Printing Money

[Ellie]

Hi economists

I don't know much about economics but I do know about History and logic.

The UK Gov't are testing a strategy to try and deal with the KrispyKreditKrunch, by adding £75bn into the economy.

I don't really understand this and was hoping someone could enlighten me. :/

What I do know is that printing money hasn't solved in the past. If someone offers you $10m in Zimbabwean dollars, you laugh. It didn't solve post-WW1 Germany either.

If you have let's say... £10tn worth of goods in a country, then adding £1tn to the economy would just make those £10tn worth £11tn, but you would still have exactly the same goods, right?

 

[Venetia]

I don't know exactly how the dispersal of money is handled precisely outside the US. But what I can say is that injecting new monies into an economy is the govm't's attempt at a quick fix. The value of the money will not decline as soon as the money is created. Rather, it will decrease in value over time. So they suddenly inject a crapload of new £ into the economy, and spend it quickly. The value of it stays the same while it is being spent. It is not until the money has experienced a few changes of hands and a trickle-down effect that it begins to be of less value.

 

[Jason]

I don't know exactly how the dispersal of money is handled precisely outside the US. But what I can say is that injecting new monies into an economy is the govm't's attempt at a quick fix. The value of the money will not decline as soon as the money is created. Rather, it will decrease in value over time. So they suddenly inject a crapload of new £ into the economy, and spend it quickly. The value of it stays the same while it is being spent. It is not until the money has experienced a few changes of hands and a trickle-down effect that it begins to be of less value.

Hmm, just wondering, HOW does it get put into the economy, does the government distribute it around businesses and such or plant it into peoples bank accounts ? I know those two sound stupid but I've never really known how it gets to the people.

 

[Incognitus]

What I do know is that printing money hasn't solved in the past. If someone offers you $10m in Zimbabwean dollars, you laugh. It didn't solve post-WW1 Germany either.

If you have let's say... £10tn worth of goods in a country, then adding £1tn to the economy would just make those £10tn worth £11tn, but you would still have exactly the same goods, right?

You're exactly right.

http://economics.about.com/cs/money/a/print_money.htm

It's not going to work, at which point they'll probably try printing more money. I think they have been printing more money than they should have for the last couple of months, and around Christmas time they changed the two hundred year old transparency rules regarding the Bank of England because they hadn't been publishing these details for a couple of months - now they have no obligation to do so.

Ditch the pound quickly before everyone else does! Either that, or you can invest it in tar, feathers, and rope.

 

[Venetia]

Hmm, just wondering, HOW does it get put into the economy, does the government distribute it around businesses and such or plant it into peoples bank accounts ? I know those two sound stupid but I've never really known how it gets to the people.

Government plugs money into charities, funds, projects, military, ... Whatever organization or branch is on their bill to be funded (or whatever the UK has)... either for a benefit (ex.: a construction project), or for a grant (ex.: dispersed among hospitals). That organization or branch then spends that money in whatever way they typically spend money. Often, it will end up as salaries for their workers, or be dispersed to whatever 3rd party companies/organizations they use. The money will eventually end up in the pockets of people. They then spend it on goods and services. The markets THEN respond to the influx of money, and you get inflation.

Example.
Government divides $2 million into new teaching jobs in various schools. The schools receive the money in the form of grants. The schools hire new teachers. The new teachers are paid with that money. etc.

Note: They can also contain the money, by placing it into reserves. They can also use it to pay international debt. However in the case of this, where it's an emergency fund, the bill very probably outlines various places to spend, instead of squirreling it away or pumping it out of the country.

 

[Jason]

Hmm, just wondering, HOW does it get put into the economy, does the government distribute it around businesses and such or plant it into peoples bank accounts ? I know those two sound stupid but I've never really known how it gets to the people.

Government plugs money into charities, funds, projects, military, ... Whatever organization or branch is on their bill to be funded (or whatever the UK has)... either for a benefit (ex.: a construction project), or for a grant (ex.: dispersed among hospitals). That organization or branch then spends that money in whatever way they typically spend money. Often, it will end up as salaries for their workers, or be dispersed to whatever 3rd party companies/organizations they use. The money will eventually end up in the pockets of people. They then spend it on goods and services. The markets THEN respond to the influx of money, and you get inflation.

