Aspect: Can Banks Create Credit? (1971)

The Aspect column from the July 1971 issue of the Socialist Standard

Confusion about banking operations and the power of bankers has been in evidence for a long time. It was known before 1848, and that year saw the publication of two works putting opposite points of view. One was Lectures on the Nature and Use of Money in which John Gray outlined a scheme which was the forerunner of the Social Credit Movement founded by Major Douglas in the nineteen twenties. The other was John Stuart Mill’s Principles of Political Economy which contained the following:

“Credit has a great but not, as many people seem to suppose, a magical power; it cannot make something out of nothing … It seems strange that there should be any need to point out that credit, being only permission to use the capital of another person, the means of production cannot be increased by it, but only transferred … The same sum cannot be used as capital both by the owner and also by the person to whom it is lent . . .”

Part of the confusion arose out of the loose use of the term “credit creation”; by some writers to mean merely the grant of a loan by a bank, but by others to mean what Mill had in mind as making something out of nothing.

Marx on occasion wrote of the “creation of credit and capital” by the banks but not meaning anything more than the act of lending or investing. Elsewhere he described banks as merely institutions for bringing together and relending sums deposited by depositors. He ridiculed the “illusions concerning the miraculous power of the credit and banking system”, which he said, were held by those who failed to understand the nature of capitalist production and the credit system (Capital, Vol. III p. 713).

Sir Ralph Hawtrey in his Currency and Credit dealt with another confusion of terms:

“It is true that we are accustomed to think of bank credit as money. But this is only because for the practical purposes of every day the distinction between bank credits and money is rarely of any importance. And for all that a bank credit is merely a debt, differing from other debts only in the facilities allowed by the banker for transferring it to another creditor. No one imagines that a trade debt is money, though it may be as good an asset as a bank credit” (2nd Edition, p. 5).

Major Douglas, like John Gray, would have rejected outright the views of Mill, Marx and Hawtrey on credit. He claimed that bank loans are the issue of money just like the issue of notes by the Bank of England and that, by making loans, “a bank acquires securities for nothing”, and that “it is absolutely correct to say that . . . new money has been created by a stroke of the banker’s pen.” (The Monopoly of Credit, 1931 pp. 15 and 17). In the words of one of his supporters, banks can create “untold wealth at the cost of a few drops of ink and the fraction of a clerk’s wages”.

Basically the dispute is between those who hold that banks are merely intermediaries to whom depositors make purchasing power available by depositing with them, and which then make that purchasing power, or most of it, available to others by transferring it to them as loans or using it to purchase securities etc; or whether the banks themselves, by making loans create the largest part of the deposits.

Starting from the production of value by the application of human labour to nature-given materials and its conversion into money, is it that some part is lent to the banks in the form of deposits, for the banks to relend or invest, or is it the banks which create large amounts over and above the amounts deposited?

G. D. H. Cole accepted the “creationist” view. He wrote that bank loans “represent a real creation of additional money — additional purchasing power”. (What Everybody Wants to know about Money, p.39).

Among those who have held the “intermediary” view, along with Mill and Marx were many bankers and, notably Professor Edwin Cannan in his An Economist’s Protest.

Of particular interest were Reginald McKenna, politician turned banker, who was Chairman of the Midland Bank, and J. M. Keynes, both of whom at first supported creationist theory and later changed their attitudes.

One of many anti-creationist statements made by bankers, was that by Walter Leaf, Chairman of the Westminster Bank:

“The banks can lend no more than they can borrow — in fact not nearly so much. If anyone in the deposit banking system can be called a ‘creator of credit’ it is the depositors; for the banks are strictly limited in their lending operations by the amount which the depositors think fit to leave with them” (Banking. Home University Library, 1926, p. 102).

Hartley Withers, sometime editor of the Economist popularised creationist theory in his The Manufacture of Money and used the phrase “every bank loan makes a deposit”, later expanded to “every bank loan or purchase of securities creates a deposit”; and its converse that every withdrawal of a loan or sale of a security destroys a deposit.

McKenna repeated this and provided Major Douglas with weighty support.

The theory was given official endorsement in the Report of the MacMillan Committee 1931, (Committee on Finance and Industry) and found its way into the textbooks. Though McKenna was a member of the Committee he then denied that he agreed with Major Douglas about the creation of credit; which was really rather hard on Douglas who had, after all, only taken McKenna’s words at their face value. Another signatory of the Report was Professor T. E. Gregory who held the Chair of Banking and Currency at the London School of Economics and who in that capacity took Cannan’s line.

The Macmillan Committee’s support for creationist theory is still widely accepted. It turned up recently in Ernest Mandel’s Marxist Economic Theory where Mandel quotes it with approval.

One argument used by creationists to support their case was that, without creationist theory, it was not possible to explain how the deposits of the commercial banks could exceed the total amount of notes and coin in circulation. This is easily disposed of. If a bank receives deposits of £5 million a week and has £4 million a week withdrawn by depositors, deposits will increase by £1 million a week and the eventual total is in no way limited by the amount of currency in circulation. In 1937 the Post Office Savings Bank had no cheque facilities and made no loans to businesses or private borrowers, but its total deposits did in fact exceed the total amount of notes and coin in circulation with the public. The deposits were invested in government securities.

The statement of the “creationist” case in the MacMillan Report started with the following:

“It is not unnatural to think of the deposits of a bank as being created by the public through the deposit of cash representing either savings or amounts which are not for the time being required to meet expenditure. But the bulk of the deposits arise out of the action of the banks themselves, for by granting loans, allowing money to be drawn on an overdraft or purchasing securities, a bank creates a credit in its books which is the equivalent of a deposit. A simple illustration, in which it will be convenient to assume that all banking is concentrated in one bank will make this clear”.

The illustration assumed that a depositor deposited £1,000 in cash. The bank then lent £900 which was withdrawn by cheque and came back as new deposits. At this stage the deposits in the bank totalled £1,900 made up of the original £1,000 and the later deposits of £900. Against this liability the bank would show, on the assets side of its balance, cash £1,000 and loans to customers £900.

This lending process was repeated with nine more loans of £900, so that the bank’s books would then show £10,000 deposits, balanced by £1,000 cash and £9,000 loans owed to it by borrowers. The bank had thus “created” deposits of £9,000 by making loans, and the creationist case was proved. Or was it?

Certainly the Committee got the answer they wanted but in view of the way the conditions were rigged that was not surprising; little in the example had any resemblance to real banking conditions.

Not only did the Report make the thoroughly artificial assumption of only one bank in existence but it also assumed that none of the borrowers made withdrawals except by cheque, never by cash to hold and not to be returned to the bank. This enabled them to proceed on the basis that all the cheques drawn (or all the cash withdrawn) come back to the one bank — there was no other bank to which they could go. Actually the Report did not allow for any withdrawal in cash at all but treated the £1,000 cash deposit as remaining unchanged throughout the operations; which meant that the Committee was assuming, but without saying so, that a change had occurred in the world outside the bank which led to a permanent increase by £1,000 in the amount of cash left in the bank.

This line of reasoning, which isolates from a continuous in-and-out flow of deposits and withdrawals of cheques and cash, one single deposit of cash, is fallacious. If it were valid it could be applied in reverse; that is the Committee could have isolated a single withdrawal of £1,000 cash and treated it is a permanent reduction by £1,000 of the amount of cash left in the bank. It only needed one of the ten borrowers of £900 to take it out in cash or destroy the whole of the Committee’s case.

It appears to have been a belated recognition of this fallacy that later led J. M. Keynes to put a view contrary to that of the Report he had signed.

