Banks are not your friend. They exist to exploit you, and they will whenever they can.
This is the audio version:
This is the transcript:
Banks want to keep you in debt.
I know they produce those lovely cuddly adverts that imply that they're your friend, helping you out as you go through life, but all of that is complete and utter nonsense. Banks exist for one reason and one reason only, and that is to keep you in debt. Everything else that they do is peripheral to that goal.
Now let's just, for the sake of the record, have a look at what they really do.
Firstly, they do a lot of bookkeeping for you. You might not think of it in that way, but that's actually what most of banking is all about. They maintain your bank account, and all that is is a bookkeeping process.
You tell them to reduce the balance in your bank account and increase the balance in somebody else's bank account, which is, after all, what happens when you make a payment, and they record it.
You ask your employer to make payment to you at the end of the month, and the bank records it.
This is bookkeeping. It's important. I will not dispute that. They have to get it right. That's vital. But nobody, and let me be honest about this, and I have a lot of experience to back this claim up, has ever made a fortune out of bookkeeping. It's just not that sort of activity. It's routine. It's becoming increasingly automated, partly by you because, of course, you probably now do online banking, meaning that you actually do the bookkeeping for the bank itself, and it will become even more automated using AI.
Nonetheless, that is the first, and perhaps in real terms, most fundamental role of banks in the UK and other economies around the world.
The second thing that banks do is borrow money. They borrow money from you. If you have what you call money in the bank, you have lent the bank that money. It's no longer your money, by the way. It's their money. You've lent it to them. They now own it. They owe it back to you. But you own that debt from the bank, not the money itself. It's a very important point to remember, because banks can fail. But the important point is that banks borrow from you to provide them with what is called capital in the event that there's a run on the bank and their creditors, who are other depositors, turn up and demand their money back.
That's why they borrow money.
They don't borrow money to lend. We'll get to that in a minute. They borrow to pay out creditors in the event of a panic.
Now, the fact is that in the UK, there has only been one such panic since 1860, which was the run on Northern Rock in 2007, as a result of which, the government guaranteed all the deposits in Northern Rock and every single person got paid, and they introduced the scheme that now guarantees the balances in every bank account in the UK up to £85,000, meaning that the chance of another run on a bank is very low indeed because people know that they don't need to panic in the event of such an eventuality arising, and therefore the amount that the bank is willing to pay you to deposit money with them because they don't think that the risk of a run arising is very high, is very low. That's why they're so mean with the interest that they pay on your savings.
And then the third thing that banks do is they lend money, and this is where they make their money. The vast majority of their money is made by lending because they charge people to borrow money a great deal more than they pay to people who deposit money with them. But that's because the two transactions are entirely unrelated to each other.
I've made videos about this before, and no doubt I will make videos about this again, but when a bank creates a loan, it does not lend a depositor's money to the person who gets the loan. They can't because they still owe that money back to the person who deposited it with them. They can't, therefore, lend it to somebody else without getting an agreement between the person who deposited it and the person who would borrow it, and there is no such agreement between those people. They've never spoken to each other. They don't know who each other is.
The bank creates new money when it lends. It simply marks up the loan account of the person to whom they lend money with the sum of, let's call it £10,000, which they make as a loan, and they mark up the person's current account with £10,000. One, of course, is a debit. One, of course, is a credit. That means, in layperson's terms, one is borrowed money and one is deposited money, but it's all being made by simply tapping numbers into a keyboard. And because one is a minus, which is another way of thinking of these things, and the other is a plus, which again, is a way of thinking about these things, if you add them together, they come to zero, which is how the bank can create the money out of nothing. They just split zero into two equal parts of £10,000, one a plus and one a minus, and there's still zero. But the person who now has money in their current account thinks they can spend it. And because of the credibility of the bank, which has been licensed by the Bank of England, everybody accepts that they can spend it. That's how banks lend money.
