Positive Money – How Banks create money and make the rich richer

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Image courtesy of Serge Bertasius Photography / FreeDigitalPhotos.net

Friday 6th June, 7:30 pm, Unity House, Fennel Street, Loughborough

Commercial Banks have created 97% of the money in existence today on their own terms and continue to profit from every £ that circulates as a result. As a side effect of this power they control the economy of nations and redistribute wealth from the poor to the rich whilst maintaining that they’re doing a public service.

Until the banks’ ability to create money is reformed, all commerce, debt or financial transaction involving credit will result in the widening of the poverty gap, future generations being born into ever greater debt and the enrichment of the very wealthiest.

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15 Responses to Positive Money – How Banks create money and make the rich richer

  1. Martin Sears says:

    Quote by Bertolt Brecht: “It is easier to rob by setting up a bank than by holding up a bank clerk.”

    Given the European election results you may also consider another of Brecht’s quotes as having contemporary relevance. From the Resistible Rise of Arturo Ui: “Do not rejoice in his defeat, you men. For though the bastard is dead, the bitch that bore him is again in heat.”

  2. Andy Nevill says:

    The first quote is simply the truth, the second is an accurate assessment of the current situation. Once our economy is back into its usual pattern and everyone is convinced that they’re doing well the argument for removing the power to create money from commercial banks will be ignored. In earlier times usually during extreme economic depressions people have analysed and understood how money works and tried to change them. The Wizard of Oz was an attempt to show what was wrong with the system to the general public but was changed by Hollywood to the point where the point was lost (see http://www.themoneymasters.com/mm/the-wonderful-wizard-of-oz/ ).

    As I explained in my talk for me there is no more important issue as this affects every other issue as everything anyone tries to do is affected by money it’s used as the means of measuring the problem and achieving change. Here are some links (as requested at the talk) to Positive Money and their ‘Banking 101’ explanation of the issue:

    Positive Money – http://www.positivemoney.org/
    PM Banking 101 videos – http://www.positivemoney.org/how-money-works/banking-101-video-course/

    Please explore the site and get to know the problem. Until it is addressed any other problem that you can think of that involves money cannot be truly fixed.

    Andy

    • Andy Nevill says:

      On the subject of people better understanding the money system in previous times I came across this interesting statement by Andrew Jackson US President from 1829-1837.

      “The paper system being founded on public confidence and having of itself no intrinsic value, it is liable to great and sudden fluctuations, thereby rendering property insecure and the wages of labor unsteady and uncertain.

      The corporations which create the paper money can not be relied upon to keep the circulating medium uniform in amount. In times of prosperity, when confidence is high, they are tempted by the prospect of gain or by the influence of those who hope to profit by it to extend their issues of paper beyond the bounds of discretion and the reasonable demands of business; and when these issues have been pushed on from day to day, until public confidence is at length shaken, then a reaction takes place, and they immediately withdraw the credits they have given, suddenly curtail their issues, and produce an unexpected and ruinous contraction of the circulating medium, which is felt by the whole community.

      The banks by this means save themselves, and the mischievous consequences of their imprudence or cupidity are visited upon the public. Nor does the evil stop here. These ebbs and flows in the currency and these indiscreet extensions of credit naturally engender a spirit of speculation injurious to the habits and character of the people. We have already seen its effects in the wild spirit of speculation in the public lands and various kinds of stock which within the last year or two seized upon such a multitude of our citizens and threatened to pervade all classes of society and to withdraw their attention from the sober pursuits of honest industry.

      It is not by encouraging this spirit that we shall best preserve public virtue and promote the true interests of our country; but if your currency continues as exclusively paper as it now is, it will foster this eager desire to amass wealth without labor; it will multiply the number of dependents on bank accommodations and bank favors; the temptation to obtain money at any sacrifice will become stronger and stronger, and inevitably lead to corruption, which will find its way into your public councils and destroy at no distant day the purity of your Government.”

      This was his farewell address in 1837 but would be just as accurate today. Having a private bank created money (as we do) guarantees booms and busts which we now know hurt the poor and weak and make the rich and powerful more so……

      Andy

      • Martin Sears says:

        What exactly is wrong with the fractional reserve banking system?