In his General Theory of Employment, Interest and Money (1936) he wrote:

“It is supposed . . . that the banking system can make it possible for investment to occur to which no saving corresponds. But no one can save without acquiring an asset, whether it be cash or a debt or capital goods, and no one can acquire an asset which he did not previously possess, unless either an asset of equal value is newly produced or someone else parts with an asset of that value which he previously had . . . The notion that the creation of credit by the banking system allows investment to take place to which ‘no genuine saving’ corresponds can only be the result of isolating one of the consequences of the increased bank-credit to the exclusion of others” (p. 80-1).

Actually, under the conditions assumed in the Report the bank was needlessly modest in making loans of only £9,000. They could have made it £90,000, or any figure they had cared to name, because every cheque had to come back to the one bank and they had in practice, but without saying so, prescribed that nobody was to draw and hold any of the £1,000 cash.

They also claimed that the result would be the same if there were many banks, i.e. that all withdrawals would automatically come back into the banking system, but this, as already mentioned, was based on the fallacy of supposing that the £1,000 deposit of cash was a permanent increase of cash in the banking system but without going into the change of outside conditions which would make it possible.

In practice there is nothing automatic about deposits. Banks have to attract money on deposit account by paying interest of millions of pounds on it and they spend tens of thousands of pounds on advertisements to attract new depositors.

The Committee also overlooked the fact that banking figures vary according to the method of investing. If a depositor with £1,000 in the bank draws a cheque to lend that amount to a business, bank balance sheet figures are completely unaffected since the £1,000 deposit has merely been transferred from the depositor’s account to the account of the business; but if the depositor leaves the £1,000 on deposit and the bank lends £1,000 to the business, bank deposits and loans both increase by £1,000.

The absurdity of creationist theory can be seen in practical terms if we consider what happens if the owner of £1,000 lends it direct to a business firm, and the effect if he deposits it in a bank and the bank then lends to the same firm. The MacMillan Committee’s example would have it that though the original owner had only £1,000 to dispose of the bank can lend £9,000 to the firm if it receives the £1,000 on deposit.

The Committee’s example also took it for granted that banks with money to lend can always find “creditworthy” clients who want to borrow all the banks have available. When trade is slack, as in recent months, they cannot.

If creationist theory had been correct banks would make profit at a rate far above that of industry — “fabulous profits” and “hundreds per cent” were the claims. It does not happen.

There is one company with wide interests in publishing, oil, engineering and other manufacturing activities, S. Pearson and Son Ltd. which also has a controlling interest in a bank, Lazards. Yet only about a sixth of Pearson’s profits come from Lazards. Lazards had a director on the MacMillan Committee who was also on the board of Lloyds Bank. It seems that he failed to convince Lazards — assuming that he even tried — that they really have the creationist powers set out in the Report he signed.

The MacMillan Report worked out its figures on the basis that banks need to keep ten per cent of their deposits in cash “to meet the demands of customers”. This ten per cent ratio enabled them to suppose that banks can lend nine times the amount of the £1,000 deposit. The conventional cash ratio is now down to 8 per cent, which would increase the creationist power to eleven and a half times the deposit. But the cash ratio is largely window dressing. If there were a mass withdrawal by depositors of the London Clearing Banks, £700 million of notes and cash would be quite ineffective if the depositors wanted to withdraw their £11,000 million of deposits. What banks endeavour to do is to anticipate events and match outgoing withdrawals and loans with incoming deposits and repayments of loans. If they could match these outgoing and incomings completely day by day they would need no cash in their tills, without the banks thereby being any less safe. If they could get it down to one per cent the assumed creationist powers would then be 99 times the £1,000 deposit. The cash ratio of the Savings Bank in 1937 was a quarter of one per cent.

Another consequence of creationist theory, accepted by its supporters, is that bank loans by increasing purchasing power have a determining influence on the price level. The facts show this to be baseless. Between the first quarter of 1921 and the first quarter of 1933 prices were falling continuously, by a total of forty four per cent. They fell when the deposits and loans of the London Clearing Banks were falling, when they were stationary and when they were rising. At the beginning of 1931 deposits and loans were at the same level as in 1921 but prices had fallen by forty per cent. Between 1926 and 1933 deposits and loans went up by seventeen per cent while prices went down by nineteen per cent. (Incidentally the MacMillan Committee wanted prices to rise in order to cure the depression). Bank deficits went down slightly between 1968 and 1970 while prices went up by twelve per cent.

Mention has been made of Marx having a view on the specific question of credit creation which was in line with that of some other economists, but he did not share their views on wider aspects. He wrote:

“The superficiality of Political Economy shows itself in the fact that it looks upon the expansion and contraction of credit which is a mere symptom of the periodic changes of the industrial cycle, as their cause” (Capital Vol. I. p. 695)

Against logic and all the weight of evidence, credit creationism still has its believers. Professor Cannan hit the nail on the head when he called them “the mystical school of banking theorists”.

Edgar Hardcastle

Is Britain over-populated? (1927)

Book Review from the August 1927 issue of the Socialist Standard

Is Britain over-populated? By R. B. Kerr, 97, North Sydenham Road, Croydon. 118 pages. 1s.

Mr. Kerr presents the familiar case for a reduction of the population by means of birth control. His argument is that the population per square mile in England is much greater than in a number of countries, and hence the prosperity of this country is less than it might be, and less than in America, Australia and other sparsely-populated areas. He is quite confident that “the reason and the only reason” why the U.S.A., Canada. New Zealand, etc., are “so much more prosperous than Great Britain ” is that they “are thinly-populated in proportion to their natural resourcres” (P. 33).

It is not only the familiar case put forward by the birth controllers, but it bristles with all of the familiar fallacies. Mr. Kerr is an industrious disher-up of unrelated trifles, but he has not succeeded in presenting a convincing or even coherent argument. He discusses “over-population” and “prosperity” without even attempting to define these very elusive terms. He does mention the optimum density (i.e., that density of population at which productivity is at a maximum), but whereas serious economists like Professor Cannan candidly confess that they have not the remotest idea what in fact that density is, Mr. Kerr tells us on his own unsupported authority that it would mean a population “so much thinner than the present that we shall probably never reach it” (p. 114). Then, having forgotten this bold assertion, he goes on to admit that the problem of determining “what is an optimum population ” has yet to be solved (p. 115).

Mr. Kerr does not offer one particle of proof that the optimum density is less than the present one. It might be greater.

Prosperity is, again, a term requiring a little attention. Mr. Kerr ignores the enormous inequality of wealth existing within every nation, whether thickly or thinly populated. The U.S.A., he says, is prosperous because of its relatively small population, Great Britain is less prosperous because of its big population. Are there then no millionaires, and is there no wealthy propertied class in this country ? And are there no destitute persons in the U.S.A.?

For Mr. Kerr there are no class divisions in society. He selects Great Britain as his unit, instead of the British Empire as a whole (this would have upset his theory), on the ground that the relations between the Dominions and Great Britain are purely commercial ones—not sentimental. He says, truly enough, “Out of his bursting bins the Canadian farmer will not give his Mother Country a single bushel of wheat, except for payment in cash” (p. 9). But since it is equally true that the English farmer does not open his “bursting bins” to the English factory owner or factory worker “except for payment in cash,” why not take as the unit London, or Lincolnshire, or compare all the English towns with the whole rural areas? It would be just as sound and just as useless as any other comparison of density of population as a guide to wealth.

Niggardly Nature

Mr. Kerr dismisses the contention that Nature is sufficiently bountiful for our needs by quoting Sir J. Stamp on the distribution of wealth. He does not deal with the admitted fact that nowadays, in almost every highly-organised industry, there is deliberate restriction of output in order to maintain prices and profits. Is nature niggardly in oil, or coal, or cotton, or wheat, or rubber?

