Endogenous Money Model (BOMD)
3. Endogenous Money Model (BOMD)
BOMD = Bank-Originated Money and Debt
Core Assumption: Banks create money by creating debt.
Endorsed by central banks after 2008:
Bank of England: > “Rather than banks receiving deposits when households save and then lending them out, bank lending creates deposits.” - McLeay, Radia, and Thomas (2014)
Bundesbank: > “A bank can grant loans without any prior inflows of customer deposits. In fact, book money is created as a result of an accounting entry: when a bank grants a loan, it posts the associated credit entry for the customer as a sight deposit…”
Key Characteristic: Both private and government debt are ASSETS of the banking system.
Godley Table Structure (BOMD)
Private Banks:
| Flows↓/Stocks→ | Reserves | \(Debt_{Firms}\) | \(Debt_{Govt}\) | HouseHolds | Firms | Banks | A_L_E |
|---|---|---|---|---|---|---|---|
| Type | Asset | Asset | Asset | Liability | Liability | Equity | |
| Initial | 100 | 0 | 0 | 40 | 50 | 10 | 0 |
| Pay Wages | +Wages | -Wages | |||||
| Buy Goods | -Consume | +Consume | |||||
| Borrow Money | +Credit | +Credit | |||||
| Pay Interest | \(-Int_{Firms}\) | \(Int_{Firms}\) | |||||
| Pay Bank Fee | -Fee | +Fee | |||||
| Banks Spend | \(Spend_{Banks}\) | \(-Spend_{Banks}\) | |||||
| Taxation | -Tax | -Tax | |||||
| Govt Spending | \(Spend_{Govt}\) | \(Spend_{Govt}\) | |||||
| Govt Bond Sales | -Bonds | +Bonds | |||||
| Bond Interest | \(Int_{Bonds}\) | \(Int_{Bonds}\) | |||||
| ∫ Flows | 100+∫ | 0+∫ | 0+∫ | 40+∫ | 50+∫ | 10+∫ | 0 |
Key Structural Difference
In BOMD, money creation occurs on the Asset side of bank balance sheets:
- Credit creates \(Debt_{Firms}\) (bank asset) + Firm deposits
- Bond sales create \(Debt_{Gov}\) (bank asset) + Government account
- In Loanable Funds, all operations are on Liabilities/Equity side (cancel out)
Interactive Controls
Adjust the government spending fraction to see how it affects the economy:
| Variable | Value |
|---|---|
| Loading… | — |
Differential Equations (BOMD)
\[\frac{dDebt_{Gov}}{dt} = Bonds\]
\[\frac{dDebt_{Firms}}{dt} = Credit\]
\[\frac{dFirms}{dt} = Consume + Credit + Spend_{Gov} - Wages - Int_{Firms}\]
\[\frac{dHouseholds}{dt} = Wages - Consume - Tax \quad (5)\]
\[\frac{dGovernment}{dt} = Tax + Bonds - Int_{Gov} - Spend_{Gov}\]
\[\frac{dReserves}{dt} = Spend_{Gov} + Int_{Gov} - Tax - Bonds\]
\[\frac{dBanks}{dt} = Int_{Gov} + Int_{Firms} - Spend_{Gov}\]
Money Creation Formula
The rate of change of money supply:
\[\frac{dMoney}{dt} = Credit + (Spend_{Gov} + Int_{Gov} - Tax) \quad (6)\]
The bracketed term is government money creation.
Result: Stable System
Running with same 1% deficit (Spend = 31% GDP, Tax = 30% GDP):
- GDP grows steadily
- Government debt/GDP ratio stabilizes (~20%)
- Interest payments remain manageable
- No crisis occurs!
Conclusion: Under BOMD, sustained deficits do not cause fiscal crisis.
Note: This does not account for trade deficits or assets and Govt debt owned by overseas entities. This will reduce national GDP resulting in greater Government debt/GDP ratio.
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