        It is obvious that not all money deposited with a bank by millions of people and organisations will be withdrawn at the same time. In a country where everyone and every organisation should have access to a bank account, money withdrawn from one bank will, in any event, be deposited with another. It should be remembered that actual notes and coins in circulation within the UK in 2010 was only £47 billion. That was only 2.1% of the actual money supply of £2.2 trillion at the time. Inter-bank lending and the Bank of England as lender of last resort provide security for the banks and the British government’s guarantee to compensate individuals up to £85,000 of money deposited with any single British bank that defaults in the future provides security for individuals.

        The basic concept of a fractional reserve banking system is the least of our problems. However, Conservative MP Douglas Carswell, in 2010 proposed that banks should be constrained to lending money that customers have deposited specifically for the purpose of investment. He proposed that money placed with banks purely for storage purposes should not be lent out by banks. Since it costs banks money to act as a storage of money (staff, buildings, equipment ie ATMs, safes etc) this would inevitably mean all bank accounts would be charged with the costs of storing that money. But Carswell’s proposal would not only result in all bank accounts being charged for; it would almost certainly result in a perpetual recession. If savings exceed lending in a given year a recession is the inevitable result.

        It is also nonsense to suggest that the basic concept of a fractional reserve system causes the richest to get richer at the expense of the poorest.

        The real problem with the financial services industry is that it has become too complex. The lack of transparency has allowed the term ‘investment’ to become synonymous with ‘gambling’. and given rise to the term casino banking. Real investment is, for example, lending to enable an individual to buy a house or an organisation to ease its working capital problems, particularly when growing the organisation. Buying financial assets ‘short’ with a view to selling within the accounting period to make a quick buck (a direct incentive to indulge in ‘insider dealing’), along with the original concept of ‘hedge’ funds, should be banned. Also manipulation of money markets and schemes with no other purpose than that of avoiding tax due on earnings, all these activities, should result in the mandatory imprisonment of not only the beneficiary but the ‘adviser’.

  3. Martin’s last paragraph is right; the financial services industry has become too complex. There all sorts of dodgy activities going on.
    If I understood what is being said, we are looking at one of the most undesirable of these activities, basically a scam misusing the fractional reserve banking system.
    As Martin points out the fractional reserve banking system is long established and accepted. What it means is that a bank with reserves of £1b can lend more than this by an amount set by some central bank.
    If, for example, it is set at twice as much, a bank with £1b reserves can lend £2b. The scam might involve three banks A, B and C. Bank B borrows £1b from bank A. Bank B now has an extra £1b reserves and can therefore lend up to £2b more. It might then lend £1b to bank C which then in turn could lend £1b back to bank A. Between them they have “created” £2b of reserves.
    At the beginning of the last century there were regulations against this sort of thing. These regulations were removed during the period leading up to the 1929, result: Crash. They were reintroduced after this but were again gradually removed, result: the 2008 crash.

  4. Martin Sears says:

    Hi John. Is it your view that only my last paragraph is right?

    Your example of three banks and a one billion pound reserve is more in keeping with the old adage that if three auctioneers have one chest of drawers between them they have got a business:)

    I do not accept that the fractional reserve banking system ipso facto causes the rich to get richer at the expense of the poor. Countries that have set relatively high percentages for banks’ reserves appear to be less rich than Britain.

    Nor do I accept that it was the cause of the 1929 and 2008 crashes. We can agree, however, that the financial services industry is now far too complex

    Also, the current/historical borrow short lend long approach of our financial services industry does have a detrimental effect on the most important part of an individual’s security and potential wealth – the right to own the house in which he/she lives and the right to pass the value of the house on to future generations..

    The answer is not to attack the fractional reserve banking system but to devise a system by which funds at an equitable interest rate are always available for first time house buyers, with no change in the interest rate for the life of the mortgage.

    This could be done by allowing aggregated pension funds to be the main providers of mortgage loans rather than banks and building societies. Pension funds are by definition in it for the long haul and would not be subjected to the short term vagaries of the money markets. The contributors to the pension funds would be protected from individuals who default on their repayments by giving the pension funds a pro rata increase in the ownership of the properties involved.