The much-quoted figures presented by Sir J. Stamp also deserve attention. Stamp points out that, if all incomes over £250 were reduced to £250 and the surplus equally divided between all the families in the country, the gain per family would not exceed 5s. per week. In the first place, the great mass of the workers do not receive £250 a year, and an equal division of the national income would very materially raise their standard of living. As Stamp himself point out (Studies in Current Problems, 1924, page 98), to raise the standard of life in the great nations by 10 per cent, would be “for the great mass of the peoples of these nations the difference between grinding penury and a reasonable standard of comfort.”

Secondly, and more importantly, as is explained in detail in our pamphlet “Socialism,” about half of the population between 16 and 60 are not engaged in producing wealth at all, but are either idle or are carrying on purely wasteful services called into being by the capitalist system.

Mr. Kerr trots out the old bogey of the “unfavourable balance of trade.” He asks us to behold a column of trade figures and be suitably horrified, but he makes no effort to explain what it all means. That international trade is merely an extension of the ordinary division of labour, and is economically profitable to both parties, he has not grasped. Hence his forecast that in a ” ‘Birth-Controlled World’ each country will do the bulk of its own manufacturing, and will live in the main on the products of its own soil” (p. 110).

Population and War

Mr. Kerr quotes Shelley and Mussolini to prove that over-population is the cause of modern wars. According to the table of relative densities, it would appear from this that England—having a density nearly twice that of Germany—must have been responsible for the war. It is, of course, nonsense. The urge to find markets and sources of raw materials affects every capitalist country, irrespective of population. American exports of capital, and consequent deliberate war with Spain, her brutal suppression of the Philippines and present endeavours to create an Empire covering all Central and South America, are the outcome of capitalist organisations, and are not to be checked by birth control devices.

Mr. Kerr quotes a Japanese newspaper in support of his contention that, in a conflict between natural law (e.g., pressure of population) and man-made law, the natural law will prevail. This is flagrantly untrue. Is it a “natural” or a “man-made” law which prevents millions of workers on the border-line of poverty from taking possession of the wealth which they create but do not possess? What natural law prevents the unemployed from enjoying superfluous food, clothing and housing of the propertied classes? Mr. Kerr says (p. 58) that “The amount each man produces determines the amount each man can consume.” In truth, the amount consumed by members of the capitalist class depends on their ownership of the means of production, which in turn depends on their control of the political machinery of society. There obviously are problems of population, but the problem of working-class poverty is not one of these. That problem cannot be solved by the workers until they have taken possession of the political machinery and re-organised society on a socialist basis.

Edgar Hardcastle

The Poll Tax and the workers (1988)

From the May 1988 issue of the Socialist Standard

The government decision to replace rates with a "community charge" has sparked off furious controversy. The government claimed that the new system will get rid of existing anomalies and inequalities, and the opposition parties argue that it will destroy democratic local government and create new burdens for the poor. The new system is to begin in Scotland in April 1989 and a year later in England and Wales, starting with some London boroughs.

At present local authorities get their revenue from four sources: 40 per cent from central government through the Rate Support Grant; 20 per cent from local householders paying rates; 25 per cent from local industrial and commercial rate payers; and 15 per cent from council tenants paying rent. Domestic rates are payable only by the householder, not by other adults living in the house.

Pressure for the new system has come largely from the industrial and commercial rate payers. They complain that only 34 per cent of local electors pay full rates, and 57 per cent of those entitled to vote in local elections have no rates liability at all, due either to the rebate system or to the fact that they are not householders. The consequence is, they say, that local councils are elected by people who have no interest in keeping expenditure down — high rates are of no concern to them.

Under the new system everybody over the age of 18 will have to pay Poll Tax, except the mentally ill and elderly people living in homes and hospitals. Low paid workers and students will not have to pay the full amount. Business ratepayers will pay a standard Unified Business Rate pegged to inflation.

The Westminster Bank magazine, Money Care (February 1988), says that while many millions of individuals and householders will lose money another large group will gain:

  The people who will generally pay less are homes with only one adult and people living in large homes. Households where the total bill will be higher will be ones with more than two adults, small homes and those excused rates at the moment. Everyone will have to pay at least 20 per cent of the community charge.

The government has already acted to keep rates down. Councils raising rates unduly are penalised by a reduction in the amount of the central government grant. Mrs Thatcher, in a speech reported in the Financial Times (7th March 1988) said this about the new system.

  This will transform inner cities. No longer will they [the councils] be able to spend, spend, spend, putting it on owner-occupiers and businesses. It is being specifically designed so that the same degree of efficiency will result in the same community charge all over the country.

The new system has come under criticism from professional bodies interested in taxation and local government on the ground of its complexity and the difficulty of enforcing it against the large numbers of people likely to evade payment if they can.

There is nothing new in one group of property owners, in this case the business rate-payers, trying to unload some of the burden of the rates on to other groups. Professor Cannan, in his History of Local Rates in England (1912) showed that it was going on throughout the 19th century. Then, as now, one of the issues was how much of local authority expenditure should be paid by central government and there were then, as now, complaints about the "extravagances and mismanagement" of particular local councils. The business rate-payers naturally wish to reduce the burden of rates and most of them can count on doing well out of the change.

But what about the working class and the assertion by the Labour Party and others that the Poll Tax will, on balance, make the workers worse off?

At its formation the Socialist Party rejected the popular theory that rates (and taxes) reduce the workers’ standard of living and that they therefore have an interest in keeping them down. They are. in the long run. a burden not on the workers but on the propertied class. The argument against rates is that they are an addition to the rent workers have to pay for accommodation and that any increase in the rates makes the working class worse off.

Examination of what actually happens in the matter of rates and rents shows that the argument is not valid. High rates do not increase the amount the workers have to pay but reduce the rent the landlord gets. If rates are higher in one district than in others, businesses and tenants of houses avoid these districts if they can, compelling landlords to accept less then they would otherwise be able to get. Professor Cannan gave evidence of this. He wrote:

  The high rates of a highly rated district undoubtedly tend to deter population and businesses from settling in it, and this means that they will not settle in it unless the owners charge less than they would if the rates were lower. If the rates were reduced the owners would be able to charge more for their properties.

Examples of this were quoted in the Socialist Standard (October 1904). One was West Ham, at that time the most heavily rated district in England: "rents are falling, while rates are rising, owing to the decreased demand for houses". At the present time a shift of this kind is taking place between Camden, where the average rate charge is £752 a year, and neighbouring Wandsworth where it is only £327.

Since 1938 there has been a huge increase, in real terms, in the amount of rates collected by local authorities (as in the amount of taxes collected by central government) but it has not had the effect of lowering the majority of workers' standard of living, which is in fact very considerably higher than it was in 1938. The point is that the workers, through organisation on the industrial field, can take advantage of the favourable phases of capitalism when production and profits are rising, to get higher wages. In most of the years since 1945 the average wages of workers who are in work, have risen more than the rise in their cost of living. It is going on now. Since 1982 when production and profits began to rise again, average real wages have been rising continuously and are now well above the level of 1979.

It has happened in defiance of the regular pleas by government ministers that the unions should modify their wage claims and employers should not agree to large claims. Chancellor Nigel Lawson said, for example: "It is very important for businessmen to keep firm control of their pay costs" (Financial Times, 18th March 1988). Trying to keep wages down has been the line taken by every government, Labour as well as Tory.

Edgar Hardcastle

Inflation: the Endless Farce (1990)

From the April 1990 issue of the Socialist Standard

Every Prime Minister since the War has pledged himself or herself to tackle inflation as a top priority but rising prices have been with us continuously for half a century. Every year since 1938 prices have gone up and are still going up. The price level on average is about 24 times what it was before the war.

It was not always so. From 1850 to 1914 prices were stable; there were moderate fluctuations but the price level in 1914 was almost exactly the same as it had been 64 years earlier. And in 1919 the government decided to bring prices down and there was a fall of over 30 per cent between 1920 and 1925.

