On 29 May 2013, Mike Montagne revived a discussion of October last year. He commented on this remark I made:
“Interest is not a problem for the circulation, because interest paid to the bank returns to the economy."”
I now reply to some of the things he wrote in his long comment.
Mike Montagne wrote:
“Neither you nor the bank issue a credible explanation *how* interest paid to the banking system "returns to the economy."
I did. To quote myself: in article 4 I wrote:
“What does the bank do with its income,
part of which it receives as interest on outstanding loans?
Part of it is paid out, again as interest, to the persons and companies that deposited the money in the bank, the money the bank uses to grant loans.
Dividend, like credit interest, must largely be earned by the bank as debit interest.
Another part of the bank’s income is used to cover operational costs. Examples are: salaries for bank employees, rent for rented office buildings, foregoing of interest for owned buildings, costs of computers, web servers, software, communication equipment, security.
As mentioned before, a bank needs to build up reserves, such as loan-loss reserves, to be prepared for what nobody hopes will happen, but nevertheless sometimes does: loans becoming non-recoverable.”
Mike Montagne also wrote:
“Jake therefore makes a vital point which you evidently either do not understand, or intend to deceive us (like "the bank") precipitates in no more than rightful ramifications — which of course you neither justify.”
Why so paranoid? All I ever do is try to find out and understand how things really work, and then tell other people about it. I never deceive anyone. Why should I?
Mike Montagne continued:
“ "Interest" doesn't just magically
return "to the economy" without incident. It returns by either
of two courses:
a) we earn it back into circulation; or,
b) we must borrow it back into circulation.”
That’s right. So for the economy as a whole, no money disappears by being paid as interest. Paying interest doesn’t cause a shortage of money, on a macro-economic scale.
Interest is a reasonable compensation for a useful service. You can only buy that service if you can afford it. So yes, you must earn it, or else borrow it. (That latter is not wise, but possible.) There is nothing special about interest in this respect. It is a fee for a service, like so many other services and products that cost money if you want them.
Mike Montagne in fact wrote the same things several times, which is why I sometimes quote him out of order, picking the clearest of his formulations:
“[...] the fact is, that unless we *do* earn *all* assumably warranted interest back into "the economy," we are forced instead *to borrow* it back into circulation. ”
This is simply untrue. All the interest that a bank receives (with the exception of the loan-loss reserve) is spent back into the economy, and so it is also earned by someone in that economy. The loan-loss reserve remains in the bank, so nobody borrows it. That means none of the interest is “borrowed back into circulation”, everything is earned.
Of course, this circulation applies to the whole of the economy, not to each and every person or company separately. It is everybody’s own responsibility not to overspend, not to let expenses exceed earnings, or else compensate it temporarily with affordable loans. If anything goes wrong with that, that is not automatically the bank’s fault.
“The submitted question, and the
banking system's evasion of answers which are obvious, [...],
in fact demonstrate both:
c) that the banking system means to continue to deceive us that it actually "loans" previously non-existent money into circulation, [...]”
A bank loans existing money into circulation, i.e. loans are funded by deposits and shareholders’ money. Sometimes the funding for the loan initially comes from the borrower himself.
That is what the word ‘money’ means, in the ordinary, every day sense, which in fact is ‘value expressed as a dollar amount’.
Paradoxically, granting a credit automatically causes money creation, but now with ‘money’ in a special monetary sense. But this money creation does not make the bank any richer: in terms of value, the net effect is zero.
This is difficult to understand, but it is true. That so many people fail to understand this, is one the underlying causes of a widespread, unjustified mistrust of banks among the general public.
Mike Montagne wrote:
“[...] to maintain a vital circulation (a circulation sufficient to sustain the industry and commerce [...]”
That is what central banks are doing every day. How they do it is explained in detail in MMM, Modern Money Mechanics. It’s downloadable as a PDF here.
Maintaining enough money in circulation involves money creation and money destruction. Again, with ‘money’ in the special, monetary, non-intuitive sense. For example: money in a bank is never monetary money. More examples of such strange truths are in my article no. 16.
Note also the different functions of money.
Mike Montagne stated:
“We understand many things from the only comprehensive answer – including why federal governments of every republic across the world are forced to over-spend, [...]”
They are not forced to overspend, but they do it anyway. Why? Because they want to be popular so they will be re-elected. Spending government money is appreciated by people and companies that benefit from it. Governments hesitate to raise taxes accordingly, although that is the logical consequence of spending more tax money.
Result: governments continuously spend more money than they receive as taxes. Instead, they borrow money from oil sheikhs and the Chinese. Voters don’t directly ‘feel that’, so they don’t care.
That unfortunately is one of the disadvantages of democracy. But I still prefer democracy over dictatorship.
“Many people have simply claimed that because *they merely assume* *we can* earn interest from the banks, interest does not multiply a sum of falsified debt into the very terminal sum of falsified debt everywhere around us. But the faults of this ever-unqualified, assumed gem of a retort are the very reason the world suffers the present terminal monetary failure.”
There is no “falsified debt”. You only think so because you don’t understand how money creation works. My article series explains it.
The “present terminal monetary failure” isn’t caused by money mechanics, but by:
Failing risk assessment: risky mortgage loans, given to people who could not afford them, had to be re-evaluted, which caused reserve problems on banks’ balance sheets.
Overspending by governments, as described above.
Overspending by people who want to seem wealthier than they are.
Mike Montagne claimed that:
“[...] the banking system merely publishes further representations of our promissory obligations *to each other* - which are neither debts to the banking system, nor which comprise any risk to the banking system as only purportedly justifies interest.”
You do not seem to understand what banks are for, what they do and how they do it. Transforming amounts, durations, and yes, also risks, is their core business. Here is an explanation.
Part of the previous quote again:
“[...] the banking system merely publishes further representations of our promissory obligations *to each other* [...]”
You do not seem to understand much about accounting either. Here’s a simple explanation.
“[...] that it is possible to recover from sums of debt it is impossible even to service, [...]”
I don’t know how that is in the USA, but here in Europe, many governments do not only borrow from Arabs and Chinese, but also from their own population. Lower taxes means they can save more money and put more money in pension schemes, so the government can borrow more money to overspend and keep taxes down.
Everybody happy? Or everybody fooling themselves?
See also this continuation of the discussion, now entitled “Representing all value?”.
Copyright © 2013 R. Harmsen. All rights reserved.