# Explanation of National Debt



## byron84 (May 19, 2009)

Hello,

I am curious to learn more about the national debt. The Bank of Canada is a crown corporation who is responsible for the issuance of currency for Canada. On their site, they say:

_4. Why doesn't the Bank of Canada just print enough money to pay off the national debt?

Because doing so would reduce the value of our money, raise interest rates, and undermine the growth of the economy — the exact opposite of our goals.

If the Bank were to print money to repay the national debt or to finance government programs, it would be adding greatly to the amount of money in circulation. This would encourage people to spend and borrow more, and the economy would receive a temporary boost. But overall demand for goods and services would grow faster than the economy's ability to produce, and this would inevitably lead to higher inflation._

What I fail to understand is, how is it better to borrow the same amount at X% interest rate? I do understand that creating new currency increases the money supply - but how is borrowing it better?

I have long been skeptical of how things work and I recently found evidence on my own of the 'public purse' (it's called the Consolidated Revenue Fund) and who deposits/withdraws from it is the Receiver General.

The thing is ... If they get all these revenues from taxes (almost half their revenue is from personal taxes, according to the Government), and they have over $400b in deficits - why did they ever borrow to begin with when they have a central bank?

Or is the Bank of Canada accountable to the IMF/World Bank? I know that Canada does make contributions and has a certain number of votes in the IMF (around 2%) administration but can someone here who has a more broad knowledge, please enlighten me?

Thank you and hopefully we can have some good discussion!


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## stephenheath (Apr 3, 2009)

I can think of a few reasons, there are probably more.

1) By borrowing the money, they are providing a savings vehicle that is effectively risk free as far as principal return goes, because, as you say, they could always print the money.

2) By not printing the money, if and when we need to borrow beyond our internal capacity, foreigners will be willing to lend to our government because they don't just print money to pay it off.... look at the concern the states has right now about whether or not they can get their deficit financed... they're effectively at the "print money" stage right now.

3) Canada is big on fairness, and the income tax system has been designed in such a way that the rich pay a bigger share of government expenses. By inflating the money, you'd be hurting those on fixed incomes, those living on their savings, and those who aren't able to get raises easily to match the rising cost of living. People of means can diversify out of a rapidly inflating dollar, so this method of paying for services would have a contra effect.

4) Can you imagine government spending without these restraints? There would never be any concern about increasing any form of spending since money is just printed... every special interest group would be funded to ensure votes.


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## byron84 (May 19, 2009)

stephenheath said:


> I can think of a few reasons, there are probably more.
> 
> 1) By borrowing the money, they are providing a savings vehicle that is effectively risk free as far as principal return goes, because, as you say, they could always print the money.


I don't really understand, can you explain in more detail? Taking a loan is a risk-free savings vehicle? Can you explain exactly what you mean please



stephenheath said:


> 2) By not printing the money, if and when we need to borrow beyond our internal capacity, foreigners will be willing to lend to our government because they don't just print money to pay it off.... look at the concern the states has right now about whether or not they can get their deficit financed... they're effectively at the "print money" stage right now.


That I do understand - if we do "need" to borrow money then we'll have established relationships with lenders so it won't be a problem, that makes sense to me. BUT, how is our internal capacity determined or calculated?



stephenheath said:


> 3) Canada is big on fairness, and the income tax system has been designed in such a way that the rich pay a bigger share of government expenses. By inflating the money, you'd be hurting those on fixed incomes, those living on their savings, and those who aren't able to get raises easily to match the rising cost of living. People of means can diversify out of a rapidly inflating dollar, so this method of paying for services would have a contra effect.


I guess what I'm getting at here is, how does borrowing money create less inflation? If you borrow $100b there's still $100b more in circulation, except now you have to pay it back plus interest - where does the money to pay the interest come from? And what about all the electronic transactions that get put into the economy every time a transaction is made online; does this not inflate the supply as well?



stephenheath said:


> 4) Can you imagine government spending without these restraints? There would never be any concern about increasing any form of spending since money is just printed... every special interest group would be funded to ensure votes.


But what are the restraints? What is stopping them from printing or borrowing (or both)? Is it not the Minister of Finance calling the shots at the Bank of Canada? I know that he's involved but I have no idea to what degree, and I know it's definitely a board of members but ultimately someone has to decide when and how much is going to be created, and it can literally be created with the click of a mouse/touch of a keyboard. Further, where do people find any concrete evidence or proof of such? We're required to be held accountable for just about every financial hair that gets displaced; I have heard of Government audits, but I have yet to find any concrete proof of the exact process and accountability of this.

I have found Government documents to support the notion that there is a Consolidated Revenue Fund administered by the Receiver General, this is where the tax dollars evidently go, and also other Government documents to support that Canada makes regular contributions to the IMF/World Bank. 

How do you know what's in the Consolidated Revenue Fund and what gives those numbers any value? When the Crown looks at their report from the Minister of Finance, what does it really mean to them if they can basically do whatever they want with the money supply?


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## DAvid (Apr 3, 2009)

byron84 said:


> Hello,
> 
> What I fail to understand is, how is it better to borrow the same amount at X% interest rate? I do understand that creating new currency increases the money supply - but how is borrowing it better?


Presumably it is existing money, not freshly printed money. As such it better retains it's value. If you consider money as a commodity, then creating excess reduces it's value, but trading or exchanging it (for a premium) maintains the value. So if I have an excess of lobster over demand, they lose value. Same with dollars; If the government creates an excess of them by printing more they are devalued. Same happens when a company creates more stock to raise funds -- it reduces the value held by earlier shareholders.




> I have long been skeptical of how things work and I recently found evidence on my own of the 'public purse' (it's called the Consolidated Revenue Fund) and who deposits/withdraws from it is the Receiver General.


The Receiver General is our government's Accounts Receivable office. It parallels the part of the phone company's accounting department you send your payments to.



> The thing is ... If they get all these revenues from taxes (almost half their revenue is from personal taxes, according to the Government), and they have over $400b in deficits - why did they ever borrow to begin with when they have a central bank?


The Bank of Canada is not a lending institution. It manages transactions between the commercial banks, and provides currency these banks buy, and ultimately manages international exchange. 




> Or is the Bank of Canada accountable to the IMF/World Bank? I know that Canada does make contributions and has a certain number of votes in the IMF (around 2%) administration but can someone here who has a more broad knowledge, please enlighten me?


It is a member of the IMF / World Bank, and is as accountable as any other member to the policies created by that agency. The risks of not being a member are likely being experienced in places like Zimbabwe, where inflation is not at all controlled, and their currency is pretty much valueless.


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## byron84 (May 19, 2009)

DAvid said:


> Presumably it is existing money, not freshly printed money. As such it better retains it's value. If you consider money as a commodity, then creating excess reduces it's value, but trading or exchanging it (for a premium) maintains the value. So if I have an excess of lobster over demand, they lose value. Same with dollars; If the government creates an excess of them by printing more they are devalued. Same happens when a company creates more stock to raise funds -- it reduces the value held by earlier shareholders.


I do understand, cutting the pie into more pieces just makes smaller pieces. So we are assuming the borrowed money is existing 'money'. Since no physical money is displaced, what proof do we have that new money wasn't simply entered into the system?



DAvid said:


> The Bank of Canada is not a lending institution. It manages transactions between the commercial banks, and provides currency these banks buy, and ultimately manages international exchange.


Doesn't providing currency equal lending? Unless they are giving it away. If they are managing international exchange, this means basically any international currency they receive, is converted into Canadian currency and put into our economy? That's surely misinterpretation on my part, but I haven't the slightest clue what actually happens there and I'd definitely like to know.




