Incredible confusions Part 1: ‘Positive Money’ and the fallacy of the need for a state money producer

I am usually inclined to encourage the inquiry of the fundamental aspects of money and banking. This is because I tend to believe that only by going back to first principles is it possible to cut through the thicket of widely accepted but deeply flawed theories that dominate the current debate in mainstream media, politics and the financial industry. From my own experience in financial markets I can appreciate how convenient and tempting it is in a business context, where quick and easy communication is of the essence, to adopt a certain, widely shared set of paradigms, regardless of how flimsy their theoretical foundations. Fund managers, traders and financial journalists live in the immediate present, preoccupied as they are with what makes headlines today, and they work in intensely collaborative enterprises. They have neither the time nor inclination to question the body of theories – often no longer even perceived as ‘theories’ but considered accepted common wisdom – that shapes the way they view and talk about the outside world. Thus, erroneous concepts and even outright fallacies often remain unquestioned and, by virtue of constant repetition, live comfortably in the bloodstream of policy debates, economic analysis, and financial market reportage.

This goes a long way in explaining the undeserved survival of a number of persistent modern myths: deflation is the gravest economic danger we face; Japan has been crippled by deflation for years and would grow again if it only managed to create some inflation; lack of ‘aggregate demand’ explains recessions and must be countered with easy monetary policy; and money-printing, as long as it does not lead to higher inflation, is a free lunch, i.e. we can only expect good from it. None of these statements stand up to scrutiny. In fact, they are all utterly absurd. Yet, we can barely open a newspaper and not have this nonsense stare us in the face, if not quite as bluntly as stated above, than at least as the intellectual soil from which the analysis or commentary presented has sprung. Deep-rooted misconceptions can only be dismantled through dissection of their building blocs and a discussion of basic concepts.

The dangers of going back to basics

However, going back to basics and to first principles, analyzing critically the fundamental aspects of our financial system, is not free of danger. Here, too, lies a minefield of potentially grave intellectual error, and when things go wrong here, at the basic level, the results and policy recommendations derived from such analysis are bound to be nonsensical too, if not even more nonsensical than what the mainstream believes. In this and the following essays I am going to address some of the erroneous notions at the fundamental level of money and banking that seem to have gained currency in the public debate of late.

I get periodically confronted with these confusions through readers’ comments on my website. Some of the questions and suggestions expressed there reveal the same, or very similar, errors and misunderstandings, and these often seem to have their origin in other publications circulating elsewhere on the web. Among them are the following fallacies, in no particular order:

  • The idea that the charging of interest, or in particular the charging of interest on money, is a fundamental problem in our financial system.
  • The notion that there must be a systematic shortage of money in the economy because banks, through fractional-reserve banking, bring into circulation only amounts of money equivalent to the principal of the loans they create but not the necessary amount to pay the interest on these loans.
  • The notion that it is a problem that money-creation is tied to debt-creation (again, as a consequence of fractional-reserve banking) and that it would be possible and advantageous to have the state issue money directly (debt-free) rather than have the banks do it.
  • The idea that schemes are feasible that allow the painless shrinkage or even disappearance of the national debt.

All these ideas are nonsensical, based on bad economics and fundamental logical flaws, and to the extent that they entail policy proposals, these policies, if enacted, would not only not give us a stable and more prosperous economy but would surely lead to new instabilities or even outright chaos.

None of these misconceptions originate, or even resonate, as far as I can tell, with the ‘mainstream’. The mainstream – the financial market professionals, the central bankers, financial regulators, and the media – remain resolutely uninterested in dealing with fundamental questions of money and banking for the reasons given above. Here, the discussion continues to centre on how the economy can be ‘stimulated’ more, what ‘unconventional’ policies the central banks may still have up their sleeves, and if the central banks need new targets or better central bankers. Icebergs or no icebergs, these deckchairs need re-arranging.

But, outside the mainstream, among certain think tanks, ‘activists’, bloggers and some economists, even those at the IMF, the appetite for fundamental analysis has grown. In many cases this has led to utter confusion, as I will show in this set of essays.

I should declare a personal interest here. I feel the need to make my disagreements with these ideas and the resulting policy proposals as clear as I can as, on more than one occasion, casual readers of my website seemed to have assumed some sympathy on my part with the erroneous ideas put forward by others. The mere fact that somebody else also focuses his or her attention on the system’s same fault-lines, such as, for example, the instabilities created by fractional-reserve banking, has led them to believe that we must share considerable intellectual ground and arrive at similar conclusions and policy recommendations. Sometimes this confusion may be the result of a lack of familiarity with my work, sometimes with a lack of knowledge of or attention to the precise concepts articulated by others. In any case, this confusion needs to be cleared, partly because I do not want to be associated with what I consider economic nonsense, and partly because articulating the differences – and highlighting what, in my view, are the mistakes of the other side – should further clarify the issues and improve the debate. As I already said, the mix-up is usually greatest when the topic is fractional-reserve banking. So let me start right here:

Fallacy 1: As fractional-reserve banking is a source of economic instability, it would be better to force the banks to become fully-reserved banks with no ability to create money, and have the state create all money directly and inject it – wisely – into the economy. This would allow us to enjoy the benefits of more money without suffering the disadvantage of more debt. We may even use this process to reduce or eliminate existing debt.

This is the position of UK ‘think tank’ – or pressure group? – Positive Money, which has proposed legislative changes in the UK based on its analyses. Positive Money enjoys the support of the UK’s left-leaning ‘new economics foundation (nef)’ (so egalitarian and new age is nef that it doesn’t allow any capital letters undue dominance in the writing of its name) and of the Centre for Banking, Finance and Sustainable Development at the University of Southampton. Together these organizations have submitted a policy proposal to the Independent Commission on Banking.

The starting point of ‘Positive Money’s’ thesis – namely, that fractional-reserve banking is a source of economic instability – is essentially correct. But – as I will show in this essay – their analysis of fractional-reserve banking is incomplete, and their view lacks entirely any deeper understanding of money demand and of how changes in money demand are being met naturally in a market economy. Moreover, Positive Money has no perception of the necessary – and necessarily disruptive – effects of money-injections into the economy, regardless of who injects the money, and seems completely blind to the obvious disadvantages of channeling all new and free money through the state bureaucracy. Having shown – a bit flimsily and without resorting to any theories of capital or business cycles – that fractional-reserve banking is problematic, Positive Money seems to have exhausted its critical faculties and jumps hastily to the conclusion that the privilege of money-creation should be given to a wise, independent and benevolent state agency. The arguments of Positive Money are economically unsound and politically naïve and dangerous.

