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Money Creation As Described By The Boe

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http://www.bankofengland.co.uk/publications/Documents/quarterlybulletin/2014/qb14q102.pdf

"In the modern economy, most money takes the form of bank deposits. But how those bank deposits are created is often misunderstood: the principal way is through commercial banks making loans. 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.

• In normal times, the central bank does not fix the amount of money in circulation, nor is central bank money ‘multiplied up’ into more loans and deposits.

Although commercial banks create money through lending, they cannot do so freely without limit. Banks are limited in how much they can lend if they are to remain profitable in a competitive banking system. Prudential regulation also acts as a constraint on banks’ activities in order to maintain the resilience of the financial system. And the households and companies who receive the money created by new lending may take actions that affect the stock of money — they could quickly ‘destroy’ money by using it to repay their existing debt, for "

Two videos at: http://www.bankofengland.co.uk/publications/Pages/quarterlybulletin/2014/qb14q1.aspx

bolded the important bit

underlined the tattered see-through fig leaf.

Could someone with a bit of time update the Wikipedia entry on money creation? That has the money multiplier described there, which this paper and the two videos refute.

http://en.wikipedia.org/wiki/Fractional_reserve_banking#Example_of_deposit_multiplication

Edited by underscored

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http://www.bankofengland.co.uk/publications/Documents/quarterlybulletin/2014/qb14q102.pdf

bolded the important bit

underlined the tattered see-through fig leaf.

Capital rules, the leverage ratio and minimum liquidity rules are what stop money creation. A bank would have these anyway, but at lower levels than regulators like.

Reading the above out of context would lead a reader to think that a bank does not need deposits. Untrue.

Clearly it has been published partly in response to Internet discussion boards and YouTube videos on money creation.

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June6_2005MMM.jpg

The BoE's sharp shock to monetary illusions

Steve Keen

http://www.businessspectator.com.au/article/2014/3/18/economy/boes-sharp-shock-monetary-illusions

A couple of weeks ago I took a swipe at Bank of England over a speech by its Governor Mark Carney that was unrealistic about the dangers of a bloated financial sector (Godzilla is good for you? March 3). Today I’m doing the opposite: I’m doffing my cap to the researchers at Threadneedle Street for a new paper “Money creation in the modern economy,” which gives a truly realistic explanation of how money is created, why this really matters, and why virtually everything that economic textbooks say about money is wrong.

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Capital rules, the leverage ratio and minimum liquidity rules are what stop money creation. A bank would have these anyway, but at lower levels than regulators like.

Reading the above out of context would lead a reader to think that a bank does not need deposits. Untrue.

Clearly it has been published partly in response to Internet discussion boards and YouTube videos on money creation.

um

http://www.moneysavingexpert.com/savings/savings-accounts-best-interest

Nope. The bank does not need deposits. If you want to give your money to them, they will have it though.

They have far cheaper sources than you or I.

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http://www.bankofeng...14/qb14q102.pdf

"In the modern economy, most money takes the form of bank deposits. But how those bank deposits are created is often misunderstood: the principal way is through commercial banks making loans. 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.

• In normal times, the central bank does not fix the amount of money in circulation, nor is central bank money 'multiplied up' into more loans and deposits.

Although commercial banks create money through lending, they cannot do so freely without limit. Banks are limited in how much they can lend if they are to remain profitable in a competitive banking system. Prudential regulation also acts as a constraint on banks' activities in order to maintain the resilience of the financial system. And the households and companies who receive the money created by new lending may take actions that affect the stock of money — they could quickly 'destroy' money by using it to repay their existing debt, for "

bolded the important bit

underlined the tattered see-through fig leaf.

What about deposits from money already in circulation?

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What about deposits from money already in circulation?

The money is created by the act of lending... But the lending is not in the form of cash, and it therefore becomes a deposit. This becomes a feedback loop, aided by the creation of yet more money via interest charged on loans.

Everything is rosy and expands exponentially until... it doesn't! Under systems of commodity backed currency there is a limit to which the money supply can expand, this is why boom and busts were more frequent in the 19th century.

In the current FAITH-based system the expansion can continue until lenders and borrowers have no FAITH anymore. This is what happened in 2008. Some borrowers lost the ability to pay and all the lenders realised their counter-parties were sat on toxic poop - (and believe me they all knew how much everyone else was sat on just by looking at their own pile) ...

Faith was lost, bankruptcy was expected. But then governments made good the promises, by promising their citizens labour in return for other peoples promises and FAITH was restored.

