The Money Supply and GDP

[William F Hummel]

The money supply since January 1959, as defined by the Fed, can be seen at http://www.federalreserve.gov/Releases/H6/hist/h6hist1.txt.  
The GDP over the same period can be seen at http://eh.net/hmit/gdp/gdp_answer.php?CHKnominalGDP=on&CHKrealGDP=on&year1=1959&year2=2006 . 

The data shows that the growth rate in M2 is a fairly good proxy for the growth rate in the nominal GDP, but not the real GDP.  Over the 48 year period ending December 2006, M2 grew by a factor of 25.7 while real GDP grew by a factor of 4.6.  In terms of annualized rates, M2 grew at 7.0% while real GDP grew at 3.3%.

Over the same period, the annualized inflation rate was 4.1% which appears to account for almost all of the difference between M2 and real GDP.  The question I'd like to pose is what is causing the inflation.

William 

[jorge H. Moromisato]

William,

    I believe the consensus about monetary economists is that interest rates, the price of money, is strongly correlated with inflation. Money supply (M1, M2, ...) has been associated to inflation before, but after the early 1980 bout of inflation the Fed stop using that parameter to control inflation. The fact that higher interest rate can lower inflation is rather paradoxical: higher interest rates will push prices higher; how can they lower the tendency to higher prices? The answer is, of course, that interest rates affect the availability of money, and that is what ultimately affects the evolution of prices.

    The reason why, money supply is not closely correlated with inflation, by the way, is the existence of the economic security imperative: people desire to save more than to acquire goods. Thus good fraction of extra income is saved rather than spent.

    All this means that inflation correlates better to interest rates than almost anything else. Which in turn means that the secular inflation you mention has to be due to interest rates lower than what economic growth demands.

    My theory is that interest rates are lower than needed because interest rates do not control economic activity that well, due to the excess liquidity in the hands of the people. As you may have noticed, M2 is about $8 trillion, while total base money is $800 billion and bank reserves less than $60 billion. Interest rates can control variations on those $60 billion but little on most of the $8 trillion in M2, owned by the people. The upshot of all these is that secular inflation depends on the fluctuations of savings (the bulk of M2), which is all bank money (claims on saving deposits).

    A higher interest rate, I believe, can reduce inflation, at the cost of low or even negative GDP growth. Thus, we have to tolerate inflation for the sake of economic growth. I also believe that in a full reserve regime the Fed can truly control inflation rate, at least in the medium and long run (the short run is always dominated by people's psychology).

 

    Jorge.

[William F Hummel]

On 10/24/07, jorge H. Moromisato <jorg...@comcast.net> wrote:

William,

    I believe the consensus about monetary economists is that interest rates, the price of money, is strongly correlated with inflation.

If you mean that economists believe interest rates are negatively correlated with inflation -- a higher interest rate results in a lower inflation rate -- I agree that is the consensus.  However there have been notable examples to the contrary.  From 1976 through 1981 the Fed funds rate grew almost continuously from about 5% to 19% while the inflation rate grew steadily from about 6% to 12%.  Throughout most of the 1980s decade, the inflation rate drifted downward as did the Fed funds rate.

Money supply (M1, M2, ...) has been associated to inflation before, but after the early 1980 bout of inflation the Fed stop using that parameter to control inflation. The fact that higher interest rate can lower inflation is rather paradoxical: higher interest rates will push prices higher; how can they lower the tendency to higher prices? The answer is, of course, that interest rates affect the availability of money, and that is what ultimately affects the evolution of prices.

Interest rates affect the demand for credit money and thus the quantity of money.  However there remains the question of cause and effect regarding prices and money demand.  Which leads?  I think more often than not, in modern industrial economies the money supply increases as a result of rising prices rather than vice versa.  This is obviously contrary to conventional wisdom, but the British economist Roger Bootle explained why it is so in his book, "The Death of Inflation" which I reviewed at http://wfhummel.net/deathinflation.html. 

    The reason why, money supply is not closely correlated with inflation, by the way, is the existence of the economic security imperative: people desire to save more than to acquire goods. Thus good fraction of extra income is saved rather than spent.

    All this means that inflation correlates better to interest rates than almost anything else. Which in turn means that the secular inflation you mention has to be due to interest rates lower than what economic growth demands.

