As a global society, we can have almost everything we can imagine. The ideas of scarcity, that ‘We can’t afford it’ or ‘It’s too expensive’, are hangovers from the last 100 years of economic thought. There are a few natural constraints that we need to pay attention to, of course, but it is time to forget the concepts of poverty and scarcity and look at reality instead of economic theory.
We are currently standing at a fork in the road of human development. The road on the left leads to greater poverty, greater scarcity, destruction of the value that society has created over the last few hundred years, lower standards of living, and a generally less enjoyable life for almost everyone. The road on the right leads to greater wealth, higher standards of living for everyone, and a quality of life that few people are able to imagine. The road on the left harms everyone; the road on the right benefits everyone.
We have the freedom to choose, right now, which of these roads we go down. Currently the choice is being made by economists and politicians, and they have chosen to take the road to the left – the route to poverty and declining living standards.
Why would they do this? Is it because the road to the right is too hard to travel down? No – taking the road that benefits everyone simply requires a few small changes to a few legal documents and a slight tweaking of a few computer systems.
The truth is that the economists and politicians are completely unaware of the road on the right. They have been conditioned to believe that the road to general poverty is the only one that is open to them. In many ways, it is beyond their mental powers to imagine that the road on the right could even exist.
This article is the road map for the road on the right – the road to greater living standards, a more stable economy, and generally a better life for all.
To understand how we get there, you’ll need to go through a few shifts in mindset. You’ve probably been conditioned into a certain way of thinking about the economy, and you’ll need to see it differently (and more accurately) to understand how we take the alternative route.
The Solution to Our Current Problems
We have just experienced one of the worst financial crises in history (one which was completely predictable by anyone with an in-depth understanding of the fractional reserve banking system). As a result, governments worldwide are now talking about ‘cut backs’ in public spending. In short, they are telling us that we can no longer have what we’ve already successfully been having, simply because there ‘isn’t enough money’.
The Solution In Short
The solution to our current problem – and the route to greater wealth and prosperity for the entire economy and society – is to:
1. prevent the creation of money by privately owned companies (ie. commercial banks, through the fractional reserve banking system)
2. make the state (national government) the sole organisation that can create new money
3. spend this money into the economy – debt-free – through government spending and/or direct distribution to citizens
The Spectre of Inflation
However, as soon as we make this suggestion, the old knee-jerk reactions arise: inflation, Weimar Republic, and Zimbabwe. This argument states that increasing the money supply too quickly will cause prices to increase. Those who use this argument to argue against the idea of government-created money are usually ignorant of the fact that the banking system inflates the money supply by 7-11% per year, every year. This bank-created debt-money has undoubtedly produced inflation – for example, a 3-fold increase in UK house prices in just 10 years.
Guarding Against Inflation
When it comes to inflation, the real question is simply, how much can the money supply be increased each year without creating inflation? Once we know this (from research and trial and error) then we simply ensure that the money supply does not increase by more than this amount.
Under the current fractional-reserve system of banking, control of the money supply rests with an army of mortgage brokers and loan officers (since almost all new money is created when loans are made). It is very poor logic to assume that thousands of commission-hungry debt-brokers will control the money supply in a way that benefits the economy as a whole.
Therefore, the risk of inflation should actually be less if we give the power to create money back to the government, under strict rules and principles. Like most people, I would not be comfortable with the idea of allowing our elected government to create as much money as they need to win an election, so we need to separate the control of the money supply from the elected politicians and hand it to an independent monetary board, such as the Monetary Policy Committee in the UK. This group would have the remit to increase or decrease the money supply in such a way that does not cause inflation (beyond a specified ‘natural’ rate of inflation, such as the 2% target rate used in the UK).
Three Constraints on Money Supply Growth
I am proposing that government creates as much money as is required to do everything that needs to be done, subject to three key constraints:
- The money creation must not produce inflation, or deflation
- The money creation must not encourage us to use natural resources faster than they are being replaced
- That money creation should be done in such a way that people do not question the value of the money and do not lose faith in it .
We have addressed the inflation issue above. I will address the others below.
Use of Natural Resources
A lack of money should never prevent something been done if there is sufficient labour and natural resources to do it. When we have far more labour than is currently in use (consider the hundreds of millions of unemployed across the world) and a certain amount of natural resources, then the only constraint on what we can do should be the natural resources.