DAvid said:


> It is a member of the IMF / World Bank, and is as accountable as any other member to the policies created by that agency. The risks of not being a member are likely being experienced in places like Zimbabwe, where inflation is not at all controlled, and their currency is pretty much valueless.


To whom are the IMF/World Bank accountable? Member states (countries) sit on a board of members I presume, so ultimately someone is making a final decision on the majority of big transactions?


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## stephenheath (Apr 3, 2009)

byron84 said:


> I don't really understand, can you explain in more detail? Taking a loan is a risk-free savings vehicle? Can you explain exactly what you mean please


Ah, I wasn't clear, sorry about that, government bonds are a risk-free savings vehicle for citizens that invest in them, which is why they are generally a few percentage points lower in interest than even the highest grade corporate bonds. (For why that is good, see the example in response to your third question below)



> That I do understand - if we do "need" to borrow money then we'll have established relationships with lenders so it won't be a problem, that makes sense to me. BUT, how is our internal capacity determined or calculated?


This is where it gets a bit complicated, obviously the government is printing money all the time, and it's impossible to keep things perfectly balanced all the time, which is why they don't bother, they have an inflation target of 2% that they try and shoot for. So if everything were easy in a perfect world, they would print just enough money that $1.00's worth of goods today would cost $1.02 next year, there are so many variables... births/deaths/retirements/productivity improvements/international trade flows/supply and demand of goods... 



> I guess what I'm getting at here is, how does borrowing money create less inflation? If you borrow $100b there's still $100b more in circulation, except now you have to pay it back plus interest - where does the money to pay the interest come from? And what about all the electronic transactions that get put into the economy every time a transaction is made online; does this not inflate the supply as well?


Ok, now you're getting so in depth I need to bring the scale down to explain it. Let's imagine a small world where the only people in it are you, your four brothers who spend money as fast as they get it, and your grandmother, who is a saver from way back and wants a risk free nest egg for the remainder of her years. You are the family's government, and you print the currency, Byron Bucks. When you first printed them years ago you divided them equally amongst everyone, but as of January 1st of this year, each of your brothers had $25 and your grandmother has $300. You have $0.

Now, you decide you want to buy something from another country that is worth $100. You have two ways to pay for that, you could print another $100 Byron Bucks, or you can borrow it from your grandmother and pay a small interest rate, say 2%. If you borrow it from your grandmother, the money supply has not truly increased, because while you now have +100 Byron Bucks, your grandmother has 100 less, and she has an IOU from you. While technically there are measurements of the money supply that don't count such debts, for inflationary purposes the actual sum total of the purchasing power is what matters. You then either spend the next year working, and sell the product of your labour to a brother or a grandmother, and use those profits to pay the interest, or, since you're the government, you just tax them all and use the money they give you to pay the interest. Either way it's a palty additional price for you since you're such a good credit risk, your grandmother is happy, your purchaser is happy, and your brothers are off doing whatever it is they do.

If you instead decide to PRINT the $100, you go from 400 outstanding byron bucks (300 + 25 + 25 + 25 + 25) to 500. The laws of supply and demand would then indicate that while demand for goods and services is still the same as it was, the supply of money has increased by 25%, and therefore, prices will rise by 25%, so what used to cost 1 Byron Buck now costs 1.25 Byron Bucks. The person who sold you the item is ticked (think China selling to the states) because he can no longer get fair value for his item, if he'd known you would crank up the press he would have insisted on 125 Byron Bucks. Your grandmother isn't happy... her 300 now only has the purchasing power that 240 did before you printed. And your brothers aren't happy, because their $25 each has the purchasing power of $20. The only person who is really happy is you, because you still have the thing you bought and you didn't have to work for it, borrow money, or do anything productive.

So as you can see, the person paying the interest either earns it by providing goods or services to people that currently have money, or if they are a government, they simply tax it from who they want... everyone, the rich, property owners, consumers... depending on their tax scheme. As for electronic payments, they don't actually increase the money supply for inflationary purchases, what they do is speed up the flow of money. And for that, I need to give you another long example....

Let's take three people, a lumberjack, a millman, and a carpenter. They each have $100 in Canadian money, and they are so far out in the woods that they are a closed system, noone else ever comes and gos, there are no banks, etc. At the beginning of year one their net worths are all that $100.

In the first third of the year, the lumberjack cuts down a ton of trees and now has $100 and a bunch of logs. He sells the logs to the millman for $50. He now has $150, but the total money supply is $300, and the total net worth is $350. The millman then spends the next few months cutting those logs into perfect planks. He sells those planks to the carpenter for $100, and now both the lumberjack and the millman have $150 each, and the carpenter has no cash, but $100 worth of logs. Our total net worth is now $400.

In the next three months, the carpenter builds three ice fishing shacks that can be pushed out to the lake when it freezes, and sells one to the lumberjack and one to the millman for $100 each. They then spend the next three months fishing so their year end numbers are as follows:

The lumberjack has $50 cash left and owns a shack worth $100 for a total net worth of $150. The millman also has $50 cash and a $100 shack for a total of $150. The carpenter now has $200 cash and a $100 shack for a total net worth of $300.

Our total money supply is still only $300, but our total net worth is now $600... at least on paper... after all, if the lumberjack wanted to sell his shack, he probably wouldn't get $100 for it since everyone already has one, and it's only use would be scrap lumber for the carpenter for some other project in a future year. But let's just keep using this figure. Now, effectively what we have done is we have created $300 in value over the course of 12 months. But what if each of them could have done the same work in half the time? If all of this were done in six months, that would give the lumberjack more time to cut more lumber, the millman more time to chop it up, and the carpenter more time to build something else... say a henhouse for each of the three people. At the end of the year there would STILL only have been $300 cash in the money supply, but the net worth would have been $900 instead of $300... and that's the same effect electronics transactions have... they speed up the flow through the system. 



> But what are the restraints? What is stopping them from printing or borrowing (or both)? Is it not the Minister of Finance calling the shots at the Bank of Canada? I know that he's involved but I have no idea to what degree, and I know it's definitely a board of members but ultimately someone has to decide when and how much is going to be created, and it can literally be created with the click of a mouse/touch of a keyboard. Further, where do people find any concrete evidence or proof of such? We're required to be held accountable for just about every financial hair that gets displaced; I have heard of Government audits, but I have yet to find any concrete proof of the exact process and accountability of this.


The restraints are the citizens... if the politicians thought they could get away with it I'm sure they would print whatever they wanted, but the ultimate evidence would be that as the money sloshed through the system, prices would start going up, faster and faster... and seniors on fixed incomes would see they were getting worse off with every trip to the grocery store, and smart economists would see what was happening and alert the media, who love government scandals. But you are right, this is not something that can actually be audited because it is completely fluid, and a lot of it is estimating... after all, the government prints a lot of money that is assumed lost... a cumulative effect of people putting their wallet through the washing machine, the wind blowing away a $20 you didn't hold on to tightly, millions of pennies tossed away because they are worthless.... but how could someone audit to see if the leakage estimate was right? In fact, the only way the government can even guesstimate it's printing is to take a basket of goods (the CPI) and compare it's price from the base year to the current year. If it's up around 2%, great, they're doing fine. If it's up 10%... ohoh, they printed too much money so they have to choke it back. If it's down 5%, unless there's a good reason (like beef during the mad cow scare), then it's time to print up more money since we don't want deflation.


