What’s Unique About Monetary Realism?

Monetary Realism has been influenced by many schools of thought, but also contributes a unique perspective, approach and contributions to the world of finance and economics.  In its simplest form, the MR approach is unique in that it just provides a set of understandings for others to analyze and build into their world view.

1.  MR is economics by market practitioners, not ivory tower theorists.

Monetary Realism was started by 4 non-economists.  Through our expertise in banking, law, futures markets and portfolio management we’ve found the views of economists severely lacking in the way they actually translate from the textbook to the real-world.  Monetary Realism, to a large extent, is an attempt to reframe the economics discussions so it reflects the real-world more accurately.  In this regard, we apply economics in a much more practical manner.

So much of economics is derived from policy analysts and ideologically driven views of the world.  For instance, most economists have a strict policy focus.  They utilize economics in order to promote a particular political view of the world backed by a specific set of policies.  Policy analysts, therefore, are often unfairly biased and conflicted in their economic analysis.  By focusing on economics as a practical tool for understanding the monetary system we are able to eliminate many of the biases and policy driven ideologies that lead to misleading conclusions.  MR, in a lot of ways, is economics by non-economists thereby providing a perspective of the monetary system that is more open-minded and flexible.  Most importantly, as Nassim Taleb would say, MRists have “skin in the game” and take great pride in being able to apply economics to the actual financial world in a useful and practical manner.  After all, if economics can’t be translated into accurately forecasting and understanding our monetary world then it’s not good for much – including policy.

Historically, some of the most important insights in economics came from outside of the profession.  JM Keynes, Wynne Godley, Adam Smith and Karl Marx were all market practitioners and not professional economists.  We think that can be expanded upon.  Economics is too important to be dominated by theorists and people who lack real-world experience.  It’s time for the market practitioner to take a more dominant role in developing economics.

2.  MR is designed to eliminate politics from economics using the Da Vinci Methodology.

We probably can’t completely eliminate politics from economics, but MR is based on attempting to understand the monetary system and the economy at its operational level as opposed to focusing on providing policy solutions like so many other economic schools.   So we focus on things that are verifiable.  For instance, how certain institutions are structured in specific monetary systems, how modern banking works, etc.  It’s all based on the view that a superior understanding of the money system comes from building an understanding of how the monetary “machine” works from the ground up.

We try, as best we can, not to provide prescriptive ideas and instead try to provide a set of understandings so that users of MR’s understandings can then decide on their own how best to implement policy.  We are not Keynesians, Monetarists, Austrians or any specific school at all.  MR is simply a set of understandings designed to describe the money system.

Economics tends to focus on how certain policies can solve problems.  I believe economists should adhere to a Da Vinci method.  That is, when Da Vinci studied the human body he did not focus so much on how to fix the body, but how it worked.  Economists focus too much time trying to fix the economy and not enough time building a set of principles that define how it works.  If more economists adhered to a Da Vinci method I think better solutions would necessarily arrive.

This is the primary strength of MR.  We don’t treat economics like it’s a religion.  Instead, we treat it like an evolving and changing science that requires flexibility and an open-minded approach.   As far as I know, there are few if any approaches to economics that provide this sort of approach.

3.  MR has a unique description of the way the monetary system actually works.  

MR took many of the understandings from post-Keynesian and other economic schools and then added a series of understandings on top of this to create a very unique view of the monetary system.  This results in a perspective and a set of understandings that are relatively unique.

For instance, we would never describe the government as a “money printer” despite the fact that most mainstream economists and laypeople do so.  The reason why is because we view money endogenously within the monetary system.  That is, the dominant form of money is created inside the banking system due to demand from its participants.   The government doesn’t actually create money at all.  It uses bank money.  So all government taxing and deficit spending is a redistribution of bank money.  Taxes take from Peter to pay Paul and deficit spending is the act of selling a bond (a net financial asset) to Peter so the government can spend Peter’s bank deposits into Paul’s account.  There is no actual “money printing” occurring in this process.  For more details please see here.

In building this view by understanding the historical and institutional design of the monetary system we construct a view from the inside out and take a unique view of the monetary system that is well outside of the way most mainstream economists would describe the system.

