One question, for clarification: are official "notes and coins" tangible assets (purple), debt assets (green), or "promises to pay"? They do have features suggesting they are tangible assets, but are perhaps better described as dishonest "promissory tokens", i.e. promises that will never be kept.
You don't have a category for such "promises", which differ fundamentally from IOUs (debts), in that they can actually discharge an IOU (debt) *without disappearing* in the process.
Here's the simple way to tell what sort of asset something is:
In the model, there are two types of asset: tangible and debt. If someone else has a corresponding liability, it's a debt asset, otherwise it's a "tangible" asset.
Banknotes are liabilities of the BoE (or of one of the Scottish or Northern Irish banks), so they are *debt* assets of the holder. I have to admit that I don't know the accounting status of coins, and I'm not sure where to look, although I believe it's a tiny fraction of the total money stock, so not very significant. My suspicion is that they are a pure fiat instrument: tangible assets (with no corresponding liability), but made of materials which are cheaper than the stated value.
The model doesn't distinguish between debts (creditor's debt asset + debtor's liability) and promises to pay. The baseline case is that debts will be paid (hence why the debt asset increases the creditor's RNW and the liability decreases the debtor's RNW), but it's not assumed.
I'm not sure what you mean by a promise discharging an IOU without disappearing. Can you give a specific concrete example?
I used " " for a reason: in that context, "promise" alluded to what I called the "... dishonest 'promissory tokens', i.e. promises that will never be kept", namely coins and BoE notes.
BoE notes and coins both remain in existence after they have discharged part of the debit balance in your loan account, for example, unlike a credit transfer, which "disappears" or "is destroyed" in the process.
I think that makes them both "tangible assets", even though BoE notes are indeed also "promissory notes of the BoE" and so, BoE liabilities. The fact that they cannot be "discharged" makes them tangible assets of any holder [other than the BoE!], and they remain such when handed to your bank. Your bank swaps part of its "loan asset" for an equal "cash asset".
I'm finding it a bit hard to understand what you're saying here. Let's take it one part at a time.
"BoE notes and coins both remain in existence after they have discharged part of the debit balance in your loan account"
BoE notes are liabilities of the BoE. Suppose you have £100 in cash i.e. the BoE owes you £100 (your debt asset, BoE's liability). Let's say you also owe your own bank £100 (your bank has a £100 debit balance in the loan account). Then you can pay your debt to your bank by transferring £100 in cash to it. This is a transaction with 2 actions:
1. Your bank writes off your £100 loan debt to it.
2. You transfer a £100 debt asset to your bank. The BoE now owes £100 to your bank, instead of to you.
The reason that the cash wasn't destroyed when you transferred it to your bank is that it wasn't your bank's liability. If it were, it would be destroyed.
Let's take the scenario one step further. Suppose your bank happens to owe £100 to the BoE. In that case, it can use the cash to settle this debt, which involves 2 actions:
1. BoE writes off your bank's £100 debt to BoE.
2. Your bank writes off BoE's £100 debt to your bank. That £100 cash no longer exists, because it was used to pay the debtor.
In general, if you pay a debtor with their own debt asset, the debt is destroyed. But if you pay someone with a debt asset which is the liability of a third party, the debt isn't destroyed: the debtor remains the same, but the creditor changes.
So if you owe £100 to your bank, and you pay using a *deposit* (which is the bank's debt to you), it *is* destroyed, because you're paying the debtor with it. You're paying by writing off the debt (green-to-pink arrow) instead of by transferring a debt asset (green arrow).
All £100 notes in circulation are indeed BoE liabilities, and returning a £100 note to the BoE reduces its total liability by £100. But a returned £100 note (in good condition) still exists, and can be reissued, so we agree almost completely, except for my quibble, that it’s not that the “£100 [note] no longer exists” when a bank returns it to pay down its liability at the BoE.
That returned £100 note has only been “removed from public circulation” and “disappearing from the accounts” is not the same as “destruction”. Physical destruction, e.g. of worn-out or damaged notes *can* occur, but is an operational issue rather than an accounting issue. That same returned £100 note (in good condition) could not be reissued if it “no longer exists”.