But notice two things. First of all, it costs them nothing to create the money that they lend. I mean, literally nothing at all, apart from the few minutes it takes for a person to tap the numbers into the keyboard. So, okay, a tiny, tiny cost to create the loan, but nothing like the scale of the charges that they're now going to make in terms of interest.
And remember that they also charge you a risk fee. When they lend money to you, they don't just charge you a pure interest charge. If they did, they would lend money to you at the Bank of England base rate. They don't. They will lend at an interest rate several times higher than that, and if you borrow on a credit card, maybe seven or eight times that, sometimes, because they're allowing for the fact that some people will not repay, and they charge for that as well.
But at the end of the day, this is their core business and where they make their money. And if they got you out of debt, if they were that nice, cuddly, friendly person who comes up to you and says, we can sort out your financial problems, we can arrange that you are no longer in debt, which is what most people would love to be, they would have no business left.
There would be nothing for them to make money from.
They couldn't survive, or they wouldn't at least survive making the extraordinary profits they do, which have driven the world's leading banks into the ranks of the highest-earning companies and highest-value companies in the world.
So these banks are determined that you stay in debt, and before you, by the way, contradict me and say, but that isn't the three things that a bank does, because banks also sell life assurance and other types of financial products - yes, they do do those things. They sell pensions as well, but they aren't core banking activities. Other organisations can do that. They just choose to compete with them because they're conglomerate organisations. I am talking here about banks' role as bankers, and they only do those three things. They bookkeep, they borrow and they lend.
And so, when we think about the role of banks in our economy, they have one entirely pernicious role as far as you're concerned, and that is to keep you in debt. They want you to be in hock with them from now until the end of life, if it is at all possible, which is why they now sell mortgages that last for such long terms, and the reason why they want to keep you in debt is that they make money out of you as a consequence.
There is a good reason why mortgages are called mortgages, by the way. The term mortgage, if you look at its derivation, comes from the words which represent 'the grip of death'. And that's what they're trying to do. They're trying to keep you in debt to them forever. Credit cards, mortgages, car loans, whatever else it is. All of those things, backed up by the power of advertising to make sure that you want the things that you cannot afford at present, guarantee that the banks will make money in perpetuity.
So, my advice is this: it's very simple, it's very straightforward, and it's blunt. Never trust a bank. They will never have your best interests at heart. They will always be putting their priorities above your own, and they will always be trying to fleece you. It's a simple, straightforward rule of life.
Use them when you need to for the bookkeeping, because you won't pay much for that.
Use them if you want to deposit money somewhere safe, because they probably are pretty safe, because the government guarantees the repayment of your funds.
But whenever you can avoid borrowing, because borrowing is designed to make you miserable, because you'll have less money available to you than you might otherwise.
I can't pretend that you'll go through life without borrowing. I have. I know that the vast majority of people do. We need homes. Most of us have to buy them using mortgages, but wherever you can keep clear of bankers because they really, really do not care about you.
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I certainly agree with the thrust of your piece but I have a couple of quibbles.
I don’t like the way you use the word capital when you write about banking. Sure, “capital” in the non-banking world can have broader meaning including money that is borrowed but this gets confusing when discussing banking because debt is the product they manufacture and deal in.
You say “banks borrow money to pay out creditors in a panic”. Well, sort of. If there is a panic, banks will try to borrow to meet withdrawals but in normal times borrowing money (or accepting deposits – same thing) is the very thing that raises the possibility of a bank run at some point in the future.
I would prefer this section to read something like this.
The second thing that banks do is borrow money. They borrow money from you. If you have what you call money in the bank, you have lent the bank that money. It’s no longer your money, by the way. It’s their money. You’ve lent it to them. They now own it. They owe it back to you. But you own that debt from the bank, not the money itself. It’s a very important point to remember, because banks can fail. But the important point is that banks borrow from you to make money for themselves. In the modern world you have little choice other than lend your money to the bank. Where else can you do with it? Because you have no choice the bank pays you little or no interest. However, when a pound is credited to your account a corresponding pound (but not “the same” pound) is credited to the bank’s account at the Bank of England and that account pays interest at 4.5% (currently). This is very profitable…. at least while rates are so high.
