Is Credit Card Debt an expansion of the Money Supply?

[jt8025]

I'll admit I haven't read all 159 post but have we come to an agreement on an answer for the question?

I was thinking that if one persons payment date was on the 1st and another persons due date was on the 15th, even if both people paid off their credit cards at the end of their billing cycle there would always be a debt between the two people.

Do we think this is a inflation of the money supply?

I trying to help answer the moral question for myself of does my using a credit card cause a decrease in purchasing power for another person? Am I robbing someone of there personal savings indirectly so that I can earn reward points?

 

[jt8025]

---

 

[Steven Douglas]

To claim paying off "debt" is deflationary is utterly bizarre. There is never more money in the system then $100 - NO DEMAND DEPOSIT ACCOUNT CAN WITHDRAW MORE THAN THAT. though should many withdraw their demand deposit, serious issues arise.

Yes, serious issues certainly do arise, because the entire system is inherently insolvent.

You started with: $100 in FED reserve, ~$900 in loans outstanding, ~$900 in demand deposits outstanding. You traced a lowly $10 loan repayment, with no mention of how much of that was interest - one of the all-important terms of any loan. Even if the interest was included in that $10 payment, the insolvency of the system is only revealed when you try to pay everything off in the aggregate - not just make a single payment, as people do every day.

For simplicity's sake, to illustrate what is fundamentally wrong - a fatal flaw in the system that makes it a Ponzi scheme, let's look at this in terms of modest, but not implausible, extremes.

Make all those for thirty years at a fixed rate of 7%, compounded annually, and further stipulate that all loans were made in a single month, and merely have to be repaid over time. Since we're talking about the possible deflationary effects of paying off all loans repaid in the aggregate, and the ultimate ability for the entire system to reconcile, let's stipulate that no new loans can be made. Also, no runs on banks. Only money needed to service loans is withdrawn.

You can only reconcile with what actually exists, or with what the Fed can create as M0 - so even if you need the Fed to create more M0 to reconcile the entire system show that in your steps. Meanwhile, no new loans to anyone - no expansion of credit, no robbing Peter's grandchildren to pay Paul's grandchildren. We're just reconciling - closing the banks out to test the solvency of the entire system. Now take your monopoly money out and pay off all those loans. You get thirty years to do it.

We only have 100$ FED reserves. $900 in outstanding loans, $900 in demand deposits outstanding. To reconcile we need $1,207.02 in interest - over and above that $900 principle that must be repaid. Now lets' ignore the fact that at some point nothing will be in circulation. Like you said, to make a payment, a demand deposit has to be tapped somewhere.

Where did people get the interest to pay those loans - how does that come into existence, and how do you reconcile that?

 

[rpwi]

Steven

You directed this question to Steven, but I'm going sneak into here too.

Deposit $100, and the series of loans, redeposits and loans....

$100 in FED reserve, ~$900 in loans outstanding, ~$900 in demand deposits outstanding.
I think Steven agrees up to here....

Your example is confusing as it isn't clear whether the $100 comes from equity investment or from a depositor. If from a depositor, I believe this should be 800 in loans... [Assets]: 100 reserves + 900 loan credit != [liabilities/equity]: 900 demand deposits

I repay $10 of my loan.
To repay $10 of my loan means someone had to withdraw $10 from their demand deposit.

$90 FED, $900 Loan, $890 Demand deposit, $10 cash.

They pay me the cash, and I pay off my loan

$90 FED, $10 bank excess reserve, $890 loan, $890 Demand deposit.

Where is the deflation?

What the bank does with the money is irrelevant - but usually they Loan it out again to a new borrower

To claim paying off "debt" is deflationary is utterly bizarre. There is never more money in the system then $100 - NO DEMAND DEPOSIT ACCOUNT CAN WITHDRAW MORE THAN THAT. though should many withdraw their demand deposit, serious issues arise.

A couple of relevant points... The first is yes...in some cases paying off a debt doesn't result in the destruction of M1 (and deflation). This is because when a bank loans out money...they do not do so exclusively against demand deposits. They also finance these loans with equity and other liabilities like corporate bonds. So therefore when a bank sees a loss in reserves...it will always go against equity or non-deposit liabilities first. However... Banks are actively seeking to maintain constant reserve ratios and capital requirement ratios. If their reserves drop, they either have to get reserves from another bank (and then the other bank will be the ones to create deflation) or they have to regain their ratio by curtailing new loans or not rolling over existing ones (or by getting new depositors or by selling assets). So yes...repaying a loan doesn't result in an INSTANTANEOUS act of deflation...it does result in a rather a quick form of it through cause and effect.

