Plastic and glass

It seems the Eurozone troubles are heating up again.

Debt is like glass. If you hit it with a small shock it stays rigid. But if you hit it with a big shock it breaks.

Equity is like plastic. If you hit it with a shock it bends. The bigger the shock the more it bends. But it doesn't break.

(OK, so the analogy isn't perfect, but it's good enough.)

We need a financial system that is more plastic and less glass.

Debt is a promise to pay a fixed amount that is independent of the fortunes of the entity issuing the debt. If a small shock hits the issuer, the debt is still paid in full. But if a large enough shock hits, the promise will be broken.

Equity, like common shares, is a promise to pay an amount that is contingent on the fortunes of the entity issuing the shares. That promise cannot be broken even by a very large shock.

Some countries, like Ireland, do not print money. The sovereign debt of Ireland is debt. It is a promise to pay that will be broken if a big enough shock hits. It is glass debt.

Other countries, like Canada, do print money. The sovereign debt of Canada is not really debt. It is more like equity. The promise to pay that debt can always be fullfilled. In the absolutely worst case scenario by printing money equal to the whole amount of the debt. It is plastic debt. It may bend, if printing money causes inflation and reduces the real value of the amount promised, but it cannot break.

Plastic sovereign debt is also more liquid than glass. If there's a run on plastic debt, the sovereign just prints money, acting as its own lender of last resort to snuff out the run. Glass sovereign debt is vulnerable to runs. It only stays liquid if everyone expects it to stay liquid. Everyone knows they can't all get out the exits at once.

Plastic sovereign debt is doing fine right now. It is glass sovereign debt that is showing severe signs of stress.

The Eurozone crisis is a sovereign debt crisis, and also a bank crisis. Some sovereigns are in trouble because they tried to bail out troubled banks. And some banks are in trouble because they lent to troubled sovereigns.

Banks are a way to spread risks. But banks are glass houses. They borrow glass and lend glass. They have only a small sheet of plastic borrowing (their capital reserves) to act as a shock absorber. They make promises to lenders they cannot fulfill. They must break their promises if a big enough shock hits.

Mutual funds are also a way to spread risks. Mutual funds are plastic houses. They bend, but cannot break. They make no promises they cannot fulfill.

Why do banks exist? Why can't mutual funds (open- or closed-end) do everything that banks currently do? They could issue mortgages. They could offer payment services. In other words, why don't banks have 100% capital reserves?

Why do people insist on issuing and owning glass? Why not plastic instead?

Why do promisers and promisees seem to prefer promises they know might be broken to promises that need never be broken?

A contingent promise is no good if the promisee cannot observe the contingencies. And equity is a contingent promise (the returns are contingent on the promiser's profits). But banks already issue equity; their accounts are audited for the shareholders. Why can't banks issue 100% equity, and no debt?

There has to be a better way. More plastic, less glass.

Comments

[K]

Couldn't agree more.  And why do people persist in imagining that any deviation from the current arrangement would be a loss of efficiency despite the fact that the current system can exist only by virtue of an enormous subsidy in the form of state guaranteed deposits?

And topical too: Today Danish banks are selling $97 Billion of mortgage bonds.  Third biggest mortgage bond market in the world in a country of 6 million people.  Why?  Because deposit taking institutions can't hold mortgages in Denmark.  Their money supply is not inflated by real estate.  Foreign investors are flocking in.  Housing prices in Denmark are up 3.3% this year.  And mortgage bonds are rock solid.

It boggles the mind to think that banking is the only sector in which it is magically inefficient for them to have to finance their assets in the free market.  It would in fact be so inefficient that as Canadians, we need to endow the sector with half a trillion dollars of essentially interest free loan in the form of deposits.  Last time I looked, an interest free perpetual loan was the same thing as a gift.

