#3 -Money Makes The World Go Round
On Modern Monetary Theory, Quantitative Easing, Resulting, Building Wealth, Bitcoin and Modern Slavery
Hello,
Greetings from The Curious Cat.
We are back with another interesting edition for you.
Just one quick thing. If you’re here because someone shared this newsletter with you or you clicked a link somewhere, Welcome!
Subscribe by clicking the link below and we will send The Curious Cat to you every Saturday morning directly to your inbox
Very few things in life are free like this newsletter. The currency of this newsletter is your time and attention. But in economics, there is no free lunch.
Over the last few days, there have been discussions on magic money printed by central banks as a stimulus to support the economy.
But is there something like magic money? How can there be free lunch?
This week, we try to explore this question.
In this week’s edition, we explore -
Types Of Money
Quantitative Easing (QE), Modern Monetary Theory (MMT), and Inflation/Deflation: A Primer
Modern Monetary Theory (MMT) and Indian economy
Ways To Build Wealth
Modern Slavery - A Tesco case study
Money is a medium of exchange which is accepted as payment universally and is used to purchase goods and services. It is accepted because others can also use it for the same purpose. For money to work, everyone must believe that if they accept money from you in return for handing over their good or service, then they will be able to use the money to buy something else in turn. Money requires trust to function and this trust is provided by governments and banks.
Let us dive in and understand few fundamental aspects of money.
4 Types Of Money
The four most relevant types of money are commodity money, fiat money, fiduciary money, and commercial bank money.
Commodity money relies on intrinsically valuable commodities that act as a medium of exchange (e.g: gold coins)
Fiat money gets its value from a government order. The government declares fiat money to be legal tender, which requires all people and firms within the country to accept it as a means of payment (e.g: coins)
Fiduciary money depends for its value on the confidence that it will be generally accepted as a medium of exchange (e.g: cheques)
Commercial bank money can be described as claims against financial institutions that can be used to purchase goods or services.
Read here.
Quantitative Easing, Modern Monetary Theory and Inflation/Deflation: A Primer
After the pandemic, many governments have gone on a spending spree by introducing a wide range of reforms in their economy. There are various tools used by central banks to borrow money and every instrument has macroeconomic effects, predominantly inflation. Tools and policies like quantitative easing (QE), Modern Monetary Theory, and inflation have a strong linkage.
Most countries use debt as a permanent source of additional financing, and thus their debt as a percentage of GDP keeps growing over. In other words, they never pay down debt, but rather keep rolling it into a larger and larger base of borrowing. The four modes of government borrowing are:
Domestic Government Borrowing - In this mode, the government issues bonds, borrows money from the public via bonds, the money is extracted from someplace within the domestic economy, and redeployed elsewhere in the economy. Money itself is neither created nor destroyed in this model of government borrowing; just moved around within the economy.
International Government Borrowing - A government can extend their reach by borrowing from international lenders. This lets them spend money on the domestic economy without first extracting it from the domestic economy. Money is neither created nor destroyed in this model, although it is brought from external economies into the domestic economy.
Quantitative Easing - Quantitative easing is a tool that central banks use to inject money directly into the economy. The central bank creates new digital dollars (or the currency of your country) and sends them to the government. The government sends the central bank a Treasury security, indicating that they “borrowed” these new digital dollars from the central bank.
Modern Monetary Theory (MMT) - This policy believes that as we exist in a fiat currency system, the government prints money and writes whatever numbers it wants on the paper; it doesn’t even need to borrow it from the economy (or even from the Central Bank) before it spends it, as it would have to do in something like a gold-based currency system. In a pure MMT economic model, the government doesn’t even need to tax or borrow to spend. It can just create and spend money first, and then take some taxes back out to keep the money supply from growing too quickly, because taxes create a demand for that money.
The MMT approach points out that usually, the economy is not operating at its maximum capacity, and in recessions it operates even further away from its maximum capacity. It suggests that whenever the country is not operating near full capacity (full employment and high utilization of existing resources), then the government can go ahead and print money to spend on those areas.
The main concern about MMT is it pushes the system closer to the inflationary boundary, which does have advantages, but inflation tends to operate with a lag and can be hard to correct once it starts.
It is a pretty lengthy read which also covers inflation in part 2 of the article. Interested readers may read the article here.
Now that we have a basic idea of MMT, there are 2 questions that arise:
How is the debt incurred by countries by borrowing from its own future paid ?
Can India benefit from MMT in this situation ?
Read on to figure out the answers.
Who Pays For This?
Governments are running huge deficits by borrowing huge debt from their future to fund stimulus packages. The question then is, how do we pay off the debt?
Morgan Housel writes that we never pay it off. He writes that historically, World War II debt was never repaid at the aggregate level. Old bonds were repaid with new bonds but debt kept rising. It was paid off in the sense that the economy grew faster than accumulation of new debt. Hence, government debt is never paid off but you grow your way out of it.
This is not intuitive because it does not apply to people as people have finite lifespans unlike countries who can remain indebted indefinitely even with rising debt. What matters for countries is not the amount of debt, but how burdensome that debt is to maintain over time.
Read the article here.
Can Modern Monetary Theory Rescue The Indian Economy?
Prof Ananth Narayan explains that a key policy goal of MMT is full employment and it calls for government spending on job creation without worrying about persistent fiscal deficits. Prof Narayan argues that there is no free lunch even under MMT as the increased government spending has to be matched by a real increase in domestic output and jobs unless an unlikely large global demand for the rupee emerges in the world. For India to enhance domestic output growth and fuel job creation, he recommends four points:
Reforms in the financial sector ecosystem
Reforms and repair in chronically stressed sectors like power, telecom, real estate, airline, and shipping
Real on-the-ground improvement in the ease of doing business by reforms in factors of production like land, labour and capital
Good quality education, healthcare and nutrition because they offer the best opportunities for future generations in the country.
