Debunking The Velocity of Money

[Joe Leote]

This video comments on Steve Keen's teaching that private debt tends to cause more economic disruption than public debt:

Everyone's Panicking About The Wrong Debt — We Had To React - YouTube

There is discussion of inflation in terms of velocity of money which is not the best way to understand the financial system.

Austrian criticism of the velocity of money:

The Velocity of Money Circulation Is Another Economic Myth | Mises Institute

Post-Keynesian criticism of Steve Keen's model (2014) with discussion of Aggregate Demand and Debt:

Microsoft Word - AD and debt - CORRECTED FINAL

where the 16 page paper explains how Keynesian and Post-Keynesian theories of aggregate demand include criticisms of the Monetarist theories of the velocity of money characterized as the Fisher equation.

Quote on Page 9:

  "The Fisher equation constitutes the monetarist framework for macroeconomics. Income expenditure accounting constitutes the Keynesian framework and it offers an alternative approach to understanding the AD, credit, endogenous money nexus. The key difference is that instead of viewing the impact of credit through the lens of velocity, the impact of credit is seen through the marginal propensity to spend from credit. This approach to credit is illustrated by Palley (1997) who presents a business cycle model in which there is both direct credit (i.e. loanable funds credit provided via the bond market) and indirect credit (i.e. endogenous money credit provided via the banking system). A loanable funds construction of the credit process involves transferring existing money balances between lenders and creditors. An endogenous money construction of the credit process involves the creation of new money balances. Consequently, endogenous money lending has a larger effect on AD because there is no need for lenders to forgo spending."

My Comment: The complex transactions in the financial economy occur with delta-M = 0 or delta-M = positive/negative amounts where M is whatever definition one applies to the liabilities of the aggregate bank sector. In flow of funds analysis the nonbank sector financial intermediaries create credit and debt instruments which merely redistribute money in the existing money supply M so delta-M equals zero on the aggregate bank balance sheet. Meanwhile the US federal Government redistributes money in M via taxation and spending. On average the US Treasury floats more Treasury debt to cover the financial Deficit in a period and it redeems outstanding Treasuries to dispose of the financial Surplus in a period. This means delta-M = 0 typically for Treasury operations but it should be recognized that the float of Treasury securities exists in foreign and domestic asset portfolios right alongside the liabilities of banks and nonbank financial intermediaries. The Fed (central bank) and aggregate commercial banks are a government authorized system of public-private financial managers who authorize overdraft privileges via network banking backed by the Fed as lender of last resort. When Fed purchases securities from nonbanks it injects reserves and transaction accounts into the aggregate bank so delta-M is positive. When banks issue loans to nonbanks, purchase loans from nonbanks, or purchase securities from nonbanks the banks pay with net new transaction accounts from "thin air" so delta-M is positive. Depending on the definition of money supply M banks also drain funds by conversion to other bank liabilities or paid-in equity. Banks create money via interactions with Fed or Nonbanks but also act as financial intermediaries in part because banks are forced to pay interest on liabilities and develop paid-in equity for two primary reasons. First, each bank must force a flow of reserves into the bank to clear interbank payments which flow back out to the bank sector via payment clearing customs. To do this banks pay interest on liabilities. Second, banks need an equity cushion to absorb the write-down of defaulted loans in the asset portfolio. This requires a prudential amount of paid-in equity and/or adjusted equity. During the global financial crisis in 2008 the bank sector appeared to be well capitalized until banks were forced to repurchase a raft of bad loans that had been originated and packaged for sale to nonbank special purpose vehicles. In short banks had off-balance sheet liabilities that had to come back onto the books of the aggregate bank at the same time the nonbanks were not eager to take a write-off of fresh paid-in equity or a haircut on uninsured bank liabilities. The Fed did Quantitative Easing and Interest on Excess Reserve to provide liquidity and cash flow to banks. The Treasury increased the float of T-bills with interest rates set below the IOER rate to provide liquidity to nonbanks. 

Joe

[William Meyer]

Perfect timing as i have started Friedman's monetary history of the United states 1867 - 1960.  It actually begins before the Civil war a bit (im through the panic of 93).  The public's changing demand for money balances plays an important role as economic uncertainty can cause everyone to want to hold more and vice versa.

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