In my previous post I first assumed that someone might borrow red money because he was credit-constrained (and thus couldn't buy goods without selling goods first). Then I proceeded to prove my assumption wrong, without even initially realizing what I had done (I woke up 6am this morning, and still lying in bed I realized my mistake).
By borrowing red money you receive red money, and buy buying goods you receive red money. If you borrow red money from a non-bank, and if red money can exist only as a debit balance on a checking account (which, I argue, must be the case), then the bank cannot differentiate between you buying goods or borrowing red money; the accounting entries are identical. (The same is true for selling goods and borrowing green money from a non-bank.)
I just wrote a short story about the need for collateral in the absence of trust, even when one only wants to sell goods. You find it here (Nick's blog).
So, let's forget the credit-constraint reason. The reason (for borrowing red money) I initially had in my mind when I started to write the previous post was the second one. It's this:
X wants to make a financial investment.
Financial investments in red-only world
In a green-only world, X would first sell goods and then make a loan of $1,000 to someone. In red-only world, the only way he can make a similar investment is for him to first take out a loan of $1,000 and then sell goods.
If X would take a loan of $1,000 but only sell goods for, say, $100, his investment would be 90 % debt-financed ("liability-financed" for Nick?), 10 % equity-financed. After first taking the loan, he can build his equity share by selling goods, which will be mirrored in his red money stock (a liability for him).
In red-only world, one builds a financial fortune by getting rid of borrowed red money -- while remaining a (big) borrower all along. Financial assets are red money loan contracts seen from the borrower's perspective, and holding this kind of asset is closest one can get to holding green money in red-only world.
In green-only world, when the loan expires, the lender first receives money from the borrower, and then he can buy goods with the money. In red-only world, the borrower, having earlier "spent" the borrowed money by selling goods, must first buy goods to get red money (back), and when the loan expires he delivers the red money to the lender.
Is red money borrowing equivalent to green money lending, as JKH says?
In a way it is, but in another way it isn't. What happens when a loan is made?
A green money borrower acquires both an asset (the money) and a liability (the loan).
A red money borrower acquires both an asset (the loan) and a liability (the money).
A green money lender gives up an asset (the money) and acquires another asset (the loan).
A red money lender gives up a liability (the money) and acquires another liability (the loan).
Initially, I find no symmetry between the positions of a red money borrower and a green money lender. (Instead, there is clear symmetry between the positions of borrowers and between the positions of lenders.)
The position of a red money borrower is comparable to the position of a green money lender only after the former has sold goods and got rid of the liability (red money) he acquired. That's probably the equivalence JKH talks about.
We see that one can neither sell nor make a financial investment in the red-only world without first incurring a liability. And to be able to incur that liability, one has to have a checking account and either be considered creditworthy by the bank, or be able to post collateral. For someone coming from the real world, this doesn't make any sense.
But I believe this is a feature, not a bug, in Nick's system. When he talks about red-only world, "Red Nick" is equivalent to "Green Clower". The requirement that one can only sell goods if one has red money is a "cash-in-advance constraint". Clower's requirement that one has to possess green money if one is to buy goods is silly, too. It doesn't make sense.
When we put the silly red-only and the silly green-only world together, we get the (slightly less silly) real world. When describing that world, we have two options:
- We can suggest that both green money and red money are media of exchange.
- We can suggest that green money is not a medium of exchange; that there is no medium of exchange, other than the record-keeping system as a whole.
Nick has chosen option 1. I have chosen option 2.
 Assuming "shadow banks" are forbidden. If not, then I would establish a money market fund which would buy (investment grade) red money loans from borrowers by issuing deposit-like shares to them. These shares would probably become the green medium of exchange.
 My "creditworthy" is more or less the same as trustworthy. Having eligible collateral probably makes one creditworthy, in another sense of the word.