    • Andy Nevill says:

      There are some misconceptions that need to be corrected before we can start to work out where the problems lie in our current banking system and economy. Firstly there is no fractional reserve banking in the UK because we don’t have a Reserve Requirement and haven’t had one for decades (I think it was the Thatcher government who abolished it). Banks are free to loan into existance as much money as they wish because the one possible limit could be the availability of central bank funds which are limited and must be used to settle differences in the money flows between banks. The system though is closed and rather than explain it all myself here’s someone elses explanation 🙂

      “Well let’s look at the central bank clearing system again. Remember that there are 46 banks with reserve accounts at the Bank of England. At the end of the day when all payments are cancelled out against each other, these banks have to ‘settle’ between themselves by transferring money between these reserve accounts. Now the important thing is that this system of central bank reserve accounts is a closed loop. It’s technically impossible for any central bank reserves to leave the loop, because central bank reserves are by definition numbers in accounts at the central bank, and only the Bank of England is able to actually create or destroy central bank reserves. So, when all the payments are cleared at the end of the day and the banks find out how much they actually need to transfer to settle up, some banks will end up having to pay money to other banks ,and other banks will end up receiving money from other banks. What happens if one bank doesn’t have enough central bank reserves at the end of the day to make it’s payments to other banks? Well because it’s a closed loop system, it’s mathematically certain that one of the other banks will have more money than it needs to make it’s payments. What happens then is that the bank that has more central bank reserves than it needs lends some of them to the bank that doesn’t have enough. This lending of central bank reserves between commercial banks is called the inter-bank lending market. And as long as the banks that end up with more reserves than they need are happy to lend it to banks that have less reserves than they need, then all banks will be able to make their payments, and there’s nothing to worry about. So a bank can actually make a loan, creating new money in the hands of the public, even if it doesn’t have the reserves, because it knows that at the end of the day, when all payments are netted out against each other, another bank will be there willing to lend it some reserves to settle its own payments.”

      There are 2 ways to convince yourself that this is true 1) Look at the amount of bank created money in existance (97.5%) 2) Look at these quotes from central bankers (further down the page) http://www.positivemoney.org/how-money-works/advanced/the-money-multiplier-and-other-myths-about-banking/

      So in answer to your earlier question – there may be nothing wrong with a fractional reserve banking system we just don’t have one.

      Martin I’m not sure who said this “It is also nonsense to suggest that the basic concept of a fractional reserve system causes the richest to get richer at the expense of the poorest.” I certainly didn’t and have never referred to Fractional Reserve banking. Central Banks have no ability to control the amount of money that commercial banks can create and successive central bankers have said so often. I can explain how the current system of credit created money does exactly this but a forum like this isn’t the place. If you’d like to meet I am more than willing to explain at length 🙂

      Andy

      PS You are though absolutely right that the £85K tax payer (it’s not the Governements money it’s ours….) funded insurance for the banking industry is at the heart of many of the problems here.

      • Martin Sears says:

        Hi Andy. My response is as follows (Happy to meet up at some point to discuss this further):

        A: There are some misconceptions that need to be corrected before we can start to work out where the problems lie in our current banking system and economy. Firstly there is no fractional reserve banking in the UK because we don’t have a Reserve Requirement and haven’t had one for decades (I think it was the Thatcher government who abolished it)

        M: Sorry Andy but the fractional reserve banking system is used by every country. It is true that the UK government did not dictate a formal percentage for the fractional reserve but all that means is that UK banks have been free to set the actual (very low) percentage reserve they individually operate at. The regulations brought in to prevent a recurrence of the 2008 crisis are complex but I think the current situation is that UK banks are expected to maintain a greater percentage in reserve than was the practice prior to 2008.

        A: Banks are free to loan into existance (sic) as much money as they wish because the one possible limit could be the availability of central bank funds which are limited and must be used to settle differences in the money flows between banks.

        M: That sentence appears to contain mutually contradictory clauses.

        A: The system though is closed and rather than explain it all myself here’s someone elses explanation 🙂

        “Well let’s look at the central bank clearing system again. Remember that there are 46 banks with reserve accounts at the Bank of England. At the end of the day when all payments are cancelled out against each other, these banks have to ‘settle’ between themselves by transferring money between these reserve accounts. Now the important thing is that this system of central bank reserve accounts is a closed loop. It’s technically impossible for any central bank reserves to leave the loop, because central bank reserves are by definition numbers in accounts at the central bank, and only the Bank of England is able to actually create or destroy central bank reserves.

