Monday, April 24, 2017

Private banks create virtually all money

Do you want to shock, confuse, and probably alienate your friends? Probably the easiest way is to explain what really happens when they sign up for a home mortgage.
  • The bank will engage in a massive invasion of the borrower's privacy in the name of their financial interests. What is really happening is the bank is trying to ascertain if the borrower can actually service the debt—sort of like "hiring" a slave, when you think about it. This step is critically important because without performing loans, banks cannot exist.
  • The bank will then, after the signing of important-looking and expensive documents, create a new balance in the borrower's account. The bank has done nothing except reprogram some computer memory in the bank's electronic books. With a few keystrokes, the bank has put a customer on the hook for a large sum of money payable over 30 years. Roughly 40% of everything the borrower earns in those next 30 years will go to pay off the the creation of those few keystrokes.
This is what actually happens. But because of the massively unequal nature of this transaction, the banking industry has created an amazing body of lies to justify this rip-off. In fact, most of us who subscribe to the above explanation for how banking really works have faced the angry reaction from those who believe the big banking lies should we ever make the mistake of springing too many facts on the credulous.

But now, no less than the Bank of England has come clean and admitted that loans create deposits rather than the other way around. The story of BoE making this amazing admission follows (complete with video.)


Published: March 13, 2017

Private Banks – Not the Government or Central Banks – Create 97 Percent of All Money

Who creates money?

Most people assume that money is created by governments … or perhaps central banks.In reality – as noted by the Bank of England, Britain’s central bank – 97% of all money in circulation is created by private banks.Bank Loans = Creating Money Out of Thin AirBut how do private banks create money?We’ve all been taught that banks first take in deposits, and then they loan out those deposits to folks who want to borrow.But this is a myth …The Bank of England the German central bank have explained that loans are extended before deposits exist … and that the loans create deposits:

The above is from an official video released by the Bank of England.The Bank of England explains:

Whenever a bank makes a loan, it simultaneously creates a matching deposit in the borrower’s bank account, thereby creating new money.

The reality of how money is created today differs from the description found in some economics textbooks:

Rather than banks receiving deposits when households save and then lending them out, bank lending creates deposits.


One common misconception is that banks act simply as intermediaries, lending out the deposits that savers place with them. In this view deposits are typically ‘created’ by the saving decisions of households, and banks then ‘lend out’ those existing deposits to borrowers, for example to companies looking to finance investment or individuals wanting to purchase houses.


In reality in the modern economy, commercial banks are the creators of deposit money …. Rather than banks lending out deposits that are placed with them, the act of lending creates deposits — the reverse of the sequence typically described in textbooks.


Commercial banks create money, in the form of bank deposits, by making new loans. When a bank makes a loan, for example to someone taking out a mortgage to buy a house, it does not typically do so by giving them thousands of pounds worth of banknotes. Instead, it credits their bank account with a bank deposit of the size of the mortgage. At that moment, new money is created. For this reason, some economists have referred to bank deposits as ‘fountain pen money’, created at the stroke of bankers’ pens when they approve loans.


This description of money creation contrasts with the notion that banks can only lend out pre-existing money, outlined in the previous section. Bank deposits are simply a record of how much the bank itself owes its customers. So they are a liability of the bank, not an asset that could be lent out.

Similarly, the Federal Reserve Bank of Chicago published a booklet called “Modern Money Mechanics” in the 1960s stating:

[Banks] do not really pay out loans from the money they receive as deposits. If they did this, no additional money would be created. What they do when they make loans is to accept promissory notes in exchange for credits to the borrowers’ transaction accounts.

Monetary expert and economics professor Randall Wray explained to Washington’s Blog that:

Bank deposits are bank IOUs.

Economics professor Richard Werner – who obtained his PhD in economics from Oxford, was the first Shimomura Fellow at the Research Institute for Capital Formation at the Development Bank of Japan, Visiting Researcher at the Institute for Monetary and Economic Studies at the Bank of Japan, Visiting Scholar at the Institute for Monetary and Fiscal Studies at the Ministry of Finance, and chief economist of Jardine Fleming – was granted access to study a bank’s books, and confirmed that private banks create money when they simply create fictitious deposits into a borrower’s account.Werner explains:

What banks do is to simply reclassify their accounts payable items arising from the act of lending as ‘customer deposits’, and the general public, when receiving payment in the form of a transfer of bank deposits, believes that a form of money had been paid into the bank.


