Sunday, October 28, 2012

Summing up monetary policy...

...and its inability to produce the desired effects the Fed wishes, a paper is making the rounds.

Finally, some tacit admission among academia that the bulk of fiat "money" is created ex nihilo via bank loans (and the corresponding deposits).  This implies monetary creation is much more a function of lending environment than interest rates or other factors.

In a financial system with little or no reserve backing for deposits, and with
government-issued cash having a very small role relative to bank deposits, the creation of
a nation’s broad monetary aggregates depends almost entirely on banks’ willingness to
supply deposits. Because additional bank deposits can only be created through additional
bank loans, sudden changes in the willingness of banks to extend credit must therefore not
only lead to credit booms or busts, but also to an instant excess or shortage of money, and
therefore of nominal aggregate demand.

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