By Derek Bates
Paper money as exchangeable tokens for goods was introduced in China hundreds of years before it reached us in the West. While transactions, in the recent past would involve exchange of notes, today money moves from one account to another with a few computer strokes. Because of fractional reserve banking, transacted money may not even exist since banks need only keep a certain proportion of the money they loan out in reserve. The amount held in reserve is set by the Basel Accord. This deficit financing, the backbone of capitalism, builds roads, hospitals, schools, homes, hotels, educates and finances industry etc. It defies logic but via deficit financing, a bank with ten dollars can lend 90 dollars or more depending on the Basel Accord ratio of lending to liquid assets.
The principle of fractional reserve was ‘discovered’ by 17th century goldsmiths when people deposited their gold with them and received an IOU in exchange. Goldsmiths, finding that only about 10% of depositors ever withdrew their gold, realised they could lend up to nine times the value of the deposits by issuing promissory notes which could be used as paper money, carrying an interest rate of perhaps 20%. Thus, the value of the gold could be lent many times over.
If a client of a bank demands a return of investment it is calculated that it would be settled by only a proportion of the bank’s reserves. This applies when there is confidence that banks can cover any demands for repayment of capital. If, for any of a multitude of reasons, confidence in the ability to repay is doubted, there could be a run on the banks and a collapse of the system as happened in the 1929 Wall St. depression.
When a government needs money it issues bonds which it sells to banks or, in the case of USA, to the Federal Reserve which is owned by the banks. Banks may buy the bonds with money created from nothing. They then charge government – actually taxpayers – interest on their loans so the national debt is constantly growing. As Hans Schicht said in his 2005 article The Death of Banking and Macro-politics, “if prime ministers and presidents would be blessed with the most basic knowledge of the perversity of banking, they would not go on their knees to the Central Banker and ask his Highness for loans … With a little bit of brains they would expropriate all banking institutions … Expropriation would bring enough money into the national treasuries for the people not to have to pay taxes for years to come.”
World indebtedness is encouraged by speculators. The ‘notional’ value of the derivatives market in, for instance, 2007 was $681 trillion, over 50 times the $13 trillion annual GDP of the US economy and at a time when the total world GDP was $66 trillion.
It is apparent that money is simply faith. As soon as there are doubts, as there were with Northern Rock in 2007, it becomes obvious that banks’ finance is an eggshell structure. There is a common belief that there is a calculable value to money. But it is only a belief and can be destroyed easily. One of the paradoxes is that speculators effectively determine the value of currencies. Why should the £Stg drop 10% in a matter of minutes when the vote to leave the EU was announced? Britain didn’t suddenly reduce making goods or providing services by 10% overnight. Currencies behave in a whim-like fashion. As soon as there is a suspicion of an imbalance in a nation’s economy, speculators buy or sell that nation’s currency.
Money did have a quantifiable basis in the past when it was related to gold but now, the intrinsic value of the notes in your pocket is insignificant in comparison with their buying power. There is nothing supporting currencies other than the faith that it can be used in exchange for goods. The continuance of money is not questioned because we all benefit from it.
There have been many attempts to challenge the banks’ ability to print money, for instance by President Lincoln, who financed the Civil War with government-printed money. After the war he wanted the government and not banks, to control money. Lincoln was assassinated before he could make this a peacetime practice.
Have any nations adopted the practice of governments printing money?
In the early 19th century Guernsey was mired in poverty with narrow mud roads, little employment and a declining population. The island had a debt of £19,000 which required the payment of interest amounting to £2,400 out of an income of £3,000 per annum. The Guernsey government printed £6,000, of which £4,000 was used to repair the infrastructure. Each year more money was printed which was used in maintenance and other social improvements such as colleges of education. By 1958, over £542,000 had been printed yet the island did not undergo any inflation.
The success of China, to a great extent, relies on the fact that its government, which owns the banks, prints money which it ‘lends’ to businesses with the tacit understanding that repayment will not be demanded.
As Ellen Brown has written in Truth-Out, Japan is doing this: “Japan has been cancelling its debt. How? By selling the debt to its own central bank, which returns the interest to the government. While most central banks have ended their quantitative easing programs and are planning to sell their federal securities, the Bank of Japan continues to aggressively buy its government’s debt. An interest-free debt owed to oneself that is rolled over from year to year is effectively void – a debt jubilee.”
Japan has a record low inflation rate of .02%, an unemployment rate of 2.8%. The yen was up nearly 6% for the year against the dollar as of April 2017. Their GDP per working-age adult is higher than US. Joseph Stiglitz in a June 2013 article titled Japan Is a Model, Not a Cautionary Tale, wrote: “Along many dimensions – greater income equality, longer life expectancy, lower unemployment, greater investments in children’s education and health, and even greater productivity relative to the size of the labour force – Japan has done better than the United States.” The point underscored here is that large-scale digital money-printing by the central bank used to buy back the government’s debt has not inflated prices.
Ancient civilizations celebrated a changing of the guard with widespread debt cancellation. It is time for a 21st century jubilee from the crippling debts of governments, which could then work on generating some debt relief for their citizens. The obvious question is, why can Western nations not do the same? Is it simply that banks, who support governments, have such powers of influence that finance is tilted in their favour.
Money printing must of necessity be undertaken with care otherwise a nation could follow the example of the 1930s Weimar Republic where money so lost its value that a loaf of bread could cost many hundreds of billions of marks.
The proposal here is that currency should be directly related to the Balance of Payments (BOP), i.e. the productive capacity of the nation. Britain’s BOP was nearly 6% in deficit in 2016. For many decades it has been in deficit and yet, for the reasons mentioned above, the £Stg has been so inflated that it is less attractive to manufacture in UK as compared with making in China or the East. If in the past, £Stg had fallen in direct relationship to the nation’s productive capacity, the price of manufactured goods would have remained competitive and businesses would have invested in UK industries. If printing money were carried out to an uncontrolled level, the nation would be unable to afford to import essentials such as food. This is the situation in Venezuela where inflation in for instance in 2016 was over 700%. Printing money for investment cannot be carried out indiscriminately and the establishment of a ratio between the productivity of a nation and the amount of capital growth would mean that as money was printed, the currency would be devalued. Devaluation would have the effect that inflation would rise axiomatically which would reduce imports as their costs rose. This would provide a further discipline to limit the excess printing of money.
HS2 is being built (even though its cost, upwards of £50bn, make it the most expensive rail system in the world) because politicians want grand projects in the hope that it will impress voters. Driverless cars will render it obsolete by the time it is finished. If the same money were printed and spent over a shorter period of time on infrastructure – filling potholes, de-bottlenecking obstructions in roads, for example, it would stimulate growth.
We should manufacture money as we manufacture goods, stop treating it as a burden and use it as a lubricant to economic progress.
Derek Bates is author of Agenda for the Future