[btg]

i was taught that debt is essentially a put option, at least in terms of corporate debt. something the courts don't seem to appreciate when they let equity holders maintain ownership or a large ownership stake in an enterprise they have run into the ground.

nations with their own cureny, of course, can't go bankrupt, but can print money as long as they only issue debt in their own currency. it is when debt is demoninated in a currency you don't control - argentina, the asian debt crisis, the current PIIGs cris, that it is like "glass".

[Luis Enrique]

paging Larry!

[JKH]

"More plastic, less glass"

That's the secret to the whole financial crisis, in a nutshell. Same thing as too much debt, really.

It's needed for banks - and for households (i.e. higher equity stake requirements for mortgage borrowing).

BTW, the fact that one of the US mutual funds "broke the buck" (shattered glass) was a major factor in the credit panic.

We need glass that converts to plastic in bank wind ups as well. Something like contingent capital.

Good analogy.

[Jon]

JKH: the prime reserve fund broke the buck yes but it caused a panic because it was perceived as being among the safest when in fact it was using end of quarter tricks to scrub it's balancesheet

Nick: debt is prevalent because it has a highly preferred tax treatment. But also there will always be different levels of risk aversion. How do you manage that without some combination of glass and plastic. Must the sovereign be the only source of risk free investing? Must the sovereign be the only insurerer?

Aren't insurance contracts glass?

Maybe we need less glass but we still need glass.

[François Morin]

Great Post

I some

[adjacent / q]

this is a very good post.

you could make an argument that the financial crisis was primarily caused by people realizing that glass is a liquid, not a solid, and then running for cash

[Frances Woolley]

Glass is transparent, plastic isn't. The pluses of plastic that you describe are also minuses - plastic is subject moral hazard (at the level of the firm, dilution of equity through stock options and executive compensation; at the national level, printing money).

[K]

Frances: "plastic is subject to moral hazard"

I quite disagree with this.  It is the illusion of solidity sustained by rating agencies, capital regulation and deposit insurance that permits excess risk taking.  Share holders, bank executives and shareholders benefit directly by increased asset risk - always - but especially when it isn't being adequately priced by debt holders and government deposit guarantors.  Creditors interests are opposed to shareholders and employees when it comes to risk which is the real moral hazard.  

Also, credit is the opposite of transparent and from this perspective glass is a very bad analogy - more like bone china.  Rating agencies are there, ostensibly, so that investors can make their investment decisions without access to information about the underlying assets.  They have to trust that the agencies, who aren't exposed to the underlying risk and are paid by the issuer, will somehow represent their interests.  That
situation should strike anyone, and particularly economists, as absurd.

Funding bank assets from equity is exactly the way to align the interest of the bank's investors and employees.

[Ashwin]

As per Minsky's Financial Instability Hypothesis, a prolonged period of stability causes more and more economic agents to move from plastic(equity) to glass (debt) funding. Because debt funding is cheaper. Similarly, sovereigns like Ireland and Greece with glass funding got the benefit of funding at German interest rates in the good times.

The reason why many people think we need banks and not mutual funds is because of the common notion that maturity transformation is necessary to fund long-term investment, which may have been true 50 years ago but is certainly not true any longer as I argue here http://www.macroresilience.com/2010/10/21/questioning-the-benefits-of-maturity-transformation/ .

And investors want to own glass issued by sovereigns and TBTF banks because the govt has given them the impression that they will not allow the glass to break at any cost - moral hazard.

[Mike Brock]

"It is the illusion of solidity sustained by rating agencies, capital regulation and deposit insurance that permits excess risk taking."

Considering that people tend towards short-term incentives, I find it absurd that people put forward this argument: the problem isn't that we have a credit supply, fundamentally disconnected from capital, the problem is that we don't regulate access to it.

The argument for using "glass" is that the regulation is built-in. The inflationary fiat system we have is essentially like a moderated nuclear furnace. If any of the safety systems break down, the system explodes, taking everyone -- including savers -- along with it.

With "glass", at least, the savers are rewarded for their prudence when the crap hits the fan. But I realize this argument falls on deaf ears as most economists view monetary policy as an extension of social policy, with the built-in assumption that it should be manipulated to protect debtors from facing any consequence for their excessive borrowing, and creditors from excessive lending.

