Day 79: Monetary Policy - Part 2

I forgive myself for accepting and allowing myself to think that it is normal that banks are able to lend out money they don't have and, on top of that, charge an interest fee - which means that, when the bank wants to collect money owed to it - it will receive funds from various different individuals plus interest - and as such sucking all the funds towards itself, out of people's wallets.

I forgive myself for accepting and allowing myself to think that the story of the money supply is really as simple as it is as how it is presented in economic textbooks - while, in actual fact - money doesn't just 'get created'. Because when a loan is given and some positive number is written in a person's account - at the same time a negative number is created: as debt - and thus, even though it seems that money was created, it did not, because the debt must be paid - and the debt must be paid to those who created the money out of thin air: the banks.

I forgive myself for not accepting and allowing myself to see and realise that the apparent 'generosity' of banks in 'wanting to help you out' with buying a new house or a new car, is attached to a day of reckoning, where outstanding funds are collected and if the moneys can't be paid - the bank will take everything you own and you are left with nothing - and herein there is no mercy or generosity - only the actual reality of the situation: Greed.

I forgive myself for not accepting and allowing myself to question a world where each one apparently has the right to a decent life, but where, if one is unfortunate or has made a bad decision in life - one can end up in a situation where one's house, car and all valuable assets are taken away, becaues the bank is trying to mitigate its losses and what that means to you is really irrelevant as you are just one little player in their big money-making scheme.

I forgive myself for not accepting and allowing myself to realise the absolute abhorrence of the nature of the human race if we think it is okay and acceptable and normal that wealth and money come before each one's basic human rights - and where we don't even stop to think what it means if banks have the ability to take away people's houses just because a person doesn't have enough money - instead of realising: who the fuck cares how much money a person has - each person needs a house to live in - as a human being, it is a simple common sensical point to take care of one another and make sure each one has a fucking roof over there head - who the fuck are we if we can't even fulfil such a simple, basic point?

I forgive myself for accepting and allowing myself to define a person's worth according to the number in their bank accounts, instead of realising that a number is just that: a number - it doesn't even refer to anything real, it is just a digital picture - instead of realising the value of the person as a physical human being and treating each person as such - an equal - because we all breathe, we all shit, we all eat, we all piss - and therefore no-one can say that they are better than another from a physical stand-point - we are all the same - and therefore, any value system must consider our actual physical reality and recognise the equality of reality - instead of entertaining the inequalities of all the fictional parts that we perceive to form part of reality, such as money, opinions, thoughts, beliefs, etc. - because if our value system only considers fiction, then we disregard the physical reality - and this can be measured in fact, as we see the status of the physical world deteriorating each day, with more species going extict, with more air and water being polluted, with more land becoming unarable, with weatherconditions increasingly becoming more erratic, with natural habitats being destroyed each day.

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Day 71: The Money Supply - Part 1

What is 'Money Supply'?

The money supply refers to the liquid assets that are held by individuals - it includes coins, notes and demand deposits (cheque accounts). What notes and coins are is clear - but what are demand deposits? If you have a cheque account in which money was deposited - the bank has to pay out deposits in cash on demand, or has to transfer it immediately on demand to another bank or account holder. So - demand deposits - the money in your cheque accounts, is as good as notes due to immediacy with which the money becomes available. The money supply, in simple terms, refers to all the money that is in circulation in an economy, that is available to individuals to purchase goods or services with.

Why does it matter how much money is in circulation?

The amount of money available in circulation has an influence on the prices of goods and services. Remember the following from the blog-post 'Inflation - Part 1':

"In other words - whenever the amount of money in circulation increases in an economy, the prices will go up. Check: the more money is available in an economy, the less it is worth, which is reflected in higher prices - because with the same amount of money in your pocket, you can now purchase less stuff, which means that your money is not worth as much as it used to anymore."

If the money supply keeps on increasing - so will prices - and the result will be inflation. Why?

Because - more money in circulation means more money available to people to buy goods and services with. In other words: the demand for goods and services goes up. If the demand for goods and services goes up (more people are willing and able to buy goods and services), so do their prices.

What factors influence the Money Supply?

1. Banks

The supply of money can be increased by increasing either the amount of notes, coins or demand deposits. Banks play a crucial role within the latter: banks have the ability to create money by increasing the amount of demand deposits.

