## 1. Definitions

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### Context and purpose
- Paper bases subsequent examples and the ABM on nine definitions related to money and credit.
- First five definitions presented explicitly; sixth and seventh differentiate bank and nonbank lending (including centralized versus decentralized intermediation and a link to shadow banking); eighth specifies components of the total money stock used in examples; ninth relates to the notion of liquid funding.
- “At par” defined as the initial nominal value that a money holder deposited on a bank’s deposit account, that is, without it being at risk of fluctuations in that nominal value.
- Emphasizes system-perspective distinction: bank lending (money creation) versus nonbank lending (intermediation); notes common usage of “disintermediation” is misleading.

### Box 1 — Definitions (1–5)
- Definition 1: Money.
  - Any medium commonly considered by a sufficient portion of the population to have these three properties: (1) store of value; (2) unit of account; and (3) medium of exchange.
- Definition 2: Legal money.
  - A medium prescribed to be money by laws and regulations; tangible criterion: whether a medium can be used to pay taxes.
- Definition 3: Commercial bank money.
  - The portion of the total money stock that nonbank agents hold in the form of electronic bank deposits; swapping between deposits and cash leaves system-wide money stocks unchanged.
- Definition 4: Bank.
  - A firm whose liabilities consist at least in part of legal money (Definition 2) for other economic agents, conceived redeemable at par at all times.
- Definition 5: Nonbank financial firms.
  - Firms that collect and channel existing money stocks of fund providers; invested amounts may not be retrievable at par and thus do not serve the three functions of money while invested.

### System implications highlighted
- Bank lending creates system-wide money stocks upon creation of debt; bank loan repayments destroy system-wide money stocks accordingly.
- Nonbank lending does not increase system-wide money stocks upon creation of debt (and likewise does not decrease them through repayment in the nonbank category).
- Authors equate nonbank lending with shadow banking and reference the FSB definition: a “system of credit intermediation that involves entities and activities fully or partially outside the regular banking system.”
- Nonbank agents include households; nonfinancial firms; nonbank financial firms (pension funds, insurance companies, investment funds, MMFs, hedge funds, captive financial institutions, money lenders, broker-dealers, structured finance vehicles, trust companies, REITs); and state governments.
- Emphasizes that “disintermediation” is misleading: bank lending = money creation; nonbank lending = intermediation.

### Box 1 — Definitions (6–9)
- Definition 6: Bank lending.
  - Banks create a deposit (money) through granting a loan; bank lending increases total money stocks; bank loan repayments destroy total money stocks.
- Definition 7: Nonbank lending (= shadow bank lending).
  - An agent passes existing legal money stocks to another agent via a debt contract that stipulates future repayment.
- Definition 7a: Nonbank lending through centralized nonbank financial institutions.
  - Examples: peer-to-peer lending, investment funds, hedge funds, trust companies.
- Definition 7b: Nonbank lending through decentralized primary bond markets.
  - Examples: primary corporate and sovereign bond markets; secondary bond markets allow exchange of existing bond contracts and associated future principal and interest flows.
- Definition 8: Components of the total money stock.
  - (1) Commercial bank money (in examples: deposits).
  - (2) Central bank money: central bank liabilities socially accepted as money and not held as an asset by a bank (in examples: cash not held by banks, government reserves).
  - (3) Nonbank money: socially accepted money not included in (1) or (2).
- Definition 9: Liquid funding needs.
  - Commercial banks’ need to hold reserves at central bank accounts for cross-bank settlement of customer deposits; can be satisfied by:
    - (1) receiving existing deposits (liability side) along with reserves (asset side) from other banks;
    - (2) borrowing through money markets from other banks;
    - (3) borrowing from the central bank.

### Balance sheet initialization and loan mechanics (Sections IV.A–B)
- Initialization example:
  - Private sector and banks endowed with physical cash (central bank money); central bank receives assets in exchange for currency so it starts with zero equity (alternative: distribute currency without assets and start with negative equity).
  - Example booking statements and balance sheets after initialization show total money of 100 units of central bank money in that example.
  - Figure 2 example balances (as booking statements):
    - Bank: Cash 50 (Debit) | Equity 50 (Credit)
    - Private Agent: Cash 100 (Debit) | Equity 100 (Credit)
    - Central Bank: Assets 150 (Debit) | Cash 150 (Credit)
- Granting loans:
  - Loan creation implies deposit creation; deposits may not initially be backed by a granting bank’s central bank reserves and so may not be “liquid” for cross-bank transfer.
  - Bank options to obtain reserves for cross-bank transfer of a newly created deposit:
    - borrow reserves from other banks via interbank market;
    - incentivize depositors of other banks to move deposits (and accompanying reserves) to itself;
    - borrow reserves from the central bank.
  - Example (Figure 3) grows total money stock from 50 to 150 units (all commercial bank money) through loan creation. Booking statements include:
    - Bank (1) Reserves 100 (Debit) | Equity 50 (Credit) | Deposits 50 (Credit)
    - Private Agent (1) Deposits 50 (Debit) | Equity 50 (Credit)
    - Central Bank (1) Assets 100 (Debit) | Reserves 100 (Credit)
    - Bank (2) Loans 100 (Debit) | Deposits 100 (Credit)
    - Private Agent (2) Deposits 100 (Debit) | Loans 100 (Credit)
- Interest flows:
  - Loan interest yields bank income; deposit interest is an expense; net interest income adds to bank residual equity without changing consolidated balance sheet size.
  - Interest expense on central bank borrowing reduces consolidated reserve stock (all else equal); remuneration on reserves increases reserve stocks.
  - Central bank interest payments on reserves do not affect broad monetary aggregates since reserves are not included by definition.

### Bank vs nonbank lending and securitization (Sections IV.C–D)
- Nonbank lending (primary sovereign bond auction example, Figure 4):
  - Nonbank lending does not change total money stocks; it reallocates existing monetary funds.
  - Example: household uses deposits to buy government bonds; total money stock remains constant (example shows 200 units of commercial bank money throughout).
  - Booking statements example:
    - Bank (1) Reserves 200 (Debit) | Deposits 200 (Credit)
    - Private Agent (1) Deposits 200 (Debit) | Equity 200 (Credit)
    - Bank (2) Deposits 100 (Debit) | Gov. Deposits 100 (Credit)
    - Private Agent (2) Gov. Bonds 100 (Debit) | Deposits 100 (Credit)
    - Government (1) Deposits 100 (Debit) | Bonds 100 (Credit)
  - Purchase of bonds issued by banks can temporarily destroy money; bond repayment feeds money back; interest on top of principal can increase money stock beyond pre-issuance levels.
  - Lending to sovereign by banks increases sovereign–bank solvency nexus and ties banking system solvency more tightly to sovereign risk.
- Securitization (Figure 5):
  - Purchase of loans through securitization implies destruction of money stocks because purchase price is paid in bank money which is destroyed.
  - This destruction follows prior creation of money through loans; if securitization occurs fully (assumed 100 percent in the example), provision of bank credit becomes equivalent to nonbank intermediation.
  - Example booking statements and balances:
    - Initial total money stock: 200 units (100 loan-backed deposit + 100 fund deposits).
    - Bank (1) Reserves 100 (Debit) | Wholesale Deposits 100 (Credit); Loans 100 (Debit) | Retail Deposits 100 (Credit)
    - Fund (1) Deposits 100 (Debit) | Equity 100 (Credit)
    - Household (1) Deposits 100 (Debit) | Loans 100 (Credit)
    - Bank (2) Asset-Backed Securities 100 (Debit) | Retail Deposits 100 (Credit)
    - Bank (3) Wholesale Deposits 100 (Debit) | Asset-Backed Securities 100 (Credit)
    - Fund (2) Asset-Backed Sec. 100 (Debit) | Deposits 100 (Credit)
  - The amount of money destroyed equals the purchase price of securitized loans, which need not equal the original loan principal.

### Agent-Based Model (ABM) simulation (Section V)
- Purpose: illustrate how banks unconstrained in money creation can face liquid funding shortfalls even when the central bank is willing to refinance unconditionally.
- Model composition:
  - One central bank (CB), b = 1,...,B commercial banks, n = 1,...,N private sector agents.
  - No physical cash; all money held electronically in deposit accounts at B banks.
  - Private agents act as consumers and firms; each private agent permanently assigned to one bank.
  - Initial balance sheets drawn randomly and cross-consistent; private sector money stocks drawn from a uniform distribution.
- Dynamics and processes:
  - Random spending process: each period private agents receive a random spending signal (uniform draw compared to a threshold “spending propensity”); spending flows are uniform random set as a percentage of money holdings (“spending fraction”).
  - Cross-bank net settlement: banks compute net deposit transfer needs (sum to zero system-wide). If a bank’s liquid funding needs exceed available reserves at CB account, it borrows residual reserves from CB. In the model, banks cannot borrow from other banks nor incentivize deposit transfers.
  - Random loan creation: banks receive random loan-granting signals (uniform draw vs. “loan granting propensity”) to create uncollateralized credit at an endogenous loan interest rate i.
  - Bank expenses limited to CB reserve borrowing at rate r; deposits carry zero assumed expense. Policy rate follows a white noise Normal process.
- Abstractions and limitations (intentional):
  - No defaults; no money market; CB standing facility used when reserves unavailable; no explicit consumption/investment split; profit margins set to zero; stylized and not meant for empirical fitting.

