Over time, the Fed has lost control of the money supply. In part because it deliberately gave it up - by reducing or eliminating reserve requirements - and in part because of the development of an alternate financial system that bypasses traditional banking and creates credit without regulatory restraint and, for the most part, without being counted as money in the monetary aggregates.

Some years ago, a friend of mine who was a senior executive with one of the major Canadian banks made himself unpopular by suggesting that the bank give up its banking license. He did this because he saw that the profits would be greater in the unregulated alternate system than in the traditional, regulated banking system. Not that Canadian banks are unprofitable - they are amazing money machines. But that truly staggering amounts of money could be made with the regulatory restrictions removed. Like Goldman Sachs, for example.

Every time someone signs a promissory note - a mortgage, an auto loan, a credit card slip - whatever - money is created. That signature creates, instantaneously, a valuable asset that had not existed before - the signer’s promise to pay money in the future. That is the moment when money is created, everything else is just book-keeping.

The signer, the borrower, in effect sells that promise to the lender in return for money. Just like a bank, as soon as the lender accepts the note, he has a liability to the borrower for the agreed value of the loan. Now it may not be counted as money, because the lender’s liabilities may not be on the list of liabilities to be counted as money in the aggregate statistics. But it is as much money as any of those. Once you get past the state money, the direct liabilities of the Federal Reserve, everything else is just some private party’s promise, whether an actual security or an account statement. That’s why we get multiple money supply numbers - MZM, M1, M2, M3 and so forth - because they each include different classes of private money in addition to the real money. When Joe and Jane Doe sign the promissory note that is secured by a mortgage on their property, that note is their promise to pay money. Now the promise may not be a good one, and so it gets packaged and passed through various intermediate stages - RMBS, CDO, etc. - that attempt to segregate the risks.

We see that various different kinds money market funds are counted in most of the money supply aggregates except M1. But money market funds are simply mutual funds that invest (principally) in short-term debt.Why count money market funds and not, for example, commercial paper? Where is the line drawn? This is why the monetary aggregates have lost their predictive value - they don’t include most of the money. We’ve seen the rise in “money supply” triggered by investors substituting money market funds for asset-backed commercial paper. That’s an unnatural artifact of excluding commercial paper from the statistics.

The consequence of these measurement problems is that we do not get good information about the amount of credit and/or private money that is being created, nor its quality. The Great Depression in the 1930s was the result of banks failing to make good on their promises. Too many things went wrong all at once. The “fix” for this problem was to double reserve requirements and institute deposit insurance.The deposit insurance is still around, but the reserve requirements are gone again (Thanks, Al!). Perhaps more importantly, the new private money - money market funds, etc. - has no insurance and no reserve requirements. An immense amount of private money has been created, no-one knows how much. How good is it?

• “I like your Christ, I do not like your Christians. Your Christians are so unlike your Christ”
• “God has no religion”
• “An eye for an eye only ends up making the whole world blind”
• “I believe in equality for everyone except reporters and photographers”
• “I object to violence because when it appears to do good. The good is only temporary, the evil it does is permanent”
• “There is no path to Peace. Peace is the path”
• “What do I think of Western civilization? I think it would be a very good idea.”

It is December 24th. again. Let us remember, as we go into Christmas, a saying of Mahatma Mohandas K. Gandhi: “The things that will destroy us are: politics without principle; pleasure without conscience; wealth without work; knowledge without character; business without morality; science without humanity; and worship without sacrifice.”

Edit: A good seasonal piece in the NYT.

Well the annual how-great-everything-is hype about Black Friday retail sales is getting underway. No matter what happens, we know for sure that sales will be better than expected - they always are. It is pretty tiresome as the retailers and their shills - the moral equivalent of the NAR - try to pump up the “keep up with the Joneses” urge. The choice tidbit for me so far was:

“I’m really looking for the bargains this year because I’m losing my job,” said Tina Dillow of New Richmond, Ohio, who camped out at a Best Buy store near Cincinnati at 3 a.m. because of a great deal on a laptop. “They’re moving our plant to Mexico after the first of the year, so I have to be careful.”

Yes, right, Tina, being careful means saving money by buying a new laptop? If it weren’t so sad it would be funny.

Edit: And here comes the hype. “According to ShopperTrak RCT Corp., which tracks sales at more than 50,000 retail outlets, total sales rose 8.3 percent to about $10.3 billion on Friday, the day after Thanksgiving, compared with $9.5 billion on the same day a year ago. ShopperTrak had expected an increase of no more than 4 percent to 5 percent.” Never mind that ShopperTrak doesn’t track sales. They track traffic, using video cameras and image processing software. Then they project sales based on the traffic.” This is typical economic propaganda. ShopperTrak is guessing what people spent and then reporting it as fact.

Thanks to Calculated Risk., we hear Merrill Lynch’s David Rosenberg has committed himself to the recession camp:

With the tally now encompassing 90% of the companies reporting, third-quarter earnings per share dropped 8.5% from the third quarter last year. … David stresses that profits drive the business cycle — capital spending and employment feed off them. And he sighs: “It has always been thus.” Hence, he’s ineluctably forced to the conclusion that a recession in the economy “is either here or no more than two quarters away.”

Last week, a container ship leaving the port of Oakland hit one of the piers supporting the Bay bridge, spilling some 58,000 gallons of fuel oil in the process, according to the SF Chronicle.

The ship was being directed by a pilot, as required by the Coast Guard. The pilots are a private organization, a partnership. They have, in effect, an exclusive franchise which gets to charge a toll on every ship entering or leaving San Francisco Bay. The toll is based on size - for the ship in question, it would probably have been around $4,000 for a couple of hours work, at most. Since the pilots select new members of their lucrative partnership, they are often the sons and, recently and controversially, daughters of members. Nice racket. The pilot in question was reprimanded just last year for running a ship aground. Why just a reprimand? If a regular ship’s captain runs aground, it is generally the end of his job. His attorney admitted that he had been warned by the Coast Guard that the ship was off course before the collision. Then, after the collision, apparently he scooted quickly off the ship before the Coast Guard arrived and headed to the Pilot’s Association offices for “drug and alcohol testing”. Presumably he preferred a friendly drug and alcohol test to one administered by the Coast Guard. It appears the shipping company is held liable, not the pilot.

Meantime, the Bay area is dealing with the consequences - damage to wildlife, their habitat, boats, shoreline, etc. Time to put an end to this cosy little racket and expose it to liability for its actions. Put the franchise up for bids and make the winning contractor liable for its mistakes. Or allow the shipping companies to choose or hire their own pilots.