What Is Money?
We all use money. We need it to buy things. We work hard to earn it. We save it for retirement or the proverbial we all rely on money. So why don’t we know how money works? Why is there sometimes too much of it making us believe that good times will never end? Where did all that money come from? And why is there suddenly not enough money around? Why are people struggling to pay their bills? Where did all that money go?
The surprising fact is that most of the money in the circulation is created by banks. Like a magician, banks make their money up whenever they give loans. This money is not what it seems because it is created and is temporarily on loan from the banks. We use it as money, we believe it is money, but because it is created at some point in the future it has to be paid back and when it is paid back it disappears. This is not a magician trick! This is how almost all our money is created and destroyed. So how dependable is that bank-created money that we all rely on? Banks make their profit by charging interest on loans. Therefore, as long as they are confident with the economy they want to lend as much as possible.
More loans and mortgages mean more money is created and before you know it, house prices go through the roof! But if they give too many loans, the debt burden becomes too large. People struggle to pay them back and so banks stop lending and suddenly, there’s not enough money! Businesses go bust, people lose their jobs and houses are repossessed. This is what caused the financial crisis and fundamentally nothing has changed since then. Money is still conjured up by the banks and it still disappears when debt is repaid.
When a bank extends a loan it creates money. Let’s say that I want to buy a very expensive watch worth a hundred thousand and I don’t have the money. I can go to the bank and ask for a consumption loan. If they are a good bank, they will say no to the consumption loan to buy this very expensive watch. On the other hand if they give me, a couple of facts will take place.
- They will not put the money in a bag. They will take my credit card, passport and other proofs of address.
- Then they will bang the computer keyboard and digits will appear in my account. In other words, they will electronically show I now have money in my account by adding numbers equivalent to the loan they have given me.
- I walk to the shop and buy the watch, a very happy person.
This is the way money has been created. This money didn’t exist before I decided to take a loan. That’s how banks create money by bringing new money into the economy as they make up loans.
When the banks decide the economy is good, and there is a lot of optimism, it now becomes time to make loans. They don’t have to wait for any deposits because when they make a loan they create a deposit right there. Banks create money out of thin air!