If these resolutely anti-banking and pro-government proposals sound familiar to readers of this website, it is because they resemble the ones put forward by economists Benes and Kumhof in their widely quoted, less widely read and apparently even less understood IMF working paper 12/202, which I attempted to dissect here. In the following I will not repeat my criticism of Benes/Kumhof. Neither Benes/Kumhof nor Positive Money provide a single economic argument to support the claim that the state is a superior guardian of the privilege of money creation. This is not surprising because there is no such argument. Yet, we have to be grateful to Positive Money for at least not resorting to the bizarre line of reasoning that Benes and Kumhof came up with, namely that in order to improve upon our modern monetary order we have to first discover the ‘true nature of money’, which is apparently not open to the theoretical investigation of economists but can only be unlocked by anthropologists who tell us how money came about in primitive society thousands of years ago, and by certain monetary historians who re-interpret the historical record to tell us that the privilege of money creation has always been safe – and thus, in a logical jump of breathtaking audacity, is assumed to always be safe in the future – in the hands of government. Such mysticism is an insult to any true historian and to any proper economist. Sometimes it may be better to have no explanation at all than to put forward such rubbish. So thank you, Positive Money, for sparing us this nonsense.

Some thoughts on fractional-reserve banking

Let us start by briefly sketching the key problems with fractional-reserve banking.

Most of what we use as ‘money’ today is deposit-money and thus an item on a balance sheet of a bank. This form of money has come into existence through the banking system’s lending activities, i.e. through fractional-reserve banking.

Banks, for as long as they have been around, have never only just channeled saved funds into investments, such as fund management companies do today. Banks have always also been in the business of creating money derivatives (or fiduciary media), that is, financial instruments that are treated as money proper by the public (usually because they were issued with a promise of instant redemption in money proper), and thus circulate in the economy next to money proper. This process allows banks to fund a portion (and potentially a large one) of their lending through their own issuance of money derivatives, although today hardly anybody even distinguishes any longer between money proper and bank-created money derivatives. In a way, it can be said that the banks extend loans by drawing cheques on themselves and having these cheques circulate in the economy as money (and in the hope that they won’t be cashed!). These ‘cheques’ used to be the banknotes of the olden days, when banks were still allowed to print them, today there are deposit money, items on a bank balance sheet, like your current account balance.

This form of banking has made a considerable expansion of money in the economy possible. Fractional-reserve banking has been conducted in some shape or form for 300 years, and its effects on the economy have been the focus of the attention of economists for about as long (Cantillon, Ricardo, Mises – to name just some of the most outstanding social scientists dealing with it). Economists have long suspected, and over time have become ever more successful in demonstrating, that this activity is the source of economic instability. Fractional-reserve banking – and the elasticity of the supply of money that it creates – helps explain business cycles.

In my book Paper Money Collapse – The Folly of Elastic Money and the Coming Monetary Breakdown – I explain in some detail why elastic money is so undesirable, making use of the seminal work of Ludwig von Mises, in particular. In order to understand the full range of problems with fractional-reserve banking in a modern economy we need some knowledge of the origin and role of interest rates, of the nature of what is called ‘money demand’, of investment and saving, and thus the rudimentary elements of a theory of capital. I cannot provide this in a blog post and I am not going to try. Let it suffice to say that the extra money created by banks lowers interest rates on credit markets and expands the supply of investible funds beyond the volume of available true savings. Thus, investment and saving get out of line, misallocations of capital ensue, and what appears like a solid economic expansion for a while is ultimately revealed as an artificial and unsustainable credit boom that will end in a recession. Sustainable growth requires investment funded by proper saving, i.e. by the voluntary reallocation of real resources from present consumption to future consumption (that is saving). Bank credit expansion creates a dangerous and fleeting illusion of the availability of more savings, which means more resources for investment projects that are in fact not there.

Should fractional-reserve banking be banned?

Do I have some sympathy for the proposal to ban fractional-reserve banking? Well, I do agree that an inelastic monetary system, for example a 100% gold standard, would be the most stable (least disruptive) monetary system. (Interestingly, this is not what Positive Money suggests, but more about that later.) But I do not believe that fractional-reserve banking should be and can realistically be banned. Not only because it has been around for so long but also because the exact definition of what is being used as money by the public in a dynamic monetary economy at any moment in time must remain fluid. Financial intermediaries will always succeed in periodically bringing ‘near-monies’ into circulation and thus become de facto money producers, at least for a while.

Furthermore, there is no legal case for banning fractional-reserve banking. It is, in my view, not fraudulent (as some modern Austrian School writers maintain) and there is no basis for banning it on standard property rights considerations. Moreover, there is also little need to ban it as we can, in my view, rely on market forces and the superior regulators of capitalism – profit and loss – to ultimately keep it in check. (Some economists dispute this but here is not the place to discuss this point in detail. I will argue my case below. However, it is not even essential for a critique of the ideas of Positive Money.)

I think that the most straightforward and most obvious solution to these problems is that we remove the extensive framework – erected and maintained by the state – to actively support and systematically subsidize fractional-reserve banking. This means removing the institutions – implemented through acts of politics and maintained through acts of politics- of unlimited fiat money, which means unlimited bank reserves, and of lender-of-last-resort central banks that have the power to issue such unlimited bank reserves. Unlimited state fiat money and central banks are today the indispensable backstops for large-scale fractional-reserve banking activities of the nominally ‘private’ banks.

If fractional-reserve banking is disruptive – and I agree with Positive Money that it is – should we not – as a first step and before we even consider such authoritarian measures as universal bans – take away the state-run support system for fractional-reserve banking by which the banks and their clients are systematically shielded from the consequences of their activities, and through which the true costs of fractional-reserve banking are persistently being socialized?

Fractional-reserve banking and the state

What the folks at Positive Money fail to appreciate is that in a free market the ability of banks to create money is severely restricted. A deposit at bank X is only considered ‘money’ by the public to the extent that this deposit can be used for transactions with potentially everybody else in the economy, that is, not just with other customers of bank X but also any non-customers of bank X, and this is only the case if the deposit remains instantly redeemable in money proper (let’s say, gold or, in today’s world, state paper money) or can be transferred to any other bank. Thus, bank X runs the constant risk that its customers demand redemption of the type of money it CAN create (the deposit that sits on its own balance sheet) in a form of money that it CANNOT create: gold, state paper money or deposits at the central bank that are required for transfers to other banks. (Hint: these are the ‘reserves’ from which fractional-reserve banking gets its name!)

