MMT: Money Destruction and Capital Perfection?

[Scot Griffin]

I need the help of those who are more well-versed in MMT and post-Keynesian economics than I am.

Steve Keen and MMTers often say that paying off debt principal “destroys money.”  I believe this statement is correct, but it is also incomplete and may be misleading, depending on what the phrase is intended to mean.

What money is, and isn’t, is defined by the central bank. In  the U.S., the Federal Reserve defines money as (1) coins and federal reserve notes in circulation, and (2) “deposits” “held” in transaction accounts of commercial banks, e.g., checking accounts and savings accounts. Balances held in other accounts, including bank reserves and “cash” balances held in brokerage accounts, are not considered to be money.

While I agree that “money” in transaction accounts that is used to pay down principal destroys money in that the amount of the principal payment is no longer held in a transaction account.  However, as is the case for interest payments, principal payments must accrue as bank assets, e.g., as bank reserves or some other “cash” account held by the bank.  The only difference between principal payments and interest payments is interest payments are taxable as revenue while principal payments are considered to be a return of capital and not taxable.

On the one hand, this accounting treatment is necessary for institutions that either (1) are not commercial banks but otherwise lend money, or (2) purchase loans from commercial banks, e.g., qualified mortgages, on secondary markets.  Without it, non-bank lenders and loan purchasers would never recoup their principal and loan purchase price, respectively, which means they would never make loans or purchase loans from commercial banks.

On the other hand, this same accounting treatment, if applied to commercial banks, results in an unrecognized and untaxed windfall profit to commercial banks, who do not actually transfer existing principal as part of the lending process. They simply credit the borrower’s account by the principal amount and claim as an asset a corresponding “loan” of the same amount.  That is, principal payments made to a commercial bank perfect the bank’s fraudulent claim to capital that did not exist at the time of the loan, a process that I think of as “immaculate capitalization” or “capital laundering.”

Unfortunately, I cannot find any basis for believing that accounting rules treat commercial banks differently than they must treat all other institutions that lend money or purchase loans such as mortgages on secondary markets.

Does MMT agree that principal payments accrue to commercial banks as assets, or does it claim, like Steve Keen appears to, that commercial banks do not accrue principal payments on the asset side of their balance sheets?  If the latter, is there any support for that claim in the accounting rules (I can’t find any)?  Am I missing something? Thanks.

As an aside, the Fed’s definition of money implies that there is a source and sink of money beyond the sovereign and commercial banks: capital markets. For example, transferring balances from a transaction account to a brokerage account “destroys” money, and the reverse process “creates” money.

Another observation is that loans made by commercial banks are the only capital asset that is capitalized based on present value instead of discounted future value.

 

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