1. Modelling the Great Transition
Emanuele Campiglio
Giovanni Bernardo
International Conference on Ecological Economics
Rio de Janeiro
19/06/2012

2. Introduction
• nef:
– Wellbeing and measurement of progress
– Reform of finance and banking;
– Environmental limits (fisheries);
– Social policy (work time);
– Inequality;
– “Good” jobs.
• Macroeconomic model of the UK economy: How to manage
the UK economy within environmental limits whilst
delivering increasing wellbeing and avoiding instability?
• Complex framework at first (Working paper – October 2011
– session 49, n.311)..
• .. then: focus on banking and finance.

3. Focus on money and banking
• Economic theory needed! Very poor performance of mainstream
modelling:
– No money
– No banks
– No debt
• Or, if present, banks seen just ad intermediaries:

4. But: banks create money
• Every loan creates a deposit
• “By far the largest role in creating broad money is played
by the banking sector.. When banks make loans they
create additional deposits for those that have borrowed.”
(Bank of England, 2007)
Berry et al. (2007) Interpreting movements in Broad Money, Bank of England Quarterly Bulletin 2007 Q3
Source: Bank of England, Interactive Database, data series LPQAUYM (M4), LPQVQKT (notes and coins), YWMB43D (Central bank reserves).

5. And most importantly,
they allocate money in the economy

6. The model
• Simpler framework centred on banking, money
creation mechanisms and private investment financing.
• Great attention to consistency (double-entry book
keeping).
• A consistent framework, to be modified and potentially
used for a variety of research questions:
– Green economy financing;
– Quantitative easing;
– Fiscal and monetary policies;
– Debt dynamics;
– Crisis/housing bubble;
– General macroeconomic dynamics.

7. The structure of the model
Aggregate macroeconomic framework
Production Demand Employment
Sectoral accounts
Non
Central
Banks Gilt sellers Households financial Government
Bank
firms

8. The macro framework
Wage share (α)
Consumption +
Government expenditures
(C+G)
Productivity (A) C  (1  t )W ; G  tW
Output (Y) Wages (W)
Capital (K) Aggregate
Demand (AD)
Profits (Π)
Labour (L)
Investments (I)
Y  AK1 L
Profit share (1-α) Net change in debt (ΔD)
I    D
Y  D  AD
Income + net change in debt = aggregate demand

9. The macro framework (t+1)
Time t Time t+1
Consumption +
Govt expenditures (Ct+Gt) Productivity (A t+1) Wages (Wt+1)
Desired Output
Labor Ldt Labor (Lt+1) (Yt+1)
Aggregate
Demand (ADt)
1
 ADt  
Ld   
AK 1 
t

Investments (It) Capital (Kt+1) Profits (Πt+1)

10. Sectoral accounts
Balance sheet
Assets Liabilities
Asset 1 Liability
Asset 2
Net worth
Total assets = Total liabilities
Total change in assets = Total change in liabilities

11. Private banks balance sheet
Balance sheet
Assets Liabilities
Reserves
Deposits
Loans
Net worth
Total assets = Total liabilities

12. Firms balance sheet
Balance sheet
Assets Liabilities
Deposits
Loans
Capital stock
Net worth
Total assets = Total liabilities

13. Central Bank balance sheet
Balance sheet
Assets Liabilities
Gilts Reserves
Total assets = Total liabilities

14. The mechanics of credit creation
Private Banks Central Bank 1. The bank lends 100 to
the firm
+100 +100 2. The bank seeks new
+10 +10
(Loans) (Deposits)
(Gilts) (Reserves) reserves at the central
+10 +10 bank (suppose r=10%)
(Reserves) (Deposits)
3. The central bank buys
the same amount of
gilts from the
Gilt sellers Non financial firms secondary market..
4. .. creating new
+10 +100 +100 deposits
(Deposits) (Deposits) (Loans)
-10
(Gilts)

15. Private banks balance sheet
Balance sheet
Assets Liabilities
Reserves Deposits
+10
+100
+10
Loans
Net worth
+100
Total assets = Total liabilities

16. Desired Investments : I d   N ; where  N    DR  Z
Demand for loans : Ld  I d   N  (  1) N
Credit creation : CC  Ld   (  1) N

17. Investments : I   N  CC  [1  ( 1)] N

18. The model

19. The model

20. The model

21. The model

22. Default run (η=1.2; β=1; r=0.1)

23. Default run with higher initial stock of
private debt

24. Default run with even higher initial
stock of private debt

25. Growth rates comparison

26. Banks confidence shock
(β jumps to 0.4)

27. Banks confidence shock

28. “Animal spirits” shock (η jumps to 1.7)

29. “Animal spirits” shock

30. “Animal spirits” shock

31. Growth rates comparison

32. Conclusions
• Much work still to do:
– Allow for households and government to accumulate debt;
– Make (some of) the crucial parameters endogenous:
• Propensity to invest (η) function of growth rate, profit rate, interest
rate..;
• Banks confidence (β) function of growth rate, profit rate..;
• How do central bank interest rate affect the rest of interest rates (on
deposits, loans etc.)?
• Future research directions:
– How does allocation of new purchasing power affect the
macroeconomy?
• Financing the green economy;
• Productive vs speculative investments;
• How does QE change the picture?
– What are the alternatives?
• Credit controls
• Public money
• Full fractional reserve banking

33. Thank you!
emanuele.campiglio@neweconomics.org
www.neweconomics.org