The subject of money is being much discussed on this blog at present - and common misunderstandings and misrepresentations as to its true nature are flowing, as is usual when this subject is discussed. As such can I recommend Where Does Money Come From? , published by the New Economics Foundation? They say of this:
This book argues that the process of money creation, and how new money is allocated within the economy, is widely misunderstood by economists and policymakers, and yet needs to be reformed if future financial crises are avoided.
- The UK's money supply is created by commercial banks when they extend or create credit, giving such institutions vast power over our economic destiny
- This system over-expands the money supply during booms, causing credit bubbles, and reinforces monetary contraction during the bust, causing longer and deeper recession
- Quantitative easing (QE), as currently practised, is highly ineffective in stimulating new employment and investment
- There is no strategic regulatory guidance to ensure that commercial bank credit supports productive investment rather than speculation, in contrast to previous practice in the UK, and widespread current practice among our industrial competitors
And yet, the ICB does not examine the implications of the role of banks as creators of new money in its 358 page final report.
Tony Greenham, head of Finance and Business at nef, former investment banker and co-author of the report said: “The Vickers Commission was charged with preventing a repeat of the financial crisis of 2008, but their proposals do not touch the root cause of that crisis: namely, the process of money creation when banks extend credit. How can the ICB expect to prevent another huge credit bubble when they haven't even asked, let alone answered, the question ‘where does money come from?'. Unless policymakers understand the process of money creation, and ensure that it serves the public interest, we will never get sustained economic growth in the sectors that provide jobs and improve society, and we will always be at risk from financial crisis.”
The book identifies several implications of the power of banks to create new money:
- The system is inherently unstable because it depends on the confidence of the private banks themselves, and not on interest rates..
- The government has no direct involvement in the money creation and allocation process, through fiscal policy or otherwise.
- Banks make the decision where to allocate credit in the economy, but are inherently incentivised to channel new money into property and financial speculation rather than small businesses and manufacturing.
- Current capital adequacy requirements have not and do not constrain money creation, and are unable to prevent credit booms.
If you want to get to the root of this issue, then this is where to start.
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If governments insist on keeping the same system of giving IOU’s to the banks, insurance companies and pension funds to borrow money rather than government simply creating it itself, then we should ignore the deficit terrorists and remember the lessons of the public borrowing in the UK after World War II.
After the war, the government pushed borrowing up to a unprecedented 250%! This largely resulted in new homes, new productive industry, full employment and without doubt the most prosperous period of time in our history. Inflation stayed relatively low as well, giving the lie to statements that high government borrowing and spending strictly leads to high inflation.
As we are apparently in debt (though nowhere near as much as the ConDems would have us believe) a dose of wage inflation would do much to help erode the debt. Debt equals money, therefore, a lowering of the value of money helps lower the value of debt.
Massively borrow and spend on productive industry, get demand and the economy moving and return to the days when the economy was run (to a much larger extent than it is is now, at any rate) for the benefit of everyone rather than to the benefit of corporations, financiers and banks.
Lets ditch junk economics.
This book appears to be disastrously superficial, revealing deep ignorance on the economic system.
From what I can tell from the overview and information provided, the author has correctly identified some key public misunderstandings about money, and has come to some correct conclusions. But essential parts of the story seem to be absent.
There should be at least a chapter explaining the root source of demand for modern money – taxation. Without taxation, businesses would simply avoid the rent-seeking bank-created money, using self-extinguishing mutual credit, warehouse receipts and commodities instead. Bank-created money would deflate then hyper-inflate.
Banks collect and distribute money-rents on their spreadsheet entries. Remove the rents and their power evaporates.
Most money is created for home/land buyers in exchange for mortgage deeds. Land can deliver the owner a stream of publicly created wealth generated in the natural and commercial environment, and by government services. Private land ownership is the root source of the majority of money rents, even although the source is publicly created.
The next biggest path to money creation is in exchange for government bond issue. Government bonds are serviced and repaid through taxation of public wealth creation. Banks collect these taxes using the government as intermediary.
Legitimate government spending is almost exclusively to supply local services, access to which is controlled by and thus beneficially incident on land owners.
