Review: Making Money Work

Some years ago, a pair of political compasses circulated around policy Twitter. The milquetoast centrist, on the left, had safe and orthodox opinions represented by points clustered at the center of the compass. The radical centrist, on the right, had opinions arrayed on all edges of the compass. Centrism, it implied, is not necessarily moderation; indeed, one can be extremist and centrist, provided one’s extreme opinions don’t skew to one side or another.

Making Money Work could be described as a radical centrist treatise on money and financial markets. In successive chapters the book presents a state-theoretic ontology of money, a post-Keynesian emphasis on understanding financial markets through balance sheets, a Monetarist understanding of monetary policy transmission, an Austrian concern with malinvestment, and a Georgist framework for tax policy, all tied together with a detailed exposition of the mechanics of financial underwriting and regulation. All this makes for a highly original and rarely predictable book, although one that often feels more assembled than synthesized. Nevertheless, it comes armed with enough detail on the fine workings of financial and regulatory systems to demand that its argument be taken seriously. And, with some exceptions, the practical upshot comes to something quite sensible, even centrist.

In this review I will pick at a couple of the weaker seams between the various approaches, where tension pulls at the stitches, but taking the argument seriously, as nearly as possible, on its own terms. Dogmatists of all stripes will find something to love, and something to hate, in this book. But in setting out its perspective as forcefully as it does, and in integrating such a variety of perspectives, it will stimulate readers of any persuasion to come to grips with financial microstructure as it actually exists in the US economy today, instead of the stylized model of macro textbooks.

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Making Money Work builds an ambitious and idiosyncratic conceptual framework around money and finance to argue (1) the state is necessarily the ultimate source of faith in the monetary system, (2) endogenous credit creation means the loanable funds model is an inaccurate picture of bank finance, (3) the loanable funds model is an accurate model of capital markets, (4) these are structurally (and ideally institutionally) separate ways of financing projects, (5) overzealous bank and capital regulation has caused capital markets to cannibalize bank finance over the past few decades, and (6) this is bad because credit creation is a cheaper way to fund certain projects.

The argument opens in Chapter 2 with a forceful statement of the State Theory of Money that one would be forgiven for suspecting to be a prelude to an MMT treatise (to be clear, it emphatically is not). The State Theory is understood both by proponents and opponents as a radical break from orthodox monetary theory and history, and the book presents it no differently. The language and conceptual frame are pulled without modification or temperance straight from Knapp, Ingham, and Graeber, who are extensively cited.

Much (though certainly not all) of the apparent heat in state- vs market-theories of money’s history and ontology is less substantive than it might seem. For example, whether money’s historical origin lies in the state (as argued on p. 13) or “spontaneously… from uncoordinated market action” depends on whether one considers money in its unit of account or medium of exchange function. Certainly media of exchange have arisen spontaneously all the way into prehistory. But the practice of accounting was driven by rationalizing states for administrative and tax purposes. What we know as money today is the confluence of both of these functions, the use of a widely accepted medium of exchange to do accounting. Sekerke and Hanke declare (again on p. 13) that they are primarily interested in money in its unit of account function. Fair enough.

Or take the claim that “money is not a good… Money is a claim,” or credit (p. 16).  Again this supposed disagreement is less about the ontology of money than about the tools it makes sense to apply to monetary analysis. Money may be considered a good, we can draw supply and demand and derive a price and quantity as in standard monetary theory, provided we remember its scarcity is artifactual. Money may be considered as credit, a marker of pure value and the basis of balance sheet accounting, in light of its function as a unit of account.

I offer a partial “yes-and” approach to the State Theory, not just to suggest rhetorical overreach, but because the strong and exclusive statement of the State Theory is, on its face, in tension with many of the subsequent frameworks the book draws on. The reconstruction of the Quantity Theory of Money on the basis of monetary services in Chapter 7, for example, seems to entail a focus on the very medium of exchange function disavowed in Chapter 2. Other clearer abuses of categories in the State Theory literature are imported without tempering: for example the insistence that the value of base money is made determinate by the state’s commitment to “redeem” it in terms of future tax revenues (p. 16) in the same way that the value of bank money is nailed down by its redeemability in terms of base money. One could algebraically contort the government budget constraint to look something like this claim, but it does not seem like a useful description in a financial system in which “redemption” has a specific contractual meaning that does not apply to fiat money.

Fortunately rather little of the later argument hinges significantly on this point, and none of these tensions are necessarily contradictions. But they do illustrate the unexploited opportunities to synthesize among the various frameworks the book draws upon. What actually depends on whether money is “really” credit or a good, or “really” a unit of account or a medium of exchange? Much of the subsequent argument goes through, or could go through, either way.

