Posted by: graemebird | August 4, 2006

All Aspects Of “The Demand For Cash For Holding”

Children Of An Oddly Chubby God Part III

We have to get used to all the ins and outs of the concept of THE DEMAND FOR MONEY FOR HOLDING. And as well THE DEMAND FOR CASH FOR HOLDING.

Now if we are with fractional reserve and we all have great faith in the banking system there won’t be much of a tendency to differentiate between these two. They will tend to be the same thing in most cases. Not at Christmas they won’t. Thats when you get a lot of people carrying a lot of cash around in their pockets. But in 2006 the demand for money for holding and the demand for cash for holding is most of the time pretty much a similiar thing in terms of the decisions we make.

Yet even in 1980 before the ubiquitous cash cards things would have been different. Having a great deal of cash for holding and having a great deal of money that you can pull out at the bank without penalties would have been fairly different. And in those days it was the ability to write cheques….. It was chequing accounts that were thought to be worthy of inclusion in M1.

But remember that on our island we have electronic transfer and cash cards as well as debit cards that perform the functions of credit cards.

We don’t have chequing accounts. And we only have one instance so far of the use of fractional reserve. Now we must travel back in time to when the King was very young. A new King not yet even a teenager. And to just before the new Gold mine was found. And we have to get everything sorted about the DEMAND FOR CASH FOR HOLDING.

So its 30 years prior to the last time we met the islanders. The new Gold Mine is yet to be discovered. There were many years prior other gold mines but they have been mostly mined out. So much so that only enough new gold is discovered typically to remint the coins every so often to keep them in perfect standardised weights.

Now as we said before we have a highly developed banking system. But no fractional reserve.

Now these guys have had all this electronic technology for many years. It being salvaged from a prior civilisation much like rifle technology in ‘Planet of the Apes’. So there has been no technological developments that could have affected the demand for money for holding. As well its been the norm to be paid weekly all this time. If social norms had been the case the wages payment period had altered to once a month then the demand for money for holding would have increased. And if it had become the norm to be paid daily then the demand for money would have reduced.

And the amount of Gold Coins and their weight has been totally static all this time.

But because they have a sophisticated banking system, sound crime prevention, well-developed property rights, and no legal tender laws (eg. laws stipulating the conversion rates between gold and silver coins) none of those coins have been taken out of play.

You see since folks can always put there money in a term deposit and get maybe 1% interest or perhaps sometimes up to 3% there is no tendency to go out and bury those coins in a hole in the ground.

We will call “taking money totally out of play” hoarding. And we want to differentiate STRONGLY between this and an increase in THE DEMAND FOR CASH FOR HOLDING. This is not a standard differentiation. Or standard terminology. But we want to get our definitions right and as good as we can get them.

We just don’t have any “hoarding” (according to our definition) on this island. But if there was not a sophisticated banking system, and if there was rampant crime, and a nasty King who, along with his Honourable and Genteel Noblemen, went around violating property rights then we would have hoarding.

And funnily enough this is a good thing in a way. Because taking the money RIGHT OUT OF PLAY like that would lead to a faster rate of falling prices. And we would expect with crime and poor property rights and so forth that the economy would be tanking. And REAL Gross Domestic Revenue would be falling. That is to say the economy would be growing smaller……….

But yet because this state of affairs would spark off HOARDING and therefore likely FASTER rates of falling prices……. or at the very least it would keep prices falling somewhat… even likely out-running the falling production, then always the cardinal virtue of THRIFT would be emphasised.

We see then that so long as fractional reserve is out of the picture THRIFT is likely to be the one virtue that is always maintained come hell or high water. Whereas in our society its savviness in real estate deals that is rewarded more frequently then any other “virtue”.

With great crime, no sophisticated banking and poor property rights folks BURY TREASURE. What you would do is bury a good lot of your gold in a hard to find place. And you would make a map of where you buried the treasure and you would then bury the map in a less hard to find place.

But none of that is going on on this island. Since you can always make term loans and get 1-3% interest. Sometimes a lot more for VERY short periods.

Now we have established that the money supply has been exactly the same in this economy for decades (this is before the “New” Gold mine opens up.) But some folks notice that the Gross Domestic Revenue (Proffessor Reismans superior measure to Gross Domestic Product). has been slowly creeping upwards? Well how can we account for that?

