http://www.yesmagazine.org/new-economy/time-for-a-new-theory-of-money
Time for a New Theory of Money
By understanding that money is simply credit, we unleash it as a
powerful tool for our communities.
by Ellen Brown
posted Oct 28, 2010
The reason our financial system has routinely gotten into trouble, with
periodic waves of depression like the one we're battling now, may be
due to a flawed perception not just of the roles of banking and credit
but of the nature of money itself. In our economic adolescence, we have
regarded money as a "thing"--something independent of the relationship
it facilitates. But today there is no gold or silver backing our money.
Instead, [74]it's created by banks when they make loans (that includes
Federal Reserve Notes or dollar bills, which are created by the Federal
Reserve, a privately-owned banking corporation, and lent into the
economy). Virtually all money today originates as credit, or debt,
which is simply a legal agreement to pay in the future.
Money as Relationship
In an illuminating dissertation called "[75]Toward a General Theory of
Credit and Money" in The Review of Austrian Economics, Mostafa Moini,
Professor of Economics at Oklahoma City University, argues that money
has never actually been a "commodity" or "thing." It has always been
merely a "relation," a legal agreement, a credit/debit arrangement, an
acknowledgment of a debt owed and a promise to repay.
In the payment system of ancient Sumeria, prices of major commodities
were fixed by the government. Interest was also fixed and invariable,
making economic life very predictable.
The concept of money-as-a-commodity can be traced back to the use of
precious metal coins. Gold is widely claimed to be the oldest and most
stable currency known, but this is not actually true. Money did not
begin with gold coins and evolve into a sophisticated accounting
system. It began as an accounting system and evolved into the use of
precious metal coins. Money as a "unit of account" (a tally of sums
paid and owed) predated money as a "store of value" (a commodity or
thing) by two millennia; the Sumerian and Egyptian civilizations using
these accounting-entry payment systems lasted not just hundreds of
years (as with some civilizations using gold) but thousands of years.
Their bank-like ancient payment systems were public systems--operated
by the government the way that courts, libraries, and post offices are
operated as public services today.
In the payment system of ancient Sumeria, goods were given a value in
terms of weight and were measured in these units against each other.
The unit of weight was the "shekel," something that was not originally
a coin but a standardized measure. She was the word for barley,
suggesting the original unit of measure was a weight of grain. This was
valued against other commodities by weight: So many shekels of wheat
equaled so many cows equaled so many shekels of silver, etc. Prices of
major commodities were fixed by the government; Hammurabi, Babylonian
king and lawmaker, has detailed tables of these. Interest was also
fixed and invariable, making economic life very predictable.
Grain was stored in granaries, which served as a form of "bank." But
grain was perishable, so silver eventually became the standard tally
representing sums owed. A farmer could go to market and exchange his
perishable goods for a weight of silver, and come back at his leisure
to redeem this market credit in other goods as needed. But it was still
simply a tally of a debt owed and a right to make good on it
later. Eventually, silver tallies became wooden tallies became paper
tallies became electronic tallies.
The Credit Revolution
The problem with gold coins was that they could not expand to meet the
needs of trade. The revolutionary advance of medieval bankers was that
they succeeded in creating a flexible money supply, one that could keep
pace with a vigorously expanding mercantile trade. They did this
through the use of credit, something they created by allowing
overdrafts in the accounts of their depositors. Under what came to be
called "fractional reserve" banking, the bankers would issue paper
receipts called banknotes for more gold than they actually had. Their
shipping clients would sail away with their wares and return with
silver or gold, settling accounts and allowing the bankers' books to
balance. The credit thus created was in high demand in the rapidly
expanding economy; but because it was based on the presumption that
money was a "thing" (gold), the bankers had to engage in a shell game
that periodically got them into trouble. They were gambling that their
customers would not all come for their gold at the same time; but when
they miscalculated, or when people got suspicious for some reason,
there would be a run on the banks, the financial system would collapse,
and the economy would sink into depression.
Like Jimmy Stewart's beleaguered savings and loan in It's a Wonderful
Life, the banks are "borrowing short to lend long," and if the money
market suddenly dries up, the banks will be in trouble.
