As promised, here is part II of my attempt at analysing modern banking. This is considerably more simple, but if I don't cover this I can't draw good conclusions.

First, a subtlety I missed as far as a "run on the bank" goes.

Once a private bank has loaned out £100 to these extra 32 people, it then "owns" £3200 pounds of debt - though it also liable to requests of £3300. Now, if more than 3% of a troubled bank's customers request "their cash", if there are still multiple banks, the system won't collapse. This is because it can either sell these £3200 pounds of debt-assets to other private banks, in return for cash, or it can use these debt-assets as collateral to borrow money from other banks, which will be requested in the form of cash. As a good example, more than 3% of customers of Nork went to ask for their cash at once and the financial system didn't collapse; simply as it wasn't more than 3% of customers to all English banks.* However, that the wealth of the entire population of the UK rests on "any 3%" of the wealth of the entire population remains valid.

Now that that is cleared up, let's move on to interest rates. Everyone has heard that increased interest rates are supposed to "reign in" inflation, and lowered ones "encourage growth". The reason is exactly what you may imagine - with higher interest rates, less people want to borrow, and with lower interest rates more. Let's take this though, in light of part I.

As I described, when someone, say "the mighty Goldon",** borrows from the bank they are actually creating "money" (though not cash), presumably to spend it. This will both directly increase (nominal) Gross Domestic Product by the spending and produce inflation which detracts slightly to the value of all other money. More people will do this when interest rates are low and there is more incentive to borrow money as the repayment is lower, hence the more the increase in GDP (nom).

One could very easily ask "But doesn't the increase in inflation mean that real GDP doesn't change?", and that may well be true, but when the government's inflation data is faked to be too low, it is difficult to say.*** In short, with the artificially low inflation data that the government produces, the expansion of the money supply by this borrowing of money looks like it increases GDP, nominal and "real", and hence growth. I said the limiting factor of how much "bank money" banks can create from a £100 in cash is related to the number of people who come in and ask for their cash at any one time, and while this is certainly a hard limit, a further limit is simply how many people come into the bank and ask to borrow money. When interest rates are decrease the demand for loans increases beyond the banks ability to lend and still maintain enough cash to fund people coming in to ask it, the bank has a problem. This is simply solved by encouraging people to not come into the bank and ask for their money - remember cash machine charges? These weren't to make money directly from people asking people for their cash, they were to discourage people from asking for their cash in the first place. Remember all those adverts to use "x"'s credit cards and debit cards? These were as much about encouraging existing customers to use this "safer" alternative as they were to encourage people to switch to "x". With less usage of cash, and more usage of cards, the banks can loan more money and expand the money supply further causing inflation.

So, low interest rates can be seen generally good for the government concerned with growth. Why bother raising interest rates at all then? Because, not surprisingly, people don't like inflation, they don't like the value of what they hold diminishing each year, and the government eventually has to deal with every extra pound of money supply that banks create meaning there is an extra pound of debt to be paid. This increase in interest rates causes more saving and less loans, which will tend to contract the money supply as people pay off their debts and thus cause deflation (or rather, less inflation).

An important part of this system I have yet to mention is its eventual and inescapable doom *evil laugh*:

Imagine a third scenario, in this scenario there is no government owned central bank, but there is any number of private banks, who's "money" is legal tender. The situation can be imagined as similar to today in Britain, but that dealing in cash is declared illegal, and so cash does not exist - feasible at least. In this situation, ALL money represents debt, for money to exist it must be borrowed from the bank. So, say Goldon is the first person in this system, and borrows £100 at 7% interest a year. The next year, he owes £107. Where does this £7 come from? There's only £100 in the world right now, and so the only way to pay this extra £7at the end of this year is to borrow more money. This means Goldon has to recklessly expand his enterprises every year, every day even, because what he owns has to be larger and larger so that he can borrow more money on new collateral to pay off the interest from the first moment money is created. If he ever stops expanding, if he say "there is nothing else to get", and lays down, then he must declare myself bankrupt and give everything to the bank. From the initial vipers kiss of borrowing, he is overrun with venom, coursing through his economic veins until there is nothing but to fall defeated.****

