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The Guardian: Haven for Cranks

One way in which the notion that banks can create credit out of thin air has got into circulation has been through the Guardian.

“Money from thin air” was the heading of an article by James Robertson published in 20 March 2008 in which he claimed that

commercial banks are allowed to create almost all the money we use. They create it out of thin air and put it into circulation in the form of profit-making loans. They credit those to their customers accounts by a simple accounting procedure, and their customers spend the money into circulation.

That banks give loans cannot be denied –that’s one of their functions –nor that those given a loan spend the money. That’s not the point at issue, which is: Do the banks create this money out of thin air by a simple accounting procedure? Or are they transferring previously existing purchasing power? In other words, are they creating purchasing power that did not exist before? In asserting that they do, Robertson has some other questions to answer. Why do banks compete with each other to attract people’s savings (i.e., money people don’t want to spend for the time being)? What is the difference between a bank and a moneylender? Do moneylenders, pawnbrokers and loan sharks also create money out of thin air when they make a loan? If not, why not?

In an article by Richard Werner and Green Party MP (and then Party Leader) Caroline Lucas on 12 February this year the two asserted that:

banks simply pretend that borrowers have deposited the money they lend them, and thus create it out of nothing, when they credit their deposit accounts, adding to the money supply.

When they make a loan, banks generally do open an account for the borrower to which the amount of the loan is credited, but it does not follow that this has been created “out of nothing”. In fact, it has to come from what the bank has, either from outside depositors or from what they themselves borrow. Banks are essentially financial intermediaries which borrow money (depositing money in a bank is in effect lending it the money) from savers and lend it to investors (those who want money for some project). Their income comes from the rate of interest (if any) they pay those who lend them the money and the higher rate they charge those who borrow it from them. Bank profits are what is left after their expenses (buildings, computers, staff costs, etc) have been paid out of this income.

In the build-up to the present crisis, according to an article to an article by Deborah Orr (14 July):

“The big international banks manufactured money, using very simple raw materials. All they needed were computers and borrowers. Every time they made a loan, the banks simply typed the amount they were lending into their computer system, transferred it to their victim's account, and charged interest for the privilege.”

The fact that she herself described this as “the closest thing to alchemy that humanity ever contrived” ought to have alerted her that there was something wrong with this account.

If the banks she referred to only needed computers and borrowers, how come some of them got into serious difficulty when the rate of interest at which they had been borrowing money on a short-term basis rose, squeezing their income since they were unable to raise the rate they charged borrowers? Clearly, they did need the money to lend as well as their computers.

Orr went on to give her support to a bank reform under which banks would be “lending from their capital, not ‘lending’ money they had conjured up from thin air of cyberspace.” She didn’t seem to realise that this is what banks already do today.

Only a woolly-minded reader of the Guardian would believe the tosh that banks can conjure up the money they lend from “the thin air of cyberspace.”