### Baseline simulation parameterization and outcomes
- Baseline: B = 30 banks, N = 500 private agents, T = 600 periods.
- Parameters: spending propensity set to 25 percent; spending fraction set to 50 percent; loan granting probability set to 75 percent.
- Policy rate: white noise Normal with mean of 2 percent and standard deviation of 1 p.p.
- Results (summarized):
  - Reducing the number of banks lowers monotonically:
    - the CB funding over bank equity ratio,
    - the percentage of banks pulling CB reserves,
    - the loan interest rate.
  - Policy rate remains at a mean of 2 percent with stochastic fluctuation.
  - Aggregate banking system and private sector balance sheet sizes, spending frequencies, spending flows, loan flows, and loan stocks remain unaffected by number of banks.
  - Correlation between policy rate and loan interest rate falls to zero as number of banks decreases.
- Simulation experiment details:
  - Figure 9 uses 500 simulation rounds, each for 300 periods forward in time; blue lines depict medians, gray lines 25th/75th percentiles.
- Interpretation caveat:
  - Paper does not claim loan rates would fall to zero in reality with fewer banks due to omitted competition effects; profit margins could counteract the mechanical effect. Main robust conclusion is the vanishing correlation of policy rates with loan interest rates under compression of the number of banks.

### Central Bank Digital Currency (CBDC) (Section VI)
- Retail CBDC would allow private sector agents’ money holdings to be held as electronic central bank liabilities.
- Risks:
  - Unregulated CBDC introduction risks a cliff-effect and electronic bank runs: in crises private agents may shift from bank deposits to CBDC despite higher deposit rates, causing liquidity shortages for banks.
  - Deposit insurance mitigates run risk in current system but may be less effective when a convenient CBDC alternative exists.
- Policy and regulatory mitigants:
  - Sovereign can restrict CBDC use as social money (Definition 1) via:
    - stock constraints (limits on how much CBDC an individual can hold) to curb store-of-value use;
    - flow constraints (limits on transaction volumes) to reduce medium-of-payment use and make CBDC more like physical cash.
  - Conventional tools:
    - CBDC deposit interest rate can manage desirability relative to bank deposits; negative rates are feasible.
    - Small interest-rate differences may be insufficient to prevent runs.
    - Central bank has in principle unlimited refinancing capacity but may be constrained by its mandate; refinancing may not save insolvent banks hit by runs.

### CBDC-denoted lending implementations
- 10a: Bank-Originated Lending Denoted in CBDC
  - Banks obtain CBDC from the central bank and pass it on to private sector agents in exchange for a loan; lending resembles a loanable funds process, or a 100 percent reserve system, depending on interpretation.
  - Money creation at the system level still occurs if banks’ own CBDC holdings are not counted as money.
  - Example booking statements:
    - Bank (1) CBDC 100  Equity 100
    - Central Bank (1) Assets 100  CBDC 100
    - Bank (2) Loans 50  CBDC 50
    - Private Agent (1) CBDC 50  Loans 50
- 10b: Loans Originated on the Central Bank Balance Sheet
  - Central bank grants loans directly to private sector agents; commercial banks can subsequently purchase the loans from the central bank.
  - If commercial bank commits to purchase before loan is granted, bank effectively screens and monitors debtors; commercial banks act as an “operating arm” of the central bank.
  - Central bank bears credit risk until transfer to the commercial bank is complete; implies specific settlement risk.
  - Example booking statements:
    - Bank (1) CBDC 100  Equity 100
    - Central Bank (1) Assets 100  CBDC 100
    - Central Bank (2) Loans 50  CBDC 50
    - Private Agent (1) CDBC 50  Loans 50
    - Central Bank (3) CBDC 50  Loans 50
    - Bank (2) Loans 50  CBDC 50

### Transition paths to a full-money (100 percent CBDC reserve) system
- Three ways a 100 percent CBDC reserve system can come into existence:
  - Imposed by a central bank requiring loans in commercial bank deposit form to be backed 100 percent by central bank reserves (CBDC).
  - By granting loans in CBDC on the central bank balance sheet immediately.
  - When private sector agents choose to shift virtually all their commercial bank deposits to CBDC accounts.
- Notes:
  - First two cases are imposed transitions; the third can occur without regulator intention.
  - If risks are well managed, CBDC is a viable option to switch the economy to a “full money” system.
  - Poorly managed transition could induce serious unintended consequences.
  - Removing private banks’ money creation ability may offer potential benefits (reference to Chicago plan), but detailed pro and contra arguments are beyond paper’s scope.

### Key conclusions on money creation, liquidity, and monetary policy
- Money creation and liquid funding needs coexist.
  - Liquid funding needs (commercial banks’ reserves at central bank accounts) are relevant to back payment transfers in a multi-bank system.
  - Liquid funding needs do not negate that banks create deposits and hence money ”out of nothing” upon creation of loans.
- Thought experiment: singular banking system (one bank, absence of physical cash)
  - In that case, liquid funding needs would cease to exist.
  - Central bank would lose its handle via conventional interest-rate-based monetary policy instruments over bank funding costs, bank loan interest rates, and macroeconomic conditions.
  - Central banks may still influence macro-financial dynamics through macroprudential policies.
- Disappearance of physical cash does not imply reduced bearing of monetary policy on economic dynamics; disappearance of cash is not an argument for CBDCs from that perspective.
- Lending process design questions:
  - How loans would be granted in a system with a CBDC parallel to commercial bank money requires detailed exploration.
  - A 100 percent backing of loans by digital CBDC, if implemented, would imply an implementation of the Chicago plan as considered in the 1930s.
  - Shift to full money would mark a highly significant change to financial system structure.
- Role of pure financial intermediaries:
  - Pure intermediaries’ lending potential is bound by standing money stocks not required for transactions (savings), whereas banks’ lending implies money creation and is more elastic, limited by regulatory requirements and demand.
- Government financing modality:
  - Merits of financing government expenditures based on bank loans as opposed to bonds warrant deeper research.
  - Bond finance may imply crowding-out effects via intermediation; bank loan-based financing (money creation) would not.
  - Stronger sovereign-bank nexus from bank lending to government is a potential concern.

### ABM — Pseudo code summary and model mechanics (key steps and parameter sensitivities)
- Initialization (Step A):
  - Money stocks drawn from a uniform distribution and assigned to N private agents.
  - Private agents assigned in equal shares to B banks (house banks).
  - Deposit stocks set to sum of depositors’ money stocks and set equal to banks’ liquid reserve stock.
  - At t=0, ∑ reserves = ∑ deposits = ∑ money stocks. No outstanding loan stocks L.
- Recursive simulation steps (t=1,...,T): Steps B (spending), C (cross-bank transfers), D (loan creation)
  - Step B: Spending
    - [B.1] Private agents receive a signal to spend if a uniform random draw > spending propensity SP; if positive, spend uniform random fraction SF of current money holdings.
    - [B.2] Spending partners assigned randomly each period.
    - [B.3] Spending agents inform house bank how much to transfer; recipients’ deposit accounts may be at same or other banks (if B>1).
  - Step C: Cross-bank transfers
    - [C.1] Banks compute net transfer needs; ∑ net transfers = 0.
    - [C.2] Banks compare net transfer need with reserve stocks; banks with deficit borrow the shortfall from CB, added to reserves and CB funding stock F on liability side.
    - [C.3] Cross-bank transfers settled.
    - [C.4] Banks pay interest expense on outstanding CB balance at current policy rate, subtracting from reserves but not from deposits, reducing residual equity momentarily.
    - [C.5] Banks with excess reserves pay off minimum of excess and reserves.
  - Step D: Loan creation
    - [D.1] Banks get loan-granting signal with probability LP for subset of non-loan-holding depositors; if granted, principal drawn from uniform distribution and added to loan stock L and deposit stock D (money creation).
    - [D.2] Banks set loan interest rate for loans granted in t-1 to cover CB funding expense in t, making business net equity neutral.
    - [D.3] Loan-holding agents repay principal and interest for loans granted in t-1; principal repayment reduces L and D (money destruction); interest payment reduces D but not reserves (deposit–bank equity swap).
    - Loan rate for loans granted in t is set in t+1 (variable loan interest rate regime).
    - If agents cannot service annuity, they pause one period and receive a “spending block” to increase likelihood of repayment; delinquencies not defaults; banks do not face write-off losses by design.
    - Zero spread between loan interest rates and weighted average cost of funding because there is no credit risk and expected losses are zero by design.
- Model parameter sensitivities (Table A summary — qualitative effects)
  - Varying four parameters: spending propensity (SP), spending fraction (SF), loan granting probability (LP), number of banks (#B).
  - Representative qualitative matrix lines preserved (symbols indicate direction of effect):
    - Reserve stock [R] 0000
    - Loan stock [L] 0110
    - Deposit stock [D] 0000
    - Central bank funding stock [F] -1111
    - Residual equity stock [E] 0111
    - R/(L+R) 0-1-1 0
    - L/D 0110
    - E/(L+R) 0111
    - F/E -1111
    - F/(L+R) -1111
    - % of banks pulling F -1111
    - Money holdings [M] 0000
    - (M-L)/M 0-1-1 0
    - spending flows 1100
    - % of agents spending 0-1 1 0
    - % of agents with spending block 0-1 -1 0
    - Loan interest rates -1111
    - % of agents receiving new loans 0-1 1 0
    - New loan flows 0-1 1 0
    - Principal repayment flows 0-1 1 0
    - Interest payment flows -1111

