Monday, December 22, 2014

Lord Keynes — Who Knew!? Banks Create Money out of Nothing

LK critiques the Richard A. Werner paper linked to a MNE yesterday.

Social Democracy For The 21St Century: A Post Keynesian Perspective
Who Knew!? Banks Create Money out of Nothing
Lord Keynes

1 comment:

André said...

"Banks Create Money out of Nothing". This sentence is extremely misleading, although repeated a lot in economist discussions. If you read it without proper attention, it will seem that money grows up from secret trees that the evil banks harvest in their infinite and luxurious magic gardens, and that they have some superior power that mortal people don’t have.

Banks do not create money out of nothing.

First, the definition of “money” is usually problematic, because people like to include Central Bank’s notes, coins and reserves in the same group of commercial bank deposits, which is very problematic. When you talk about money, people usually think about notes and coins, and not about commercial banks deposits, so it wrongly seems that commercial banks have the power to print notes and mint coins.

But let’s suppose you define commercial bank deposits as money, as usually is done by most economists. Then you can say that banks create a kind of money, but not “out of nothing”. They create a kind of money in exchange for something, usually for the formalization of a promise of paying back a loan. But commercial banks may create this kind of money in exchange for deposits in cash too, or for reserves transfers from another bank. A promise is something, and commercials bank create a kind of money out of a promise.

“Banks Create a Kind of Money out of Promises” is a less misleading sentence.

And you, as a person, may do that too. If you define money as Promissory Notes, you can issue your own kind of money too, “out of nothing”, or usually in exchange for something (like a good or a service or a promise). There is no magic in that.