M. June Flanders on Horwitz vs. Wray

David L. Prychitko

M. June Flanders presented this paper during the 1999 HES meetings, one that compares the analysis in Steve Horwitz's first book, Monetary Evolution, Free Banking and Economic Order against L. Randall Wray's Money and Credit in Capitalist Economies: An Endogenous Money Approach.  (Apparently this paper was written back in 1996.)  A quote from the current paper:

Horwitz views the endogeneity of money as a desideratum, because it’s a language, a means of communication, a way of transmitting information about the economy and economic opportunities, et al., essential to the functioning of a market economy. Wray views it as a fact, because essentially it’ s impossible to control and potentially destabilizing to a financial economy.

In other words, Steve argues that the supply of money under institutions of central banking is controlled exogenously while Wray, a Post Keynesian, argues that money is endogenous, that the Fed does not control the supply, that instead money can be created by banks as long as banks face credit worthy customers.  The debate, then, takes two forms:  For Steve, money is currently exogenous but can be made endogenous only under a system of free banking; for Wray, it is endogenous and free banking is undesirable because, in part, modern financial institutions require a central bank to serve as a lender of last resort. (The differences go well beyond this.  Wray rejects the Mengerian story of the evolution of money, and instead sides with Knapp.  Wray also argues that saving does not determine investment.  Instead, investment ends up determining saving.)

The two are split along ideological lines (Horwitz Right, Wray Left), and yet share some common presuppositions.  Another quote:

a) a rejection of the general-equilibrium emphasis on tâtonnement, instantaneous market-clearing, and the Ricardian telescope which looks only at instantaneous long-run equilibrium

b) a rejection (which follows) of the veil of money, viewing money as in the long run neutral and in the short an exogenous irritant

c) a belief in the development of money and monetary institutions as an integral part of the development of an economy and an economic system

d) in style and approach, a strong emphasis on the historical, sociological, and anthropological aspects of money and a monetary economy, an emphasis not absent from much European thinking but on the whole foreign to anglo-saxon economics.

e) Though he does not say so explicitly, Horwitz probably agrees with the point that Wray expands on and develops to the effect that innovations in banking over the years, especially in recent decades, have greatly affected the relationships between any monetary variable of choice and spending. (This is part of the argument against rules proffered by the free banking school and seems to have been a major factor in winning Friedman over to the free banking position.

But in the end Flanders sides with Wray:

Where they differ is in almost everything else, especially in their basic paradigm. Horwitz believes in the good tooth fairy; Wray does not.

Consider reading her paper for all the details.  This might give Steve an opportunity to respond to her charge in a separate post.

Comments

[TGGP]

"it’s a language, a means of communication, a way of transmitting information about the economy and economic opportunities"
I'm reminded of Narayana Kocherlakota's argument that "money is memory":
http://econpapers.repec.org/paper/fipfedmsr/218.htm

[Current]

That paper isn't very good, it doesn't really deal with the arguments.

I think the best way to discuss it these days is to draw an analogy with broadband suppliers. I wrote this on a Money Illusion discussion a while ago...
http://blogsandwikis.bentley.edu/themoneyillusion/?p=1927#comment-5535

The situation here is quite easy to understand. The Federal reserve is the maker of a fairly centralized market. In that role it automatically supplies reserves.

This line of credit is similar to that which I have with my bank, or with my electricity or telecoms supplier. The business relationship between the parties is also quite similar. There are short term and long term elements to it. In the short term the Fed must provide funds, however, in the long term the Fed retain several ways of fining banks that demand too much. There is the penalty rate, for example.

Ceteris paribus the Fed can control high-powered money. That is, suppose the commercial banks are in a particular set of long-term situations. The Fed then buys a large quantity of treasury bonds. The consequences of this are be obvious.

(The question of whether the term “high-powered money” is very useful or if the multiplier model does what some say it does is separate).

However if the longer-term aspects of the relationship change at the same time as the bond purchase then that will clearly have an effect. Of course it’s also possible that a short-term change will create longer term complications. Banks may go bankrupt because of large changes in the interest rate.

The same sort of situation occurs in the telecoms and electricity industries. For example, think about those internet suppliers who offer “unlimited broadband”. Most of these “unlimited” contracts have “abuse” clauses that allow the company to cut off user who download too much. So, although technically speaking the users of the broadband can use as much as they like, in practice things are different. If you use too much first you get a snotty letter. Then if you continue a month or so later you get thrown off. Broadband supplier shape demand by changing prices to new customers and by the threshold that triggers the snotty letter.

[George Selgin]

Steve: It's a mistake, I think, to treat "endogenous" as a synonym for "determined by the state of real demand for money." The latter is a special case only. Any money supply process that is at all systematic is also in some sense endogenous, including one overseen by a rule-following central bank.

This, at least, is how most economists will understand the matter. Post-Keynesians admittedly use "endogenous" in the special sense mentioned above, and allowing for that your reply to their arguments is correct.

[Steve Horwitz]

George,

I'm not sure I ever used the word "endogenous" to describe how money would be supplied under free banking. I think that's Flanders' reading of my book rather than my own terminology. If I *did* use that term, it was not systematically to my knowledge.