 

[rpwi]

I'll admit I haven't read all 159 post but have we come to an agreement on an answer for the question?

I was thinking that if one persons payment date was on the 1st and another persons due date was on the 15th, even if both people paid off their credit cards at the end of their billing cycle there would always be a debt between the two people.

Do we think this is a inflation of the money supply?

I trying to help answer the moral question for myself of does my using a credit card cause a decrease in purchasing power for another person? Am I robbing someone of there personal savings indirectly so that I can earn reward points?

I'll take a stab at your question.

The first is that the credit card company itself doesn't practice fractional banking (isn't allowed to by law) so it doesn't create M1 nor inflation directly. However...credit cards companies just really facilitate transactions and get most of their money off of transaction fees.

The cards are issued from either private banks or credit unions. Now rightaway...they do not create inflation. If charge my CC for 1000 to buy some furniture and my bank is ABC Bank...then ABC bank transfers 1000 in reserves to the banker of the furniture dealer and gets a 1000 loan credit in my name. Now a modern bank immediately will probably rebalance their funds by borrowing from an upstream bank to rebalance their reserves. The upstream bank isn't probably a big player in the depositor market and probably will in turn borrow from another smaller community bank which had 'excess reserves'. These reserves weren't 'excess' though...they were promises to repay depositors...so this was theft and inflation.

So basically...yeah. When you borrow from a credit card (or from any bank for that matter) you contribute to fractional banking/inflation/instability/bailouts Sorry. That you may delay payment is not relevant. For in that time, the money was created. Sure it maybe a 0% loan for a little bit...but that debt was backing deposits erroneously (but in probably a complicated and indirect fashion).

Now some fractional-bank critics are actually as critical of the borrowers in this system as the bankers themselves and equate them as co-conspirators. Image if you will, one can counterfeit. But there is a caveat... you can only buy motorcycles with this fake money...even if you can create trillions of dollars. Not the end of the world as you can resell the motorcycles...but this is a huge boon for anybody making a motorcycle.

In describing the above system, by which reserves are allocated and inflation created through use of a credit card, I neglected to bring up the Federal Reserve. In reality...if your bank that gave you the credit card loan can't get the reserves from the private banking market...they can get it from the Fed. Basically...once 'reserves' become scare thanks to all the CC borrowing...banks will auction up their inter-bank rates for reserves. The fed sees these and supplies new reserves into the market to meet their target interbank lending rate (that famous rate we hear about in the news). They do so through the open market. They buy t-bills from huge banks (primary dealers) and give them brand new dollars. Then the primary dealers relend these reserves to the rest of the market. In this fashion, the fed makes sure that anybody that wants to make a stupid loan and a stupid CC purchase can. With the injection of MB, the money multiplier wratchets up M1, M2 and M3 and we get inflation (thank in part to financial tools like credit cards). So in all likelihood a credit card purchase will result in an increase in the monetary base AND a bigger increase in bank money (M1,M2,M3).

 

[Black Flag]

Yes, serious issues certainly do arise, because the entire system is inherently insolvent.

We agree

You started with: $100 in FED reserve, ~$900 in loans outstanding, ~$900 in demand deposits outstanding. You traced a lowly $10 loan repayment,

Oh come on, Steven - add zeros behind all the numbers and the story does not change. The process operates the same whether $1, $10 or $10 trillion.

with no mention of how much of that was interest - one of the all-important terms of any loan.

This is irrelevant in any discussion of fractional reserve banking.

All banking systems process - fractional or full reserved - operate by offering an interest earning loan.
The issue therefore is not their similarity but their difference.

Even if the interest was included in that $10 payment, the insolvency of the system is only revealed when you try to pay everything off in the aggregate - not just make a single payment, as people do every day.

Nah!

To pay off a loan means either you have cash or a bank IOU.

You can trade your bank IOU for your IOU with the bank - this does not require you to withdraw a thing - it is merely an accounting reconciliation.