4.  MR’s unique understanding of money and banking.

MR uses a unique approach to understanding modern money.  As money is a central component of the monetary system it’s crucial to build a solid understanding of precisely what money is.  MR uses a specific description of money using a “scale of moneyness” with the focus on money as a medium of exchange.  This is entirely different than the standard orthodox and heterodox views of money in a vertical hierarchy.

This brings us to a central component of MR which is the banking system and what MR calls “inside money” (money that comes from inside the money system).  We focus primarily on modern banking because we view the money system as being dominated by banks.  Most modern money systems are comprised almost entirely of bank deposits that were created through the lending process.  So we build our understandings of money around this all important money as opposed to building government centric models like most other schools do (or worse, ignoring banking altogether).  This is an extremely unique way of viewing money as all outside money (which most economists focus on and design money multiplier or other reserve centric models around) becomes a purely facilitating form of money and not the center of the monetary universe.

MR has also developed the concept of “moneyness” to help better understand how we think about money and the way it fits into the financial puzzle.  The “scale of moneyness” is a totally unique and illuminating perspective on the financial assets we utilize in the monetary system.

See the following for more:

5.  Understanding the Institutional Design of the Monetary System

MR is largely about understanding the institutions within a specific monetary system.  We think many modern economists get this understanding wrong and end up placing certain institutions at a level of prominence that is misguided.  The most prominent example is the Federal Reserve.  While many economists and schools of thought focus on the Fed and its importance as a “money printer” or centrality to the reserve system, MR views the Fed as a facilitating entity to the banking system and an entity that merely serves as an intermediary to other intermediaries (the banks).  Therefore, it is misguided to overemphasize the importance of the Fed to the real economy when its primary purpose is secondary in nature.  You can read more on this here.

JKH’s Contingent Institutional Approach also provides a totally unique but sophisticated look at the current monetary arrangement and the actual design of our system.

6.  Quantity Value vs Acceptance Value.

Understanding why fiat money has any value at all is paramount to understanding the monetary system.  We break this down into two specific and clear definitions:

Acceptance value represents the public’s willingness to accept something as the nation’s unit of account and medium of exchange.  This is largely the result of government laws and infrastructures.

Quantity value describes the medium of exchange’s value in terms of purchasing power, inflation, exchange rates, production value, etc.  This is primarily the result of the quality of output produced by the total economy.

7.  Understanding fiat money’s linkages to viability

We build our understanding of fiat money’s viability based on the understanding that a monetary system exists primarily for the purpose of exchanging goods and services.  So the money system is inherently as good as the quality of its output.  We form the linkages of fiat money’s viability using that the value of any form of fiat money is ultimately derived from three key linkages:

1.  Output/Production

2.  Money Supply Management

3. Laws & Regulation

All of these linkages play key roles in maintaining a stable money system.

8.  MR is entirely open to other schools and their views of the money system.  

Because we focus primarily on operational realities we are very open to other schools of thought and their policy ideas and thoughts.  You’ll notice that MR appears as though it’s a mixture of many different schools and understandings.  That’s because it is!  This is the power of the unbiased operational view.  There is no such thing as a set of MR policy ideas or ideologies that must always be adhered to.  MRists understand that the monetary system is evolving and changing and that requires a flexible and open-minded approach to viewing the system.  You’ll often notice us agreeing with Austrian economists, Keynesians, Market Monetarists, etc.  One of the keys of the approach is to maintain an open-mind and open arms to other schools and their ideas.  No one has all the right answers and any school that sells you their message as though they do is likely peddling something more like an ideology and not an unbiased view of the world.

9.  S=I+(S-I) & The lead role of the private sector .

We break down Wynne Godley’s sectoral balances approach to provide a clearer understanding of the balance in the monetary system.  Through the equation S=I+(S-I) one can clearly begin to see why private investment plays such an important role in the economy.  A big part of MR is understanding the balance between agents in the economy.  The monetary system exists primarily so private agents can transact business in the pursuit of better living standards.  This is most often achieved when private agents are productive and providing goods and services that improve overall living standards.