Commercial banks do treat a £100 note as a “tangible asset” [cash] in their books, rather than a “debt asset”. They may swap an existing “debt asset” to obtain it from the BoE but do not list the £100 note as a “debt owed to it by the BoE”. Like their bank, people will also regard cash as a tangible asset. It’s only the BoE that creates a single “exception”, and that seems to be a real case of an “exception that proves the rule”.
"But a returned £100 note (in good condition) still exists, and can be reissued"
Yes, it can be reissued. It's interesting, because the physical note doesn't seem to have changed at all when it's returned to the issuer.
But something profound *has* changed: it no longer documents the existence of a debt owed by the issuer to the holder. And if it's reissued, again something profound does change: it documents the existence of a *new* debt from the issuer to the holder. It's a new debt, even though it's a recycled note. It's no different from the BoE destroying the old note and printing a new one to issue.
If the BoE prints up a huge pile of £20 notes in the expectation of banks ordering some to fill their ATMs, this has next-to-no economic or accounting significance. What is significant is when banks withdraw their reserve account balances to obtain the notes.
"Commercial banks do treat a £100 note as a “tangible asset” [cash]"
From the perspective of someone who holds it, it's just *an asset*. It's only when we (as people studying macroeconomics) consider it from outside, and see whether someone else has a corresponding liability, that we can categorise it as either a tangible asset or a debt asset. In this case, since the BoE *does* have a corresponding liability, we know it's a debt asset.
Very well said. Perspective is so crucial that apparently contradictory views from opposite, or just different, perspectives can all be correct.
What is objectively the NORTH side of an East-West road is (ambiguously) either the Left (“Debit”) or the Right (“Credit”) side, depending on whether you are travelling east or west ON that road (as an accountant); but to the helicopter pilot hovering ABOVE (as the BoE does), it is (unambiguously) the NORTH side (“DEBIT”). So, Left, Right and NORTH can all be “correct” at the same time.
Coincidentally, that observation should enable you to finally resolve our discussion about the *different* obligations that arise when I issue a “promise to pay £100”, and when I incur a “£100 debt”, e.g. by borrowing a £100 BoE note (as a tangible asset) from you (or a commercial bank). Here, I’ll just make these two key points.
A: You (OR a commercial banker) could lend me a £100 BoE note, and I would be in "debt" for £100 as a result. That would be a "true loan" of what both parties correctly regard as a tangible asset, and *coincidentally* is the liability of a third party (in the helicopter) who is unaffected by, has no knowledge of, let alone interest in, our transaction, i.e. “How the holder obtained it doesn't affect this”.
B: But you, AS a commercial banker, cannot lend me the “£100 credit balance” in an account you open in my name, whether I deposit a £100 BoE promissory note or MY promise to pay you £100. Your acceptance of EITHER “£100 note” FIRST creates a £100 debit balance in your *asset* account. To balance your books, the rules of accounting oblige you to create a matching £100 credit balance in your *liability* account. That £100 debit balance represents either my or the BoE’s self-imposed liability arising from our respective “naked” promises. Although Perry Mehrling would call MY promise transaction “a swap of equal IOUs”, what are swapped are not IOUs (which imply mutual “debts”); they are equal *liabilities* (“Debits” from one perspective) but are also equal *assets* (“Credits” from the opposite perspective). Since we each see those two accounts from *opposite perspectives*, each account can be seen as either a liability of one or an asset of the other.
So, my “£100 promise” liability is SELF-imposed, by my will, not induced by your “lending” me the £100 credit balance which my £100 promise causes you to create. Equally, I am not in debt to you for £100 because “a £100 debit balance” ≠ “a £100 debt”, it simply identifies me as the depositor of a valuable “£100 promise” (either my own or the BoE’s) in your asset account. Such an “asset swap” is NOT a “loan” of anything. MY “£100 promissory note” is in the same accounting and economic category as the BoE’s “£100 promissory note”. Each can “circulate” indefinitely, until there is a “good reason” to redeem it, for destruction (or even reissue), and there are obvious good reasons for me to keep my promise to pay you that £100 (either in cash or in credit).
I wondered if you had any comments on whether you've been finding the series easier to understand than the original. My eyes glaze over when I see all the journals as tables of text, which is why I drew out the action diagrams by hand when I first read through the study. That helped me a lot.
I'm really looking forward to this series.
One question, for clarification: are official "notes and coins" tangible assets (purple), debt assets (green), or "promises to pay"? They do have features suggesting they are tangible assets, but are perhaps better described as dishonest "promissory tokens", i.e. promises that will never be kept.