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## stephenheath (Apr 3, 2009)

*Continued....*



> I have found Government documents to support the notion that there is a Consolidated Revenue Fund administered by the Receiver General, this is where the tax dollars evidently go, and also other Government documents to support that Canada makes regular contributions to the IMF/World Bank.
> 
> How do you know what's in the Consolidated Revenue Fund and what gives those numbers any value? When the Crown looks at their report from the Minister of Finance, what does it really mean to them if they can basically do whatever they want with the money supply?


Think of the revenue fund as the government's checking account. Much like we use a checking account for the fast in and out money, so does the government. Throughout the year taxpayers are paying taxes... income taxes, excise taxes, gst, fees, etc... and they all get deposited in there. And throughout the year tax refunds, EI payments, welfare payments, old age payments, payments on bonds that are due, etc... all come out of there. If they accumulate large balances, they can either pay off debts (saving future interest), or they can lower taxes and collect less money. 

What gives these numbers any value is that they are basically a checking account in a Canadian bank that holds their Canadian dollars, so as long as Canadian dollars are worth money, the checking account is worth money. And Canadian dollars will only be worth money as long as people believe in the proposition that for every loonie they have, they will be able to exchange that for one dollar's worth of goods and services. 

When you think about it, a dollar is nothing more than the government's word that you will be able to exchange it whenever you want for one dollar's worth of goods and services, whatever that may be at the time... maybe that's the biggest reason the government can't abuse the system and just print a ton of money, because then people will lose faith in it and refuse to accept it, and it will become worthless. If it is worthless, the people who had trusted the government and held onto lots of dollars will have nothing to lose and there would be anarchy in the land, and we'd probably string up the people in the government who screwed us by the balls, so ultimately, the government not printing, and thus massively inflating the money supply, is probably nothing more than an act of self preservation.



Sorry this was insanely long, but you really didn't ask easy questions with simple answers


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## byron84 (May 19, 2009)

stephenheath said:


> Ah, I wasn't clear, sorry about that, government bonds are a risk-free savings vehicle for citizens that invest in them, which is why they are generally a few percentage points lower in interest than even the highest grade corporate bonds. (For why that is good, see the example in response to your third question below)


No worries. So I'll make sure I understand this correctly; it is a risk-free savings vehicle for citizens of Country-A for Country-A to lend funds to Country-B? But isn't it still a problem for Country-B to be in debt in the first place? Or do you mean it is a savings vehicle for Country-B to borrow money from Country-A? Not sure I follow if that's the case. If they borrow, they are paying money to borrow instead of borrowing from themselves for free. Exactly for whom is it a risk-free savings vehicle? Do you mean that in borrowing $X SUM of money, they are risk-free in the sense that said capital will be fluidly available with more or less immediate effect, as opposed to saving this sum over time? Isn't that kind of like using a loan as an investment tool, I personally wouldn't do it but I want to make sure I understand exactly what you are saying. Sorry if I'm slow to comprehend, I take my time but like to comprehend _properly_ 




stephenheath said:


> This is where it gets a bit complicated, obviously the government is printing money all the time, and it's impossible to keep things perfectly balanced all the time, which is why they don't bother, they have an inflation target of 2% that they try and shoot for. So if everything were easy in a perfect world, they would print just enough money that $1.00's worth of goods today would cost $1.02 next year, there are so many variables... births/deaths/retirements/productivity improvements/international trade flows/supply and demand of goods...


I know there are so many factors to consider. Any registered/declared activity can be easily calculated though as they have all the records, so it's really just a matter of mathematics; they would be guessing more when speaking in terms of unregistered, undeclared activity for which they could not really account for. Even if there are many factors, is it not just a question of mathematical equation? To not bother seems really sketchy to me. I know it's not a perfect world, but that's all the more reason to be even more vigilant. If it were a personal choice on a personal level, I wouldn't entrust my financial management to someone whom I knew to not be well able to count. I think on a bigger scale, it should be far more scrutinizing. Small mistakes on a bigger scale = bigger consequences, wouldn't you agree?




stephenheath said:


> Ok, now you're getting so in depth I need to bring the scale down to explain it. Let's imagine a small world where the only people in it are you, your four brothers who spend money as fast as they get it, and your grandmother, who is a saver from way back and wants a risk free nest egg for the remainder of her years. You are the family's government, and you print the currency, Byron Bucks. When you first printed them years ago you divided them equally amongst everyone, but as of January 1st of this year, each of your brothers had $25 and your grandmother has $300. You have $0.


Alright, so we have a $400 economy and I'm **** broke.




stephenheath said:


> Now, you decide you want to buy something from another country that is worth $100. You have two ways to pay for that, you could print another $100 Byron Bucks, or you can borrow it from your grandmother and pay a small interest rate, say 2%. If you borrow it from your grandmother, the money supply has not truly increased, because while you now have +100 Byron Bucks, your grandmother has 100 less, and she has an IOU from you. While technically there are measurements of the money supply that don't count such debts, for inflationary purposes the actual sum total of the purchasing power is what matters. You then either spend the next year working, and sell the product of your labour to a brother or a grandmother, and use those profits to pay the interest, or, since you're the government, you just tax them all and use the money they give you to pay the interest. Either way it's a palty additional price for you since you're such a good credit risk, your grandmother is happy, your purchaser is happy, and your brothers are off doing whatever it is they do.


Well, I don't think it works very well at this scale, which scares me. What if I decide not to borrow, but to purchase that something with tax revenues? Then my country would have only $300 of currency? When you say "that don't count such debts, for inflationary purposes.. purchasing power" do you mean that the IOU counts as purchasing power? And since paper/fiat currency is basically an IOU as it's brought into existence as debt, does this count as purchasing power or debt or how does that work? How would you purchase the materials to build what you'd need to sell to make profits from abroad? In this model the only way to get out of federal debt is for revenues to come in from outside my government, as my citizens would have nothing to be taxed on? The only way would be for their income to be of foreign origin, and then I could tax them on that income, is that not so? 



stephenheath said:


> If you instead decide to PRINT the $100, you go from 400 outstanding byron bucks (300 + 25 + 25 + 25 + 25) to 500. The laws of supply and demand would then indicate that while demand for goods and services is still the same as it was, the supply of money has increased by 25%, and therefore, prices will rise by 25%, so what used to cost 1 Byron Buck now costs 1.25 Byron Bucks. The person who sold you the item is ticked (think China selling to the states) because he can no longer get fair value for his item, if he'd known you would crank up the press he would have insisted on 125 Byron Bucks. Your grandmother isn't happy... her 300 now only has the purchasing power that 240 did before you printed. And your brothers aren't happy, because their $25 each has the purchasing power of $20. The only person who is really happy is you, because you still have the thing you bought and you didn't have to work for it, borrow money, or do anything productive.


Well if everyone had more money, wouldn't this mean they'd want to spend more money and thus demand would increase? Everyone I know would definitely be spending more if they had more. Introducing $100 from a foreign source means we'll still have a total of $500 more currency; let's assume you're right and that this creates inflation. We'll assume the demand stays the same -- so we now have $500, the same demand as when we only had $400, PLUS we have another expense (debt to repay) on top of having more money that's worth _less_ and no additional demand. Isn't that a _worse_ situation than the same situation with no debt?



stephenheath said:


> So as you can see, the person paying the interest either earns it by providing goods or services to people that currently have money, or if they are a government, they simply tax it from who they want... everyone, the rich, property owners, consumers... depending on their tax scheme. As for electronic payments, they don't actually increase the money supply for inflationary purchases, what they do is speed up the flow of money. And for that, I need to give you another long example....


While I agree that electronic payments are fast, I fail to understand how it doesn't increase the money supply? There's either $500 of spending power or $400, is there not? Does it really matter whether the extra $100 is in one format or another, or if it takes 1, 2, 3 or 5 days to be effected?


