Tag Archives: interest

How do central banks control interest rates?

Question: How do central banks control interest rates?

Answer: By creating counterfeit money.

Of course, they will never admit that. They see their “purchases” of debt instruments, mainly those of governments, as being legitimate. But such purchases violate sound monetary principles, and even their legality is questionable.

The obvious question that must be asked is “Where do central banks get the money with which to buy those debt instruments?” The answer is, they do not “get” the money, they create it–by fiat. This is  their celebrated “quantitative easing,” which is actually currency inflation. The new “high powered money” thus created puts new “reserves” into the banking system, which banks use to multiply their own purchases of government bonds and other assets.

Without this “monetization” of debts by the banking system, newly offered debt instruments, like government bonds, would have to offer higher rates of interest to attract buyers from the general public.

Interest rates on the ever-increasing amounts of sovereign debts can only be kept low by this sort of central bank intervention. As I put it, central banks are the “buyers of last resort” for bonds that cannot be sold at artificially low rates of interest. The chart below show just how desperate the situation has become since the financial crisis of 2008.

Interest Rate Elephant In The Room


Initially, however,  in the case of the Fed, the purchases were of “junk” that the banks had created during the real estate bubble. That was the bailout that saved the banks but put the squeeze on people through foreclosures, layoffs, and loss of income on their savings.

As shown in this chart and others I posted previously, all he major central banks are doing the same thing, so foreign exchange rates are not too adversely affected–yet. But keep your eye on Brazil, Russia, India, China, and other countries that show signs that they may not be willing to play along./ t.h.g.

Do Banks Create Money out of Nothing?

One of my correspondents recently referred me to an article and asked for my opinion about it. The article is Creating Money out of Nothing: The History of an Idea, by Mike King, dated April 2012 .

I read the abstract, the conclusions, and part of the body text, but could not bring myself to make a detailed read. “The history of an idea” is not relevant to my interests nor to the debt crisis that plagues civilization. Verbose and tedious, it seems to be an academic exercise that I doubt  will be of interest even to historians.

On the positive side, it did prompt me to write a few words of clarification on the question, words that I think are both pertinent and helpful to those who truly wish to understand the nature of money and the role of banks in today’s world.

The accusation that banks create money out of nothing has, according to King, been made by many famous economists, including Schumpeter, von Mises, and Keynes. I too must admit to having once or twice used that statement as a sort of shorthand criticism of the global money and banking system.

It is surely true that saying that banks make “money out of nothing” is an exaggeration that can be misleading to the uninitiated.

Bank actually create money out of something. The question is, what is that something, and what is wrong with it?

The short answer is that banks create money on the basis of the promises of their borrowers to repay.

Mr. King would have us believe that banks simply take in money from savers and lend it out to borrowers. That is clearly wrong. Even the Federal Reserve, in its own publications, says that,

The actual process of money creation takes place primarily in banks.(1) As noted earlier, checkable liabilities of banks are money. These liabilities are customers’ accounts. They increase when customers deposit currency and checks and when the proceeds of loans made by the banks are credited to borrowers’ accounts.

In the absence of legal reserve requirements, banks can build up deposits by increasing loans and investments so long as they keep enough currency on hand to redeem whatever amounts the holders of deposits want to convert into currency. This unique attribute of the banking business was discovered many centuries ago.–Modern Money Mechanics

As I’ve pointed out in all of my books, banks serve two primary functions. They act as both depositories, reallocating funds from savers to borrowers, and banks of issue that monetize the promises of their borrowers. I’ve explained that in detail in Chapter 1 of my book, Money: Understanding and Creating Alternatives to Legal Tender, and in Chapter 9 of my latest book, The End of Money and the Future of Civilization.

But not all promises provide a proper basis for creating money. As Edward Popp, describes it, banks create both bona-fide and non-bona-fide money. (See Money, Bona Fide or Non-Bona Fide at http://www.reinventingmoney.com/documents/bonafidePopp.pdf).

The vast majority of the non-bona-fide money that banks create, is created on the basis of loans made to national governments (when banks buy government bonds). Further large amounts of non-bona-fide money are created when banks make loans to finance purchases of consumer goods and real estate (see my books for details). This is a violation of the principle that money should be created on the basis of goods and services on the market or soon to arrive there, which includes promises of established producers who are ready, willing and able to sell for money the things they ordinarily offer.

The bottom line remains: the present global, interest-based, debt-money system, is dysfunctional and destructive.

The creation of money on the basis of interest-bearing loans is the cause of the growth imperative, and the creation of non-bona-fide money is the cause of inflation.

If we are to achieve a sustainable society and assure the survival of civilization, we must transcend the present money and banking paradigm and reinvent the exchange process.  – t.h.g.