### Appendix II — selected quotations supporting endogenous money view
- Core proposition: banks create money (selected quotations from Schumpeter 1912; Rogers 1929; Keynes 1930; Wicksell 1935; Towers 1939; Culbertson 1958; Smith 1959; Minsky 1960, 1975, 1986; Turner 2013).
- Mechanics and operational details: Holmes 1969; Moore 1979; Federal Reserve Bank of Chicago 1994; Sheard 2013.
- Central bank operations and endogeneity: King 1994; White 2002; Dudley 2009; European Central Bank 2011, 2012; Bindseil 2004; Disyatat 2010; Demiralp and Carpenter 2012.
- Critical appraisals and pedagogy: Friedman 1971; Kydland and Prescott 1990; Goodhart 2007, 2010; Borio 2012; King 2012; Tucker 2007; Freedman 2010.

*Source: wpiea2019285-print-pdf*

### 1. Definitions_______________________________________________________________9

### 1. Definitions

### Context and purpose
- The paper bases subsequent examples and the ABM on nine definitions related to money and credit.
- The first five definitions are presented explicitly; the sixth and seventh differentiate bank and nonbank lending (including centralized versus decentralized intermediation and a link to shadow banking); the eighth specifies components of the total money stock used in examples; the ninth relates to the notion of liquid funding.
- The notion of “at par” is defined: the initial nominal value that a money holder deposited on a bank’s deposit account, that is, without it being at risk of fluctuations in that nominal value.
- The paper emphasizes the system-perspective distinction: bank lending (money creation) versus nonbank lending (intermediation), and notes that the term “disintermediation” is misleading in common usage.

### Key concepts emphasized in the text
- Money is defined by three functions: store of value, unit of account, and medium of exchange.
- Legal money (fiat/legal tender) is characterized by being prescribed by laws and regulations and, tangibly, by the ability to pay taxes.
- Commercial bank money is the portion of the total money stock that nonbank agents hold in electronic bank deposits; swapping between deposits and cash leaves system-wide money stocks unchanged.
- A bank is defined as a firm whose liabilities consist at least in part of legal money for other economic agents, conceived redeemable at par at all times.
- Nonbank financial firms collect and channel existing money stocks of fund providers; invested amounts may not be retrievable at par and thus do not serve the three functions of money while invested.

### Box 1 — Definitions (as stated)
- Definition 1: Money.
  - Any medium commonly considered by a sufficient portion of the population to have these three properties: (1) store of value; (2) unit of account; and (3) medium of exchange. This is a social definition hinging on agents’ acceptance of a given medium as money.
- Definition 2: Legal money.
  - A medium prescribed to be money by laws and regulations. The most tangible criterion is whether a medium can be used to pay taxes. The term may be used synonymously with “fiat money” and “legal tender.”
- Definition 3: Commercial bank money.
  - The portion of the total money stock that nonbank agents hold in the form of electronic bank deposits. Nonbank agents can “swap” commercial bank money into physical cash back and forth (equivalently transfer funds electronically across banks), leaving system-wide money stocks unchanged.
- Definition 4: Bank.
  - A firm whose liabilities consist at least in part of legal money (Definition 2) for other economic agents, who conceive these holdings to be redeemable at par value at all times, to serve the functions of money as outlined under Definition 1.
- Definition 5: Nonbank financial firms.
  - Firms that collect and channel on the existing money stocks of other economic agents who serve as “fund providers.” Such fund providers’ invested amounts of money may not be retrievable at par, may be subject to market risk and require a secondary market to redeem, and hence do not serve the functions of money (Definition 1) while being invested.

### System implications highlighted
- Bank lending creates system-wide money stocks upon the creation of debt; nonbank lending does not increase system-wide money stocks upon creation of debt (and likewise decrease and do not decrease through repayment in the two categories).
- The authors equate their notion of nonbank lending with shadow banking and reference the FSB definition: a “system of credit intermediation that involves entities and activities fully or partially outside the regular banking system.”
- Nonbank agents include households; nonfinancial firms; nonbank financial firms such as pension funds, insurance companies, investment funds, etc.; and state governments (both central and local). Nonbank financial institutions include MMFs, investment funds, hedge funds, captive financial institutions and money lenders, broker-dealers, structured finance vehicles, trust companies, and REITs.
- The paper stresses that “disintermediation” is a misleading term given that bank lending is money creation (not intermediation) while nonbank lending is pure intermediation.

*Source: wpiea2019285-print-pdf - 1. Definitions_______________________________________________________________9*

### Box 1. Definitions (concluded)

### Box 1. Definitions (concluded)

### Definitions (6–9)
- Definition 6: Bank lending — banks (Definition 4) create a deposit (money) through granting a loan. Bank lending increases total money stocks; bank loan repayments destroy total money stocks accordingly.
- Definition 7: Nonbank lending (= shadow bank lending) — an economic agent passes existing legal money stocks on to another agent (subtracting from its own money holding and adding to another’s) through a debt contract that stipulates repayment in the future.
- Definition 7a: Nonbank lending through centralized nonbank financial institutions — the nonbank lending process (Definition 7) carried out by nonbank financial firms (Definition 5).
  - Examples include peer-to-peer lending, investment funds, hedge funds, trust companies, etc.
- Definition 7b: Nonbank lending through decentralized primary bond markets — the nonbank lending process (Definition 7) through decentralized primary bond market issuances of debt that collect multiple lenders’ existing funds to channel them to one borrower.
  - Examples include primary corporate and sovereign bond markets; secondary bond markets allow exchange of existing bond contracts and associated future principal and interest flows.
- Definition 8: Components of the total money stock — total money is the combined value of all units falling under Definition 1 and consists of:
  - (1) Commercial bank money (Definition 3); in examples: deposits.
  - (2) Central bank money: central bank liabilities that are socially accepted money and that are not held as an asset by a bank; in examples: cash not held by banks, government reserves.
  - (3) Nonbank money: all forms of socially accepted money not included in (1) or (2).
- Definition 9: Liquid funding needs — commercial banks’ need to hold reserves at their central bank accounts for cross-bank settlement of customer deposits. From an individual bank perspective, liquid funding needs can be satisfied in three ways:
  - (1) by receiving existing deposits (liability side) along with reserves (asset side) from other banks;
  - (2) by borrowing them through money markets from other banks;
  - (3) by borrowing them from the central bank.

Notes:
- Banks’ central bank reserves are not part of broad money because reserves are used only to back cross-bank transfers between nonbank public deposit accounts.
- The prevalence of the “deceived intermediation” view is associated with the first option above (the pull of existing deposits along with reserves).
- The definition aligns with IMF GFSR (2008) funding liquidity notion: “funding liquidity is the ability of a solvent institution to make agreed-upon payments in a timely fashion,” which requires reserves.