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## byron84 (May 19, 2009)

stephenheath said:


> Let's take three people, a lumberjack, a millman, and a carpenter. They each have $100 in Canadian money, and they are so far out in the woods that they are a closed system, noone else ever comes and gos, there are no banks, etc. At the beginning of year one their net worths are all that $100.
> 
> In the first third of the year, the lumberjack cuts down a ton of trees and now has $100 and a bunch of logs. He sells the logs to the millman for $50. He now has $150, but the total money supply is $300, and the total net worth is $350. The millman then spends the next few months cutting those logs into perfect planks. He sells those planks to the carpenter for $100, and now both the lumberjack and the millman have $150 each, and the carpenter has no cash, but $100 worth of logs. Our total net worth is now $400.
> 
> ...


Well if he took materials to build something, he can't just create the value; he has to have paid something for the materials as the land is believed to be owned by whatever governing force (in Canada's case, the Crown). In which case, shouldn't said governing force have an idea of what their mass of land is worth in raw materials and their money supply account for that? Would they not be otherwise defrauded/thieved/usurped by everyone extracting resources for profit? Actually, isn't this exactly what _is_ happening?




stephenheath said:


> The restraints are the citizens... if the politicians thought they could get away with it I'm sure they would print whatever they wanted, but the ultimate evidence would be that as the money sloshed through the system, prices would start going up, faster and faster... and seniors on fixed incomes would see they were getting worse off with every trip to the grocery store, and smart economists would see what was happening and alert the media, who love government scandals. But you are right, this is not something that can actually be audited because it is completely fluid, and a lot of it is estimating... after all, the government prints a lot of money that is assumed lost... a cumulative effect of people putting their wallet through the washing machine, the wind blowing away a $20 you didn't hold on to tightly, millions of pennies tossed away because they are worthless.... but how could someone audit to see if the leakage estimate was right? In fact, the only way the government can even guesstimate it's printing is to take a basket of goods (the CPI) and compare it's price from the base year to the current year. If it's up around 2%, great, they're doing fine. If it's up 10%... ohoh, they printed too much money so they have to choke it back. If it's down 5%, unless there's a good reason (like beef during the mad cow scare), then it's time to print up more money since we don't want deflation.


I agree, they can't account for everything that is lost, leaked or undeclared/unregistered. They can however account for everything that they _can_ count out of their records. I don't know about you, but I have noticed prices increasing a lot over the past few years, and I've heard a LOT of older folks complaining about problems with their pensions and to be honest I have been quite let down by the majority of opinions and speeches of so-called professional and expert economists/political scientists. On a personal level, most people I try to converse with on these subjects just can't keep up, don't understand, or just really don't care. The majority of the media is held by very few private interests so I'm not sure I would trust the media to alert people of anything that doesn't somehow benefit someone else; for example - they know people panic easily, so they start talking about depression; and what do you know people freak out and start selling - what does that do? It _can_ quite literally cause a depression. I remember well before the recession actually started I was listening to the Dave Ramsey show and he was giving financial advice to people with those issues and he had people with $50k-100k in investments basically asking Ramsey if they should sell cause they were scared... At that point in time no economic decline had happened yet, but they had started mentioning it in the media - there was much debate as to whether it was happening or not; most credible sources were showing strong growth and no sign of recession at the time.

Anyway; since the Crown owns the land or claims to, why can't they simply appropriate the resources to fund their infrastructure domestically for peanuts - they 'claimed the land' they didn't buy it or borrow to obtain it; so what's the difference between that and using their own resources they apparently own? Obviously something is missing in this puzzle.

Feel free to point out any fallacies in my reasoning, this has been a fun and interesting discussion so far. I thank you for the time and thought taken to write all of that, no need to apologize for its length. I was growing tired of hearing the same old excuses of people that couldn't care less and _didn't_ want to take the time to think, much less formulate a reasonable answer.

I have learned a lot on both sides of the argument and look forward to learning much more. I don't think I know enough to draw a firm conclusion on what I think about it, but I'm definitely not convinced of the legitimacy of the system; but acknowledge the delicacy with which the current situation is woven between the system's infrastructure and the inhabitants of the world.

Cheers!


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## byron84 (May 19, 2009)

stephenheath said:


> Think of the revenue fund as the government's checking account. Much like we use a checking account for the fast in and out money, so does the government. Throughout the year taxpayers are paying taxes... income taxes, excise taxes, gst, fees, etc... and they all get deposited in there. And throughout the year tax refunds, EI payments, welfare payments, old age payments, payments on bonds that are due, etc... all come out of there. If they accumulate large balances, they can either pay off debts (saving future interest), or they can lower taxes and collect less money.


There are untold millions of transactions every single day, all of which is taxed time and time again (both parties) which is why debt is a really strange idea for me in the context of our whole country.



stephenheath said:


> What gives these numbers any value is that they are basically a checking account in a Canadian bank that holds their Canadian dollars, so as long as Canadian dollars are worth money, the checking account is worth money. And Canadian dollars will only be worth money as long as people believe in the proposition that for every loonie they have, they will be able to exchange that for one dollar's worth of goods and services.


I couldn't agree more on that, it will be worth something as long as people believe it is worth something. That is quite possibly one of the most under-rated things ever; the power of belief.



stephenheath said:


> When you think about it, a dollar is nothing more than the government's word that you will be able to exchange it whenever you want for one dollar's worth of goods and services, whatever that may be at the time... maybe that's the biggest reason the government can't abuse the system and just print a ton of money, because then people will lose faith in it and refuse to accept it, and it will become worthless. If it is worthless, the people who had trusted the government and held onto lots of dollars will have nothing to lose and there would be anarchy in the land, and we'd probably string up the people in the government who screwed us by the balls, so ultimately, the government not printing, and thus massively inflating the money supply, is probably nothing more than an act of self preservation.
> 
> 
> 
> Sorry this was insanely long, but you really didn't ask easy questions with simple answers


The thorough and well thought out response is much appreciated, believe me. I realize the grandiose implications and so I appreciate the appropriate response.

I think they do abuse it though and people keep using it anyway, because most people generally have a very poor understanding of what money is and what its implications are; also they don't want the inconvenience of thinking of and implementing a realistic alternative/solution. I don't think there would be anarchy because before there was paper money everyone traded with things of tangible value, and I don't think it was too chaotic. I know our world as it stands is different in many ways and it's comparing apples to oranges though. Historically people are opposed to change; people like their comfort zone. This doesn't negate the presence of a problem or need for improvement, in my opinion. I think the questions might be difficult but important, and they shouldn't be treated lightly and if people want to see different results, different strategies need to be applied. So far, all we seem to get is liquidity injections and tampering with interest rates and one country buying/selling debts of other countries. Obviously there is an inherent fallacy in the concept of _potentially_ infinite currency in a world of _finite_ natural resources. No?


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## mfd (Apr 3, 2009)

Money is created by banks. Since banks use debt as collateral to issue more debt and all they need is the initial seed money. If you deposit $10k into a bank's savings account the bank turns that into $100k of loans. This should technically be a balanced system but there is a service fee(interest) added on which throws this system out of balance. What now happens is we have a bubble that grows slowly every year (inflation) and we continue to issue more debt which is charged more interest. The central banks job is to stay ahead of the bubble and manage it so it doesn't burst. 