Most will claim otherwise, but this is proved when economists sound the alarms of mass bankruptcy and lender difficulties in a tightening rate environment -- "higher rate policy will accelerated bankruptcy and slow lending!"

Except, of course, that's exactly what should happen in this situation. To say that it's irresponsible to let people go bankrupt and creditors lose their shirts, for their own decisions, is economics as social policy. It is to say, that government should plan the economy to avoid negative social consequences, even if that means preventing the pricing system from doing it's job by allowing interest rates to adjust for real capital conditions, unproductive capital to liquidate at deflated prices, and for unproductive businesses to go under.

And so it goes: the slow, painful death of Western civilization.

[Determinant]

It really grates when people compare the CDIC to the FDIC. Apples and Oranges. The CDIC was not created until 1967 and it was created for the explicit purpose of fostering competition to the major chartered banks. It was not designed to handle a Big 5 failure and still will can conceivably handle a Big 5 failure without resorting to the Government of Canada for assistance.

BTW Canada got through the last depression without a bank run. That's why we didn't have deposit insurance until so late.

This depression (yes, sweetie, we are in one) we haven't had a bank run either. Funny that.

The next time somebody says that deposit insurance as embodied by the CDIC is necessary to the Canadian financial system will get locked in their local university library until they read enough to come to the correct conclusion.

[Nick Rowe]

Comments are rolling very nicely. Thanks all! I don't have much to add, except:

1. What about preferred stock (is that the right name, and do I understand it properly?). It acts just like glass for small shocks, then like plastic for big shocks. That would seem to give the safety that Jon says some people are looking for, plus the transparency that Frances is looking for.

2. When those money market mutual funds were about to break the buck, why was it such a big deal? Why not let them? What's the big difference between: losing 1c of principal; not getting 1c of interest?

3. Insurance. Hmmm. Good point Jon.

[Determinant]

It should be noted that many insurance contracts contain enough wiggle room to make them plasticky. Insurance really runs the gamut from term annuities which are GIC substitutions (insured against default and all) to those cheapo policies you see on TV which aren't worth the paper their printed on.

It should be said that Life Insurer offerings, including life annuities, term annuities and life insurance of all kinds are insured against default by Assuris, the life insurance equivalent to CDIC.

In contrast to the CIDC Assuris has paid out against a large default, that of Confederation Life in 1993.

[JKH]

"in fact it was using end of quarter tricks to scrub it's balance sheet"

reference for this, please?

[K]

Nick: "What's the big difference between: losing 1c of principal; not getting 1c of interest?"

None.  When you fail to pay (interest or principal) the music stops playing and the bankruptcy proceedings begin.  Then the lawyers take their 50%+ cut of the assets, etc.  

"What about preferred stock"

I think what you need, is for the people who take the risk to be the same as the people who are responsible for making the decisions.  The latter are the common share holders.  But if people want to buy prefs, I say knock yourselves out.  The issue is not whether you call them subordinated debt or prefs.  It's where they rank in the capital structure compared to the share holders who call the shots and the senior creditors (depositors).  

Determinant: "still [we] can conceivably handle a Big 5 failure without resorting to the Government of Canada for assistance."

It is, of course, not as simple as deposit insurance.  The problem is that, insurance or not, there is no other option than demand deposits for those who need to transact a non-trivial amount of the medium of exchange.  You have to lend that money to a chartered bank in order to carry out your transaction.  Even if bank assets are perfectly safe (and hey, most of our mortgages are guaranteed by the government of Canada), we are giving the banks the difference between the mortgage rate and the rate (0%) on those demand deposits.  Arbitrage, pure and simple.

So there's plenty of subsidy.  Bank charters (monopoly on M1, M2), CMHC insurance *and* deposit insurance.  If the banks don't need deposit insurance they should be able to buy it for *free* in the free market.  Good luck with that.

Ashwin and Mike.  Great points.  Hope to get a chance to address them later tonight.