Consequently, we could create money to fund massive improvements in (for example) public transport. The money created will pay the engineers and workers on this project, as well as paying the people who create the vehicles, and the people who dig the iron ore from the ground to make the steel required for those vehicles. Once it has been used to pay for the initial project, this money will be re-spent by the tens of thousands of people who worked in some way on the project, creating more demand in the economy and in turn creating further jobs.
In other words, everything that we could imagine – excellent health care, brilliant public transport, world-class education – is financially within reach once we restore the power to create money back to the state.
We could achieve all this without creating inflation, but we might also find that we are depleting our natural resources. Consequently, we need to apply this second constraint – that money creation should not encourage the excessive depletion of natural resources.
What does this mean in practice? It means that although we might be able to financially fund say, 10 major public transport projects in one year, we might need to spread these over a number of years to prevent the excessive use of natural resources.
In short, money is an artificial constraint on the economy. The only real constraints that we should be concerned about are the quantity of labour (how much can we practically get done in 12 months), and the quantity of natural resources (at what point will we run out?). In most countries the supply of labour far exceeds the demand for it (hence considerable unemployment), and therefore labour is not really a constraint.
This leaves us with one constraint on what we can achieve – the quantity of natural resources.
Maintaining Faith in the Currency
This final constraint is a little abstract and harder to measure than the first two, but it needs to be kept in mind.
Money is useful as long as people will accept it in exchange for goods and services. If we are in London, I can give you a £10 note and you will take it because you know you can use it. However, if I give you 30 million ‘Meticais’ from Mozambique, you’ll probably refuse it as it has little use to you while you’re in London.
This is an important point to appreciate – money gets its value not from what it is (gold, paper or digital numbers in a computer database), but what it can be exchanged for. Money doesn’t need to be backed by gold, silver or government bonds – it is backed by all the goods and services that are for sale in society[1]. Therefore, as long as people are willing to provide a service in exchange for money, knowing that they can use the money to buy other services from other people, then the money has value.
This final constraint then, is more of a public relations issue than a genuine economic constraint. Inflation would be the first indicator that people are losing faith in the value of the money, so by preventing inflation, we should have no further problems. It is however important to prevent people – the public, the press, and even economists – from taking the knee-jerk reaction view that government creation of money will make the currency worthless.
The Impact of These Changes
What is the impact of permitting the government (exclusively) to create money and spend it into the economy, subject to the constraints above? How will this lead to greater wealth and higher standards of living for all?
Let me restate that the current mindset of scarcity in society is one produced by decades of poor economic thinking. The only real constraints on what we can achieve are labour and natural resources. We have more than enough labour in the vast majority of countries, hence mass unemployment and severe poverty affecting the majority of the world’s population.
Our current method of supplying money to the economy requires that people go into debt to provide the means of exchange. If no-one goes into debt, we have no money, and cannot trade. Government has been duped into handing over the printing press to a small number of privately owned companies, and borrowing the money that they could have created themselves, at an infinitely greater cost[2]. Not only this, but they have also allowed the banking system to create this money almost exclusively, foresaking £200 billion per year in potential government spending, pushing up taxes and reducing the disposable income of the population.
If this £200bn per year had been created by the government instead of the banking system, we could have cleared the national debt and paid for incredible improvements in education, health care and all government services, all within the space of about 5 years.
The possibilities that arise from returning the right to create money back to a public entity are incredibly exciting when we look at countries such as the US and UK, but become revolutionary when we look at poorer countries.
I am writing this from the centre of a South American city. Yesterday, I saw a taxi screech to a halt in the middle of the road in order to avoid a 4-foot wide hole in the tarmac (which would have surely damaged the car). The hole needs to be repaired, but, as in most countries, things aren’t done here because there ‘isn’t enough money’. The government doesn’t collect enough in tax revenue and then – like all other countries who have been duped into using fractional reserve banking – borrows money instead of creating it.
There are things that need doing (a better public transport system, better roads, better facilities for the favelas and shanty towns). Yet because we don’t have enough numbers in a computer system, and we have handed the power to create these numbers over to profit-making entities who have no interest in the welfare of society as a whole, then these things don’t get done.