It becomes clear that mortgages are at the core of the money system, relying on the double-fraud of government-backed, privately-issued bookkeeping money entries on one side and private appropriation of publicly-generated land rents on the other. The fraudulent system loop is closed by the government’s taxation on wealth production – Income Tax, VAT, NICs, Corporation Tax.
Anyone wanting to understand where money comes from would be better off reading Wikipedia on Modern Monetary Theory, and reading the works of Silvio Gesell, Gottfried Feder, Henry George and James Robertson among many others.
Anyone who studies taxation must understand the integral nature of tax, money, wealth and land. They comprise one system. Books like this which try to explain just one of these topics in isolation are bound to lead to confusion.
Respectfully I don’t agree
And explain why in the Courageous State
Whether your proposition that the root cause of the demand for ‘modern money’ is taxation is correct I can’t say as it’s not my area of expertise. That said, I do find your assumption that ‘businesses would simply avoid the rent seeking bank created money’ if they were free of taxation hard to believe. Leaving that aside, I was going to point out that Michael Rowbotham’s book ‘Grip of Death: a study and modern money, debt slavery and destructive economies’ (1998) also contains a detailed analysis of this subject, although it doesn’t reach your conclusion. Whatever theory is or isn’t “right”, however, it’s interesting to note JK Galbraith’s take on money creation: ‘… a method so simple the mind is repelled.’ And as Rowbotham tellingly add’s ‘ Although simple, it is almost breathtaking in it’s audacity.’ That, I think, about sums up the contemporary global financial system and many of those who control it.
Ivan
As usual I agree
There is a link between tax and money that I do completely confirm. It is the fact that a currency must be used to pay tax that requires its use. If tax could be paid in any currency then we would have more circulating
But I am not at all sure that’s a bad thing
Richard
“There is a link between tax and money that I do completely confirm.”
Good. This is a start. But often in economics there is a financial perspective and a complementary real economic perspective, both of which are needed in a coherent systemic analysis. In this case, the second link is through the real economy whereby tax revenues are used by the government to command real services for land owners or their tenants. The real wealth available to land owners is able to be pledged to banks in the form of mortgage payments, transferring real wealth to bankers.
“But I am not at all sure that’s a bad thing”
As basic economic science, the financial link between money and taxation is neither good nor bad. A key problem is with completely misconceived tax structures which channel wealth from producers to land owners, disregarding the links. Until money reformers, tax reformers and land reformers understand this, making a systemic analysis, they will continue to produce incompatible, half-baked solutions.
I’ll try and get my hands on “The Courageous State”, but I am skeptical of finding a coherent alternative systemic economic analysis.
And respectfully, you’re definitely not offering one, at all
surely money creation and wealth creation are two completely different things. A better course may be a system to only allow money supply to increase at the same rate as population increase thereby ensuring true comparisons in all commodity values.
That’s idealistic – rather too much so, I fear
Th simplest answer is banks have to pay for their cash to the state
“banks have to pay for their cash to the state”
I agree with the basic idea. Banks should not be the money creating power.
But most money created is by banks when selling mortgages. If banks are paying the state for the money they create, how is that different in substance from the state creating money directly when home buyers pledge property payments, as I suggested?
The second largest component of money creation is in exchange for government bonds issued. If banks have to pay cash to the state when they create cash for the state, how is this different in substance from the state issuing the money directly – making the bond issuance redundant?
Allowing banks to create money, then trying to claw it back through Corporation Tax, Financial Transactions Tax, Income Tax and NICS and whatever banks would use to “pay for their cash to the state” seems a rather roundabout solution to restoration of state sovereignty.
The simplest solution to reducing bank subsidy is for the state to accept in tax only the money it has itself issued – by spending or for property. purchase.
Richard, It is so important that you have highlighted this subject. In various commercial situations where, for instance, negotiations are taking place, hopefully to win export orders, and which require the involvement of government officials, MPs and bankers, it is obvious that many do not understand the principles described here, and yes – including the bankers.
I suspect that there are those who have achieved PhDs in economics who have still not mastered these banking facts. It is worth recalling that HMQ asked the LSE why they were not aware of the events which unfolded in 2008, leading to the collapse of Lehman Bros etc.