All this is true before we even consider the substance of this piece – the business of making loans.
We’ll have to disagree on this – as we have bnfore.
Thank you, so clear; FtF a place were you get the information and education which should be provided before leaving school!
UK mortgages and over-inflated housing costs are indeed a death grip – locally rents for a one bedroom flat are £18,000 a year, or buying is ten times the average salary. People in UK are in debt just trying to cover the basics.
A basic banking service – the book-keeping bit plus payment clearing – is an essential part of any modern society’s infrastructure which could and should, like any other essential infrastructure service, be provided by the state.
I agree
Absolutely. We used to have Girobank… we could easily replicate it via NS&I and the Post Office. The basic infrastructure is there.
Apart from taking business away from the (what used to be but are now mainly online) “High Street” banks, are there any downsides to a reincarnated Giro bank?
I recall using it very happily…..
None …..
The post sums up my feelings about banks.
Lloyds – with whom I have been since a student – keep sending me emails telling me that my ‘credit card is here for you’ so that I can consolidate loans on it. ‘Responsible lending’ eh?
When we paid off our fixed rate mortgage with the Nationwide without a hitch we were left with 4 months of a variable rate mortgage. I contacted them and asked about this – why could the fixed rate not have been extended right to the end and they said that a contract was a contract!! I said not even an extension of the fixed rate because we’d been a good customer? The answer was no. I had to explain to the contract-head dealing with us that I just felt that this was a wee bit silly – the bank new our preference when we took it out and was forcing us into a product that we did not want.
So much for choice eh?
Yes – they do not care. That’s my experience. Anyhow, we are mortgage free now which is just as well because now everything we have to pay out is more expensive.
Thanks
Thanks Richard for a great post. 🙂 I completely agree that we can’t trust banks. I’m so pleased you said explicitly that their friendly, cuddly, adverts are utter hogwash.
I must admit to, still, feeling a little confused about bank borrowing from customers. We, the customers, do have to lend to them, the only alternative being to stash cash or valuables under the mattress.
At present they receive interest on reserves, so I can see why they like that. That is, however, a zero sum game as far as the banks are concerned. One of the banks will get that interest on reserves because the banks as a group can neither increase or decrease total reserves. All they can do is shift reserves from one bank to another. I would expect competition to drive them to pay nearly the base rate they receive on reserves (the BoE base rate). That is, I would expect real competition on interest rates paid in current accounts. But this doesn’t happen. They usually pay almost nothing. It seems like a market failure. Or are banks acting as a cartel?
The BoE and banks are a cartel, of course
“Back in the day” this set up (sort of) made sense. No interest on current accounts was the quid pro quo for the book-keeping, payments system, cheques and cash machines that banks delivered.
This was fine when rates were high but excess reserves very low; it also worked post 2008 when excess reserves exploded but rates were very low. It does NOT work (well, except for the banks) now that rates are high and there are (say) £500bn excess reserves.
It has to change.
I agree totally about not trusting banks, or insurance companies, or large companies in general.
I have been a net lender to banks since my student days and, like you, I have borrowed – but for only one thing, to buy a home – and that got paid off as fast as I could.
I have negotiated with big companies world wide and, having now stopped doing it, I can say the worst were companies in the USA – no sooner was the ink dry than they were looking for ways out or for alternative suppliers. The Japanese were by far the best.