[K]

Nick: I contradicted myself. Prefs are of course better than sub debt exactly because they don't trigger bankruptcy. Good point.

[Determinant]

My typo. I do not believe that CDIC can withstand a collapse of one of the Big 5. As I was saying, that was not and is not its purpose. Its purpose is to encourage competition in banking. If we ever had a Big 5 problem, the government would have to step in immediately.

As for your problem with chequing accounts, your argument runs straight into the wall of maturity transformation. Demand deposits can be withdrawn immediately, a mortgage loan is for a maximum period of 5 years (note to American readers, the Canadian mortgage market is structured very differently to the American one). Canadian banks do maturity transformation differently and generally only for a maximum of 5 years, but they do do it.

They also transform their GIC deposit book into mortgage loans, the two rates are related.

Look at it this way, there is no way your fly-by-night demand deposit can earn a return equivalent to that of a mortgage rate without committing to an equivalent investment period, which means at least 6 months.

The fact that in aggregate the base of demand deposits is stable and can be used profitably through maturity transformation is not a bad thing. Banking and Insurance are based on this concept. It's not evil, nor is it risk-free.

By the way, why are we angry at this fact when most Canadians benefit from this fact through their ownership of said bank's stocks? Every RRSP in the land, every pension fund up to and including the mighty CPP Investment Board invests in bank stocks. Canadians are on the other side of transaction too even though most of them don't know it.

[hobbit]

Dear Mr. Rowe,

I have some totally off-topic questions: What is wrong with the post-keynesian reasoning about credit? Why do they think credit finances investment, while investment has nothing to do with savings?

Sorry for the probably stupid question, but I am not (yet) a trained economist.

thanks in advance.

[Declan]

Good post Nick, I'm with 100% on this one.

[Andy Harless]

K:

Nick: "What's the big difference between: losing 1c of principal; not getting 1c of interest?"

None. When you fail to pay (interest or principal) the music stops playing and the bankruptcy proceedings begin.

He was talking about a MMMF. A MMMF only pays whatever interest it earns, minus expenses; there is no contractual obligation to pay a certain amount of interest. I don't believe there is an absolute obligation to maintain the principal value, either, although I'm not sure about that. (If there is such an obligation, there shouldn't be, in my opinion.) In any case, when a MMMF "breaks the buck," that's considered a disaster, almost comparable to a default, although it isn't legally a default.

I share Nick's puzzlement about this. I think of a MMMF as very strong plastic, but the world seems to think of them as glass. If the plastic gets a dent, the world sees that as shattered glass. Why, I don't know: as Nick says, how is losing a penny of principal any worse than losing a penny of interest (which happens all the time due to unexpected changes in interest rates)? From my point of view, the only advantage of a MMMF over a short-term bond fund (aside from being slightly safer and having a slightly lower expected return) is that it is easier to do the accounting if the principal value doesn't change. If I were a bookkeeper and my fund broke the buck, I'd be pissed at having to do the extra work. But if I'm just the owner, what's the big deal?

[K]

Determinant: "there is no way your fly-by-night demand deposit can earn a return equivalent to that of a mortgage rate without committing to an equivalent investment period"

You're missing the big picture completely. Overnight risk free investments should earn the risk free short rate. The difference between that and the 6 month rate is on average peanuts by comparison, and had nothing to do with my point.

"The fact that in aggregate the base of demand deposits is stable and can be used profitably through maturity transformation is not a bad thing."

Why? How much is maturity transformation worth? The point is to try to estimate the value of the subsidies and to compare that to the supposed social benefits of maturity transformation. No one here has even attempted any coherent estimate of this benefit.