### Balance sheet initialization and loan mechanics (Sections IV.A–B)
- Initialization example:
  - Both private sector and bank agents endowed with physical cash (central bank money); central bank receives assets in exchange for currency so it starts with zero equity (alternative: could distribute currency without assets and start with negative equity).
  - Example booking statements and resulting balance sheets after initialization show total money of 100 units of central bank money in that example.
  - Figure 2 example balances (as booking statements):
    - Bank: Cash 50 (Debit) | Equity 50 (Credit)
    - Private Agent: Cash 100 (Debit) | Equity 100 (Credit)
    - Central Bank: Assets 150 (Debit) | Cash 150 (Credit)
- Granting loans:
  - Loan creation implies deposit creation; deposits may not initially be backed by central bank reserves of the granting bank and so may not be “liquid” for cross-bank transfer.
  - Bank options to obtain reserves for cross-bank transfer of a newly created deposit:
    - borrow reserves from other banks via interbank market;
    - incentivize depositors of other banks to move deposits (and accompanying reserves) to itself;
    - borrow reserves from the central bank.
  - Example (Figure 3) grows total money stock from 50 to 150 units (all commercial bank money) through loan creation. Booking statements include:
    - Bank (1) Reserves 100 (Debit) | Equity 50 (Credit) | Deposits 50 (Credit)
    - Private Agent (1) Deposits 50 (Debit) | Equity 50 (Credit)
    - Central Bank (1) Assets 100 (Debit) | Reserves 100 (Credit)
    - Bank (2) Loans 100 (Debit) | Deposits 100 (Credit)
    - Private Agent (2) Deposits 100 (Debit) | Loans 100 (Credit)
- Interest flows:
  - Loan interest yields bank income; deposit interest is an expense; net interest income adds to bank residual equity without changing consolidated balance sheet size.
  - Interest expense on central bank borrowing reduces consolidated reserve stock (all else equal); remuneration on reserves increases reserve stocks.
  - Central bank interest payments on reserves do not affect broad monetary aggregates since reserves are not included by definition.

### Bank vs nonbank lending and securitization (Sections IV.C–D)
- Nonbank lending (primary sovereign bond auction example, Figure 4):
  - Nonbank lending does not change total money stocks; it reallocates existing monetary funds.
  - Example: household uses deposits to buy government bonds; total money stock remains constant (example shows 200 units of commercial bank money throughout).
  - Booking statements example:
    - Bank (1) Reserves 200 (Debit) | Deposits 200 (Credit)
    - Private Agent (1) Deposits 200 (Debit) | Equity 200 (Credit)
    - Bank (2) Deposits 100 (Debit) | Gov. Deposits 100 (Credit)
    - Private Agent (2) Gov. Bonds 100 (Debit) | Deposits 100 (Credit)
    - Government (1) Deposits 100 (Debit) | Bonds 100 (Credit)
  - Purchase of bonds issued by banks can temporarily destroy money; bond repayment feeds money back; interest on top of principal can increase money stock beyond pre-issuance levels.
  - Lending to sovereign by banks increases sovereign–bank solvency nexus and ties banking system solvency more tightly to sovereign risk.
- Securitization (Figure 5):
  - Purchase of loans through securitization implies destruction of money stocks because purchase price is paid in bank money which is destroyed.
  - This destruction follows the prior creation of money through loans; if securitization occurs fully (assumed 100 percent in the example), provision of bank credit becomes equivalent to nonbank intermediation.
  - Example booking statements and balances:
    - Initial total money stock: 200 units (100 loan-backed deposit + 100 fund deposits).
    - Bank (1) Reserves 100 (Debit) | Wholesale Deposits 100 (Credit); Loans 100 (Debit) | Retail Deposits 100 (Credit)
    - Fund (1) Deposits 100 (Debit) | Equity 100 (Credit)
    - Household (1) Deposits 100 (Debit) | Loans 100 (Credit)
    - Bank (2) Asset-Backed Securities 100 (Debit) | Retail Deposits 100 (Credit)
    - Bank (3) Wholesale Deposits 100 (Debit) | Asset-Backed Securities 100 (Credit)
    - Fund (2) Asset-Backed Sec. 100 (Debit) | Deposits 100 (Credit)
  - The amount of money destroyed equals the purchase price of securitized loans, which need not equal the original loan principal.

### Agent-Based Model (ABM) simulation (Section V)
- Model purpose: illustrate how banks unconstrained in money creation can face liquid funding shortfalls even when the central bank is willing to refinance unconditionally.
- Model composition:
  - One central bank (CB), b = 1,...,B commercial banks, n = 1,...,N private sector agents.
  - No physical cash; all money held electronically in deposit accounts at B banks.
  - Private agents act as consumers and firms; each private agent permanently assigned to one bank.
  - Initial balance sheets drawn randomly and cross-consistent; private sector money stocks drawn from a uniform distribution.
- Dynamics and processes:
  - Random spending process: each period private agents receive a random spending signal (uniform draw compared to a threshold “spending propensity”); spending flows are uniform random set as a percentage of money holdings (“spending fraction”).
  - Cross-bank net settlement: banks compute net deposit transfer needs (sum to zero system-wide). If a bank’s liquid funding needs exceed available reserves at CB account, it borrows residual reserves from CB. In the model, banks cannot borrow from other banks nor incentivize deposit transfers.
  - Random loan creation: banks receive random loan-granting signals (uniform draw vs. “loan granting propensity”) to create uncollateralized credit at an endogenous loan interest rate i.
  - Bank expenses limited to CB reserve borrowing at rate r; deposits carry zero assumed expense. Policy rate follows a white noise Normal process.
- Model abstractions and limitations (intentional):
  - No defaults; no money market; CB standing facility used when reserves unavailable; no explicit consumption/investment split; profit margins set to zero; stylized and not meant for empirical fitting.
- Baseline simulation parameterization and outcomes:
  - Baseline: B = 30 banks, N = 500 private agents, T = 600 periods.
  - Parameters: spending propensity set to 25 percent; spending fraction set to 50 percent; loan granting probability set to 75 percent.
  - Policy rate: white noise Normal with mean of 2 percent and standard deviation of 1 p.p.
  - Results summarized in Figures 7–9:
    - Reducing the number of banks lowers monotonically:
      - the CB funding over bank equity ratio,
      - the percentage of banks pulling CB reserves,
      - the loan interest rate.
    - Policy rate remains at a mean of 2 percent with stochastic fluctuation.
    - Aggregate banking system and private sector balance sheet sizes, spending frequencies, spending flows, loan flows, and loan stocks remain unaffected by number of banks.
    - Correlation between policy rate and loan interest rate falls to zero as number of banks decreases.
  - Simulation experiment details:
    - Figure 9 uses 500 simulation rounds, each for 300 periods forward in time; blue lines depict medians, gray lines 25th/75th percentiles.
  - Model interpretation caveat:
    - The paper does not claim loan rates would fall to zero in reality with fewer banks due to omitted competition effects; profit margins could counteract the mechanical effect. The main robust conclusion is the vanishing correlation of policy rates with loan interest rates under compression of the number of banks.

### Central Bank Digital Currency (CBDC) (Section VI)
- Retail CBDC would allow private sector agents’ money holdings to be held as electronic central bank liabilities (commercial banks have held electronic central bank reserves for decades).
- Risks:
  - Unregulated CBDC introduction risks a cliff-effect and electronic bank runs: in crises private agents may shift from bank deposits to CBDC despite higher deposit rates, causing liquidity shortages for banks.
  - Deposit insurance mitigates run risk in current system but may be less effective when a convenient CBDC alternative exists.
- Policy and regulatory mitigants:
  - Sovereign can restrict CBDC use as social money (Definition 1) via:
    - stock constraints (limits on how much CBDC an individual can hold) to curb store-of-value use;
    - flow constraints (limits on transaction volumes) to reduce medium-of-payment use and make CBDC more like physical cash.
  - Conventional tools:
    - CBDC deposit interest rate can manage desirability relative to bank deposits; negative rates are feasible.
    - Small interest-rate differences may be insufficient to prevent runs.
    - Central bank has in principle unlimited refinancing capacity but may be constrained by its mandate; refinancing may not save insolvent banks hit by runs.
- References to further reading in the source (selected entries cited in text).