You don't have a category for such "promises", which differ fundamentally from IOUs (debts), in that they can actually discharge an IOU (debt) *without disappearing* in the process.
Here's the simple way to tell what sort of asset something is:
In the model, there are two types of asset: tangible and debt. If someone else has a corresponding liability, it's a debt asset, otherwise it's a "tangible" asset.
Banknotes are liabilities of the BoE (or of one of the Scottish or Northern Irish banks), so they are *debt* assets of the holder. I have to admit that I don't know the accounting status of coins, and I'm not sure where to look, although I believe it's a tiny fraction of the total money stock, so not very significant. My suspicion is that they are a pure fiat instrument: tangible assets (with no corresponding liability), but made of materials which are cheaper than the stated value.
The model doesn't distinguish between debts (creditor's debt asset + debtor's liability) and promises to pay. The baseline case is that debts will be paid (hence why the debt asset increases the creditor's RNW and the liability decreases the debtor's RNW), but it's not assumed.
I'm not sure what you mean by a promise discharging an IOU without disappearing. Can you give a specific concrete example?
I used " " for a reason: in that context, "promise" alluded to what I called the "... dishonest 'promissory tokens', i.e. promises that will never be kept", namely coins and BoE notes.
BoE notes and coins both remain in existence after they have discharged part of the debit balance in your loan account, for example, unlike a credit transfer, which "disappears" or "is destroyed" in the process.
I think that makes them both "tangible assets", even though BoE notes are indeed also "promissory notes of the BoE" and so, BoE liabilities. The fact that they cannot be "discharged" makes them tangible assets of any holder [other than the BoE!], and they remain such when handed to your bank. Your bank swaps part of its "loan asset" for an equal "cash asset".
I'm finding it a bit hard to understand what you're saying here. Let's take it one part at a time.
"BoE notes and coins both remain in existence after they have discharged part of the debit balance in your loan account"
BoE notes are liabilities of the BoE. Suppose you have £100 in cash i.e. the BoE owes you £100 (your debt asset, BoE's liability). Let's say you also owe your own bank £100 (your bank has a £100 debit balance in the loan account). Then you can pay your debt to your bank by transferring £100 in cash to it. This is a transaction with 2 actions:
1. Your bank writes off your £100 loan debt to it.
2. You transfer a £100 debt asset to your bank. The BoE now owes £100 to your bank, instead of to you.
The reason that the cash wasn't destroyed when you transferred it to your bank is that it wasn't your bank's liability. If it were, it would be destroyed.
Let's take the scenario one step further. Suppose your bank happens to owe £100 to the BoE. In that case, it can use the cash to settle this debt, which involves 2 actions:
1. BoE writes off your bank's £100 debt to BoE.
2. Your bank writes off BoE's £100 debt to your bank. That £100 cash no longer exists, because it was used to pay the debtor.
In general, if you pay a debtor with their own debt asset, the debt is destroyed. But if you pay someone with a debt asset which is the liability of a third party, the debt isn't destroyed: the debtor remains the same, but the creditor changes.
So if you owe £100 to your bank, and you pay using a *deposit* (which is the bank's debt to you), it *is* destroyed, because you're paying the debtor with it. You're paying by writing off the debt (green-to-pink arrow) instead of by transferring a debt asset (green arrow).
All £100 notes in circulation are indeed BoE liabilities, and returning a £100 note to the BoE reduces its total liability by £100. But a returned £100 note (in good condition) still exists, and can be reissued, so we agree almost completely, except for my quibble, that it’s not that the “£100 [note] no longer exists” when a bank returns it to pay down its liability at the BoE.
That returned £100 note has only been “removed from public circulation” and “disappearing from the accounts” is not the same as “destruction”. Physical destruction, e.g. of worn-out or damaged notes *can* occur, but is an operational issue rather than an accounting issue. That same returned £100 note (in good condition) could not be reissued if it “no longer exists”.
Commercial banks do treat a £100 note as a “tangible asset” [cash] in their books, rather than a “debt asset”. They may swap an existing “debt asset” to obtain it from the BoE but do not list the £100 note as a “debt owed to it by the BoE”. Like their bank, people will also regard cash as a tangible asset. It’s only the BoE that creates a single “exception”, and that seems to be a real case of an “exception that proves the rule”.