Historically, we know that the economy has relied primarily on private investment for the expansion of this process.  So we try to present that reality in mathematical form by showing that private saving is driven by two pieces – private investment and government.  When you understand the balance of the equation you can begin to see how the private sector’s balance sheet is made up primarily of claims it has against itself in the form of things like common stocks, corporate bonds, loans, etc.  All of these assets and liabilities comprise parts of a massive balance sheet that expands and contracts primarily based on how productive the private sector is.  So the focus and balance should always emphasize the private sector and its lead role.

10.  The government plays a facilitating role in the economy.

Although we focus on the private sector we also understand the important role that the government plays in our lives.  MR is NOT an anti-government view of the world, but instead focuses on describe its current structure and role by understanding how it exists and how it has historically operated in our lives.

Unlike many other approaches, we don’t design a government centric view of the world.  You’ll notice that most other economic schools like the Keynesians, post-Keynesians and Monetarists all focus on the ways the government can implement policy.  We understand that the government plays an important policy role, but also like to emphasize that the government is primarily a facilitating agent in the monetary system.  If we think of the monetary system as a soccer field we might say that the private sector includes most of the players trying to score goals while the governments serves a role like a referee.  They determine laws, help support stability and integrity of the game, regulate the players and can have an enormous influence on the outcome of the game.  Government is an extremely powerful tool that can be leveraged by the private sector to help generate growth and sustain stable growth.  But it must be understood and harnessed correctly.

11.  The MR Law.

A big part of understanding the money system is about understanding living standards.  Most economists focus their policy ideas on full employment and price stability, but there is no guarantee that full employment and price stability are consistent with improving living standards.  You could easily determine full employment and price stability through a command economy approach where the government simply implements price controls and hires all the unemployed.  Of course, there’s no guarantee that would lead to improved living standards.  Therefore, we focus on the component of living standards that is consistent across almost all of human life – time.  The MR Law states:

“We generate improving living standards through the efficient use of resources resulting in the optimization of time”

This is not to imply that price stability and full employment are not important, but when one considers the monetary system we must consider the broader scope of all the factors that can impact overall living standards.  The MR Law helps bring a concise understanding to the role of output with respects to overall living standards.

12.  No two monetary systems are exactly the same.  

MR treats specific economic environments and monetary systems as their own unique situations.  You won’t find vague generalizations in MR implying that what’s true in one monetary system MUST be true in another monetary system.  This again highlights the flexibility of the MR approach to economics.  In order to understand the monetary system in a specific country or its economy you must start by understanding its specific institutional structures and environment.

Most of economics is a cookie cutter approach.  Schools too often imply that what works in one economy will automatically work in another.  A recent example is the Reinhart and Rogoff work on sovereign debt or the ECRI’s recession call.  MRists said both of these concepts were incorrect because they were not applied with the appropriate specifics necessary to understand the environment and the potential economic outcomes.

For more info, please see the following:

To obtain  a better understanding of Monetary Realism we recommend the following reading (some of which is quite advanced):

1.  Understanding The Modern Monetary System

2.  The “Dismal Science” and Getting Back to Da Vinci’s Methodology

3.  Understanding Inside & Outside Money

4.  Understanding Moneyness

5.  Credit IS Money

6.  The Disaggregation of Credit

7.  Where Does Cash Come From?  

8.  The Human Body, The Economy & The System of Flows

9.  Understanding the Fed’s Primary Purpose

10  JKH on Saving, Investment and S=I+(S-I)

11. The Treasury and Central Bank: A Contingent Institutional Approach

12.  Saving, stock/flow consistency and Kalecki

13.  Banking in the Abstract

14.  Some Simple Banking Examples



Got a comment or question about this post? Feel free to use the Ask Cullen section, leave a comment in the forum or send me a message on Twitter.
Cullen Roche

Cullen Roche

Mr. Roche is the Founder of Orcam Financial Group, LLC. Orcam is a financial services firm offering research, private advisory, institutional consulting and educational services. He is also the author of Pragmatic Capitalism: What Every Investor Needs to Understand About Money and Finance and Understanding the Modern Monetary System.

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  • LVG

    It’s the open-minded approach that is so refreshing. It doesn’t feel like a dogma or a cult. That’s about as unique as it gets.

