Debt and money

[JohnPW]

One of the hand tool thread's got sidetracked onto discussing banks and how they create money from nothing.

According to The Telegraph the average UK household is now £54,000 in debt.
I have no doubt that most people will think that a crazy comparison but who could argue that having nothing is not better than being £54000 in debt.

It's yet another pointless statistic.
One needs to consider assets and the ability to earn, before one starts to talk about how 'well off' people are.

Quite.

And the level of misunderstanding about how money works is bewildering.

Other than cash (notes and coins) there is no money that exists that isn't debt. Cash makes up about 3% of money.

97% of money is bank created debt, essentially, there is no money that isn't debt. The reason the UK is richer than other countries is BECAUSE the people have debt. I know it seems counter-intuitive but paying off debt makes us POORER, and getting into debt makes us RICHER (as a country, obviously doesn't work for the individual).

So everything the government says about reducing debt and the 'country's credit card being full' is nonsense. The only way to create money is by creating debt, and hoping inflation keeps the problem undercontrol (but not so high as to stop people spending).

It's all a trick. There are way better explanations online.

TLDR: paying back debt makes us poorer, taking out debt makes us richer.

PS: the fact that what is good for the country is bad for the individual creates a 'tragedy of the commons' type peril.

Here's a good series on the history and theory of debt:

http://www.bbc.co.uk/programmes/b05447pc

I know there's this forum rule, no politics:

(6a.) Politics.
Over the years there has been one subject that has caused heated debates on the forums and that is politics. For that reason political discussion, in particular party political comments in a thread are not regarded as acceptable, please remember this is a woodworking forum after all. We do however understand that politics effects everyday life which is why some topics may be allowed depending on the circumstances.

But of course debt, money, banks etc are closely connected with politics and I don't know if the mods will allow this thread.

 

[themackay]

The thing that annoys me about all this is the banks create most of the money out of thin air so when you lose your job and are unable to pay your mortgage why do they reposses your house the money did not exist so they have not actually lost anything,its legalised theft in my opinion.

 

[AJB Temple]

How do banks create money out of thin air? This line is trotted out quite regularly, but I have yet to see anything credible that substantiates it in the context of commercial and retail banks. Banks are indeed leveraged, but that does not mean that they have issued money for nothing or from nothing. Balance sheets have to balance. There needs to be sufficient asset backing and solvency to deliver the required regulatory capital adequacy. In essence money is just a sophisticated form of exchange token that provides liquidity to a bartering process. Debt is a promise of delivery at a future date in exchange for an asset received today. This is not politics, it is financial economics.

 

[themackay]

How do banks create money out of thin air? This line is trotted out quite regularly, but I have yet to see anything credible that substantiates it in the context of commercial and retail banks. Banks are indeed leveraged, but that does not mean that they have issued money for nothing or from nothing. Balance sheets have to balance. There needs to be sufficient asset backing and solvency to deliver the required regulatory capital adequacy. In essence money is just a sophisticated form of exchange token that provides liquidity to a bartering process. Debt is a promise of delivery at a future date in exchange for an asset received today. This is not politics, it is financial economics.

From what I have read they just create an entry on a computer

 

[RogerP]

From what I have read they just create an entry on a computer

A link would be nice so we can all have a go

 

[AJB Temple]

Give me strength. You don't really believe this do you themackay? Maybe I will create some wood on my computer. It will be as solid as the imaginary money ;-)

 

[artie]

Give me strength. You don't really believe this do you themackay? Maybe I will create some wood on my computer. It will be as solid as the imaginary money ;-)

Not the same at all.

As far as I can figure out money is just a promise, That's all

 

[JohnPW]

http://www.bbc.co.uk/programmes/b01dtlzn

At 17min 30sec:

presenter:"where does this money come from?"
Bank of England "we create it."

Banks lend out many many more times money than they have in deposits, something like in the hundreds. In effect banks create 90% of the money they lend out out of nothing.

 

[themackay]

http://positivemoney.org/how-money-work ... ate-money/

This may help

 

[bugbear]

Textbooks in basic economics are available at local libraries.
BugBear

 

[AJB Temple]

There is a substantial difference between leverage (or gearing) and creating money. Commercial and retail banks (as opposed to central banks operated for the state who can therefore indulge in QE) cannot and do not create money out of thin air or by making entries on computers. It is simply nonsense. However, this is a woodworking site not financial regulation site, so I won't bother to expand. The tabloid media has a great deal to answer for in creating a remarkable degree of misinformation about how banks and indeed the economy as a whole operate. It's time I cooked dinner!

 

[themackay]

“When banks extend loans to their customers, they create money by crediting their customers’ accounts.”

A quote by Mervyn King himself.

 

[Flynnwood]

Source: Bank of England

http://www.bankofengland.co.uk/publicat ... eation.pdf

"Most of the money in circulation is created, not by the printing presses of the Bank of England, but by the commercial banks themselves: banks create money whenever they lend to someone in the economy or buy an asset from consumers.