Again, I assume you mean negatively correlated.  However the Japanese experience does not conform to this hypothesis.  For a decade or more, the interest rates in Japan were almost zero, while the inflation rate was at or below zero.  This has been explained as a deflationary trap, but I doubt that is the real reason.  I think it was because the Japanese were thoroughly shaken by the crash in real estate prices in the late 1980s, when the value of the land under the Imperial Palace in Tokyo exceeded that of all San Francisco.  It took a long time for the people to overcome the fear that burst bubble induced.

    My theory is that interest rates are lower than needed because interest rates do not control economic activity that well, due to the excess liquidity in the hands of the people.

I agree with this in general.  However I don't think liquidity is the issue.  That is seldom a problem.  Rather I think it is financial wealth in the form of stocks, bonds, money market funds, as well as bank deposits on the consumer side.  On the business side, borrowing costs have a definite impact on economic growth, especially in the construction industry.  

As you may have noticed, M2 is about $8 trillion, while total base money is $800 billion and bank reserves less than $60 billion.

More than half of the $800 billion in base money exists as Federal Reserve notes held overseas, which have no effect on the domestic US economy.  The remaining fraction is used only in small retail transactions and as rainy day money..  So the quantity of base money is of little significance in terms of economic activity and effect on inflation.  

Interest rates can control variations on those $60 billion but little on most of the $8 trillion in M2, owned by the people.

 Banks reserves are not a part of the money supply.  They merely back (fractionally) the demand deposits that are a part of the money supply.   

The upshot of all these is that secular inflation depends on the fluctuations of savings (the bulk of M2), which is all bank money (claims on saving deposits).

I would agree if money were the cause rather than the effect.  In some cases it is, but by no means always.

  A higher interest rate, I believe, can reduce inflation, at the cost of low or even negative GDP growth. Thus, we have to tolerate inflation for the sake of economic growth.

I agree with this observation in general, but with exceptions as noted above.  I would add that a little inflation helps stimulate the economy because of its effect on aggregate demand.  Also there is no doubt that the Fed can drive interest rates up to a level that will cause a recession.  
 

I also believe that in a full reserve regime the Fed can truly control inflation rate, at least in the medium and long run (the short run is always dominated by people's psychology).

I favor a full reserve regime, but mainly because it would provide a less fragile financial system.  However I am not convinced it would control inflation any better in the long run.  It has that potential but at the risk of creating a recession.  The Fed would still be faced with the problem of selecting the optimum interest rate, and it must read the tea leaves just as it does now. 

William

[rotkehlch...@yahoo.com]

William,

 

"I favor a full reserve regime, but mainly because it would provide a less fragile financial system.  However I am not convinced it would control inflation any better in the long run.  It has that potential but at the risk of creating a recession.  The Fed would still be faced with the problem of selecting the optimum interest rate, and it must read the tea leaves just as it does now."

What do you think about the 'real bills' as advocated by Prof. Fekete? I think he is sometimes a little over the top, but this kind of makes sense to me. The bills are short term notes (90 days) that only come into existence to facilitate the production and delivery of goods/services. That way there would be only as much money around as needed for the productive economy, and the interest rate is set automatically and self-regulates by demand/supply and economic activity. Apparently that is how it worked before central banks etc came along. There is no need to expand the money supply to provide capital. Capital should come from savings.

(I don't think it is the same as commercial paper, because CP is still dependent on Fed rates)

 

Rene

[William F Hummel]

On 10/24/07, rotkehlch...@yahoo.com

<rotkehlch...@yahoo.com > wrote:

William,

 

"I favor a full reserve regime, but mainly because it would provide a less fragile financial system.  However I am not convinced it would control inflation any better in the long run.  It has that potential but at the risk of creating a recession.  The Fed would still be faced with the problem of selecting the optimum interest rate, and it must read the tea leaves just as it does now."

What do you think about the 'real bills' as advocated by Prof. Fekete? I think he is sometimes a little over the top, but this kind of makes sense to me. The bills are short term notes (90 days) that only come into existence to facilitate the production and delivery of goods/services. That way there would be only as much money around as needed for the productive economy, and the interest rate is set automatically and self-regulates by demand/supply and economic activity. Apparently that is how it worked before central banks etc came along. There is no need to expand the money supply to provide capital. Capital should come from savings.

(I don't think it is the same as commercial paper, because CP is still dependent on Fed rates)

 

Rene

Prof. Fekete is not only in favor of the real bills approach to monetary control, he also advocates a return to the gold standard.  Both of these regimes were invoked during the early years of the Fed.  The real bills approach failed within 8 years of its adoption in 1914.  The gold standard fell apart in the U.S. with onset of the Great Depression.  It had already failed in the UK and elsewhere.  A return to the gold standard is quite impractical in the modern global economy, so I can't take seriously Prof. Fekete's views.

