The Peristaltic Testator

I tripped across yet another indication that Planet Money fails to properly understand banking, this time in Episode 525 on a Babysitting Economy. ( The problem? )

Addendum, 4-4-2014: I meant to refer above to Krugman's ignorance of banking by citing this article on the topic, but failed to do so on the first go-round. My bad. It is a far better explanation of Krugman's ignorance than the other citation.

The Planet Money blog mentioned the new iPhone 5 coming out soon, and quoted a note from someone at JPMorgan. The claim, according to Planet Money:

The JPMorgan note seems very mathy and precise. It starts with the full cost of the new phone, subtracts the value of the imports in each phone (imports are subtracted from economic growth numbers) and estimates the total number of phones likely to be sold in the last three months of the year.

Bottom line, according to the note: The new iPhone could add 0.33 percent to U.S. economic growth. That's actually a lot, when you consider that total economic growth is only about 2 percent.

A pretty bold claim, do you think? Jacob Goldstein thinks so, and savages the note's claim as the blog post continues: "But to arrive at that conclusion, JPMorgan assumes that every single dollar people spend on new iPhones would not otherwise have been spent on anything else during the last three months of the year." Goldstein goes on to explain Keynes' paradox of thrift, where money spent in one sector of the economy is simply taken from another, so a growth in one sector is not necessarily a boost for the economy as a whole. Got that?

So, what did Mr. Goldstein miss, and why might the JPMorgan note be accurate? Let's consult Ellen Brown for the answer:

Here is how the credit card scheme works: when you sign a merchant's credit card slip, you are creating a "negotiable instrument." A negotiable instrument is anything that is signed and convertible into money or that can be used as money. The merchant takes this negotiable instrument and deposits it into his merchant's checking account, a special account required of all businesses that accept credit. The account goes up by the amount on the slip, indicating that the merchant has been paid. The charge slip is forwarded to the credit card company (Visa, MasterCard, etc.), which bundles your charges and sends them to a bank. The bank then sends you a statement, which you pay with a check, causing your transaction account to be debited at your bank. At no point has a bank lent you its money or its depositors' money. Rather, your charge slip (a negotiable instrument) has become an "asset" against which credit has been advanced. The bank has done nothing but monetize your own I.O.U. or promise to repay.

When you lend someone your own money, your assets go down by the amount that the borrower's assets go up. But when a bank lends you money, its assets go up. Its liabilities also go up, since its depostis are counted as liabilities; but the money isn't really there. It is simply a liability -- something that is owed back to the depositor. The bank turns your promise to pay into an asset and a liability at the same time, balancing its books without actually transferring any pre-existing money to you.

(Ellen Hodgson Brown, Web of Debt, Third Millennium Press, 2008, p. 284, italics Brown's, emboldening mine.)

For further evidence that Planet Money is missing the bigger picture, let's consider the "mathy" bit of the JPMorgan note, which opens with "We believe the release of iPhone 5 could potentially add between 1/4 to 1/2%-point to fourth quarter annualized GDP growth." That's a very specific claim. He or she goes on to explain that $400 of the estimated $600 purchase price will stay in the US and thus boost GDP, the balance going to pay the factory in China.

And here's what Mr. Goldstein is missing, and what the JPM analyst might be getting: Most iPhones are probably purchased with credit cards. Seriously, have you been to an Apple store? Credit cards are no problem; every sales rep carries a wireless card swiper unit. Pull cash from your pocket, and the sales person immediately has to take you to another part of the store where the hidden cash drawer is stashed; if the purchase is a sizable one, you'd best hope you brought exact change.

Most iPhone purchases will therefore generate bank debt money, only a fraction of which will likely be paid off immediately. Most of these Number 5 Units will generate debt that will probably linger on the balance sheets of the holders for months, debt money that Apple will spend here in the US.

And as I've mentioned before, Planet Money correspondents have never, ever showed even an inkling of understanding how our bank debt money generating system works. Seriously, now that they have a transcript of the story that incited my linked ire, head over and read what they missed.

( I'll cut what they said. )

As you can see, they display nothing but mysticism and/or ignorance for the role banks smaller than the Federal Reserve play in creating money. The only difference between the Fed and the smaller depository banks is the fractional reserve requirement, something absent from the Fed itself. They even, if I remember correctly, fail to note that the Fed itself is a conglomeration of private banks.

So, sorry, Planet Money folks, but if every iPhone is bought with a credit card and the balance carried for just three months, then yes, that new money will circulate in the fourth quarter and thus boost our nation's economic activity, just as the egghead at JPMorgan claims. Ellen Brown explains why above. If you don't understand that excerpt—and I have every expectation that you won't—it's time for you to become reporters and do some actual research.

Or is how banks literally make our nation's money something your sole sponsor Ally Bank would rather the American people not learn?

Dear Mr. Davidson,

Let me congratulate you for your role in producing the best financial news for laypeople, I think, available on the podcasting web. I've been listening to your Planet Money podcast now since pretty much its inception. Your award-winning This American Life collaboration "The Giant Pool of Money" explained more of the current financial crisis and housing bubble than most other financial reporting has yet to do, and managed to do so without reverting to overly technical vebiage. Planet Money has helped me more than any other outlet understand Credit Default Swaps, Collateralized Debt Obligations, regulatory arbitrage, and a vast number of important details kept usually opaque to the lay person. For that, I thank you.