Watch this. Its a 5 part series and takes about an hour:

http://www.youtube.com/watch?v=vVkFb26u9g8


On the question as to why the government carries debt its because they are financially irresponsible. They create unbalanced budgets and then use debt to fill in the gaps. They always think they will eventually pay off their debt but they never do. They just learn to manage the interest and push the debt further back. Picture someone using one credit card to pay off another credit card. Eventually it will get to the point that the government won't be able to service the interest anymore and they'll either forfeit on their debt or try and "create" more money. Don't worry this is a problem for your grand kids to worry about just like the environment.


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## byron84 (May 19, 2009)

mfd said:


> Money is created by banks. Since banks use debt as collateral to issue more debt and all they need is the initial seed money. If you deposit $10k into a bank's savings account the bank turns that into $100k of loans. This should technically be a balanced system but there is a service fee(interest) added on which throws this system out of balance. What now happens is we have a bubble that grows slowly every year (inflation) and we continue to issue more debt which is charged more interest. The central banks job is to stay ahead of the bubble and manage it so it doesn't burst.
> 
> Watch this. Its a 5 part series and takes about an hour:
> 
> http://www.youtube.com/watch?v=vVkFb26u9g8


Ah, I believe you are referring to what is known as "fractional reserve banking" if I'm not mistaken; take in $10k and loan out $100k. That is still creating $90k of currency out of thin air, based on $10k of currency that is also based on nothing. I really don't think adding administrative fees is the root of the problem; they are creating debt that cannot be repaid but with more debt which cannot be repaid but with more debt etc... Isn't that designed to crash?

When paper currency was still tied to gold/silver, you could redeem gold/silver for your notes. Now, paper currency is debt, isn't that basically a promissory note? So by definition, you can't _pay_ anything with debt notes; it only constitutes a promise to pay by some means at some future date. So by "paying" with instruments of debt, isn't that a form of economically enslaving future generations?

Thanks for the link, I am downloading them now.


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## mfd (Apr 3, 2009)

byron84 said:


> I really don't think adding administrative fees is the root of the problem;


It's in the video but I'll say it here. The interest is a big part of the problem. If there was no interest then the amount of currency that could be created would be balanced. So in all the world you have $10k in real money which the banks turn into $100k of fictional money. SO now there is $100k in fictional money in the entire world which is fully lent out. Now the bank says "pay me $10 in interest" well there is only $100k so where are you suppose to get this extra $10 dollars from? So they make more money and the balloon grows


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## Robillard (Apr 11, 2009)

mfd,
What is missing in the picture you have painted is how money acts as a store of value, and how money is connected to the real economy. 

In general, money is just a convenient medium of exchange. What really matters in an economy is not the quantity of money, but the quantity of goods and services produced and consumed. In an economy with no money (a barter economy), things can be really inconvenient, especially when you want to trade with someone, but you don't have anything they want. Furthermore, some of the production in the economy cannot be stored, like services. Money acts as a store of value, allowing one to accelerate or defer production and consumption decisions (by borrowing or lending). Interest is compensation to a lender for the use of capital in the current period. Ultimately, interest is paid with one's own production (primarily the sale of one's own labour). This all works great if the economy is growing, but problems happen during a recession when output falls, and borrowers default on their loans. 

The government (all levels are consolidated for the sake of discussion), is a major player in the economy. It produces services that people want, such as national defence, the police and the administration of the justice system, and some that people may not want as much, such as hot air from the mouths of politicians and bureaucracy. In total, the government makes up something like 20-30% of the total expenditure (a proxy for actual output) in the economy. Like business, government needs to acquire money to finance its operations. 

Money matters to the extent that since it is used as a store of value, any change in the supply of money beyond the real increase in output in the future results in inflation. This wouldn't matter if prices, wages and nominal debts all adjusted immediately for the effects of inflation. Each of these items is sticky (slow to adjust), and debts are often so sticky that they do not adjust for the effects of inflation at all. As a result, inflation tends to erode the real value of debts and individuals' real earnings. Since government can control the money supply (indirectly since money is created by lending institutions), it can use the printing press to create more money, and therefore erode real earnings and debts. Inflation is effectively a tax on households' earnings and investments. 

In our system, we have partially separated the control of the money supply from the government's direct control. Parliament passes bills that determine what the government will produce (and how much money is needed to finance the production of government goods and services). The finance department (consolidated for the purposes of discussion) determines how the government will be financed, i.e. will it raise the money now by levying taxes, or will it raise the money in future by borrowing now and levying future taxes. The government then acquires the money it needs right now by borrowing money from the Bank of Canada or directly from financial intermediaries, such as private banks. The Bank of Canada decides how to deal with the government's borrowing. It can print money, or it can sanitise the government's expenditure by selling government bonds to the public. 

I don't know if I have actually cleared anything up here; plus I'm writing at 2:30 AM, so this may have not been a very cogent explanation.


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## stephenheath (Apr 3, 2009)

> No worries. So I'll make sure I understand this correctly; it is a risk-free savings vehicle for citizens of Country-A for Country-A to lend funds to Country-B? ...


It is risk-free for citizens of Country-A to borrow from Country-A because you are operating in the same currency, citizens of Country-B would face currency exchange risk.



> I know there are so many factors to consider. Any registered/declared activity can be easily calculated though as they have all the records, so it's really just a matter of mathematics; they would be guessing more when speaking in terms of unregistered, undeclared activity for which they could not really account for. Even if there are many factors, is it not just a question of mathematical equation? To not bother seems really sketchy to me. I know it's not a perfect world, but that's all the more reason to be even more vigilant. If it were a personal choice on a personal level, I wouldn't entrust my financial management to someone whom I knew to not be well able to count. I think on a bigger scale, it should be far more scrutinizing. Small mistakes on a bigger scale = bigger consequences, wouldn't you agree?


It's not that simple. Even things like people deciding en masse to buy a particular commodity can throw it off. People speculating on oil driving the price up without a real world reason for it. The number of births and deaths not matching expectations. Imports and exports. The savings rate. It's like saying the weather is just calculating wind and pressure so why can't we have exact perfect weather forecasting, it's not in the realm of possibility at this point.



> Well if he took materials to build something, he can't just create the value; he has to have paid something for the materials as the land is believed to be owned by whatever governing force (in Canada's case, the Crown). In which case, shouldn't said governing force have an idea of what their mass of land is worth in raw materials and their money supply account for that? Would they not be otherwise defrauded/thieved/usurped by everyone extracting resources for profit? Actually, isn't this exactly what is happening?


You're defeating the point of simplification, but even then you're wrong when you say "he can't just create the value", that is EXACTLY what he does. The cut tree has more value than the tree still growing in the forest, and it is the application of his labour that has created the value. And you can see that even in these simple examples there are tons of other variables... who owns the land, are the trees being replaced so he will be able to continue it in the future, where did he buy his axe, etc... but you have to focus your questions sometime and the bottom line is that ultimately, the economy is a closed system and wealth is independent from the money supply. All the money supply is there for is to enable a means to divy up the resources.



> I don't know about you, but I have noticed prices increasing a lot over the past few years, and I've heard a LOT of older folks complaining about problems with their pensions and to be honest I have been quite let down by the majority of opinions and speeches of so-called professional and expert economists/political scientists.


This is another big issue, and if you want to do some reading on it, google "history of the consumer price index" or "failings of the consumer price index"... the bottom line is that the government has picked a basket of goods to compare prices over time on to say what inflation is... but if you don't buy those goods your personal experience will differ. So new cars and homes may be down this year, but gas and food may be way up... since you aren't buying a car or a house, all you see is increased prices, but overall the government might say inflation is below target, we'll print more money. And I won't even get into when the governments conveniently decide to change the basket...