Well as the economy has grown prices have kept falling. So you don’t need so much cash around the house or on-call at the bank to make sure you don’t ever run out. You can put more of your cash on term deposit and earn interest. Slowly average cash balances have FALLEN IN NOMINAL TERMS……

They have fallen in NOMINAL TERMS. And they fall every time that prices fall. If everything is cheaper then you don’t need to have as higher cash balances.

But while average cash balances has fallen in nominal terms they have RISEN SLIGHTLY IN REAL TERMS….. Now why is that?

Well in the first instance the demand for cash for holding reduces whenever there is a price drop. But on the other hand as people grow wealthier they tend to hold a bit more cash. They hold less and less cash AS A PROPORTION of their total net wealth. But they hold a little bit more cash in real terms. Because as they grow richer they tend to spend more in real terms and so keep a little bit more cash about the place in real terms.

The demand for cash for holding drops immediately with each price drop. And so the total Gross Domestic Revenue increases a lot in REAL TERMS but also a tiny bit in NOMINAL TERMS. But it increases a bunch in real terms just before the price drop and increases it little bit in nominal terms BUT ONLY AFTER the price drop.

Lets summarise this:

ON THE ISLAND OVER THE PREVIOUS FEW DECADES:

The demand for money for holding has fallen quite a bit in nominal terms.

The demand for money for holding has grown a small amount in real terms.

The money supply has stayed EXACTLY the same.

The Gross Domestic Revenue has edged up very slowly though the money supply has stayed the same.

If you think this is all too complicated and irrelevant this is WITHOUT the needless complications that fractional reserve brings.

Anyhow. We have an arbitrary and mischeivious God that we can bring into the picture. An arbitrary God who outranks the King.

WHAT WE ARE GOING TO SHOW HERE IS THAT WITH MONEY, WHAT WE SEE IN THE STATISTICS IS NOT NECESSARILY WHAT THE DECISION-MAKERS ARE TRYING TO DO.

This comes up time after time and must be understood to understand fully some of the (authentic) posers that ABL was throwing at me.
……………………………………………………………………………………………………………………………………..
BACK TO THE CHRONICLES OF THE ISLAND.

The righteous and muscular but somehow oddly chubby God appears to all the islanders in a dream. In the dream he tells them that if they mention this dream to anyone else they will die on the instant and be tortured (chiefly through burning but not excluding all other known tortures and many yet to be known by children of Adam) for all eternity. And he tells them that they must hold a bunch more cash. And they must do their best to hold more cash, not for term loans, but just because there is a new SIN about in the world. And this sin is running low in cash.

Now the thing is that everyone wakes up with a great anxiety and they all wish to hold more cash. Some of them actually BORROW cash to hold (in their pockets, in the safe at home, and on-call at the bank).

So they wake up wanting to hold higher cash balances. And they all try, with varying degrees of piety to do so.

But it ought to be clear that since the money supply is static they cannot do so on average. There is no way that on average cash balances can increase.

This is our first instance of what I told you before:

“WHAT WE ARE GOING TO SHOW HERE IS THAT WITH MONEY, WHAT WE SEE IN THE STATISTICS IS NOT NECESSARILY WHAT THE DECISION-MAKERS ARE TRYING TO DO.”

We see in the statistics that the average cash balances are staying the same. Whereas everyone is trying to increase their cash balances. But they simply cannot increase their average cash balances.

So what happens?

Their REAL cash balances increase because prices fall.

Thats enough for now. Because we have to fend off all the lies presumably resulting from this last post. Its important that everything here is understood entirely. We cannot go further into things unless everything is understood PERFECTLY so far. So if someone doesn’t understand anything please ask questions. Because fractional reserve makes things 100 times more complex (unnecessarily so).

You see we have simplified it all down to a static money supply and we are mucking about with the DEMAND FOR CASH FOR HOLDING.

And if ALL the implications of this are not understood when we throw in fractional reserve and hundreds of other financial instruments and fiat and international trade and floating currencies then you will be lost for all time.

This is as simple as it gets. And it doesn’t get any simpler then this. But its very easy to understand if you just build it up from the ground in this way.

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