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Counting the Cost – Money for nothing

Tarek El Diwany and Jem Bendell have done a great job in this Al Jazeera interview program explaining the dysfunctional features that are built into the corrupt global system of money and banking. They also cover Islamic banking and mutual credit clearing. This is a “must watch” video.—t.h.g.

A History of Usury, Interest, and the “Great Con-job”

Here is a well done video by Islamic scholar Tarek El Diwany, in which he outlines the history of usury and interest and explains difference between them. He goes on in parts 2, 3, and 4 to describe the evolution of the present destructive debt-money system and the choice before us. Well worth viewing.–t.h.g.

Lie more about LIBOR—Giethner’s claims “not credible”

Here’s a video from Yahoo! Screen featuring an interview with Neil Barofsky, former Special Inspector General in charge of the TARP bailout and author of a new book, Bailout: An Inside Account of How Washington Abandoned Main Street While Rescuing Wall Street.

In this interview, Barofsky says that Treasury Secretary Tim Geithner’s claims about his LIBOR whistle-blowing are “not credible,” and that the entire regulatory process has become “captured to the interests of the banks.”

Barofsky says that LIBOR was built into the bailout plan, so the fraud means the taxpayers are being repaid less than they should be, and added “I hope we see people in handcuffs.”

Watch it here.

Usury, Interest, and Islamic Banking

One of the most popular posts on this site has been David Pidcock’s View on the State of Islamic Money, Banking, and Finance, which was posted in January of 2008. Over the past few years, these subjects have continued to draw increasing attention, and interest in interest-free financing has continued to grow in both the east and the west. It is not only on the basis of religious belief that the subject of usury is once again being debated (mainly in the Islamic world), but increasingly on account of the obvious and overwhelming expansion of debt throughout the world.

In November of last year (2010) the First World Conference on Riba was held in Kuala Lumpur, Malaysia. (Riba is the Islamic term for usury). In recent correspondence from David, he argued that there still are no truly Islamic banks. He also sent along one of his papers that he presented at the Riba conference. Whatever your preconceived opinions about the subject might be, I think you will find his paper to be interesting and informative. I have made it a permanent part of this website, which can be found in the sidebar under Other Resources, or just click on the title here, Riba? Part 1.


The World’s Ominous Reckoning

My latest article, The World’s Ominous Reckoning, is featured on Reality Sandwich. It was also excerpted and posted on the P2P Foundation blog.

For your convenience, I also post it here.

The World’s Ominous Reckoning

By Thomas H. Greco

In a recent Washington Post article titled Europe’s ominous reckoning [1], economist Robert Samuelson correctly argued that “Ireland’s economic crisis is … not about Ireland.” What he seems to not recognize is that “Europe’s ominous reckoning” is not about Europe.

The reckoning will be global because the money and banking regime is global — and deeply flawed.

Discussions about possible solutions to the debt crisis tend to degenerate into ideological bickering because ideologies provides an inadequate framework in which to understand the nature of the problem and discover real effective solutions. Fiscal conservatives want to cut social spending so as to avoid raising taxes on the rich and privileged class. Political liberals have largely caved in to the same interests because they think that supporting the privileged class’s agenda is their only hope of gaining power. They will pay lip service to a social agenda and throw a few crumbs to the masses in an attempt to get elected, but they will ultimately advance the same elitist agenda, as have Presidents Clinton and Obama. Progressives argue that budgets can be balanced by cutting the military budget and raising taxes on the rich, but they remain impotent because political power has been so thoroughly centralized that popular progressive agendas have not a prayer of being implemented. Even if they were, they would simply make matters worse because under the present money and banking regime, a balanced government budget is not possible. How can the debate move beyond ideologies, and common ground be found?

Samuelson, like almost all conventionally trained economists, blames the woes of Ireland, and every other country, on failures in policy. He says, “Most European economies suffer from the ill effects of some combination of easy money, unsustainable social spending and big budget deficits,” but he fails to address the deeper questions of why? Why has money been easy? Why is social spending unsustainable? Why have budget deficits been too big?

It is not only a problem of European economies, it is a problem for virtually all national economies. As Samuelson points out, even the most prosperous countries have accumulated enormous debts. The governments of Germany and France, for example, have, respectively, gross debts of 76 percent and 86 percent of GDP (GDP is a measure of total economic output). The debt of the United States government is projected to exceed 100% of GDP within the next couple of years. And this picture does not even include the debts of lower levels of government — states, counties, and municipalities — or all of the private sector debt that burdens companies and individuals.

If the world has become so prosperous and productive, why all this debt, and why does it continue to grow ever more rapidly?

