The Ripple Effect
1694–2009: Finishing The Past
By Lowell Manning
The Ripple Starts Here
1694–2009: Finishing The Past
Hi, I’m Lowell Manning
Please join me in this short trip inside our debt-based financial system
• Keynesianism and Monetarism have both failed because neither
of them takes account of the mechanics of the debt system itself
• This work proposes to replace them with an economic debt model
that takes into account the mechanics of interest-bearing debt
Fisher’s Equation of Exchange
Irving Fisher proposed his equation of exchange in 1911:
MV = PQ
M
V
P
Q
=
=
=
=
money supply
speed of circulation of the money M
price level
quantity of goods and services produced
In Fisher’s day the terms were hard to quantify – that didn’t get any
easier until now
V is essentially a hoarding function
The Visual Challenge
Consumer Price Index: England 1300–2000
CPI
50,000
45,000
40,000
35,000
30,000
25,000
20,000
Fisher Equation
1911 MV=PQ
15,000
10,000
5,000
0
Base year 1300 = 100
1300 1350 1400 1450 1500 1550 1600 1650 1700 1750 1800 1850 1900 1950 2000
Year
Are we to blame M or V?
Bank of England 1694
Perpetual Interest-Bearing Debt
Perpetual debt is
unproductive and
permanent
Unearned
interest income
Unearned Interest
The unearned interest must itself be borrowed, otherwise prices P must
keep falling:
Ms = unearned interest income
Mp = productive money supply
Vp = circulation speed of
productive debt
M = Mp + Ms
MpVp = PQ = (M-Ms)* Vp
Ms applies to all unproductive unearned
income interest on deposits
Debt-Based Economies
For practical purposes, in modern developed economies all money now arises
from bank debt, so:
In a modern debt-based economy $1 debt = $1 deposit
Let: Mv
Ddc
Dca
R
M(d)
Q(d)
Mp
=
=
=
=
=
=
=
debt borrowed for purely speculative purposes
domestic credit
the accumulated current account deficit
Reserve Bank capital reserve
total debt = (Ddc + Dca - R)
production created by the total debt M(d)
PQ(d) = productive debt
then
M(d) = (Ddc+Dca-R)= PQ(d)/Vp + (Ms+Mv)
Vp = 1 because debt can only be used once
The Debt Model
Debt Model: New Zealand 1978–2009*
500
Debt
NZ$ billion
Nominal GDP (PQ(d))
450
Md
400
Growth
350
Ms+Mv+Inflation
on PQ(d)
300
Ms+Mv
Ms
250
Inflation
200
150
100
Ms
50
Mv
0
1978
1981
1984
1987
1990
1993
Year
* Growth and inflation exclude changes arising from cash transactions
1996
1999
2002
2005
2008
Debt Management
Further reducing the new debt model using differential calculus we can say:
Over any short time span dt when deposit rates are not zero…
dGDP/dt = dM(d)/dt – (dMs/dt + dMv/dt)
… and when deposit rates are zero
dGDP/dt = dM(d)/dt – dMv/dt
Therefore in a cash-free, debt-based economy with zero deposit rates:
The increase in GDP equals the increase in total debt M(d),
less any changes in direct speculative investment Mv
Debt Management
The economy is indeed about debt
management as Irving Fisher surmised
a hundred years ago!
Speculative Bubbles
Business Cycle Bubbles as % GDP: New Zealand 1978-2009
30
MV as
% GDP
(March year)
Deposit interest rate peak >14%
Wage & price freeze
25
NZ$ floated 3/85
20
Asia ‘crisis’
Deposit interest low <5%
15
10
Deposit interest low
5
‘Roger’s hole’
Dotcom
Property
0
-5
1978
1981
1984
1987
1990
1993
1996
1999
2002
2005
Year
Perhaps for the first time ever, the new debt model quantifies the
speculative bubbles inherent in traditional business cycles
2008
Fisher Differential Equation
Debt Model Differential Form: New Zealand 1979–2009
45
Annual change
40
in variable
NZ$ billion
35
Business Cycle 1
Business Cycle 3
dMd/dt
Sharemarket crash
from Oct ‘87
30
25
Business Cycle 2
Wage/price freeze
June 82-Sep ‘84
d/dt
(Ms+Mv+inflation)
dMs/dt
d/dt(Ms+Mv)
Bubble forming
Recession
period
Asia/dotcom
crashes 98-02
20
15
10
Growth
5
0
Inflation
-5
1979
1982
1985
Richardson budgets
1988
1991
1994
1997
2000
Bubble dissipating
2003
2006
2009
Year
Using differential calculus the debt model can be expressed as:
dM(d)/dt = d/dt(Ddc+Dca–R) = d/dt[PQ(d) + (Ms+Mv)]
Vp = 1
The New Debt Model
The new debt model reveals a raft of new economic concepts:
a) System liquidity (circulating debt)
b) Systemic inflation (inflation caused by interest rates)
c) Growth and trade (impact of current account)
d) The nature of (earned) savings
e) Sample application: why Japan stagnated for so long
System Liquidity (Circulating Debt)
Circulating Debt Mcd: New Zealand 1978–2009
Mcd = (Mp–Dca) = Ddc – (Ms+Mv) – R
50
Mcd
NZ$ billion
45
y = 1.24x + 2.4
40
Linear
(Circulating
Mcd NZ$ bi
Earned savings decreasing
35
30
Circulating
Mcd NZ$ bi