This thing will run again until FAITH is shaken :angry:

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The money is created by the act of lending... But the lending is not in the form of cash, and it therefore becomes a deposit. This becomes a feedback loop, aided by the creation of yet more money via interest charged on loans.

Everything is rosy and expands exponentially until... it doesn't! Under systems of commodity backed currency there is a limit to which the money supply can expand, this is why boom and busts were more frequent in the 19th century.

In the current FAITH-based system the expansion can continue until lenders and borrowers have no FAITH anymore. This is what happened in 2008. Some borrowers lost the ability to pay and all the lenders realised their counter-parties were sat on toxic poop - (and believe me they all knew how much everyone else was sat on just by looking at their own pile) ...

Faith was lost, bankruptcy was expected. But then governments made good the promises, by promising their citizens labour in return for other peoples promises and FAITH was restored.

This thing will run again until FAITH is shaken :angry:

people forget the LIQUIDITY part of completing the loan and therefore the deposit.

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Capital rules, the leverage ratio and minimum liquidity rules are what stop money creation. A bank would have these anyway, but at lower levels than regulators like.

Reading the above out of context would lead a reader to think that a bank does not need deposits. Untrue.

Clearly it has been published partly in response to Internet discussion boards and YouTube videos on money creation.

Yes they work so well there has been no significant inflation in commodities or assets anywhere in the world at all. Such stupid nonsense about banks "creating" money lol, everyone knows it does not grow in trees.

In fact why on Earth is there this HPC forum? Everything is fine and dandy, my mate who stacks shelves on a 0 hour contract bought a nice family house for him and his non-working wife to bring up their 3 children in. This was based on his hard graft and his unwillingness to buy an i-pod.

Edited by underscored

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Capital rules, the leverage ratio and minimum liquidity rules are what stop money creation. A bank would have these anyway, but at lower levels than regulators like.

Reading the above out of context would lead a reader to think that a bank does not need deposits. Untrue.

Clearly it has been published partly in response to Internet discussion boards and YouTube videos on money creation.

In the short run any given bank does not need deposits, in the long run it does need them.

The banking sector as a unified whole does not need deposits because it creates them.

Commercial banks need deposits because they are forced to compete individually and avoid local liquidity mismatches (excepting situations when CB intervention suspends this requirement to compete for liquidity).

However, the health of the sector as a whole is not determined by the quantity of deposits it has created, but rather by the speed with which the deposits move about. Velocity trumps quantity in the long run, hence the limited power of central banks which can directly affect quantity but not velocity,

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patrick-robot-butt.jpg

The Five-Year Fantasy Is Ending

CHS

http://www.oftwominds.com/blogmar14/5-yr-fantasy3-14.html

Since these monetary/fiscal fixes (i.e. distortions) didn't address the real issues, all they can possibly do is increase the magnitude of the next collapse.

For five long years, we have pursued the fantasy that we could return to "growth" without having to fix or change anything. The core policy of the fantasy is the consensus of "serious economists," i.e. those accepted into the priesthood of PhD economists protected by academic tenure or state positions: what we suffered in 2009 was not the collapse of leveraged crony-state financialization but a temporary decline of "aggregate demand" and productive capacity.

The solution, the economic witch doctors asserted, was simple: replace temporarily slack private demand with government-funded demand (deficit spending) and flood the impaired financial system with liquidity (i.e. free money) and increase the incentives to borrow money.

In other words, the "serious economists" solution was to transfer all the interest earned by savers to the banks and push households to buy more low-quality junk from Asia on credit.

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Now my fit of temper is passing, back to the topic.

Why would such a significant paper - that refutes assertions made by economic textbooks, not be picked up on by one of the intellectual powerhouses of our media such as Robert Peston?

Or is it because he covers "business" and therefore does not think about stuff like, "How is our money made - and how does that effect the functioning of our economy?"

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Capital rules, the leverage ratio and minimum liquidity rules are what stop money creation. A bank would have these anyway, but at lower levels than regulators like.

Reading the above out of context would lead a reader to think that a bank does not need deposits. Untrue.

Clearly it has been published partly in response to Internet discussion boards and YouTube videos on money creation.

Leaving out the fact that there is in reality more than one bank would lead a reader to think that banks can't get deposits from other banks creating money by making loans.

When so much of the financial world is a gigantic Ponzi scheme, I find it a little hard to believe the idea that the private banks are anything other than a massive scam, especially as that's all banks have ever been. We've just become habituated to their predations.