Today, paper money is no longer redeemable in gold, but money is still
perceived as a "thing" that has to "be there" before credit can be
advanced. Banks still engage in money creation by advancing bank
credit, which becomes a deposit in the borrower's account, which
becomes checkbook money. In order for their outgoing checks to clear,
however, the banks have to borrow from a pool of money deposited by
their customers. If they don't have enough deposits, they have to
borrow from the money market or other banks.
As British author [76]Ann Pettifor observes: "the banking system... has
failed in its primary purpose: to act as a machine for lending into the
real economy. Instead the banking system has been turned on its head,
and become a borrowing machine."
The banks suck up cheap money and return it as more expensive money, if
they return it at all. The banks control the money spigots and can deny
credit to small players, who wind up defaulting on their loans,
allowing the big players with access to cheap credit to buy up the
underlying assets very cheaply.
That's one systemic flaw in the current scheme. Another is that the
borrowed money backing the bank's loans usually comes from shorter-term
loans. Like Jimmy Stewart's beleaguered savings and loan in [77]It's a
Wonderful Life, the banks are "borrowing short to lend long," and if
the money market suddenly dries up, the banks will be in trouble. That
is what happened in September 2008: According to Rep. Paul Kanjorski,
speaking on C-Span in February 2009, there was a [78]$550 billion run
on the money markets.
Securitization: "Monetizing" Loans Not with Gold But with Homes
The money markets are part of the "shadow banking system," where large
institutional investors park their funds. The shadow banking system
allows banks to get around the capital and reserve requirements now
imposed on depository institutions by moving loans off their books.
Large institutional investors use the shadow banking system because the
conventional banking system guarantees deposits only up to $250,000,
and large institutional investors have much more than that to move
around on a daily basis. The money market is very liquid, and what
protects it in place of FDIC insurance is that it is "securitized," or
backed by securities of some sort. Often, the collateral consists of
mortgage-backed securities (MBS), the securitized units into which
American real estate has been sliced and packaged, sausage-fashion.
Like with the gold that was lent many times over in the 17th century,
the same home may be pledged as "security" for [79]several different
investor groups at the same time. This is all done behind [80]an
electronic curtain called MERS (an acronym for Mortgage Electronic
Registration Systems, Inc.), which has allowed houses to be shuffled
around among multiple, rapidly changing owners while circumventing
local recording laws.
[81]Foreclosure, photo by woodley wonderworks
[82]Making Sense of the Foreclosure Mess
Why are mortgage holders suspending foreclosures?
And what will happen to homeowners?
As in the 17th century, however, the scheme has run into trouble when
more than one investor group has tried to foreclose at the same time.
And the securitization model has now crashed against the hard rock of
hundreds of years of state real estate law, which has certain
[83]requirements that the banks have not met--and cannot meet, if they
are to comply with the tax laws for mortgage-backed securities. (For
more on this, [84]see here.)
The bankers have engaged in what amounts to a massive fraud, not
necessarily because they started out with criminal intent (although
that cannot be ruled out), but because they have been required to in
order to come up with the commodities (in this case real estate) to
back their loans. It is the way our system is set up: The banks are not
really creating credit and advancing it to us, counting on our future
productivity to pay it off, the way they once did under the deceptive
but functional fagade of fractional reserve lending. Instead, they are
vacuuming up our money and lending it back to us at higher rates. In
the shadow banking system, they are sucking up our real estate and
lending it back to our pension funds and mutual funds at compound
interest. The result is a mathematically impossible pyramid scheme,
which is inherently prone to systemic failure.
The Public Credit Solution
We as a community can create our own credit, without having to engage
in the sort of impossible pyramid scheme in which we're always
borrowing from Peter to pay Paul at compound interest.
The flaws in the current scheme are now being exposed in the major
media, and it may well be coming down. The question then is what to
replace it with. What is the next logical phase in our economic
evolution?
Credit needs to come first. We as a community can [85]create our own
credit, without having to engage in the sort of impossible pyramid
scheme in which we're always borrowing from Peter to pay Paul at
compound interest. We can avoid the pitfalls of privately-issued credit
with a public credit system, a system banking on the future
productivity of its members, guaranteed not by "things" shuffled around
furtively in a shell game vulnerable to exposure, but by the community
itself.