I did have a really good experience with a bank – RBS. When I retired I put in an MD to run the company. He was fine until he lost a big contract – about £400,000. He ran away so I was forced to come back. I needed short term cash (to pay the wages, etc.) so “a very nice man” from RBS came round to see me. “Yes, we will lend you the money but we want your offices as security.” I said “no” because the company didn’t own the offices – I did! He said: “We’ll lend you the money if you put your personal property up as security”. I said “no”. We argued a bit. I showed him correspondence relating to the lost contract and how I intended to get it back. Within two days he said “Yes” – and no strings. It could have been because this was the first time the company had ever asked for a loan having been a net lender to RBS for almost 30 years!
I got the contract back, we got paid and the bank loan was repaid – all within two months. I appointed new MD!
I admit that this was in the days (early noughties) when banks had human beings – but at least it happened!
It would not now
I know from experience advising others
I buy everything using a credit card that automatically debits my bank account at the end of the month for the full amount of the latest bill. This means that I can have something today that I will pay for at the end of the month; in addition to the convenience of paying by card, this is an advantage to me. The Credit Card companies hate people like me! In response they kept upping my credit limit to try to entice me into overspending and going into debt.
This increase in my credit limit is quite useful as I now see it as a type of insurance policy. If I have an emergency, that extra money is there to cover unforeseen expenses, and I still have a week or two to pay off the amount in full. With a Mortgage you can opt to pay it down by the amount of your extra weeks of pay cheques in each calendar year. However, it is important to set this up for yourself independently as their program for doing this is just another rip off.
I have also used the “Buy now pay later” schemes to buy items that I know I have the money to finance. The key is paying the minimum monthly payments until just before the final due date, when you must pay off the remainder in full. This way you take advantage of their financing, but don’t get caught in their debt trap. It was worth it when I had to replace a significant item, but most of the time I don’t bother taking advantage of these offers.
If you use credit wisely it can be made to work for you, but you need to remain vigilant. On the rare occasions where I was inadvertently late with my payment, I called the Credit Card Customer Service team to explain why and, due to my past record, they removed the extra charges! This only works if you regularly pay in full and on time, but it is worth giving it a try.
A bit like you, I have a bee in my bonnet about how banks charge extortionate rates for loans, often way above base rates to the point of usury. We no longer have usury laws and I cannot see this governme nt doing anything to upset its banking pals by reintroducing any such laws. But 40% pa for overdrafts and over 30% for some credit cards is tantamount to theft, notwithstanding the rates are necessarily loaded somewhat to provide for bad debts.
I’d like to see the industry figures for default levels on all types of lending and costs of administering such loans I suspect that banks are making abnormal profits at the expense of citizens who need to borrow to keep their homes and to get by.
Surely, any caring gov would look at this and intervene as they did with the payday loans company Wonga.
I know…. first we need a caring gov, and you rightly point out, we are nowhere near having anything of the sort.
I’m not against capitalism per se, yet I despair at the excesses of greedy bankers who need to be checked.
Richard, and excellent informative article in “plain English.”
I have a suggestion for greater clarity. Quoting from your article: …”the third thing that banks do is they lend money…” While it may appear that way. Banks don’t ‘lend’ their, or others’, money to anyone, because they do give up anything they own when ‘lending.’ When creating credit, at zero cost, the bank buys, usually a collateralized, repayment promise with interest using their unsecured promise to, with keystrokes, add to a customer’s account — for money the bank does not have.
I’m appreciative of your considerable effort to educate one and all.
I am not sure what your comment ads to what I said….
They’re all much of a muchness. I’ve been with Rabobank all my Dutch life and even worked for them for 4 years. Some of their greatest hits:
Fined €600mil for mis-selling worthless insurance alongside mortgages (including to me, an employee at the time).
Spent about €35mil compensating customers for overcharging them oj overdrafts (including me)
I read on a violation tracker website they’ve been fined 1.25 billion since 2000!
Currently being investigated for money laundering!!
Richard,
My apologies! You are correct. I mis-typed and did not include the ‘missing’ word: NOT. It should have read: “Banks don’t ‘lend’ their, or others’, money to anyone, because they do NOT give up anything they own when ‘lending.’
Cheers
Don