Tito's Blog

The Value Of Money

Through my fabulous finance/economics news finder, I found this interesting piece on the value of money and the balance sheet of a central bank:

A Ponzi scheme is a financial institution with liabilities and no assets backing those liabilities. Paper money can operate just like a Ponzi scheme, but with one important difference. Mr Ponzi promised his clients high rates of interest and/or capital gains. They would not have held his liabilities unless they believed him. The Bank of Canada promises zero interest, zero nominal capital gains, and a minus 2% real rate of interest on people who hold its paper money. Mr Ponzi could not deliver on his promise, even if he hadn’t spent the assets. The Bank of Canada can deliver on its promise, even if it gave away all its assets, provided the (real) demand for its paper money does not fall over time more quickly than 2% per year. (If the real demand for money were falling at 2% per year, a constant nominal supply of money would yield 2% annual inflation).

I had never thought about money, in the currency sense, that way.

Accountants like double-entry bookkeeping and balance sheets and stuff so they can keep track of things. They like to record assets on one side, and liabilities on the other side, to make sure that everything adds up, to check that everything’s been properly recorded. So they like to list currency as a liability of central banks (even though it isn’t, because there’s no promise to redeem it, or pay interest on it), and assets on the other side. An accountant would freak out if he recorded currency as a liability and couldn’t find an equivalent value of assets. He would say that the central bank is a Ponzi scheme. Which of course it is. And it’s just not worth the hassle of trying to explain to accountants that some Ponzi schemes are sustainable, really.

How Much Is A Trillion Dollar?

Yesterday the Fed announced that they are going to print an additional $1.15 trillion, divided up as follows:

• $750 billion to purchase agency mortgage-backed securities
• $100 billion to purchase agency debt
• $300 billion to purchase longer-term Treasury securities

To put that amount of paper dollars in perspective, $1.15 trillion is roughly equal to:

• the yearly GDP of Mexico or Australia
• the amount of US treasuries held by China
• the external debt of about 150 countries in the world

Furthermore, compared to other world figures, $1.15 trillion would be equal to:

• 8.3% of nominal US GDP
• 10.4% of total US public debt
• 32% of non-G8 (or 194 countries) total external debt
• ~50% of the Italian total public debt (which stands at 105.8% of GDP)
• 12 times the sovereign external debt Argentina defaulted on in 2002
• 29 times the debt cancellation owed by Third-World countries to the World Bank in 2005

Sources:
Rank Order by External Debt, The CIA World Factbook
Third World Debt, Wikipedia
Finanza pubblica, fabbisogno e debito (pdf), Central Bank of Italy
List of countries of GDP, Wikipedia
China’s Leader Says He Is ‘Worried’ Over U.S. Treasuries, New York Times