The foregoing analysis shows that what is important to the economy is the rate of spend on new wealth creation, because that determines the rate of wealth creation. This rate is MNW x VNW, and it matters far more than the amount of money in the economy. The distinction between amounts and rates is important but easily overlooked. Rates of money movement represent money flows and include time - for example £200 per year or £15 per month, whereas amounts of money represent money stocks. The money supply is the stock of money in the economy, but salaries, wages and any regular expenditure such as bank interest and gross domestic income are money flows.
A common confusion about this distinction relates to debt interest payments, and it arises because of the following question. Since banks only create bank money when debts are taken on, and the full amount of the debt is repaid at the end of the term, where does the money used to pay the interest come from? It seems that it can only come from new money created by new debts, so the money supply must continually increase. However that isn't the case, it only seems so if we overlook the fact that money circulates. Banks use the interest to pay salaries, dividends, bonuses and to buy things for themselves, and that money circulates back in the economy to be earned by work done by the people who are in debt to pay the next interest instalment, and so on. Recall the earlier description of money as a lubricant in chapter 10. There might only be a gallon of oil in an engine sump (the stock of oil), but when the engine is running that oil might circulate at the rate of several gallons per minute (the flow of oil).
MNW is money that is circulating in the wealth-creating loop: work - create wealth - earn - spend - obtain wealth - consume. MEA and MNU are not available for productive purposes because MEA is merely swapped for something that has already been bought earlier when it was new and MNU lies idle. Therefore they are unable to contribute either to wealth creation or economic growth.
Money moves from MNW to MEA whenever someone takes money that would otherwise be used for consumption or new wealth investment and buys an existing asset. This typically occurs when income is received by people who already have enough for all that they need and want without it so they invest it, the bulk of it buying existing-asset investments. Money moves from MEA to MNW whenever someone sells an existing-asset investment in order to buy a wealth-creating investment or to use it for consumption. This typically occurs when assets are sold, perhaps when a person dies and their estate is split up between the beneficiaries, when investors sell assets in order to provide for their families, or when someone at the head of a property chain downsizes. It is the net effect of all such movements taken together that affects the economy, in that when MNW rises the economy is stimulated provided that there is enough spare capacity to absorb it, and when MNW falls the economy declines. Conversely when MEA rises due to increased existing-asset investment, asset prices rise and new forms of contract are invented by banks and financial service companies (known as derivatives - see chapter 56) to absorb the new money and increase their business and profits, and when MEA falls asset prices also fall. If asset prices fall precipitously the rush to sell can cause MNU to rise because money is one of the safest assets to hold in these circumstances. In current conditions the overall net movement is from MNW to MEA, and is detrimental to the economy. It occurs because as income inequality increases (see chapter 97) there is a steady migration of income from poorer to richer, and the richer people are the more money they have in excess of their own consumption needs, so they invest it, largely in existing assets.
With a fixed supply of money, MNW, MEA and MNU would be linked together, one or two of them rising if both or one of the others fell. But the money supply isn't fixed, it rises when banks create more than they destroy, and falls when banks create less than they destroy - see chapter 39.
Money spends almost all of its time in one of several money buffers because transactions take practically no time at all, though preparing for a transaction may take a considerable time. MNW is found in productive buffers, for example people's wallets, pockets, shop tills, and heavily used current and business accounts. MEA and MNU are found in unproductive buffers, for example investor trading accounts, financial investment holding accounts, bank savings accounts and unused current accounts, and hoarded wherever people choose to hoard it.
Money that is transferred from a productive buffer to an unproductive buffer degrades the economy by limiting the number of wealth-creating transactions, whereas money that is transferred from an unproductive buffer to a productive buffer assists the economy by increasing the number of wealth-creating transactions - provided of course that there is sufficient spare capacity, otherwise it leads to inflation. Although money continually moves between MNW, MEA and MNU, at any time there is a quantity of money that is MNW, which determines the number and value of productive transactions that take place, and other quantities of money that are MEA and MNU, which have no effect on productive transactions.