There is a huge literature available on both subjects.  For one view on why the real bills doctrine failed, take a look at  http://richmondfed.org/publications/economic_research/economic_review/pdfs/er680501.pdf

William

[jorge H. Moromisato]

William,

I beg to differ with your belief that

"...more often than not, in modern industrial economies the money supply increases as a result of rising prices rather than vice versa." 

The Fed has demonstrated, over and over again, throughout the last 25 years--right after they gave up targeting M1, and M2--that targeting interest rates is the most effective instrument to control inflation, and recessions. As you said before,

Interest rates affect the demand for credit money and thus the quantity of money.

Therefore, a decrease in the quantity of money causes a decrease in the inflation rate. And conversely, an increase in the quantity of money causes an increase in inflation.

If your point is that there is also a feedback loop, where inflation contributes to an increase in the money supply, then I'll have to agree with you, but the only reason that can happen is, as I said before, that the Fed does not have a reliable control of the money supply, mainly because banks (in a partial reserve regime) can always create more money if the demand is there.

 

    Jorge.

----- Original Message -----

From: William F Hummel

[Mark...@aol.com]

In a message dated 10/24/07 6:56:47 PM Eastern Daylight Time, wfhu...@gmail.com writes:

If you mean that economists believe interest rates are negatively correlated with inflation -- a higher interest rate results in a lower inflation rate -- I agree that is the consensus.  However there have been notable examples to the contrary.  

A few economist note that because interest is a cost of doing business, higher interest rates force business to increase prices to stay profitable. Higher interest rates can also result in reduced competition because some companies will not be able to compete and fail. Less competition could lead to higher prices. I do believe higher interest rates will eventually break inflation by squelching demand, but I still wonder if that is the best course of action. And on the flip side, is cutting interest rates to jump start the economy effective or does it just lead to asset price inflation? I still maintain an effective fiscal policy could be far more effective in controlling the economy.

MarkG



**************************************
See what's new at http://www.aol.com

[jorge H. Moromisato]

William,

I also must disagree with your interpretation of the examples you mentioned:

However there have been notable examples to the contrary.  From 1976 through 1981 the Fed funds rate grew almost continuously from about 5% to 19% while the inflation rate grew steadily from about 6% to 12%.  Throughout most of the 1980s decade, the inflation rate drifted downward as did the Fed funds rate.

The 1976-81 situation supports my previous statement that the Fed does not have a reliable control of the money supply. Prices started to increase because of the 'oil shock' and Fed rates had little leverage on the money supply.

After the Fed finally regained control, the resulting disinflation followed its natural course: Fed lowered rates, as the inflation was coming down; and not the other way around.

 

However the Japanese experience does not conform to this hypothesis.  For a decade or more, the interest rates in Japan were almost zero, while the inflation rate was at or below zero.  This has been explained as a deflationary trap, but I doubt that is the real reason.  I think it was because the Japanese were thoroughly shaken by the crash in real estate prices in the late 1980s, when the value of the land under the Imperial Palace in Tokyo exceeded that of all San Francisco.  It took a long time for the people to overcome the fear that burst bubble induced.

That is another example of the CB losing control of the money supply, or more specifically of the interest rates losing their leverage (which is basically a deflationary trap). To explain a monetary phenomena in terms of people's psychology is to try to hide the problem under the proverbial rug.

 

Banks reserves are not a part of the money supply.  They merely back (fractionally) the demand deposits that are a part of the money supply.   

I couldn't disagree more with that statement of yours. When I mentioned the $8 trillion or so in M2, I was trying to call your attention to the enormous amplification of money by the banks. Those $8 trillion are claims on the $60 billion in bank reserves; that is a ratio of over 100 to 1. Reserves are the backbone of the money supply. In the sub-prime crisis, the Fed had to inject about $100 billion to lend some liquidity (additional money supply) to the system. Base money, or reserve, is also called 'power money', for very good reasons. That is the same reason that the Fed is severely restricted in its power to issue base money: it can lead to an explosion in the money supply (that is, by the way the mechanism of all hyperinflations).

 

Jorge.

[jorge H. Moromisato]

Mark,

    I agree with your description of how interest rates affect prices

[MarkG] And on the flip side, is cutting interest rates to jump start the economy effective or does it just lead to asset price inflation?

[j] My answer would be yes to both questions. Asset price inflation would certainly occur if interest rates remain at their lowest, but the Fed usually makes sure that it does not.

