Anatomy of a credit crunch induced bankruptcy - Eric Janszen

[Sharky]

Re: Anatomy of a credit crunch induced bankruptcy - Eric Janszen

You are over complicating matters. If the loan defaults, the bank has a writeoff. But only the future ability to make loans is impaired. Even if the bank is closed down, every dime of money that was borrowed into existence by outside borrowers was presumably spent in the economy. The money isn't being returned, so there is no money deflation.

The original credit money created by the loan and spent by the borrower is of course not returned to the bank upon default; it remains in the economy.

However, when a bank takes a write-off against a defaulted loan, the amount of money in the banking system as a whole will decline. The bank's "bank balance" will go down, just as the borrower's bank balance would have gone down had they paid off the loan. In effect, the loan is paid off, it's just that the source of funds is the bank's profits rather than the borrower. There is no free lunch for the banks in that respect (at least in theory); money is still removed from the economy.

Even if the bank can sell the loan's collateral, the proceeds they receive will still retire the loan -- the money received from the buyer will basically pay off the loan and destroy the associated money.

[grapejelly]

Re: Anatomy of a credit crunch induced bankruptcy - Eric Janszen

The original credit money created by the loan and spent by the borrower is of course not returned to the bank upon default; it remains in the economy.

However, when a bank takes a write-off against a defaulted loan, the amount of money in the banking system as a whole will decline. The bank's "bank balance" will go down, just as the borrower's bank balance would have gone down had they paid off the loan.

No it won't. The bank has already disbursed money to the borrower and that money is in the economy. The bank's balance remains the same regardless of default.

In effect, the loan is paid off, it's just that the source of funds is the bank's profits rather than the borrower. There is no free lunch for the banks in that respect (at least in theory); money is still removed from the economy.

No it is not.

Even if the bank can sell the loan's collateral, the proceeds they receive will still retire the loan -- the money received from the buyer will basically pay off the loan and destroy the associated money.

If the bank sells a loan's collateral, it removes money from the economy and that is potentially deflationary.

[grapejelly]

Re: Anatomy of a credit crunch induced bankruptcy - Eric Janszen

Which in my opinion is actual destruction of money, aka part of debt deflation.

this is not monetary deflation and there is of course a big difference. The money supply is not an iota smaller if someone defaults. The money supply can only shrink of people pay back the loan or otherwise return money to the bank.

Defaults don't return money to the bank.

Debt deflation is not monetary deflation. Debt deflation impairs the future ability of banks to lend, and the future ability of borrowers (newly insolvent) to borrow. But debt deflation does NOTHING to deflate the current money supply.

The only reason for this confusion is that we all confused money and credit because in a fractional reserve fiat regime they seem the same. But they are not. If the bank lends me $100, I pay the baker and the butcher that $100. Now, if I default, the baker and butcher still have the $100.

The bank charges off the $100. So when the baker goes to borrow money, the bank says "No." And the baker can't afford to finance his flour. And the baker's income falls, so the baker can't buy meat from the butcher.

This makes everyone poorer, but note that the stock of money has not changed. If the central bank comes around and gives the bank another $100 to lend, then the first $100 is still in the economy (it never left), and the second $100 is now contributing to currency depreciation (inflation) but at no time did my default affect the stock of money in the economy.

[metalman]

Re: Anatomy of a credit crunch induced bankruptcy - Eric Janszen

Debt deflation impairs the future ability of banks to lend, and the future ability of borrowers (newly insolvent) to borrow. But debt deflation does NOTHING to deflate the current money supply.

you have captured all of this Saving, Asset-Price Inflation, and Debt-Induced Deflation in 30 words. well done!

[grapejelly]

Re: Anatomy of a credit crunch induced bankruptcy - Eric Janszen

you have captured all of this Saving, Asset-Price Inflation, and Debt-Induced Deflation in 30 words. well done!

thank you.

I owe a lot of my understanding (or lack therein) to Steve Saville, who's Speculative Investor is in my opinion terrific.

[bart]

Re: Anatomy of a credit crunch induced bankruptcy - Eric Janszen

this is not monetary deflation and there is of course a big difference. The money supply is not an iota smaller if someone defaults. The money supply can only shrink of people pay back the loan or otherwise return money to the bank.

Defaults don't return money to the bank.

Debt deflation is not monetary deflation. Debt deflation impairs the future ability of banks to lend, and the future ability of borrowers (newly insolvent) to borrow. But debt deflation does NOTHING to deflate the current money supply.

I submit that the difference between debt deflation and actual monetary deflation is both academic and minuscule.

I also continue to believe that when a bank writes something off, it not only does show up on their balance sheet if they're using standard accounting practices but also impacts their income statement and ability to loan. Another name for a write off is a loss.

In my opinion, the only way is does not affect money supply is if one considers that credit isn't money.
By definition, when there's a debt deflation then existing credit instruments lose value - one needs to take the next step after recognizing that the bank has had a loss from the write off.
Under normal conditions, it doesn't show up in total money supply since the write offs are small and buried.

And of course the original x$ are still there when a loan goes bad, but that's only part of the overall or total picture. Its like saying that no one has had a loss when their stocks lose value, unless they sell... which in my opinion isn't a wise way to operate.

[grapejelly]

Re: Anatomy of a credit crunch induced bankruptcy - Eric Janszen

I submit that the difference between debt deflation and actual monetary deflation is both academic and minuscule.