Example.
Government divides $2 million into new teaching jobs in various schools. The schools receive the money in the form of grants. The schools hire new teachers. The new teachers are paid with that money. etc.

Note: They can also contain the money, by placing it into reserves. They can also use it to pay international debt. However in the case of this, where it's an emergency fund, the bill very probably outlines various places to spend, instead of squirreling it away or pumping it out of the country.

Ah I see what you mean, so basically.... we're fucked.

We're already doing bad cause of the economic crisis, god knows where the money went in the first place, but once people get ahold of this newly made money, the prices are going to increase which will put us BACK into this crisis and creating a loop.

Oh goodie.

 

[mawk]

but once people get ahold of this newly made money, the prices are going to increase which will put us BACK into this crisis and creating a loop.

that's not how the economy works.

 

[Jason]

but once people get ahold of this newly made money, the prices are going to increase which will put us BACK into this crisis and creating a loop.

that's not how the economy works.

But if the prices are going to inflate, it means we'll be spending more on buying the things we need, which means we have less money and can't afford them, so we'll be in the same situation as we're in now, right ?

So wouldn't that create a loop ?

 

[Vadon]

But if the prices are going to inflate, it means we'll be spending more on buying the things we need, which means we have less money and can't afford them, so we'll be in the same situation as we're in now, right ?

So wouldn't that create a loop ?

Not exactly. By inserting the money strategically into the system, it can encourage economic growth. For a short answer, yes inflation would eventually happen, but when dealt with appropriately there isn't a dangerous loop.

For the long answer, read my highly simplified example in the spoiler tags.

Spoiler: The Long Answer

Let's say there's a company that makes bicycles. To make that bicycle, it costs $20. To make a profit off of it, they sell it at $25. That worked just fine until the economy turned south and people lost jobs or took pay cuts. Now people can't afford that $25 bicycle, so the company can't afford to keep making them. As such they lay off multiple people to make back the costs which just hurts other businesses and organizations because there's higher unemployment.

So let's say that the government provides a grant of new money to this bicycle company for the production of more bicycles. (Also assume that bicycles are needed) This helps boost the economy because it allows the company to retain the jobs that people had lost. Another perk of increasing production is that the company buys more materials from other industrial firms, thereby helping stabilize the metal, rubber, and plastic industries. With a higher supply of bikes, the price would actually drop via supply v demand so that people who were not able to afford them before could now purchase them.

This works swimmingly to start with. The prices are lower, people are buying bikes, and industry is working. This is where inflation starts to kick in. It's true that there was some extra money put in play that didn't exist before, but here's how it's dealt with. By getting money/credit flowing again, there's a higher tax revenue. There's taxes being taken from the sales of the bicycles and/or the income of the people who make them. These taxes are then used to pay back the new money. The way you use taxes to fight it back is by simply not using that money for other purposes. You store it in a reserve or you could theoretically destroy it, you have then paid back the debt. (ETA: Or pay back the bonds that backed the new money.)

That's how you would print new money, inject it, and fix the inflation... in theory.

In practice, however, the increased tax revenues aren't used to pay off the debts accrued. Rather, you have different competitions for how to use it. In the US, the Democratic party tends to try to use that money to fund programs and various welfare organizations. The Republican party likes to give BACK the money via tax cuts. In the end, the newfound surplus never gets used to pay off that debt. And it's put off for another day. Which is a problem due to the interest accumulating on the money. (The debt comes from unpaid government bonds)

If you folks are curious as to why we have the financial meltdown today, there's a great video called "The financial crisis: animated" It's about ten minutes long and does a fantastic job explaining the problem and how we all got there. (Although it seems US centric, the fact of the matter is that many many countries are deeply invested in the American financial system, so when the US plummets, other countries do as well.)

 

[skirtboy]

It should also be noted that the two examples given of rampoant inflation were in fundamentally different circustances. Zimbabwe has virtually no hard assets to back up its economy, while post WWI Germany had just lost the bloodiest war in Europe's history and was supposed to be paying reparations intended to cripple the german economy. (WWII, though longer, did not produce nearly as many combat casualties anywhere except the Eastern Front.) Further, there is historical evidence that the economic crisis was deliberately prolonged in order to render the population more amenable to the hard-line policies of the Nazi party (and cement that loyalty when the Nazis made the economic torubles go away after gaining power.)