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The book then proceeds to financial markets, insisting that banking and intermediation should be understood as completely analytically distinct sorts of activities. Bank lending, in a standard endogenous money framework, is funded by a bank marking up its balance sheet and creating new deposit money “out of nothing”. This is, they sensibly argue, not financed out of “savings” in the sense of requiring any prior abstention on anyone’s part. The supply of bank lending is limited less by the scarcity of reserves and more by the availability of “bankable” projects that meet certain underwriting standards.

This is contrasted with intermediation, which is done by financial firms that must raise money out of scarce savings in capital markets before intermediating it to a productive project. “Investable” projects have looser risk and information requirements than “bankable” projects, which must generally be collateralized. Nevertheless, when those stricter requirements are met, “drawing on aggregate savings to fund bankable projects seems inefficient when the funding could just as well be created by the banking system” (p. 156). Later they suggest that intermediation is “extremely costly” in terms of drawing on a finite stock of savings, as opposed to bank finance which requires “an order of magnitude less bank capital” (p. 216). In Chapter 3 the authors pillory the orthodox approach to corporate finance, in which the choice between raising money through a bank loan versus by selling equity is just a matter of the portfolio investors are willing to hold, for failing to take seriously the difference between the two.

I am forced to judge that this central claim of the book is not convincingly established. It is not clear that the creation of deposit liabilities “out of nothing” to fund bank loans is different in kind from the creation of less liquid liabilities “out of nothing” to fund intermediaries’ purchase of financial assets. Nor is it clear that intermediaries meaningfully draw on “scarce savings” any more than banks do, if both are limited by the willingness of the public to hold its liabilities (a constraint, in the case of banks, very much neglected by the authors). Nor can the authors draw a distinction based on the fact that bank liabilities circulate as money and intermediary liabilities do not: their sophisticated treatment of aggregate liquidity in Chapter 7 explicitly includes the less-liquid (but still money-like) liabilities of so-called intermediaries, such as MMMFs, as part of a weighted Divisia index of monetary services. And rightly so (I argue as much in my 2022 chapter “Finance in a Theory of Money” [2022], which arrives at a remarkably similar place to Chapter 7, despite beginning from the portfolio balance approach they reject). If the liabilities issued to raise funds exist on a spectrum of liquidity or moneyness, I cannot see any way that “credit creation” versus “scarce savings” survives as a bright-line structural distinction in how banks and intermediaries raise funds.

If the distinction is indeed one of degree and not kind, much (though not all) of their argument nevertheless survives. Even without the bright structural line between the two, Chapter 8 shows in great detail how the Basel regime, especially after 2008, pushes firms into relatively more costly ways of financing loans (i.e. by the issue of relatively less liquid liabilities) by mandating, effectively, a permanent crisis orientation that makes financial firms demand liquidity when they ought to be providing it. Risk is distorted and misallocated, and otherwise viable corporate projects get passed over for funding in favor of yet more consumer credit. In particular, the distortions throughout financial markets caused by the government’s involvement in mortgage underwriting cannot be overstated, and plausibly constitute a significant drag on economic growth.

Blurring this distinction would, however, undercut a significant reform suggestion in the final chapter: a regulatory requirement that banking and intermediary firms be separated (phrased throughout in the passive voice), which are currently combined into what they call “universal” banks engaged in both businesses. Other reforms rest on analytically shaky ground, for example the proposed tax regime follows from a full-throated Georgist exposition that hinges on a dubiously meaningful separation of the value of land-as-such from the value of “improvements”. Their use of neutrality as a policy goal blurs fiscal policy and monetary policy (presumably on the state-theoretic grounds that all of these decisions are political), income and the money supply (with a puzzling decomposition of “sectoral money supplies” in Chapter 9), and relative prices and the level of inflation. It is difficult to tell if this is a conflation of concepts, or a deliberate rejection of these distinctions, since – again – the book makes little effort to reconcile itself to, or position its conceptual schema in relation to, an orthodox economic treatment.

But despite the conceptual idiosyncrasies, the broad practical sweep of the argument – that financial regulation should be considered a first-class component of monetary policy, that monetary policy should strive to be as neutral as possible with respect to relative prices (and perhaps to sectors), that modern economies under–rely on bank lending compared to capital markets, and that distortions in risk allocation seriously impair modern market economies’ ability to finance viable capital projects – is strong, sensible, and convincing. These are not necessarily moderate claims; indeed many of them entail seriously rethinking the financial structure of modern economies. But they are centrist in the sense of having cross-partisan appeal, and being eminently practical rather than idealistic.

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These remarks should not be read as overly critical. Indeed, in waters as conceptually murky as money and finance, a strong and clear statement is helpful both for those who agree and for those who disagree, especially one that draws unashamedly from a variety of sources not often in communion. My own thinking has certainly been clarified and enriched by its confrontation, as I hope comes across in these brief thoughts. And no matter where on the compass your opinions lie, a radical book such as this one, credibly backed up as it is with micro detail, will be more profitable and more interesting than a safe and predictable one, whether or not you come away convinced by every individual point.