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Can the Fed stop QE?

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  • #46
    Re: Can the Fed stop QE?

    Originally posted by tacito View Post
    I used to think that too. Bart corrected me in the sense that private debts and treasuries are "money like" and can be used to bet on prices too. I don't understand exactly how. Maybe because it can be used as collateral, or sold to a third party.

    So when a 1000$ debt is created you have 1000$ in new cash and 1000$ in a new money like asset. Payback destroys both and default destroys the asset.

    I'm not sure I've got it right. Could someone comment?
    A little double entry bookkeeping can help here.

    Let's say you take out a loan for $10,000, agreeing to repay principal plus 10% interest in one year, for $11,000 total.

    When you take out the loan, you gain an asset of $10,000 and a debit of your IOU agreeing to repay the $11,000 next year. At that time, the bank gained an asset of your IOU and posted a debit for the $10,000 it issued to you.

    When you repay the loan in a year, you post an asset canceling the IOU, and a debit of $11,000 to repay the loan. At that time, the bank posts an asset of $11,000 and posts a debit canceling the IOU it had held from you.

    But that much is rather boring. Perhaps the more interesting aspect is how the above activities affect the nations money supply.

    Banks, because they deal in "safe" instruments, because they are backstopped by a central bank, and because they have obtained substantial industry power over the government, are legally allowed to leverage their lending. This is the well known fractional reserve lending. Their granting a loan to you is rather like them "investing" in your IOU. However for each dollar they hold in reserve, they typically lend ten or twenty dollars (some banks even more.) The magic is that unlike other investors, a bank does not have to borrow at interest from a third party when it leverages its lending. It can just magically generate additional bank credit out of thin air, at no cost to the bank other than reducing its lending reserve capacity.

    So long as the bank is willing and able to find sufficient loan customers to consume all its reserve lending capacity, your paying off your loan doesn't matter much, because that just frees up some reserves for another loan customer. But if it is unable to find enough loan customers or reluctant to risk such loans, then your paying off your loan reduces the money in general circulation by $11,000. Prior to payoff, you had that money, and you and the bank were counterparties to an IOU. That money was in general circulation. The IOU's traditionally were not in circulation (skipping over for a moment that in the last decade, the bank likely had already securitized that IOU, helping to provide monetary feedstock to another market for securitized debt, derivatives, swaps, and such, that was leveraged another ten or twenty times !) After payoff, the $11,000 is essentially extinguished, removed from general circulation, replaced on the banks books by excess reserve lending capacity.

    Considering now what I just skipped over in the previous paragraph, your repaying or defaulting the loan canceled that IOU, which if properly accounted for should remove a small piece of feedstock debt paper for the securitized debt market. If enough such debts are paid off or defaulted, then this reduces the basis of that market. This is one key reason that the big banks are reluctant to lend right now. They have enormous sums of such debt paper derivatives off balance sheet, and are struggling with digesting the collapse of that market in a sufficiently stealthy and slow pace so as to avoid going bankrupt. Medium and smaller banks mostly have various loans and mortgages on their books, rather than debt paper derivatives, so they are sweating bullets and reluctant to lend for a slightly different reason. The economic collapse threatens their existence as it threatens their loans.
    Most folks are good; a few aren't.

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    • #47
      Re: Can the Fed stop QE?

      Thanks for the explanation. I have a pair of doubts:

      I've seen two descriptions of "fractional reserve banking". One like yours: A bank has $1 billion in reserves, it can loan $9 billion of new money. The other (Chris Martenson, for example), explains that the bank takes a percentaje of reserves for each deposit and lends the remaining. The money grows because the money lent eventually finishes in another deposit in the same or a different bank and is lent again (minus reserve). But I understand that now there are no reserve requirements really. What's happening here? Is the first explanation a simplified one, or the rules have changed at the same time that the reserve requirements have been removed?

      And also: what are the effects of securitation? I can see that the bank that sells the IOU of a loan it made recovers its lending capacity and can lend again. And the investment bank that boughts it invests its lending capacity. So, is it only a transfer of money or are there some "compounding" that creates more money?

      Thanks again.

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      • #48
        Re: Can the Fed stop QE?

        Originally posted by tacito View Post
        I've seen two descriptions of "fractional reserve banking". One like yours: A bank has $1 billion in reserves, it can loan $9 billion of new money. The other (Chris Martenson, for example), explains that the bank takes a percentaje of reserves for each deposit and lends the remaining.
        To be honest, I don't know. Eventually I came to the conclusion that I didn't care either. What matters here, in my view, is what reserve ratio a bank has and how safe its reserves are. In particular, so far as bank regulations affect this, it seems that required reserve ratios were complicated and obfuscated enough in the last decade, with things like sweep accounts (banks can move your money overnight to savings accounts requiring lower reserves, invisibly to you, just to gin up lower reserve requirements) and like little or even zero reserve requirements on smaller accounts, so much that per-account reserve requirements have been essentially gutted. The mumbo-jumbo by which banks obtain whatever reserve ratio they have is of no consequence in this profoundly corrupt system.
        Originally posted by tacito View Post
        And also: what are the effects of securitation? I can see that the bank that sells the IOU of a loan it made recovers its lending capacity and can lend again. And the investment bank that boughts it invests its lending capacity. So, is it only a transfer of money or are there some "compounding" that creates more money?.
        Here I am a bit fuzzy, but it seems to me that securitization has provided what amounts to a new source of liquidity, which has been used to pyramid various swaps and derivatives and derivatives squared and other tortured complexities, with the end result that a few big money center banks had what amounted to nuclear financial power -- tens or hundreds of trillions of dollars of liquidity with which to colonize and control the other mere mortals, corporations and nations foolish enough to attempt to participate in planet earth's economy.
        Most folks are good; a few aren't.

