I'm increasingly realizing that economics have to be involved in the
building of a new civilization. Not necessarily the currently prevalent
manifestion of economics, but nevertheless some form of economics. And, to
start with, it is probably a good idea to understand where money comes from
in the current system. Then we might better be able to either leverage that
system or invent a better one.
So, below is my very simplified, somewhat biased, description of where
money comes from in the old civilization. I'm no economist, so there's a
lot of details that aren't there and that I probably don't understand, but,
to the best of my awareness, this is how it works. This might be
controversial, and some of you might disagree vigorously, and I'm open to
hearing additional facts, but so far I haven't met anybody who could
dispute the essence of this scenario.
ECONOMICS 101 - THE OLD CIVILIZATION
Very few people seem to have any clue how money is created.
The man on the street is likely to say that he "makes" money when somebody
gives him money for his work, and he might think that his concern about the
national debt and about inflation constitutes an understanding of what
those concepts mean.
Most people think their government is creating the money in the first
place. And most are also concerned that their government owes a lot of
money away. As they are concerned that they have to pay a lot of money in
taxes to pay for the government's expenses. Few people notice the lack of
logic in this model. If the government was indeed creating the money it
could just print the money it needs to cover its expenses and it didn't
need to have any debt. And who does the government owe money to anyway?
Most governments have, according to the constitutions of the country, a
right to create money. However, most of them aren't exercising that right,
but has given it away to an institution separate from the government. In
the U.S. it is the Federal Reserve Bank, a privately held corporation which
isn't controlled by the government. Most countries have national (central)
banks that work in similar ways.
Money is created by banks in the form of loans. Bank loans, despite the
common misunderstanding, do not come out of the funds deposited in them.
That money doesn't go anywhere. It only gives the bank the right to create
some new money that didn't exist before, according to a certain system.
The national bank is normally the only entity in each country that can
create money completely from nothing, without any reference to prior
deposits.
For example, the U.S. Federal Reserve Bank can create a billion dollars
just by making an entry in a computer. It can then "lend" that money to the
U.S. Government. In return it will get an IOU, a note that the
U.S.Government, or rather, the tax payers owe it one billion dollars, plus
interest. That IOU becomes the "security" for the loan. That the Federal
Reserve Bank didn't have a billion dollars in the first place doesn't enter
into the equation.
All other banks have to follow a slightly more restrictive system, but can
nevertheless also create money out of nothing. There's something called the
"Fractional Reserve Ratio". It means, in principle, that the bank needs to
have a certain percentage of the deposited money on hand. It ranges between
3 and 12% in the U.S. for different types of accounts. For simplicity's
sake, let's say it is a uniform 10%. The superficial reason for this
appears to be to ensure that the bank is likely to be able to meet the
demands of the depositors for their money back. However, the real purpose
is to allow the banks to generate more money than it has, by creating
credit, and to put a limit on the degree to which a bank can do that.
A bank can essentially lend out the equivalent of 90% of what is deposited,
since it needs to keep 10% as reserves. However, the process is
cummulative, as the generated credit translates into money that is spent
and deposited into other banks. This creates a repetitive cycle where each
deposit allows a bank to lend out more money. When it has gone through the
full cycle, the net result is that 10 times as much money has been lent out
as what was originally deposited. A deposit of $1000 would translate into
$9000 of *new* money in the form of credit.
Modern money is "fiat money", meaning that it isn't based on anything
tangible. It is only numbers based on trust.
Let's make an imaginary example of the creation of money. The national bank
creates $1000 and lends it to the government. The tax payers will owe that
money back with interest. The government spends the money, i.e. it gives it
to somebody in exchange for goods or services. Whoever gets it will
probably deposit it into a normal bank. So now a bank has a deposit of
$1000. That bank can now lend out $900, keeping $100 as reserves towards
the deposit. The original depositor still has $1000 in his account, and the
new borrower has $900. The borrower pays the $900 to somebody else who puts
it in his bank. That bank can now create $810 of credit, keeping $90 as
reserves. This goes on repetitively through multiple banks until a total of
$10,000 has been lent out. Which a bunch of people will owe back, in
addition to interest on the $10,000.
The national bank can also take the $1000 IOU from the government and use
it as "assets", which allows it to create additional money that it lends to
banks.
The math is relatively simple, but it can be easy to lose track of.