        M: That explanation appears to be mixing up the reserves held by the commercial banks with the reserves held by the central bank in its own right. My understanding is that the central banks can get involved in the overnight borrowing and lending between banks in order to manage the overnight interest rates but the daily process starts (‘overnight’) with sums of money being transferred from/to millions of bank accounts resulting from the day’s millions of financial transactions between individuals and organisations. The aggregated net amounts to be transferred between the banks can result in a temporary drop below a commercial bank’s target reserves and if that is the case the commercial bank may borrow money from another commercial bank at an agreed inter-bank overnight lending rate. It should be noted that there are many inter-bank lending rates for periods of time ranging from overnight to one year. Upon these inter-bank lending rates and other instruments a whole swathe of financial derivatives have developed creating a ‘banking economy’ that has absolutely nothing to do with the real economy ie one rooted in producing goods and services that people actually want. The world is crying out for sound regulation that limits the scope for another casino banking disaster. Unfortunately the derivatives markets have become so vast that it is beyond the control of any one government to bring the system onto a more rational basis (UKIP please note).

        A: So, when all the payments are cleared at the end of the day and the banks find out how much they actually need to transfer to settle up, some banks will end up having to pay money to other banks ,and other banks will end up receiving money from other banks. What happens if one bank doesn’t have enough central bank reserves at the end of the day to make it’s payments to other banks? Well because it’s a closed loop system, it’s mathematically certain that one of the other banks will have more money than it needs to make it’s payments. What happens then is that the bank that has more central bank reserves than it needs lends some of them to the bank that doesn’t have enough. This lending of central bank reserves between commercial banks is called the inter-bank lending market. And as long as the banks that end up with more reserves than they need are happy to lend it to banks that have less reserves than they need, then all banks will be able to make their payments, and there’s nothing to worry about.

        M: And if it had remained as simple as that there wouldn’t have been a problem. Unfortunately ‘experts/advisers’ thought it was a good idea for the UK to become reliant on our financial services sector at the expense of the manufacturing sector (probably motivated by the criminally dire industrial relations environment that prevailed in this country up to the mid eighties), thereby attempting to perpetually make money out of money through inventing more and more obscure financial derivatives rather than providing goods and services that people actually want.

        A: So a bank can actually make a loan, creating new money in the hands of the public, even if it doesn’t have the reserves, because it knows that at the end of the day, when all payments are netted out against each other, another bank will be there willing to lend it some reserves to settle its own payments.”

        There are 2 ways to convince yourself that this is true 1) Look at the amount of bank created money in existance (97.5%) 2) Look at these quotes from central bankers (further down the page) http://www.positivemoney.org/how-money-works/advanced/the-money-multiplier-and-other-myths-about-banking/

        So in answer to your earlier question – there may be nothing wrong with a fractional reserve banking system we just don’t have one.

        M: There is nothing wrong ipso facto with a fractional reserve banking system and we do have one. The overnight clearing operation of cheques and any necessary overnight lending is a result of the fractional reserve system not the cause of it. If most customers of a bank have an overdraft it is almost certain the bank itself will need to borrow money. And if too many customers default on their repayments the real problems begin.

        A: Martin I’m not sure who said this “It is also nonsense to suggest that the basic concept of a fractional reserve system causes the richest to get richer at the expense of the poorest.” I certainly didn’t and have never referred to Fractional Reserve banking. Central Banks have no ability to control the amount of money that commercial banks can create and successive central bankers have said so often. I can explain how the current system of credit created money does exactly this but a forum like this isn’t the place. If you’d like to meet I am more than willing to explain at length 🙂

        M: I thought the original proposition was that banks create money (essentially via the fractional reserve system used by every country in the world) and thereby cause the rich to get richer at the expense of the poorest. Perhaps I have misunderstood. In any event I disagree with the proposition.

        Andy

        A: PS You are though absolutely right that the £85K tax payer (it’s not the Governments money it’s ours….) funded insurance for the banking industry is at the heart of many of the problems here.

        M: You are right that it is not the government’s money but wrong if you think I am against the government underwriting individual’s money on deposit with the commercial banks up to £85,000. Given what happened with Northern Rock it was absolutely essential to re-assure the public that their deposits are safe.

