I am taking the proposal to the commercial banks - not investment banks and part of this exercise is to get the arguments straight. The system can be made to be very profitable for the banks as they will be able to lend money with no risk and take their regular “clip” on the way through.

It is important to realise I am NOT inventing anything new - only a different set of rules to ensure loans are repaid. That is why I have gone the route of zero interest loans. It fits in very easily with the existing system as it is variation on existing rules.

Economic strategies based on manipulation of prices are fundamentally flawed as they come from a misunderstanding of how markets work. True markets use price as the “governor” in the terms of James Watt’s steam engine. That is it is something that stabilises the speed or in the case of economics it stabilises supply to demand. James Watt did not use the governor to control the speed as that does not work but leads to instability. In the same way economists who try to use the governor (or prices) to control supply and demand will only lead to instability. Any price manipulation system like carbon credits, emissions trading etc. simply cannot be reliably used to control the input and output of the economic system. While it might appear attractive in concept in practise it just does not work.

No offense taken and I am quite used to gratuitous comments about my parentage etc. and I truly welcome brickbats as that is part of the evolution of ideas:) Better to have comments than the normal reaction which is polite non comment. Many people think - “this cannot be right - but it sounds plausible. I had better keep quiet just in case he is right”.

I understand exactly how the current system works and I have done more cost benefit analyses based around discounted cash flow than you have had hot breakfasts.

The difficulty with putting up radical ideas is that people take what you are saying “to the extreme”. I am NOT saying we get rid of the time value of money for most investments. I am saying that we do it where we want to get investments in areas of the economy where we know we want to invest but the existing system does not accommodate it - such as investments in ways to reduce ghg emissions - or in ways to prick asset bubbles before they get out of control.

Of course I am likely to get laughed out of “serious economic” discussions and I put up these blogs so that I am prepared for those occasions and to help me get material for the monograph “A solution to the Tragedy of the Commons”. As far as I can see your argument against getting rid of the time value of money for investment is based on the fact that that is the way we do it and so it must be right.

I might remind you that Islamic banking and most finance up until recent times was not based on discounted cash flows as the accounting procedure to evaluate the best investment. Discounting is an artefact to try to work out what is the best investment from a selection of choices where it is assumed that the extra value created from the investments (the profits) can be reinvested at the same return.

I am saying that this model is not the appropriate model if you want sustainable investments. For sustainability time of return is not the critical factor but total value returned from a given investment is the critical variable. If we want sustainability (getting more from finite resources) it is the total return that is the variable we should optimise.

I confess I’m unable to load the presentation you linked to on my browser, it just keeps “loading” for hours. I’ve been trying to follow the discussion between you and Scott. I suppose I’d need to see an investment bank opinion on whether it would work. But I’d still be wary of inventing a whole new kind of financial instrument and accounting standard to measure its worth, because the ones we already have have taken years to iron out the wrinkles.

I can see the problems you describe with the currently proposed methods. The investments required will be too big for the traditional tax deduction or rebate to enable them. The production return will too slow and unpredictable to base interest repayments on them.

Simply paying cash on the carbon-credits market also, as you say, potentially leads to cheating such as tree-replanting. Another way to deal with this type of cheating is to create an army of scientific carbon surveyors. Assess credits based on net increases or decreases in the carbon survey of a piece of land over the last ten years (or sooner if the landowner wants to pay an early survey fee).

Sounds expensive. But would it be more expensive than the scalpers’ market in carbon credits?

That’s one of the things that concern me. In a world with a finite number of carbon credits allowed to exist, those credits will become like rock-concert tickets or blocks of land in Pyrmont. Supporters of the trading scheme are obsessed with “determining the right price” for carbon credits, but they ignore the potential distortion effect on that price when an operator with lots of cash simply buys up all the available credits, exerting an overwhelming effect on the scarcity value, and then becomes a monopoly broker.

Thanks for the good references. Soil carbon particular of the “charcoal” variety is going to be an important part of the solution.

