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Two Very Good Posts

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November 07, 2011 – Comments (1)

There are two very good posts out today that you should read. Here are a couple of excerpts from both:

First post by Cullen Roche:

MMT, THE EURO & THE GREATEST PREDICTION OF THE LAST 20 YEARS?
7 November 2011 by Cullen Roche

http://pragcap.com/mmt-the-euro-the-greatest-prediction-of-the-last-20-years

Being right matters.  This isn’t emphasized quite enough in the finance world and in economics in general.  Too often, bad theory has led to bad predictions which has helped contribute to bad policy.  While MMT remains a heterodox economic school that has been largely shunned by mainstream economists, the modern proponents have an awfully good track record in predicting highly complex economic events.

In the last few years, the Euro crisis has proven a remarkably complex and persistent event.  And no school of thought so succinctly predicted the precise cause and effect, as the MMT school did.  These predictions were not vague or general in any manner.  In reading the research from MMTers at the time of the Euro’s inception, their predictions are almost eerily prescient.  They broke down an entire monetary system and described exactly why its construction would lead to financial crisis if the union did not evolve.

In 1997 Wynne Godley described the inherent flaw in the Euro:

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Some economists say MMT focuses too much on reality by focusing on the actual operational aspects of the banking system and the monetary system.  But as we have seen time and time again, having a poor understanding of the monetary system is not only detrimental to your portfolio, but detrimental to the millions of citizens who are now being subjected to the ignorance of the economists who influence these monetary constructs.


And this one by Bill Mitchell:

It is a disagreement about facts not ideology
Posted on Monday, November 7, 2011 by bill

http://bilbo.economicoutlook.net/blog/?p=16796

I agree with the Crimson – walkouts should not be about ideology. But they are justified if a lecturer is offering material that is patently false and attempting to hold it out as the way the economy operates. That is why I would encourage students to walk out of mainstream macroeconomics lectures right around the globe. It is a disagreement about facts not ideology.

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[Discussing the numerous logical inconsistencies in Mankiw's textbook] Central banks clearly do not determine the volume of deposits held each day. These arise from decisions by commercial banks to make loans. The central bank can determine the price of “money” by setting the interest rate on bank reserves. Further expanding the monetary base (bank reserves) as I demonstrated in these blogs – Building bank reserves will not expand credit and Building bank reserves is not inflationary – does not lead to an expansion of credit.In this regard, Mankiw’s students also learn that the money multiplier links the central bank’s capacity to manipulate the “monetary base” with the money supply. The concept also underpins the assertion that “Prices Rise When the Government Prints Too Much Money” (Mankiw’s Principle No. 9).

After a torturous rendition of the banks accepting deposits and then lending them out, Mankiw says (Chapter27) that: "The amount of money the banking system generates with each dollar of reserves is called the money multiplier". So the student will think that banks wait for deposits and then use the funds to extend loans. They will form the view that banks are reserve constrained. Please read my blog – Lending is capital- not reserve-constrained – to see why that is not a valid depiction. Also please read my blogs – Money multiplier and other myths and Money multiplier – missing feared dead- for more discussion on this point.

If you want to understand how banks operate and interact with the central bank you have to abandon the Mankiw approach. The idea that the monetary base (the sum of bank reserves and currency) leads to a change in the money supply via some multiple is not a valid representation of the way the monetary system operates even though it appears in all mainstream macroeconomics textbooks.

1 Comments – Post Your Own

#1) On November 08, 2011 at 10:09 AM, dwot (97.03) wrote:

"The mainstream treatment leaves one to think that the transition from cottage industry to factory production, for example was because technological advances drove a cheaper form of organisation. But an understanding of history tells us that the move from house production to factor production essentially employed the same spinning jennies (same technology). The move “under-one-roof” facilitated an enhanced capacity to control the surplus production and ensure workers didn’t just work until they had earned enough to live."

Interesting...  Where I live I see this this just work enough to get what you want right now and very little interest in working for the future.

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