I also continue to believe that when a bank writes something off, it not only does show up on their balance sheet if they're using standard accounting practices but also impacts their income statement and ability to loan. Another name for a write off is a loss.

In my opinion, the only way is does not affect money supply is if one considers that credit isn't money.
By definition, when there's a debt deflation then existing credit instruments lose value - one needs to take the next step after recognizing that the bank has had a loss from the write off.
Under normal conditions, it doesn't show up in total money supply since the write offs are small and buried.

And of course the original x$ are still there when a loan goes bad, but that's only part of the overall or total picture. Its like saying that no one has had a loss when their stocks lose value, unless they sell... which in my opinion isn't a wise way to operate.

it makes a huge difference, Bart. It isn't miniscule.

Becuase if you believe the garbage about defaults being deflationary, you will believe that the CBs should increase the money supply to counteract it.

If you understand the truth that defaults are NOT deflationary, you know that we are in the midst of setting up terrifically bad inflation under the cover of a complete lie, the red herring of "deflation."

All we are talking about is the impairment of banks for future lending. To me, that isn't a bad thing. They SHOULD be impaired.

[metalman]

Re: Anatomy of a credit crunch induced bankruptcy - Eric Janszen

If you understand the truth that defaults are NOT deflationary, you know that we are in the midst of setting up terrifically bad inflation under the cover of a complete lie, the red herring of "deflation."

the most shocking thing is... second time it's happen in less than 10 yrs and everyone has already forgotten. :mad:

[bart]

Re: Anatomy of a credit crunch induced bankruptcy - Eric Janszen

it makes a huge difference, Bart. It isn't miniscule.

Becuase if you believe the garbage about defaults being deflationary, you will believe that the CBs should increase the money supply to counteract it.

If you understand the truth that defaults are NOT deflationary, you know that we are in the midst of setting up terrifically bad inflation under the cover of a complete lie, the red herring of "deflation."

All we are talking about is the impairment of banks for future lending. To me, that isn't a bad thing. They SHOULD be impaired.

Our opinions differ... and for you to call all defaults of any size as not deflationary and also characterize the view as garbage (as well as heinously imply that I'm in favor of CBs doing huge counter actions), I submit that you have given up on real debate - at best. Fair warning... I don't tolerate accusations like that very well.

I also submit that lending and future lending is and has been greatly impaired, both per the facts from the Fed's lending survey and in actual reality per total credit stats.

I also submit that there is little wrong with real lending that is based on good ideas or plans from trustworthy non liars with a good track history, etc. Extreme fractional reserve and vested interest based lending is a very different story though, as is the track record of the Fed and scummy banksters etc.

We do agree about inflation and the set up though. And just because we have real deflation now in no way means we can't have screaming inflation soon. The evidence is clearly there.

[grapejelly]

Re: Anatomy of a credit crunch induced bankruptcy - Eric Janszen

Our opinions differ... and for you to call all defaults of any size as not deflationary and also characterize the view as garbage (as well as heinously imply that I'm in favor of CBs doing huge counter actions), I submit that you have given up on real debate - at best. Fair warning... I don't tolerate accusations like that very well.

my apologies, Bart.

[bart]

Re: Anatomy of a credit crunch induced bankruptcy - Eric Janszen

my apologies, Bart.

Cool. We're fine now, and I was almost certain your comments were inadvertent... and our expectations are quite similar too.
And agreeing to disagree about credit and money destruction won't be the first time for either of us.

[charliebrown]

Re: Anatomy of a credit crunch induced bankruptcy - Eric Janszen

OK, I'm really confused. If banks are losing their reserves and cant make loans, how does that effect prices when all those who relied on credit to make purchases are out of the picture?

If new money is created by banks loaning money into existence, which makes sense, if banks stop loaning money, does the money supply plateau? As loans are paid back and no others made does money supply decrease?

[Chris Coles]

Re: Anatomy of a credit crunch induced bankruptcy - Eric Janszen

There is a parallel debate here, a what if, what if they issued new equity capital to sound business borrowers rather than more borrowings? Surely in that case the debt would be more secure and the balance sheets of the banks also?

[wkwillis]

Re: Anatomy of a credit crunch induced bankruptcy - Eric Janszen

After Itulip posted the Waterford crystal bankruptcy, it seems like the companies that are most likely to crash and burn are those heavily in debt.

I think if anyone is thinking in investing in a company during this recession/depression, the first criteria would be for the company to be debt free and, even better, if its competitors were to have excessive debt. It's more likely to be the one left standing perhaps.


Just a thought.

As the airlines have shown, the most dangerous competitor is one that has just gone through bankruptcy and now has less debt than you have...

[Sharky]

Re: Anatomy of a credit crunch induced bankruptcy - Eric Janszen

Debt deflation impairs the future ability of banks to lend, and the future ability of borrowers (newly insolvent) to borrow. But debt deflation does NOTHING to deflate the current money supply.

What is the mechanism by which debt deflation impairs the bank's future ability to lend?

Do banks experience a loss when a borrower defaults? If so, then how that can happen without money being destroyed? Where does the lost money go?

If the bank lends me $100, I pay the baker and the butcher that $100. Now, if I default, the baker and butcher still have the $100.

Of course.

The bank charges off the $100.

What does it mean to you for the bank to "charge off the $100"? What is it charged off against? What happens on the other side of the ledger?