 

[MarkG] I still maintain an effective fiscal policy could be far more effective in controlling the economy.

 

[j] Unfortunately 1) fiscal policy is much too slow to react to any economic disturbance; and 2) Inflation and deflation are monetary ills, which only respond to monetary remedies. Fiscal policy can only have an effect on them through its effects on monetary policy. But this is a never ending debate (see for instance Monetary vs. Fiscal Policy, by M. Friedman and W. Heller, 1969).

 

    Jorge.

----- Original Message -----

From: Mark...@aol.com

To: Understan...@googlegroups.com

Sent: Thursday, October 25, 2007 7:32 AM

Subject: Re: The Money Supply and GDP

[rotkehlch...@yahoo.com]

Thanks for the link. I have to say, this looks like a case of the 'winner writes history' to me, in this case the winner being the banks.

Glancing through Mr. Friedman's paper (whose writings I may have considered for the textbook recycle bin mentioned earlier) in your link below, its aim clearly is to bury real bills. I will look into its merit, but by citing John Law as the founder of real bills, it is clear what he is trying to do. What I find funny is that Law's example describes much more the state of affairs wrt Mortgage backed obligations, which is what we have today, rather than bills. Also let me just mention that Fekete does not both advocate real bills and the gold standard models in isolation, but rather a combination of the two.

 

I will reply in more detail once I have it straight.

 

Rene

----- Original Message ----
From: William F Hummel <wfhu...@gmail.com>

To: Understan...@googlegroups.com
Sent: Wednesday, October 24, 2007 10:25:41 PM
Subject: Re: The Money Supply and GDP

On 10/24/07, rotkehlch...@yahoo.com

<rotkehlch...@yahoo.com > wrote:

William,

 

"I favor a full reserve regime, but mainly because it would provide a less fragile financial system.  However I am not convinced it would control inflation any better in the long run.  It has that potential but at the risk of creating a recession.  The Fed would still be faced with the problem of selecting the optimum interest rate, and it must read the tea leaves just as it does now."

What do you think about the 'real bills' as advocated by Prof. Fekete? I think he is sometimes a little over the top, but this kind of makes sense to me. The bills are short term notes (90 days) that only come into existence to facilitate the production and delivery of goods/services. That way there would be only as much money around as needed for the productive economy, and the interest rate is set automatically and self-regulates by demand/supply and economic activity. Apparently that is how it worked before central banks etc came along. There is no need to expand the money supply to provide capital. Capital should come from savings.

(I don't think it is the same as commercial paper, because CP is still dependent on Fed rates)

 

Rene

[Mark...@aol.com]

In a message dated 10/25/07 10:09:37 AM Eastern Daylight Time, jorg...@comcast.net writes:

2) Inflation and deflation are monetary ills, which only respond to monetary remedies.

Deflation will result from a govt fiscal surplus. Wray gives a good explanation in his book "Understanding Modern Money". Three good examples are the US experience in the 1930s and late 1990s and Japan in the 1990s. All three deflationary (or worry) periods were preceded by a fiscal surplus.
I find the Reagan years to be interesting. Tax rates were cut and inflation subsided as did interest rates. Deficits add to private sector income. I would argue the tax rate cuts added to business income resulting in greater profits without price increases. The Fed responded with interest rate cuts which lowered interest expense resulting again in profits without price increases.
Unfortunately, there are too many factors outside the control of both the monetary (Fed) and fiscal (Congress) authority. Global demand for energy probably the biggest. Not to mention the lack of understanding by Congress of the economic power of fiscal policy.

MarkG

[William F Hummel]

Mark, you have said previously that the Fed should set a fixed target for the money market rate, and you proposed a target of 5%.   I assume that you mean the Fed should perform only a clerical type function, although it's not evident that a fixed interest rate will provide a stable financial system in the long run.  Can you be more specific regarding fiscal policy as a control mechanism?

I assume you propose that government control of the economy and the financial markets be entirely through Congressional action on taxes and spending.  Would the required legislation involve the type of spending or just the choice of taxes relative to total spending?  Would the tax rates have to be varied more frequently, say like the Fed funds rate is varied?  How would the House and Senate coordinate?  Would a Congressional czar need to be appointed or elected to run the economy and financial markets, with powers something like the Fed chairman and the FOMC?

William

[jorge H. Moromisato]

Mark,

I didn't say that fiscal policies have no effect on the economy; they obviously do. But, through monetary phenomena. I think an analogy may clarify this issue: Money is like oxygen in the blood, the lungs (government) extract oxygen from the air, and the heart (Fed) pumps the blood throughout the body. Which of the two organs is more important to the wellbeing of the organism?