The question, then, is:

How are demand deposits created?

Firstly: if a person deposits, for instance, $100 in banknotes with a bank, the bank will in return give the person a cheque book, which will give the person the right to write out cheques to the value of $100.

Secondly - and more importantly: Banks noticed that the demand deposits held by them were never all claimed/withdrawn at the same time. They would always have demand deposits 'laying around'. They figured that, instead of leaving the money to collect dust, they could lend this money to other people and charge interest on the loan. This means: the bank would give money to people who hadn't put money in the bank beforehand.

In the First case, nothing actually happened to the money supply: $100 was deposited into a bank - and thus removed out of circulation. This means the money supply decreased by $100. However, the bank issued a cheque book of the value of $100, thereby again increasing the money supply by $100. The money supply before the creation of the demand deposit is thus the same as afterwards.

In the Second case, however, the money supply does change. Using the same amount as an example: Someone deposits $100 into a bank. The bank issues a cheque book of $100 - the money supply balances out. However, of the $100 deposited, the bank decides to lend out $80 to someone who needs and seems creditworhty enough (showing the capability to pay back loans). Now the money supply has increased with $80. At first there was just one person with $100 in their pocket, after the bank did its magic: there was one person with a $100 cheque book and another person with $80 of credit.

Is there a limit to the amount of money a bank can create?

Although small, there are limitations to the amount of money a bank can create.

At any time, a bank must have sufficient cash reserves to be able to provide for cash withdrawals. Secondly, a bank must be able to provide for claims of other banks. What does this mean?

Remember our example of someone bringing in $100 in his bank and receiving a cheque book of the value of $100. If this person writes a cheque of $100 to his landlord, the landlord will go to his bank to cash the cheque and receive $100 for it. The thing is that the landlord's bank and the bank of the person who wrote the cheque, are not necessarily the same one. A bank must therefore always make sure that it is able to provide for the claims of other banks.

Individual banks don't decide how big a percentage of received deposits they keep aside in the form of cash reserves - this is the job of the monetary authorities: the central banks.

Let's say that the central bank dictates that at all times a bank is obliged to hold 2.5% of their total demand deposits in the form of cash resrves. We say that 2.5% or 0.025 is the 'cash reserve ratio'.

Taking again our example of someone depositing $100 at his bank - what implication does a cash reserve ratio of 2.5% have in terms of limiting the bank's ability to increase the money supply?

Firstly - consider what would happen without there being a cash reserve requirement:

Step 1: A person (Person A) deposits $100 at the bank and receives a cheque book of the value of $100.
--------> Money Supply: Nothing changed
Step 2: The bank lends out the $100 that was deposited to someone else (Person B).
--------> Money Supply: + $100.
Step 3: Person B deposits the $100 at his bank and receives a cheque book of the value of $100.
--------> Money Supply: still + $100.
Step 4: The bank lends the deposit Person B made and lends it out to Person C.
--------> Money Supply: + $200.

As you can see - the process could just keep on repeating itself until an endless amount of money is created.

What happens then in case of there being a cash reserve ratio of 2.5%?

Step 1: A person (Person A) deposits $100 at the bank and receives a cheque book of the value of $100.
--------> Money Supply: Nothing changed
Step 2: The bank keeps $2.5 dollars in reserve and lends out $97.5 to someone else (Person B).
--------> Money Supply: + $97.5
Step 3: Person B deposits $97.5 at his bank and receives a cheque book of the value of $97.5 in exchange.
--------> Money Supply: still sitting at +$97.5
Step 4: Bank keeps 2.5% of Person B's deposit in the form of cash reserves ($2.44) and lends out $95.06 to Person C.
--------> Money Supply: + $192.56

As you can see, with each deposit, the amount a bank can lend out decreases in comparison to the initial amount of $100. There is thus a limit to the amount of money that can be created this way. We can actually calculate how much money will be in circulation if this process is continued until there is nothing more to lend:

$100 * 1/0.025 = $100 * 40 = $4000

The initial $100 that was in circulation, the fractional reserve banking system (which is what this banking system is called) can turn into $4000 in circulation.


We continue on the subject of the money supply within the next blog.

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