When the Bank of England (BoE) injected £375 billion into the economy following the 2008 crash - referred to as quantitative easing[95] - with the intention of stimulating the economy, the money was used to buy mainly government bonds and also some commercial bonds. These were bought by the BoE from investors, so the money became MEA, which is why it had very little stimulation effect. Nevertheless it all appeared as additional BoE reserves[96] in the bank accounts of the bond sellers, which in spite of being MEA might in normal times have tempted banks to create more bank money for borrowers to spend in the economy. That was the BoE's hope. But those were anything but normal times. Banks had suffered a devastating blow because of excessive risk taking so instead of increasing lending they kept the reserves to bolster their balance sheets - both liquid assets and liabilities were up by equal amounts (the new reserves provided the liquid assets, the equivalent amount in new bank money in the bond sellers' accounts provided the liabilities), so the ratio of bank money to liquid assets was much lower and therefore bank risk significantly less.
If, in contrast, the BoE-created money had been targeted at spenders rather than investors, by giving it to the government to spend, preferably on investment projects using domestic labour and materials, then the money would have been MNW. Some may object that this would be illegal under EU Rules which prevents the BoE from funding the government directly, and although this is true it is easily circumvented. The government could have sold additional bonds to the value of the required infrastructure and other investment, and the BoE could have bought the same value of bonds from the market. In fact this is what quantitative easing did in essence, though it wasn't quite that blatant (Ryan-Collins et al. 2012 p118).
What a glorious opportunity was missed by targeting quantitative easing at bond purchase. It was done to disguise the fact that the state was printing money, giving the impression instead that it was a temporary measure to exchange new money for existing bonds, which would later be resold and the money removed when the economy was more settled. However the state can't sell £375 billion worth of bonds without major disruption. Firstly it would compete with the government's own bond issues, reducing their price and increasing the interest payable to the detriment of future taxpayers, and secondly it would take money out of circulation with all the damage that would cause to the economy (Jackson and Dyson 2012 Box 8A p226).
More sensible would have been to acknowledge that the economy needed money, and to spend it on long-term infrastructure projects such as flood defences, transport infrastructure, power stations and so on. There was ample spare capacity after the crash so the stimulating effect would have been immediate and significant. Imagine what £375 billion could have done if it had been spent. We could have catered for all our infrastructure needs for many years to come. Also £375 billion wouldn't have been necessary, because the income multiplier would have multiplied up the amount spent; at a guess less than £100 billion would have been required.
Instead the purchase of bonds merely pushed up their price because of the heavy demand by the BoE, and as a result massively inflated all financial assets, making the already wealthy even more wealthy. It might be argued that pension funds are major holders of bonds, so they would be better off too, improving pensions for ordinary people. However that isn't true. What pension funds do is pay pensions from the returns on assets that they hold, and the returns on held bonds didn't change. Bonds pay either a fixed rate of interest relative to their face value (the original value as set by the issuer prior to first sale), not their exchange value, and for a given bond that stays the same for its lifetime whatever price it is trading at in the market. Therefore pensions weren't improved by bonds being worth more; in fact they were made worse because future bond purchases by pension funds had to be at the higher price, without the return being any higher.
An important parameter for an economy is its Wealth-Creating Potential (WCP) - the maximum wealth that the economy is capable of creating in a specific time period, usually a year. If there is spare capacity then there is a gap between WCP and actual wealth created, otherwise wealth created is equal to WCP. WCP is not a fixed quantity; it varies with working population, availability of domestic raw materials and labour required for their extraction, availability and cost of imported raw materials, degree of innovation in production, and prevailing level of technology. Changes in any of these change WCP accordingly.
This concept is closely linked to the ideal quantity of money in the form of MNW in the economy, which should be such that MNW x VNW = WCP. Any more than this and there will be inflation, any less and there will be spare capacity. When there is spare capacity additional money should be introduced and spent, and when there is no spare capacity but there is inflation no more money should be introduced until the inflation has subsided, which it will do after a year if no new money is introduced, because inflation is expressed as an average price increase per year.
This aim for the ideal quantity of money is easy to state but not as easy to achieve given that the quantities of each form of money and the associated velocities are difficult to measure, and also with the complicating factors of banks creating the money supply, living in a globalised economy with floating exchange rates, and free movement of capital[97] - the ability to buy and sell physical and financial assets and currencies from and to people in other countries. It is ownership that is permitted to cross borders, the assets themselves may or may not move. Nevertheless at present there doesn't even seem to be any goal for the ideal quantity of money. The money we get corresponds to the demand for debts, which is extremely variable and leaves the economy at the mercy of the market - very much a situation where the tail wags the dog. Setting out what is desirable goes a long way towards allowing a means of delivering it to emerge.