In an entirely free market, in which the state does not interfere in the economy and in which there is no central bank and no fiat money but in which money proper is necessarily a commodity chosen by the market, one the supply of which is outside political control or anybody else’s control for that matter, such as is the case with gold, in such a system fractional-reserve banking is an inherently risky enterprise. The constant fear of requests for large redemptions will severely restrict the ability of private banks to lower their reserve ratios and fund large parts of their lending by issuing ever more money derivatives. Each additional bank deposit that is created out of thin air will increase the risk of a bank run, which, in a world without central banks, bailouts and state deposit insurance, must lead to the failure of the bank.

Sure, banks may still be tempted to issue more deposit money but it requires a somewhat strange view of human nature to expect that even after a number of bank runs, in which bank shareholders and most depositors were wiped out, financially speaking, fractional-reserve banking would merrily continue and could in total be conducted at anywhere near the scale it is today, when banks do not have to content themselves with strictly limited reserves and do not have to operate under the constant risk of business failure but can safely rely – or, at least rely to a much larger degree than in a free market and a hard currency system -  on an unlimited and constantly expanding pool of fiat reserves provided by lender-of-last resort central banks, and where depositors need to pay no attention to the soundness of the various deposit-taking institutions as they simply rely on the blanket cover provided by the state.

Positive Money’s account of fractional-reserve banking makes it appear as if the state and its agencies were simply innocent and powerless bystanders in the business of money creation, rather than active promoters of and eager and indeed indispensable accomplices in the exercise. Positive Money creates the impression that bloated bank balance sheets, real estate bubbles and excessive debt levels had all been created by scheming and out-of-control private banks, entirely on their own accord and behind the back of an unwitting and clueless state, rather than constitute the inevitable consequences of an institutional framework built on the widespread belief that constant bank credit expansion is a boon to the economy.

The truth is that the state, beholden to the generally accepted fallacy that cheap money – and even artificially cheapened money- is a source of prosperity and that we should never allow credit contraction or deflation, has actively supported the gigantic money creation of recent decades. Without an essentially unlimited and ever cheaper supply of bank reserves from the state central banks, private banks could never have expanded their balance sheets so aggressively and issued such vast amounts of deposit money.

Or, to put this differently, had the state wanted to stop or restrict the creation of deposit money by the banks at any point, the state – in form of the central bank – could have done this at the drop of a hat. Restricting the availability of new bank reserves and/or making bank reserves more expensive would have instantly put the brakes on fractional-reserve banking. Not only did the state not choose to do this (at least not for the past few decades), to the contrary, whenever the banks had maneuvered themselves into a position where they thought it themselves prudent to stop or at least slow down their balance sheet expansion for a while in order to protect limited capital or their limited reserves, the central banks invariably cheapened bank reserves further, specifically to encourage further deposit money creation.

In the present context, any criticism of fractional-reserve banking must include, in order to be consistent and complete, a rebuttal of the false beliefs in the benefits of cheap money and criticism of the state’s systematic support for this activity. Positive Money evidently fails to appreciate the role of state institutions and government policy in the present process of money creation or it would argue much more simply and straightforwardly for the voluntary restriction or abandonment of these policies first, and it would be less eager to hand full control over monetary affairs to the state.

Money injections must result in resource reallocations and mis-allocations

Furthermore, a proper understanding of fractional-reserve banking, one that is based on monetary economics and that does not stop at the most apparent symptoms of bank credit expansion, reveals that its core problem is its disruption of the pricing process that would normally co-ordinate economic activity smoothly (in this case, the co-ordination through market interest rates of voluntary saving with investment activity). The problem with fractional-reserve banking is precisely that it leads to persistent misallocation of resources. Would it not be sensible to ask if money injections through the state bureaucracy would also result in very similar or maybe even larger misallocations of resources or misdirection of economic activity?

This seems indeed very likely. We all know that whenever the market is replaced with administrative decisions by a bureaucracy, the results will be suboptimal as the bureaucrat has to make his decisions without the help of market prices, for if he would allow market prices to guide resource use and economic activity there would be no reason for his intervention in the first place. He might then as well leave everything to the market. It is precisely the political decision that the market should not be allowed to allocate resources through market prices and the profit and loss calculations of private enterprises that is the excuse for state involvement in the economy. According to the proposal by Positive Money, a state agency would determine centrally how much money the economy needs and then give this money to other departments of the state, which would spend it according to how it sees fit.

Positive Money does not provide any mechanism for how the state agency might determine who in the economy experiences a higher demand for money, and how the money would get to where it is needed. This is not surprising because there can be no such process, as I will explain shortly. According to Positive Money, the state agency would simply make a macro-level decision as to the amount of new money supposedly needed and hand the necessary amount over to other departments of the state (without the standard process of double-entry bookkeeping that is used today, I might add, by money-creating central banks. According to Positive Money’s proposal, the money is simply created and handed over to the state bureaucracy as a gift.) By putting this money into the economy the state will, of course, exert a tremendous influence on the pricing and the allocation of resources and the direction of economic activity. This does not bother Positive Money. It is simply assumed that this must be better than having private banks do this via the credit market.

It is clear that Positive Money has not fully understood why fractional-reserve banking is harmful. For a functioning economy an uninhibited pricing process for all resources is required in order to direct the use of these scarce resources in accordance with the preferences and demands of consumers. Fractional-reserve banking systematically distorts the pricing process (it corrupts the coordinating properties of interest-rates) but Positive Money suggests to replace it with a process that does away with market prices altogether, and that consists of the arbitrary and politically motivated allocation of resources through a state bureaucracy (even if the central bank is, as Positive Money naively assumes, ‘politically independent’ the departments of the state that are the first recipients of the new money and that decide how the money gets injected into the economy are certainly not).

Apart from the well-established and justified reasons to be suspicious of substantial state control over any part of the economy, there are other reasons to reject this proposal. As I have shown in Paper Money Collapse, EVERY injection of new money into the economy, regardless by whom, has to occur at a specific point from where the new money will disperse through a number of transactions. This process must always – from the point of view of a smoothly functioning, uninhibited market economy – lead to disruptions. It can never be neutral and it can certainly never enhance the functioning of the economy, or lead to a better plan-coordination between economic actors. Money injections always lead to arbitrary changes in relative prices, reallocations of resources and redistribution of wealth and income, without ever enhancing the wealth-generating properties of the economy overall. Money injections never benefit everyone, they always create winners and losers. It does not matter who injects the money.

Is a money producer needed at all?

Given all these problems, is it really necessary that anybody in the economy has the privilege of creating and allocating new money? Once fractional-reserve banking has been banned and money-creation by the banks has ceased (or, in my scenario, once the support for fractional-reserve banking has stopped and money-creation by banks has been much reduced), why not leave the economy to operate with a given and stable quantity of money?

