A friend on a discussion group I’m part of asked me this morning about the impact of debt repayment on the money supply:
So how does money and debt work in reverse? Has there ever been a deflation model based in real data… You know what you teach about how money is created by banks, what’s it look like in reverse, is money extinguished in deflation like money is created during inflation. If banks can lend money into existence using credit, does it work in reverse and can it be exponential?
That was easy to answer, since I’ve already modelled this extensively in Minsky:
Debt repaid reduces demand and money just as new debt creates both. Bankruptcy does the same via a fall in bank equity. Search for Patreon posts on loanable funds versus endogenous money [this is one of the posts I was thinking of why I wrote this] and you’ll see an instance.
It’s my Keen model on steroids. You could do the double entry in Minsky; I’m thinking off trying myself. Set up a multi bank model (3 should be enough) with rent from capitalists and landlords to banks, then halve the cash flow of both and see what happens. Halve output per worker as well.
The “Keen model” I referred to, as it’s now known in the literature, is my 1995 model of Minsky’s Financial Instability Hypothesis, where a series of credit-financed booms & busts leads to a final bust where debt repayment overwhelms the economy & causes a total economic collapse (click here for an accessible PDF). That is too complicated for what I want to examine here, but the alternative model in Minsky is looking pretty complicated as well. Here’s a first pass, with four banks—one each for firms, capitalists, landlords and workers—plus a Central Bank and a Treasury
What I’m planning on doing is setting up the financial flows so that the model-economy hums along OK, though with a high level of private debt (mimicking current US data, which for those who haven’t seen it before, is reproduced below:
Then I’ll introduce a “Coronavirus shock” that causes both output and employment to collapse, and see what happens to the solvency of the social classes in the model, as well as to the banks themselves.
Finally, I’ll bring in a “Modern Debt Jubilee“—both in a timely fashion, as soon as the Coronavirus shock hits, and belatedly.
The motivation of course is that policy ideas that I always thought had less than a snowflake’s chance in Hell of being implemented are now not merely being discussed but are, to some extent, being trialled in many parts of the world. This is not because the politicians and policy advisors who are doing this have read my posts of course: it’s simply that when something as serious as the Coronavirus strikes, the conventional wisdoms (of Neoclassical economics!) get thrown out the window as people panic, and find that what they used to say was either impossible or stupid is now both possible and sensible.
I’d be very pleased if other people here who are skilled at modelling in Minsky have a crack at this as well, either by editing the model I’ve attached here, or by working on their own. Global leaders are really flying blind right now, and maybe one of them will take a look at the work we do here.