Obviously if you hold cash, the system was capable of managing your withdrawal, but in the end, faces receiving your money anyway, the money going (until loaned again) into excess reserves.

 

[Agorism]

So if somebody racks up massive unsecured debt and then declares bankruptcy, the money supply increases.

First off it depends on who is loaning the money. Are they loaning with a 1:1 system or a fractional reserve system. A 1:1 system would not be an increase in the money supply.

But more obviously, if the person then declared bankruptcy...this would SHRINK the money supply back to whatever it was before he was lent the money if there was indeed an initial increase.

 

[Black Flag]

Where did people get the interest to pay those loans - how does that come into existence, and how do you reconcile that?

The banks are businesses like any other.

They pay their employees out of their profits, their rent, buy computers, etc, out of their interest and fees earnings.

They loan out the money they get in interest back out into the economy.

They are no different then any one or company - if your money "never stands still" and goes out as loans, etc., well...that is exactly the same here - their money never stands still either (generally).

 

[Black Flag]

We only have 100$ FED reserves. $900 in outstanding loans, $900 in demand deposits outstanding. To reconcile we need $1,207.02 in interest - over and above that $900 principle that must be repaid. Now lets' ignore the fact that at some point nothing will be in circulation. Like you said, to make a payment, a demand deposit has to be tapped somewhere.

Where did people get the interest to pay those loans - how does that come into existence, and how do you reconcile that?

So, putting some monopoly money to this:

~900 dd/~900 loan/$100 FedRes, you are repaying your loan of $10+$1 interest.

To pay back your loan, you need to have earned from someone else, $11 - so "whoever" pays you $11 for your services which they withdraw from their account and pay you

~889 dd/~11 cash/$89 FEDRes/~900 loan

Then you pay your loan....
~889 dd/~0 cash/$89 FEDres/$11 ExcessReserve/$889 loan

...so where is the problem? None exists.
Loans/Deposits .... still equals "1", as it did before you paid back your loan with interest.

 

[Black Flag]

o reconcile we need $1,207.02 in interest - over and above that $900 principle that must be repaid.

So, recap:

We have shown how interest gets paid - and nothing abnormal happens to the banking system
We have shown what the bank does with its earnings - it spends them or invests them or lend it.... just like you would.

Now, your specific issue of a repayment of $900 in loans.

The vital concept that we have to understand:
All transactions use real money

This is why "bank runs" are a threat - if the withdrawals of real money to engage in transactions is too great at once, it causes a bank run.
You agree with this effect.

But a loan repayment IS a transaction - which means money needs to be withdrawn to engage in the transactions!
(withdraw money-pay for goods-seller deposits) ....

...remember a "loan" is really a deferred payment for the goods today .... and now the transaction is to the loan holder to move the goods and the payment to be equal in time...that is, today "the debt is cleared"... so:

(withdraw money -pay for goods used in the past "pay off debt" - creditor deposits)

If this withdraw money risks the same situation as a bank run ... if suddenly EVERYONE withdraws money (the reason does not matter, whether to hold cash or pay off loans), the banks default on their promise.

The key, Steven, is the reason for the bank run is irrelevant... you here thought that paying off a debt is different then paying for goods, or withdrawing cash to hold in hand... but it is not.

It triggers the same default scenario.

 

[Black Flag]

You directed this question to Steven, but I'm going sneak into here too.

Of course! Anytime!

Your example is confusing as it isn't clear whether the $100 comes from equity investment or from a depositor. If from a depositor, I believe this should be 800 in loans... [Assets]: 100 reserves + 900 loan credit != [liabilities/equity]: 900 demand deposits

It doesn't matter - as far as the fractional reserve system exist, as well as legal capital reserve requirements - depository funds, CD, bonds, or share sales all count toward the lending limit of any bank.

A bank can sell its shares, take no deposits, and still lend money - it will not participate in the fractional reserve system since it has no depositors.

A bank that takes deposits and sells it shares can use both source of funds to make loans, and all the money ..share sales+deposits.. can be fractionally loaned away.

So, there is no such thing as a "loan credit" from the banks accounting.

How the bank is allowed to lend is based on the capital base and modifiers applied to the components that make up that capital base. I think I have already provided the calculation.

PS: remember the money to buy shares for a bank comes from the banking system.

.they do not do so exclusively against demand deposits.