Positive Money:

“But that doesn’t necessarily mean that the economy will run smoothly on a fixed amount of money – we may still need to increase the amount of money in the economy in line with rises in population, productivity or other fundamental changes in the economy.”

Positive Money does not explain why this should be the case, simply because there is no reason why this should be the case. The quote above reflects another widespread fallacy about money, namely that a growing economy somehow needs a growing supply of money. Many people will find intuitively that this makes sense. Yet, on further reflection anybody who thinks for a minute about the purpose of money and about how we all use money every day can see quickly that this statement is without any basis in fact and lacks any economic logic.

A growing economy does not need a growing supply of money and therefore does not need a money producer. On the basis of a stable and given supply of widely accepted money the public can satisfy ANY demand for money it may have.


The person who has demand for money never has demand for a specific quantity of money. Nobody who demands money has demand for a specific number of paper notes or a specific weight in gold coins or a certain quantity of bits on a computer hard drive (or whatever is used as money). We have demand for a certain quantity of money because of what we can buy with it, and this depends not on the quantity of the monetary asset as such but on its exchange ratio versus non-money goods. We always have demand for money’s exchange value, for what we can buy with it, for its REAL purchasing power. The value that money has for us, it has because of its purchasing power in trade. Money does not have direct use value, such as any other good or service.

Whether a certain quantity of cash is sufficient for me to carry with me for a good night out in London, depends on what that quantity of money can buy, that is, its real purchasing power. My demand for money is always a function of its exchange value, but money’s exchange value is necessarily subject to constant change as a result of the constant buying and selling of money versus non-money goods by the trading public.

If the public at large has an additional demand for money (i.e. an additional demand for purchasing power in the form of money) what will the public do? – Answer: the public will do what every individual does who wants to increase his or her holding of money, the public will reduce its present ongoing money-outlays on non-money goods (i.e. spend less and accumulate cash) and/or sell non-money goods for money (i.e. liquidate assets). This process will immediately exert a downward pressure on the money-prices of non-money goods and an upward pressure on the purchasing power of the monetary asset (the result is deflation, if you like, but in contrast to all the excited scaremongering about deflation in the media this is a normal market process and nothing to be scared of). By raising the exchange value of each unit of money this process will satisfy the additional demand for money naturally and automatically. The same physical amount of money is circulating in the economy but now this same amount can satisfy a larger demand for money.

Of course, the reverse will happen if the public lowers its demand for money. The purchasing power of money will drop (inflation) and the same amount of (physical) money will still be held but now at a lower exchange value per unit reflecting the lower demand for money.

These processes do not work for other goods or services. If the public has a higher demand for cars, somebody has to produce more cars. This is because the demand for cars is demand for the use-value that cars provide. Additional demand for cars cannot be satisfied simply by raising the prices of cars. But money is demanded for its exchange value, and additional demand for money can be satisfied (and is in fact satisfied) by a higher exchange value of money, i.e. lower money-prices of non-money goods.

Importantly, the processes described here would not just commence once we converted to a system of inelastic money. These processes are by necessity at work all the time – even now in our economy of constantly expanding fiat money and excessive fractional-reserve banking where they are, of course, usually overshadowed by the inflation from constant monetary expansion.

Money qua money has two characteristics: it is the most fungible good in the economy and it is demanded exclusively for its exchange value. From this follows that every individual can hold exactly the desired portion of his or her wealth in the form of money at any moment in time, and it equally follows that the public at large can hold exactly the desired portion of its wealth in the form of money at any time.

If more economic transactions are to occur in a given period of time money can circulate faster, and in fact, money then IS GOING TO circulate faster. If the demand for money holdings rises, this demand can be satisfied automatically and naturally by a rise in the purchasing power of the monetary unit, and in fact, the purchasing power of the monetary unit IS THEN GOING TO rise.

Via the constant buying and selling of money versus non-money goods the public automatically adjusts the velocity of money and the exchange value of the monetary unit, and thus the public is always in possession of precisely the amount of money purchasing power it needs. It is in the very nature of a medium of exchange that any quantity of it – within reasonable limits – is sufficient (and indeed optimal) to satisfy ANY demand for money.

There is no need to fear that this process would lead to undue volatility in money’s purchasing power, to constant fluctuations between inflation and deflation. If some people have a higher demand for money and start selling non-money goods for money, and this is beginning to lift the purchasing power of the monetary unit, then those who have an unchanged demand for money will readily sell some of their money for non-money goods in order to merely maintain the same real purchasing power in the form of money that they had before. Nobody can say that this process will lead to complete stability of money’s purchasing power. Such stability is unachievable in human affairs. But dramatic swings in money’s purchasing power can reasonably be expected to be rare.

Be that as it may, there is certainly no process available by which even the most dedicated, smartest and impartial monopolist money producer could anticipate the discretionary changes in the public’s desire for money balances and neutralize the resulting changes in money’s purchasing power through pre-emptive money injections or withdrawals. Once the changing demand for money has articulated itself in any statistical variables (and, in particular, in rising or falling prices) the public will already have satisfied its changed money demand through the processes described above. The whole idea of superior monetary stability through a central state monopolist is entirely absurd.

Equally absurd is the idea – this one not being advocated by Positive Money, I shall add – that fractional-reserve banks could play a role in satisfying the public’s demand for money. This is, I fear, another widespread fallacy, and it has its origin in a confusion of demand for loans with demand for money. Banks are not in the business of meeting their customer’s money demand (which they could not do even if they tried) but in the business of meeting their clients’ loan demand. Banks conduct fractional-reserve banking in order to extend more loans (on which they collect interest!), not in order to bring more money into circulation. The deposit money that is also created in the process (the ‘cheques’ the banks write to fund the loans) is simply a by-product of their expanded lending business (and this money is absorbed by the public through inflation).

By the same token, nobody (or at least hardly anybody) who has a higher demand for money will go to a bank, take out a loan and pay interest just to hold a higher money balance. Demand for money is not demand for loans. The people who take out loans do not have a high demand for money. To the contrary, they have a high demand for the goods and services that they quickly spend the borrowed money on. That is why they are willing to incur the extra expense of interest. As explained above, people who have a high demand for money cut back on spending or sell assets.