The Possibilities
What could we do if we encouraged the governments of poorer countries to re-gain control of their currency? Let’s assume that the government in question:
1. is responsible
2. wants to help rather than harm the economy
3. observes the constraints that I have outlined above
They could take some of the people from the massive pool of unemployed or underemployed, and pay them to repair the roads and extend the public transport system, creating many more jobs and benefiting all the people of the city. But before that, they would need to train these people, so they would create jobs for engineers who could pass on the skills, and administrators who can run the training centers. They would also need the raw materials, so they can pay other people to dig them out of the ground.
The point is that, if we have the resources, people willing to do the work, and people willing to train those people, then we can do everything we need to do. We should never be constrained by a lack of money.
Now, I’m trained in the economics of developing countries, so I know that the above is a simplification; that there are issues of imports, foreign exchange, corruption, and incompetent politicians to deal with, but all these challenges are surmountable, once we realise that we can restore the power to create money back to the state and create money for public benefit rather than private profit. The monetary system is one of the main causes of poverty in all countries that use fractional reserve banking. By ending fractional reserve banking, we can have a standard of living that is many times better than the current state of affairs.
We Are Already Creating Money, so How Should We Spend It?
We have already addressed the concern about inflation, but it’s worth restating it here, since this is the issue that people find hardest to comprehend.
We are already creating money – in the UK, £200 billion was created in 2008 alone, inflating the money supply by around 12%.
This money is already being created and spent into the economy, so it’s simply ignorant to argue that government creation of money will suddenly produce hyperinflation. The money supply is constantly growing, and constantly being debased. The real inflation rate (in the UK) is likely to be far in excess of the carefully measured Consumer Price Index.
The question we need to ask is, how do we – as an economy and a society – want to spend this money? Should it be pumped predominantly into the housing market (as it is at the moment), so that it can further inflate house prices and further reduce the disposable income of all citizens – poor and rich alike? Or would we rather spend this newly created money on socially useful projects, that make society as a whole wealthier, rather than poorer?
And another question: who should get the benefit of this newly created money? Should it go to the relatively small group of people who work in banking, or should it be distributed more evenly across the economy? The £200 billion created by the banks in 2008 will generate up to £250 billion of profit over the next 25 years. This £250 billion is wealth that must be transferred from the rest of the economy to the few people who work in banking or the shareholders of banks. It is wealth that is diverted away from the high street, from shops, from local businesses, and from productive activity.
Do we want to enrich 6% of society at the expense of the other 94%? Or should we implement the reforms that I am proposing, which will benefit 94% of the population at the possible expense of 6%? Politicians take note: something that benefits 94% of the population is usually a vote winner!
Time To Wake Up!
I started this article by saying that we are at a fork in the road. Our politicians, economists and journalists currently believe that the road to poverty is the only one that exists, and as a result, that is where they are taking us right now. But it is time for a revolution in terms of economic thought to take us down the road to greater living standards for everyone.
Ignore economic theory for a second and look at reality. We have enough people to do everything we need to do (but not enough money to pay them). We have enough knowledge. We have enough natural resources – we have enough knowledge and enough ‘manpower’ to solve the natural resources problem, but again, we don’t have enough money to pay them to do so.
The only real shortage we have is a shortage of money. The answer to that is simple – create more money. But rather than creating it as debt, via the fractional-reserve banking system, we should create it debt-free for the benefit of the economy and society as a whole. As soon as we start doing this, we will find that many of our current economic problems start to disappear.
At this point in history, there is no greater advance that we could make than to take the printing press away from the banks and hand it back to the people.
[1] With thanks to Jamie Walton for this insight.
[2] If government creates £1bn, the real cost to government (and therefore to taxpayers) of this creation is £0 – they only need to add a number to a computer database. However, if they borrow £1bn, then the cost to the government (and taxpayers) is in the region of £2-3bn (when interest is factored in). This is £2-3bn that is diverted away from the real economy (from businesses and shops) and funneled back to the banking sector.
Dear Ben
I’m delighted you have reinforced that we are nowhere near limits to most natural resources yet. Though you do mention we maybe on some. What are these? I can see none!