See my response to Steven re:"monopoly money example"

 

[Steven Douglas]

So, recap:

We have shown how interest gets paid - and nothing abnormal happens to the banking system

Oh yeah, sure, as long as we count massive inevitable default as 'nothing abnormal'.

...a loan repayment IS a transaction - which means money needs to be withdrawn to engage in the transactions!

Yes, we agree there, so why the exclamation point? There's nothing new, interesting or surprising there. We don't disagree on the nature of a loan payment - we're just playing out an end game scenario through to a conclusion, as we trace all transactions, over time, no rush, that are required for the entire system to reconcile - not just a single payment in the moment.

If this withdraw money risks the same situation as a bank run ... if suddenly EVERYONE withdraws money (the reason does not matter, whether to hold cash or pay off loans), the banks default on their promise.

Aye, and there's the rub for the end game scenario that you completely avoided as to details - in the case where $900 (principle) plus $1,207.02 in interest ALL must be paid. Over time, debtors go to pull money from banks to service loans. That all amounts to a bank run, as debtors are increasingly unable to withdraw. Both creditors and banks default on their promises. Banks that default are no longer around to create loans (the primary way in which money is introduced into the economy, but they're not making new loans - only reconciling and winding down over time). As the amount of fiduciary media dries up in the aggregate, so does the velocity of money - the number of transactions -- and therefore deflation (of the number and magnitude of transactions possible).

The key, Steven, is the reason for the bank run is irrelevant... you here thought that paying off a debt is different then paying for goods, or withdrawing cash to hold in hand... but it is not.

No, I pretty much had my eye on that little pea under the walnut shells the whole time. I just wanted to see how you moved them around. You're so careful to show how monopoly money moves as principle only, step by step, and yet you completely glossed over, in a very sloppy, dismissive kind of way, with broken trains of thought, how all the debts - principle plus interest - would be paid in the aggregate in the scenario I described. To wit:

It triggers the same default scenario.

Correctamundo. In other words, although you didn't say it directly, and wouldn't play it out with your monopoly money, there is not enough M0 in existence to facilitate payment of all debts in the aggregate. The interest due is all M0. No getting around that, and there's $1,207.02 of it due - with only $100 in existence to cover it. Attempting to pay off all debts (while not Ponzi-ing any new debt into existence to cover the illusion of solvency) is the same thing as a massive, absolutely unavoidable, system-wide bank run. Just to service debts on time. Even pretending for a moment that everyone is surviving using another currency while this one winds down.

Thus long before all the debts are paid, all banks, as well as many debtors, are forced to default. And if an attempt was made to pay off all debts - without any new debts being created to service payments on the old ones - the money supply (and by "supply" I mean the actual amount of money in circulation, not existence) does indeed dry up completely.

That $100 original FED reserve (and you're right, the number of zeros is irrelevant) represents the entire quantity of M0 in existence. There are INTEREST claims on that money over thirty years which are 1200% of the total amount of M0 in existence in our scenario. The domino effect wipes out everyone, including the last creditor and bank standing, because that $100 is still in someone's possession, and insufficient to meet their own demands, meaning that, like London Bridges, "they all fall down".

Catastrophic deflation, even internally. No velocity, no circulation, no expansion of credit, no money.

 

[Black Flag]

Oh yeah, sure, as long as we count massive inevitable default as 'nothing abnormal'.

Default of... what?

Government default of T-bills does not impact whatsoever the money supply.

A bank run -massive withdrawal of money - is highly unlikely in any scenario.

Systemic banking crisis and banking failures is possible, but the FDIC will monetize the deposits - this will be very inflationary, but not a "collapse".

What scenario are you imagining?

Yes, we agree there, so why the exclamation point? There's nothing new, interesting or surprising there. We don't disagree on the nature of a loan payment - we're just playing out an end game scenario through to a conclusion, as we trace all transactions, over time, no rush, that are required for the entire system to reconcile - not just a single payment in the moment.

There is absolutely no problems.

Your first assumption is "Banks do not lend money they get returned from re-payment of loan".... but they do, as that is their business. If they do not lend, they do not earn.

Your next assumption is that "Interest cannot be paid" ... but that is the same strange conceptual twist of "how do companies create a profit? Where does the "money" come from to pay the profit over the costs to produce the goods?"