Positive Money starts with a correct observation, namely that today’s large-scale fractional-reserve banking is unnecessary and destabilizing for the economy. However, their suggestion of a ban on fractional-reserve banking strikes me as overly authoritarian, unnecessary and probably unpractical and unrealistic. Simply removing the state-run support infrastructure for fractional-reserve banking would be sufficient, in my view. Where the ideas of Positive Money become bizarre and dangerous is when they propose to install the state as an all-powerful central money creator. There is absolutely no justification whatsoever for such a function in a market economy. It is entirely unnecessary and would probably entail the same, if not worse, misallocations of capital that we suffer now. We would be guaranteed to stumble from one dysfunctional system into another dysfunctional one. The lessons from a proper understanding of fractional-reserve banking and of money demand are very different from what Positive Money suggests.

This article was previously published at

38 comments to Incredible confusions Part 1: ‘Positive Money’ and the fallacy of the need for a state money producer

  • Thanks Mr Schlichter.
    You may notice that Positive Money speaks less about specific solutions these days, and concentrates more on educating the public about how money works, on the basis very solid research. Ultimately any political solution will reflect the interests of the strongest bloc, so I always encourage people to find local and personal solutions to the monetary fraud to which we are all subjected. Such solutions are much more empowering, more actionable, and involve less esoteric discussion!

  • Thanks Mr. Schlicter.
    You have done a service to the further understanding of money as the instrument fundamental to all economic outcomes.
    What say we just move to full-reserve banking and then take the issuing power from there?
    Issuing bank credit to serve as money is a monetary system that is fraught with disruptive consequences throughout the economy.
    Let’s put that behind us.
    No need to waste a lot of ink.

    In a sovereign fiat money system, the method of creation and issuance is within the power of the government. All we need to do is to change the laws.

    We can either eliminate reserves as having any function with the money system, or we can resort to fully reserving all loans that are made.
    Either would provide greater stability and less moral hazard than the one we have at present.

    What is the preferred method to achieve full-reserve banking – to transform bank credit into real money?

    That being done, from where does the new money come?

    • Gary

      “That being done, from where does the new money come?”

      In a full reserve banking system, where no new money is created elastically, ie counterfeited, the new money arises from the dividing down of existing units, thus preserving the value of existing units in a non-inflationary money expansion.

      As the economy grows the demand for money increases and so each unit of currency increases in value, reflected by the increase in the amount of goods and services a unit can lay claim to. To be trivial, assuming a linear relationship, if the economy doubles the value of a unit of fixed quantity existing currency doubles. Then you can divide each unit in half and now you have effectively doubled the supply of money, with each sub-unit now having the value of the old unit. A person who had saved one old unit now commands twice the value that he could before the economy doubled. Deflation in a positive sustainable way from spontaneous market demand for coin sub-units. No official decree involved. After all, this reflects how the economy naturally works as each widget , over time, can be produced more cheaply due to innovation and efficiency improvements and so you get a slow natural deflation.

      If you want to see a modern blueprint of a non-inflating currency in action, see Bitcoins. Each Bitcoin can be divided down by 10^8(each bitcoin has 8 decimal places). So while only 21 million bitcoins will ever be created, the actual amount of money that can be created, by dividing down, is 21millionx10^8. That is 2,100,000,000,000,000 sub-units of currency, without any inflation.

      • Gary

        PS. Of course, if the economy contracts the inverse is observed in a fixed money system. The demand for money falls , units lose value and so out of expediency the market demands consolidated units.

  • I have read the Bitcoin bit. I am mostly reliant on Soddy’s The Role of Money as the guide to scientific money.

    The issue becomes whether there is a better economic world from a monetary system policy of maintaining the purchasing power of the currency, via measured monetary increases, or whether that better world for all is achieved by allowing those who control the capital at any point in time (having achieved fully-reserved banking) to, for all future time, control the value of the currency through economic manipulation, hoarding, etc. in a free market.
    I would always opt for maintaining the purchasing power of the currency as the preferred monetary policy goal.
    And for having measured increases in the amount of currency in existence that best matches the increased need for the currency – which would be the opposite of counterfeiting – resorting money to its role as the means of exchange.

    • Gary

      “The issue becomes whether there is a better economic world from a monetary system policy of maintaining the purchasing power of the currency”

      There absolutely is. The effect on all economic prices. Prices of commodities , for example, are determined by demand and supply. Rising and falling prices due to demand and supply of the commodities themselves guide investors and producers to allocate funds into or away from certain commodities. When the price of commodities are also perhaps rising (unevenly , since the effects of inflation are never uniformly distributed) due to the fall in the value of money , then investors are misled and they cannot determine the pure demand and supply picture of the commodities in order to know where best to allocate investments. So you end up with investment misallocation.

      The difference in a fixed supply money system is that the market first moves and then the money supply changes ex post facto. The economy drives the money supply and prices are “in the clear” purely on demand and supply of the respective commodities. In a fractional reserve elastic system the money supply is increased first and the economy follows if investment happens to be sound, or not as malinvestment is built.

  • Ben Dyson started to address Detlev’s points here:

    Positive Money agrees that the current system would not have developed to this point if it were not for the state support for the banking system. But the idea of withdrawing that state support, as appealing as it is, is a non-starter politically; no government will take that option when our current banking system is so fundamentally unstable. Our proposals are a way of changing the banking system so that it no longer needs that state support; we think this is only possible if you remove the power of banks to create money.

  • The first thousand words of Schlichter’s article are 95% waffle: might as well be cut out. It’s only in the paragraph beginning “Fallacy 1” that he actually starts to examine Positive Money’s ideas (supposedly). And Schlichter’s criticisms consist of vague statements for example that PM “lacks entirely any deeper understanding….”. Well I have a simple answer to that: Detlev Schlichter lacks any deep understanding.

    Schlichter then says that “Let it suffice to say that the extra money created by banks lowers interest rates on credit markets and expands the supply of investible funds…”. Actually that’s one of the central points made in a work published by the New Economics Foundation – a organisation that Schlichter disapproves of and one of the co-authors of the submission made to Vickers by PM. Title of the work: “Creating New Money” by Messers Huber and Robertson. The NEF are less stupid than Schlichter supposes.

    Re the Benes and Kumhof paper, I agree this is a poor piece of work. Benes and Kumhof seem to me to be two IMF time servers looking for a way to keep themselves employed, and they’ve jumped on a band wagon – the full reserve band wagon – and made a mess of it.

    Under the heading “Should fractional banking be banned” Schlichter says there is no sharp dividing line between money and non-money and hence that totally preventing private banks producing money is impossible. PM, NEF etc are actually well aware of that. And can I say it’s nice to see an Austrian aware of the fact that there is no sharp dividing line between money and non-money. I thought the point was too subtle for Austrians. However, the fact that something cannot be TOTALLY BANNED does not prove that it cannot be substantially banned. The possession of fire arms is largely banned in this country. The ban is not perfect, but its pretty effective.

