Research Topics

A Liquidity Preference Theoretical Perspective

This paper investigates the peculiar macroeconomic policy challenges faced by emerging economies in today’s monetary (non)order and globalized finance. It reviews the evolution of the international monetary and financial architecture against the background of Keynes’s original Bretton Woods vision, highlighting the US dollar’s hegemonic status. Keynes’s liquidity preference theory informs the analysis of the loss of policy space and widespread instabilities in emerging economies that are the consequence of financial hyperglobalization. While any benefits promised by mainstream promoters remain elusive, heightened vulnerabilities have emerged in the aftermath of the global crisis.

The Fed’s zero interest policy rate (ZIRP) and quantitative easing (QE) policies failed to restore growth to the US economy as expected (i.e., increased investment spending à la John Maynard Keynes or from an expanded money supply à la Ben Bernanke / Milton Friedman). Senior Scholar Jan Kregel analyzes some of the arguments as to why these policies failed to deliver economic recovery. He notes a common misunderstanding of Keynes’s liquidity preference theory in the debate, whereby it is incorrectly linked to the recent implementation of ZIRP. Kregel also argues that Keynes’s would have implemented QE policies quite differently, by setting the bid and ask rate and letting the market determine the volume of transactions. This policy note both clarifies Keynes’s theoretical insights regarding unconventional monetary policies and provides a substantive analysis of some of the reasons why central bank policies have failed to achieve their stated goals.

This paper takes off from Jan Kregel’s paper “Shylock and Hamlet, or Are There Bulls and Bears in the Circuit?” (1986), which aimed to remedy shortcomings in most expositions of the “circuit approach.” While some “circuitistes” have rejected John Maynard Keynes’s liquidity preference theory, Kregel argued that such rejection leaves the relation between money and capital asset prices, and thus investment theory, hanging. This paper extends Kregel’s analysis to an examination of the role that banks play in the circuit, and argues that banks should be modeled as active rather than passive players. This also requires an extension of the circuit theory of money, along the lines of the credit and state money approaches of modern Chartalists who follow A. Mitchell Innes. Further, we need to take Charles Goodhart’s argument about default seriously: agents in the circuit are heterogeneous credit risks. The paper concludes with links to the work of French circuitist Alain Parguez.

The paper examines three aspects of a financial crisis of domestic origin. The first section studies the evolution of a debt-financed consumption boom supported by rising asset prices, leading to a credit crunch and fluctuations in the real economy, and, ultimately, to debt deflation. The next section extends the analysis to trace gradual evolution toward Ponzi finance and its consequences. The final section explains the link between the financial and the real sector of the economy, pointing to an inherent liquidity problem. The paper concludes with comments on the interactions between the three aspects.