Ashwin:

I read your post on maturity transformation. You're probably right, but I think you miss something even more important: banks are only partially financed by investors. 32% of the $2Tn of Canadian bank assets are funded by overnight deposits. This includes $450Bn of demand deposits (earning nothing) and $180Bn of overnight savings (earning next to nothing). The demand deposits are not investments. They are holdings of the medium of exchange. Investors decide between a one year rate or a five year rate. But a demand deposit yielding *nothing* is not an investment decisions. So banks, in this case, aren't transforming illiquid assets into investments that people want. They are transforming them into an amount of the medium of exchange that people need. And in another era, the ability to transfer large quantities of money across vast distances was a great feat perhaps deserving of some arbitrage profits. But today this is not a service of value. It would be a trivial matter for the bank of Canada to provide electronic M0 to all participants in the Canadian economy (and not just to the banks).

And why do we guarantee term deposits? So banks can lend that money back to us at twice the rate? This is neither maturity nor liquidity transformation. It's just arbitrage. And no, Determinant, I don't buy your argument that we are all bank share holders anyways so why should we care. I'll give you three reasons:

1) We are not. Some of us have lots of savings. Some have lots of debt. Those with debt pay the costs, those with savings receive it.
2) Much the excess profit goes to bankers, not share holders.
3) Free funding distorts credit markets. Credit becomes much cheaper than it should be. This feeds asset bubbles which feeds more borrowing/money creation which feeds yet more bank profits. All of this creates debt and instability.

Any self-respecting economist will tell you that government subsidies are bad for efficiency. But when it comes to banking and money they abandon all reason and begin to sputter incoherently about the great social benefits of maturity transformation. Paul Krugman becomes a Very Serious Person on the topic, explaining how banks take illiquid assets and magically transform them into vastly more valuable and liquid liabilities; Brad Delong explains how we need deposit insurance to protect us against our own unstable psychology. But none of them provide as much as a back of the envelope calculation of the costs, nor do they remotely attempt to quantify the benefits.

Mike: "Except, of course, that's exactly what should happen in this situation."

I agree with pretty well everything you are saying. Except that some people who really didn't know any better were manipulated into an unsustainable debt situation as a result of a severely broken banking and regulatory framework. I don't think it's right to just let them sink now.

[K]

Andy: I was being unclear. I was referring to bankruptcy of the underlying assets. The major program at the time was the Fed's Commercial Paper Funding Facility which bought (I think) about $250Bn of short term paper. If this had not occurred, major financial issuers (e.g. GECC) and SIVs would have gone bust and when they go they don't lose $0.01 on the dollar. Losses in money market funds would have been massive. Witness Canadian non-bank ABCP, the remaining $20Bn of which still trades around $0.65 per dollar, even with the benefit of a massive government backstop. I don't think anyone was worrying about losing $.01 on their money market fund.

[K]

That said, without the CPFF, breaking the buck would have caused a run on the MMMFs, which would have been the final nail in the coffin of commercial paper issuers, which would have caused huge losses in the MMMFs.

[JKH]

The issue with the money market funds was that they took on credit risk without understanding it - like everybody else. That threatened not just interest income but principal repayment.

Still waiting for proof of the allegation they cooked their books.

[Determinant]

K:

Have you not listened to me on the subject of the CDIC? Stop reading in American content into the Canadian context.

[K]

Determinant: "Have you not listened to me on the subject of the CDIC?"

I heard you, and I answered you.  

1) It's not only about deposit insurance.  Bank charters, CMHC insurance, implicit support as a trade off for submitting to capital regulation, plus the need to protect the medium of exchange *all* play important roles in Canada.

2) The fact that CDIC wasn't instituted to protect us against a big bank failure 40+ years ago, is irrelevant.  *Now* it (and the Federal government whether CDIC is there or not) does protect us.  That insurance would be incredibly expensive in the free market.  And the fact of it being essentially free will change, and *has* changed, the behaviour of banks over the past 40 years.  The historical reasons for its existence are utterly irrelevant to the behaviour of the modern bank.

You're a fountain of information of Canadian banking history.  But to understand the current situation you need to understand the economics of the present regulatory framework and how it impacts the decisions of today's bankers, depositors, and investors.  None of those could care less about the reasons why something was done 43 years ago.