> There are untold millions of transactions every single day, all of which is taxed time and time again (both parties) which is why debt is a really strange idea for me in the context of our whole country.


This one is easy... because they spent more than they took in. It's that simple. And don't forget that some of that spending was on buildings or highways that have value... it's like a mortgage on your house, you may still owe money on it, but you don't consider it bad debt... you just keep paying the interest and hammering away at the principal.



> Well, I don't think it works very well at this scale, which scares me. What if I decide not to borrow, but to purchase that something with tax revenues? Then my country would have only $300 of currency? ...


Again, you're overcomplicating the simplified example... the point to simplification was to point out the basics. Money is simply a way to allocate scare resources. Printing money skews the allocation, wheras borrowing the money is simply a way for people to swap money over time periods.



> Anyway; since the Crown owns the land or claims to, why can't they simply appropriate the resources to fund their infrastructure domestically for peanuts - they 'claimed the land' they didn't buy it or borrow to obtain it; so what's the difference between that and using their own resources they apparently own?


Because one of the biggest resources necessary is labour... how do you appropriate that? People will refuse to work without you paying them, because they could instead go work a job where they will get paid. Unless you bring back slavery, you have to pay for labour, and that's why the government taxes people to get the funds to pay for it, because by taking it via taxes, the government can choose who ponies up. By taking it via printing money, the government doesn't choose who ponies up, everyone holding the currency is effectively ponying up.

Robillard provided an excellent response too, but to be honest, it really seems like you have a wide ranging interest, and I'd recommend either taking a few economics courses or hitting the library for a bunch of books on economic history, not because your questions are requiring exponentially bigger answers (well, ok, partly that  ) but because I think you'd enjoy it based on what you've said here.


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## byron84 (May 19, 2009)

Robillard said:


> mfd,
> What is missing in the picture you have painted is how money acts as a store of value, and how money is connected to the real economy.


When you say real economy, you are referring to the physical goods and labor?



Robillard said:


> In general, money is just a convenient medium of exchange. What really matters in an economy is not the quantity of money, but the quantity of goods and services produced and consumed. In an economy with no money (a barter economy), things can be really inconvenient, especially when you want to trade with someone, but you don't have anything they want.


I understand money as a medium of exchange in the general sense, that's probably the easiest thing to get out of the whole subject. The quantity of good and services produced and consumed I think would vary greatly depending on the currency available so I'm not sure I agree that the quantity of currency would be less important. If it was barter, then only what was needed would be created, no? With currency, they try to get people to consume as much as possible and so with mass production they have to produce more to prevent shortage and so continue to encourage more consumption, isn't it a vicious circle? I would agree about barter being really inconvenient if everything is across great distances; but if the places that make the things you need are in close proximity, I don't see why it would be a great inconvenience? And if the community doesn't work on currency couldn't you trade services (labor) for goods as well?



Robillard said:


> Furthermore, some of the production in the economy cannot be stored, like services. Money acts as a store of value, allowing one to accelerate or defer production and consumption decisions (by borrowing or lending). Interest is compensation to a lender for the use of capital in the current period. Ultimately, interest is paid with one's own production (primarily the sale of one's own labour). This all works great if the economy is growing, but problems happen during a recession when output falls, and borrowers default on their loans.


I agree that it acts as a store of value. Doesn't the economy continually growing mean that it takes an increasing amount of labor to pay the same interest? So if the borrowing and lending has such deep implications then one would need to fully comprehend the nature of decisions made to increase or decrease lending/borrowing activity; which could be really difficult I think. There's liquidity made available based on people's decisions up there, then there's borrowing decisions made between lender's and people which are based on criteria that are not always strictly followed. It can be understood with the examples we've been discussing that 'easy credit' can create an artificial increase in economic activity that will inevitably lead to collapse or decline, would you not agree? It could also be noted that a reduction in lending could have a catastrophic effect; so where can one find detailed history of borrowing/lending activity (from those who control it)?



Robillard said:


> The government (all levels are consolidated for the sake of discussion), is a major player in the economy. It produces services that people want, such as national defence, the police and the administration of the justice system, and some that people may not want as much, such as hot air from the mouths of politicians and bureaucracy. In total, the government makes up something like 20-30% of the total expenditure (a proxy for actual output) in the economy. Like business, government needs to acquire money to finance its operations.


Hot air, I liked this one  I see your point though, and obviously since everyone seems to use the fiat currency as exchange, then all of those implicated in the administration will also want their compensation which has to come from somewhere "without inflating the economy".



Robillard said:


> Money matters to the extent that since it is used as a store of value, any change in the supply of money beyond the real increase in output in the future results in inflation. This wouldn't matter if prices, wages and nominal debts all adjusted immediately for the effects of inflation. Each of these items is sticky (slow to adjust), and debts are often so sticky that they do not adjust for the effects of inflation at all. As a result, inflation tends to erode the real value of debts and individuals' real earnings. Since government can control the money supply (indirectly since money is created by lending institutions), it can use the printing press to create more money, and therefore erode real earnings and debts. Inflation is effectively a tax on households' earnings and investments.


I comprehend the inflation being perceived as a tax, that makes sense. I wonder to what extent the government really controls it though, do our government officials have a deep understanding of how everything works? They basically have to take the word of those working in the institutions that they are making the right choices with "their" (government) money supply, isn't that right?



Robillard said:


> In our system, we have partially separated the control of the money supply from the government's direct control. Parliament passes bills that determine what the government will produce (and how much money is needed to finance the production of government goods and services). The finance department (consolidated for the purposes of discussion) determines how the government will be financed, i.e. will it raise the money now by levying taxes, or will it raise the money in future by borrowing now and levying future taxes. The government then acquires the money it needs right now by borrowing money from the Bank of Canada or directly from financial intermediaries, such as private banks. The Bank of Canada decides how to deal with the government's borrowing. It can print money, or it can sanitise the government's expenditure by selling government bonds to the public.


I see what you're saying. Why would the government pay interest to itself though? Since the Bank of Canada is supposed to be a crown corporation; if another part of government needed to "borrow" money would it not be advantageous for it to borrow from itself at 0%? It's like if you lend money to your brother, do you seriously charge him interest? I don't.



Robillard said:


> I don't know if I have actually cleared anything up here; plus I'm writing at 2:30 AM, so this may have not been a very cogent explanation.


Not bad for 2:30am, pretty clear. I have considered taking courses in economics and political science, they're definitely really interesting subjects. I didn't do too well in high school economics cause I had no belief in the system (am still quite skeptical but believe knowledge is the key), and I never pursued it in college. Now I'm thinking about continuing at the university level. I've been generally let down by the responses most people give me when I approach them on these subjects, so this discussion is somewhat encouraging for me.


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## stephenheath (Apr 3, 2009)

> With currency, they try to get people to consume as much as possible and so with mass production they have to produce more to prevent shortage and so continue to encourage more consumption, isn't it a vicious circle?


One of the goals of the government is to have full employment, which is not actually full employment, but something like 96% of the people who want to work working, since there are always going to be some people going through changes like moving or switching jobs, and you need a little slack in the system for that. Mass production, regardless of currency, can hurt that... after all, as productivity improves, what used to take 5 people might be done by 1 machine. Theoretically new jobs are invented and that's what those 4 people do, but realistically consumers have limited income streams and can only buy so many things, whether made by man or machine. 

Our entire economy has been based on unlimited growth... bigger populations, more things bought and sold, to help sustain the pyramid that is our current structure, but understandably this can't go on forever... resource limitations, environmental effects, and growing poverty (because more people are sharing the pie, but the pie isn't growing as fast as the population) have led to a huge amount of research into sustainable economics.... you could spend a couple years just reading up on this.