Read the entire article here
The Ladders Of Wealth Creation
Nathan Barry writes that there are four series of ladders, side by side, like a progression where one can climb to different heights in quality of business and potential earnings.
The first ladder is trading time for money where you need skills of showing up consistently, being reliable and learning new things on the job
The second ladder is running your own service business where you need new skills like finding clients, creating proposals, pricing services, hiring employees, etc.
The third ladder is scaling service to a new level of productized service where you take a set offering and bundle it up with a fixed price (recurring services to clients bundled together) where you need skills like standardizing systems to ensure quality of service, writing a sales copy and converting sales without any customer interaction
The fourth ladder is selling products at a large scale which requires customer support, supply chain and ancillary product support services.
In order to navigate through these ladders, Nathan articulates the below eight points to grow your wealth and income over a period of time:
Extra time and money need to be reinvested
You can skip ahead, but you still have to learn the lessons from each step
Apply your existing skills in a new way to build wealth
There’s a difference between working for a better wage and truly building wealth
Use an earlier rung on the ladder to fund the next one
Moving between ladders often means a decrease in income
Each step is easier with an audience
It takes longer than you think, but the results can be incredible
Read the entire article here
Time To Unchain! - Modern Slavery Statement By Tesco
As the COVID crisis introduces concepts like digital workspaces, WFH, some unfair practices are still visible across large businesses. ‘Modern slavery’ has silently existed in many large global firms. Before we point fingers at China or Asia, it’s firms like Tesco, Nike and Apple that we need to examine closely.
Tesco, one of the world’s leading multinational retailer with over 400,000 employees serving 80 million customers annually, has taken some unprecedented steps. Since 2017, TESCO has conducted human rights audits with its suppliers and growers to prevent modern slavery and human trafficking in its operations. The audit extended to monitoring of agency workers in their supply chain operations, security and cleaning staff within stores, car parking workers as well as workers involved in construction of their stores.
This study pointed out signs of modern slavery like excessive overtime, unreasonable wage reductions, recruitment fee, passport retention of migrants and debt lock. Some extreme cases included engagement of trafficked migrants and forced prison labour. TESCO eventually exited 42 suppliers and suspended 89 sites on ethical grounds. It also opted for full remediation including repayment of recruitment fees for all workers.
Their modern slavery report is a good case study for all HR professionals and business leaders trying to build strong sustainable communities linked to their organization. Such reports might become mandatory ESG disclosures in annual reports for all public listed global businesses in the future.
Read the complete report here
It would be interesting to see what Indian companies reveal in their reports.
Mental Model For The Week - Resulting
This model is derived from poker. It represents a tendency to equate the quality of a decision with the quality of its outcome. Resulting leads us to believe that if we have a successful outcome, we have made a good decision. However, if we have an unsuccessful outcome, it was a bad decision. In reality, we can experience a good outcome based on a poor decision or we can experience a bad outcome even though we made a good decision.
Humans tend to underestimate how much luck plays into our lives. In the context of poker, you may have made the best decision possible at every point of time but still lose the hand, because you don’t know what new cards will be dealt and revealed. Valuable information remains hidden with an element of luck in every outcome.
Book Recommendation For The Week - Capitalism Without Capital by Jonathan Haskel
This book explores the changing trend in the type of investment observed in almost all developed countries over the past forty years. Haskel argues that much investment in the economy is intangible in knowledge related products like software, R&D, design, artistic originals, market research, training, and new business processes.
It makes a case for defining intangible investment, the challenges in arriving at valuing intangible investment, its unique characteristics, problems in the world due to this shift, overcoming these problems through practical solutions, and providing a path for policymakers and institutions to thrive in a global economy characterized by intangible capital.
You may view a brief summary here.
You can purchase the book here.
Podcast Recommendation For The Week - Andreas Antonopoulos on Why We Need Bitcoin
As a majority portion of today’s edition was on money, we decided to recommend a podcast that is based on the future of money - the internet money. Andreas argues that the financial system is antiquated and is used by centralized governments to increase their power and surveillance over people. This is contrary to the fundamental purpose of money which is to facilitate commerce.
The 21st century needs a 21st century system of internet money that is open, border-less, neutral, censorship-resistant, immutable and permission-less, that serves the needs of commerce for every person on this planet no matter where they are, who they are, anytime anywhere.
The answer to this currency is Bitcoin.
You can access the white paper on Bitcoin written by Satoshi Nakamoto here
You can view a summary of the show here and listen to the entire podcast episode here.
Afterthought
Money is more open-minded than language, state laws, cultural codes, religious beliefs, and social habits. Money is the only trust system created by humans that can bridge almost any cultural gap, and that does not discriminate on the basis of religion, gender, race, age or sexual orientation. Thanks to money, even people who don’t know each other and don’t trust each other can nevertheless cooperate effectively.
- Yuval Noah Harari (Sapiens)
We would like you to leave you with a few thoughts - How far are we from making cryptrocurrency mainstream? If cryptocurrency becomes mainstream, how do you think governments and central banks function? Will MMT be relevant? How will banking emerge? If we live in a world of intangible capital, what methods will we use to measure it ? Will those methods be more compatible with a cryptocurrency based system ?
That wraps up this week’s edition of The Curious Cat.
If you found this newsletter useful and worth your time, do share it with your friends.
We are eager to hear from our readers. Please reach out to us by sharing your feedback as a reply to this email. You can also DM @_vighneshnayak on Twitter your suggestions to improve this newsletter.
Take care, stay safe and have a nice weekend. We shall see you next Saturday.
Regards,
Team Curious Cat