Yet, I doubt you suffer the economic misunderstanding here, if we talk about the source of wealth creation as it pertains to, say, automobile manufacturers - yet, I do not understand why it confuses you if the business is banking?

 

[Black Flag]

Aye, and there's the rub for the end game scenario that you completely avoided as to details - in the case where $900 (principle) plus $1,207.02 in interest ALL must be paid.

If I said to you "So, where does the "money" to pay the profit of a company come from?"
If a wheel costs $100, the car company pays Wheel-guy $100. The car company sells the wheel for -say- $110.
Where does the extra $10 comes from to pay for the wheel?

...now you would pull out your economic text book and explain how wealth is created , etc. etc. and you would not be confused at all or worried about "oh my God! The capitalist system will collapse!"

Yet, replace Car maker with "Bank" and you go twisty.

Banking is a business, just like any other business.
They sell a service and make a profit.

The problem you have between Car maker and Banking is that you believe banks make money out of thin air, and because of this crack pot theory, you begin to assign wild and crazy circumstances to the business of banking - that, somehow, thin-air money earning interest will somehow collapse the economy.

But there is no such thing as "thin air" money.
Banks earn income selling loans.
Interest is paid by people earning money with their own services and making a profit.
They buy the services of a bank like they buy the services of an accountant.
Banks and accountants earn money with their services and make a profit.
Banks and accountants spend their money buying the services and goods of other producers, who sell their services and goods to the bank for a profit.

As long as you hold on to crack pot theories, the simple economic world of the free market - which to a man as intelligent as you - is perfectly clear except when you apply this crack pot theory of money and banking - then, then this crack pot theory utterly muds the whole thing for you.

Drop the crack pot theory.
Clarity returns.

 

[Steven Douglas]

If I said to you "So, where does the "money" to pay the profit of a company come from?"

Future debt. Future promises only. That's my point. Without future debt the interest on existing loans in our global Ponzi scheme system cannot be paid in the aggregate.

You compared it with any other business. Good. An ordinary business owner, who is not in the red, decides to retire as he's aging and it's no longer profitable to remain in business, even though he breaks even. It's a specialized business that requires him to run, so the business can't be sold, but only liquidated and wound down. He takes on no new customers, winds down his affairs, sells all assets, collects all outstanding payments, satisfies and pays everything that is outstanding, and even has a dollar leftover after all is said and done (which only means there was no default, no bankruptcy, no insolvency).

By your logic, you should be able to do the same with the banking system in our scenario. Pay all the principle plus interest in the banking scenario I gave. You have $100 in FED reserve, $900 in outstanding loans, $900 in demand deposits, plus $1,207.02 in interest that must be paid. Assume for the sake of simplicity that a different currency is concurrently circulating, supporting both businesses and banks as you wind down this currency (over time, thirty years, the length of all loans).

No new debts, just wind it all down until it all comes to zero. And you can have your Fed print more money to do it if needed - just show how it was done. I can't do it, because Ponzi schemes don't reconcile; they only maintain the illusion of solvency by expanding the circle of new marks that pay for the old ones, but I want to see if - and how - you can.

 

[rpwi]

See my response to Steven re:"monopoly money example"

It's helpful to remember what we're initially arguing about. You are arguing that paying down bank debt does not deflate the money supply. I am arguing it does.

You have referred to an answer to Steven...but Steven is using a different tact (interest on principal) counter-argument which I'm not using. Instead I'm arguing that deflation will result from the way reserves will be rebalanced.

Say I'm a depositor of ABC bank. I'm also a lender of ABC bank. I have 100k in debts, but 100k in checking. If I repay my 100k debt, the bank merely removes their 100k checking liability to me and their 100k loan credit to me. In the aggregate the banking system now has 100k less in deposits. This is a destruction of money since M1 is money. The bank has become less fractionally backed and more honestly backed (of course not sustainable as full loan repayments are impossible without government injections of reserves). Now in the aggregate the economy still has the same amount of reserves or MB. So this does not result in a destruction of base money. Doesn't matter though as we accept checking accounts as money, so they are money and we do have deflation with loan repayments. Now chances are the bank will relend my reserves and re-inflate M1...but this isn't necessarily always the case.