  5. We seem to agree that the financial services industry is now far too complex and we probably agree that the world is crying out for sound regulation that limits the scope for another casino banking disaster.
    I think we agree that the banks have some control over the creation of money. We do not agree on the mechanisms by which they do this, but probably agree that they are complex and obscure.
    However the case is simple: creation of money affects the banks’ profits.
    This represents a massive conflict of interest.
    I suggest that the world is crying out for a monitory system that is free from all such conflicts of interest.

  6. Andy Nevill says:

    Hi Martin,

    I think we will have to agree to differ on much of what you’ve said and I don’t think there’s much point in arguing it out here. I suggest we meet up, let me know when you will be at a Friday Room meeting and I will arrange to be there too.

    One thing I was genuinely surprised by was:

    “M: You are right that it is not the government’s money but wrong if you think I am against the government underwriting individual’s money on deposit with the commercial banks up to £85,000. Given what happened with Northern Rock it was absolutely essential to re-assure the public that their deposits are safe.”

    The issue here is that any market economy only works as long as investors bear the full risk of the investments that they make. Having the taxpayer insure the deposits of any bank means that investors need have no concern as to the safety of the institute that they invest in and means that the market doesn’t weed them out (Banks that are too risky should fail as no one wants to invest in them).

    The investor guarantee is what’s CAUSED a lot of the problem it’s not the solution. What have people learned from the Northern Rock not collapsing? They learned that they can put their money in the dodgiest bank paying the highest interest around and not care a jot how it operates. Those badly run institutions will thrive at the expense of prudently run operations and as a result you GET a Northern Rock and we’re the ones paying to prop them up.

    On top of this the banks pay nothing for this valuable insurance, if I ran a business it would cost a fortune to have each of my liabilities insured up to £85,000 but it would certainly make it easier to get loans or take goods on credit.

    Andy

  7. Martin Sears says:

    We will definitely have to disagree about the £85,000 guarantee. There are many ordinary people with balances in high street banks and building societies in excess of £85,000 and those people are not looking to put their money in any old bank with the highest interest. However, given the diabolical performance of the spivs (ie derivatives traders et al) in the City of London and the consequential mess made by the ‘leading’ banks, it was necessary to reassure everyone in the country that they would not lose all/most of their money through no fault of their own. What would you have them do? Stick it under the bed?

    Fact. It isn’t the fractional reserve system that is wrong – and we do have one in the UK despite your misunderstanding. The problem is that too many people at all levels in society have borrowed money they did not pay back.The answer is not to dispense with the fractional reserve system but to limit the scope for casino banking and to separate such activities from the retail banking system; the latter only lending to people with a good credit rating relative to the amount they aspire to borrow.

  8. I don’t think the £85,000 guarantee issue is so simple. I agree that savers do need protection, but they have choices. They could put their money into a building society which are, on the whole, risk adverse, or they can put their money into a high street bank where their money is invested at higher risk for the promise of higher gain. Is it right for the government to underwrite these higher risks to the same extent?

    Maybe the guarantee could be a percentage of the money lost, say 80%, enough to make a savers think twice but not enough to ruin them. We don’t want to annul market choice completely.

    Is it right that the savers that chose to demutualise their banks, which then got into trouble, should not suffer at least some of the consequences?

    In the second part of your latest comment, I think you may be overly confrontational. I don’t think anyone in this discussion has claimed that the fractional reserve system itself is to blame. Deregulation may have allowed it to be misapplied in the overly complex banking system. The details are not clear and not that important.

    What is important is that there is corruption: casino banking, dodgy instruments, ultra fast trading, etc. involved in our money supply.

    Please could we get away from dogmatic, point-scoring, party-style argument, to a constructive discussion of the important issue: What can we do about it?

  9. Martin Sears says:

    Hi John.

    Thanks for your response. In a spirit of constructive dialogue, here is my reply:

    J: I don’t think the £85,000 guarantee issue is so simple. I agree that savers do need protection, but they have choices. They could put their money into a building society which are, on the whole, risk adverse, or they can put their money into a high street bank where their money is invested at higher risk for the promise of higher gain. Is it right for the government to underwrite these higher risks at the same extent? Maybe the guarantee could be a percentage of the money lost, say 80%, enough to make a savers think twice but not enough to ruin them. We don’t want to annul market choice completely.