Now, take a system where 97% of all money is debt based, such as the UK, and you can see that (apparently) the only way out of debt that the above system doesn't have is to swamp the country in paper cash, which would cause massive inflation when this extra cash is multiplied through the fractional reserve system. In short, without legal restraints on the capital reserve ratio, or massive public repugnance at giving money to banks, the British government is just as incapable of coming out of debt as this imaginary one. This is exactly where the deflation/inflation argument comes in, but this is already too long. It fits well with part III anyway.

I'm sorry that this is more long winded than I, as I have yet to explain to enough people to work out what parts I can cut down. If you see any mistakes, glaring or otherwise, do speak up....


*As it transpired, most of these people simply took cash out of Nork and walk across the road and place it another bank, such as HSBC. Nork would then sell it's assets / loan money with the assets as collateral from HSBC, and request it "in cash" which would go back to Nork so they could give it to the next round of customers coming in and asking for their money. This was however very costly, due to the high price paid for loans / low price Norks assets were valued at, which is why they asked for BoE assistance.

**"Golden Gordon" = "Goldon"? No?

***The government has every reason and every capability to fake inflation data. The main reasons are (1) To keep public sector pay down, (2) Appear that they have a stable monetary policy (3) Keeping interest rates down, encouraging more of this "growth" (4) Lie about how much this "growth" is in the first place. The main capability involves making sure goods that are known to go down in value have a high weighting in "inflation basket", such as computers and electronics (recently in the US, Blue-Ray players), and those that go up, such as fuel and house prices, have low weighting or none at all. At the end of this year, you may well see house prices added to the "inflation basket", as they would make it lower than it really is.

****Believe it or not, this is actually a very good approximation to the USA, as the "Federal Reserve" is a private bank, and the government pays to borrow all money printed from it. Since 1987, America has had no technical way out of debt without bankruptcy of the state, the populace, or both. This is part of a long struggle between the Federal government and private banking, which America lost for possibly the last time in 1913. The date I give is for executive order 12608 signed in 1987 by Reagan, rescinding executive order 11110 issued by Kennedy, which ordered the treasury to print its own money, rather than borrow it at interest from the Federal Reserve.

p.s. Injin, tell me what it is I missed!!

Brilliant....Absolutly brilliant

I am learning so much from this.

Thank you

Steve

Good articles, hard subject to explain, I have read about the system and F R Banking, the Fed, the Rothschilds, all central banks and the like for years, it still gives me a headache!

Interesting points about the switch to CC's and DC's.
This raises a question that I have thrown out there a few times before - explain the ramifications of turning ALL money into DIGITAL money!
No need for cash at all.
Everything will be - as Injin likes to point out - merely bytes of information on screens, nothing more.
At this point, is it possible to have a RUN on a bank?

By turning all money into merely information, surely the sky is no longer the limit? The powers that be can control, COMPLETELY, all monetary transactions, all inflationary/deflationary pressures, EVERYTHING, at the mere stroke of a key. Without the limitations of the need for CASH the illusion is complete.

Anyones views please?

In short, no, no runs on the bank. Such a system essentially prevents people from "calling" the banks slight-of-hand. It has the obvious fault I outlined- that it relies on eternal, exponential expansion of the money supply, and therefore debt (as the two would be absolutely synonymous). It would again rely on the eternal expansion of thralls and goods upon which the debt is fixed, or necessitates large numbers of bankruptcies.

It is entirely possible for the gum'mt to suspend convertibility of "bank money" into cash in a total no-confidence situation today anyway. I think the U.S. did that in around 1933? Though that may have been between dollars and gold, not bank money and dollars, but the principle is the same.