It is not a matter of policy, i.e., how we operate a flawed system. The problem is structural and systemic. The system is designed to create debt, and ever more of it. Like a pernicious cancer, debt is a parasite that is killing us, and in the end a parasite will die along with its host. How much of our well-being shall we sacrifice to keep feeding this cancer? Are we willing to starve ourselves and our children, to endure cuts in spending for education and public services, to sacrifice our hard-won freedoms, in order to sustain a system that despoils the earth, destroys the social fabric,  and creates ever greater economic inequities?

A few have been calling for “debt forgiveness,” a remedy analogous to cancer surgery. That may be a good start, but even that does no go far enough. We can excise the cancer, but if we do not recognize and eliminate its fundamental cause it will simply grow back. We can restart the game of Monopoly, but the outcome of the next round will be very much like that of the previous round unless we change the rules — or choose to play a different game.

The fact is, there is a debt imperative that is built into the global system of money and banking, and debt is eating us alive. As I wrote in my first book more than 20 years ago, our money system, based as it is on banks’ lending money into circulation at compound interest, requires debt to grow with the passage of time. Virtually all of the money today is created when banks make “loans.” The compounding of interest on these loans means that debt must grow as time goes on, not slowly, but at an accelerating rate. Ever greater amounts of money must be borrowed into circulation for this system to continue. When the private sector debt can no longer be expanded, government assumes the role of “borrower of last resort.” That is why government budget deficits have become chronic and continue to grow. In the latest cycle of Bubble and Bust, governments are rescuing the banks by taking “toxic” debt off their hands and giving them government bonds in return. In this way, the system can be sustained a little bit longer, but at costs that have yet to be tallied.

The current global predicament is the late-stage symptom of this fundamental flaw. Every political currency collectivizes credit. It is our credit that supports each national currency. We have allowed the banks to control our credit and we pay them interest for the “privilege” of accessing some of it as bank “loans.”

What must be done? The answer is simple, but few have been willing to hear it: interest must be eliminated from the money system to put an end to the growth imperative. To modern economists, such a proposition is heresy, foolish even, unthinkable! Interest to them is an essential inducement to save and invest and a necessary means of regulating credit and the economy. Nonsense, I say, a gross error and delusion fostered by incessant propaganda, media hype, and financial mumbo-jumbo. In an economy that is free from inflation, preservation of one’s capital is sufficient motivation for saving, and return on productive investments can be had in the form of ownership shares (so-called equity investment) instead of interest on debt. Such equity investments share both the rewards and the risks inherent in a productive enterprise, making the relationship between the user of funds and the provider of funds more harmonious and fair. As for regulating credit, we don’t need interest to do that; we can merely decide to withhold or offer credit, to whom, for what purpose, and in what amounts.

We need to learn to play a different game. We need to organize an entirely new structure of money, banking, and finance, one that is interest-free, decentralized, and controlled, not by banks or central governments, but by businesses and individuals that associate and organize themselves into cashless trading networks. This is a way to reclaim “the credit commons” from monopoly control and create healthy community economies.

In brief, any group of traders can organize to allocate their own collective credit amongst themselves, interest-free. This is merely an extension of the common business practice of selling on open account — “I’ll ship you the goods now and you can pay me later,” except it is organized, not on a bilateral basis, but within a community of many buyers and sellers. Done on a large enough scale that includes a sufficiently broad range of goods and services spanning all levels of the supply chain from retail, to wholesale, to manufacturing, to basic commodities, such systems can avoid the dysfunctions inherent in conventional money and banking and open the way to more harmonious and mutually beneficial trading relationships that enable the emergence of sustainable economies and promote the common good.

This approach is no pie-in-the-sky pipe dream, it is proven and well established. Known as mutual credit clearing, it is a process that is used by scores of commercial “barter” companies around the world to provide cashless trading for their business members. In this process, the things you sell pay for the things you buy without using money as an intermediate exchange medium. It’s as simple as that. According to the International Reciprocal Trade Association (IRTA), a major trade association for the industry, “IRTA Member companies using the “Modern Trade and Barter” process, made it possible for over 400,000 companies World Wide to utilize their excess business capacities and underperforming assets, to earn an estimated $12 billion dollars in previously lost and wasted revenues.”

Perhaps the best example of a credit clearing exchange that has been successful over a long period of time is the WIR Economic Circle Cooperative. Founded in Switzerland as a self-help organization in 1934 in the midst of the Great Depression, WIR provided a means for its business members to trade with one another despite the shortage of official money in circulation. Over three-quarters of a century, in good time and bad, WIR has continued to thrive. Its more than 60,000 members throughout Switzerland trade about $2 billion worth of goods and services annually.

Yes, it is possible to transcend the dysfunctional money and banking system and to take back our power from bankers and politicians who use it to abuse and exploit us. We do it, not by petitioning politicians who are already bought and paid for by an ever more powerful elite group, but by using the power that is already ours to use the resources we have to support each other’s productivity and to give credit where credit is due.

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