One of the rules of the game is that the party in opposition blames the government; that is, until it becomes the government itself, when it blames someone else, the greedy workers or the greedy shopkeepers and manufacturers; or the lenders of money not being greedy enough (according to the Chancellor of the Exchequer it is low interest rates that cause inflation).

There is a short answer to these glib excuses. Between 1850 and 1914 average wage rates went up by nearly 90 per cent, more than keeping up with the steadily rising productivity in industry – but no inflation.

If shop-keepers and manufacturers have the power, as well as the will to push up prices, why no inflation before 1914? And how come they allowed prices to fall heavily between 1920 and 1925?

As for interest rates, compared with the present 15 per cent bank minimum lending rate, the rates before 1914 were mostly between 3 per cent and 5 per cent – but no inflation.

Control of currency issue the key

It was not an accident that governments before 1914 and in the year 1919 knew how to stabilise prices, how to raise them and how to lower them. They, or their advisers, knew that the key to the situation is the amount of currency (notes and coins) in circulation. If this is kept in line with the needs of the growth of production, population, etc. prices will be stabilised. If currency is arbitrarily increased prices will go up. If arbitrarily reduced, prices will go down.

Before 1914 stability was maintained through the gold standard which closely controlled the issue of currency by the Bank of England. In 1920-25, on government instructions, the currency in circulation was cut. (The Bank burned £66 millions worth of notes).

Since 1938 there has been no control. Additional notes and coin have been issued in a continuous stream. The amount of currency in circulation with the public in 1938 was £442 million. It is now more than thirty times as much, at £14,388 million, and is still steadily increasing. The bath has been slopping over for fifty years and one dotty thing the Labour and Tory plumbers have been agreed about is that they need not turn off the tap. So why couldn’t they ask their professional advisers what to do? They did, but those advisers had all picked up the same dotty notion from the same original source. As early as 1923, in his Monetary Reform, the economist J. M. Keynes had argued that it is not necessary to have direct control of the amount of notes and coin.

Degeneration of Monetary theory

How monetary theory degenerated was told by Edwin Cannan, at that time Emeritus Professor of Political Economy at the University of London, in his Modern Currency and the Regulation of its Value [1931). Referring to what he called “the bank-deposit theory of prices”, he wrote (p.88):

  Within, I think, the last forty years a practice has grown up among the people who talk and write on such subjects, of regarding the amount which bankers are bound to pay to their customers on demand or at short notice as a mass of ‘bank-money’ or of ‘credit’ which must be added to the total of the currency (of notes and coin ) whenever variations in the quantity of money are being thought of as influencing prices. This is one of the most obstructive of all modern monetary delusions.

Cannan went on to show that this alleged mass of “bank-money” does not exist:

  with the exception of a small amount of currency which they keep ready to meet any likely demands on the part of their customers, the banks have . . . paid away money as they receive it, buying land and buildings for the conduct of their business with some of it, and investing or lending all the rest.

Cannan’s warning was not listened to. In the same year, 1931, the bank-deposit theory of prices received official endorsement from the MacMillan Committee (Report of the Committee of Finance and Industry, p.34). In its report the Committee rejected the idea that deposits in banks are cash deposited by customers, and argued that:

  the bulk of the deposits arise out of the action of the banks themselves, for by granting loans, allowing money to be drawn on overdraft … a bank creates a credit in its books which is the equivalent of a deposit.

Keynes was a member of the Committee and was credited with having drafted that section of the Report.

The Committee “proved” that, on a deposit of only £1,000 cash, a bank could lend £9,000. Their method of proof was a masterpiece of rigged argument. They assumed that only one bank existed. This, they argued, really made no material difference. But also, and without saying that they were doing so, they assumed a prolonged series of lending operations which would take several months and in all that time no-one ever withdrew cash from the bank. Cash was assumed to go into the bank but no depositor or borrower took any cash out. It was a kind of bank that never existed in the real world.

If the doctrine had been based on reality its significance in relation to prices would be obvious. If an individual with £1,000 spent it or lent it the measure of its influence on prices would be just £1,000. If lent to a bank which re-lent it, its influence on prices would be multiplied by nine. What is more the MacMillan Committee’s arithmetic was related to the 10 per cent cash reserve banks ordinarily maintained at that time. As the bank cash reserve is now only about 1 per cent of total deposits the multiplier now would be not nine, but ninety-nine.

In recent years there has been a seeming conflict of views on inflation between the followers of Keynes and their rivals, the so-called monetarists. It is a phoney war. The high-priest of Monetarism, Professor Milton Friedman, suffers from the same delusion about the mystical powers of the banks as did Keynes, as will be seen in Free to Choose (by Milton and Rose Friedman, p.298).

Unlike the politicians and many economists, the professional bankers ridiculed the Keynes-MacMillan Committee monetary doctrine. They knew that banks do not have this fanciful power to “create deposits”. One banker, Walter Leaf, Chairman of the Westminster Bank, had this to say:

 The banks can lend no more than they can borrow – in fact not nearly so much. If anyone in the deposit banking system can be called a ‘creator of credit’ it is the depositor; for the banks are strictly limited in their operations by the amount which the depositor thinks fit to leave with them. (Banking, Home University Library, p.102).

Walter Leaf’s Westminster Bank is now the National Westminster. In the Financial Times (9 April 1984) it published as an advertisement a survey of its operations during 1983. Under the heading “Financial Highlights 1983” the following item appeared:

Money Lodged £55,200 Million
Money Lent £45,200 Million

No nonsense about receiving £55,000 million from depositors and lending 9 or 99 times as much.

Confusion about money supply

Government monetary policies have gone through several phases. From 1945 to the 1970s the Labour and Tory Parties both believed, with Keynes, that the cure for unemployment is for the government to run a budget surplus. (The present Tory government policy of using a big budget surplus to pay off the national debt is what the former Labour Prime Minister Lord Wilson specified in 1957 as the cure for inflation).

In 1977 the Callaghan Labour government, faced with prices and unemployment both rising fast, and the obvious impossibility of running a budget deficit and a budget surplus at the same time, threw overboard the Keynesian doctrine and adopted as their price policy studying the movements of what they call “money supply”.

The favourite for several years was the index called M3 which is made up predominantly of bank deposits though it also included the relatively minor element of the currency. The latest M3 figures are:

Bank Deposits £225,260 millions
Currency              14,384 millions
Total                 £239,644 millions

Eventually the Thatcher government lost confidence in the usefulness of M3 and the Treasury has just decided to stop publication. The Thatcher government’s interest was then transferred to M0, which, unlike M3, is predominantly made up of the currency. But the government and its advisers have quite failed to see the point of the achievement of stable prices by the gold standard, and the reduction of prices in 1920-1925. It is not a question of just “watching” M0 but of actually restricting the issue of notes and coin, something the government is not doing and has not indicated the intention of doing. The amount of currency in circulation is still going up.

The politician who has for years taken an active interest in inflation is Enoch Powell. His line has been to criticise governments for their refusal to recognise that they and they alone are responsible for inflation. He argues that the prime cause of inflation is that government expenditure is too high:

  Nobody knows so well as the Bank of England … that the expenditure of Government itself is the prime factor in causing mounting inflation” (from a speech on 11 November 1966).

He resigned from the Tory government in 1958 over that issue, though he served as a Minister again from 1960 to 1963. And during all the period 1955-1963 the government was pumping out more and more currency, pushing up prices. So Powell was just as much responsible for inflation as any other Minister. He has never understood the real cause of inflation. He shares the same delusion about banks’ supposed power to create deposits as Keynes and Professor Milton Friedman. He claims to see a difference between the government borrowing from “the public” and borrowing from the banks. In an article in Intercity (July/August 1989) he wrote:

  Only the banking system can provide purchasing power to one section of the public without the equivalent purchasing power having been transferred to it by another section.