 

Your statements below are factually correct,

Unfortunately, there are too many factors outside the control of both the monetary (Fed) and fiscal (Congress) authority. Global demand for energy probably the biggest. Not to mention the lack of understanding by Congress of the economic power of fiscal policy.

Many factors, non-fiscal and non-monetary, can affect the economy. The purpose of economics (or rather its limitation) is to try to understand the mechanisms by which those factors operate, rather than to predict they occurrences. I think.

 

    Jorge.

 

 

 

----- Original Message -----

From: Mark...@aol.com

To: Understan...@googlegroups.com

Sent: Thursday, October 25, 2007 9:19 AM

Subject: Re: The Money Supply and GDP

[William F Hummel]

On 10/24/07, jorge H. Moromisato <jorg...@comcast.net> wrote:

William,

I beg to differ with your belief that

"...more often than not, in modern industrial economies the money supply increases as a result of rising prices rather than vice versa." 

The Fed has demonstrated, over and over again, throughout the last 25 years--right after they gave up targeting M1, and M2--that targeting interest rates is the most effective instrument to control inflation, and recessions.

There is no question that targeting interest rates can be effective in controlling inflation.  However there is really no connection between your comment and the quote you show above.  The money supply I refer to is a dependent variable, but you view it as a control variable.  It is the result of the demand for money to meet the higher costs of goods and services.  That's what I mean by growth in prices leading growth in the money supply.  I firmly believe that is more common than vice versa in a modern credit money system.  The vice versa applies to simpler cash-based economies, of which relatively few exist today.

As a control variable, raising the interest rate can reduce the demand for money and put downward pressure on prices.  However that will be effective only to the extent that producers have adequate margins to absorb the higher borrowing costs and reduce prices and still remain in business.

As you said before,

Interest rates affect the demand for credit money and thus the quantity of money.

Therefore, a decrease in the quantity of money causes a decrease in the inflation rate. And conversely, an increase in the quantity of money causes an increase in inflation.

This is the monetarist view, to which I don't subscribe.  It assumes that money is exogenous, i.e. somehow money is injected into the system whereupon producers and merchants can charge higher prices and do so, thus resulting in price inflation.  In truth money is endogenous, i.e. its growth is a function of private sector demand.

The money supply used by the private sector exists mainly in the form of bank deposits which are created through bank lending.  The Fed, in controlling the interest rate, must provide whatever amount of reserves of base money the banking system needs to meet the prescribed reserve requirements.  The Fed can influence the demand through its choice of the Fed funds rate target, but it can't directly control the money supply.   Even in a full reserve system, the Fed could not control the money supply without giving up control of the money market interest rate, which it would not do.

If your point is that there is also a feedback loop, where inflation contributes to an increase in the money supply, then I'll have to agree with you, but the only reason that can happen is, as I said before, that the Fed does not have a reliable control of the money supply, mainly because banks (in a partial reserve regime) can always create more money if the demand is there.

Indeed that is the missing link.  In a fractional reserve regime, the Fed has no way to control the amount of bank lending other than through its control over reserves.  Since credit money transactions always involve the transfer of bank deposits, the Fed must provide whatever reserves are need for those transactions to clear.  Otherwise it risks a freeze up of the payment system and thereby failing the charter it works under.

William

[William F Hummel]

On 10/25/07, jorge H. Moromisato <jorg...@comcast.net> wrote:

 

Banks reserves are not a part of the money supply.  They merely back (fractionally) the demand deposits that are a part of the money supply.

 

I couldn't disagree more with that statement of yours. When I mentioned the $8 trillion or so in M2, I was trying to call your attention to the enormous amplification of money by the banks. Those $8 trillion are claims on the $60 billion in bank reserves; that is a ratio of over 100 to 1. Reserves are the backbone of the money supply.

Some countries, for example Canada, have no reserve requirements at all, and the total reserves in their banking system are trivial compared to their M2.  Does that mean their financial systems are in a more precarious state than the U.S.?

If you are really concerned about the reserve ratio in the U.S., you should be far more concerned about the total credit market debt ($47 trillion) relative to bank reserves.  The real issue is not the amount of debt but the mismatch between maturities, and the ability to service debt out of income (cash flow). 
 

In the sub-prime crisis, the Fed had to inject about $100 billion to lend some liquidity (additional money supply) to the system. Base money, or reserve, is also called 'power money', for very good reasons.