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        • #49
          Re: Can the Fed stop QE?

          tacito - see also the websites http://www.digitalcoin.info/ and http://www.moneyasdebt.net/ for a good video on this, called Money as Debt II. The video is available youtube at http://www.youtube.com/watch?v=_doYllBk5No .

          Let's see if I can embed the first segment of that video here:



          Wow - cool, it worked. My first embedded video.
          Most folks are good; a few aren't.

          Comment


          • #50
            Re: Can the Fed stop QE?

            Originally posted by ThePythonicCow View Post
            To be honest, I don't know. Eventually I came to the conclusion that I didn't care either. What matters here, in my view, is what reserve ratio a bank has and how safe its reserves are. In particular, so far as bank regulations affect this, it seems that required reserve ratios were complicated and obfuscated enough in the last decade, with things like sweep accounts (banks can move your money overnight to savings accounts requiring lower reserves, invisibly to you, just to gin up lower reserve requirements) and like little or even zero reserve requirements on smaller accounts, so much that per-account reserve requirements have been essentially gutted. The mumbo-jumbo by which banks obtain whatever reserve ratio they have is of no consequence in this profoundly corrupt system.
            You guys may want to check out the following link for some color on the basics:
            http://mises.org/Books/mysteryofbanking.pdf

            Page 94 - fractional reserve banking (isolated from central banking, under a gold standard)
            Page 125 - he then introduces the concept of a central bank/fiat

            Here I am a bit fuzzy, but it seems to me that securitization has provided what amounts to a new source of liquidity, which has been used to pyramid various swaps and derivatives and derivatives squared and other tortured complexities, with the end result that a few big money center banks had what amounted to nuclear financial power -- tens or hundreds of trillions of dollars of liquidity with which to colonize and control the other mere mortals, corporations and nations foolish enough to attempt to participate in planet earth's economy.
            Securitization does several things. However, at the end of the day it's all about increasing “leverage”.

            Simplistically (as it varies by regulatory regimes): Let's assume that a bank funds $100 in loans, so it must have enough capital to support those assets (as well as ensure that its reserve requirements are met).

            Capital is a scarce resource, hmmm, how to maximize its power?

            The bank folks are smart or at least clever… so:

            Let's then assume that the bank securitizes the loans and manages to get an advance rate of 80%. Meaning, investors have funded 80% of the loans (on a senior, non-recourse, basis), and the bank continues to finance the remaining (subordinated) 20%.

            If the investors are willing to finance the 80% at a rate that is less than what the loans yield, then the bank earns the rate of the loans on its 20% plus the differential in rates (difference between loan rate and investor rate) for 80% (that’s the leverage).

            But, why would investors want to earn less than the bank would on the same pool of assets?

            Well, because their notes (representing the 80% interest) are rated AAA (mainly because the 80% they’ve funded now has a 20% equity or first loss piece below it, in essence a discount), and because the notes are marketable/tradable.
            Additionally, aside from the additional yield or excess spread (to the 20%), securitizations offer what some call "structural leverage” -- basically fees. The bank can now charge "fees" on $100 worth of loans, while only funding $20.

            Thus, simplistically, the capital requirements would then be based on the $20 it has funded (because the $80 is funded by investors on a non-recourse basis) but it would be earning revenues (levered returns) on the whole $100.

            … but wait, to complete the picture….
            Capital requirements are based on “risk adjusted” assets -- and two key components are credit risk (measured by a rating) and illiquidity.
            If the bank is an investor in an identical securitization, investing in the 80% that got securitized above, then the bank would be investing in the loans which it would/could have originated anyway. And, it would be willing to invest in the 80% and earn less (assuming like I did above that the investors earn less than the loans yield) because the capital it would have to hold for such assets would be based on a AAA asset (instead of a bunch of individual loans) and it would be considered marketable or tradable (illiquid assets have higher cap reqs).

            This also applies to insurance companies, pensions, and all forms of regulated financial institutions.

            In essence it is capital requirement arbitrage… the cumulative systemic effect is that the growth of systemic debt and the equity supporting such debt grow asymmetrically.

            Derivatives - because youre playing with risk and who holds it - in essence seek to achieve the same goals re: capital.
            Last edited by WildspitzE; August 26, 2009, 08:46 PM.

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            • #51
              Re: Can the Fed stop QE?

              Originally posted by ThePythonicCow View Post
              tacito - see also the websites http://www.digitalcoin.info/ and http://www.moneyasdebt.net/ for a good video on this, called Money as Debt II. The video is available youtube at http://www.youtube.com/watch?v=_doYllBk5No .

              Let's see if I can embed the first segment of that video here:



              Wow - cool, it worked. My first embedded video.
              After watching this video I cannot help but think Uncle Ben Bernanke is smarter than I thought and I want him to monetize as much of the national debt as he possibly can. And, if Congress tries to stop him (Audit the Fed) then we will hit a deflationary bottomless pit ending in war. What is wrong with my thinking?

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              • #52
                Re: Can the Fed stop QE?

                Originally posted by D-Mack View Post
                I think it's the post count, over 500 posts or so, over 1000 is High Comi..
                What bull shit, do U have a freaken brain?
                Last edited by rabot10; September 06, 2009, 05:34 PM.

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                • #53
                  Re: Can the Fed stop QE?

                  Originally posted by rabot10 View Post
                  What bull shit, do U have a freaken brain?
                  I am told that there are more gentle ways to present ones dissent.
                  Most folks are good; a few aren't.

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