In one sentence, KMT says,
There is no scarcity in the means of payment.
Textbooks used to say that money is a unit of account, a store of value, and a means of payment.
The textbook justification for money is that barter is inefficient. Suppose that the butcher walks into the baker and says, “I want to buy bread, and I have meat to sell.” The baker says, “I have bread to sell, but I want candlesticks.” So now the butcher has to try to sell meat to the candlestick maker in order to turn around and get bread from the baker. With way more than three goods, this gets completely crazy. But if everyone agrees to accept money, there is less running around.
I claim that nowadays there are many means of payment. Last March 11, my wife and I locked ourselves down. In the year that has transpired, neither one of us has gone to an ATM for cash. We have no use for it.
The dollar still matters as a unit of account. The baker quotes prices in dollars, not candlesticks. The Fed does not control money as a unit of account. The dollar as a unit of account is firmly established as a social convention.
Currency, checking accounts, and saving accounts are stores of value. But there are other stores of value, including bonds, stocks, and real estate. Some of these stores of value are less liquid than others. People are reluctant to sell stocks in their retirement accounts in order to spend. It takes a while to get a mortgage in order to convert real estate into spendable funds. But you can spend more than what you have in deposit at the bank, and you can have deposits in the bank without spending them.
Total spending in the economy is related to the total amount of wealth that people have in all of their stores of value. The Fed does not control the supply of the stores of value. The Fed mostly controls the supply of Fedcoin, meaning reserves held by banks. Total wealth bears little relationship to Fed actions.
All stores of value differ from one another. They have different risk characteristics. Some require conversion into a different store of value before they can be used as a means of payment, and some do not. But at the margin, variations in the relative supplies of different stores of value are not a big deal.
These are all good insights but it’s not clear to me what they imply about your inflation expectations. I would be interested to hear more about that.
Totally off topic, but remember the hooligans in Texas that wanted to pay variable wholesale energy prices while completely exposing themselves to all of the downsides? They just got a bailout, paid for by the rest of us Texans. Crocodile tears for them. Hans sends his best :).
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Texas Attorney General Ken Paxton wipes out Griddy customers’ electric bills totaling $29.1 million
https://www.dallasnews.com/business/energy/2021/03/16/texas-attorney-general-ken-paxton-wipes-out-griddy-customers-electric-bills-totaling-291-million/
Sounds like socialism has come to Texas. Must be very upsetting to the artist formerly known as Hans G. Will he be moving on to a redder state now?
Also we live in a globalized economy. Other central banks are printing money, as are other commercial banking systems (the endogenous money creation), and who knows what other entities, such as food stamps.
Money is even being created privately and digitally. If you own Bitcoin (I wish I did), the world is in a violent hyper-deflation. Bitcoin, a currency backed by nothing—nothing!—not the taxing power of state, not the ability to pay taxes, not the sovereign say-so it must be accepted for payment, and not by any hunks of metal. Hyper-deflation is the result. For now. In theory this should not happen.
Still, with the fleeting exception of chips (semiconductors, chips, processors) the world is glutted with everything. Cars, food, smartphones, clothes, furniture, what have you. Oil production is repressed actively by cartel, and they are losing control slowly.
Housing is the one shortage, and that is because of zoning. Unzone property, and you will get housing gluts.
And we have global capital gluts, getting worse.
What would happen if the Fed bought sovereign and AAA bonds roughly equal to the US national debt?
I think the US would be essentially debt free without inflation.
How does this compare with fiscal theory of price level John Cochrane discussed on Conversations with Tyler?
I thought I saw intersection between your characterization of inflation as a fiscal problem in Specialization and Trade (at least what I thought I took away from it).
Oops… I missed the previous blog post.
Apologies
Surely money can be described as inefficient as well.
You earn it, and pay income tax. If you earn X, you end up with (say) 0.7*x You pay it to someone in exchange for bread. They pay some form of tax, so the amount they receive is x*0.7×0.7, ie x*0.49. They use that to buy candlesticks, and pay x*0.343, getting far fewer candlesticks than x would buy.
If alternatively they work at a bakers and get paid in bread to the monetary value of what they would have earned they would get x worth, not 0.7*x worth.
Of course tax is what one pays government for the use of the fiat monetary system. It could be considered as a transaction fee.
Guess what, there are transaction fees to use cryptocurrency. And on top of that there are now government tax penalties on transferring cryptocurrency into fiat currency or into things. So someone who has mined three or four bitcoin several years ago and spent them to get a Tesla electric car can look forward to an enormous tax bill from the government.