No balance is drawn down to make a payment to the borrower.


The bank does not actually make any money available to the borrower: No transfer of funds from anywhere to the customer or indeed the customer’s account takes place. There is no equal reduction in the balance of another account to defray the borrower. Instead, the bank simply re-classified its liabilities, changing the ‘accounts payable’ obligation arising from the bank loan contract to another liability category called ‘customer deposits’.

While the borrower is given the impression that the bank had transferred money from its capital, reserves or other accounts to the borrower’s account (as indeed major theories of banking, the financial intermediation and fractional reserve theories, erroneously claim), in reality this is not the case. Neither the bank nor the customer deposited any money, nor were any funds from anywhere outside the bank utilised to make the deposit in the borrower’s account. Indeed, there was no depositing of any funds.


The bank’s liability is simply re-named a ‘bank deposit’.


Banks create money when they grant a loan: they invent a fictitious customer deposit, which the central bank and all users of our monetary system, consider to be ‘money’, indistinguishable from ‘real’ deposits not newly invented by the banks. Thus banks do not just grant credit, they create credit, and simultaneously they create money.


Instead of discharging their liability to pay out loans, the banks merely reclassify their liabilities originating from loan contracts from what should be an ‘accounts payable’ item to ‘customer deposit’ ….

How Can Banks DO This?Professor Werner explains the reason that banks – but no one else – can create money out of thin air is that they are the only institution exempted from normal accounting rules.Specifically, every other company would be busted for fraudulent accounting if they conjured new money out of thin air by reclassifying a liability (i.e. an accounts payable) as an asset (i.e. a deposit).But the banks have pushed through exemptions so that they don’t have to follow normal accounting rules:

What enables banks to create credit and hence money is their exemption from the Client Money Rules. Thanks to this exemption they are allowed to keep customer deposits on their own balance sheet. This means that depositors who deposit their money with a bank are no longer the legal owners of this money. Instead, they are just one of the general creditors of the bank whom it owes money to. It also means that the bank is able to access the records of the customer deposits held with it and invent a new ‘customer deposit’ that had not actually been paid in, but instead is a re-classified accounts payable liability of the bank arising from a loan contract.


What makes banks unique and explains the combination of lending and deposit-taking under one roof is the more fundamental fact that they do not have to segregate client accounts, and thus are able to engage in an exercise of ‘re-labelling’ and mixing different liabilities, specifically by re-assigning their accounts payable liabilities incurred when entering into loan agreements, to another category of liability called ‘customer deposits’.

What distinguishes banks from non-banks is their ability to create credit and money through lending, which is accomplished by booking what actually are accounts payable liabilities as imaginary customer deposits, and this is in turn made possible by a particular regulation that renders banks unique: their exemption from the Client Money Rules. [Werner gives a concrete example on British law for banking and non-banking institutions.]

Sound fraudulent? Professor Werner thinks so, also:

But he also makes some more important points …What Does It All Mean? The Implications of Money Creation By Private BanksMainstream economists believe that private debt doesn’t even “exist“ as a force that acts on the economy. For example, Ben Bernanke and Paul Krugman assume that huge levels of household debt don’t hurt the economy because more debt among households just means that savers have loaned them money … i.e. that it is a net wash to the economy. To make this assumption, they rely on the myth debunked above … that banks can only loan as much money out as they have in deposits. In reality, 143 years of history shows that excessive private debt – in and of itself – can cause depressions. Moreover, Professor Werner points out that attempts to shore up the banking system with capital requirements (such as the Basel accords) are doomed to failure, since they don’t recognize that banks create money at will:

Basel rules were doomed to failure, since they consider banks as financial intermediaries, when in actual fact they are the creators of the money supply. Since banks invent money as fictitious deposits, it can be readily shown that capital adequacy based bank regulation does not have to restrict bank activity: banks can create money and hence can arrange for money to be made available to purchase newly issued shares that increase their bank capital. In other words, banks could simply invent the money that is then used to increase their capital. This is what Barclays Bank did in 2008, in order to avoid the use of tax money to shore up the bank’s capital: Barclays ‘raised’ £5.8 bn in new equity from Gulf sovereign wealth investors — by, it has transpired, lending them the money! As is explained in Werner (2014a), Barclays implemented a standard loan operation, thus inventing the £5.8 bn deposit ‘lent’ to the investor. This deposit was then used to ‘purchase’ the newly issued Barclays shares. Thus in this case the bank liability originating from the bank loan to the Gulf investor transmuted from (1) an accounts payable liability to (2) a customer deposit liability, to finally end up as (3) equity — another category on the liability side of the bank’s balance sheet. Effectively, Barclays invented its own capital. This certainly was cheaper for the UK tax payer than using tax money. As publicly listed companies in general are not allowed to lend money to firms for the purpose of buying their stocks, it was not in conformity with the Companies Act 2006 (Section 678, Prohibition of assistance for acquisition of shares in public company). But regulators were willing to overlook this. As Werner (2014b) argues, using central bank or bank credit creation is in principle the most cost-effective way to clean up the banking system and ensure that bank credit growth recovers quickly. The Barclays case is however evidence that stricter capital requirements do not necessary prevent banks from expanding credit and money creation, since their creation of deposits generates more purchasing power with which increased bank capital can also be funded.

Moreover, Werner points out that banks create the boom-bust cycle by lending too much for speculative, non-productive purposes

By failing to take into account the fact that banks create money, economists and governments are sowing the seeds for future crashes.But the economics field is very resistant to change …Economics professor Steve Keen notes in Forbes:
In any genuine science, empirical data like this would have forced the orthodoxy to rethink its position. But in economics, the profession has sailed on, blithely unaware of how their model of “banks as intermediaries between savers and investors” is seriously wrong, and now blinds them to the remedy for the crisis as it previously blinded them to the possibility of a crisis occurring.

A wit once defined an economist as someone who, when shown that something works in practice, replies “Ah! But does it work in theory?”

And a 2016 IMF paper notes:

Around [the 1960s] banks began to completely disappear from most macroeconomic models of how the economy works.­

This helps explain why, when faced with the Great Recession in 2008, macroeconomics was initially unprepared to contribute much to the analysis of the interaction of banks with the macro economy. Today there is a sizable body of research on this topic, but the literature still has many difficulties.­


Virtually all recent mainstream neoclassical economic research is based on the highly misleading “intermediation of loanable funds” description of banking …


In modern neoclassical intermediation of loanable funds theories, banks are seen as intermediating real savings. Lending, in this narrative, starts with banks collecting deposits of previously saved real resources (perishable consumer goods, consumer durables, machines and equipment, etc.) from savers and ends with the lending of those same real resources to borrowers. But such institutions simply do not exist in the real world. There are no loanable funds of real resources that bankers can collect and then lend out. Banks do of course collect checks or similar financial instruments, but because such instruments—to have any value—must be drawn on funds from elsewhere in the financial system, they cannot be deposits of new funds from outside the financial system. New funds are produced only with new bank loans (or when banks purchase additional financial or real assets), through book entries made by keystrokes on the banker’s keyboard at the time of disbursement. This means that the funds do not exist before the loan and that they are in the form of electronic entries—or, historically, paper ledger entries—rather than real resources.­


This “financing through money creation” function of banks has been repeatedly described in publications of the world’s leading central banks—see McLeay, Radia, and Thomas (2014a, 2014b) for excellent summaries. What has been much more challenging, however, is the incorporation of these insights into macroeconomic models [how true].
What’s the Solution?We’ve seen the problems created by failing to take into account the fact that private banks create money.But there are solutions …Initially, Professor Werner notes that preventing banks from creating new money to loan for speculation and mere personal consumption would prevent booms and busts:

Werner says that the “Asian Miracle” happened for exactly this reason:

Additionally, allowing small community banks to grow would cause the real economy to flourish … since small banks loan to small businesses (which create most of the jobs), while big banks only loan to giant companies and speculators:

Indeed, big banks are virtually out of the business of traditional lending … and small banks are the only ones funding Main Street.Werner says this is the secret of Germany’s economic success:

Postscript: Due to their unique money-printing powers, banks now literally own the world … including the entire political system.There’s a war raging in connection with banking. Remember that the giant banks tried to kill off community banking through the Trans Pacific Partnership. And as Professor Werner points out, the European Central Bank is currently in a war to destroy community banks:

One of key battles for prosperity and democracy today is decentralization of the banking system. more

Monday, April 17, 2017

The left is finally intellectually bankrupt

The election of 2016 proved to have at least one significant virtue—it fully exposed the corruption and ideological emptiness of the so-called "Liberal" class. None of this gives me a scintilla of joy. When I was young, being a good Liberal was actually something to aspire to—at least that was what I believed after I read Ken Galbraith's The New Industrial State. I believed we were the children of the Enlightenment who were responsible for the overwhelming majority of human progress.