This is nonsense. The banks can’t create purchasing power. As Walter Leaf rightly pointed out, the only way the banks can be enabled to lend is to persuade “the public” to lend to the banks, in the form of deposits.

Why inflation started

The question arises why do governments go in for inflation. In this country the three big inflations have started in wars, the Napoleonic wars and the two world wars.

It is a mistake to think that the British government’s interest in inflation is to provide revenue by printing notes, though this could happen as it has in some other countries. What happened in the three wars was that the government had to call in all the gold in circulation and in bank vaults to pay for desperately needed imports of food and war materials, which made continuation of a gold-backed currency impossible. The amounts of revenue the government actually gets from increasing the note issue is too trivial to count in relation to government expenditure. In the current year the £800 million from additional notes in circulation is less than one half of one per cent of Government expenditure of £181,000 millions.

Another issue of interest is who gains by inflation and who loses. Long experience supports the view that borrowers, including the industrial capitalists, gain under inflation by repaying loans in depreciating currency, and lenders do well from deflation. Bankers being both borrowers and lenders, generally prefer stable prices. Some property-owners to whom inflation has been disastrous are those who bought and held certain government and local government stocks the market price for which is now only £30 for each £100 nominal.

It is an error to suppose that inflation is bad for the workers. It is no harder (and no easier) for organised workers to raise their standard of living when prices are rising than when they are falling or stable: it all depends on the varying conditions in the labour market. In the great majority of years in the half-century of inflation wage rates have risen more than prices. And it happened when prices were falling sharply between 1920 and 1925 that wages fell more than prices. The workers were worse off.

One last word about the supposed evils or benefits that will flow from ending inflation. It will not have the effect either of causing unemployment and trade depression or of preventing them. Capitalism goes its own way irrespective of governments’ monetary policies.

Edgar Hardcastle

No Mystery About Banking (1966)

From the December 1966 issue of the Socialist Standard

Banks have been in the news, with the failure of the Intra Bank in Lebanon, the largest in the Middle East and a bank in Detroit, the Public Bank of Detroit.

Both banks claimed to have assets more than sufficient to pay depositors eventually, but neither had the cash available when the depositors took fright and wanted their money back. The Intra Bank is reported to have invested much of the £86 million deposits (some of it from oil-rich Arab clients) in such varied properties as a West End Hotel in London, docks in France and properties in Paris and America. As the Sunday Telegraph (23 October) remarked:– “This is dangerous banking practice – office blocks cannot be sold overnight to repay depositors”.

The Detroit Bank, which had deposits of $117 million at the end of 1965, had got heavily involved in financing “home improvement” work.

It was the biggest American bank failure in thirty years.

It was the familiar story, recalled by the failure of a small British bank a few years ago, when the manager complained sadly that “depositors were taking the money out faster than they were putting it in”.

The outcome has been that the Detroit bank has been taken over by another American bank, and the Intra Bank, with Government and other aid, has re-opened. Among those who propped it up were the Maronite Patriarch of Antioch, with that the Times described as “the not inconsiderable resources of his Church”.

But what is of more lasting interest is the light such bank failures throw on the absurdities of the banking theories held by what the late Professor Cannan called the “Mystical School of Banking Theorists”.

Before their ideas gained their present widespread acceptance economists and bankers, though they disagreed about other things, had no doubts about the basic principle that what a bank lends or invests is placed at its disposal by depositors.

Marx for example wrote: –

A bank represents on one hand the centralisation of money-capital, of the lenders, and on the other the centralisation of the borrowers. Its profit is generally made by borrowing at a lower rate of interest than it loans (Capital Vol. 111. P. 473).

And a banker, Mr. Walter Leaf, Chairman of the Westminster Bank, wrote: –

The banks can lend no more than they can borrow – in fact not nearly so much. If anyone in the deposit banking system can be called a “creator of credit” it is the depositor; for the banks are strictly limited in their lending operations by the amount which the depositor thinks fit to leave with them. (Banking. Home University Library 1926.)

But the mystical school (which included Keynes) would have none of this. They saw by experience that a prudently conducted bank, having the confidence of depositors, could rely on them to leave the bulk of their deposits in the bank, so that the latter could safely invest about twelve to fifteen per cent, keep about 20 per cent in a form of lending which they could call on immediately, keep about 10 per cent in cash in their tills or at the Bank of England, and use about one half to make advances to customers. From this they make the topsy-turvy deduction that out of the 10 per cent cash (it is now down to 8 per cent) the bank had “created” the rest.

The Committee on Finance and Industry (The Macmillan Committee) in its report in 1931 claimed that “the bulk of the deposits arise out of the action of the banks themselves, for by granting loans, allowing money to be drawn on an overdraft or purchasing securities a bank creates a credit in its books, which is the equivalent of a deposit”.

They went on to give what they called a simple illustration. First they assumed that all banks had been merged into one bank. Then they described what they said would happen if a depositor deposited £1,000 in cash, the bank relying on past experience that it was only necessary to keep £100 of it in cash. The bank, they said could now make loans (or purchase securities) up to a total of £9,000 “until such time as the credits created . . . represent nine times the amount of the original deposit of £1,000 in cash”. They were of course assuming that when each borrower drew on his account to make payments the cheques would come back into other accounts in the bank.

Two things they overlooked or obscured. In the real world there are quite a lot of separate banks and in the nature of things most of the loans made by each bank are used to make payments, not to customers of the same bank, but to customers who have accounts in other banks. So if for the moment we accept the assumption that the banks by making loans have created deposits they are doing most of it not for themselves but for their rivals. More important, their simple illustration is too simple. If their argument is sound it could be applied to a bank just being formed just as well as to a bank already functioning. (They were silent on this.)

But as soon as it is put like that its absurdity becomes apparent. A newly formed bank with no deposits except the £1,000 cash just handed in would, on the past experience which the Macmillan Committee itself accepted, invest £150, have £200 on call, £100 in cash and make advances of £550. Thus its total of investments and advances would be, not £9,000, but £900. It would only need one borrower of £1,000 to draw a cheque paying it to an account in another bank, for the first bank’s £1,000 cash to be reduced to nothing.

The same principle applies to an existing bank; for example if we take total deposits £100,000, with £15,000 invested, £20,000 on call, £10,000 in cash and advances of £55,000. For the existing bank would only have been able to expand to the £100,000 level by treating each additional deposit of £1,000 cash in the same way, with investment and advances totalling £900 out of each £1,000, not the mythical £9,000.

The members of the Committee were soon faced with a problem. Taking their words at their face value the late Major Douglas concluded that this power of “creation” meant that a bank “acquires securities for nothing”, creates new money “by a stroke of the banker’s pen”, and that the banks “are the potential or actual owners of everything produced in the world”.

Faced with this, members of the Committee who were asked about it, including the late Reginald McKenna, Chairman of the Midland Bank, had to repudiate Major Douglas. The fact remains however, that Major Douglas was only taking them to the logical conclusion of their own mystical theory of banking.

Edgar Hardcastle

Inflation: the Theories and the Facts (1974)

From the September 1974 issue of the Socialist Standard

Along with explaining what inflation is and why it happens, another question presents itself today. Why is it that a problem fairly widely understood half a century ago now completely baffles the majority of politicians and economists? Some of them admit that as far as they are concerned it is inexplicable and incurable; others offer explanations which a look at past inflations would show to be quite untenable. And now we have psychologists telling us it is not just an economic problem but is to be explained as indicative of a deep-rooted dissatisfaction with life.

A few facts show the irrelevance of most of the theories of inflation now current. Past inflations have always been halted when governments decided to halt them, and British capitalism operated continuously for a century before 1914 without any inflation at all. Are we to seriously believe that it was a century of “satisfaction with life” on the part of the workers? And what of the ten years 1921-31 when prices were not rising but falling, and the workers showed their “satisfaction” by the General Strike?