    M: The first thing to do is to clear up any misunderstanding that exists about the the Financial Services Compensation Scheme (FSCS). i) The compensation amounts paid under the scheme are funded by the financial services industry itself on a pay as you go basis. The firms in the industry are levied each year on the basis of the estimated aggregated amount likely to be paid out in compensation in a given year. ii) There are differing levels of guarantee for Deposits; Investments; Home Finance (mortgages etc), and Insurance Business. It is only the Deposits category (ie current accounts, savings accounts and cash ISAs) that has the maximum £85,000 guarantee attached and only then if the institution that has failed is one that has been regulated by the Financial Services Authority. Any loss incurred by the depositor above the £85,000 limit within any one regulated institution (‘one’ regulated institution is itself precisely defined and not as straight forward as may first appear) is subjected to the normal rules that apply in cases of insolvency. Losses incurred under the Investments category are limited to 100% up to £50,000, as is the Home Finance category. For Insurance the cover is 90% of any loss but rises to 100% if the insurance is compulsory – as is the case with motor insurance. Given the proviso that the failed institution would have necessarily been regulated by the FSA for the guarantees to be applicable it could be regarded as equitable that losses incurred by individuals should be underwritten by the industry itself but ultimately by the government: If the regulation and the supervision had been adequate the institution could not have failed.

    J: Is it right that the savers that chose to demutualise their banks, which then got into trouble, should not suffer at least some of the consequences?

    M: The savers that ‘chose’ to de-mutualise are not necessarily the savers who would suffer under any future failure of a demutualised institution.

    J: In the second part of your latest comment, I think you may be overly confrontational. I don’t think anyone in this discussion has claimed that the fractional reserve system itself is to blame.

    M: I do not consider that anything I have written in the second part of my earlier comment is overly confrontational. Robust debate has resulted from the original statement that can be summed up as: “…the rich get richer and the poor get poorer because banks can create money.” The full original statement was as follows: “Commercial Banks have created 97% of the money in existence today on their own terms and continue to profit from every £ that circulates as a result. As a side effect of this power they control the economy of nations and redistribute wealth from the poor to the rich whilst maintaining that they’re doing a public service.Until the banks’ ability to create money is reformed, all commerce, debt or financial transaction involving credit will result in the widening of the poverty gap, future generations being born into ever greater debt and the enrichment of the very wealthiest.” —————– If that statement is not referring to the globally practiced fractional reserve system I don’t know what it means. Also it flies in the face of the reality that generations who have bought their own homes via mortgage loans are now sitting on a substantial pot of money either in the form of the value of their property or literally from the cash generated by inheriting the property of their late relatives. This has only become possible by financial institutions lending money to those who did not have the money already saved up to buy the home they aspired to own.

    J: Deregulation may have allowed it to be misapplied in the overly complex banking system. The details are not clear and not that important.

    M: The details are of great importance if the real situations are to be addressed. Without the detail it is very easy to create ‘problem’ scenarios that do not relate to the real world.

    J: What is important is that there is corruption: casino banking, dodgy instruments, ultra fast trading, etc. involved in our money supply.

    M: I agree that there are massive problems with the financial services industry and they need i) to be precisely defined ii) appropriate regulation and in some cases, elimination with penal consequences. But please define what you mean by the term ‘money supply’ in this context.

    J: Please could we get away from dogmatic, point-scoring, party-style argument, to a constructive discussion of the important issue:

    M: I am all for getting away from dogmatic, point-scoring party-style argument. But who decides what is dogmatic, point-scoring, party-style argument, and what is constructive discussion?

    J: What can we do about it?

    M: Probably the best real world opportunity ‘to do something about it’ is for Britain to fully sign up to the Eurozone proposals including a financial transactions tax and a common currency to create a genuine European single market, including financial services, which has always been an objective equal to a single market in goods and services. But all this will be fought tooth and nail by people such as ex-commodity trader Farage, the latter being given a huge boost because the average person is not educated in financial affairs. (Sorry if that is regarded as party-style point scoring)

    In any event I have put forward specific proposals for improving the financial services industry on these threads in the past but they have not been addressed in response.

  10. Andy Nevill says:

    Hello Martin,

    I’m afraid I can’t respond as regularly as I would like on here through time pressures elsewhere so my responses may seem a little out of order but here goes.