*Source: wpiea2019285-print-pdf - Box 1. Definitions (concluded) — IMF working paper content provided.*

### 0.6 percent for Canada and 1.6 percent for the United States. Engert and Fung (2017) argue, among other points,

### wpiea2019285-print-pdf - 0.6 percent for Canada and 1.6 percent for the United States. Engert and Fung (2017) argue, among other points,

### CBDC-denoted lending implementations
- Two possible implementations of lending denoted in CBDC are presented (Figure 10):
  - 10a: Bank-Originated Lending Denoted in CBDC
    - Description:
      - Banks obtain CBDC from the central bank and pass it on to private sector agents in exchange for a loan.
      - Lending resembles a loanable funds process, or a 100 percent reserve system, depending on interpretation.
      - Money creation at the system level still occurs if banks’ own CBDC holdings are not counted as money.
      - The CBDC holding of the bank could be used directly as a means of payments by the bank (unlike its reserve holdings at a central bank currently).
    - Example booking statements (agents / DEBIT / CREDIT):
      - Bank (1) CBDC 100  Equity 100
      - Central Bank (1) Assets 100  CBDC 100
      - Bank (2) Loans 50  CBDC 50
      - Private Agent (1) CBDC 50  Loans 50
  - 10b: Loans Originated on the Central Bank Balance Sheet
    - Description:
      - Central bank grants loans directly to private sector agents.
      - Commercial banks can play a role by subsequently purchasing the loans from the central bank.
      - If commercial bank commits to purchase before loan is granted, the bank effectively screens and monitors debtors; commercial banks act as an “operating arm” of the central bank.
      - The central bank bears credit risk until transfer to the commercial bank is complete; implies a specific kind of settlement risk.
    - Example booking statements (agents / DEBIT / CREDIT):
      - Bank (1) CBDC 100  Equity 100
      - Central Bank (1) Assets 100  CBDC 100
      - Central Bank (2) Loans 50  CBDC 50
      - Private Agent (1) CDBC 50  Loans 50
      - Central Bank (3) CBDC 50  Loans 50
      - Bank (2) Loans 50  CBDC 50

### Transition paths to a full-money (100 percent CBDC reserve) system
- Three ways the move to a 100 percent CBDC reserve system can come into existence:
  - Imposed by a central bank when requiring loans granted in commercial bank deposit form to be backed 100 percent by central bank reserves (CBDC).
  - By granting loans in CBDC on the central bank balance sheet right away.
  - When private sector agents choose to shift virtually all their commercial bank deposits to their CBDC accounts.
- Notes:
  - The first two cases are imposed transitions; the third can occur without regulator intention.
  - If risks are well managed, CBDC is a viable option to switch the economy to a “full money” system.
  - Poorly managed transition could induce serious unintended consequences.
  - Removing private banks’ money creation ability may offer potential benefits (reference to Chicago plan discussion), but detailed pro and contra arguments are beyond the paper’s scope.

### Key conclusions on money creation, liquidity, and monetary policy
- Money creation and liquid funding needs coexist.
  - Liquid funding needs (commercial banks’ reserves at central bank accounts) are relevant to back payment transfers in a multi-bank system.
  - Liquid funding needs do not negate that banks create deposits and hence money ”out of nothing” upon creation of loans.
- Thought experiment: singular banking system (one bank, absence of physical cash)
  - In that case, liquid funding needs would cease to exist.
  - The central bank would lose its handle via conventional interest-rate-based monetary policy instruments over bank funding costs, bank loan interest rates, and macroeconomic conditions.
  - Central banks may still influence macro-financial dynamics through macroprudential policies (footnote 18).
- Disappearance of physical cash does not imply reduced bearing of monetary policy on economic dynamics; disappearance of cash is not an argument for CBDCs from that perspective.
  - More relevant arguments for digital instead of physical cash include improved ability to counteract money laundering, combat financing of terrorism, and tax evasion.
- Lending process design questions:
  - How loans would be granted in a system with a CBDC parallel to commercial bank money requires detailed exploration.
  - A 100 percent backing of loans by digital CBDC, if implemented, would imply an implementation of the Chicago plan as considered in the 1930s.
  - Shift to full money would mark a highly significant change to financial system structure.
- Role of pure financial intermediaries (FinTech, peer-to-peer lending):
  - May not be able to fully replace bank lending.
  - Pure intermediaries’ lending potential is bound by standing money stocks not required for transactions (savings), whereas banks’ lending implies money creation and is more elastic, limited by regulatory requirements and demand.
- Government financing modality:
  - The merits of financing government expenditures based on bank loans as opposed to bonds warrant deeper research.
  - Differential effects: bond finance may imply crowding-out effects via intermediation; bank loan-based financing (money creation) would not.
  - Stronger sovereign-bank nexus from bank lending to government is a potential concern.

### ABM—Pseudo code summary and model mechanics
- Initialization (Step A):
  - Money stocks ܯ ௧ୀఴ ௡ are drawn from a uniform distribution and assigned to all N private agents.
  - Private agents assigned in equal shares to B banks (house banks).
  - Deposit stocks ܦ ௧ୀఴ ௕ set to sum of depositors’ money stocks and set equal to banks’ liquid reserve stock ܴ ௧ୀఴ ௕.
  - Assuming banks have zero own funds, balance sheets balance as ܴ ௧ୀఴ ௕ ܦ = ௧ୀఴ ௕.
  - At t=0, ∑ ܴ ௧ୀఴ ௕ ஻ ௕ୀవ = ∑ ܦ ௧ୀఴ ௕ ஻ ௕ୀవ = ∑ ܯ ௧ୀఴ ௡ ௡ୀవ. No outstanding loan stocks L.
- Recursive simulation steps (t=1,...,T): Steps B (spending), C (cross-bank transfers), D (loan creation)
  - Step B: Draw spending pattern
    - [B.1] Private agents receive a signal ݏ ௧ ௡ to spend (ݏ ௧ ௡ =1) if a uniform random draw > spending propensity ܲ ௦; otherwise 0. If spending signal positive, spend uniform random fraction ܨ ௦ of current money holdings ܦ ௧ివ ௡.
    - [B.2] Spending partners determined randomly; agents may receive inflows from none, one, or more agents. Assignments redrawn every period.
    - [B.3] Spending agents inform house bank how much to transfer; recipients’ deposit accounts can be at same or other banks (if B>1).
  - Step C: Cross-bank transfers
    - [C.1] Banks compute net transfer needs ܶ ௧ ௕ across banks; net transfers sum to zero: ∑ ܶ ௧ ௕ = 0 ஻ ௕ୀవ.
    - [C.2] Banks compare required net transfer ܶ ௧ ௕ with reserve stocks ܴ ௧ివ ௕. Banks with ܶ ௧ ௕ ܴ ≤ ௧ివ ௕ borrow ܨ∆ ௧ ௕ ܶ = ௧ ௕ ܴ ে ௧ివ ௕ from CB, added to ܴ ௧ివ ௕ and CB funding stock ܨ ௧ிవ ௕ on liability side.
    - [C.3] Cross-bank transfers ܶ ௧ ௕ settled.
    - [C.4] Banks pay interest expense related to outstanding CB balance at current policy rate ݌ ௧ (set by CB at beginning of period t), subtracting from ܴ ௧ివ ௕ but not from ܦ ௧ివ ௕, reducing banks’ residual equity momentarily.
    - [C.5] Banks with ܶ ௧ ௕ ܴ > ௧ ௕ pay off minimum of ܨ ௧ ௕ and ܴ ௧ ௕, which fall by same minimum amount.
  - Step D: Loan creation process
    - [D.1] Banks get random signal to grant one-period loan using uniform draw with threshold probability ܲ ௅ for subset of non-loan-holding depositors. If loan granted, principal amount drawn from uniform distribution implying amount ܸ ௡, added to loan stock ܮ ௧ివ ௕ and deposit stock ܦ ௧ివ ௕ (money creation). Interest rate for new loans not yet determined.
    - [D.2] Banks set loan interest rate ݅ ௧ ௕ for loan contracts granted in t-1 to cover CB funding expense in t, making business net equity neutral, not requiring own funds buffers.
    - [D.3] Loan-holding private agents who received loan in t-1 repay principal to house bank and pay interest using house bank-specific loan rate ݅ ௧ ௕ computed in D.2; annuity flow settled. Principal repayment subtracts from loan stock ܮ ௧ివ ௕ and deposit stock ܦ ௧ివ ௕ (money destruction). Interest payment subtracts from deposit stock ܦ ௧ివ ௕ but not from ܴ ௧ివ ௕ (deposit-bank equity swap).
    - Loan rate for loans granted in t is set in t+1 in D.2 (resembles variable loan interest rate regime).
    - If private agents cannot service annuity in D.3 due to insufficient money holdings in t, they pause one period and get assigned a “spending block” for t+1 to increase likelihood of repayment. Temporary delinquencies are not treated as defaults; banks do not face write-off losses by design. Temporary negative equity from missed interest incomes returns to zero when delinquents repay.
    - Zero spread between loan interest rates set endogenously and weighted average cost of funding because there is no credit risk and expected losses are zero by design.

