Letter: Banking demystified (2011)

Letter to the Editors from the December 2011 issue of the Socialist Standard

Dear Editors

Governments no longer control their own economies, and neither can they act together to control the world economy. Whatever happens is now decided by global brokers and traders, who engineer situations where they can make money no matter which way the markets move, and that is all they are interested in. Their fiscal power now overwhelms any action that a government might take.

The private banking system also creates our money supply from thin air, by means of fractional reserve lending, so that all our money is created as interest bearing debt. Repaying that debt merely shrinks our money supply, and makes a recession worse.

Every year, private banks earn about £70 billion in interest from their lending of magic money. The National Debt is merely a name for the magic money they have lent to the government.

Another £75 billion of quantitative easing now goes to the banks, in the vain hope that it will pass into the economy, but the banks will simply use it to patch up their balance sheets, and square away their lost bets or adverse market positions. It will probably pay for some bonuses as well.

But the one thing that £75 billion of digital thin air money will surely do is fire up inflation, just as the previous £200 billion did, so that money already in circulation will buy less.

In the world of commodities, a similar position prevails. The price of everyday foodstuffs is dictated by the global speculations of commodity traders, who have also arranged to make money in the rising or falling of markets whose movements they control by the sheer size of their trades. Other essentials, such as oil and raw materials, suffer a similar fate.

In reality, the assets of the world have become no more than gambling chips in a casino, and the price of everything is set by those who play in the casino. If their bets are lost, the Bank of England just prints some money to pay those losses.

For the Bank of England or any other Central Bank, to think that they can affect the economy with their quantitative easing or interest rates is therefore just plain ridiculous, and shows a total ignorance of what is actually going on.

Malcolm Parkin, 

Kinross

Reply:

You are right. Neither governments nor central banks can control the way the (capitalist) economy works. But not for the reason you give. It’s not because this control is exercised by “global brokers and traders”, but because the capitalist economy is uncontrollable and governed by economic laws that impose themselves on governments and all economic decision-makers (including bankers) as if they were laws of nature.

You are wrong when you claim that “the private banking system also creates our money supply from thin air.” If money is defined as including bank loans then, of course by definition, banks “create money” and in the form of “interest-bearing debt” but they wouldn’t be doing so from thin air. The money they lend comes from what has been deposited with them or from what they themselves have borrowed, i.e. already exists and is just being recycled by the banking system. When a loan is repaid, money is not cancelled but becomes available for lending again. The interest paid on it comes in the end from what has been produced in the meantime in the real economy.

Nor is there anything mysterious or suspicious about “fractional reserve lending”. All lending institutions, not just banks but building societies, credit unions and savings clubs too, practise it, by keeping a “fraction” only of their money as a cash “reserve” against withdrawals. If a bank didn’t do this it wouldn’t be a bank but a safe deposit.

But if banks don’t create money who does? In the past, before the present era of managed currencies, money took the form of some commodity having its own value as a product of labour (gold and silver) which was made into coins by governments (which also issued metallic and paper tokens for it). Under this gold standard the amount of money in circulation was more or less self-adjusting in accordance with the requirements of the economy for payments.

This system was suspended during the First World War and finally ended with the Second. This meant that from then on governments have had to decide how much money the economy requires. Not an easy task. Issuing more than would have been required under the gold standard has become the norm, resulting in continuous inflation, so much so that people expect prices to rise from year to year.

This government-created, “fiat” money is issued by state-controlled central banks and could be described as being created, if you want to use the term, “from thin air” by them, in effect by governments. In most countries it is introduced into the economy by the central bank buying government bonds from commercial banks of which “quantitative easing” is one form.

Money dominates our lives and as banks deal in it they appear to have more power than they actually have. But banks are only one part of the capitalist system and not the most important part either. They are secondary to the real economy where wealth is produced in the form of goods and services to be sold for profit.

This is why getting at the banks, by reforming and regulating them, won’t solve the problems the profit system causes for most people. Only the common ownership and democratic control of productive resources can provide the framework for this as it will allow production solely and directly for use instead of for profit. This will make money and banks redundant – Editors