If 97% of our money is created by private banks when they make loans, then the mechanics aside, it seems unarguable that banks create money. And if it was the case, what would you see? You'd see massive inflation in the price of the assets on which banks historically prefer to make secured loans - i.e. residential and commercial property. What's the name of this forum again?

Edited by ChairmanOfTheBored

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The money is created by the act of lending... But the lending is not in the form of cash, and it therefore becomes a deposit. This becomes a feedback loop, aided by the creation of yet more money via interest charged on loans.

Everything is rosy and expands exponentially until... it doesn't! Under systems of commodity backed currency there is a limit to which the money supply can expand, this is why boom and busts were more frequent in the 19th century.

In the current FAITH-based system the expansion can continue until lenders and borrowers have no FAITH anymore. This is what happened in 2008. Some borrowers lost the ability to pay and all the lenders realised their counter-parties were sat on toxic poop - (and believe me they all knew how much everyone else was sat on just by looking at their own pile) ...

Faith was lost, bankruptcy was expected. But then governments made good the promises, by promising their citizens labour in return for other peoples promises and FAITH was restored.

This thing will run again until FAITH is shaken :angry:

You can`t have it both ways, it can`t be backed by nothing and backed by "citizens labour", it is just money created by a central bank and used as a medium of exchange by the people, with certain beliefs and behaviour attached about "interest", "value", "inflation" , "borrowing" etc.? If it all blew up tomorrow the world will still turn.

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Leaving out the fact that there is in reality more than one bank would lead a reader to think that banks can't get deposits from other banks creating money by making loans.

When so much of the financial world is a gigantic Ponzi scheme, I find it a little hard to believe the idea that the private banks are anything other than a massive scam, especially as that's all banks have ever been. We've just become habituated to their predations.

If 97% of our money is created by private banks when they make loans, then the mechanics aside, it seems unarguable that banks create money. And if it was the case, what would you see? You'd see massive inflation in the price of the assets on which banks historically prefer to make secured loans - i.e. residential and commercial property. What's the name of this forum again?

Yes it is kind of untrue to say that the currency is unbacked. It is brick backed :P More the whole system is backed by the FAITH in ever rising asset prices (particularly the supply of land).

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Now my fit of temper is passing, back to the topic.

Why would such a significant paper - that refutes assertions made by economic textbooks, not be picked up on by one of the intellectual powerhouses of our media such as Robert Peston?

Or is it because he covers "business" and therefore does not think about stuff like, "How is our money made - and how does that effect the functioning of our economy?"

The Big Debt Debate last night had Katie Hopkins and others shouting "It doesn`t grow on trees", nobody piped up that it is created as debt by banks. The chav types who borrow and don`t pay back are way ahead of the curve, they know it is just paper that gets them stuff with no morals attached about "value" or "ownership". The closest that debate got to a HPC moment was somebody shouting that property was "an illiquid asset"!

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Ah yes, endogenous money. Something else Steve Keen publicised years ago and the Chicago/Harvard dunces (Bernanke especially) failed comprehensively to understand.

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You can`t have it both ways, it can`t be backed by nothing and backed by "citizens labour", it is just money created by a central bank and used as a medium of exchange by the people, with certain beliefs and behaviour attached about "interest", "value", "inflation" , "borrowing" etc.? If it all blew up tomorrow the world will still turn.

The world would still turn for the productive members of society. For the rentier's in tenancy during the French and Soviet revolutions, the world did stop turning.

Labour is being pushed ever harder, and there is a long way from where we are at the moment to the bottom.

I am so amused at some of the comments on the mail website about the £2k childcare incentive (for families up to £150k), and its apparent non-reconciliation with taking away CB for any single earner in a household going over £50k. - The incentive is obvious GET OUT TO WORK. I wonder how much child care costs will go up once this measure is implemented....

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Discussing the nature of money without considering trade is truly like lifting mercury with a fork.

Hmm. Trade in what. There is a strong belief that trade between "the West" and "the East" is unbalanced.

"The west" imports, "the east" exports. We do export a lot of debt though.

However I don't forsee China doing to the USA, what Germany is doing to Greece.

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Is the BoE deliberately trying to light a fire under the economics establishment here? If Keen is correct this paper makes them look like idiots.

What's both fascinating and downright scary is that the people who advise presidents and prime ministers- professional economists- fail to grasp the simple reality that commercial banks create bank credit simply by collateralizing a borrower's agreement to pay that credit back.

It's money conjured from thin air backed by nothing more substantial than a promise to repay.

