The idea that inflation would be caused by monetary emission is so widespread that it practically does not deserve discussion in any verification. In this approach, the attempt to “live on top of one’s own means” would lead to excessive (public) spending. The expansion of the deficit would require greater assistance from the Central Bank. But the growing repudiation of the money (due to inflation) leads the Government to pay increasing fees, leading to the monetary liabilities of the BCRA and the public debt of the Treasury to an untenable trayectory.
The idea of this note is not to deny that the Argentine economy has serious problems of debt, dollarization and inflation, but to suggest an alternative conceptual framework that allows a more realistic understanding of the causes of these problems online with some advances recorded in the practice of economic policies.
Most of the modern money in current societies takes the form of bank deposits, but the frequency of origin of these deposits is confusing. As the analysts of the Bank of England observe, the several studies of the BIS (Bank for International Settlements), considered the “central bank of central banks”, there is an erroneous idea according to which the banks act as mere intermediaries, providing the deposits of horrors. Therefore, the deposits are created by the decision to cancel the families and place the banks to provide deposits to borrowers.
In fact, when families save more money in their bank accounts, it is assumed that they chose not to consume part of their income. So, this ahorro that goes to a deposit is carried out on the coast of the deposits that otherwise would have gone to the companies in payment of bienes y servicios. Therefore, it is clear that the reduction in itself does not increase the volume of deposits or the “available funds” that banks can provide.
The main problem with this conception is that, in considering banks as mere intermediaries, it ignores the fundamental fact that private commercial banks are money creators. In spite of what we suggest manuals, in practice the act of providing creates deposits. This money creation takes place through simple changes in bank balances. A bank creates a deposit in the same moment when it grants a credit. In such a way that the first bank grants credit (opens a deposit in favor of the debtor) and adjusts the level of bank reserves.
From this aspect derives another very common misconception: that the Central Bank determines the amount of loans and deposits by controlling the amount of money it issues (monetary basis), the approach of the “monetary multiplier”. But this theory is not a good description of reality. Instead of controlling the amount of reserves, central banks carry out monetary policy by setting the price of reserves (the interest rate). In practice, it is not the increase in the issuance of a monetary base that generates an increase in bank reserves and through the multiplier it generates credits, but when increasing credits the banks adjust their level of reserves, as the prestigious specialist Chales explains. Goodhart. The creation of money is led by the solvent demand for credit and determined by decisions of the banks, because – crucial aspect – the banks are not obliged to provide. They also adjust the level of reserves and thus partially determine their own monetary base.
Money and prices. This changes things a lot, in particular the way of considering the relationship between money and inflation. In the wide space, no one theory denies that the amount of money and the price level change in the same direction. The point in truth is the causality relationships: does the money cause the prices or is it reversed? The Nobel Prize in Economics James Tobin explained that the high correlation between prices and money could lead to the risk of incurring a false causality, consistent in assuming that, if an event happens after another, the second is the consequence of the first. For example: prices increase because the amount of money increases. The reason could dangerously resemble this: as the gallo always sings before the sun comes out, then the gallo song “causes” the sun to come out.
In line with the practice of central banks, in recent years a new perspective has progressive acceptance among mainstream economists. The idea is that money in the current world is an endogenous phenomenon. What does this mean? It means that central banks use nominal interest rates as a policy instrument, while monetary aggregates play a purely passive role. As the former president of the Bank of Canada, Charles Bouey, put it clearly in 1999: “We did not abandon the monetary aggregates, they abandoned us”. So, the amount of money would not be at the beginning of the causal chain of inflation, at the end.
Inflation and deficit. The fiscal deficit appears in the public debate in Argentina as a “chronic illness” as a result of an inclination towards populism and would be the cause of high inflation, poverty and stagnation. Basically, it would be the result of bad decisions by those responsible for public policies.
However, if one inquired about the fiscal evolution of other countries, one could find a disconcerting result. What happens if we observe the evolution of fiscal deficits in “normal” times? The surprising point is that, in “normal” times, the permanent fiscal deficit is the norm all over the world for a long time. A survey by economist Fernando García Díaz, based on data from the IMF fiscal monitor, revealed that the proportion of countries with a fiscal deficit varies with the global economic cycle, but is always higher than 50%. In the last few years it was around 80%. In 2020, obviously, practically all the States of the planet will be in deficit. And the mitad of the total takes less than ten years with deficit. Finally, surpluses last very little.
The fiscal deficit seems to be the norm of the modern State, not an Argentine rarity. Will it be a disease? The counterpart of the public deficit is a “surplus” of the private sector, and the government puts one hand (expenditure) more than what it takes away from the other (taxes). A permanent fiscal surplus would imply increasing debt in the private sector and clearly public debt is much more sustainable than private debt.
In fact, when comparing the layout of the fiscal deficit in Argentina with other countries in the region, there are very significant differences. In particular, no one differentiates can reasonably explain the huge differences in terms of high propensity for depreciation and why high inflation. From then on, in the 2000s, Argentina was the country that most devalued its currency in nominal terms in Latin America according to ECLAC (see graph). And second to BIS, it took the first place on the world podium.
Obviously, they are doesn’t mean that the Government could spend as much as it reads antoje. Countries that do not issue international reserve currency (such as the US dollar) may see their growth limited for –among other reasons– the shortage of foreign exchange, as is happening today in Argentina. The statement simply means that you have to be very careful with the idea that this situation (shortage of reserves, high inflation, exchange rate pressure) is being caused by the fiscal deficit or by the “excess” of monetary expansion. It should not be forgotten that Argentina recently carried out a crucial experiment, practically reducing the fiscal deficit to zero and cutting the monetary base issuance. And the attempt failed miserably. It’s time to start reviewing the analytical foundations of economic policy in favor of a less fundamentalist and more pragmatic approach to approaching a problem that has turned out to be more complex than previously thought.
*Economist at the Universidad Metropolitana for Education and Work. Degree in Economics (UBA) and doctorate by the Federal University of Rio de Janeiro.
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