Push, Pull and Prattle

Understanding inflation may not be particularly easy, but most of the difficulty is the confusion introduced into it by economists. An economics handbook published in 1909 defined inflation in terms of its cause, depreciation of the currency: “high prices caused by an over-issue of inconvertible paper money”. That is how Marx and many other economists correctly explained inflation, but nowadays most economists attempt to explain it in terms of its symptoms not its cause.

They talk about two kinds of inflation, “cost-push or wage-push” and “demand-pull”, the one pushing prices up and the other pulling them up. That is about as useful a concept as Dr. Doolittle’s famous circus animal the Pushmi-Pullyu which had a head at both ends. (It would appear that the economists’ monster has both heads at the same end but, like Dr. Doolittle’s, they mostly take control alternately and not both at the same time.)

If a general price rise had not been caused by currency depreciation its “cost” and “demand” symptoms would also not be there; which is not to say that individual and general price rises cannot happen for causes other than inflation. In the period 1820-1914 in this country, when there was no currency depreciation and therefore no inflation, there were alternate comparatively small falls and rises of the price level in depressions and booms. But it never once rose above the level of 1820 whereas, with inflation, the present price level is about six times what it was in 1938.

General price rises due to currency depreciation were known in previous centuries, but it was a mark of 19th-century British capitalism that, by deliberate government policy, prices were kept comparatively stable by the avoidance of inflation. It did not stop the growth of production and wages.

Marx and Keynes

Marx dealt with one aspect of price changes in his lecture published in the pamphlet Value, Price and Profit, where he examined the erroneous proposition that wage increases cause a general price rise; but he did not there deal with currency depreciation or inflation. On the contrary, as he pointed out, he was dealing with the situation as it existed in Britain when there was no inflation. He was therefore assuming for his purpose no change whatever “in the value of the money wherein the values of products are estimated”.

His examination of inflation is in Capital, Volume I, in the chapter “Money, or the Circulation of Commodities” where he put forward the proposition, based on his labour theory of value, that the excess issue of an inconvertible paper currency puts up prices.

J. M. Keynes in his Tract on Monetary Reform (1923, pages 42-3) gives a similar explanation. Marx pointed out that beyond a certain point an excess issue of notes will result in money “falling into general disrepute”. Keynes, in the work referred to, dealt with the way this condition of general disrepute developed in Germany in the great inflation of the nineteen-twenties. Professor Edwin Cannan, without using the labour theory of value, reached much the same conclusion from observation of what actually happens (Modern Currency and the Regulation of its Value, 1931).      

It should be noted that Cannan, like Marx, dealt with “currency” (notes and coin). Some modern “monetarists” have introduced more confusion by trying to base their theories on “money” defined to include bank deposits as well as notes and coin..

What must be emphasised is that inflation is caused by those who control the note issue, which in this country is the Government through the Bank of England. It is often used in wartime because it is a speedy way of increasing government revenue to meet additional war expenditure. In Germany in the nineteen-twenties, in peace-time, it was a deliberate device (backed by big business) to pay off debts in depreciated currency: inflation, at least in the short term, serves the interest of debtors against lenders.

Marx and inflation

Marx’s treatment started with the economic law that the use of a particular commodity to serve as the money commodity, e.g. gold or silver, rests on the fact that that commodity like all other commodities is an embodiment of value, the amount of “socially necessary labour” required to produce it. If for example one ounce of gold and one bicycle each require ten hours’ labour they are equal values, and gold can serve as the “universal equivalent” for the exchange of all other commodities.

The conversion of value into price takes place through the minting of coins of uniform weight and purity. In Britain each £ or sovereign was, by law, fixed at a uniform weight of gold (about a quarter of an ounce). So the bicycle’s price would be about £4 because its value was equal to that of one ounce of gold. If the British government had fixed the £ at one-eighth of an ounce of gold instead of one-quarter, the bicycle’s price would have been £8 not £4 and all prices would similarly have been doubled. If they had fixed it at half an ounce, all prices would have been halved. On both suppositions, while the price of the bicycle (or other commodity) would have been doubled or halved, its relation to an ounce of gold would have remained unaltered.

The next stage in Marxian monetary theory was based on the proposition, confirmed by long experience, that with a given total volume of production and buying-and-selling transactions, and with gold minted into the £ or sovereign at about a quarter-ounce, a certain total amount of currency would be needed. (The fact that the required total varies from time to time with the velocity of circulation need not be gone into.) What Marx put forward was that the total value of needed currency represented a total mass of value, and therefore a total weight, of gold, and that if the total of gold is replaced by inconvertible paper money and the paper money is then issued in excess, prices will go up.

“If the paper money is in excess, if there is more of it than represents the amount of gold coins of like denomination which could actually be current, it will (apart from the danger of falling into general disrepute) represent only that quantity of gold, which, in accordance with the laws of circulation of commodities, is really required and is alone capable of being represented by paper. If the quantity of paper money issued is, for instance, double what it ought to be, then in actual fact one pound has become the money name of about one-eighth of an ounce of gold instead of about one-quarter of an ounce. The effect is the same as if an alteration had taken place in the function of gold as a standard of prices. The values previously expressed by the price £1 will now be expressed by the price £2.” (Capital Vol. I, page 108 in Allen & Unwin edn.)

Now Showing

Long experience has shown that Marx was right. Whenever inconvertible paper money has been issued in excess for a considerable period it has raised prices above what they would otherwise be.

In Britain the amount of notes in circulation in 1938 was £554 millions. It is now about £5,330 millions. Since 1938  the needed amount has been affected by certain changes, including greater total production (now more than double the 1938 level), and increased population, which would operate to raise the needed amount of currency. Working in the opposite direction has been the wider use of cheques, etc. and corresponding reduced need for notes and coin.

In the 19th century the issue of notes in excess amount was effectively prevented by law. Beyond a small fixed amount the Bank of England could only expand the note issue by placing an equivalent amount of gold in its reserve, and the paper was tied to gold by the requirement of “convertibility” –that is to say, the Bank of England was compelled by law to give gold in return for notes at the legally fixed rate of about one-quarter ounce for each £1. Except for marginal variations the value represented by Bank of England notes could not be different from the value of gold. Bank of England notes “were as good as gold” and were everywhere accepted as such. Now there is no convertibility, and in effect no restriction on the note issue.

A Two-way Fallacy

The man largely responsible for the adoption of inflation as government policy (they now call it “reflation”) was the economist J.M. Keynes. Yet he did not knowingly and intentionally advocate inflation as a long-term policy. (There were some people who did just that.) What Keynes did was to say that if certain other things were looked after it was no longer necessary formally to restrict the note issue.

“Thus the tendency of today  . . . rightly I think is to watch and to control the creation of credit and to let the creation of currency follow suit, rather than, as formerly, to watch and control the creation of currency and to let the creation of credit follow suit.”

Professor Cannan promptly warned that the doctrine was basically unsound and would open the door to inflation. See Economic Journal, March 1924, and Cannan’s An Economist’s Protest, 1927, pages 370-384. Keynes’s views won the day and came to be accepted by the Tory Party and Labour Party and by the trade unions, not only as monetary theory but because Keynes put them forward as part of his popular “full employment” doctrine.

This doctrine was formally set out by the Tory, Labour and Liberal wartime government in 1944 in the White paper Employment Policy. It was cautiously phrased but was immediately followed by a more crude interpretation drawn up by the Labour Party in Full Employment and Finance Policy. Here it was laid down that if unemployment threatened “we should at once increase expenditure, both on consumption and on development – i.e. both on consumer goods and capital goods. We should give people more money and not less to spend. If need be we should borrow to cover government expenditure. We need not aim at balancing the budget year by year.”