Now in a modern economy, repaying loans can and probably will shrink M0 as well because of how the open market works. If I repay my loan, I provide the banking system with excess reserves. What do the banks do with excess reserves? Well, loaning out the money to an individual would be nice...but it is quite common for the bank to lend this to other banks nowadays. What does this do the market for overnight loans? Well with supply and demand...it drives their value down. The Fed of course monitors this and if they see the inter-bank lending be more active than they want (where interest rates between banks are below the fed funds rate), they remove reserves from the banking system by selling t-bills to primary dealers for reserves. When the Fed does this, this results in a destruction of the monetary base and deflation.

So in summation...a simple fractional based banking economy absolutely experiences monetary loss and deflation when loans are repaid.

An economy backed by the Fed's open market will not only experience M1 deflation but MB deflation as well as the reserves are taken out of the system to rebalance supply and demand for loans.

 

[Black Flag]

Future debt. Future promises only. That's my point. Without future debt the interest on existing loans in our global Ponzi scheme system cannot be paid in the aggregate.

Not at all, Steven!

It is no ponzi scheme whatsoever.

Bank earns interest on its loans.
It spends these earnings on its wages, rent, computer, etc. just like any other business.

It invests its profits, just like any business.

If you think this is a ponzi scheme, you must also believe capitalism and the creation of wealth is merely a ponzi scheme!

 

[Black Flag]

By your logic, you should be able to do the same with the banking system in our scenario.

Again, crack pot theory!

You are suggesting the entire economy - all at once - takes their ball glove and bat and goes home!

You are suggesting the banks never loan, thus do not earn, thus cannot pay their employees, their rent, their luxury condos.

By what logic to you prescribe this will ever happen????

Your crack pot theory requires a situation that has never and will never happen in modern human history - save global nuclear war. If that happens, banking is the least of your worries.

IF all the debts were unwound, there would the same $100 in money that the system started with (using my monopoly example) -which is, has been, and the only money running around our little economy example from the beginning.

It is your crackpot theory of fictitious thin-air money that has you so thoroughly confused to believe that without debt, there is no money - and YET! you utterly refuse to do the real touch and feel example with your monopoly set to see ... that your theory is WRONG.

 

[Black Flag]

It's helpful to remember what we're initially arguing about. You are arguing that paying down bank debt does not deflate the money supply. I am arguing it does.

I know.

It the the old, tired, Keyensian mumbo-jumbo theory.

Say I'm a depositor of ABC bank. I'm also a lender of ABC bank. I have 100k in debts, but 100k in checking. If I repay my 100k debt, the bank merely removes their 100k checking liability to me and their 100k loan credit to me.

Correct - and the money supply does not change.

It does not matter which bank or how many banks or if it is one bank, the mechanics remains the same, because you are in ONE banking system - the Federal Reserve System

In the aggregate the banking system now has 100k less in deposits.

So?
It has also has 100K of Liabilities removed from its books.

This is a destruction of money since M1 is money.

Thus the crack pot theory!

You merely have made the same bizarre definition of money as Keynes - that an IOU - consequence of LENDING money because that which caused it --- money!

The dog and bark= two dogs theory at work again

The bank has become less fractionally backed and more honestly backed

This is true - it has more cash to provide to its IOU's demands - it has become more solvent.

But how does improving solvency come at destroying money???? - It can't

"I am more solvent because money was destroyed!" === utter poppycock.

I have become more solvent because I have MORE money to IOU!

(of course not sustainable as full loan repayments are impossible without government injections of reserves).

Poppy cock!

You therefore deny the existence of the free market and capitalism!

"Of course "profits" are impossible without the government injecting money into the system!" is your claim here!!

Break out the monopoly set; take 100 1$monopoly money and move the paper money around; take accounting notes of who owes what

...and you will find profits; you will find interest; you will accounting of deposits and of loans, and the system goes around and around and around forever without you having to pull one more monopoly dollar out to make it work

 

[Black Flag]

Steve,

Here, do this exercise:

Leave out the banks and fractional reserves and all of that.

You have $25, I have $25, rwpi has $25 and Roy has $25.

I teach, you make shoes, rwpi fixes computers and Roy sews dresses.

How does our economy work, where ALL of us make a profit selling our stuff, and yet ALL of us enjoy the fruits of each other's labor?

Do the exercise and explain your version of the free market system.