The Source of Endogenous Money

Abstract

In the post-Keynesian approach to money, endogeneity has its origin in the demand for loans which in turn arises from firms' requirements for working capital whenever the cost and/or volume of planned output increases. Banks meet all creditworthy demand for loans and the central bank supplies the necessary reserves. Thus, bank lending (and the supply of new deposits) depends critically upon the `state of trade'.

However a number of institutional changes have recently taken place in the UK which call this sequence into question. Household demand has taken over from corporate demand as the major component in the aggregate demand for bank credit. Furthermore, we know that total transactions (including those on assets, intermediate and secondhand goods) have grown much more rapidly than GDP during the 1980s. If credit is required for all types of transactions, we might therefore expect the demand for loans to depend more directly on total transactions than on those related to output alone. This paper documents those institutional changes and considers some of the implications.