Actually the Fed injected several hundred billion but only in short term repos, which never accumulated to more than about $50 billion in excess reserves, and that only lasted for a few days in August.

That is the same reason that the Fed is severely restricted in its power to issue base money: it can lead to an explosion in the money supply (that is, by the way the mechanism of all hyperinflations).

Hyperinflations are not simple cases of the central bank over-issuing base money.  They are are caused by the collapse of normal government due to war, revolution, or gross corruption.  Over-issue of base money and resulting hyperinflation is the result, not the cause.

William

[Mark...@aol.com]

In a message dated 10/25/07 12:00:29 PM Eastern Daylight Time, wfhu...@gmail.com writes:

I assume you propose that government control of the economy and the financial markets be entirely through Congressional action on taxes and spending.  Would the required legislation involve the type of spending or just the choice of taxes relative to total spending?  Would the tax rates have to be varied more frequently, say like the Fed funds rate is varied?  How would the House and Senate coordinate?  Would a Congressional czar need to be appointed or elected to run the economy and financial markets, with powers something like the Fed chairman and the FOMC?

On the spending side I would advocate an ELR (employer of last resort) program. I would also like to see a program put in place where no individual can receive more than a specified amount from direct government spending in a lifetime. For example, if company A receives a govt contract for X$, the company must document how much each employee receives of the X$. No individual would be allowed to accept more than a specified amount in their lifetime (including retirement). I don't believe the govt should be in the business of making millionaires and this could curtail some of the corruption that takes place. As far as what the govt spends money on will always be a subject of debate.  
On the taxing side, I favor a much higher energy tax. I think energy consumption is one of the biggest contributors to inflation. I would also eliminate all income taxes (income and payroll) and go with a progressive labor tax on employers. My thought process is if employers want to reduce taxes they will maximize productivity which can contain inflation and raise living standards.
As far as the level of taxes and how often to adjust them. I guess a panel much like the FOMC could make recommendations or be granted the power to increase/decrease the energy or labor tax. I would hope the ELR would provide a good degree of stability and limit how much taxes need to be adjusted.

MarkG

[William F Hummel]

On 10/25/07, Mark...@aol.com <Mark...@aol.com> wrote:

In a message dated 10/25/07 12:00:29 PM Eastern Daylight Time, wfhu...@gmail.com writes:

I assume you propose that government control of the economy and the financial markets be entirely through Congressional action on taxes and spending.  Would the required legislation involve the type of spending or just the choice of taxes relative to total spending?  Would the tax rates have to be varied more frequently, say like the Fed funds rate is varied?  How would the House and Senate coordinate?  Would a Congressional czar need to be appointed or elected to run the economy and financial markets, with powers something like the Fed chairman and the FOMC?

On the spending side I would advocate an ELR (employer of last resort) program. I would also like to see a program put in place where no individual can receive more than a specified amount from direct government spending in a lifetime. For example, if company A receives a govt contract for X$, the company must document how much each employee receives of the X$. No individual would be allowed to accept more than a specified amount in their lifetime (including retirement). I don't believe the govt should be in the business of making millionaires and this could curtail some of the corruption that takes place. As far as what the govt spends money on will always be a subject of debate.  

That's a pretty revolutionary proposal.  The remuneration limits would require an awful lot of bookkeeping, especially if you include the employees of subcontractors and sub-subcontractors doing business with a contractor to the government.
 
How about profits to owners of companies doing government business as primes or as subs?  Do you propose to limit that too?  If so, what effect would that have on incentives and the cost to the government of finding willing contractors?

On the taxing side, I favor a much higher energy tax. I think energy consumption is one of the biggest contributors to inflation. I would also eliminate all income taxes (income and payroll) and go with a progressive labor tax on employers. My thought process is if employers want to reduce taxes they will maximize productivity which can contain inflation and raise living standards.

I like your idea of a significant energy tax.  I would add a polution tax to that.  However I don't understand what you mean by a progressive labor tax on employers.  I think most employers attempt to maximize productivity within limits.  But I doubt you would want to incentivize productivity to the point of creating harsh working conditions to increase output per man-hour for the benefit of the company owners.

As far as the level of taxes and how often to adjust them. I guess a panel much like the FOMC could make recommendations or be granted the power to increase/decrease the energy or labor tax. I would hope the ELR would provide a good degree of stability and limit how much taxes need to be adjusted.

You haven't given any details on how fiscal policy could replace monetary policy to control inflation.  I assume you would continue to have the Treasury balance its inflows against outflows on average by selling or redeeming securities as required.  But I don't see anything about deficit spending, and how much would be allowed under your plan.