We know that adding carbon in its various forms improves soils and hence increases productivity. We also know it takes investment to increase soil carbon. Let us give zero interest loans with a repayment period related to the average length of time significant amounts of carbon remain in the soil.

For investments that lead to charcoal we could require the money to be paid back in say 100 years. For other investments where the carbon stayed for an average of 10 years we could require the money to be paid back in 10 years.

Farmers will not bother to invest unless it increases their production and if there is no interest on the loan then farmers will choose the method that gives the greatest total return.

This approach is much simpler than putting a price on carbon and will lead to investments that increase wealth as well as remove carbon.

One of the problems with carbon pricing is that people will use practises that remove carbon and not necessarily increase production. A good example is how to solve the problem of people planting trees then burning them down and planting them again which becomes a temptation when you put a price on carbon.

Using an investment approach - which IS NOT a subsidy - but is a different way of doing the accounting works better than trying to manipulate investment through prices - which is a price subsidy.

We have become slaves to the methodology of cost benefit analysis where getting early returns is calculated as being worth more than later returns. The accounting methodology we use for evaluating projects means that with a return on investment of say 20%, which is typically used for investment decisions, we will invest in a project that returns $1000 in the first year versus a project that returns $5,000 in ten years time.

Putting a time value on money means that we bias our investments towards the short term and leads inevitably to higher consumption rather than to long term sustainability and wealth creation.

It is sad that an accounting practice (discounted cash flow) has lead to this perverse result - but it is true. One way to fix it is to take away the time value of money when making investment decisions and that means giving zero interest loans paid back from earnings on the investments to put it into practise.

We now have a different problem and that is how do we restrict the amount of new investments. We can do this by putting a limit on the total amount of money we allow to be invested for any particular purpose and we allow the right to invest to be a saleable commodity. If the price is high we need to increase the amount. If the price is low we are probably trying to invest too much. However, if the price is low then people will not bother investing in the area and so it will self correct. This is how markets are meant to work and the approach will turn money markets into stable functioning market places compared to the current system where money markets are unstable and unpredictable.

The challenge is to generalise this method to other areas and conditions, and to design an economically efficient market for doing so. Economic aspects will be helped by the fact that you can grow more food as a corollary, and the world’s population is hurtling towards a global famine. I’m sorry if this unwelcome intrusion of hope rains on the parade of geosequestration being our only chance, but there it is.

It is not a con when I say “a small change to the financial system”. The small change in the financial system is to make the financial cost of building a new productive asset that reduces ghg emissions cheaper than the financial cost of buying an old asset like a power station. If you would care to take a look at the presentation you will find it is a market based system and much more practical and cost effective than any linear pricing mechanism like carbon taxes. This is NOT a subsidy but it is an investment approach rather than a pricing approach. Investments compound. Prices are one hit wonders.

Carbon taxes are not enough to solve the problem. Happy to have them but do a few calculations and you will soon see that we will have to increase the price of energy at least two times to encourage investment in renewables. Increasing prices is a linear effect. We need to get positive feedback into the system. Lowering the cost of investment through financial means introduces a compounding mechanism that will rapidly lead to lower energy costs.

You have the same misconception with respect to carbon in the soil. SOME of the carbon remains and is not recycled. It accumulates and builds on previous years. Compounding solutions are needed for compounding problems (last years ghg emissions are still there this year).

By all means have emissions permits and/or carbon taxes but do not think they will solve the problem.

Not for long enough!

When organic matter accumulates in the soil, it becomes a food resource that attracts new species of consumers, which brings the organic content back down to some new quasi-equilibrium. In the case where the oxygen supply is limited, sulphate reducing organisms take over. Then the accumulation of reducing matter becomes increasingly replaced with sulphide, and the soil is poisoned.

I am afraid that the scheme will be touted to the barons of industry as an “offset” for carbon emissions, giving them more right to pollute. Don’t believe it - it would fail the most essential requirement, that the carbon must be sequestered - where nature would not have done so - for thousands of years.

He also quotes the desperately important target of “zero net emissions and beyond”. Having tugged at our heartstrings, the sentence continues and refers to “a small change in the financial system”.