If labour is abundant, capital is abundant, producers want to make things still, consumers still desire those things and want to buy them, what then is it that is stopping us ?
If you are claiming it is lack of access to credit I’m intrigued that you think this is the total problem? And then how making that credit more available by the Government would solve what is at the root. I’m not saying that finance is not a problem and does not need a reform. I am saying it is a small part of a far more monstrous wrong.
If you are an economist you must understand David Ricardo’s law of rent. A natural law that applies in all times and all places. And the more production rises, the greater that law applies.
This says that whatever is available beyond the margin of production ALWAYS goes to rent, when land is owned privately and exclusively. And as production rises,the proportion that goes to rent will rise and the proportion going to wages and interest will fall. This is known as “The Wedge”. The divide between rich and poor, non producer and producer, as you are seeing in South America. But it is visible even in Western democracies. Have you not been looking?
The only things that can check this are increases in the ability of the economy to produce greater wealth either through population growth, improved technology and trading practices and better government and social structures.
So making finance work better would certainly then improve production, allow wages and interest to catch up with rent for a time. Until the rent is irresistibly raised to take the new gain and competition for labour and capital once again reduces returns to the other factors.
The wedge will have been driven home yet further. Concentrations of assets in land and capital will become ever greater and the folks you talk about living on the margins of subsistence will grow to new levels
All this is highly predictable. While the institution of private property in land remains. To avoid these new heights of injustice, your proposals might call for the integral approach to include the end of the current system of land ownership, through the collection of the economic rent in land, currently worth about 6 times the profits of banks and seigniorage forgone by governments .
Safe travel
Dear Robin,
In the contrary – it’s not a lack of credit that’s the problem. It’s a lack of debt-free money. We certainly don’t need more credit to add to the already unsustainable levels of debt. We need debt-free money that is spent into the economy and acts as a stimulus on the economy, rather than a drag. (A debt-based stimulus actually slow the economy down in the longer-term, as all that money needs to be diverted from spending and repaid to the lenders).
I think you’re referring to land taxation reform. This is not an area in which I’ve studied at length and therefore not something I will comment on. However, from a strategic point of view, trying to call for a wholesale reform of the tax system at the same time as calling for reform of the banking system is a good way to ensure that no-one will listen to you. There are various reforms that would improve the economy and living standards, but the mistake that most groups make (and the reason why they make very little progress) is that they ask for everything at once, rather than focusing on one achievable reform at once. Hence, land taxation reform is out of my area of expertise and therefore not something that I would be in a position to make recommendations on.
However, I strongly disagree with you that this reform will increase inequality – the more likely result is that it will do just the opposite.
In addition, it’s worth questioning the applicability of economic ‘laws’ that were identified or invented at a time when most people grew their own vegetables. The fact that the majority of mainstream economists consider it to be accurate should ring alarm bells, considering the track record of mainstream economists in understanding the economy.
Hello,
Just watched the short video from Chicago in which you say Rowbothams book got you on this track. My story is jhust about the same.
There is a few pages in “the grip of debt” that needs clarification. I am curious to hear how you interpret Michaels lines about the issue of “banks creating money for themselves” on pages 28-30.
Some people in a discussion group claim Michael is wrong..and I am having a hard time defending him as I dont know the exact magic behind the way banks do their book-keeping when a loan is paid in full.
Here is a few lines from the groups discussion:
“While it is true that the inherent deficiency of purchasing power revealed by Douglas’s analysis of the price-system results in increasingly un-repayable community debt which ultimately becomes incorporated in the form of permanent fixed government debt, this does not appear to be what Michael Rowbotham seems to be discussing. He is saying that money used to repay bank loans in not actually cancelled but is held in permanent account to the credit of the bank. Does he mean the the money equivalent of all bank loans issued since institution of the modern banking system is somehow represented in some gigantic account within the banking system? This would appear to be quite ludicrous. Michael’s book “The Grip of Death” (1998) had much good content.. However, his claim that money used to repay bank loans is never cancelled seemed to be a strange anomaly. ”
Please comment.
rgds
Lars
Hi Lars,
This is a difficult one to understand without seeing the process visually, and I will try to put something together in the future to explain it. However, here’s a simple demonstration.