It is the Labour Party version that has been followed by Tory and Labour governments, particularly in the past decade. It has included hoping for a much lower level of unemployment than even Keynes thought possible, and part of the belief has been the idea that increased spending increases production –something which events show to be true, if at all, only for a short period.

The fallacy of the theory is well illustrated from the period 1965-72. In that period annual consumer spending jumped from £22,943m. in 1965 to £39,263m. in 1972, an increase of 70 per cent. In the same period registered unemployment jumped from 360,000 to 943,000 and production went up by only 17 ½  per cent. The principal result was that prices rose by 47 per cent.

The policy is still being operated. One of the few forecasts about the present Labour government that has proved correct was that made by the late Richard Crossman, former minister in a Labour government, that the rate of inflation would be increased (Times, 12th Sept., 1973).

There are two ways in which currency depreciation can be operated, the direct way used by the German government in the ‘twenties and the more indirect way used in Britain. Professor F.W. Paish summarised them:

“In some countries it [the Government] might simply print more notes and use them to pay for its expenditure. Nowadays, in such a country as Great Britain, the government would borrow from the banks, printing more notes to enable the banks to maintain their cash reserves.” (Benham’s Economics. 1967, p. 465)

The additional notes and coin get into circulation through the joint-stock banks (Lloyds, NatWest, etc.) which bank with the Bank of England.

These banks withdraw notes and coin from the Bank of England and in turn the additional notes and coin reach the individuals, shopkeepers and employers who make withdrawals in that form from their deposits with the banks. The note issues are set out in the Bank of England’s Weekly Return. In the week ended 24th July 1974 there was an increase in the notes in circulation by £52,193,306 to a total of £5,098.767,831.

Signs of Alarm

Many economists and politicians would be happy to see inflation going on indefinitely in the belief that it keeps unemployment down. But whatever happens with moderate inflation, even they cannot ignore that when inflation gets to the point that money falls into “general disrepute”, unemployment multiplies. In Germany in 1923, unemployment was 4.2 per cent with another 12.6 per cent partially unemployed. Within the year it had jumped to 28.2 per cent and 42 per cent respectively, representing together over 5 million workers in receipt of unemployment pay and an unknown larger number not receiving relief. At this point the German government called a halt by replacing the notes by a new gold-backed currency.

Realisation of this danger here has induced some politicians and economists to call for the limitation of the note issue. In 1968 the Editor of The Times (15th October) described the idea that price rises could be checked “by printing fewer notes” as a “crude error”. Now the Editor, Mr. Rees-Mogg, has been converted and is urging a return to the gold standard (Times, 1st May 1974).

But at the same time they are fearful that the drastic action of entirely stopping the increase of the note issue would, as in 1920, bring prices down but be accompanied by a big increase in unemployment. So the line taken by one group of economists is to call for a gradual reduction in the rate at which inflation is increasing. Professor A.A. Walters of the London School of Economics is urging that such a slackening should be spread over three years (Money and Inflation, Aims of Industry 1974. and Times, 23rd July 1974).

It only remains to point to the difference between Marx and other economists. Marx was simply describing how capitalism operates, with inflation and without it. He was not saying, as did Cannan, that it is better to run capitalism without inflation, or saying like Keynes that a “full employment” policy will improve and save capitalism.

In Marx’s view capitalism inevitably produces unemployment and crises. For him the task of the workers is to abolish capitalism and replace it with Socialism, in which problems of prices, inflation, crises and unemployment will not exist.

Edgar Hardcastle

Letter: What is Capital? (1928)

Letter to the Editors from the September 1928 issue of the Socialist Standard

To the Editor, Socialist Standard.

In your reply to Mr. Keeble’s letter concerning the aims of the I.L.P. you repeat for about the umpteenth time that the statement that land and capital should be communally owned is utterly meaningless.

I have followed very closely the controversies between various political parties, but never have I heard of one party accusing the other of putting forward as its chief doctrine a meaningless statement. Surely you do not really believe that such is the case with the I.L.P. ? According to your definition of capital, i.e., as money invested with the object of profit-making, it would be quite obvious to anybody that all talk about common ownership of capital would be meaningless, since under Socialism capital in that sense of the word would be non-existent.

Reverting however to what some people choose to call “bourgeoise” economics (which is the economics that the I.L.P. seem to follow) we find that capital is defined as “wealth set aside for the production of further wealth." This translated into everyday speech simply amounts to the means of producing wealth (i.e., machinery, factories, etc.). The I.L.P. are therefore in agreement with you that the means of production of wealth should be communally owned. I sincerely trust, therefore, that (even if you do not print this letter) you will in future refrain from levelling such a ridiculous accusation at the I.L.P.

Incidentally, I might point out to you that, your action only serves to confuse the minds of your readers. —Yours sincerely,

“Independent.”

Our Reply.

"Independent" believes that when the I.L.P. use as a description of their aim the phrase "communal ownership of capital" (admitted by their Chairman, Mr. Maxton, to be an absurd contradiction in terms) what they really mean is common ownership of the means of wealth production and distribution. That this is not so has been shown in these columns by numerous quotations from I.L.P. publications in which they admit their intention to be Nationalisation, with the present owners still drawing property incomes, but from the ownership of Government bonds instead of company shares.

Their aim is not common ownership, but merely State Capitalism.

For example, The Socialist Programme (I.L.P., 1924, p. 24) says:—

  The present shareholders in mines and railways could receive State mines or railway stock based on a valuation and bearing a fixed rate of interest.

It is amusing to be told that we are guilty of confusing the minds of our readers by using the only tenable definition of "capital.” An economic theory is either correct or incorrect. To talk of "bourgeois” economics as distinct from some other kind, as if two incompatible doctrines can both be correct, is nonsense.

(Incidentally, at least two anti-Socialist economists of note have explicitly rejected this unsound definition of Capital, viz., Professor Edwin Cannan, and the late Sir William Ashley.)

If "wealth set aside for the production of further wealth" is "capital" (as is taught by the I.L.P.) then Capitalism would be any society in which tools or machinery are used. Thus "feudalism" would be "Capitalism,” and, in fact, every system of human society, and some animal societies, would all be correctly described as "Capitalism.” Socialism itself would on this showing also be "Capitalism.” The theory is unsound, but exceedingly convenient to opponents of Socialism who wish to prove that Capitalism has always been and always will be. By spreading this confusion, the I.L.P. is doing the work of the anti-Socialist.

Edgar Hardcastle

Obituary: Edgar Hardcastle (1995)

Obituary from the August 1995 issue of the Socialist Standard

Edgar Hardcastle—or Hardy as he was simply known in the Party—died in June at the age of 95.

Hardy gave a great input into the Party, particularly to the Socialist Standard, serving on the editorial committee for over thirty years and contributing articles from the early 1920s onwards. He was also a member of the Executive Committee for decades and a Party lecturer and representative in debates as well as serving on the new pamphlets committee.

The son of a founder member, he went to prison as a socialist conscientious objector in the First World War, formally joining the Party in 1922. After studying at the London School of Economics under Professor Edwin Cannan he worked all his life as a researcher in the trade union movement, first for the Agriculture Workers Union, then for a short while for the international trade union movement in Brussels, then till his retirement for the Post Office workers' union where he was chief adviser to a succession of UPW General Secretaries.

Hardy had the reputation of being a "theoretician' of Marxian economics but in fact he was something different and rarer in the socialist movement: a person who combined a wide knowledge of Marxian economics with a knowledge of the contemporary empirical evidence.

His main interest was monetary economics. From the 1930s on, as his articles testify, he did battle against Keynes on behalf of Marx and also, more curiously it might be thought, on behalf of his old professor, Cannan. Edwin Cannan, a largely forgotten bourgeois economist of the first part of this century (he died in 1935), could be described as the last of the Classical Political Economists and, as such, shared with Marx certain economic views. In particular that inflation was a purely monetary phenomenon caused by an excessive issue of an inconvertible paper currency and that banks were merely financial intermediaries without any power to "create credit". Both of these positions were denied by Keynes whose views became part of the economic orthodoxy. At one time there was talk of reprinting Hardy's 'Marx v Keynes' articles in book form but nothing ever came of it.