As Thomas Franks and Chris Hedges have so excellently described, those kind of liberals only seem to exist in the memories of us aging coots. If Hillary Clinton and John Podesta are any example, liberals have become amazingly shallow, pathetically ignorant, and corrupt to the bone. Their political ideas are limited to schemes that enrich their friends. Their economic ideas can literally be found in the pages of the Economist. Debbie Wassermann Schultz, the Clinton campaign chair is a hired gun for the payday lending people. They seem to draw the line at actual slavery but that is about the only limit to depths of their neofeudal understanding of economic possibilities.

And in their latest excuse for the pathetic political performance of these thoroughly dislikable charlatans, today's liberals have resorted to actual McCarthyism. The claim that they lost because Russia is childish even by "the dog ate my homework" standards. But that's all they have so they are sticking to their fantasies even though it endangers world peace because in their pinched worldviews, it even makes sense. It made sense to Tailgunner Joe too. So there!

Wednesday, April 12, 2017

"If you build it they will come" and there goes the retailing bubble

One of the great pieces of economic nonsense from the age of Reagan was the "supply-side" notion "If you build it, they will come." The essential idea was that supply creates its own demand. This comforting little nostrum allowed the supply-siders to stop worrying about such "minor" matters as income stability and growth. Soon it also became quite fashionable to stop worrying about the health of local manufacturing. So long as there were goods to sell, who could possibly be concerned about where they came from?

But the ultimate disaster of supply-side thinking is still unfolding. If you actually believe that supply creates its own demand, what's to stop you from building a major mall out in the middle of a lot of nowheres? And so retail outlets multiplied to the point where virtually every person in the land is now near a major distribution of goods. The standard estimate is that we are 'blessed' with nearly 25 sq.' (2.3 sq meters) per capita of retail space (compared to less than 2 sq.' in Japan.)

Unbelievably, much of this retail space was built after it had become blindingly obvious that the internet was going to utterly change the way goods are marketed. It is hard to imagine the staying power of an idea that is mathematically ridiculous but here is the textbook case. Of course the real estate speculators were all excited about turning "empty" land into palaces of greed and envy, but let's not forget the "smart" money like teacher's pension funds that plowed rivers of cash into the idea that there cannot be too many malls.

So now the realization is finally dawning that there is at least 10x too much retail space (and that is even before Amazon eats everyone's lunch.) It it hardly beyond belief that a 2008-style bubble-crash in commercial real estate is virtually inevitable. We still have not figured out how to avoid these bubbles driven by mass stupidity. We are no better off than in 2008.

Sunday, April 9, 2017

Constitutional Foundation of the US Economy: Powers are Implied Not Enumerated

Almost every major advance of the US economy has been nurtured or facilitated at some point by the active involvement and encouragement of the national government. It's been a partnership—sometimes uneasy, sometimes close, but most definitely a partnership—between government and free enterprise, that has led the development of the US economy. This role of the national government was deliberately written into the Constitution, and touches directly on Constitutional issues that the left has ignored, but which the wrong-wing (conservatives and libertarians) have long waged a smear campaign against.

These issues go to the heart of the question: What is the role and purpose of government? They include such specific issues as the General Welfare clause, states rights, implied versus enumerated powers, and the reach and scope of the Commerce clause. Contrary to the idealized wrong-wing myth of the U.S. economy being founded on the principles of laissez-faire, the framers of the Constitution deliberately set out to create a central government strong enough to force the thirteen states into one national economy. To do this, the national government undertook a number of programs and policies to build and strengthen the national economy by encouraging and protecting manufactures and commerce, establishing a national banking system, and promoting and directly assisting the development of transportation.