    Next, Schlichter says he wants to “remove the extensive framework” which “subsidises fractional reserve banking”. Well that’s exactly what full reserve banking does!!!!

    Next, Schlichter claims that “What the folks at Positive Money fail to appreciate is that in a free market the ability of banks to create money is severely restricted.” What, so PM think private banks can print money willy nilly? Can we have some quotes please?

    The amount of money creation done by private banks over the last two years is around zero (in stark contrast to the years just preceding the crunch). PM and just about everyone else is well aware of that fact.

    I’m only half way thru the article, and given the number of mistakes in Schlichter’s article, I’m not minded to read the rest, except that there’s one sentence in his conclusion I find hilarious: “Simply removing the state-run support infrastructure for fractional-reserve banking would be sufficient, in my view.” So what would have happened in the crunch if state support had not been forthcoming? We’d have had global economic melt-down on a scale that would have made the 1930s look like complete non-event.

  • Followers of Cobden Centre articles might like to know that (contrary to Schlichter’s suggestions) it’s not just Positive Money that backs full reserve banking. Both Milton Friedman and Irving Fisher backed the idea, as did Abraham Lincoln and two other U.S. presidents.

    • Gary

      Full reserve banking if the govt is allowed to print money is like adding contraception after the pregnancy. The reason for full reserve banking is to prevent monetary inflation, you cannot do that if the govt owns the printing press and is counterfeiting money. It is impossible. The surest way to prevent inflation is to get rid of ALL money counterfeiting operations, get a fixed supply of divisible money and let the market determine how and when the money should be divided down or consolidated.

      • Steven Farrall

        Yep,and we already have a (relatively) fixed supply of divisible money – it’s got a name. Gold.

      • Gary,
        Like all Austrians you claim inflation is a problem. What problem? As long as inflation is within reasonable bounds, i.e. near the target 2% there is no big problem. In fact inflation is a tax on those with large stocks of cash for which they cannot find a use. I’m all in favour of taxing those individuals or firms to the hilt.
        Next, you (like all Austrians) are politically very naïve. What I mean is this.
        Keynes and Keynsians have no quarrel with most of Austrian ECONOMICS. Notice the capital letters there. In particular, if you have a money supply that is fixed in terms of pounds (i.e. in nominal terms), that’s fine, as long as wages and prices drop swiftly in a recession. But as Keynes rightly pointed out, they just don’t. A significant proportion of the workforce just wont accept ANY CUT in nominal wages. And the rest will only accept minimal and a very slow pace of nominal wage cuts. That’s it. Full Stop. End of.
        In effect that is a sort of ratchet that condemns us to a small amount of annual inflation. But frankly what’s the problem with 2 or 3% inflation?

        • There seem to be a lot of self appointed experts around here who believe in and identify with one or other perspectives on how money should be.
          But money design cannot be separated from the kind of society we live / want to live in. Who has the power, and how much they are trusted is critical.
          And what is the difference of having a gold standard, when the same criminals are holding all the gold, eh?
          So lets not get too dogmatic about how money ‘should’ be. Nobody here will ever be consulted, including Steve wotsisname MP.
          How can these discussions lead to useful outcomes then?

  • Earlier I thanked Mr. Schictler (sp) for posting this as contributing to a greater understanding of money – using as he did the Positive Money proposal.
    Above is linked a measured reply from Ben Dyson of Positive Money on Mr. Schlicter’s criticism – offering explanation where misunderstanding might otherwise prevail.
    I thanks Mr.Dyson also.
    My only comment here is that we could be better informed if Mr. Schlichter would join at Mr. Dyson’s level of discourse.
    A dialogue that is filled with self-serving diatribes gets in the way of the points being made about monetary economics.

  • Gary

    Positive Money , in addition to not addressing the problem of issuing elastic money(literally counterfeting money), they merely transfer the counterfeiting to the govt, they also ignore the Problem of Economic Calculation.

    In the 1920′s there was a great debate about whether it was possible for anybody outside of the market to allocate resources, including money, optimally and consistently. Mises argued it is not possible.

    Millions or billions of participants in the market , each with their own aims and preferences, drive the allocation of resources , and in order to transact towards these ends, they also drive the demand for money. If it were possible for any committee, individual or govt to efficiently know how the aggregate demands of these millions of individuals , that algorithm or knowledge would be the most valuable on earth, and the person acquiring it would become richer than Creosus. So far, there is no evidence anywhere that this knowledge has ever existed, on the contrary, ALL centrally planned economies to date have failed spectacularly.

    • Those who advocate having central government perform various tasks are perfectly well aware that allocating millions of different resources and products is best left to the market. At the same time, it is indisputable that government is better at some things than the market.

      For example the NHS provides health care much more efficiently than the relatively free market American health care system. And the British state schools get more GCSEs per pound spent than private schools. (Private schools ARE BETTER than state schools, but only because they throw money at the problem.)

      In the case of money, the government and central bank do not need to know anything about millions of decisions taken by millions of microeconomic entities like households or firms. All that gcbm need to look at is aggregates like inflation and unemployment. If unemployment is on the high side and/or inflation is low, there is probably a case for printing money and spending it into the economy. And if inflation is too high and/or unemployment is unusually low, there is probably a case for doing the opposite: raising taxes and “unprinting” money.

      • it is indisputable that government is better at some things than the market.

        True, it’s better at coercing behavior that the government thinks is good and is better at ignoring efficiency in favor of cronyism.

      • Gary

        “All that gcbm need to look at is aggregates like inflation and unemployment.”

        That is where the Problem of Economic Calculation
        kicks in. Inflation is the oversupply of money , the effects are seen with lag in rising prices. Govt measures the EFFECTS of inflation in a basket of prices, but since the effects of inflation on prices are variable and not transmitted uniformly to all prices, how do they know what basket to use ? eg. the current effects of inflation is almost all in the bond market, but Gilts are not in the basket. The effects of inflation on prices are as quixotic as the allocation of resources, because they are related. They are unknowable with any consistency outside of the market. So, let the market determine the amount of money and the price. Since gold is so far the most perfect money we have(has more monetary properties than any other substance) the price of gold in a free market is actually the best indicator of inflation of a fiat currency. Keynes(of all people) looked at 200 years of general prices and the price of gold under a gold standard and said it was the most solid relationship in all economics and he called it Gibson’s Paradox. Lawrence Summers and Barskey wrote a seminal paper showing the price of gold tracks real rates(inversely). These two papers are actually saying the price of gold is the perfect inflation indicator.

        To cut a long story short, just get rid of legal tender laws, free up the market and the market will choose the best money. Chances are that you will be back on a gold standard(or maybe bitcoins).