  • SS

    Stop feeling like you have to justify yourself to the economist community. People are tired of economists. Very few of them understand the economy and 99% of them have been discredited in recent years.

    Personally, I’d love to see more practitioners dominate the financial arena. It’s time for more Moslers and Roches in the field and fewer Krugmans and Rogoffs.

  • JK

    Hey Cullen,

    Regarding “…if there was “even one insight” that was unique about MR that separated it from MMT or Post-Keynsian economics.”

    I respectfully think you missed the point of this question. It’s very clear that MR places different degrees of emphasis on different parts of the system when compared to MMT and Post-Keynesians, but I think the heart of the question has to do with MR’s ability to see, foresee, predict, explain, etc.

    Does the MR lens allow us to see, foresee, predict, explain, etc. anything that the MMT or Post-Keynsians cannot not? For example, any school of thought that uses IS-LM is clearly at a disadvantage in it’s ability see, foresee, predict, explain, etc. compared to MR.

    Is there any market phenomena that you think MR can see ,foresee, predict, explain, etc. that MMT and Post-Keynesians cannot?

    I think that is the heart of the question being asked on twitter. And I think it’s a very interesting question. Hope you do too!

  • http://orcamgroup.com Cullen Roche

    Most MMTers I read like Wray have been very very negative about the economy for years. I’ve been quite optimistic based on understanding MR and S=I+(S-I) in particular. They also all said the sequester would be a disaster which it hasn’t been at all. I think MMT has misled people into believing that the economy couldn’t drive itself without the deficits. And that is MMT’s big mistake in recent years. They misinterpreted the BSR as well and how the gradual improvement and automatic improvement in the deficit would be a result of pvt balance sheet improvement. So yeah, I think we have an advantage in interpreting the outcomes and I think it’s a big part of why my macro forecasts have been pretty accurate.

  • JK

    I should state I haven’t followed the twitter conversation. When I said “I think that is the heart of the question being asked on twitter.” I meant that’s what I think is the interesting part of the question as you wrote it.

    thanks for the response.

  • InvestorX

    A lot of people have missed the Kalecki equation for corporate profits.

  • Alex

    I find it ironic that you state that “monetary realism” is not political when it most certainly is by taking extremely political positions, such as your differentiation between inside money and outside money (terms you’ve invented) to essentially push the agenda that the banking system controls the money supply is by definition very very political. Its implications even more so.

    I used to read PragCap as a regular news feed for the quality financial and economic analysis of the markets but have grown tired with the MR spam. You guys are at risk of turning into Mish, who has turned what has been a useful blog into a niche crusade against public spending around the world.

    I’m afraid, this will be another otherwise good blog that I stop following. I’m not looking for your political views on the evils of fractional reserve system. There are dozens wing-nut right-wing conspiracy websites that publish hundreds of pages of “theories” to push that agenda.

  • Nils

    I find it ironic that you state that “monetary realism” is not political when it most certainly is by taking extremely political positions, such as your differentiation between inside money and outside money (terms you’ve invented) to essentially push the agenda that the banking system controls the money supply is by definition very very political. Its implications even more so.

    How is describing something the same as advancing an agenda?

  • Johnny Evers

    I don’t think you can avoid ‘politics’ which I would define as proposing solutions. After all, if you go to a doctor, you might be interested in his description of what’s wrong with you, but what you really want is a prescription or a course of action.
    For example, if we were to all agree that a fiscal stimulus is necessary, that’s when the fun really begins — what would be the best way to spend that stimulus?
    Another thing I’d like to see is more about the impact of non-financial things in the economy — education, culture, resources, other factors like that. For example, why is Turkey more prosperous than Egypt? Or what explains the success of South Korea? Or why do some immigrant groups do better than others? Or, should we do something about income inequality?
    Keep the focus on standard of living issues!

  • FrankH

    Banks issue almost all of the money. MRs focus on that isn’t political. Its grounded in reality. I also dont get the impression MRists are anti banking. In fact, I’ve seen Cullen say he’s agnostic to money controlled by the banks or the government.

    You should read more closely in the future.