Hardy's empirical bent enabled the Party to refute, with the necessary statistical evidence. theories which have sometimes been attributed to Marx such as under-consumptionism, the increasing pauperisation of the working class, the collapse of capitalism (Hardy was the author of the famous 1932 Socialist Party pamphlet Why Capitalism Will Not Collapse) and— more controversially within the Party—the increasing severity of crises.

It was a pitiful business that towards the end of his life, Hardy found himself a member of a branch which was expelled by a poll of all the membership (the only way anyone can be excluded from the SPGB) for deliberately and repeatedly refusing to apply a democratically-arrived-at Conference decision. This was a sad end to a lifetime's contribution to the development of the socialist movement.

Socialism and the Economic "Experts". (1930)

From the March 1930 issue of the Socialist Standard

Many people to whom Socialist teachings seem unanswerable and in every way satisfactory, are still reluctant to accept the Socialist case because they cannot believe that Capitalist theories can be unsound and yet be accepted by so many clever men, economists, financial and industrial experts, professors, scientists, and so on. They ask us how we can be so confident that we are right when so many apparently great economists say that we are wrong.

Our answer is two-fold. We claim in the first place that the only final test of a theory is that it should explain the facts and not be out of keeping with the facts. So, for example, we can quite confidently assert that the various theories which try to prove that permanent unemployment is impossible are shown to be wrong by the facts of permanent unemployment. Secondly, we ask you to remember that great reputations can be, to a large extent, created out of very little substance and that universities and such places, being dependent on the financial support of Capitalist Governments, wealthy companies, etc., do not shower honours on and give prominent posts to men whose ideas clash violently with the accepted ideas of Capitalism.

When we come to examine the theories of the learned men with whom we are especially concerned, the economists, we find that there are one or two facts which alone should justify the abandonment of that attitude of worshipping their declarations as If they were above criticism. Firstly, we observe that these "great” men rarely agree among themselves; secondly, their inability to give useful advice in practical problems is notorious; and thirdly, they themselves on occasion admit the unsatisfactory nature of their whole body of doctrines.

We give below two quotations which illustrate these points. The first is taken from a review, published in the New Statesman, of a recent book by Professor Edwin Cannan, who is one of the most famous of living economists. The book is his "Review of Economic Theory.” The reviewer calls Professor Cannan the "Economic Socrates,” and says :—

  Let no one, then, go to this Review of Economic Theory in the hope of discovering in it new truth of a positive sort. It may help readers to new truth, but only indirectly, through the exposure of old error. This, however, it achieves with signal success. Professor Cannan has no difficulty at all in proving his case that economic theory has been throughout its life, and is still, in a state of deplorable confusion, and that not only do the text-books talk a great deal of utter nonsense, but even the classical practitioners of the art or science are in a terribly muddled condition. His handling of Marshall is as devastating as his handling of Mill; and his comments on Marshall's living disciples are mostly to the effect that they have made the confusion worse. This is a real service; for economics stand in real need of an iconoclast, and an economic Socrates may well be the indispensable forerunner of an economic Plato. (The New Statesman, Oct. 19, 1929.)

Our next quotation is taken from "The Founders of Political Economy,” by Jan St. Lewinski, D.Ec.Sc., Professor of Political Economy in the University of Lublin, Poland. The book was published in 1922 by P. S. King & Son, Ltd. :—

   The Great War has clearly shown of what little use all our economic knowledge has been where most simple theoretical problems had to be solved. When, for instance, the question if after the war the rate of interest will be high or low became acute, writers began to discuss what capital really is, and each gave a different definition and different solutions of the problem. In Germany economic writers of high standing, as, for instance, the Vice-Chancellor and former Professor of Political Economy at the University of Berlin, Helfferich claimed that Germany can wage war indefinitely because “money remains in the country." They imagined that money expended in financing military operations would return in form of war loans, and that this circle could last for centuries. Almost all economists in Germany believed in the truth of this absurd doctrine, and only the University of Breslau, which was a little doubtful about it, organised an inquiry on the subject.
  All the rich economic literature which had been accumulating for more than a century could not afford a solution of a problem which really belongs to the A B C of our science. Could anything illustrate better the deplorable state of political economy? (Page 167.)

The next time somebody tells you that Socialist theory must be unsound because this or the other professor of economics says so, you may reject that the views of these gentlemen on the subject of Socialism would carry more weight if they had first succeeded in reducing to order the chaotic jumble of theories which make up their own department of study.

Edgar Hardcastle

Confusion about Money and Inflation (1975)

From the January 1975 issue of the Socialist Standard

Under the influence of Professor Milton Friedman and other “monetarists” it has become fashionable for politicians and economists to discuss the rise of prices in relation to what they call “the money supply”.

Thus the City Editor of the Daily Mail, 18th November 1974:

Some experts say the money supply tells us how bad inflation is going to be in the months ahead. The increase of just 1¾ per cent in the past three months looks hopeful.

And in July last Mr. Healey said:

We have the rate of increase of the money supply under control. I propose to keep it so. It is running at roughly half the rate at which it was running under the previous government.

But the rate of the rise of prices did not halve or even slacken. In spite of whatever effect subsidies and price controls may have had, the rise of prices in the eight months after Healey became Chancellor was not smaller but greater than in the previous eight months under Tory government.

It is important to recognize that the theories of the monetarists are not at all the same as the theory of Marx. Marx showed that an excess issue of inconvertible paper currency depreciates the currency and causes prices to rise, though it is not the only factor affecting prices. Essentially, what the monetarists attempt to show is that the price level is mainly determined by the size of deposits in the banks.

What the monetarists use as their guide are the official figures for “money supply”, made up of currency (notes and coin) plus bank deposits; but the currency element in the figures is so small a proportion of the whole that the changes in the amount of “money supply” from month to month are dominated not by the increase of the note issue but by the changes in bank deposits.

Actually there are two official indexes of money supply, known as M1 and M3. The first includes current account bank deposits, while the second includes also money on deposit account. (Currency constitutes only about one-third of M1 and about 14 per cent, of M3.)

One of the absurdities of monetarist theory is that M1 and M3 rarely give the same guidance, yet both are used. They hardly ever move at the same rate, and often M1 is going down while M3 is stationary or going up. One factor in this is that if depositors transfer large amounts from current to deposit accounts it reduces M1 but does not affect M3 because M3 already includes all deposits whether on current or deposit account.

Professor James Morrell of Bradford University attacked the “money supply” concept in an article in the Sunday Telegraph on 10th November 1974:

Since one measure of Britain’s stock of money showed a 1.5 per cent rise during the past 12 months (third quarter 1973 to third quarter 1974) and another showed a rise of 13.5 per cent we may well wonder if the experts know what they are talking about.

But what of the theory that bank deposits determine prices? It is a very old theory, but one that will not stand examination. Figures are available which show that deposits in the Joint Stock banks rose from £159 million in 1877 to £890 million in 1910, but the price level was rather lower in 1910 than in 1877. And between 1921 and 1931, when prices fell by 35 per cent., London Clearing Bank deposits fell by about 9 per cent, in the first five years then, rose again to the original level.

As Professor Cannan pointed out:

Prices continued to wax and wane with currencies, and to exhibit towards the variations of bank deposits . . . complete indifference.

(Modern Currency and the Regulation of its Value, 1931, p. 95)

It is a reflection on the modern economists, including Professor Morrell, that with few exceptions they are not even prepared to look at the possibility that Marx’s theory would provide the explanation for inflation that they are unable to find elsewhere.

Edgar Hardcastle