  • Paul Marks

    Clamping down on the banks and having the state provide new money was the policy of General Peron – this “Peronism” is the reason that Argentina went from being a country on a par with Canada, to the hopeless dump it is now.

    I have mentioned this out many times – but I have learned it has to be pointed out each time the “trust the government to produce more money” stuff gets trotted out.

    However, I am not fond of banking credit bubbles either – although (as long as the government does not back them – as, alas, people such as Benjamin Strong and Alan Greenspan did) they are fairly limited (boom turns to bust – malinvestment banks close their doors and so on).

    Why not finance loans from real savings?

    Why rely on either the government printing press, or the magic fairy dust of credit bubble bankers?

    • “Why not finance loans from real savings?” That’s exactly what full reserve banking does and it’s exactly what fractional reserve banking does not do! Under fractional reserve, banks can create money from thin air and lend it out. Under the full reserve systems advocated by Positive Money and Prof. Laurence Kotlikoff (who advocates a slightly different system to PM), borrowers cannot obtain the funds they want other than from those who have conciously decided to lend or have the relevant sums invested.

      Welcome to the world of full reserve Paul. You probably won’t agree with all of it, but it seems that some of it should suit you.

  • Paul Marks

    Ralph the fact that you believe that the situation is even “relatively” free market is astonishing.

    Even in the 1950s government licensing and other regulations twisted the market – and since the 1960s government subsidy programs (Medicare, Medicaid and later SCHIP) and regulations (Federal and State mandates) have totally got out of control, the “free ER” Act of the 1980s pushed costs into outer space (someone has to pay for all those people, many of them illegals, who just turn up at ERs). Obamacare completes the process of bankruptcy.

    A similar process has been seen with higher education – back when Ronald Reagan (the only Economics graduate ever to be President of the United States) went to college it was prefectly possible to work one’s way through university (he did it as a life guard at a local swimming pool) – then the government decided to “help”.

    As even the Classical Economists of the early 1800s would have predicted the government loans for tuition exploded tuition COSTS (just as Medicare and Medicaid and …. have exploded health care COSTS).

    As for the NHS – its record is terrible (again it is astonishing that you do not know this).

    On monetary policy….

    Government monetary expansion is NOT real savings.

  • Paul Marks

    Monetary expansion is NOT real savings nor is it “the same as” real savings.

    Nothing to do with “suiting me” Ralph.

    And nothing to do with some academic either.

    It is a matter of BASIC LOGIC.

    For example……

    Two different parties, borrower and lender, can not have the same money at the same time.

    If someone lends out money (in the hope that it will be repaid, with interest, at some later time) they know longer have that money till when and IF it is repaid.

    Banking practices that do not reflect this fact in their accounts are, essentially, fraudulent.

    As for the government printing press.

    The idea that government can expand real wealth in the long term by expanding the amount of money.

    Increasing the amount of money does NOT increase the amount of long term wealth.

    And the idea of financing lending via the printing press (or other such) is insanity.

    • Re your claim that “two different parties” having “the same money at the same time” is “fraudulent” – that’s exactly what fractional reserve banking involves and its exactly what full reserve banking does not involve. So I’ll repeat my claim, namely that to be consistent, you ought to be quite sympathetic towards full reserve.

      Re equating money to what you call “real wealth” I think the average mentally retarded six year old has worked out that the inherent value of a £20 note is zero.

  • CaptainSkin

    Repeal the legal tender laws and allow competitive currencies. Money came out of the market, and it should return to the market.

    In fact, this is already happening through bitcoin etc…

    If people want to use government money, then they can do so. But give the people a choice.

  • Paul Marks

    Mr Slater – I am quite happy for you to use any commodity as money, that you can get someone else to agree to trade with you in.

    Just as long as you actually have what you imply you have – I am totally fine with it.

  • Paul Marks

    Ralph – I suspect that you do not fully understand that the most damaging inflations often do NOT involve big price rises in the shops.

    For example, Benjamin Srong (New York Federal Reserve) in the late 1920s or more recent antics of Alan Greenspan.

    The idea that an inflation is an increase in the “price level”, Irving Fisher, was refuted in theory by Frank Fetter and, in practice, by the busts of 1921 and 1929 (both of which baffled Irving Fisher).

  • Paul Marks

    As for wages being “sticky downwards” – fire if you do not want the bust, do not have the credit money “boom”.

    But wages are only “sticky downwards” if govenrment intervention makes them so. Get rid of the interventions in the labour market – and the labour market will clear.

  • A most useful piece, Detlev. FRB is a subject that badly needs this kind of relatively dispassionate analysis.

    In that spirit, I have a few nitpicking comments. They’re all aimed at clarifying the presentation of certain points that, as written, could cause confusion.

    - “In a way, it can be said that the banks extend loans by drawing checks on themselves and having these checks circulate in the economy as money (and in the hope that they won’t be cashed!).”

    As you note elsewhere in the piece, loans are pretty much invariably cashed, and usually quite quickly. So it might be better to say that what banks assume (“hope”) won’t be cashed are the great bulk of deposits resulting from loans already made, spent and deposited back in the system by their recipients.

    - “Each additional bank deposit that is created out of thin air . . . “.

    I’m always uncomfortable with the phrase “thin air”. It can be (and often is) interpreted too literally, particularly by critics of FRB. While at a systemic level the description is in a sense true, it’s not at the individual bank level where lending decisions are actually made. There, when making a loan banks must have the requisite reserves on hand or be utterly confident of obtaining them. So, using the phrase without making that distinction clear could encourage misconceptions that are already far too prevalent.

    - ” . . . even after a number of bank runs, in which bank shareholders and most depositors were wiped out, financially speaking . . . ”

    I may be wrong here, but my recollection is that during various “free banking” episodes from the past, even when banks did fail depositors usually fared pretty well. The relatively high capital ratios (together with often unlimited shareholder liability) meant that shareholders took most, and often all, of the pain.

    - “Without an essentially unlimited and ever cheaper supply of bank reserves from the state central banks, private banks could never have expanded their balance sheets so aggressively . . . . ”

    Undoubtedly true in an overall sense, but putting it in this fashion may leave the door open to misunderstandings. Reserves became essentially irrelevant in recent decades, due to lowered requirements (including their abolition in some countries) and to increasing bank confidence that central banks would never leave them high and dry.

  • Paul Marks

    Chuck – I wish I could master the art of the short reply.

    The collectivists do not deserve a long reply, but I always fall for the “well if I explain things well enough, they will understand” trap.

    Your approach is better – but I do not have the skill for it.