William

[jrw]

On Oct 25, 7:58 pm, Marke...@aol.com wrote:
> In a message dated 10/25/07 12:00:29 PM Eastern Daylight Time,
>

> MarkG<BR><BR><BR>**************************************<BR> See what's new athttp://www.aol.com</HTML>

Hi Mark,

I think your ideas that governments should not create millionaires is
wrong headed. I would prefer the government selected the best
contractor for the job. Competence is a rare commodity and it is
worth paying for.

It would also encourage a culture of corruption. You would have
proxies filling putting names down. The tighter the grip the
government has on the economy the greater the graft.

Best regards

John

[Mark...@aol.com]

In a message dated 10/25/07 4:43:51 PM Eastern Daylight Time, wfhu...@gmail.com writes:

That's a pretty revolutionary proposal.  The remuneration limits would require an awful lot of bookkeeping, especially if you include the employees of subcontractors and sub-subcontractors doing business with a contractor to the government.

I would hope the profit motive of the prime contractor would limit payments to sub-contractors. Random audits with stiff penalties could deter abusive behavour of this nature.

 

How about profits to owners of companies doing government business as primes or as subs?  Do you propose to limit that too?  If so, what effect would that have on incentives and the cost to the government of finding willing contractors?

How does the government accomplish this today?

I like your idea of a significant energy tax.  I would add a polution tax to that.  However I don't understand what you mean by a progressive labor tax on employers.  I think most employers attempt to maximize productivity within limits.  But I doubt you would want to incentivize productivity to the point of creating harsh working conditions to increase output per man-hour for the benefit of the company owners.

I think any "harsh working conditions" would probably only apply to unskilled labor. With an ELR program in place, workers could always reject private sector employment with unfair labor practice for public sector work. When it comes to a labor tax I look at this way: An employer pays and employee $X and the government receives $Y in taxes. Who pays the tax (employee vs employer) and what you call the tax (income, payroll, medicare) is a matter of semantics. So I say get rid of all the trickery (caps, division between sources, etc) and just make the employer pay a tax based on the labor cost. This is very similar to an income tax but eliminates the "class warfare" since the individual is not being documentated as paying the tax. I would make it somewhat progessive, say a flat rate up to about the present AWI and then a linear increase from there. Employers who want to highly compensate some workers (CEO's for example) would do so at the expense of paying a higher tax rate. But that is entirely up to the discretion of the employer. I think this would restore a more "pay for performance" atmosphere.   

You haven't given any details on how fiscal policy could replace monetary policy to control inflation.  I assume you would continue to have the Treasury balance its inflows against outflows on average by selling or redeeming securities as required.  But I don't see anything about deficit spending, and how much would be allowed under your plan.

I believe unemployment is the result of the public's desire to save due to the nature of captalism. An ELR program will automatically hire the unemployed which will increase deficit spending. This provides the automatic feedback to satisfy the savings and keep the economy from being demand constrained. Improvements in the economy will cause a shift back to private sector employment which should naturally increase tax payments and reduce deficit spending. That is not to say that some adjustments in tax rates may be required.

MarkG

[William F Hummel]

On 10/26/07, Mark...@aol.com < Mark...@aol.com> wrote:

In a message dated 10/25/07 4:43:51 PM Eastern Daylight Time, wfhu...@gmail.com writes:

That's a pretty revolutionary proposal.  The remuneration limits would require an awful lot of bookkeeping, especially if you include the employees of subcontractors and sub-subcontractors doing business with a contractor to the government.

I would hope the profit motive of the prime contractor would limit payments to sub-contractors. Random audits with stiff penalties could deter abusive behavour of this nature.

Major contractors for the government, especially in DOD contracts, do not have the in-house technology or skills to perform all of the tasks needed.  For example Boeing and Lockheed on large government contracts usually act as system integrators and final assemblers, but they depend on a host of other large companies to perform the design and development of the various subsystems.  This is true to some degree on almost all government contracts of any size.  The very nature of the business is a multi-tiered subcontracting operation all funded through the prime contractor with government money.

How about profits to owners of companies doing government business as primes or as subs?  Do you propose to limit that too?  If so, what effect would that have on incentives and the cost to the government of finding willing contractors?

How does the government accomplish this today?

Accomplish what?  I don't know any profit limits imposed by the government on fixed price contracts today.  There may be some on developmental programs which involve a degree of cost sharing because of the risks, as in the Apollo manned lunar program.  During WWII "excess profits" were recaptured in some cases, but that was invoked after the smoke cleared.  The urgency of production made it impossible to obtain competitive or fixed priced bids on most programs.

