Heterodox/Mainstream Views On Banking

David Andolfatto late published "Reconciling Orthodox in addition to Heterodox Views on
Money in addition to Banking," which discusses the theoretical split betwixt recent mainstream thinking in addition to heterodox views on banking. From my perspective, he is addressing heterodox critiques of mainstream thinking that I am non peculiarly interested in; inwards fact, based on his criteria, I would travel closer to "mainstream" than "heterodox" -- equally would peradventure travel Hyman Minsky. I would thought the work amongst mainstream modelling equally resulting from a blind spot regarding the work organisation sector.

(Update: David Andolfatto reasonably asked: what is his model is missing nearly the work organisation sector? My response hither is solely sketched qualitatively, in addition to based on a conjecture; I believe I would demand to rebuild a similar model to essay out my point. I promise to exercise that inwards the future...)

"Heterodox" versus "Mainstream"

In the introduction, Andolfatto summarises the "mainstream" thought equally follows:

Let me review briefly, to the best of my ability, the cardinal elements of 2 broad schools of idea on the matter. The mainstream thought is that modeling the operational details of banking -- the financing of assets amongst deposit liabilities -- tin travel safely ignored for questions related to the work organisation cycle. According to this view, the grade of liquidity associated amongst liabilities issued yesteryear the soul sector lies on a continuum, thence it makes fiddling feel to depict a abrupt distinction betwixt which of these liabilities found "money" in addition to which exercise non (Tobin, 1963). 

Conversely, the heterodox thought is summarised as:

The heterodox thought is that banks are critically dissimilar from other fiscal marketplace participants. In particular, spell non-bank agencies wanting to investments commencement demand to larn the requisite funding, this is non the instance for banks. In contrast to the non-bank sector, banks tin create the coin they lend. Consolidating the banking sector amongst other actors inwards a marketplace for loanable funds stems from the misguided notion that banks lend out reserves that they must commencement acquire. Banks exercise non inwards fact lend reserves -- they lend their deposit liabilities (which are incidentally made redeemable for cash). While banks brand usage of reserves for small town purposes, reserves exercise non constrain banking company lending (Fullwiler, 2012).

As long equally nosotros exercise non become into theoretical paroxysms nearly the term "loanable funds," the theoretical propositions labelled equally "mainstream" seem to a greater extent than plausible to me. All fiscal intermediaries emit liabilities that tin travel treated equally "cash" yesteryear investors, in addition to thence the residuum canvas operations goal upwards looking similar to how the formal banking organisation operates. I did non brand it at this thought yesteryear beingness indoctrinated inwards mainstream economic science courses -- I got it from reading Hyman Minsky, who is unremarkably viewed equally "heterodox."

The work hither is i that is familiar to anyone who has interacted amongst economists: they tend to non grip amongst each other equally shortly equally you lot larn to a greater extent than than i inwards a room. In this case, banking seems to travel a pop expanse for discontent.

• People who are mad nearly banks for political reasons.
• Heterodox modellers mad nearly "mainstream" economic science for a diversity of reasons, in addition to who convey heterodox models amongst explicit banking sector models somewhat literally.

This article is aiming at heterodox critiques that I exercise non grip with. For example, his policy take-away is pretty much my view:

But fifty-fifty if i accepts the heterodox proposition, it's non clear what the implications are for monetary policy. If fiscal stability is a concern, in addition to then a monetary potency must monitor economy-wide leverage, in addition to non only the leverage emanating from the banking sector.

Proposed Model in addition to Its Defects

He proposes a relatively elementary overlapping generations DSGE model to frame the discussion. It may travel that I volition dig into this model if I desire to include it inwards my upcoming majority on work organisation bicycle analysis. For now, I volition only guide keep his description of the properties of the model.

My concern is that the model is based on households, amongst "workers" in addition to "investors" making investment/work/consumption optimisation decisions based on a 2 menses life span. Even if nosotros pose aside my distaste for overlapping generations models (how long a calendar fourth dimension does i menses represent?), it misses the work organisation sector.

From a mainstream perspective, the omission of the work organisation sector tin travel excused on a number of theoretical grounds. The work is that heterodox economists dispute every unmarried i of those grounds.This makes accepting that the model captures the theoretical dispute a non-starter.

If nosotros desire to limited this inwards terms that would brand mainstream economists happy, firms should travel making investment decisions based on an interplanetary space horizon. Furthermore, at that topographic point is no "utility function" associated amongst this maximisation decision, since most large firms are corporations, in addition to the managers exercise non know the utility functions of their shareholders. (Firms amongst a dominant possessor would travel an exception, but are hardly the norm.)

The adjacent work is that firms guide keep no selection but to maximise nominal profits from a heterodox perspective. In simplified mainstream models where a unmarried representative theatre produces all goods inwards the economy, its pricing decisions straight laid the cost level. In heterodox theory, pricing decisions are complicated (often based on heuristics), in addition to thence nosotros tin solely guide keep a heuristic for determining time to come prices. Since a unmarried firm's investment/production decisions are plainly non a factor inwards those heuristics, cost forecasts are essentially fixed for a firm, in addition to thence maximising existent profits is equivalent to maximising nominal profits.

This in addition to then runs into the feedback loop created yesteryear the Kalecki Profit Equation (primer) -- increasing investment increases profits. The turn a profit increment is income for the work organisation sector, which tin travel used to finance the investment. The heterodox declaration is that this circular flow dominates the factors that Andolfatto emphasises -- the existent policy rate, consumption preferences of households. Although at that topographic point are existent constraints on production created yesteryear a fixed stock of existing uppercase in addition to a limited number of piece of work hours, nominal profits exercise non human face upwards obvious constraints.

(Update: This interplanetary space loop belongings is why I intend nosotros come across problems. If firms wanted to optimise profits, they should invest arbitrarily large amounts inwards nominal terms, and/or laissez passer on arbitrarily large dividends, assuming that theatre owners besides desire to back upwards the turn a profit maximisation. Under mainstream assumptions nearly cost flat setting, that would pause the cost level, but it mightiness piece of work nether post-Keynesian assumptions nearly price-setting behaviour.)

The work organisation bicycle is driven yesteryear the animate beingness spirits of fixed investment. The self-financing nature of investment explains why heterodox economists similar myself poo-poo the notion of "loanable funds" inwards the context of the soul sector.

In summary, although it is skillful to consider this fence happening, the tricky flake is that the heterodox positions are a moving target from the perspective of the mainstream. As shortly equally i model is proposed to bargain amongst i critique, someone else (like me) pops upwards amongst around other critique...

(c) Brian Romanchuk 2018