    Firstly please stop saying that we have a fractional reserve system in the UK until you can prove it. Using the word ‘Fact’ is mildly amusing but in no way helpful as is your constant repetition of the statement that we do have a fractional reserve system. I’m a scientist by nature and an engineer by trade so you will have to come up with some evidence to back up you assertions before I will accept them.

    To help you understand the system we do have I refer you to Wikipedia http://en.wikipedia.org/wiki/Reserve_requirement#United_Kingdom which explains that we used to have a ‘voluntary’ reserve ratio from 1981 until 2009 (so our trustworthy politicians allowing our equally trustworthy bankers to make set safe ratios of reserves or in other words whatever they liked). After 2009 even this was removed in favour of a ‘floor system’ as defined by the Bank of England. I offer Wikipedia first as it provides a very clear explanation of the current situation.

    Quoting from the BoE Red Book which is the rule book by which they run monetary policy in the UK. You can get the relevant part of the Rad Book “Chapter VIII – The Reserves Scheme” here http://www.bankofengland.co.uk/markets/Pages/money/reserves/default.aspx I quote directly from that document:

    “The Bank therefore suspended reserves averaging in March 2009, and banks are not currently required to set targets for their reserves balances.”

    Note that this is the reserves averaging system which isn’t itself Fractional Reserve Banking as you would know it. Please read the Red Book at least starting at paragraph 45 and then you can with authority tell me why I’m wrong 🙂

    I’ve run out of time this morning but will come back to the other points when I get the chance, I do think though that it would be easier to set up a Friday Room (TM) debate where we each present the evidence for our views and the great British public can decide who’s right.

    Andy

    PS The amazing thing about the floor system is that it relies on Bankers doing sensible things for its regulating function to work. Those of us who know the banking industry (ie everyone but the people at the BoE it would seem) know that’s a disaster waiting to happen. It may work in a period where credit creation is suppressed by banks being too timid (The BoE do actually want an expansion of the money supply at the moment hence QE) but as soon as things start to take off it will just require the bankers to come up with one of their cunning wheezes to avoid it and they’re free to do as they wish again. Before the floor system, banks set their own reserve limits which could if they chose be zero. Again quoting from the Red Book “Under the reserves averaging regime used in more normal times,” ie before 2009 “the Bank supplies the amount of reserves required for banks to meet their aggregate reserve targets.”.

    PPS ‘Having a go’ at the pre-amble for the talk I gave is a bit naughty as you weren’t there. Your reason for stating that it was invalid was that we have FR Banking and I believe I have now disproved that beyond reasonable doubt. I am though more than willing to do my talk again. I don’t want to put my email address on here but if one of the other contributors could pass it on to you we can arrange a meeting and save everyone else on here having to read so many posts 🙂

    PPPS Now I really have run out of…

    • Martin Sears says:

      Hi Andy

      I will leave it to others to decide as to who needs help in understanding our current banking system. For starters, check out the Wikipedia entry re: Fractional reserve banking.

      Just because the UK governments change their attitude from time to time wrt the actual level of fractional reserves to be held by our clearing (commercial) banks it does not alter the reality that all countries use fractional reserve banking with reserve obligations ranging from effectively zero (or almost) to over 20%. Many economists think it is not a good idea for governments to specify variable reserve obligations as an instrument of monetary policy because of the short term shock caused in financial markets. But that does not change the reality that fractional reserve banking is used globally irrespective of whether governments specify a particular reserve ratio or not.

      Frederic S Mishkin: Economics of Money, Banking and Financial Markets 10th Edition Prentice Hall 2012 is the reference cited in the Wikipedia entry for fractional reserve banking.

      You appear to be attempting to dance upon the head of a pin in citing your definitions. Reserves averaging and the floor system are merely detailed variations within the framework of fractional reserve banking.

      The reality is that fractional reserve banking isn’t a problem if money is lent to creditworthy individuals and organisations in pursuit of investing in the real economy ie infra-structure (including owner occupied housing) and the production of goods and services that people actually want. However, if bankers/dealers are borrowing money themselves to fund casino style activities (and manipulating the financial instruments fraudulently – as has become obvious in the recent past) that is where further regulation is required with penal consequences to limit and punish the unacceptable activities of the spivs.

      PS Apologies for missing your talk on the subject. It may be that your preamble that I quoted does not provide an accurate reflection of your views. In any event it omits to identify your suggestions for improving the banking system at national and global level..

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