One of the principal criticisms of a debt-free, publicly issued money supply is that it is inflexible and incapable of responding to rapid growth and the consequent increase in the demand for money in the general economy. If growth of the money supply can happen only through public issuance and direct public spending into the economy, and if the incremental amount of money issued is linked tightly to the economic growth of the recent past, then there is some justification to this criticism.
Much of the money reform literature advocates transition from the present debt-based, privately issued money supply to a debt-free, publicly issued money supply without separation of the two choices of public versus private and debt-free versus debt-based. But is debt-based money per se necessarily a bad thing? Whoever issues it, debt-based money is by its nature temporary, it comes into and goes out of existence in tandem with the corresponding debt. If nothing else, it is certainly a way of providing flexibility to the amount of money in circulation.
Might we allow some publicly issued debt-based money to circulate in addition to the debt-free, persistently circulating money stock – money issued to lend rather than to spend? If so, then what portion of the (100% publicly issued) money supply should be debt-based?
The well known money reformer Ellen Brown advocates public money issued specifically to lend to targeted infrastructure projects, mostly at zero interest. Such projects would be pump primed with the new publicly issued money, grow to fruition whereupon they would generate revenue to pay back their debt to the public purse. As it was paid back, the money would effectively disappear from circulation, all else equal. This mechanism has its attractions but is criticised by some of a less socialist disposition since it gives more economic power to the state, which potentially could be exploited for political ends.
Here I put forward for discussion another more general mechanism for adding some flexibility to the publicly issued money supply which remains true to the principle of no private issuance of money, but which is I think more compatible with free market economics. Note that it can operate in parallel with Ellen’s proposal, there is not an either/or choice.
Under this proposal the commercial banks would borrow money into existence from the public money issuing authority. Regular reverse auctions would be held by the authority at which financial institutions such as banks would bid competitively to borrow a certain amount of new money on offer. Those institutions offering the best IOUs in return for the new money, in terms of criteria specified by the public authority, would win the reverse auction, presumably then to lend on the money at marked up rates of interest to their money hungry clients. Note the direct contrast to banks’ present ability to lend money into existence. Banks would be businesses like any other, making a living by offering custodial and intermediation services for their clients’ monies. No bailouts – all lenders and borrowers, including banks and the public issuing authority itself, to bear the risk of the debt contracts entered into.
Such a reverse auction mechanism would provide a useful means of price discovery for wholesale interest rates. The interest rates of the winning IOUs would indicate the floor rate for the wholesale money market, the price that the market is willing to pay to borrow into existence new money.
There is clearly much detail to be worked out for such a mechanism but I hope that the above is a reasonable start to promote further discussion.