That being so the banks are not mere passive intermediaries between the patient saver and the impatient borrower- they are a potential source of brand new demand- demand that is brought into existence at the click of a mouse and an entry into an accounting system.

If they don't get this- what else don't they get?

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Is the BoE deliberately trying to light a fire under the economics establishment here? If Keen is correct this paper makes them look like idiots.

What's both fascinating and downright scary is that the people who advise presidents and prime ministers- professional economists- fail to grasp the simple reality that commercial banks create bank credit simply by collateralizing a borrower's agreement to pay that credit back.

It's money conjured from thin air backed by nothing more substantial than a promise to repay.

That being so the banks are not mere passive intermediaries between the patient saver and the impatient borrower- they are a potential source of brand new demand- demand that is brought into existence at the click of a mouse and an entry into an accounting system.

If they don't get this- what else don't they get?

Just about everything.

Off the top of my head: The Arrow-Debreu Equilibrium Model (false). The Efficient Market Hypothesis (wrong). Portfolio Theory (bogus), the Black-Scholes Equation (full of holes), CAPM, Pareto efficiency, the macroeconomic function of money and debt.

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Is the BoE deliberately trying to light a fire under the economics establishment here? If Keen is correct this paper makes them look like idiots.

...

Don't know. But the second video (with the lead author) is interesting.

Interesting that purchasing high yielding assets is seen as spending in the wider economy (where is the slap-forehead emoticon?)

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The money is created by the act of lending... But the lending is not in the form of cash, and it therefore becomes a deposit. This becomes a feedback loop, aided by the creation of yet more money via interest charged on loans.

Everything is rosy and expands exponentially until... it doesn't! Under systems of commodity backed currency there is a limit to which the money supply can expand, this is why boom and busts were more frequent in the 19th century.

In the current FAITH-based system the expansion can continue until lenders and borrowers have no FAITH anymore. This is what happened in 2008. Some borrowers lost the ability to pay and all the lenders realised their counter-parties were sat on toxic poop - (and believe me they all knew how much everyone else was sat on just by looking at their own pile) ...

Faith was lost, bankruptcy was expected. But then governments made good the promises, by promising their citizens labour in return for other peoples promises and FAITH was restored.

This thing will run again until FAITH is shaken :angry:

Some of the finer detail of this is way over my head.

However I agree with the thrust of what you write.

With regard to the point about faith I think this is exactly right. The creditworthiness of a country is, I'd say, largely based on how likely it is that the government of that country - now, and in the future - will extract the necessary labour from its citizens, one way or another, to make good on its bonds.

The subtlety here is that it doesn't necessarily mean that the books look good. It is simply faith. The Greek people turn around and stick two fingers up at their government. "We ain't paying. F' you". We have a tendency to pay up. Maybe what Greece was missing was some good soaps and a phone-in show on Saturday night?

My impression is that we will see wave after wave of new financial crises, closer and closer together, until the currency collapses.

That this endgame or conclusion is inevitable and unavoidable.

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Some of the finer detail of this is way over my head.

However I agree with the thrust of what you write.

With regard to the point about faith I think this is exactly right. The creditworthiness of a country is, I'd say, largely based on how likely it is that the government of that country - now, and in the future - will extract the necessary labour from its citizens, one way or another, to make good on its bonds.

The subtlety here is that it doesn't necessarily mean that the books look good. It is simply faith. The Greek people turn around and stick two fingers up at their government. "We ain't paying. F' you". We have a tendency to pay up. Maybe what Greece was missing was some good soaps and a phone-in show on Saturday night?

My impression is that we will see wave after wave of new financial crises, closer and closer together, until the currency collapses.

That this endgame or conclusion is inevitable and unavoidable.

The coupon price of a bond is supposed to be based on the credit worthiness of the borrower. I.E. Mr Market will demand that a higher fee is paid for an increased risk that the money will not be returned.

Credit worthiness of Governments is assigned by the three major ratings agencies.

Remember how Osbum banged on about how we could not loose our AAA rating or the cost of our borrowing would go up? Well we did loose it (AA - along with the states), yet we are still charged at AAA prices.... FAITH in action. If the USA and maybe the UK are not quite credit worthy, the whole system of assumptions starts to unravel - asset pricing relies on comparing the lowest risk financial asset the government backed AAA bonds. So rather adjust to this new normal of the financial foundations shifting about, the market is behaving like it has not happened, as that is so much easier.

That or the "market" knows more than the ratings agencies.

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