On April 1st,, The Telegraph reported that the improbably named Frosti Sigurjonsson of Iceland had proposed a drastic reform of Iceland’s money in response to a request from the Prime Minister. Frosti’s document, “A Better Money System for Iceland” suggested nothing less than an end to the right of commercial banks to create money. (A quick reminder; when a building society makes a loan, it is recycling existing money. But when a bank makes a loan, the money is created in the act of making the loan. Most money is created this way. See my previous post “How to Make Money” for more details). Frosti suggested that our money supply should instead be controlled by the Central Bank (those of you who think the money supply is already controlled by the central bank should read the official Bank of England report referenced in the post mentioned above). The name “Frosti” suggested that this was an April Fool’s joke, but it seems not – other sources have added further detail.
In their article, the Telegraph say
In Iceland, as in other modern market economies, the central bank controls the creation of banknotes and coins but not the creation of most money, which occurs as soon as a commercial bank offers a loan.
It is rather amazing that the way our money system works is now being openly discussed in national newspapers as if it was the most normal thing in the world. For decades there was an active campaign of misinformation – there was a view that if the public understood that they were being charged interest on money that the banks created out of nothing, there would be uproar. Perhaps the current view is that the public is so baffled by finance that they will not question the system.
At any rate, the gist of Frosti’s report is that money should be created by a money committee that is independent of government. When the committee felt that the money supply should be expanded, perhaps because of low inflation, they would create money to be spent by Government. When they wanted to shrink the supply because of high inflation, money could be collected in taxes, and written off. This is almost exactly the proposal of the UK organisation Positive Money. And there are very good reasons for thinking that commercial banks should not be able to create money. Quite apart from the fact that it is an outrageous scam, which allows banks to fleece the population of hundreds of billions of pounds a year, it creates serious instability. According to the UK Financial watchdog, Lord Turner, efforts to reform the financial sector
“have still failed to address the fundamental issue – the ability of banks to create credit, money and purchasing power, and the instability which inevitably follows. As a result, the reforms agreed to date still leave the world dangerously vulnerable to future financial and economic instability.”
Those of you who have read my previous posts will know that I am very critical of the system which allows the financial sector to shamelessly rob us. I have been a supporter of Positive Money for some time, and I am fully in favour of reform. But actually, I am not completely convinced that this is the best way to arrange things.
One problem is that there is no reason to believe that the committee would make sensible decisions. For at least two decades, the prevailing economic theories have been, frankly, garbage, that have left central banks baffled by events. One specific problem is that even qualified economists seem unable to distinguish different causes of a change in prices, which they lump together as “inflation”– and different causes require different treatment (more in another post?). My gut feeling is that the committee will be the priests of a disfunctional ideology that will leave us impoverished.
Another problem is that the proposal seeks to separate government from a committee of financial technocrats. There is understandable concern that a populist government would create money to spend recklessly, causing hyperinflation and malinvestment, but the other side of the coin is that there are many occasions where policy comes first. For example, Europe is currently hurtling towards a desperate energy crisis; the UK is hurtling towards a crisis of inequality; the US is hurtling towards a desperate water crisis; the world is hurtling towards a Carbon Dioxide crisis; only enormous government spending can solve these problems. Can we allow idealogical financiers to stop us? There is no guarantee that rational governments will actually take the necessary action, but without at least the possibility of massive government spending, there is no hope of a solution.
Positive Money believe that a fixed money supply will solve the problem of inequality, but this is not supported by the evidence. Money lenders can still operate with a fixed money supply, and their power to accumulate gold and silver at the expense of the poor has been a bone of contention since antiquity. That greatest of all economic thinkers, Jesus Christ, identified money lenders as public enemy number one, commenting ruefully that the poor would always be with us.
The Political Compass is the idea that politics is not simply left and right, but also up and down. To the left, people believe the strong should support the weak; to the right people believe the strong have a right to exploit the weak. Upwards, people believe that there should be central control and hierarchy; downwards is the belief in devolved freedom of action and anarchy. Everyone has their own personal preference in the space defined by the conflicting instincts to protect and to exploit; and to control or to be free.
The prevailing economic orthodoxy is down and to the right – neo-liberalism is the idea that the strong should be freed from regulation and allowed to exploit other people. My own fundamental position is down and to the left; the purpose of the state is to free people from control and exploitation. My natural preferences, together with my reading, have convinced me that the best system is one in which money can be created by banks in the form of loans; but that banks should be not-for-profit institutions; and that all interest on such money should go to the government in lieu of taxation.
If you have any questions or comments I would be delighted to hear them!