### Model parameter sensitivities (Table A summary)
- Changing four parameters: spending propensity (SP), spending fraction (SF), loan granting probability (LP), number of banks (#B).
- Qualitative effects described:
  - Increasing SP:
    - Spending flows increase.
    - Less CB funding required to back flows.
    - Size of private sector and banking system balance sheet (loan and reserve stocks) remain unaffected.
    - Loan interest rate and corresponding loan interest payment flows decrease due to less CB funding required.
  - Elevating LP:
    - Loan stocks increase.
    - Related flows (new loan flows, principal repayment flows) increase.
    - Deposit stocks (private sector money holdings) increase (link between loans and deposits).
    - Spending flows increase in absolute terms.
    - CB funding flows increase; loan interest rates and absolute loan interest payment flows from private agents to banks increase.
- Table A (parameter sensitivity matrix lines preserved):
  - SP SF LP #B
  - Reserve stock [R] 0000
  - Loan stock [L] 0110
  - Deposit stock [D] 0000
  - Central bank funding stock [F] -1111
  - Residual equity stock [E] 0111
  - R/(L+R) 0-1-1 0
  - L/D 0110
  - E/(L+R) 0111
  - F/E -1111
  - F/(L+R) -1111
  - % of banks pulling F -1111
  - Money holdings [M] 0000
  - (M-L)/M 0-1-1 0
  - spending flows 1100
  - % of agents spending 0-1 1 0
  - % of agents with spending block 0-1 -1 0
  - Loan interest rates -1111
  - % of agents receiving new loans 0-1 1 0
  - New loan flows 0-1 1 0
  - Principal repayment flows 0-1 1 0
  - Interest payment flows -1111
  - Banks
  - Private agents
  - Focus: Loan business

*Source: wpiea2019285-print-pdf - 0.6 percent for Canada and 1.6 percent for the United States. Engert and Fung (2017) argue, among other points,*

### APPENDIX II. ENDOGENOUS MONEY AND MONEY CREATION—USEFUL QUOTES FROM

### APPENDIX II. ENDOGENOUS MONEY AND MONEY CREATION—USEFUL QUOTES FROM PAST LITERATURE

### Core proposition: banks create money (selected quotations)
- Schumpeter 1912: “The function of the banker, the manufacturer of and dealer in credit, is to select from the gamut of plans offered by entrepreneurs... enabling one to implement their plans and denying this to another [...] this alters the analytic situation profoundly and makes it highly inadvisable  to  construe  bank  credit  on  the  model  of  existing  funds  being  withdrawn  from  previous uses by an entirely imaginary act of saving and then lent out their owners. It is much more realistic to say that the banks ‘create credit’, that is, that they create deposits in their act of lending, than to say that they lend the deposits that have been entrusted to them. And the reason for insisting on this is that depositors should not be invested with the insignia of a role which they do not play. The theory to which economists clung so tenaciously makes them out to be savers when they neither save nor intend to do so; it attributes to them an influence on the ‘supply of credit’ which they do not have. The theory of ‘credit creation’ not only recognizes patent facts without obscuring them by artificial constructions; it also brings out the peculiar mechanism of saving and investment that is characteristic of fully-fledged capitalist society and the true role of banks in capitalist evolution.”
- Rogers 1929:  “...  a  large  proportion  of  ...  [deposits]  under  certain  circumstances  may  be manufactured out of whole cloth by the banking institutions themselves.”
- Keynes 1930: “... [a bank] may itself purchase assets, i.e. add to its investments, and pay for them in the first instance at least, by establishing a claim against itself. Or the bank may create a claim  against  itself  in  favour  of  a  borrower,  in  return  for  his  promise  of  subsequent reimbursement; i.e. it may make loans or advances.”
- Wicksell 1935: “The lending operations of the bank will consist rather in its entering in its books a fictitious deposit equal to the amount of the loan.”
- Towers 1939 (Governor, the Bank of Canada 1934–54): “Each and every time a bank makes a loan, new bank credit is created – new deposits – brand new money.”
- Culbertson 1958: “A change in the volume of demand deposits, in contrast, is initiated by banks  when they change the volume of their debt holdings; the banks’ creditors, as such, play no active role in the process. The banking system “creates credit” by acquiring debt and creating demand deposits to pay for it. The commercial banks do not need “to borrow loanable funds from spending units with surpluses” in order to extend credit.”
- Smith 1959: “Commercial bank credit creation makes funds available to finance expenditures in excess of the funds arising out of the current income flow. [...] Commercial banks [...] are distinctly not intermediaries. That is, the decision to save a portion of current income and to hold the savings in the form of a demand deposit does not make any more funds available to the capital market than would have been available had the decision been made to spend instead, and does no more than to restore to the commercial banking system the lending power that was lost when the original cheque was written to transmit income to the recipient.”
- Minsky 1960: “A commercial bank lends by crediting the borrower with a demand deposit and it invests either by crediting the seller of the security with a demand deposit or by writing a check on itself in favor of the seller of the security. The bank expects that the borrower or the seller of the security credited with a deposit will use their deposit very soon after it is created. This will result in checks being drawn on the initiating bank. In a banking system with many banks, [...] the expectation is that the checks drawn on any particular bank will be deposited in another bank. The bank upon which the check is drawn must pay the bank in which the check is deposited the face amount of the check. This payment takes place by transferring reserves or banker’s money. In an active trading community offsetting claims for payments arise among the banks. Bankers are sophisticated enough to set up a clearing arrangement so that only the difference between payments from a bank and payments to a bank are made in the form of reserve money. [...] Within a banking system with a stable amount of deposits and distribution of customers, and assuming that no striking changes are taking place in the economy, a particular bank will expect that in the long run the value of the checks written on it and the value of the checks deposited in it will be equal. On the average a bank in such an environment will not have any clearing losses. However, there will be random, seasonal and cyclical shifts of deposits among the banks. In order to be able to meet the clearing losses which result from such shifts, a prudent banker will always try to keep some minimum ratio of reserve money to its deposits and will always try to have its portfolio of earning assets so arranged that it can acquire additional reserve money when needed without paying too great a penalty. From a banker’s perspective, the purpose of the reserve is to enable a banker to meet the clearing drains due to the behavior of secondary depositors. Each banker, to protect his ability to meet his obligations when due, will set a minimum value to this ratio below which he does not want to see it fall.”
- Minsky 1975: “A bank is not a money lender that first acquires and then places funds. [...] A bank first lends or invests and then ‘finds’ the cash to cover whatever cash drains arise.”
- Minsky 1986: “Money is unique in that it is created in the act of financing by a bank and is destroyed as the commitments on debt instruments owned by banks are fulfilled. Because money is created and destroyed in the normal course of business, the amount outstanding is responsive to the demand for financing. [...] Banking is not money lending; to lend, a money lender must have money. The fundamental banking activity is accepting, that is, guaranteeing that some party is creditworthy. [...] When a banker vouches for creditworthiness or authorizes the drawing of checks, he need not have uncommitted funds on hand. He would be a poor banker if he had idle funds on hand for any substantial time. In lieu of holding non-income-earning funds, a banker has access to funds. Banks make financing commitments because they can operate in financial markets to acquire funds as needed; to so operate they hold assets that are negotiable in markets and hold credit lines at other banks.”
- Turner 2013: (Chairman, Financial Services Authority, UK, 2008–13): “Banks do not, as too many textbooks still suggest, take deposits of existing money from savers and lend it out to borrowers: they create credit and money ex nihilo – extending a loan to the borrower and simultaneously crediting the borrower’s money account. That creates, for the borrower and thus for real economy agents in total, a matching liability and asset, producing, at least initially, no increase in real net worth. But because the tenor of the loan is longer than the tenor of the deposit – because there is maturity transformation – an effective increase in nominal spending power has been created.”