Is this a con? We are already facing a raft of schemes requiring subsidies, feed-in tariffs, etc, paid from carbon-based industry, all promising to rescue us from their paymaster. If they really were viable, they would be able to compete with carbon at some estimatable level of carbon tax. Yet we do not hear many of them demanding any carbon tax, just more subsidies.

Out with “offsets”. In with a Carbon Tax and let the market sort them out!

According to the theory, a positive-feedback process transforms the arid landscape into a less arid ecosystem, growing more agricultural yield and eventually generating more rainfall. One variation of this practice already seems to have increased the biomass in parts of the Amazon basin.

The carbon atoms don’t stay there; they cycle through the biosphere, but the increased terrestrial carbon mass does have a net permanent affect on the atmosphic carbon budget.

Anyway, at least read the report. Asking me questions beyond what’s in it is not much use, I’m not a scientist. I did write to them with a question of my own (about rainfall); I received a prompt and detailed reply.

10% of the world’s land surface is arable land or 13,500 million acres. 3,700 million acres is 27% of that amount or about 3% of the total land surface. The point about putting carbon into soil is it accumulates. Soil carbon is part of the solution and it can start to reduce ghg levels - provided we invest enough money to make it happen.

Take a look at the presentation I mentioned above http://www.slideshare.net/cscoxk/zero-interest-loans-for-energy-sustainability on how we can get enough investment to get to zero net emissions and beyond by a small change in the financial system.

The point I am trying to make is that we can reverse the levels of ghg concentrations and be wealthier in the process. Most of us believe we need to have a sustainable society and it is achievable.

The banks when they give a loan write a promissory note saying that the bearer can have x dollars when they want it. In return the person getting the loan promises to repay the loan at some time in the future and if they don’t they will forfeit some asset against which the loan is secured. There are some institutions that are allowed to write out new promissory notes in the government’s name rather than in the banks name. That is, the government has outsourced the creation of its money (promissory note) to banks. In return for this privilege the government requires the bank to repay the promissory note if the loan defaults. To make sure the banks do not create too much money on the government’s behalf and that the loans get repaid the banks have to obey a set of rules and regulations. One rule is that they shall have “capital adequacy” so that there are enough things on mortgage and in reserves to cover all the loans. The other is that they shall have 8% in “liquid assets” to cover deposit withdrawals. When the loan is repaid the “promissory note” is destroyed - that is the entry the bank has made in the borrower’s account is written off. The fact that the money is “covered” by liens on other assets is irrelevant to the fact that the bank has created money even if only for a short time while the loan is outstanding. The banks borrow money to make sure they cover their capital adequacy and fractional reserve regulations not to lend - quite different things. The Reserve Bank only creates a small proportion of the increase in the money supply.

We can change the regulations so that the bank can make zero interest loans but NOT be required to pay back the money if the loan defaults. The proviso is that the loan be made in a way that makes it highly probable that the loan would be repaid. What is important in the proposal is that the way the loans are made make it highly probable that the loans will be repaid. It requires a change in the capital adequacy and liquid assets regulations BUT it can be done and it will work - if the loans are repaid.

As you say the government is already guaranteeing the money created by the banks. Of course they are winding it back because it encourages risk taking on the part of the banks. Please take a good look at the restrictions on zero interest loans and you will see that it is NOT the banks taking on the risk but it is the borrowers taking on the risk under very constrained circumstances in a way that pretty well guarantees the loan will be repaid.

With respect to your statements about China the size of the population has nothing to do with the percentage growth rate. It is - as you say - investing in infrastructure and it is spending money on ways to increase output. Australia would grow at the same percentage rate if we invested the same proportion of money in ways to increase output instead of simply spending money pushing up the price of existing assets and spending a high proportion of money on consumer goods that do not increase output. Housing bubbles and consumption items do not increase long term wealth.