1. A bank makes a loan of £100,000.
2. The borrower (loan recipient) spends the money with companies that use other banks
3. To fund the borrower’s purchases, the bank has to transfer £100,000 of the money in it’s central bank operational account to the operational accounts of other banks.
4. Each month, the borrower receives his salary (imagine it’s £2000 per month) from his employer. For the money to land in the borrower’s account, the employer’s bank must transfer £2000 from their operational account at the central bank to the operation account of the borrower’s bank.
5. As the bank takes its repayments for the loan, it reduces the balance outstanding on the loan, and at the same reduce the balance of the customer’s current account (when they ‘take the money out’ for the loan repayments). This is essentially an accounting process – they reduce the value of the liabilities and assets side of the balance sheet at the same time. If you only look at this, it appears that the bank is ‘destroying’ the number money on its bank accounts.
6. However, by the time the bank has received its full £200,000 (loan principal plus interest), it has cancelled out the £100,000 liability (the original loan funds, which were ‘placed’ in the borrower’s current account before being spent).
7. Consequently, the bank now has £200,000 of ’spare’ money in its operational account at the central bank. As this money is excess reserves, the bank will do everything they can to lend it out as quickly as possible.
In other words, Rowbotham is essentially right, once you understand the full system (which takes a while). Looking at the bank balance sheets alone, it can seem like the money is being destroyed when it the loan is repaid. However, in reality, the money repaid to the bank is not destroyed – it becomes the property of the bank and will be used again to fund further loans.
As I mentioned, this is easier to understand visually, and I’ll try to put something together in the near future to explain it.
One side effect of this is that the level of debt is more of less a one-way process. If we all suddenly cut back on spending in order to pay down our loans, banks would end up with huge amounts of ‘excess reserve’. Excess reserves are useless to the bank – they only make money if the funds are out on loan. Consequently, to encourage more borrowers they will simply end up dropping the interest rate as low as it needs to go. Since everyone is cutting back on spending in order to clear their debt, the economy will be in a severe state of recession, and consequently there will be people who need to get into further debt due to lack of income. In other words, the increase in debt is a one-way process.
Following on from this – the banks have of late being building up their reserve (hence all the talk about ‘banks refusing to lend’). However, once they feel that things are back to normal, and they forget what just happened, they will start trying to lend these excess reserves again. Expect a new credit book kicking off in a the next few years, followed by a crash even worse than the one we’ve just had.
Overall, well put; congratulations!
However, some small points:
First – ‘Planned obsolescence’ was adopted as deliberate policy after the last World War, to ‘maintain markets’ and ‘full employment’; that is, to keep the so-called ‘economy’ continuously expanding, and massive efforts to persuade people to keep on buying. This is made necessary to stave-off the collapse of the debt-based money system. This has led to obscene over-use and waste of natural resources, to the extent that we now are running seriously short of many of them. However, taxation policy is an important way to encourage economy and re-use of these.
But please note: it is a ‘debt-based’ money system, not a ‘debt money’ system. the ‘credit’ banks lend IS money; the interest-bearing debts remain with the borrowers, as the money borrowed circulates.
When you refer to ‘credit’, you have the be careful to define what you mean.
Second – Global warming and ‘peak oil’ must be acknowledged as problems needing urgent attention. Money reform is a fundamental and urgent issue, to allow rational action to minimise the damage.
Adequate ‘basic incomes’ are needed to remove the need for ‘full employment’. Introduce these; they would benefit 94% of the population – usually a vote winner! As well as allowing individual freedom to choose occupation.
Third – Not only the banks, but the gamblers (including some banks) on currency markets, derivatives and stocks and shares, have been extracting the wealth from the rest of society, especially since the ‘deregulation’ of the 1970s. Ending ‘fractional reserve’ would go a long way to limit this, but re-regulation is still needed.
How about a newspaper article about monetary reform like this:
As the debate rages as to how to fix our debt-ridden economy, a novel idea is attracting interest. The problem with our economy is not how to manage bubbles of credit, the problem is credit itself. Most economists are now debating how credit bubbles form and burst and what can be done to manage their impact on the economy. But it is now being pointed out that a credit-based monetary system is inherently unstable – major bubbles and recessions will simply continue despite the best efforts of regulators.
