M = money supply, V = velocity of money, P = price level, Y = real GDP Assumptions:
* V is constant
* Money has no effect on real variables (so ΔM has no effect on Y)
* Y is entirely determined by the fixed stock of labor, capital and technology
Note that each side of the equation equals the Nominal GDP (including the inflation)
If the the money supply times the velocity of money = the price level times the size of the real economy , why did the Federal Reserve not do right thing when credit seized up and quit spending money (ie velocity slowed requiring an increase in the money supply to keep prices from falling or the economy from contracting or both). And if the money supply, BmV=PY (where B is the monetary base, m is the money multiplier, V is velocity, P = price level, Y = real GDP, and PY = nominal GDP) showed that the velocity and money multiplier fell like the proverbial t**d in the well, why come Bernanke ain't the man. Peace HH
Harry,
The money went to the banks. There was a bubble. It began with the 1990s and the internet revolution and then the growth and speculative stocks that bubbled up and burst. There was a lot of pent up demand associated with those stocks and people invested and took a beating in late 2000 when Enron and various other stocks were thought to be cutting edge at that time and were found to be fronts for fraud.
That Tech Bubble along with the 9/11 should have put us into a deep recession, but the Fed decided to create this liquid money paradigm. Banks were allowed to use less and less reserves to make loans. When I was in school we were told that is was imperative under the fractional reserve system that banks hold a 10% reserve on capital deposits. That means you can loan 90% out. That is a 9 to 1 ratio. During the Real Estate Bubble, Banks were keeping around 2% of those reserves and loaning out 40 to 1+.
Then you saw the end of Glass-Steagall and I thought that was good, because in school we were brainwashed that this would be good. But what we failed to realize is that regulations and fiduciary responsibilities would be ignored and manipulated and the banking system would be turned into a rigged casino.
The Derivatives Financial Instruments related to this situation were the Collateralized Debt Obligations and Credit Default Swaps. Those are what took down Bear Stearns and Lehman Brothers. Money and Capital were created by those enterprises and all of the enterprises that were associated with the mortgage bubble. It was trillions of digital dollars of convoluted money that was traded in the markets and it was basically fraudulent, because there is essentially no paper trail, because of how these instuments were divied up and traded multiple times. That is what the fraudclosure and robosigner issue is about, because mortgages are supposed to be secure instruments. Do you understand secure. Don't you hope that your mortgage is secure and that you are paying your mortgage fee to owner of the mortgage and they are properly recording it.
When the housing boom slowed and the more risky borrowers started defaulting, then Bear Stearns had trouble and they were going to have to eat the CDO's and it was hundreds of billions of dollars, but they didn't have that much in assets. Henry Paulson let them go down and it caused a cascading effect, but much of this was hidden by the surging oil futures game going on in 2008. When Bear Stearns went down it started pulling money out of the system, because all of these Financial Institutions have tentacles in one another, they are invested in one another, but this was hidden by the money in the economic system related to petroleum resources and energy, but that wasn't sustainable and people were having a hard time meeting their mortgages, because they overpaid what the market would bear for their houses and they hadn't taken into account the need to have a cushion in case the economy slowed.
The United States has become a consumer based economy. So you saw a further cascading as the economy slowed down, because energy was eating a huge chunk out of individual household budgets. And this money was going to the oil companies and the government and not staying in people's pockets for them to invest as they saw fit. This further slowed down the economy, because people cut down on driving and participating in the marketplace. What did that do to the velocity of money?
So all of these banks and investment houses had been buying oil futures and CDO's and both markets collapsed under their own weight. That pulled money out of the system at a rapid rate. That created negative velocity of capital, because all of these financial institutions were invested heavily in these derivatives. they couldn't loan money out, because they were racing to meet their obligations on all of the derivatives contracts. So the Fed and the Treasury conspire to race in and shore up these banks by essentially paying these obligations with fresh digital money.
Remember TARP was essentially created under the auspices of helping mortgage owners to meet their obligations, but a few days after it was passed, Paulson gave the money to the banks for capitalization. It was so that they could use it as a revolving door on these derivative contracts that they needed to purge from their books, but the problem is that they can't, because there isn't the demand for these toxic assets.
So basically that is what the Ponzi system is for. M3 is the entire amount of all money in the U.S. Dollar system and the FED has created all of this for financial institutions to use at basically 0% interest (which is a negative lending rate due to inflation) for a carry trade and to make profit off of it with the hope that they can eventually make enough profits to cover the toxic assets that they need to purge from their system, but I don't think that is even possible, because in the end these assets are worthless (and continuing to deteriorate) and all they are doing is creating a capitalization bubble and that will eventually pop too. Because when the inflation really kicks in, then interest rates are going to have to rise, causing our nation's debt to spiral. A debt, by the way, that has been exacerbated by all of this digital money. Then after the Ponzi scheme collapses, there will be a deflationary depression the likes of which the United States has never seen.
Currently, these financial institutions are playing in the markets buying tangible assets (food, energy, precious metals), because as you can see they lost their @$$3$ on the convoluted derivatives. This monster is feeding off of itself and it isn't going to stop until the people that perpetuated this are brought to justice and the toxic assets are written off, which is what should have happened to start with. We can do this now or wait until the total economic collapse and by that time the crooks will have left the country and be holed up in some guarded community in the Grand Cayman's, while we deal with the wreckage.
And they definitely need to separate holding companies from financial institutions again, because people need to have a stable, reliable place to put money they need for necessities (mortgage and current living expenses).
Whew!!! Don't make me do that again!
Peace,
JTS
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