumption C
+ Purchase abroad of non-productive
capital investment goods (=CA)
+ Saving for productive investment S
Income side:
= GDP
+ Current account balance (CA)
less the balance on external
goods and services
less repayments of principal
on outstanding productive investment.
Current account.
Current account transactions are exchange
transactions, not production transactions. To avoid bankruptcy of the
world economy in the long run, each nation must maintain, in aggregate, a zero
accumulated current account.
There is no such
thing as foreign debt; there is only foreign ownership by foreign creditors of
part of a debtor’s nation’s economy either as physical ownership or ownership
of commercial paper. An accumulated national current account deficit reduces
national savings and increases the domestic debt of the debtor country, its
domestic inflation and foreign ownership of its economy. Foreign ownership of a
debtor nation’s economy drains its domestic economic growth through outgoing
current account payments of interest on commercial paper and dividends and
profits arising from the physical foreign ownership of its assets.
The debtor status
of debtor countries can only be managed without affecting their domestic
economies if their exchange rates are reduced so their current accounts become
positive enough to reverse the foreign ownership of their assets. In the
absence of effective management of capital flows and the exchange rate, the
logical outcome of the existing debt system in heavily indebted debtor
countries is national bankruptcy because debtor countries are condemned to
paying high interest rates to avoid capital flight.
Exporting domestic
production (“export-led recovery”) is an unsatisfactory method for reducing an
accumulated current account deficit unless the accumulated deficit is small and
the exchange rate is free to fluctuate independently of domestic interest
rates.
At any point of
time, the current account deficit in heavily indebted debtor countries is
typically just a little more than:
a) the accumulated
current account deficit of the debtor country, multiplied by the average bond
rate in the debtor country, minus
b) the trade
balance of the debtor country for the period, plus
c) the net
repatriated profits of foreign-owned banks operating in the debtor country over the same period.
A positive balance
on external trade swaps domestic growth in the exporting country for foreign
assets in the debtor country and is a positive growth factor for the exporting country’s business
interests. The logical outcome of the existing debt system in creditor
countries is zero deposit interest and stable or falling asset prices (as in
A tax-neutral variable Foreign Transaction Surcharge (FTS) applied to all
outward exchange transactions allows the progressive
reduction in foreign ownership of the domestic economy (the so-called foreign
debt) by
enabling the exchange rate to fall towards a stable base level, increasing the value of exports and
decreasing the quantity of imports, and providing a more even playing field for
local manufacturers and producers.
E-notes.
Existing privately
issued interest-bearing government debt can be progressively retired as it
matures and replaced with publicly issued interest-free debt or E-notes spent
into circulation by the Government. E-notes (electronic cash) perform exactly
the same role as existing bank debt.
Zero or low interest credit and money issue enables
economic growth to be tied to the productive economy instead of being inflated
by deposit interest.
Local money systems.
Local money systems
are co-operatively owned interest-free, self-cancelling monetary systems in
which there is no systemic debt because the debt incurred during the production
phase is cancelled when the product or service is sold. They can be organised
nationwide and taxed in formal currency, promote domestic production, increase
economic efficiency and reduce financial leakage from local economies.
08. Manifesto of the debt-based economy. (No
summary applicable.)
09. Unified text of the manifesto of the debt-based
economy. (This is the summary
for document 7 above).
10. Summary of paper 10 : The missing links between
growth, savings, deposits, and GDP.
The paper closes the theoretical loop established in the series of
earlier papers. The primary determinants of macroeconomic outcomes are:
* The interest paid on bank
deposits.
* The accumulated current
account balance.
* The allocation of productive
resources.
* Private debt creation for
profit..
The interest paid on deposits
is the cause of systemic cost-push inflation. Deposits returned to a debtor
country through asset sales to foreigners arising from an accumulated current
account deficit are a cause of demand-pull asset inflation.
Increased productivity necessary
for per capita economic growth requires new productive investment. Overemphasis on new non-productive capital
investment such as housing distorts the productive sector because homeowners
can only service their debt through higher incomes and higher productivity.
The confusion surrounding the
orthodox “deposit” based debt expansion of bank “reserves” and the existing
“capital” based debt expansion is historical.
The banking system changed from being “reserve” based to being “capital
based” when the Basel I accord became operative in 1992. In practice the “reserve” system was also
capital based except that the capital requirement was limited to a fraction of
the banks’ transaction account deposits.
Government debt did not directly cause “fractional reserve” debt
expansion, but it did then, as now, introduce new deposits into the banking
system thereby expanding the banks’ balance sheets.
