Monday, April 23, 2012

Where Does Money Come From? Hmmm...

Answer:  "Whether paper cash or numbers on a computer screen, all money (except coins) is “evidence of debt”. Cash can be the familiar paper stuff, or it can be credit at a central bank used to settle accounts between banks. (“Credit cash” at the central bank is always convertible to “paper cash” upon demand.) Cash is created out of thin air by the central bank of a country. The central bank then uses this cash to buy interest-bearing public debt in the form of government bonds. Government debt is perpetual and thus interest paid on it is perpetual. A good definition of cash might be: "evidence of public debt on which taxpayers pay perpetual interest"Credit is everything that isn’t cash. Take for example your bank account. It tells you how much cash the bank OWES you, if you demand it. All those numbers in bank accounts are just “promises to pay cash”, nothing more than IOUs. However, we typically think of these bank IOUs as “money”. Little wonder. This "checkbook money", especially in electronic form, is much more convenient and secure than paper money. Thus we can transact all of our business with these promises to pay cash (IOUs) instead of cash itself. So, are there more promises to pay cash than there is cash to fulfill them? You bet. That is because banks usually make “loans” by promising - rather than providing - cash. With a base of “cash” usually much less than 8% of the total they “loan”, banks create their “promises”. How? Simple. You, the borrower, promise in writing to pay the bank X amount of money over time plus interest on the outstanding balance. Your promise is backed by collateral. Your promise to the bank is thus an ASSET to the bank. To balance its books, the bank creates a matching LIABILITY. The bank promises the borrower X amount of “cash” on demand. The “loan money” that the bank puts in the borrower’s account is not “cash”. It is an IOU. It need never be cash unless the borrower demands cash. And, because we accept these IOUs as money itself, and do almost all of our business trading these convenient and secure IOUs instead of inconvenient and risky cash, banks can safely issue many more IOU’s than there is cash to back them up. Perhaps the simplest and most "magical" feature of this system is "net" transactions. Only the net differences of transactions between banks need to be paid in cash. In theory, if all the banks are getting as much bank credit coming in as is being withdrawn, all the IOUs balance each other out at the end of the day leaving a net difference of zero. No cash required at all, from anyone! In practice, however, banks are competing. Winners can demand losers pay in cash. But that amount is still only a small proportion of the whole amount of credit issued. The exception to all this is coins. They don't begin as debt. The government Mint stamps them and the government sells them at face value to the banks, no returns. But coins are an insignificantly small part of today's money supply. The significant thing about coins is that most people’s understanding of money has not yet developed much beyond the idea of coins, simple "tokens of value". They fail to see how we have a money system based on "evidence of debt". The current system of “money” is, in truth, financial control by our so-called “creditors". The truth is that WE are the real creditors, because it is WE who produce the real value in the world, not the banks." (By Paul Grignon, the creator of MoneyasDebt)