Why so? The reason is that credit is a much more unstable kind of money than cash. Cash, once created by our government, simply circulates around and around permanently. Even tatty notes and coins are replaced by freshly minted ones. Credit is different, entering circulation when it is created by banks and loaned out to customers and leaving circulation when customers repay their loan. Credit creation (by lending) and credit destruction (by repayments) need to be in balance for a stable supply of credit. A boom in lending creates a bubble of new credit that drives up asset prices, sometimes to ludicrous levels. A bust occurs when lending slows and asset prices fall, sometimes sharply if bank losses put the brakes on credit creation.
This ‘credit cycle’ of boom and bust is unstable by its nature and major busts now threaten to collapse our entire economy. Tinkering with the system through regulation doesn’t change its fundamental instability. The only solution for stable economic growth is to reform the monetary system to one based on a government issued permanent money supply. Monetary reformers explain that cash is a form of permanent money, but that cash has lost out to credit over the past century.
How did credit take over our monetary system? In the 1950s cash and credit were circulating in about equal amounts in the UK. But by 2007, cash was less than 3% of the money supply while credit had exploded to more than 97%. The rise of credit is partly due to technology; people prefer exchanging money via computer accounts than via notes and coins. But it is also due to the attractive profits that banks make on that mountain of credit.
Monetary reformers propose that the government takes responsibility for supplying all money into circulation as cash or electronic cash in computer accounts. The creation of credit by banks would no longer be necessary and banks would be required go back to their old business of taking deposits and lending them out without creating credit – the so called ‘100% reserve’ solution advocated by Irving Fisher and other economists. The elimination of credit creation would bring stability and gradually reduce the amount of debt in our economy, alleviating the burdens of mortgage repayments and business debt servicing that currently lead to a chronic lack of purchasing power and high unemployment. Another benefit of a government-issued money supply is that it provides the government with a major source of income, so that citizens can pay much less tax. Finally, inflation can be much better controlled, with the government able to increase the money supply by a defined amount each year, for example: by 3% of the total money supply, so that prices remain stable. This common sense monetary reform takes back the power to issue money from the banks and restores it to government, where it rightfully belongs.
So why not do it? The objections to such a reform are usually of four kinds. The first is the reluctance to change the status quo. However, the transition to a new monetary system would be surprisingly simple, requiring a small change in bank accounting rules to stop credit creation and for the central bank to be fully nationalised as an independent arm of government that would be responsible for creating new money to meet inflation targets and transfering it to the treasury.
The second objection to the reform is that it might make borrowing money more difficult. Without the ability to create money and lend it, banks could only lend money that already exists. However, if necessary, the government could easily step in to lend out newly created money through a national bank. Interest earned on money lent would be another source of income for the government, further easing the burden on taxpayers. In addition, the reformers point out that as the supply of government issued permanent money rises and bank issued credit falls, money will become much easier to save. This allows individuals and businesses to invest out of their own savings rather than always having to borrow from banks.
The third objection to reform is that government cannot be trusted to create money. But this stands in contrast to the fact that we do trust the government to control the military, police, courts, heathcare, education and wide variety of other crucial elements of society. So why can’t governments create money? Indeed, most people believe that the government is already solely responsible for creating money. At least government is accountable to the people, unlike private banks that are unaccountable corporations motivated by profit rather than by social purpose.
The fourth objection to reform is concern over its effects internationally. Yet history clearly shows us the effects of a steady supply of money, debt-free, into an economy. This occurs every time a nation has a sustained export surplus, such as Germany and Japan after world war II and more recently other asian countries such as China. Indeed, export-led economic growth is now the leading economic growth model in developing countries. However, it is not possible for all countries to have an export surplus, as some countries must have an import surplus. The good news is that monetary reform provides nations with a supply of permanent money, debt-free, just like an export surplus does. This nation can even act as a net importer of goods from other countries, helping alleviate the global export battle and promoting global growth.
Reformers say the time is now ripe for change. Rather than endless attempts to prop up our wobbly credit-based monetary system, let’s reform our system so that it can provide stable economic growth for the long term future.
Even the BIS now says that the bank credit system is inherently unstable:
http://www.bis.org/speeches/sp080326.htm