[Ashwin]

K: I hear you. My post was just a narrow rebuttal of the "economy will collapse if we remove maturity transformation" meme. Much like many other issues in banking and monetary policy, a lot of the debate ignores the evolution in banking in the last half century and the empirical reality of our financial markets today. Which is disappointing given that many of the classical economists had a very sound grasp on banking in their time. For example, Hayek's "Monetary Theory and the Trade Cycle" has a discussion of how banking practices in Germany differed from those in Britain. You'd be hard-pressed to find anything similar in a lot of the analysis that goes around today.

[Leigh Caldwell]

I believe the preference for debt (both as borrower or lender) is the same as the preference for fixed wages: nominal predictability.

Why, after all, would employees and employers not both prefer to negotiate wages dynamically, according to this month's market demand and supply? The labour market would be much more efficient and people could easily transfer to wherever their productivity was most valued.

However, they don't. They far prefer the certainty of knowing (in nominal terms) how much they'll earn this month and next. And, as a corollary (assuming inflation is low), the ability to know what size of house they can afford to live in, what meals they can buy, which cellphone contract they can take out...stability in lifestyle is apparently more important to people than the chance of a better lifestyle on average.

Debt and savings are similar: predictability is highly valued.

Quite likely one of the underlying reasons for this is Frances' hypothesis of moral hazard. If I have nominal certainty I do not need to worry too much about the honesty, or the asymmetric knowledge, of my counterparties (employer or borrower). Predictability is value.

(I know there are other explanations for employment contracts, like firm-specific capital, but stability preference must be a large part of the explanation. Equally, this argument does not counter Nick's point that there should be more equity in the world, at the margin. But it hints at why there is so much gross debt on average)

[K]

Leigh: Unfortunately there's no such thing as nominal certainty without worrying about honesty or asymmetric knowledge.  The illusion of nominal certainty does indeed placate some fundamental human cognitive bias which is easily abused.  That's why bank buildings are built with great stone pillars. The only safe system is one that constantly reveals the shakiness of its underpinnings.

[Jon]

JKH: There are both private and public actions against Reserve Fund on this basis: http://securities.stanford.edu/1041/RFIXX_01/20081118_o01c_0810006.pdf and http://www.sec.gov/news/press/2009/2009-104.htm

[himaginary]

I don't know whether it's Japanese local rule or not, but in case of 100 percent capital reduction, promise is broken for equity, too. That is, shareholders are essentially wiped out.

From The Japan Times (on troubled Japanese airline company):

"What about the fate of JAL's stock, whose share price has plummeted, hitting a closing record low of ¥7 Wednesday?

ETIC is expected to have JAL delisted from the Tokyo Stock Exchange if it pursues a 100 percent capital reduction under the Corporate Rehabilitation Law.

In the event of a 100 percent capital reduction, shares generally become worthless.

One reason for the reduction is to pin the responsibility on shareholders for failing to exercise oversight of management. Another is to speed up the reconstruction, since getting shareholder approval for major changes at a listed firm is time-consuming."

*ETIC=The Enterprise Turnaround Initiative Corporation of Japan

[JP Koning]

"Debt is like glass. If you hit it with a small shock it stays rigid. But if you hit it with a big shock it breaks. Equity is like plastic. If you hit it with a shock it bends. The bigger the shock the more it bends. But it doesn't break."

Nick, of course equity can break. That's when a company goes bankrupt and all the leftovers are paid out to the bondholders. The whole point of purchasing a company's debt rather than its equity is that if some outside force hits the company with a big shock, the equity will break more than the debt.

Next you describe Canadian government debt as equity because the BoC can buy it. Just because some sort of debt has a hostage-bidder doesn't magically convert it into equity. Companies often issue bonds with sinking funds, and that most definitely doesn't turn their bonds into equity. You're playing fast and loose with words.

More on monetization. Using a central bank to purchase bad glass (government bonds) may seem to render said bonds less breakable/more plastic, but it only offloads their structural weaknesses on to the balance sheet of the central bank. Now the debt securities issued by the CB will start to show cracks.