### Central bank operations, policy instruments, and endogeneity of money (selected quotations)
- King 1994: (Governor, the Bank of England, and Chairman, the Monetary Policy Committee, 2003–13): “...In the United Kingdom, money is endogenous – the Bank supplies base money on demand at its prevailing interest rate, and broad money is created by the banking system. The endogeneity of money has caused great confusion, and led some critics to argue that money is unimportant. This is a serious mistake.”
- White 2002: (Deputy Governor, the Bank of Canada, 1988–94): “Some decades ago, the academic literature would have emphasised the importance of the reserves supplied by the central bank to the banking system, and the implications (via the money multiplier) for the growth of money and credit. Today, it is more broadly understood that no industrial country conducts policy in this way under normal circumstances. Recognising how unstable in practice is the demand for cash reserves, and the associated implications for interest rate volatility, there has been a decisive shift towards the use of short-term interest rates as the policy instrument. In this framework, cash reserves supplied to the banking system are whatever they have to be to ensure that the desired policy rate is in fact achieved.”
- Dudley 2009: “The Federal Reserve has committed itself to supply sufficient reserves to keep the fed funds rate at its target. If banks want to expand credit and that drives up the demand for reserves, the Fed automatically meets that demand in its conduct of monetary policy.”
- European Central Bank 2011: “The money multiplier framework has a long and distinguished pedigree in the literature. Multiplier analysis is based on the assumption that the central bank unilaterally sets the level of the monetary base, i.e. the monetary base is the instrument of monetary policy. The money multiplier then determines the supply of broad money, while short-term interest rates adjust in order to establish equilibrium between money demand and money supply. Clearly, this account contrasts with the way in which monetary policy is, in general, implemented in practice. In fact [...] central banks set an official interest rate and then supply the volume of reserves necessary in order to steer short-term market interest rates close to the official interest rate.”
- Constâncio 2011: (Vice President, the European Central Bank, 2010–18): “It is argued by some that financial institutions would be free to instantly transform their loans from the central bank into credit to the non-financial sector. This fits into the old theoretical view about the credit multiplier according to which the sequence of money creation goes from the primary liquidity created by central banks to total money supply created by banks via their credit decisions. In reality the sequence works more in the opposite direction with banks taking first their credit decisions and then looking for the necessary funding and reserves of central bank money.”
- European Central Bank 2012: “The occurrence of significant excess central bank liquidity does not, in itself, necessarily imply an accelerated expansion of ... credit to the private sector. If credit institutions were constrained in their capacity to lend by their holdings of central bank reserves, then the easing of this constraint would result mechanically in an increase in the supply of credit. The Eurosystem, however, [...] always provides the banking system with the liquidity required to meet the aggregate reserve requirement. In fact, the ECB’s reserve requirements are backward-looking, i.e. they depend on the stock of deposits (and other liabilities of credit institutions) subject to reserve requirements as it stood in the previous period, and thus after banks have extended the credit demanded by their customers.”
- Bindseil 2004: (Director General of Market Operations, European Central Bank, 2012–19 [now Director General of Market Infrastructure and Payments], ): “It appears that with RPD [Reserve Position Doctrine, i.e. money multiplier view], academic economists developed theories detached from reality, without resenting or even admitting this detachment. Economic variables of very different nature were mixed up and precision in the use of the different concepts (e.g. operational versus intermediate targets, short-term vs. long-term interest rates, reserve market quantities vs. monetary aggregates, reserve market shocks vs. shocks in the money demand, etc.) was often too low to allow obtaining applicable results. The dynamics of academic research and the underlying incentive mechanisms seem to have failed to ensure pressure on academics to ensure that models of central bank operations were sufficiently in line with the reality of these operations.”
- Disyatat 2010: “This paper contends that the emphasis on policy-induced changes in deposits is misplaced. If anything, the process actually works in reverse, with loans driving deposits. In particular, it is argued that the concept of the money multiplier is flawed and uninformative in terms of analyzing the dynamics of bank lending.”
- Demiralp and Carpenter 2012: “The narrow, textbook money multiplier does not appear to be a useful means of assessing the implications of monetary policy for future money growth or bank lending.”

### Critical appraisals, pedagogy, and implications for macroeconomic analysis (selected quotations)
- Friedman 1971: “The correct answer for [the question of the origin of] both Euro-dollars and liabilities of U.S. banks is that their major source is a bookkeeper’s pen.”
- Kydland and Prescott 1990: “There is no evidence that either the monetary base or M1 leads the  [business]  cycle,  although  some  economists  still  believe  this  monetary  myth.  Both  the monetary base and M1 series are generally procyclical and, if anything, the monetary base lags the cycle slightly [...]. The fact that the transaction component of real cash balances (M1) moves contemporaneously with the cycle while the much larger non-transaction component (M2) leads the cycle suggests that credit arrangements could play a significant role in future business cycle theory.”
- Goodhart 2007: (Monetary Policy Committee Member, the Bank of England, 1997–2000): “... as long as the Central Bank sets interest rates, as is the generality, the money stock is a dependent, endogenous variable. This is exactly what the heterodox, Post-Keynesians  [...]  have  been correctly claiming for decades, and I have been in their party on this.”
- Goodhart 2010: (Monetary Policy Committee Member, the Bank of England, 1997–2000): “The old pedagogical analytical approach that centred around the money multiplier was misleading, atheoretical and has recently been shown to be without predictive value. It should be discarded immediately.”
- Borio 2012: “The banking system does not simply transfer real resources, more or less efficiently, from one sector to another; it generates (nominal) purchasing power. Deposits are not endowments that precede loan formation; it is loans that create deposits.”
- Berry et al. 2007: (The Bank of England Quarterly Bulletin): “When banks make loans, they create additional deposits for those that have borrowed the money.”
- King 2012: (Governor, the Bank of England, and Chairman, the Monetary Policy Committee, 2003–13): “When banks extend loans to their customers, they create money by crediting their customers’ accounts.”
- Tucker 2007: (Deputy Governor, the Bank of England, 2009–13): “[B]anks [...] in the short run, [...] lever up their balance sheets and expand credit at will. As transactions balances and so the means of exchange in our payments system, the moneyness of bank deposits lies at the core of credit intermediation. Subject only but crucially to confidence in their soundness, banks extend credit by simply increasing the borrowing customer’s current account, which can be paid away to wherever the borrower wants by the bank ‘writing a cheque on itself’. That is, banks extend credit by creating money. This ‘money creation’ process is constrained: by their need to manage the liquidity risk – from the withdrawal of deposits and the drawdown of backup lines – to which it exposes them. Adequate capital and liquidity, including for stressed circumstances, are the essential ingredients for maintaining confidence.”
- Freedman 2010: (Deputy Governor, the Bank of Canada, 1988–2003): “It used to be that most academic research treated money (or sometimes base) as the exogenous policy instrument under the control of the central bank. This was an irritant to those of us working in central banks, because the instrument of policy had always been the short-term interest rate, and because all monetary aggregates (beyond base) have always been and remain endogenous. In recent years, more and more academics, in specifying their models, have treated the short-term interest rate as the policy instrument, thereby increasing the usefulness of their analyses [...].”
- Sheard 2013: (see above) — policy implication: excess reserves alone do not mechanically translate into credit expansion because banks are normally not reserve constrained.

*Source: APPENDIX II. ENDOGENOUS MONEY AND MONEY CREATION—USEFUL QUOTES FROM PAST LITERATURE (excerpt).*

### REFERENCES

### wpiea2019285-print-pdf - REFERENCES

### Foundational texts on banking and money
- Alhadeff, D.A. (1954). The Rise of Commercial Banking. Berkeley: University of California Press (reprinted in 1980 by Arno Press as: Monopoly and Competition in Banking).
- MacLeod, H.D. (1856). The Theory and Practice of Banking (two volumes). London: Longman, Greens and Co.
- McLeay, M., Radia, A., and Thomas, R. (2014a). “Money creation in the modern economy.” Bank of England Quarterly Bulletin, 54(1):14-27.
- McLeay, M., Radia, A., and Thomas, R. (2014b). “Money in the modern economy: An introduction.” Bank of England Quarterly Bulletin, 54(1):4-13.
- Gurley, J.G., and Shaw, E.S. (1960). Money in a theory of finance. Washington, DC: The Brookings Institution.
- Keynes, J.M. (1930). A Treatise on Money. London: Macmillan and Co.
- Keynes, J.M. (1936). The General Theory of Employment, Interest and Money. London: Palgrave Macmillan.
- Schumpeter, J.A. (1954). History of Economic Analysis. New York: Oxford University Press.

### Central bank digital currency (CBDC) and digital money papers
- Barrdear, J., and Kumhof, M. (2016). “The macroeconomics of central bank issued digital currencies.” Bank of England Working Paper No. 605.
- Barontini, C., and Holden, H. (2019). “Proceeding with caution—a survey on central bank digital currency. Bank for International Settlements Papers 101.
- Bindseil, U. (2019). “Central bank digital currency—financial system implications and control.” Mimeo.
- Davoodalhosseini, S.M.R. (2018). “Central bank digital currency and monetary policy.” Bank of Canada Staff Discussion Paper No. 2018-36.
- Engert, W., and Fung, B.S.C. (2017). “Central bank digital currency: motivations and implications.” Bank of Canada Staff Discussion Paper No. 2017-16.
- Mancini-Griffoli, T., Peria, M.S.M., Ari, A., Kiff, J., Popescu, A., and Rochon, C. (2018). “Casting light on central bank digital currency.” International Monetary Fund Discussion Note.