What you are describing with your $480 is the multiplier effect, which is more about how spending in the economy can stimulate economic growth (as people spend more on goods, businesses will then hire people who will spend etc..). Its a transaction based thing though…There is a variable called the “propensity to consume” which details how much a population will spend given $1 of income. This can then be used to calculate the multiplier. This is a positive thing..Means economic growth can increase greatly as a result of small government/private sector spending or investment. Has no affect on the money supply though (but is used by governments to calculate the effect of fiscal policy)

Banks have to track their assets (the loans) and liabilities (deposits) as they constantly need to prove to APRA that they are solvent. APRA is pretty diligent in keeping track of what is going on (especially after the HIH debacle). As mentioned before, the Reserve bank tracks the money supply to ensure this is kept under control.

And there is nothing wrong with the CDO process you described. Packaging up debt securities is fine (as long as investors are being paid to take the risk). The CDO’s should have had a higher risk premium attached to them in regards to yields. In fact lenders like RAMS and Aussie (As they aren’t banks, they don’t have access to deposits), used RMBS’s quite successfully to write loans, package up the debt and then write more loans. They didn’t fair too well when the bottom dropped out of the RMBS market however and got taken over by the majors. But its the consumers that suffer (as noone is there to compete with the big 4 and keep margins on mortage interest rates low)

They are now funded on the basis that if they do discreetly achieve some world-class science, their public face must only be associated with the pipedreams of industry. Such pipedreams include environmental obscenities such as underground gasification, biosequestration, and geosequestration.

Consequently, respected CSIRO scientists are funded to check what can and cannot be done, and only announce what can be done. If they say that it is possible to balance/park/store/conceal the entire world’s CO2 emissions in soil biomass, they can only leave it to their readers to notice that it is not going to stay down there.

There is currently 1.6 kg of anthropogenic CO2 above every square metre of land, sea and ice, increasing. If 3% of that area is the soil which is going to absorb that, then we are invited to believe that up to 50 kg/m2 of extra biomass is to appear in the soil column. Since it wasn’t going to be there without this generation’s ingenuity, we must ask derisively, how is it going to be maintained there for the next 30+ generations?

But this issue, as we have agreed, is that the banks only hold a fraction of what they lend. If we assume they are really conservative and keep 20% then,

If I deposit $100, the bank keeps $20 and lends $80. That $80 gets spent on something and the business who benefit put it in their bank.

These banks keep $16 and lend $64. This $64 gets spent on something, deposited and relent.

And so, on.

If you calculate that out until there is no money left to lend, my $100 eventually secures about $480 dollars in loans. Lets assume the news is good, and they all get repaid. Then, hey presto, there are $480 dollars on deposit created through nothing else but the repeated lending of my original $100.

So it doesn’t just appear there is more money in the system.

The problem with CDOs is that, having sold debt off their books, the banks can reset this whole sorry machine and start lending again. Eventually they have too much debt to be balanced by their assets, so they sell this as CDOs and reset the machine again. Its nothing to do with the CDOs, or their risks, is about the banks not having to track their money creation.

Terrestrial sequestration does not conceal anything; but if effective it can drive a positive-feedbackup process leading to in increase in carbon in and on the soil. The fact that carbon turnover continues is necessary, but also means there is no “concealing” going on.

Anyone not familiar with the positive-feedback terra preta process might really find it interesting. According to the Wentworth Group of Concerned Scientists in the report I linked to above:

At a global scale, a 15% increase in the world’s terrestrial carbon stock would remove the equivalent of all the carbon pollution emitted from fossil fuels since the beginning of the industrial revolution …

If Australia were to capture just 15% of this biophysical capacity, it would offset the equivalent of 25% of Australia’s current annual greenhouse emissions for the next 40 years.

Banks do create money every time they issue a loan. When I buy something on a credit card money magically appears in the account of the person I payed, and that same amount of money then gets repaid to the bank by me + interest. Where there was no money, there is now two lots of the purchase price in circulation.

The only thing which would stop this would be if banks had to have all the money they lent. But they actually only have a fraction of what they lend, and so are pretty free to expand credit. Even more so if they can sell their debts - all those CDOs which were sold to punters around the world - and clear their books to take on new ones.