The dominant features of the
debt-based interest-bearing financial system are interest paid on deposits and the
accumulated current account balance (or net international investment position,
NIIP). Interest on deposits creates
systemic cost-push inflation in the productive sector, while an accumulated
current account deficit (or NIIP)
creates demand-pull inflation in the non-productive investment sector caused
by deposits arising from the sale of
debtor country domestic assets to foreigners. Those accumulated current account
deposits also create a deposit interest feed back loop that adds to systemic
inflation.
The paper shows the entire
modern monetary system is founded on inflation, and that there is a systemic
relationship between GDP and the monetary aggregate (M3-repos). The rate of
change of the exponential growth curves [(M3-repos) – the dynamic production
deposits My]/GDP has been linear in
The paper is based on a debt
model of the debt-based economy that shows that world debt cannot be managed without
removing unearned income from the system caused by the payment of interest on
bank deposits and by balancing each nation’s current account.
11. Summary of paper 11 : Using a foreign transactions
surcharge (FTS) to manage the exchange rate.
Actual
and notional foreign ownership of the
The
point has been reached where
The
accumulated current account deficit (or net foreign investment position) can
only be reduced and eventually eliminated by reversing unnecessary foreign
ownership of the domestic economy. The Foreign Transactions Surcharge (FTS)
proposed in this paper does not exclude productive foreign investment.
Some
countries have tried to address the problem by printing money and inflating the
domestic economy. Claims that domestic inflation reduces export prices and
increases import prices appear to be false because inflation does not
necessarily reduce import demand. Domestic production costs and incomes
increase together as long as the inflation is passed on in the domestic
economy, leaving import volumes much the same as they were before. Inflation
may superficially alter the exchange rate but it does not alter the underlying
current account deficits that (in countries like
A Foreign
Transactions Surcharge (FTS) produces the necessary foreign exchange adjustment
because it directly changes the balance between imports and domestic
production, effectively stimulating the domestic economy.
The
long-term goal of any fiscally responsible government should be to eliminate
the current account deficit that is a serious drag on both the
The
Foreign Transactions Surcharge (FTS) is a serious practical policy to achieve
that goal.
12. Summary of paper 12 : The Manning plan for permanent debt reduction
in the national economy.
EXECUTIVE
SUMMARY
1.
This plan offers a very low risk way to resolve the world debt crisis without sudden
or radical change to the world financial system. It brings together a number of
ideas such as Universal Basic Income (UBI), Debt Jubilee Income (DJI), and
Quantitative Easing (Monetary Dialysis) that are already receiving some
attention but cause concern to some policy makers when they are considered in
isolation. The plan can be implemented quickly and unilaterally.
2.
The plan is based on specific forms of UBI and DJI structured to avoid
inflation. The plan avoids most inflation because it can easily be adjusted so
that incomes match the physical and human resources available to the economy.
3.
The Manning Plan sets out implementation details for
4.
The total Universal Basic Income payments are initially about NZ $23
billion/year and the total Debt Jubilee Income payments are initially about
NZ$7 billion/year. The money to make the
payments will be created debt-free and interest-free by the Reserve Bank and
administered by a New Zealand Debt Management Authority (NZDMA).
5.
The payments made to indebted persons and businesses will be used to retire
their bank debt. The payments made to
non-indebted persons and businesses will be invested in a New Zealand Public Development
Fund (NZPDF) that will pay tax-free interest on the deposits at around
2.3%/year, a figure comparable to the existing
average deposit interest rate after taking into account reduced
inflation and taxation. The NZDPF money will be used to fund new productive
development both public and private. NZPDF acts as a publicly owned Savings and
Loan institution for the purposes of new productive investment.
6.
About NZ$ 15 billion of bank debt will be retired during the first year,
leaving new deposits of about NZ$15 billion, roughly similar to the present
financial system.
7.
Bank deposit holders will be able to invest in a Public Investment Trust
Account (PITA) that will act as a publicly-owned Savings and Loan institution
to manage the on-lending of deposits to fund the exchange of existing assets
and to provide personal loans (including student loans and credit cards).
8.
Bank balance sheets will still grow, but there will be little bank debt.
Instead, secondary lending will be 100% backed by monetary deposits. Banks will
be paid a spread of around 1.7%/year for their services, comparable to what
they get now after taking into account that their lending becomes largely risk
free. Normal debt repayment is guaranteed through the Universal Basic Income
and Debt Jubilee Income accounts
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"Money is not
the key that opens the gates of the market but the bolt that bars them."
Gesell, Silvio, The
Natural Economic Order, revised English edition, Peter Owen,
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