And in contrast to descriptions found in some textbooks, the Bank of England does not directly control the quantity of either base or broad money. The Bank of England is nevertheless still able to influence the amount of money in the economy. It does so in normal times by setting monetary policy — through the interest rate that it pays on reserves held by commercial banks with the Bank of England.

More recently, though, with Bank Rate constrained by the effective lower bound, the Bank of England’s asset purchase programme has sought to raise the quantity of broad money in circulation. This in turn affects the prices and quantities of a range of assets in the economy, including money."

 

[Fatboy]

I saw that and some of the responses and thought it was just a wind up, I didn't realise people were genuinely taken in by the 'money doesn't really exist' argument

 

[bugbear]

There's a superb explanation of how bank notes work (and how they started, and why they have value) in one of the books of The Baroque Cycle

To anyone who thinks money is "obvious", try to work out why paper money has value

a) when Britain was on the gold standard
b) now we're not

BugBear

 

[Cheshirechappie]

http://positivemoney.org/how-money-works/how-banks-create-money/

This may help

"Positive Money is a movement to democratise money and banking so that it works for society and not against it."

I think you've been taken in by a small political campaigning organisation ("we are a band of volunteers with eight payed staff in a cheap office in London") with a smart web-site and a somewhat skewed view of basic economics. There are quite a few such groups using selective quotes to support their own view of economic and political development; a view that may be a bit extreme for most.

It may well be that money is 'created' by commercial banks, but not just willy-nilly. It remains government's duty to run a stable currency - it's still the government's responsibility to balance money supply against economic activity (a duty they devolve to the Bank of England), and bank regulation is also a primary responsibility of goverment, formerly devolved to the BoE. That responsibility was taken away from the Bank in the late 1990s, and split between the Financial Services Authority, the Treasury and the BoE, in such a way that nobody was quite sure who was responsible for what. Some commercial banks exploited this uncertainty to their own advantage, with disasterous consequences.

Be very careful about believing what political campaigning organisations tell you. It seems that some are saying that 'debt is an illusion' - and some people fall for it. Would that debt were an illusion - it would solve an awful lot of problems, like having to earn a living, for a start!

 

[Mike.S]

Commercial and retail banks (as opposed to central banks operated for the state who can therefore indulge in QE) cannot and do not create money out of thin air or by making entries on computers. It is simply nonsense. However, this is a woodworking site not financial regulation site, so I won't bother to expand. The tabloid media has a great deal to answer for in creating a remarkable degree of misinformation about how banks and indeed the economy as a whole operate. It's time I cooked dinner!

After 25+ years in banking I think I understand how it works. In short, money (modern, fiat money) is created from nothing - it is just accounting entries. Bank creates a new asset, say = £5,000 loan; it then creates a matching liability = £5,000 deposit in say Customer 1s name. Customer 1 pays money (cheque or electronic transfer) to Customer 2 then Liability just moved in bank's ledger from Customer 1 to Customer 2. Yes, there are controls (on level and cost i.e. interest rate on bank reserves) but these don't always work, or would, but aren't applied. I agree that the media (not just tabloid) is very poor but other posters (imo) have pointed towards sources of reliable information.

I think it's essential* for everyone to have a better understanding of 'what is money' (no, it's not just notes and coins), its origins (e.g. Bank from latin/arabic for Bench, Gold as money to Gold standard to Fiat - especially post 1971) and future (hint: beware the cashless society) and how it's created. The other question to have in mind is how are our Governments (UK, USA, France, Greece, Belgium etc) intending to repay the gargantuan debt levels (positive budget surpluses, default, inflation....?) they've encumbered us with. Once you've sussed that then you can then position yourself accordingly.

For those, like me, with a deep interest, there's a quite good basic video - it's two hours long but worth perservering: Economic Truth Documentary.

* because we're all in the faeces and it won't end well.

 

[MIGNAL]

I've seen some of the videos many years ago. Recently I read a blog/website that tried to explain that it wasn't quite the sleight of hand that some claim. All I can say is that it seemed very complex and it gave me a headache!
It's almost like reading one of those sh*****ing debates upstairs multiplied by 10,000.

 

[Sporky McGuffin]

In short, money (modern, fiat money) is created from nothing - it is just accounting entries. Bank creates a new asset, say = £5,000 loan; it then creates a matching liability = £5,000 deposit in say Customer 1s name.

I'm an engineer, not an economist, so bear with me if this is a grotesque misunderstanding; surely in the example you've cited, no money has been created overall? The asset and liability cancel each other out, no?

An evil banker type (tm) once tried to explain to me that money now has value rooted in its ability to be used to pay taxes. Is that about right?

 

[MIGNAL]

Wouldn't interest be payable on that loan? Which requires money, so it must come from somewhere.