If this sounds illegal, immoral and wrong, I offer one simple test. Find someone with money on deposit with a bank who has been told “sorry, this money is currently unavailable for you to spend because we have lent it to X for their house. Get back to us in 30 years”.

Secondly, our banks get a large percentage of their money from international capital markets. The RBA has no control over this supply of money. It also as no control over whether
foreigners pump huge amounts of US dollars into our system by buying Australian dollars.

Not sure how that all relates to dirt and such, but I just wanted to say how much the banks are at the very centre of selling the financial system down the drain.

Yes, we need expenditure on infrastructure. However that infrastructure should have already started, with vast fields of solar collectors, both thermal and PV, a distribution network of compressed hydrogen for vehicles and a wave of nuclear reactors across the country on the sites of existing coal and gas power stations.

Above, both James McDonald and Kevin Cox attempted to identify legitimate offsets. However neither scenario conceals carbon where it would not otherwise be concealed, for more than 1000 years. Sure, some charcoal or lignin remains after thousands of years, but it is a tiny minority of that which has passed through the soil in that time. BTW - 3700M acres is about the total of the world’s arable soil, and 1 Gt/a of CO2 (even if sequestered permanently) is less than 5 % of current emissions.

Firstly, banks don’t create and destroy money. When a punter gets a loan, the bank has to find the money from somewhere, it can’t just type a number into a computer. Banks obtain money from a few sources (Deposits of savers, overseas investment and even the Reserve bank) Now all these sources invest in bank bonds, wanting a return. The bank has to pay these guys for the use of their money. So a bank is never going to lend money without making a profit on the difference between their costs of finance and their return from their funds. A bank that did would get APRA on their case pretty quick.

P.S For future reference, only the Reserve Bank can control the money supply. It does this mainly by selling or buying foreign currency and government bonds.

Secondly, what you are proposing is less a zero interest loan and more of a zero coupon bond. A bond is bought in year 1 and then sold in year 5 at a price that matches the future value of the bond (determined by interest rates and yield). The difference between buying price and selling price is the yield and is a substitute for the interest. Established financial instrument. Problem is that such a bond to invest in a startup business to build a plant would be rated at “junk” status as the default risk would be huge (especially if the bond was 3 years or more). The Yield would have to be huge for even a hedge fund to be interested. No bank would touch it.

Thirdly, the Government guaranteeing bank funds is not a good option long term. it was bought in recently due to the Financial Crisis, but is starting to get wound back for reasons that it encourages risk taking by financial institutions (never a good thing). The government can’t guarantee it for ever.

As for China, the reason it is growing so quickly is that it has a huge population, it is investing in infrastructure (but not all of it “green”), and it is starting to improve technology (the three fundamentals in the long run economic growth equation). However China is also a developing country. Australia, even if it invested huge amounts in infrastrucuture would grow at a much slower rate.

That and, as James McDonald said, it was never written for an Australian audience, it was written to be waved proudly for the other world leaders and make Rudd look like the man of the hour.

In relation Bernard’s comment that “far from taking money out of the economy, the CPRS requires a huge Budget subsidy until 2016” - and then the response from John James - the subsidy could come from cutting spending in other areas, rather than increasing taxes - or heaven forbid, more borrowing. It would be interesting to speculate which of these options will be chosen.

So his contribution is quite acute, and he is on the side of the taxpayers, I think!

The fact that carbon credits will be a finite resource means they will get seriously scalped in a speculators’ market, a bit like Australian residential land. They won’t be like computer chips where you can always bring more factories online if demand goes up.

Better to just agree targets, tax emissions, and provide tax rebates for mitigation measures to be measured by an international standard.

Here’s the discussion paper on on terrestrial sequestration for Australia: http://www.wentworthgroup.org/docs/1270%20Optimising_Terrestial_Carbon-9b1.pdf

By the way I wrote to the authors asking if these measures would increase rainfall long term. The answer came back that a number of factors will affect rainfall trends but the proposed measures would be positive drivers in the long term.