Where does the money come from to pay the interest on this created credit??
It becomes clearer by the day that the whole of the finance sector is one giant ponzi scheme, and now that whole of the executive class has been replaced by individuals solely motivated by the acquisition of personal wealth to the point of destroying their own institutions in it’s persuit – they have to be disempowered. We now have a knowledge base (the true source of economic wealth) accessable to all – unless restricted by false cabals of Intellectual Property – Capital has to be distributed more democratically – as someone once said – St Matthew or Mr Marx “From each according to his ability, to each according to his need” We now have the technology, some of us have the will – but will it be Syria or Tunisia.
“The government has no direct involvement in the money creation and allocation process, through fiscal policy or otherwise.” exactly – and most people do not get this, or even believe it. We don’t need to nationalise the banks (just dissolve them) we need to nationalise money.
Well done Richard for spreading the word. I would highly recommend watching a short video executive overview of the book by Tony Greenham…
http://www.neweconomics.org/publications/where-does-money-come-from
It is essential more people undrstand where money comes from, but also important what most of it used for. If it is true that most of the credit (money creation) is channeled into financial speculation (gambling by another name), wouldn’t the removal of, or at least imposing a ceiling on, the tax relief available to fincos in respect of their interest payments on credit for financial speculation have the desirable effect of damping down this speculation without negatively affecting the availability of credit for small business and manufacturing, even possibly making the latter more attractive? Wouldn’t it also generate significant revenues for HMRC which could be used for example, to reduce NI contributions thereby puting more money into the pockets of families?
Restricting tax relief on interest seems an essential reform to me
I agree with you that this reform should be essential. Surely the fact that tax relief on interest payments was not restricted was one of the reasons why the private equity sector ballooned out of all proportion.
It was
And one of the first people to ever suggest to me that this reform was essential was, rather oddly, a PWC partner
“There should be at least a chapter explaining the root source of demand for modern money — taxation.”
Complete rubbish.
Demand for money stems from western consumers wanting lifestyles they can’t afford to fund from their earnings and western business managers wanting to fool investors into thinking the businesses they manage are more profitable than they really are.
At the height of the last boom, consumers were debt funding the ripping out and replacing of perfectly serviceable bathrooms and kitchens, a ridiculously inefficient way to save.
At the same time, well thought of companies were borrowing huge amounts while paying generous dividends because they failed to strike the right balance between saving and spending earlier in the decade.
Tax enters the picture because of the greed and irresponsibility of those in charge of the financial services industry. They just won’t pay their fair share of the money needed to run the societies whose citizens provide the wealth they manipulate.
“Demand for money stems from western consumers wanting lifestyles they can’t afford…”
Funny. That sounds more like supply to me. Western consumers want to acquire “stuff” by getting rid of money in exchange. It’s demand for goods you see. Without taxation, the ultimate effect is that the suppliers of all the “stuff” have all the money (from profits) and don’t have anything much to do with it. Consequence: hyperinflation. Western consumers running lifestyles they can’t afford are dis-saving – spending more than they have and contributing more to supply of money than demand for money.
It’s really interesting that even on this most basic feature of modern money we don’t agree!
I’ve just watched two videos from positivemoney.org.uk on You Tube which propose a similar view they say give the power to produce money “to an independent, accountable and transparent body, such as the Monetary Policy Committee at the Bank of England. This body could then create money only as long as prices were stable. If house and food prices started rocketing like they did before the crisis, then they would have to stop creating money until prices had stabilised again. This is the opposite of what happens when the banks control the money supply, and would mean that we could have an extra £30 billion to spend on schools, roads, and hospitals, never have to bail out a bank again, and have a better economy to do business in!”
Similarly where do the stock market gains come from. If a company was worth £10m last year and is now worth £100m, due to investors confidence, that has caused devaluation of the currency. Dot com bubble anyone?
Why does every country in the world use the same type of banking system? Because properly managed (something the BOE, FSA and govt seem incapabled of doing) it is the best system for support economic growth. People seem to have this idea that banks are free money printing machines, that just rip the public off. In fact banks are actually not very profitable businesses based on the capital that they are required to hold, almost any other business is more profitable on a return on capital basis.