  • Andrew Jackson

    The article is based on the premise that the current banking system, where banks create money, is actually stable, it is only the states involvement that leads to financial instability and its assorted negative effects.

    It’s pretty easy to assess the accuracy of the authors claim: prior to 1844 in the UK private banks were able to print paper money, and although the Bank of England existed, it was a privately owned for profit bank and did not carry out any interventions into the economy or any of the other functions that we have come to associate with central banks today (such as lender of last resort).

    Therefore according to the author this period should have been one of financial stability. However nothing could be further from the truth: in Britain the period 1819 – 1844 was characterised by multiple crises and bank failures that were caused by the rapid expansion of paper credit by the private banking sector. This had such large negative effects on the economy that the conservative government of the day was forced to act by introducing the Bank Charter Act 1844, which restricted bank’s ability to create paper money (but ignored deposits). Much later the Bank of England took on the lender of last resort function after the Overend Gurney crisis of 1866. As a result all the functions of central banks that the article claims cause financial instability were actually introduced as a result of trying to make a system where banks create money safe.

    So, as history has demonstrated, it is not state involvement in banking that causes instability. Now this is not to say that some interventions have not led to more instability, there is a lot to be said for the argument that the forms of insurance central banks and governments offer banks have led to riskier behaviour. However, these forms of insurance are a response to financial instability which came about as a result of allowing private institutions to profit from increasing the money supply. Stripping away these forms of insurance would therefore not stop banking crises.

    The question then is how do you stop financial instability and banking crises are their large negative economic effects? The author also makes the point that:
    “the most straightforward and most obvious solution to these problems is that we remove the extensive framework – erected and maintained by the state – to actively support and systematically subsidize fractional-reserve banking.”
    Well that is exactly what the Positive Money proposals advocate. By removing banks ability to create money (by removing deposits from their balance sheets ) banks could be allowed to fail with no need for the taxpayer to bail them out. There would also be no effect on the money supply of banks failing, or large economic consequences.

    The alternative is that deposits are left on the balance sheets of banks and the government announces that it is removing all subsidies from the current banking system. Would this work? The short answer is no – the failure of a bank would have such large negative economic effects that the government would be incentivised to rescue the banks despite its previous pronouncements (the banks would also know this). This is the time inconsistency problem. As a result you can’t remove state subsidies for the banking sector when the money supply exists largely as deposits on their balance sheets, to do so the deposits must first be removed from their balance sheets – the Positive Money proposal.

    • mrg

      Thanks for taking the time to comment here, Andrew.

      Is your view that banking in Britain, prior to 1844, was a truly free market?

    • Gary

      You have overlooked Gresham’s Law being in operation in the the time period that you reference. And this renders your premise wrong.

      Legal tender laws enforced in at least 1826,
      compelled people to hold inferior, unsound, banker fiat notes by decree in order to pay govt debt and taxes, and that forced good , sound money into hoarding and out of circulation. That is Gresham’s Law.

      You cannot operate ANY stable monetary system if you put the free market into a straight jacket and prevent people freely choosing sound money and let govt appointed monopoly money counterfeiters run loose. No sane person of would voluntarily choose to accept money that could not be saved because it lost its value over time. Inflation would be arbitraged out of the system. That is another way of saying that FRB would not be willingly accepted , because FRB is inflationary, the free market would drive them out of business.

      The key is to abolish legal tender laws , let the free market operate and sound money will drive out bad money (the corollary of Gresham).

  • Paul Marks

    Ralph – I will not argue with you about FRB (as you may well be correct).

    However, I reject the Peronist “alternative” to FRB – which is even worse than FRB.

    Of course, without Central Banking or other government support, banking credit bubbles (“booms”) would not expand vastly, before turning to “bust”.

    Long term monetary expansion (long term true inflation) is not possible without government interventionism.

    Bankers (no matter how silly) can not do it on their own.

  • Paul Marks

    mrg – I am not Andrew, but it should be pointed out that the Bank of England started in 1694 – not 1844. The Peel Act of 1844 made little fundemental difference.

    As Mises and others pointed out – the “Currency School” were right (and the “Banking School” were wrong) about the problem – but wrong about the solution.

    Telling banks they could not issue “bank notes” solved nothing – as there are many other ways of expanding credit-money.

    In a free market in bankng – contracts would be enforced.

    For example, gold “on the nail” (i.e. on demand) would mean just that.

    No corrupt courts (or other such) allowing “suspension of cash payments” and other such.

    Banking bubbles would be limited in size and duration – as banks that played that game would soon risk bankruptcy.

    No intervention – Walter Bagehot style hidden bailoutism.

  • Paul Marks

    I should point out that “Andrew Jackson” (I prefer Martin Van Buren myself – no “pet” State banks) does mention that the Bank of England existed before 1844.

    It was indeed a “private” bank before 1946.

    Hoewever, it was created by the GOVERNMENT – and for the express purpose of making government borrowing cheaper, i.e. LOWERING INTEREST RATES.

    That was its game right from 1694 – that is why it was created (by the government).

    Fannie Mae and Freddie Mac were supposedly “private” also.

    Still I agree that bankers have always been tempted by bubble building.

    That is why banks that play that game should be allowed to GO BANKRUPT.

    As soon as they miss one contactual cash payment – it should be over, then and there.

    The bank closed (bankrupt) – and not reopened.

    In this way the banking credit-money bubbles will not get to a vast size.

  • Paul Marks

    Yes Gary – Gresham’s Law only operates if exchange rates are rigged (“fixed”).

    And rigging exchange rates is exactly what legal tender laws (and tax demands) do. People will use the light weight coins (or the notes) to pay their debts – and the good money will vanish from ciruclations(hoarded).

    A similar effect was seen with the forbidding of “discounting” by the National Banking Acts in the United States.

    The debt paper of the big New York banks was suddernly a lot more in demand – because one was not allowed to “discount” it (one had to treat it as if it was sound).

    So it became a much bigger feature of American life – and boom-busts became bigger.

    Get rid of legal tender laws and private companies will have an interest in producing honest money. Otherwise people will not accept their product.


    It is exactly what happened in the American West – till Congress forbad private mints, in the 1850s.

  • I’m an accounting major planning to do a minor in Finance and need to know what are the useful classes in Finance I should take? Here are the courses I can choose from; Financing New Ventures, Managing Corporate Assets and Liabilities, Intermediate Investments, Financial Analysis and Modeling, Finance in the Global Environment, Advanced Corporate Financial Planning, Introduction to Options and Futures, and Seminar in Finance. I have already taken two Finance classes towards my minor and need to take three more..

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