That said, I have for years now been frustrated with what your reporting has thus far failed to do, to explain our macro-economy with the same precision given the arcane minutiae of finance and banking. I felt this frustration most intensely as I listened to you shout at Elizabeth Warren and try to badger Rep. Barney Frank. Both had important points to share with you -- both were, importantly, correct -- but you seemingly didn't want to learn from these experts and instead let your preconceptions about what should happen guide your behavior into that, frankly, unbecoming of a journalist.

The most recent example of your blindness to the realities of today's situation came when you spoke on our local KUOW show "The Conversation."* Asked reasonably by a caller named David, you almost arrogantly dismissed the importance the repeal of the Glass-Steagall Act had on creating this latest crisis.

And just as the Warren and Frank episodes revealed, you yet again display a basic lack of understanding how money is created in our economy. Which is ironic, really. The first thought I had when I heard "The Giant Pool of Money" was how did so much money get created? Yet as I listened to the piece, the answer to that question was never presented. Oh, there was an explanation of sorts offered:

How did the world get twice as much money to invest? Lots of things happened, but the main headline is all sorts of poor countries became kind of rich making TVs and selling us oil: China, India, Abu Dhabi, Saudi Arabia. Made a lot of money and banked it.

I thought to myself after hearing that piece again, what? Such countries have always made money with this trade. The piece absolutely did not explain how what happened happened. As you yourself asked in the piece, "So, it took several hundred years for the world to get to 36 trillion. Then, in six years, to get another 36 trillion."

That, Mr. Davidson, is far more important a story than the piece -- as good as it was, as groundbreaking as it was -- bothered to explain.

So I went looking for the answer to that question. I think I've found it, but I'd like others to look at the answers I've found and perhaps dig out more detail, find out if I am mistaken or not. I'm truly hoping people with expertise, communication skills, and an appropriate venue will behave like, you know, reporters. As long as you fail to appreciate the answer to the question "What doubled the size of that giant pool of money in six years?", I doubt you will be able to truly grasp some of the larger questions facing not only this economic situation, but our society as it stands today.

***

Let me say that I appreciate your position. Finance is difficult stuff to understand. From what I gathered listening to the podcast, you learned on the fly from bankers, brokers, dealers and wheelers. New York is the most active financial center in the country, if not the world. It's a perfect place to learn the ins and outs of the system from the very people earning a living in that sector.

I think, though, that in your zeal to cover the story, to educate yourself with what was happening, you have missed the fundamentals. Most specifically, I doubt you understand the process enabling banks to make money. Really. (Please note that I didn't say you misunderstand how banks earn money; there's a difference.) Don't feel badly. I doubt bankers want this process widely known, even bankers you might know by first name. Quite a bit of evidence suggests this information is deliberately obfuscated from the public at large.

I'm not going to tell you how this happens. That's not my job. I'm just a blogging bus driver from Seattle. As a financial reporter with a distinguished body of work, finding out how this happens -- and relating that story -- is your job.

I suggest you start by looking into the work of Ellen Brown, author of The Web of Debt. I first heard her interviewed by kmo on his C-Realm Podcast. You can find both kmo interviews here and here, just to get an introduction to Ms. Brown's work. Then, check out his interview with Nathan A. Martin for a really sobering look at what happens next, or what might be happening right now.

Don't have time in your busy schedule looking at this information? Hey, I understand. You've got reporters who could do the job. Put them on the story. kmo got Ms. Brown on his show twice even though (unlike Chana and Alex with their Cadillac Escalades) he only drives a beat-up Ranger.

Think about this: The Glass-Steagall Act was repealed on November 12, 1999 by the Gramm–Leach–Bliley Act. That giant pool of money started its spectacular, almost tumorous growth in 2000. If you follow my links and actually investigate them, you should hopefully see that the money supply started to grow as quickly and large as it did mainly because of the G-S repeal, just as caller David noted.

I firmly believe that our country cannot function without an informed electorate. I have maintained my memberships in and have listened to National Public Radio stations simply because I regard them as the best remaining source of widely-disseminated news and information. Your show is an especial favorite, one I feel can only benefit from you and your reporters becoming ever more informed about the topics on which you report, and then sharing that knowledge with us, the humble listeners.

Thank you for your time.


Addendum, June 2010: I only got around to listening to the podcast dated May, 25, "Is The Joyride on Wall Street Really Over?" recently. In it, Alex and Jacob seemed to imply (in Act II of your dramatizations) that proprietary traders directly use depositor money to trade (aka Alex's $100K). Specifically, Jacob said, "As you should have learned from the Planet Money podcast, I actually can use your money. I'm a prop trader at a bank. I can use the bank's deposits to make bets in the market."

This is incorrect. Prop traders do use bank assets, including those from depositors, to back their trades, but the money they use comes from a process you at the podcast have yet to learn, or even (dare I say) express a willingness to discover. Where it comes from specifically is exactly what you need to discover lest your podcast continues to confuse the issues it presents.


Addendum 8-4-2010: Link to Mr. Davidson's appearance on The Conversation added.

Addendum 5-3-2015: KUOW moved the archive to Mr. Davidson's appearance to a new address.