There's also a basic mathematical problem here, and some inescapable
consequences.
- Only banks can MAKE money.
- The money the bank makes will be owed by somebody PLUS INTEREST.
- The bank didn't make the money to pay for the interest
To over-simplify everything, let's assume that you lived on a desert island
with only one bank. The bank lends out $100 for a year with 10%/year
interest. In other words, the bank needs to get $110 back. But it only
created $100. That $100 can be exchanged many times over, by people buying
and selling goods and services with it and passing it from hand to hand.
That's what money is used for and that is very useful. But at the end of
the year the bank will still expect to get $110 back. No matter how much
the money has been passed around, there still is only $100 in existence.
The only thing that comes to the rescue is that the economy keeps
"expanding". Some of the people who were paid along the way will have put
their money in the bank as well, and the bank used those deposits to be
able to create more money to lend out. So, during the year somebody else
has borrowed money and there might be money enough around to pay the $110
back, and nobody notices any problem.
But the problem is that this is a pyramid scheme. It only works as long as
the amount of debt continuously expands.
All money represents debt. It doesn't inherently represent value, it
represents that a bank is owed money. If we took all the money in the world
and we paid it back to the banks for the loans, there would be no money
left in existence, and there would still be an additional amount of
interest due, which doesn't exist.
Money gets created when it is lent out by a bank. It gets destroyed when it
gets paid back. When you pay back your $10,000 bank loan the bank just
zeroes your credit account. The interest, on the other hand, becomes the
bank's revenue.
If the economy is continously expanding at a sufficient rate, everything
might work fine for everybody. Except for those who can't pay their bank
loans. The bank will continously foreclose against those who can't pay. In
other words, the manufactured money, which somebody can't pay back, is
converted into tangible assets that the bank now owns.
The inevitable consequence is that banks own more and more of the tangible
assets that are around. Chances are, if you're a typical citizen, that
banks have indirect ownership of your house, your car and 50% of your
future income, in addition to the ultimate ownership of most government
assets, and all the stuff that they own free and clear based on already
having foreclosed against loans that couldn't be paid. That you think you
own your house, despite it being mortgaged, or your car, despite not having
paid the payments off, is the result of clever legal double-speak.
Who do you think the U.S. Government owes 4 trillion dollars to? Who had 4
trillion dollars lying around to lend it? Nobody did. A small portion comes
from bonds issued to private citizens or investment funds. However, the
majority of that money was created out of the blue by an entry into a
computer at the Federal Reserve Bank. However, what is owed back is much
more tangible. What the debt is secured by is very real assets, and it is
your future ability to work and pay taxes.
In the U.S. the main use of taxes is to repay loans to the Federal Reserve
Bank. The Grace Commission, formed by Ronald Reagan in 1984, concluded
after extensive study that approximately zero percent of collected income
tax is used for the expenses of the government. 100% is either paid
directly towards the federal debt, or is wasted in the process of
collection and transfer. In other words, your taxes are paying the interest
on loans, not funding the government.
Beyond all of this, money is a very useful exchange medium, if you have it.
It can be used as a neutral medium of interaction, as a sort of energy that
can be spent whichever way people choose. You can very well enjoy the flow
of energy and the potential prosperity that is possible by playing the
money game well.
But the inherent design problems of today's money remain:
- Money is created mostly based on an Industrial Age model. Somebody
borrows money to buy production assets and pays back the loan from the
profits derived from products sold.
- Money lenders (creators) are naturally reluctant to lend money for
anything that doesn't involve tangible assets, or for anything that isn't
profit oriented.
- The sustainability of the money system is based on continous expansion.
The whole pyramid scheme will only work if more debt is created and more
money is spent every year. A zero growth scenario would collapse the money
system.
- The whole money system will naturally fuel activities that are organized
around material profit. Human values and environmental issues have
relatively little place in an economy based on profits and repayment of
debts.
- Somebody owns and controls the money creation power, a very exclusive and
private group of people - deriving staggering wealth and power from it.
There are of course many counter-examples. You would be able to find plenty
of people who make a lot of money by doing noble and useful things. And you
can find plenty of people who do good things with their money. The natural
flaws and tendencies of the system itself will still remain.
- Flemming
o o
/ \------------------ Flemming A. Funch -------------------/ \
/ * \ New Civilization Network / Synchronicity Networks / * \
/ * * \ ffunch@newciv.org / * * \
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