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Monetary Inflation Through Frb Vs Government Printing

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It is taken as common knowledge that the government "printing" money causes monetary inflation, as it dilutes the existing money in in the economy.

It is also acknowledged that banks creating credit feed temporary monetary inflation, especially if the credit is too easy to obtain. The temporary being that paying off this credit, or defaulting, causes monetary deflation. The result should mean over a long period of time, the credit fuel monetary inflation caused by borrowing should balance out.

All seems well, but if we don't allow the banks to default, are we not just monetising the debt? Even if the banks are buying government debt, rather than outright government printing, there seems to be a problem. If when the money arrives back in the banks, as a bail out, this money can be used as leverage for more lending. So, unless the capital reserves are increased to compensate for this new money, aren't we just storing up massive monetary inflation for later on?

Surely, the only way we can get the system to return to equilibrium is to allow the loans to default or be repaid and let the banks fail if need be. This will suck out the monetary inflation caused by easy credit (which fuelled property hyperinflation) and return the amount of money + credit in the system to "normal".

If we don't allow the system to return to normal and instead put a floor under the hyperinflated property prices are we not doomed to have stagflation for decades until none-property goods increases to the same level (at a few percent above zero, it would take ages). Alternatively, we will have to have hyperinflation to allow other goods to "catch up" with hyperinflated property prices.

So, the simple question is - assuming the government printing + bailing is to stop the deflation caused by defaulting debt, then aren't they simply causing monetary inflation? If this is the case, why do we even bother with fractional reserve banking if the government is just going to monetise the losses anyway?

(and here come the ideas - hopefully not too utopian!)

If this is the system that we are now to live with, I say that we should find an alternative to FRB. Why not just let the government (or a BoE like agency) control the money supply and take it back via taxes (much like money as debt 2 suggests)? There could be strict rules to try to keep inflation to around zero, by manipulating taxation. It would cut out all the middle men, the interest payments and allow more straightforward control of inflation. It would even be easier to stimulate during recession (tax cuts) and retard during boom times (tax increases). Over a period of time, money creation would have to equal tax taken - equilibrium could be achieved.

With such a system like the above, FRB could have the capital reserve ratio increased until full reserve banking is achieved and FRB could be banned in the UK. As there would be no government gilts needed, we could stop people borrowing from other countries (let's call it fraudulently obtained money ;) ). Lending would then be much tighter, as banking would have less money to play with, reducing the size of boom/bust economic cycles. Perhaps local community stock exchanges could be established to allow the community to invest in the well being of local business too.

How about housing/mortgages? I would suggest having a government housing allowance, allotted to every adult. This would be interest free and would be a defined multiple based on wage (say 2-3x an individual). This money could not be mewed or withdrawn from the property, so essentially this interest free "allowance" is locked into the property. To reach this point, the government could buy the mortgage books from the banks (particularly the ones allowed to fail) - if done at the appropriate time, it would only be a small (!) multiple of the current money used for bailouts (about a trillion for all mortgage debt, I believe - not an order of magnitude bigger than money pushed into banks already).

Any MBS or such BS could be outlawed. All money lent would have to come from savings at realistic interest rates, to compensate savers. As the housing allowance would be interest free and capped, no one would profit unfairly, the money would be repaid and people would have more money to spend on other things.

A citizens income could also be established. This could essentially "feed" money into the economy, to those outside of the scope of the civil service. Again, taxation could be used to syphon excess money out again, to prevent monetary inflation. However, this would have the effect of being able to control and share the distribution of the country's wealth in a fair and equal way. How much should be fed/syphoned would be a political issue and it would depend on how socialist/capitalist the government wished to be.

Ok, feel free to shoot this down as it's all a bit of a fantasy, but it is something I have been thinking about for a while and was recently compelled to put the points out there. If for nothing else, it creates a bit of debate on alternatives to the current system, then it would have been worth posting. I hope it doesn't come across too utopian and I wonder where the flaws are in the above (both my understanding of what we have now and the solution).

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