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A question regarding Selgin’s response to Bagus and Howden

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Esuric posted on Fri, Apr 1 2011 11:16 PM

I just finished reading Selgin’s response to Bagus and Howden, and I must say that it appears as though he has successfully combated many of the criticisms levied against him and monetary equilibrium theory in general. That being said, he introduces an argument that I find somewhat confusing if not entirely untenable. I've probably misunderstood his argument and I’m confident that he, or other modern monetary equilibrium theorists (or those who are adequately familiar with modern MET) can coherently remedy my confusion.

He claims,

first, that, holding money proper is saving.….a prior increase in the demand for money constitutes an increase in real saving (or in real saving that is placed with the banks) and that the banks are in turn warranted in making new loans.

I don’t see any relationship between the demand for cash holdings and time preference. As far as I’m aware, the two are entirely independent of each other. It’s true that a higher demand for money must necessarily mean a corresponding diminution in either the demand for consumer goods and/or future goods, but I don’t see how an elevated demand for money, be it inside or outside money (money proper, money substitutes) constitutes an elevated demand for future goods.

So again, does he believe that an elevated demand for real cash balances may potentially mean a higher savings rate (a fall in time preferences), and if so, how?

Thank you.

"If we wish to preserve a free society, it is essential that we recognize that the desirability of a particular object is not sufficient justification for the use of coercion."

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Esuric, the simple anser is that people are saving whenever they refrain from spending on current consumption.  Since a person who holds some money necessarily refrains from spending it for as long as he or she holds it, holding koney is necessarily saving.  But as I explain in my comment, whether an addition to real money holdings involves a change in overall saving or time preference or whatever depends on whether the addition comes from reduced consumption or sales of other assets. 

Note the distinction: money holdings always represent saving; additions to money holdings may represent additions to total saving, but they need not.  It isn't a paradox, though it may seem so, because money is only one of many alternative savings vehicles.  Likewise, all cats are pets, but not every increase in the cat population implies an increase in the pet population. 

Does this help?

 

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C replied on Mon, Apr 4 2011 9:33 PM

Black Numero:

Depending on who you talk to, it seems like that could generate a business cycle (me :D). My point was for a 100% reserve economy.

I think the idea behind free banking is that fractional-reserve banking (done contractually) would not be inflationary.

If you put $1,000 into a checking account and the bank then loans out $900, all you have left available to you to spend is not $1,000 but rather $100 - the amount in reserve.  Technically, that is equivalent to $900 worth of real savings.  So its not an artificial expansion of credit.  If you want to withdraw and spend more than the $100 in reserve, the bank would have to suspend withdraws and raise capital from other sources.  So consumption would in fact be reduced to accommodate the expansion of credit.

The same can be said if banks lower reserves.  If the bank moves from 10% reserves to 5% reserves, the bank is technically reducing the funds you are allowed to withdraw and consume in order to expand credit.  Again consumption would be reduced.  So technically, this would not cause the business cycle.  The main question for me is if consumers would voluntarily put their money in such an account with suspension rules or would they prefer instant access to all of their money.

  At least he wasn't a Keynesian!

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I think the idea behind free banking is that fractional-reserve banking (done contractually) would not be inflationary.

If you put $1,000 into a checking account and the bank then loans out $900, all you have left available to you to spend is not $1,000 but rather $100 - the amount in reserve.  Technically, that is equivalent to $900 worth of real savings.  So its not an artificial expansion of credit.  If you want to withdraw and spend more than the $100 in reserve, the bank would have to suspend withdraws and raise capital from other sources.  So consumption would in fact be reduced to accommodate the expansion of credit.

The same can be said if banks lower reserves.  If the bank moves from 10% reserves to 5% reserves, the bank is technically reducing the funds you are allowed to withdraw and consume in order to expand credit.  Again consumption would be reduced.  So technically, this would not cause the business cycle.  The main question for me is if consumers would voluntarily put their money in such an account with suspension rules or would they prefer instant access to all of their money.

 

If consumers would know about the reduced access to redemption due to bank loans, this seems to me practically tantamount to loan banking and not FRB. Doesn't the entire problem for the 100% reserve school come from the fact that full rights have been simultaneously decreed to different individuals for the same property?

 

Also do you think such a system could work among the banks in a kind of a zero sum cannibalistic form of competition, whereby those that make successful FRB speculations are able to do so using part of their profits to ensure their liabilities are met while other banks that are less successful must sell off assets and consume capital in order to meet liabilities due to losses from unsuccessful speculation. The FRB side of things would just be the extreme "leveraged" part of the market. This is asuming that banks do abide by their contractual obligations of course. I do share concerns howver about the inflation that might ensue and in light of bankruptcies, what consumers might lose in such a system. As long as they are not victims of fraud however, this would just be another manifestation of uncertainty on the market, so that just leaves the inflation question...

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C replied on Mon, Apr 4 2011 10:22 PM

abskebabs:

If consumers would know about the reduced access to redemption due to bank loans, this seems to me practically tantamount to loan banking and not FRB. Doesn't the entire problem for the 100% reserve school come from the fact that full rights have been simultaneously decreed to different individuals for the same property?

Ya I agree it is essentially just a type of loan banking.  Would people use these type of accounts in place of a 100% reserve checking account?  I'm skeptical.  

It almost seems to me that Selgin and his opponents seem to be debating two different things.  When he advocates for FRB we naturally assume that he means FRB as currently practiced where the money in your account is still technically spendable money and property rights have been simultaneously decreed.  I could be way off base, but I don't think that is the essence of his conception of FRB. 

And I don't think his system would be inflationary.  It is just a modified version of loan banking that just transfers money from one person to another, rather than creating more money.  

I do think there is a place for such an FRB account in a market account -- but more so as a savings account to supplement your normal checking.  I'm not sure it would take the place of a primary 100% reserve checking account.

  At least he wasn't a Keynesian!

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