Last week many of us may have witnessed the sickening spectacle of watching a city trader declaring that Goldman Sachs rules the world… among other insights, such as how he lays awake at night fantasising about another economic depression.
If money rules the world, then surely whoever rules the world controls the money supply?
Many of us would, therefore, assume that the Bank of England creates money and regulates its supply to the economy, thereby controlling inflation and interest rates. However, whenever we look to finance a house, car, business project, etc, we invariably turn to the banks (in the absence of a wealthy benefactor).
Banks work on an unremitting profit motive which drives their decision-making process, investing heavily in speculative bubbles to turn quick profits, the bubbles so large that they ultimately burst the world economy.
Consequently, financial investment affects us all, yet we have little control over the decision-making process, or the opportunity to voice our displeasure except through ‘Occupy’-style protests.
Liberal Democrat policies call for a re-balancing of the economy, but we should do more to ensure sufficient checks and balances are in place to stop the economy, and society as a whole, being brought to the brink of another economic collapse.
Although Vince Cable and Nick Clegg have identified market failings within the financial system and pledged to establish a Green Investment bank, Regional Growth Fund and Technology Innovation Centres to encourage more socially responsible lending, the root cause of the debt crisis has not been addressed.
The power banks yield lies in their ability to create, not lend, money.
Banking and investment throughout the world relies on banks leveraging their depositors’ funds by a ratio of 1:9. This is frequently referred to as ‘fractional reserve banking’. Unsurprising 97% of the money now in circulation has been created in this way, plus interest.
The Vickers Commission on banking pitched short of a full split between investment and retail banking, and failed to address that fundamental issue of rising debt and public exposure to private risk: the creation of money by banks.
Last year the Financial Services (Regulation of Deposits and Lending) Bill proposed to address this imbalance. The Money Reform party has been established to address the problem of rising debt, the Positive Money campaign launched to raise public awareness, and the All-Party Parliamentary Group on Economics, Money and Banking to discuss the issues.
The leadership of the Liberal Democrats has overlooked the root cause of our national debts; we need to collaborate with the aforementioned organisations to bring about the significant structural readjustment of our financial system.
The creation of money should be placed under the independent control of the Monetary Policy Committee, not at the hands of bonus hungry bankers with an eye on their next Porsche.
* Mark Hofman is a Lib Dem member in Harrow and stood for local election in 2010.
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9 Comments
Oh dear.
he’s not a “City Trader” he’s a self publicist who makes money selling training course. never worked in the City, never worked for a financial services firm and not registered with the FSA.
http://www.telegraph.co.uk/finance/economics/8792829/BBC-financial-expert-Alessio-Rastani-Im-an-attention-seeker-not-a-trader.html
Generally a good article although I am not sure about the “money reform party”.
I was hoping Vickers would be more radical but I do trust the people on the Vickers committee and I am inclined to think they must have had good reasons for not being more radical. I would like to see a debate between them and others in NEF who believe the policy should be more radical to find out what the reasoning was.
Buy all means take away from banks the power to create money but do not in turn give it to the government. Fix the money supply and allow for constantly falling prices. The American economy grew significant at the end of the 19th century with a falling price level.
This post covers a lot of ground, and there’s plenty in there that is debatable. Fractional reserve banking is the textbook version of what is going on, but if lending were genuinely anchored to reserves at 1:9 then I think things would look rather different. Much private debt is created beyond the reach of these types of regulations.
There is certainly something to be said for thinking hard about how this system is regulated, but I don’t think trying to put the money supply into the hands of the govt or a reformatted MPC would necessarily be the answer. Govt control hasn’t been conspicuously successful in the past.
Chris Dillow over at Stumbling and Mumbling has an interesting post on this topic today:
http://stumblingandmumbling.typepad.com/stumbling_and_mumbling/2011/11/whats-wrong-with-positive-money.html
The current system of banking dates back to the 17th century, its time we discussed significant reform rather than stick with a system which creates ever more unsustainable debt.
The governments gross consolidated debt is £1130 billion (76.7% of GDP), and this rises virtually every year because the government lend money in order to pay their bond holders. An absurd system known as peonage (where you continuously lend to pay off existing debts): http://www.ons.gov.uk/ons/rel/psa/eu-government-debt-and-deficit-returns/september-2011/stb—september-2011.html
Levels of debt are even higher in other developed countries around the world:
http://www.bbc.co.uk/news/business-15748696
Retail banks do create money, primarily by giving people loans or lines of credit.
A prime example of this was the introduction of Barclaycard (now in the Visa group) in the 1960s. Barclays just posted them off to a lot of their customers; later they posted them to a further cohort of customers. Access (now part of Mastercard), which was a later joint operation of the other 3 of the Big Four banks did the same shortly afterwards.
Then the government of the day woke up and realised that this sudden boost to the money supply was inflationary and insisted on people filling in a form to get a credit card. (I don’t think they’d really started to worry about people overburdening themselves with debt then.)
Fractional reserve banking is a load of tosh ‘reserved’ for text books. In the real, world banks look for borrowers, lend to them, (creating money as you suggest) and then go and look for reserves.
These days decreases rather than increases (or insufficient increases) in the money supply are the problem with businesses reluctant to borrow and in effect increasing the level of their ‘savings’ and along with individuals paying down borrowings. The money supply in various measures has been falling, especially in real terms.
I was never in favoiur of joining the euro because it meant handing over an important power (which I thought should be controlled democratically): that is the power to influence our interest rates and money supply.
As it is we have handed this over to the MPC – a totally undemocratic body which very nearly contained a majority of people intent on raising interest rates as little as six months ago. None of these nright things have resigned or been sacked. Nor could they be.
On the level of debt the problem for the UK is not so much the government part of it but the total including private debt which is, along with Japan, the highest in the world at a touch under 500% of GDP. The Economist had a great graphic of this in the summer (click on the UK in the map to see as a time series).
http://www.economist.com/blogs/dailychart/2011/07/world-debt-guide
As Bill le Breton says the fractional reserve banking theory is nonsense and not what happens in the real world. They can create money by a few mouse clicks to create ledger entries and they have every incentive to do so for the “free” money so created pays a handsome interest – until, that is, the system topples over because the people and businesses who take on the debt can no longer afford to service it.
As long as this system is in place several bad dynamics occur. Firstly, demand is depressed because too much of society’s productive capacity is being diverted into debt service – effectively negative Keynsianism that guarantees a slump. Secondly, money passes from the majority to a tiny minority – 99% to 1% – creating all the problems that flow from gross inequality. In practice also bank lending becomes concentrated in speculative investments, not productive ones, so firms can’t get investment making the slump even more damaging.
A quote attributed to Josiah Stamp, a depression era Director of the Bank of England, shows that the implications have long been understood (via Wikipedia)
“Banking was conceived in iniquity and was born in sin. The bankers own the earth. Take it away from them, but leave them the power to create money, and with the flick of the pen they will create enough deposits to buy it back again. However, take away from them the power to create money and all the great fortunes like mine will disappear and they ought to disappear, for this would be a happier and better world to live in. But, if you wish to remain the slaves of bankers and pay the cost of your own slavery, let them continue to create money.”
So, something certainly needs to be done (and this doesn’t include the govt pumping even more credit into home buyers per Andrew Stunell’s post of today) but I’m not convinced that this should involve handing responsibility to the MPC. The grass is always greener on the other side until you get there.
Money creation – like land ownership – does not require (re)nationalisation.
The private banks’ privilege of creating sterling as credit (debt) – like all such privileges – simply needs to be taxed.