### Endogenous money, Post-Keynesian, and money creation theory
- Bencivenga, V.R., and Smith, B. (1991). “Financial intermediation and endogenous growth.” Review of Economic Studies, 58(2):195-209.
- Davidson, P. (1978). “Why money matters: lessons from a half-century of monetary theory.” Journal of Post Keynesian Economics, 1(1):46-70.
- Lavoie, M. (1992). “Jacques Le Bourva’s theory of endogenous credit-money.” Review of Political Economy, 4(4):436-446.
- Lavoie, M. (2005). “Monetary base endogeneity and the new procedures of the asset-based Canadian and American monetary systems,” Journal of Post Keynesian Economics, 27(4):689-709.
- Lavoie, M. (2014). Post-Keynesian Economics: New Foundations. Cheltenham, UK: Edward Elgar Publishing Ltd.
- Lavoie, M., and Godley, W. (2006). “Features of a realistic banking system within a Post-Keynesian stock-flow consistent model.” In: Setterfield, M. (Ed.), Complexity, Endogenous Money and Macroeconomic Theory: Essays in Honour of Basil J. Moore, 251-68.
- Moore, B.J. (1979). “The endogenous money stock.” Journal of Post Keynesian Economics, 2(1):49-70.
- Moore, B.J. (1983). “Unpacking the Post Keynesian black box: Bank lending and the money supply.” Journal of Post Keynesian Economics, 5(4):537-56.
- Moore, B.J. (1986). “How credit drives the money supply: the significance of institutional developments.” Journal of Economic Issues, 20(2):443-52.
- Jakab, Z., and Kumhof, M. (2015). “Banks are not intermediaries of loanable funds—and why this matters.” Bank of England Working Paper No. 529.
- Ryan-Collins, J., Greenham, T., Werner, R., and Jackson, A. (2011). Where does money come from? A guide to the UK monetary and banking system. London: New Economics Foundation.
- Werner, R.A. (2005). New paradigm in macroeconomics: solving the riddle of Japanese macroeconomic performance. London: Palgrave MacMillan.
- Werner, R.A. (2014). “Can banks individually create money out of nothing? The theories and the empirical evidence.” International Review of Financial Analysis, 36:1-19.
- Werner, R.A. (2016). “A lost century in economics: Three theories of banking and the conclusive evidence.” International Review of Financial Analysis, 46:361-79.

### Monetary policy, reserves, and money supply analysis
- Bernanke, B.S. (November 2006). “Monetary aggregates and monetary policy at the Federal Reserve: A historical perspective.” Speech at Fourth ECB Central Banking Conference, Frankfurt, Germany.
- Bernanke, B.S., and Blinder, A. (1988). “Credit, money, and aggregate demand.” The American Economic Review, 78(2):435-39.
- Bernanke, B.S., and Gertler, M. (1995). “Inside the black box: the credit channel of monetary policy transmission.” The Journal of Economic Perspectives, 9(4):27-48.
- Bindseil, U. (2004). “The operational target of monetary policy and the rise and fall of reserve position doctrine.” European Central Bank Working Papers 372.
- Carpenter, S., and Demiralp, S. (2012). “Money, reserves, and the transmission of monetary policy: Does the money multiplier exist?” Journal of Macroeconomics, 34(1):59-75.
- European Central Bank (2011). “The supply of money—bank behaviour and the implications for monetary analysis.” ECB Monthly Bulletin, October, 63-79.
- European Central Bank (2012). Monthly Bulletin, May.
- Goodfriend, M. (1991). “Money, credit, banking, and payment system policy.” Federal Reserve Bank of Richmond Economic Review, 77:7-23.
- Holmes, A. (1969). “Operational constraints on the stabilization of money supply growth.” Controlling Monetary Aggregates, Conference Series 1, FED Boston.
- McLeay, M., Radia, A., and Thomas, R. (2014a). “Money creation in the modern economy.” Bank of England Quarterly Bulletin, 54(1):14-27.
- McLeay, M., Radia, A., and Thomas, R. (2014b). “Money in the modern economy: An introduction.” Bank of England Quarterly Bulletin, 54(1):4-13.
- Vymyatnina, Y. (2006). “How much control does Bank of Russia have over money supply?” Research in International Business and Finance, 20(2):131-44.
- Sheard, P. (2013). “Repeat after me: Banks cannot and do not ‘lend out’ reserves.” Standard & Poor’s Economic Research.
- FED Chicago (1994). “Modern Money Mechanics. A Workbook on Bank Reserves and Deposit Expansion.”

### Financial stability, regulation, crises, and banking behavior
- Admati, A., and Hellwig, M. (2012). The bankers’ new clothes— What’s wrong with banking and what to do about it. Princeton: Princeton University Press.
- Dewatripont, M., Rochet, J.-C., and Tirole, J. (2010). Balancing the Banks: Global lessons from the financial crisis. Princeton: Princeton University Press.
- Diamond, D.W., and Dybvig, P.H. (1983). “Bank runs, deposit insurance, and liquidity.” Journal of Political Economy, 91(3):401-19.
- Diamond, D.W., and Rajan, R.G. (2001). “Banks, short-term debt and financial crises: Theory, policy implications and applications.” Carnegie-Rochester Conference Series on Public Policy, 54(1):37-71.
- Hanson, S.G., Kashyap, A.K., and Stein, J.C. (2011). “A macroprudential approach to financial regulation.” Journal of Economic Perspectives, 25(1):3-28.
- Gorton, G., and Pennacchi, G. (1990). “Financial intermediaries and liquidity creation.” The Journal of Finance, 45(1):49-71.
- FSB (2014). “Global Shadow Banking Monitoring Report 2014.” October 2014.
- FSB (2017). “Implementation and Effects of the G20 Financial Regulatory Reforms.” Third Annual Report. July 3, 2017.
- FSB (2019). “Global Monitoring Report on Non-Bank Financial Intermediation 2018.” February 4, 2019.
- Turner, A. (2013). “Credit, money and leverage: What Wicksell, Hayek and Fisher knew and modern macroeconomists forgot.” Stockholm School of Economics Working Paper for Conference “Towards a Sustainable Financial System.”

### Modeling approaches, DSGE, agent-based, and computational methods
- Allen, F., and Gale, D. (2004a). “Financial intermediaries and markets.” Econometrica, 72(4):1023-61.
- Allen, F., and Gale, D. (2004b). “Competition and financial stability.” Journal of Money, Credit, and Banking, 36(3):453-80.
- Fagiolo, G. and Roventini, A. (2016). “Macroeconomic policy in DSGE and agent-based models redux: New developments and challenges ahead.” LEM Papers Series 2016/17, Laboratory of Economics and Management (LEM), Sant’Anna School of Advanced Studies, Pisa, Italy.
- LeBaron, B., and Tesfatsion, L. (2008). “Modeling macroeconomies as open-ended dynamic systems of interacting agents.” The American Economic Review, 98(2):246-50.
- Tesfatsion, L. (2003). “Agent-based computational economics: Modeling economies as complex adaptive systems.” Information Sciences, 149(4):262-68.
- Tesfatsion, L. (2006a). “Agent-based computational modeling and macroeconomics.” In: Colander, D. (Ed.), Post-Walrasian Macroeconomics: Beyond the Dynamic Stochastic General Equilibrium Model, 175-202. Cambridge: Cambridge University Press.
- Tesfatsion, L. (2006b). “Agent-based computational economics: A constructive approach to economic theory.” In: Tesfatsion, L., and Judd, K. (Eds.), Handbook of Computational Economics, Vol. 2, 16:831-80.
- Gertler, M., and Kiyotaki, N. (2011). “Financial intermediation and credit policy in business cycle analysis.” In: B. Friedman, and M. Woodford (Eds.), Handbook of Monetary Economics. North Holland: Elsevier.

### Historical, classical, and early 20th century contributions
- Cassel, G. (1918). Theoretische Sozialoekonomie. Leipzig: C. F. Wintersche Verlagshandlung.
- Hawtrey, R.G. (1919). Currency and Credit. London: Longmans, Green and Co.
- Withers, H. (1909). The meaning of money. London: Smith, Elder & Co.
- Withers, H. (1918). The business of finance. London: John Murray.
- Wicksell, K. (1898). Geldzins und Gueterpreise: Eine Studie ueber die den Tauschwert des Geldes bestimmenden Ursachen. Jena: Fischer.
- Wicksell, K. (1907). “The influence of the rate of interest on prices.” Economic Journal, 17:213-20.
- Wicksell, K. (1935). Lectures on Political Economy, Volume II: Money. London: George Routledge & Sons.
- Wicksell, K. (1936). Interest and prices—A study of the causes regulating the value of money (original published in 1898, titled Geldzins and Gueterpreise). New York: Sentry Press.
- Hayek, F. (1929). Geldtheorie und Konjunkturtheorie. Hölder-Pichler-Tempsky.
- Mises, L. von (1912). Theorie des Geldes und der Umlaufsmittel. Leipzig: Duncker und Humblot.
- Schumpeter, J.A. (1912). Theorie der wirtschaftlichen Entwicklung. Berlin: Duncker & Humblot.

*References section from wpiea2019285-print-pdf - REFERENCES*

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_Source: https://www.imf.org/-/media/files/publications/wp/2019/wpiea2019285-print-pdf.pdf_