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How to solve the world's banking crisis

Jan 06 2017 05:01
Edward Ingram

IT IS some time since I wrote for Fin24.

I don't like repeating everything and boring my readers. However, I have been far from idle. I am developing a course in macro-economic design and management.

It applies basic laws of economics where they have not been applied. These are laws which cannot be refuted. Laws which, if not followed by the design of the financial framework, result in unnecessary social and financial costs, even financial chaos, for the nation. Yes, we have chaos.

This course will cause a revolution in the entire financial sector, and in the management system.

Here are two of the things which I will be pointing out in the management part of the course. They are not news:

 - An economy needs to have enough money to thrive. Without money, people cannot pay each other. Enough money needs to be in circulation at all times to avoid a slowdown caused by lack of money.

 - The amount of money needed cannot be defined. Money has a number of roles besides its role as a means of spending. There are savings, and reserves, and there are accounts to balance. The total quantity of money needed for everything constantly varies.

We are left with the conclusion that a working economy needs to have more than enough money. More money is constantly needed to avoid a shortage. Consequently prices will slowly rise.

THERE ARE TWO KINDS OF MONEY

There is debt-free money like notes and coins and electronically created money.

Central banks, like the US Federal Reserve, the European Central Bank, the Japanese, the Chinese and the British ones, have been creating debt-free money ('printing it') on a massive scale recently. They use a computer to increase the quantity of money in their own bank account.

It is as simple as that. Only bankers can do this. And only central banks are allowed to create ('print') debt-free money. They can give it away or they can spend it. They prefer to spend it. It is called quantitative easing, QE: easing the shortage of money in circulation.

There is debt-based money which gets lent into circulation.

This money is created by the commercial banks when they do not have enough deposits to lend. They electronically create some money and place it into a loan account created for the borrower. The borrower then spends it into circulation. When it is repaid, the money disappears from circulation. The interest paid is a fee. It is not new money.

In the 18th century most of the money in circulation was in the form of silver and gold coins. Nearly all of the money was debt-free money. Since then, things have changed a lot. The lending industry has boomed. Money has been increasingly lent into circulation. Little has been created debt-free.

Nations had learned that debt-free money could be created at no cost and used to pay for a war. The result was always a rise in the inflation rate. Some governments loved printing so much that they created hyper-inflation.

A mental link developed in the general mindset, including that of economists, that printing money was always going to lead to hyper-inflation. The creation of debt-free money was virtually stopped.

The outcome was that more money, more debt-based money, was needed all the time to prevent a slowdown. Reportedly, the total amount of debt-based money has exceeded 97% of all money in some cases. Whenever a slowdown threatened, interest rates were reduced so that people would borrow more money.

By 2004 the rate of interest in some of the leading economies was far too low to make any sense. It was easy to borrow money cheaply and invest it in almost anything to make a profit. Property was a favourite investment.

Interest rates were raised to put an end to this and to limit the inflation which was emerging. They were raised so fast that people lost homes and businesses, and banks failed by the dozen every month. Borrowing went out of fashion in a big way. It wasn't long before there was a shortage of debt-based money. It was called a liquidity crisis. Central banks responded by printing money by the billion.

This is the first in a two-part series; the second part will be published next week.

For more about macro-economic design and management,  here are some links:

Peer reviews and background

Course website

Main research website

General equations for lending

 - Edward Ingram is a leading thinker on the world stage of  macro-economic design and has written a series of essays for Fin24. Views expressed are his own. His course in Macro-economic Design and Management is revolutionary. The first module is free to the public and can be found here. The main research website which predated that can be found here.


edward ingram  |  macro-economics  |  opinion
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