This is now troll worthy stuff
Why are 5 of the top 10 companies in the Uk banks in that case
Unless you try to contribute to debate in future I will be hitting the trash key, often
5 of largest top 10 companies are banks, that doesn’t mean they are profitable. UK banks will be lucky to earn a 15% return on equity in the future, yet Marks and Spencer earns 25%, Unilever 32% and Tesco 18%. So for every £1 a UK banks shareholder puts up, they only earn half the return that a Unilever shareholder does.
Given the risk of the UK property market, I wouldn’t invest in a UK bank in the hope of get a 15% return, they simply aren’t profitable enough given the current capital requirements. That is why they are trading at a discount to book value.
The problem with the banking system is not that banks create money, but the amount of money that is created and that needs to be managed properly by the monetary authorities and regulated properly by the regulators, because as we know bank management seem incapable of controlling themsleves when it comes to lending. And proper regualtion, not something that is easy to get around like self cerfitication.
What is scandalous is that the likes of M&S can claim to make 25% and banks 15% and yet the net rate of return in pension funds in the last decade has been 0%
Might you explain that?
Richard, do you have a link to the 0% return on pension funds over the last 10 years?
So widely referenced I got it from City of London
Last time I looked pension funds had done around 3.5% a year for the past 10 years, which although higher than 0%, is still dismal and certainly not worth paying a fund manager for. The big fund managers have a lot to answer for in terms of not holding executive pay to better performance, yet they should have more sway with the corporates than the hedge funds that usually attacked management.
The FTSE has done nothing over 10 years, an oft quoted stat, but then that excludes dividends which would have been 3-4%.
The reason why investors haven’t been delivered the return on equity I quoted is that many companies had a few years of losses, esp the banks where effectively all investors in Northern Rock, Alliance & Leicester, Bradford & Bingley, HBOS, RBS lost all their money. So in most cases the pensioner that owned the banks got wiped out by the idiotic management, as well as the actions fo the FSA, BoE and govt, which need to take as much blame as the bankers (becasue we all know that bankers will be greedy at the extremes of the amrket, so it is up to the regualtors to control them!)
Well clearly fund managers did not know and still do not know so you are wrong yet again
And claiming the dividend return = yield is ridiculous a) because cash made more and that required no management at all
You also ignore charges
Anything else you want to misstate?
“Why does every country in the world use the same type of banking system?”
Because it is the best system known for empowering rulers to confiscate wealth from the productive economy in order to fund wars, plunder wealth and shut down competition.
The British Empire was built on the military power of England’s Navy, funded by money issued by the Bank of England. World War I was funded by the Federal Reserve System and the Bank of England – based on an expectation of repayment from plundering Germany.
In recent times, Iraq’s Saddam Hussein announced switching to selling oil in Euros (via France’s Total/Elf). It didn’t take long for Baghdad to experience Shock and Awe from Federal Reserve System funded weaponry. The first action once the invasion had taken place was to dump 36 tons of $100 banknotes from transport planes.
And earlier this year, Nato was involved in carpet-bombing Tripoli after Libya proposed moving to a gold-based currency with the help of its former publicly operated monetary authority, the Central Bank of Libya. The first actions once Benghazi was taken was for The West to create a “modern” central bank – the Central Bank of Benghazi.
because “it is the best system for support economic growth.it is the best system for support economic growth.”?
Nope. Time and time again, alternative systems are taken out by state-backed violence whether the small-scale local money systems or big national systems. I don’t call war plunder “economic growth” even when a nation’s GDP rises as a result.
Yes, I agree with your analysis here. There are still a few countries which have not accepted the “Rothschild” banking system and The West is at war with most of them. N Korea and Cuba are two examples. The large majority of countries are in the BIS club and are controlled by its leading bankers.
I noted your point about the necessity to include taxation in the money cycle analysis and when, in the past, countries succumbed to the central banking system, new taxes were introduced, in effect to pay the interest charged on the issuance of new money by the various means available.
It is explained by your figures probably being incorrect.
Except they’re not