The simplest public credit model is the electronic community currency
system. Consider, for example, one called "[86]Friendly Favors." The
participating Internet community does not have to begin with a fund of
capital or reserves, as is now required of private banking
institutions. Nor do members borrow from a pool of pre-existing money
on which they pay interest to the pool's owners. They create their own
credit, simply by debiting their own accounts and crediting someone
else's. If Jane bakes cookies for Sue, Sue credits Jane's account with
5 "favors" and debits her own with 5. They have "created" money in the
same way that banks do, but the result is not inflationary. Jane's
plus-5 is balanced against Sue's minus-5, and when Sue pays her debt by
doing something for someone else, it all nets out. It is a zero-sum
game.
[87]Community currency systems can be very functional on a small scale,
but because they do not trade in the national currency, they tend to be
too limited for large-scale businesses and projects. If they were to
grow substantially larger, they could run up against the sort of
exchange rate problems afflicting small countries. They are basically
barter systems, not really designed for advancing credit on a major
scale.
By turning banking into a public utility, profits generated by the
community can be returned to the community.
The functional equivalent of a community currency system can be
achieved using the national currency, by forming [88]a publicly owned
bank. By turning banking into a public utility operated for the benefit
of the community, the virtues of the expandable credit system of the
medieval bankers can be retained, while avoiding the parasitic
exploitation to which private banking schemes are prone. Profits
generated by the community can be returned to the community.
A public bank that generates credit in the national currency could be
established by a community or group of any size, but as long as we have
capital and reserve requirements and other stringent banking laws, a
state is the most feasible option. It can easily meet those
requirements without jeopardizing the solvency of its collective
owners.
[89]NYSE The Growing Movement for Publicly Owned Banks
State-owned banks could be a way for states to bypass Wall Street,
balance their budgets, and get local economies moving.
For capital, a state bank could use some of the money stashed in a
variety of public funds. This money need not be spent. It can just be
[90]shifted from the Wall Street investments where it is parked now
into the state's own bank. There is precedent establishing that a
state-owned bank can be both a very sound and a very lucrative
investment. The [91]Bank of North Dakota, currently the nation's only
state-owned bank, is rated AA and recently returned a 26 percent profit
to the state. A decentralized movement has been growing in the United
States to explore and implement this option. [For more information, see
[92]public-banking.com.]
We have emerged from the financial crisis with new clarity: Money today
is simply credit. When the credit is advanced by a bank, when the bank
is owned by the community, and when the profits return to the
community, the result can be a functional, efficient, and sustainable
system of finance.
___________________________________
Ellen Brown Ellen Brown wrote this article for [93]YES! Magazine, a
national, nonprofit media organization that fuses powerful ideas with
practical actions. Ellen is an attorney and the author of eleven books,
including [94]Web of Debt: The Shocking Truth About Our Money System
and How We Can Break Free. Her websites are [95]webofdebt.com,
[96]ellenbrown.com, and [97]public-banking.com.
Interested?
* [98]Whose Bank? Public Investment, Not Private Debt: The public
bank concept is gaining ground on the state level, attracting
proponents across the political spectrum.
* [99]New Economy, New Ways to Do Finance: As mega-finance crumbles,
many farsighted
individuals are putting their money in enterprises and financial
institutions that benefit working Americans and the places they
live.
* [100]Move Your Money and Save: Big banks don't just undermine local
economies--they're bad for your wallet, too.
YES! Magazine encourages you to make free use of this article by taking
these [101]easy steps. Brown, E. (2010, October 27). Time for a New
Theory of Money. Retrieved October 28, 2010, from YES! Magazine Web
site:
http://www.yesmagazine.org/new-economy/time-for-a-new-theory-of-money.
This work is licensed under a [102]Creative Commons License
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Reader Comments
Money?
Posted by John Steinsvold at Oct 28, 2010 06:32 PM
An Alternative to Capitalism (which we need here in the USA)
The following link takes you to an essay titled: "Home of the Brave?"
which was published by the Athenaeum Library of Philosophy:
[107]http://evans-experientialis[...]webspace.com/steinsvold.htm
John Steinsvold
Reply
This article
Posted by Mike at Oct 28, 2010 08:16 PM
THIS is the kind of article I'd like to see more of at YES magazine -
an in-depth analysis of the history, and therein the power strings, of
a given system; and an idea of what to do about it. This proves far
more useful than most of the other articles that come across in the RSS
Feed.
I will point out that the link to "Friendly Favors" seems to go to the
wrong spot.
Nevetheless, well done YES - this is the best article I've seen in
months!
Reply
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