I never stop seeing the term “money printing” all over the place. It has to be the most abused term in all of economics and finance. The madness must end! So let’s try to make this so simple that a 6 year old could understand it.
1) Banks create most of the money in our system. Loans create deposits and deposits are, by far, the most dominant form of money in the economy. So, if you want to say someone “prints money” you would be most accurate saying that banks print money.
2) The government is a user of bank money. When the government taxes Paul they take Paul’s bank money and redistribute it to Peter when they spend.
3) If the government runs a budget deficit (taxes less than it spends) then Paul buys a bond from the government and the government gives Paul’s bank deposit (which he used to buy the bond with) to Peter. Paul gets a bond which the government created in much the same way that a private corporation creates a bond when they issue corporate debt. If you want to say deficit spending or corporate bond issuance is “asset printing” then great. Corporations print stocks and bonds every day and you don’t hear the world exploding with hyperinflation rants because of it.
4) When the Fed performs quantitative easing they perform open market operations (just like they have for decades) which involve a clean asset swap where the bank essentially exchanges reserves for t-bonds. The private sector loses a financial asset (the t-bond) and gains another (the reserves or deposits). The result is no change in private sector net financial assets. QE is a lot like changing your savings account into a checking account and then claiming you have more “money”. No, the composition of your savings changed, but you don’t have more savings. If the government has previously run a deficit then all this does is change the private sector composition of the outstanding assets the government already issued.
5) Cash notes like the ones you have in your wallet are created by the US Treasury and are issued to the Federal Reserve upon demand by member banks. This cash is literally “printed” by the Treasury, but serves primarily as a way for banks to service their customers. In other words, if you have a bank account you can exchange your bank deposit for cash from the ATM or the bank teller. Cash is preceded by the dominant form of money, bank money. But it doesn’t get printed off the presses and fired into the economy as some would have us believe.
See, there’s no “money printing” in any of this unless you want to distort the role of cash in the economy or refer to lending and security issuance as money printing. Yes, QE alters the composition of private financial assets, but that’s about it. No real “money printing” there either. So, next time someone goes off on a “money printing” rant just point them in the direction of these 5 easy to understand steps.
* Confused? See the following pieces:
Mr. Roche is the Founder and Chief Investment Officer of Discipline Funds.Discipline Funds is a low fee financial advisory firm with a focus on helping people be more disciplined with their finances.
He is also the author of Pragmatic Capitalism: What Every Investor Needs to Understand About Money and Finance, Understanding the Modern Monetary System and Understanding Modern Portfolio Construction.