25
20
Earned savings increasing
15
10
5
0
1978
1981
1984
1987
1990
1993
Year
1996
1999
2002
2005
2008
Systemic Inflation
Model Systemic Inflation vs. CPI Inflation: New Zealand 1989–2009
Systemic inflation = inflation caused by interest rates
Systemic inflation is the rate of change of dMs/dt, the speed at which the increase in the pool of unearned
income Ms changes
8
Inflation
% GDP
7
6
5
4
SNA (CPI) inflation
% GDP
3
2
1
Systemic inflation
% GDP
0
-1
-2
1989
1991
1993
1995
1997
1999
2001
2003
2005
Year
Total inflation = systemic inflation + ‘PQ’ inflation + non-systemic price changes
Systemic inflation rises when interest rates rise
2007
2009
Growth & Trade (Impact of Current Account)
Increase in GDP vs. Increase in Accumulated Current Account:
New Zealand 1988–2009
Mcd = (Mp–Dca) = Ddc – (Ms+Mv) – R
GDP/Dca
NZ$ billion
250
Accumulated current
account deficit
+ NZ$45 billion
200
GDP NZ$ billion
R2 = 0.977
150
100
50
0
1988
1990
1992
1994
1996
1998
2000
2002
2004
2006
2008
Year
All nominal GDP has
been borrowed
Accumulated Current
Account deficit Dca
$100 billion higher
Domestic Credit Ddc
$100 billion lower
System liquidity Mcd
and domestic wealth
$100 billion lower
The Nature of Earned Savings
Original Fisher equation
MV=PQ
Mcd is the modern debt
equivalent of money M in
the Fisher equation…
…and its speed of circulation Vcd
is broadly comparable to V in the
original Fisher equation.
The Nature of Earned Savings
Speed of Circulation Vcd of Circulating Debt Mcd:
New Zealand 1979–2009
7
Speed of
circulating
debt (Vcd)
6
Speed of
circulation of
circulating debt
(Vcd)
5
4
Linear
3
2
1
0
1979
1982
1985
1988
1991
1994
1997
2000
2003
2006
2009
Year
The accumulated current account deficit Dca is the underlying source of New Zealand’s lack of
savings and new investment
The sharp upturn in Vcd shows system liquidity has fallen dangerously low by comparison with the
long-term trend
Why Japan Stagnated for So Long
Current Account Deficit: Japan 2004–2008
2004
Current account deficit (US$b)
2005
2006
2007
2008
Total
-172
-166
-170
-213
-193
2.7
1.9
2.4
2.1
1.4
0
-0.3
0.3
0
0.6
Growth (%)
2.7
2.2
2.1
2.1
0.8
Nominal GDP change (US$b)
114
100
96
92
35
Nominal GDP change (%)
CPI (%)
In the revised Fisher equation: dMd/dt = d/dt (Ddc+Dca-R) = d/dt[PQ(d)/Vp + (Ms+Mv)]
Take:
dMv/dt
dMs/dt
dR/dt
Vp
=
=
=
=
0 (no bubbles since 1990)
0 (deposit rates practically zero)
0 (R small compared to Ddc and Dca)
1
The equation reduces to: dPQ(d)/dt [Japan] = d/dt(Ddc+Dca) [Japan]
-914
437
Why Japan Stagnated for So Long
Current Account Deficit: Japan 2004–2008
Dca (the deficit) is negative to the tune of US$-914b
Therefore to maintain dPQ/dt, dDdc/dt must increase by US$914b
The Japanese government has had to pump
US$1 trillion
into the Japanese economy to keep it afloat
Back to Fisher
A general economic model aligned to the original Fisher equation
of exchange is:
PQ = (Md – (Ms+Mv))Vp + MoVo +EoVeo
Where: PQ, Md, Ms, Vp, Mv, and Vp are as already described
And:
Mo = circulating currency contributing to output
Vo = speed of circulation of Mo
Eo = circulating electronic debt-free currency
Veo = speed of circulation of Eo (and must be equal to Vcd)
Fisher Revised – The New Debt Model
This presentation has
revised the Fisher
equation MV=PQ to
develop a new debt
model…
In the current financial
system based wholly
on debt…
M(d) = (Ddc+Dca-R) = PQ(d)/Vp + (Ms+Mv)
In which Vp = 1
GDP = PQ(d) = M(d) – (Ms+Mv)
Ms results solely from interest rates (on deposits)
Mv results solely from loose bank lending for speculation
Fisher Revised – The New Debt Model
Bank profit is predominantly a function of M(d)
Recent world events show how derivatives have been
developed and used to irresponsibly increase M(d)
to create extra bank profit
Fisher Revised – The New Debt Model
The debt model shows that management of both the quantity of debt and interest
rates are crucial for financial stability, and that:
• The quantity M(d) must be increased in line with the productive capacity and
resources of the economy for maximum production and very low or zero inflation
• Interest rates on deposits need to be zero or close to zero to avoid creating
investment inflation that is out of line with the productive economy
• The present system based on interest-bearing bank debt produces a
fundamental conflict between the interests of the financial sector and those of
the productive economy
The Ripple Effect
1694–2009: Finishing The Past
By Lowell Manning
19B Epiha Street,
Paraparaumu, New Zealand.
manning@kapiti.co.nz