BUT, that has nothing to do with the currency. In normal terms, the currency is the opposite. People are encouraged to both spend and save, and the saving is important, because without people saving, there wouldn't be the money available for companies to borrow to make big investments... an individual person just doesn't have enough money for that. The problem is you need a balance... if EVERYONE saves, then noone is purchasing, so companies won't make that investment anyway. If noone saves, then in the long run productivity will suffer and costs will go up. Because of the recession, and years of people not saving, the pendulum has gone too far and too many people are in debt, but the necessary correction, that they need to save, is happening all at once, which is further weakening the economy. This has nothing to do with currency, which has enabled savings (how do you have 1,000 people contribute funds to a hydro electric dam when they're swapping pigs and seeds), but instead the uses people are putting their wealth to.

And you are correct, it's a very viscious circle that could collapse a fiat currency if so many people lose confidence that faith is lost.


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## The_Number (Apr 3, 2009)

Yes. I watched the whole video, too. I'm not sure if I agree with everything they said (there were many points), but it was nonetheless interesting (I'm not implicating myself in the debate in this thread -- I don't have the time/energy now.)


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## Robillard (Apr 11, 2009)

byron84 said:


> When you say real economy, you are referring to the physical goods and labor?


Yes, when I refer to the real economy, I'm referring to the markets for goods & services and labour.



byron84 said:


> The quantity of good and services produced and consumed I think would vary greatly depending on the currency available so I'm not sure I agree that the quantity of currency would be less important.


In theory, the quantity of money has no influence on the output of goods and services in the real economy. Real output really depends upon the economic actor's expectations, and its ability to use labour and capital to produce that output. If firms expect households to demand more goods and services in the future, they will try to increase production in the expectation that households purchase that output (by selling their labour). In practice money does matter because it influences expectations. 



byron84 said:


> If it was barter, then only what was needed would be created, no? With currency, they try to get people to consume as much as possible and so with mass production they have to produce more to prevent shortage and so continue to encourage more consumption, isn't it a vicious circle? I would agree about barter being really inconvenient if everything is across great distances; but if the places that make the things you need are in close proximity, I don't see why it would be a great inconvenience? And if the community doesn't work on currency couldn't you trade services (labor) for goods as well?


Actually, in both a barter and money economy, firms only produce what they expect to be needed (in the broadest sense of the term). Even in a barter economy, firms will produce frivolities so long as households are willing to trade their labour for them. Without money though, there is no medium of exchange. In a money economy, firms can specialise and produce more efficiently, whereas in a barter economy, firms have to produce some output that their direct counterparties may want, even if they can only do so inefficiently. The result is a reduction in output. 



byron84 said:


> I agree that it acts as a store of value. Doesn't the economy continually growing mean that it takes an increasing amount of labor to pay the same interest?


Not necessarily. If the productivity of labour and capital is increasing, the interest can be repaid without requiring an increasing amount of labour or capital.



byron84 said:


> I see what you're saying. Why would the government pay interest to itself though? Since the Bank of Canada is supposed to be a crown corporation; if another part of government needed to "borrow" money would it not be advantageous for it to borrow from itself at 0%? It's like if you lend money to your brother, do you seriously charge him interest? I don't.


Based upon the description in my previous post, the money used to finance the government comes from two places: the Bank of Canada's printing press and the money circulating in the economy (mostly money created by banks through the fractional reserve system). It doesn't really matter what the Bank of Canada charges the government, but if the BoC doesn't sanitise the government's borrowing by selling government bonds, then the government's borrowing will be inflationary. The interest rate on government bonds is determined in the market, not by the government, so government can't borrow for nothing. Even if the BoC were to run the printing presses to finance the government, the government would still have to pay more since investors' bond yields demanded would increase, which would increase its future cost of borrowing. The yields demanded would increase because inflaction reduces the real value of debts; investors would demand increased compensation to make up for the erosion of their investment.


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## byron84 (May 19, 2009)

Okay, I just wanted to thank everyone for their lively participation in my thread and the time taken for it.

When you say "investors" who exactly are you referring to? Also, "bonds" is a generic term; do you mean something specific? Can you elaborate please what kind of bond are you talking about

Also does being "bonded" in the context of employment have anything to do with bonds or is that completely unrelated? When I asked an employer that was asking me if I was bondable, what it meant, they responded that it just meant whether or not I could be insured by an insurance company; to which I said of course I am.

But in that context is that "are you bondable" (by an insurance company) does that not mean that insurance companies operate with bonds? how does that differ from government bonds concerning these "investors"? I know I am going beyond the scope of this thread but for me it is all relevant 

I don't know about the faith in the economy just disappearing, I mean there are always people that are skeptical but as a whole I don't think people want to dramatically change their way of life or commerce even overnight; people like the convenience they have with currency so the system might evolve but I don't see it radically changing any time soon - other than one thing. I remember reading about talks of a one world currency, actually it was China that was calling for it. 

I don't know how likely or how far into the future it would be; but it's definitely on the minds of many. I know the implications must be quite significant.


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## stephenheath (Apr 3, 2009)

> Also does being "bonded" in the context of employment have anything to do with bonds or is that completely unrelated? When I asked an employer that was asking me if I was bondable, what it meant, they responded that it just meant whether or not I could be insured by an insurance company; to which I said of course I am.
> 
> But in that context is that "are you bondable" (by an insurance company) does that not mean that insurance companies operate with bonds? how does that differ from government bonds concerning these "investors"? I know I am going beyond the scope of this thread but for me it is all relevant


Totally different thing... companies can buy insurance against employee fraud and theft, but an insurance company won't grant them a policy for certain people, like if you've got a criminal history or I think in some cases if you've declared bankruptcy (I think that's for sensitive financial jobs)... 



> I don't know about the faith in the economy just disappearing, I mean there are always people that are skeptical but as a whole I don't think people want to dramatically change their way of life or commerce even overnight; people like the convenience they have with currency so the system might evolve but I don't see it radically changing any time soon - other than one thing. I remember reading about talks of a one world currency, actually it was China that was calling for it.
> 
> I don't know how likely or how far into the future it would be; but it's definitely on the minds of many. I know the implications must be quite significant.


Short term I think they will be quite significant for the Americans, as the US dollar is currently acting as the world reserve currency... but because they are willing to devalue their dollar by printing money, the other countries don't want to hold it anymore, so they're pushing to make changes. China especially is expanding the use of it's currency with it's trading partners so it doesn't pile up more USD. In the short term it will mean people aren't wanting to buy the USD for transactions, which will lower the value of the USD, which will make exports, especially oil, a lot more expensive for the Americans. Long term though it will make their imports a lot cheaper and maybe they can rectify the trade imbalance they've had for the last few decades.


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## Robillard (Apr 11, 2009)

byron84 said:


> When you say "investors" who exactly are you referring to? Also, "bonds" is a generic term; do you mean something specific? Can you elaborate please what kind of bond are you talking about?


You can think of investors as being synonymous with savers, and including all the agents of savers. By savers, I'm referring to anyone who spends less than they earn and thus has excess funds to lend to others that need to borrow (mainly businesses, but this includes government and some households). Agents of savers include fund managers and other financial intermediaries, such as banks and insurance companies. 