The first Act of Congress established the administering of oaths of office for federal officials, but the second Act was the imposition of the Hamilton Tariff to protect domestic industry and raise revenue. In 1791, Congress chartered the First Bank of the United States. The Patent Office was created in 1802. Direct federal involvement in the building of transportation infrastructure included projects authorized under the 1807 Coast and Geodetic Survey, and other measures to improve river and harbor navigation, which were formalized and put on a more permanent footing by the 1824 Rivers and Harbors Act. Various Army expeditions to the west, beginning with Lewis and Clark's Corps of Discovery in 1804 and continuing into the 1870s, gathered and disseminated geographical and scientific knowledge that was crucial to opening the West to settlement (see for example, the careers of Major Stephen Harriman Long, Major General John C. Frémont, and Brigadier General Randolph B. Marcy). These expeditions were almost always under the direction of an officer from the Army Corps of Topographical Engineers, an organization that has been almost completely written out of American history, but which comprised the elite of U.S. Army officers. Pursuant to the General Survey Act of 1824, Army officers were assigned to assist or direct the surveying and construction of the early roads, railroads and canals -- whether they were private or state projects did not matter.

Our national government has also played a crucial role in the development of metal-cutting and metal-forming machine tools and mass mechanical assembly, which form the basis of modern industrial economies; the building of a trans-continental railroad system; the application of science to agriculture, and the mechanization of farming; improvements of steam propulsion for maritime transport; development of radio; creation of a nation-wide electricity power grid; creation of a national system of paved roads; development of aviation; development of frozen foods; development of electronics; creation of nuclear power; the creation of computers, and development of the internet.
It is no accident that our national government has played this role of nurturing and facilitating the development of the economy. Such a role was clearly the intent and desire of the Founders—contrary to all the wrong-wing lies about small government and free enterprise. This review of the creation of the Constitution shows that an activist role for government was clearly intended all along. The Republicans and conservatives (I prefer to call them the wrong-wing because so little of what they believe and proclaim about American history is correct) have a directly contrary view of this history.

Monday, April 3, 2017

More on fake news

Perhaps the most interesting story to emerge from the efforts to restore the Veblen farmhouse in Minnesota was the discovery that the Joseph Dorfman biography Thorstein Veblen and His America, long considered the definitive account of Veblen's life and scholarship, was very unreliable. The man who was paying for the restoration had promised, in writing, to the Minnesota Historical Society that he intended to use Dorfman's biography as the definitive word when it came to restoration decisions. But it soon became apparent that the spectacular house that Veblen's father had built on the edge of USA civilization with hand tools did not enhance the narrative that Dorfman was trying to sell. He wanted to Thorstein Veblen to have grown up in a log cabin among barely literate immigrants only to be rescued by the westward advance of Congregational educational institutes like Carleton College. So this monument of ingenuity became a log cabin in his telling.

Needless to say, calling this primo pioneer dwelling a log cabin did not provide much information on how to proceed with the repairs. Fortunately, Dorfman had sent out advance copies to some Veblen family members probably hoping for some sort of endorsement. Older brother Andrew was incensed at the portrayal of the Veblen's economic and social circumstances and wrote several pointed letters trying to get the account changed. Dorfman did NOT want to change his narrative because so much of his bio revolved around the idea that Veblen had miraculously emerged from an impoverished and primitive childhood. After several increasingly exasperated letters where Andrew described in detail the Minnesota farmhouse, he finally sent Dorfman pictures of the house and barn. Not surprisingly, when those letters and pictures were found in the Columbia library, they proved to be VERY helpful in making the restoration as authentic as possible.

But what of the Dorfman biography? The restoration seriously discredited it yet because it hangs around in university collections like so much toxic waste, serious scholars continue to be misled by it to this day. Dorfman was a full professor at Columbia so we  have a situation where someone in a position of trust has seriously poisoned the debate about early 20th-century political thought—mostly because he couldn't be bothered to get the story straight. Personally, I find the real story about Veblen's childhood development at least 100 times more interesting and informative than Dorfman's fairy tale. Dorfman built a comfortable career out of being the go-to expert on Veblen—that he couldn't be bothered to get it right is very troubling to me.

It is clear that fake news has consequences. The kind being retailed for premium prices in academe is especially harmful. It is utterly impossible to make progress or solve problems unless one has a crystal-clear understanding of what's happening. If you have been misled by an Ivy academic, you are really in trouble. You spent a great deal of money and effort to get bogus information so questioning it is especially difficult. Then you must unlearn that bad information in order to replace it with better information. It can take years just to get back to square zero.

Below John McMurtry has written a stunning indictment of fake news and its consequences. He actually believes the problem has become so serious it could even topple the USA empire. Think of it as the consequences of Dorfman's BS multiplied by, oh, a million.