Lastly, you ask "Why do promisers and promisees seem to prefer promises they know might be broken to promises that need never be broken?" These people (debt holders) fully realize promises can be broken, that's why they ask to be paid out before equity holders (those whose promises need never be broken). Furthermore, they build all sorts of protection into the debt contracts they sign. Have you ever read a bond covenant?

[K]

Nick: I think there's a logical flaw in your argument. The only reason we need to care about the behaviour of banks is because they might suddenly blow up and destroy the medium of exchange. But if banks are funded by "plastic" rather than "glass", then they no longer create money. They are just performing credit brokering. And then why would anyone care how they are funded? A bank, like an oil company, should be able to fund its assets from whatever mix of equity and debt it chooses. Raising capital to invest in businesses is a very natural business and I don't see any reason why anybody should be constrained as to how they do it, so long as they don't require a government subsidy to do so. So the problem is "glass" money. Banks shouldn't be issuing money.

[JKH]

Jon,

Thanks for the info.

The SEC complaint relates entirely to a specified 2 day period at the time of the Lehman bankruptcy, not to prior information releases. It relates specifically to redemption activity and the status of a backstop liquidity facility and commitments communicated to the market, all and only at the time of the Lehman bankruptcy. Moreover, the suit also states that the Lehman securities were held at amortized cost, in accordance with accounting rules. It was not at all about “using end of quarter tricks to scrub its balance sheet”.

The private law suit is about investment policy prudence, not about book cooking. So are a million other law suits. Most of them go nowhere.

[RSJ]

"Why do banks exist? Why can't mutual funds (open- or closed-end) do everything that banks currently do? They could issue mortgages. They could offer payment services. In other words, why don't banks have 100% capital reserves?"

I think the answer to this lies in the fact that we have endogenous money. Shifting the burden of money creation from banks to MMMF is not going to help -- already MMMF do a lot of heavy lifting in the deposit area, but you've just moved the problem out of one institution and into another.

The first forms of credit-money were bills of exchange, issued in the middle ages. There is a beautiful and interesting history on that. Private actors, if you allow them to buy and sell securities, will start creating their own money. You can't really stop this. This is good, because it means that on the one hand, investment is self-funding and Bill Gates doesn't need to wait for widows to save nickels prior to borrowing money; he only needs to convince enough people that his IOUs are as good as the liquid ones that they are already holding, so that they swap their IOUs for his, and he uses theirs to buy capital goods. But at the same time, private money will be subject to general panics and runs if the bills are not rolled over, and the economy is dependent on rolling those bills over. In aggregate, debt isn't "repaid".

As long as credit market instruments are negotiable, you will get pseudo-deposits in the form of short term bills and you will get financial panics whose epicenter is in the money markets, as we had in the financial panics prior to the creation of the federal reserve.

Then, instead of bank runs, you get commercial paper runs and spikes in the call money rate. I'm not sure why one is better than the other. The CB will still need to step in and provide support to the commercial paper market if it wants to maintain control of the call money rate.

Arguing that if investors are not backstopped in the event of a panic, that they will do their own due diligence and never invest imprudently is not realistic.

Particularly when what would otherwise be good instruments become bad when they can't be rolled over, and they might not be able to be rolled over in the event of a panic.

This is a separate issue from banks receiving economic rents, but there are other ways of dealing with that -- for example, taxes and fees imposed on net interest income.

[bills receiver vs houston secondary coach]

From the G+M EU Portugal and Spain bank exposure graph a few days back...a simple observation is Spain has almost twice the unemployment rate of Portugal. You'd think this bodes well for getting your money back if a Portuguese investor. The money that Spain banks invest in Portugal seems a much better investment than France in Spain, for instance.
Unrelated, if Senate or Senate Committees had a token amount of money to jurisdict, say 3x salaries, they could justify existence eveen if hostile Parliament. They could fund some hydro expansion studies on the enviro front. Do independant CCS projections. The drugs comittee could maybe replicate insite and see if is modular for big cities.