In the context of the discussion we have been having, bonds is deliberately being used as a generic term because the details are not very important for the discussion. When the Bank of Canada sells bonds to affect the money supply, the main instruments employed are federal government bonds, though it may trade the bonds of other levels of government if it holds any. The Bank of Canada routinely buys and sells bonds from and to the commercial banks as a means of influencing the money supply. The Bank of Canada does not issue its own bonds (technically it issues debt instruments we know as dollars, though these instruments are not backed by any assets). The department of finance might issue some bonds to the Bank of Canada in exchange for dollars as a means of financing the government. The more typical route though is to auction the bonds to investors (mainly banks and their securities trading arms, which in turn, sell the bonds to institutional or individual investors). 

The department of finance decides the maturity of the bonds it wants to issue, but normally not the coupon rate (which is typically determined at auction). There may be a number of factors that influence its choice of maturities, but often it wants to match up the tenor of the bonds with the type of project they are funding, i.e. a long term infrastructure project might be financed with 30-year bonds. The department of finance is also concerned with the keeping the the government's interest costs low. As such, it will try to issue bonds with maturities that it believes investors will want to purchase. For example, if investors are willing to pay a premium (accept a lower coupon yield) for 10-year government bonds, the government will try to issue bonds with this tenor. Likewise if, as we saw in the past year, there is a credit crunch, and investors only want to invest in T-bills, the the department of finance will try to issue such instruments in order to minimise the government's interest costs.


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## byron84 (May 19, 2009)

Robillard said:


> You can think of investors as being synonymous with savers, and including all the agents of savers. By savers, I'm referring to anyone who spends less than they earn and thus has excess funds to lend to others that need to borrow (mainly businesses, but this includes government and some households). Agents of savers include fund managers and other financial intermediaries, such as banks and insurance companies.
> 
> In the context of the discussion we have been having, bonds is deliberately being used as a generic term because the details are not very important for the discussion. When the Bank of Canada sells bonds to affect the money supply, the main instruments employed are federal government bonds, though it may trade the bonds of other levels of government if it holds any. The Bank of Canada routinely buys and sells bonds from and to the commercial banks as a means of influencing the money supply. The Bank of Canada does not issue its own bonds (technically it issues debt instruments we know as dollars, though these instruments are not backed by any assets). The department of finance might issue some bonds to the Bank of Canada in exchange for dollars as a means of financing the government. The more typical route though is to auction the bonds to investors (mainly banks and their securities trading arms, which in turn, sell the bonds to institutional or individual investors).


So what gives bonds their value? how does buying or selling a bond affect the money supply exactly? So the gov will issue a bond to the Bank of Canada which will in turn issue more paper currency? If paper currency have no factual value (debt instrument) then would this not also be true of bonds if they're being traded for one another?



Robillard said:


> The department of finance decides the maturity of the bonds it wants to issue, but normally not the coupon rate (which is typically determined at auction). There may be a number of factors that influence its choice of maturities, but often it wants to match up the tenor of the bonds with the type of project they are funding, i.e. a long term infrastructure project might be financed with 30-year bonds. The department of finance is also concerned with the keeping the the government's interest costs low. As such, it will try to issue bonds with maturities that it believes investors will want to purchase. For example, if investors are willing to pay a premium (accept a lower coupon yield) for 10-year government bonds, the government will try to issue bonds with this tenor. Likewise if, as we saw in the past year, there is a credit crunch, and investors only want to invest in T-bills, the the department of finance will try to issue such instruments in order to minimise the government's interest costs.


What exactly does a 30 year bond imply? Is this a kind of loan? Again what gives it the value and is it something that is "purchased" in a lump sum, in installments, or how does it otherwise function?


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## byron84 (May 19, 2009)

stephenheath said:


> Totally different thing... companies can buy insurance against employee fraud and theft, but an insurance company won't grant them a policy for certain people, like if you've got a criminal history or I think in some cases if you've declared bankruptcy (I think that's for sensitive financial jobs)...


Okay, makes sense. 




stephenheath said:


> Short term I think they will be quite significant for the Americans, as the US dollar is currently acting as the world reserve currency... but because they are willing to devalue their dollar by printing money, the other countries don't want to hold it anymore, so they're pushing to make changes. China especially is expanding the use of it's currency with it's trading partners so it doesn't pile up more USD. In the short term it will mean people aren't wanting to buy the USD for transactions, which will lower the value of the USD, which will make exports, especially oil, a lot more expensive for the Americans. Long term though it will make their imports a lot cheaper and maybe they can rectify the trade imbalance they've had for the last few decades.


How will this make the imports cheaper in the long term? Can you elaborate about their trade imbalance? I know that the U.S. is one of Canada's biggest trade partners but I don't think you're talking about that.


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## Robillard (Apr 11, 2009)

byron84 said:


> So what gives bonds their value? how does buying or selling a bond affect the money supply exactly? So the gov will issue a bond to the Bank of Canada which will in turn issue more paper currency? If paper currency have no factual value (debt instrument) then would this not also be true of bonds if they're being traded for one another?
> 
> 
> What exactly does a 30 year bond imply? Is this a kind of loan? Again what gives it the value and is it something that is "purchased" in a lump sum, in installments, or how does it otherwise function?


A bond is technically worth the present value of the stream of future payments (coupon payments and repayment of principal) that the borrower agrees to pay the investors. I would argue though that a bond, like money, is really only worth the value that its purchaser ascribes to it. The credit crisis has shown that investors have been willing to dump bonds of companies, even governments, with great credit ratings and great cash flow all on the basis of fear and uncertainty and doubt. 

The Bank of Canada influences the money supply by buying or selling government bonds from banks. This increases or decreases the money through the fractional reserve system. When the BoC sells bonds to banks, the banks have less cash to lend/invest elsewhere, which curtails the growth of the money supply. When the BoC buys bonds from banks, the banks receive cash and are free lend it out. The banks keep a small amount in reserve and lend the remaining cash to households or firms that need it. The borrowers in turn spend or deposit the funds, which in turn get re-lent and re-lent. This is how the money supply grows. The amount of growth in the money supply is inversely proportional to the percentage of reserves that banks are required to retain. If the reserve requirement is 5%, then $100 in bonds purchased from banks by the BoC will increase the money supply by about $2000. The BoC's intervention in this way is called "open market operations". Technically the government has the power to set the reserve requirement, which can increase or the money supply. In Canada, banks have no reserve requirement, but banks maintain reserves voluntarily in order to protect themselves in the event of a bank run or some other calamity. 

As for your other question, I think that is best done in a new thread. Look for a new thread I intend to entitle "Bond Basics".


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## stephenheath (Apr 3, 2009)

> How will this make the imports cheaper in the long term? Can you elaborate about their trade imbalance? I know that the U.S. is one of Canada's biggest trade partners but I don't think you're talking about that.


My apologies, that should read that it will make EXPORTS cheaper in the long term... in other words, last month it took $1.25 CDN to buy $1.00 USD, so if you had a shipment worth $1000.00 USD, you'd be paying $1,250 for it. Now the rate is 1.12, so it would only cost you $1,120 CDN. On the flip side, an American buying something that cost $1000.00 CDN would have paid $800.00 USD a month ago, and now has to pay $892.95 USD for the same good, making imports more expensive for americans, and american exports cheaper for foreigners. 

The trade imbalance is the overall total for all countries. If you take their Total Imports (the sum of the imports from every country in the world) and their Total Exports (the sum of everything they export outside the country), for their long term health it should be around zero. The problem is for ... 25, 30+ years, they've been importing more than exporting, which means their country has been getting poorer each year. For any other country, this would result in their currency getting lower and the other countries getting higher, which would automatically balance things, but a lot of foreign countries like China pegged their currency to the dollar to make sure it didn't fix itself. This causes China problems, because they're basically giving away their exports, but dictatorships can get away with it since their people don't have a say.


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