"But a returned £100 note (in good condition) still exists, and can be reissued"
Yes, it can be reissued. It's interesting, because the physical note doesn't seem to have changed at all when it's returned to the issuer.
But something profound *has* changed: it no longer documents the existence of a debt owed by the issuer to the holder. And if it's reissued, again something profound does change: it documents the existence of a *new* debt from the issuer to the holder. It's a new debt, even though it's a recycled note. It's no different from the BoE destroying the old note and printing a new one to issue.
If the BoE prints up a huge pile of £20 notes in the expectation of banks ordering some to fill their ATMs, this has next-to-no economic or accounting significance. What is significant is when banks withdraw their reserve account balances to obtain the notes.
"Commercial banks do treat a £100 note as a “tangible asset” [cash]"
From the perspective of someone who holds it, it's just *an asset*. It's only when we (as people studying macroeconomics) consider it from outside, and see whether someone else has a corresponding liability, that we can categorise it as either a tangible asset or a debt asset. In this case, since the BoE *does* have a corresponding liability, we know it's a debt asset.
How the holder obtained it doesn't affect this.
Very well said. Perspective is so crucial that apparently contradictory views from opposite, or just different, perspectives can all be correct.
What is objectively the NORTH side of an East-West road is (ambiguously) either the Left (“Debit”) or the Right (“Credit”) side, depending on whether you are travelling east or west ON that road (as an accountant); but to the helicopter pilot hovering ABOVE (as the BoE does), it is (unambiguously) the NORTH side (“DEBIT”). So, Left, Right and NORTH can all be “correct” at the same time.
Coincidentally, that observation should enable you to finally resolve our discussion about the *different* obligations that arise when I issue a “promise to pay £100”, and when I incur a “£100 debt”, e.g. by borrowing a £100 BoE note (as a tangible asset) from you (or a commercial bank). Here, I’ll just make these two key points.
A: You (OR a commercial banker) could lend me a £100 BoE note, and I would be in "debt" for £100 as a result. That would be a "true loan" of what both parties correctly regard as a tangible asset, and *coincidentally* is the liability of a third party (in the helicopter) who is unaffected by, has no knowledge of, let alone interest in, our transaction, i.e. “How the holder obtained it doesn't affect this”.
B: But you, AS a commercial banker, cannot lend me the “£100 credit balance” in an account you open in my name, whether I deposit a £100 BoE promissory note or MY promise to pay you £100. Your acceptance of EITHER “£100 note” FIRST creates a £100 debit balance in your *asset* account. To balance your books, the rules of accounting oblige you to create a matching £100 credit balance in your *liability* account. That £100 debit balance represents either my or the BoE’s self-imposed liability arising from our respective “naked” promises. Although Perry Mehrling would call MY promise transaction “a swap of equal IOUs”, what are swapped are not IOUs (which imply mutual “debts”); they are equal *liabilities* (“Debits” from one perspective) but are also equal *assets* (“Credits” from the opposite perspective). Since we each see those two accounts from *opposite perspectives*, each account can be seen as either a liability of one or an asset of the other.
So, my “£100 promise” liability is SELF-imposed, by my will, not induced by your “lending” me the £100 credit balance which my £100 promise causes you to create. Equally, I am not in debt to you for £100 because “a £100 debit balance” ≠ “a £100 debt”, it simply identifies me as the depositor of a valuable “£100 promise” (either my own or the BoE’s) in your asset account. Such an “asset swap” is NOT a “loan” of anything. MY “£100 promissory note” is in the same accounting and economic category as the BoE’s “£100 promissory note”. Each can “circulate” indefinitely, until there is a “good reason” to redeem it, for destruction (or even reissue), and there are obvious good reasons for me to keep my promise to pay you that £100 (either in cash or in credit).
Have you read the BTW study by the way?
I've downloaded and skimmed it only. I think your article will be easier to understand.
That's what I'm aiming for. :-)
Hi Pat,
I wondered if you had any comments on whether you've been finding the series easier to understand than the original. My eyes glaze over when I see all the journals as tables of text, which is why I drew out the action diagrams by hand when I first read through the study. That helped me a lot.
Thanks.
Sorry. I haven't been watching the series. There was a medical emergency in the family that is taking my full attention. Short answer is, "Yes".