I like your idea of a significant energy tax.  I would add a polution tax to that.  However I don't understand what you mean by a progressive labor tax on employers.  I think most employers attempt to maximize productivity within limits.  But I doubt you would want to incentivize productivity to the point of creating harsh working conditions to increase output per man-hour for the benefit of the company owners.

I think any "harsh working conditions" would probably only apply to unskilled labor. With an ELR program in place, workers could always reject private sector employment with unfair labor practice for public sector work. When it comes to a labor tax I look at this way: An employer pays and employee $X and the government receives $Y in taxes. Who pays the tax (employee vs employer) and what you call the tax (income, payroll, medicare) is a matter of semantics. So I say get rid of all the trickery (caps, division between sources, etc) and just make the employer pay a tax based on the labor cost.

What about taxes on the large number of self-employed or sole proprietorships?  I think your scheme would simply create a new mode of tax evasion.  Gaming the tax system is par for the course, and the government is always one step behind the innovators.  

This is very similar to an income tax but eliminates the "class warfare" since the individual is not being documentated as paying the tax. I would make it somewhat progessive, say a flat rate up to about the present AWI and then a linear increase from there. Employers who want to highly compensate some workers (CEO's for example) would do so at the expense of paying a higher tax rate. But that is entirely up to the discretion of the employer. I think this would restore a more "pay for performance" atmosphere.   

Your proposal seems like just a shift in the way in which taxes are collected.  What is paid by the employers is eventually paid by households in the form of higher prices for goods and services, limited only by market competition. 

You haven't given any details on how fiscal policy could replace monetary policy to control inflation.  I assume you would continue to have the Treasury balance its inflows against outflows on average by selling or redeeming securities as required.  But I don't see anything about deficit spending, and how much would be allowed under your plan.

I believe unemployment is the result of the public's desire to save due to the nature of captalism. An ELR program will automatically hire the unemployed which will increase deficit spending. This provides the automatic feedback to satisfy the savings and keep the economy from being demand constrained. Improvements in the economy will cause a shift back to private sector employment which should naturally increase tax payments and reduce deficit spending. That is not to say that some adjustments in tax rates may be required.

I think an employer of last resort is fine in principle, but I don't think Mosler's scheme is practicable.  We had ELR programs during the 1930s, called the WPA and the CCC, very useful to those in need of income.  Some of the CCC work still exists today in the form of roads and trails in the back country.  I would endorse that approach.

William

[jim blair]

.  During WWII "excess profits" were recaptured in some cases, but that was invoked after the smoke cleared.  The urgency of production made it impossible to obtain competitive or fixed priced bids on most programs.

 

Hi,

 

For those of you too young to remember, during WW II the government make some "cost plus" contracts.  To get a job done fast, and since money was not an issue, the government would decide what company they thought best qualified to do an important war related job. Then if the historic rate of profit for that company had been say  15%, they would say "do this job, keep track of your costs, and we will pay you all of your costs plus 15%".

 

Needles to say, the company was not very interested in cutting costs while doing the job.

[J. H. Moromisato]

 

 

Hi:

 

    I am plotting the evolution of bank deposits as fractions of nominal GDP, and I am trying to 'understand' the odd breaks in the Nontrans/GDP (the green curve, mostly time deposits), about 1991 (goind down), and then around 1995 (going up).

    My first suspects are changes in banking regulations. Does anybody know of any such changes? Or of any other that may account for those breaks (the GDP curve shows no such breaks).

 

Other interesting points about the plots are the opposite break in the checking account deposits relative to the GDP (Trans/GDP), and the continuous decrease in the that quantity since the 1970's.

 

Jorge.

[William F Hummel]

Jorge,

I don't know what caused the decrease in non-transaction accounts between 1991 and 1994.   However the steady decrease in transaction accounts after 1994 is actually imaginary.  In that year, banks began sweeping checkable accounts at the end of each banking day into MMDA accounts, which are classified as saving accounts and therefore not a part of M1.  All of the funds are automatically returned next morning in time for their customers to use as transaction accounts.   The total amount of funds in those sweep accounts has grown to about $760 billion, which is a large chunk to take out of M1.  The result is that banks have that much less in deposits for which they must hold reserves.

A somewhat similar practice was applied to business accounts starting in the early 1970s, which no doubt explains why M1 decreased more or less continuously over the period shown in the graph.  

William