  • Nils

    Most of us don’t have any political clout whatsoever, so it’s more an intellectual exercise (or mental masturbation if you prefer) to think about good policy.

    But most of us are trading securities, where an accurate view of the economy can come in quite handy.

  • Pierce Inverarity

    All of those questions are good ones but outside of the scope of this blog.

  • Alberto

    MR is still a closed loop system. Economy is a thermodynamical system, without considering it everything is just a partial view expecially now. Energy feeds the economy, money is the grease. You cannot made any assumptions about medium/long term evolution without a deep understanding of where we really are in term of energy costs and supply.

  • http://www.justaluckyfool.wordpress.com justaluckyfool

    Quote “Alex”:”I used to read PragCap as a regular news feed for the quality financial and economic analysis of the markets but have grown tired with the MR spam.”
    To you I would say, I wish you well.
    As “Justaluckyfool” , I would say to Cullen Roche,” ***** “Believe nothing merely because you have been told it…But whatsoever, after due examination and analysis,you find to be kind, conducive to the good, the benefit,the welfare of all beings – that doctrine believe and cling to,and take it as your guide.”- Buddha
    And thank you for allowing this site to be an instrument to help find that doctrine.

  • http://orcamgroup.com Cullen Roche

    You’re too kind! Thanks!

  • http://www.justaluckyfool.wordpress.com justaluckyfool

    Question: “Regarding “…if there was “even one insight” that was unique about MR that separated it from MMT or Post-Keynsian economics.”
    Answer:”…It’s built on many understandings from many different schools of thought. (read: what part of that do you not understand?) But most importantly, the MR approach is unique in that MR just provides a set of understandings for others to analyze and build into their world view. They might not be perfect or applicable to all systems (who could do that in a world where monetary systems are non-linear dynamical systems?), but it is a very unique way of thinking about the monetary system and trying to understand it.(read:what part of that do you not understand?)
    I think that the point may be “Who is the smartest person in the room?” Surely economist are in the same room as stock gurus (make a lot less) but most are correct some of the time; some are correct most of the time; but NONE are correct ALL the time.
    Please continue your “due examination” for the betterment of the common good.

  • HankB

    I think the biggest strength of MR is the fact that it exposes how the US government has outsourced its money creation powers to private bankers. To me, that was incredibly eye opening.

    I always thought the government was the creator of all money, but now I know better and feel much more informed about why we seem to depend on bankers so much. It’s eye opening and sad at the same time.

  • beowulf

    “such as your differentiation between inside money and outside money (terms you’ve invented) to essentially push the agenda that the banking system controls the money supply is by definition very very political.”

    Its Cullen’s time machine that’s his impressive invention. Its not an actual time machine, of course, it just allows him to easily insert terms he invented into old articles and books.

  • NedDR

    For me, the most empowering understanding in MR was the concept that taxes and deficit spending just redistribute existing bank money. I used to adhere to MMT so I thought taxes destroyed money. But now I know that taxes just redistribute money. So taxes aren’t all bad. And then deficits just redistribute money AND add the t-bond. So the t-bond just helps some rich guy trader on Wall Street earn more interest and the spending goes to someone else. Net, net, the rich guy wins. I don’t see how MMTers don’t recognize this all.

    Taxes aren’t bad. They just don’t help as much as deficits and deficits aren’t even that great because they subsidize rich bond holders!!!!

  • SS

    This is what Cullen is always pointing out to the dense MMT crowd. The whole system is built to subsidize the banks or their customers.

    If MMTers understood MR they’d have a better understanding of why the system doesn’t work for the little guy. But they’re clueless because they don’t want to annoy Mister Banker Warren Mosler.

  • http://orcamgroup.com Cullen Roche

    There’s a trade off. We have a market based money distribution system at present that inherently subsidizes banks and their clients. Is it better than a fully state run system? I don’t know. We seem to know that the current system has flaws, but we can’t be certain that a state run alternative would actually be better. But yes, the MMTers continually miss this point in what I believe is an effort to convince people that their current description is consistent with the prescriptive thinking. It’s not and none of them seem to realize it (otherwise they’d have to admit MMT is wrong).