If alternatively he had bought some computer equipment, a classic car, inverter and batteries and made his own electric car (ie provided the design and assembly himself) he would only have paid income tax on the money and sales tax on the components. Of course personally electrifying a classic car is a lot more effort than mining three or four bitcoin whenever it first started, and resisting the temptation to sell as they went up in value.
There is another viewpoint on the economics of tax here:
https://twitter.com/Liberty_ISIL/status/1371512634596601856
Perhaps the Fed does control the “supply of the stores of value.” When governments debt-finance spending far beyond revenues, and beyond the global pool of savings, then central banks create money to purchase the bonds issued, thereby inflating their price. A large money supply and low interest rates inflate asset prices.
And by our holy Sabbath have I sworn
To have the due and forfeit of my bond.
If you deny it, let the danger light
Upon your charter and your city’s freedom!
-Shakespeare, Merchant of Venice
Currency, checking accounts, and saving accounts are stores of value. But there are other stores of value, including bonds, stocks, and real estate. Some of these stores of value are less liquid than others.
This sounds a lot like Milton Friedman’s “The Quantity Theory of Money: A Restatement”, the first chapter of Studies in the Quantity Theory of Money (1956).
I agree with what you say as far as it goes. But it does not go far enough.
There is no scarcity of the unit of account, be it the dollar or a kilogram. But the medium of exchange is scarce. A $100 bill is willingly accepted because it is scarce; if it were not scarce, it would be just trash having a zero price.
You need to explain why fiat currency, backed by no asset and earning no interest, is voluntarily held by the population even when interest rates are high, even when inflation is high. I think the answer has to involve unique, special qualities of official currency, but your theory denies the relevance of those unique, special qualities.
Imagine you walk outside, and look up, and see a fleet of helicopters sent by Biden-Yellen-Powell, dropping buckets of $100 bills all over the countryside, part of their plan to reduce inequality. Would you change your expectations of inflation in the near-future? Show you work. If the answer is yes, you need to explain why a bunch of silly little pieces of paper matter for the price level. If the answer is no, I invite you to run the experiment in someone else’s country and see what happens.
Dropping buckets of $100 bills is creating new paper wealth. My theory of inflation predicts that dumping enough paper wealth into the economy will be inflationary. The “stimulus checks” amount to a helicopter drop.
Almost all monetary theories agree that more money creation is more inflationary than less money creation but I don’t know of any that are any good at predicting how much is “enough” to produce what effects and when.
Ok, suppose the Fed started buying gold bars with those $100 bills. There would be no net increase in paper wealth held by the public because each $100 bill would replace $100 in gold. After buying up all the gold, the Fed started buying other stores of wealth (bonds, stocks, commodities, consumer goods, etc.). Do you think the Fed could do this indefinitely without causing inflation?
If “all stores of value differ from one another” so that people will want to hold some portfolio of stores of value, say x% in cash 1-x% in other stores of value, then why wouldn’t “variations in the relative supplies of different stores of value [be] a big deal”? If people want to hold x% of their wealth in cash on average but cash makes up y% of the relative supply of stores of value with y greater than x, then doesn’t the price of cash need to fall until people are willing to hold y% on average? (If Apple splits its stock 2:1, then doesn’t the dollar price of Apple stock need to fall by half to allow everyone to continue holding the same percentage of their wealth in Apple stock?) But, if cash is also the unit of account so that the “price” of a $100 bill must always equal $100, then won’t a required fall in the “price” of cash manifest as an increase in all other prices, i.e., inflation?
It is generally true that “variations in the relative supplies of different stores of value are not a big deal”; but one store of value—(base) money–is an exception, because it is also the unit of account. Variations in the supply of base money affect the nominal valuations of all other stores of value, possibly disrupting the whole economy. The Fed is charged with controlling the money supply so as to prevent such disruptions. (The job it has done has been far from perfect.)
did I get it right?
The Fed influences the american and the global economy not by controlling the value of the unit of exchange ($) but by increasing or decreasing the moral hazard of the big institutional investors
Is Bitcoin money or a commodity?
Nobody is obliged to accept Bitcoin as payment so it doesn’t have an essential property of money.
It’s getting so that nobody is obliged to accept your money as payment if you’re a racist, so I’m not sure this is a strong argument.
The easiest hedge against inflation that most people have is a 30 year fixed rate mortgage. What’s been happening in that space? Housing prices are skyrocketing and rate have moved up sharply since early January.