Monday, July 05, 2010

Take away the banks' licence to print money

Take away the banks' licence to print money
By Paul Hellyer, Citizen Special July 5, 2010


I am one Torontonian who was bitterly disappointed by Canada's attempt to lead the world through the G20 group of leaders. Apart from putting our city through a kind of hell for three days, the "victory," if there was one, was not for the people of the world. It was a confirmation of the supremacy of Wall Street and of the fact that Mammon rules the world.

What was missing at the G20 was any meaningful discussion of why the banking industry was able to get the world into such a mess and how to keep it from reoccurring. Especially when, as U.S. economist Jeffrey Sachs recently told a London audience, "Wall Street has had the most profitable year in its history. It made profits of $55 billion," thanks to bailouts and low interest rates. "Bankers are brazenly smirking as they pocket large amounts of our money," he said. And the most the G20 could agree on was to give them a green light to keep on doing it.

The world monetary and banking system that left tens of millions unemployed in Canada, the U.S., Europe and elsewhere, and eroded the retirement wealth of a whole generation, is a disaster and must be fixed for the benefit of all. You would think G20 leaders would get the message after 25 recessions and depressions since 1890. Apparently not; we are doomed to struggle with more of the same.

The real source of the problem is a privately owned money-manufacturing monopoly that creates virtually all the new money as debt, of which there is so much that the real economy is about to drown in it. But there is a quick and simple fix with a Canadian precedent to support it.

Most people believe the bankers' myth that the money they lend to you today is money that someone else deposited yesterday. The odds of that being true are infinitesimal. They have to create the "money" they lend to you.

This is the way it works. Suppose you decide to borrow $35,000 to buy a new car. You visit your banker, who will ask for collateral; then you will be asked to sign a note for the principal amount with an agreed rate of interest. Once the note is signed, your banker will tap the bank's computer and, presto, a $35,000 credit will appear in your account. The important point is that only seconds earlier that "money" did not exist. It was created out of thin air -- so to speak.

The problem with bank-created money (BCM) is that it is all created as debt on which interest has to be paid. But no one creates any money with which to pay the interest, so collectively we have to borrow more and go deeper and deeper in debt. The system is like a balloon being pumped full of debt. The balloon keeps getting larger until the debt load is too big, and then it's like a balloon with a pin stuck in it. A recession or depression wipes out a lot of debt so the whole process can start over again.

In 1938, there were no job openings in Canada -- none. Then war broke out in 1939. Soon everyone was working. Some people joined the armed forces, others built factories or made munitions. So, you might ask, where did they get the money necessary to do all this? The Bank of Canada just printed it.

The system worked this way. The Bank of Canada (BoC) printed money to buy government of Canada bonds. The government paid the BoC interest on the bonds, but the bank paid it back as dividends. So the net cost to taxpayers was close to zero.

The cash that the government got from the sale of its bonds was spent into circulation and wound up in the private banks, where it became what the economists called high-powered money. That became the monetary base (cash reserves) for private banks to expand their lending capacity and make loans for building factories, etc.

In effect, the money-creation function was shared between the government of Canada, through the Bank of Canada, and the private banks. This was the system that got us out of the Great Depression, helped finance the Second World War, helped finance post-war infrastructure and assisted in laying the foundation for our

social security network. It was the system that gave us the best 25 years of the 20th century!

It continued, in effect, until 1974 when the BoC, in concert with other central banks, adopted the ideas of Milton Friedman and his colleagues at the University of Chicago. This led to the current so-called capital adequacy system that is basically uncontrollable because all of the yardsticks are subjective. It has got to go.

The first requirement is to re-instate the cash reserve system as an objective regulator of the rate of money creation without the wild fluctuations in interest rates that have had such horrific consequences in the real world.

Next, bank leverage has to be reduced from 20-to-one to a level that the banks themselves would consider prudent if they were making a loan to industry. A ratio of three-to-one appears to be most appropriate. That leaves them with more than enough money-creation power to meet their legitimate objectives while denying the reckless latitude to finance leveraged buyouts, hedge funds, the purchase of stocks on margin, and the casino-like activities that have become addictive.

Third, and profoundly significant, the proportion of government-created money (GCM) should increase to 34 per cent of the total, while the banks are reduced to 66 per cent from about 95 per cent. If the GCM is created as debt-free money, it will be possible to reverse debt-to-GDP ratios in every country. Of course, the 33-per-cent cash reserve should be phased in over a period of years to give the banks time to adjust to the new reality. Still, benefits of the transition would be immediate.

Canadian banks had considerably more than $2 trillion in assets at the end of last year. Requiring them to increase the cash in their vaults by three per cent would allow the federal government to print enough money to eliminate its budgetary deficit for last year. One or two additional percentage points would provide cash to allow the federal government to assist the hard-pressed provinces and still have enough cash to provide additional stimulus to help create jobs for people affected by the banking crisis.

Whenever government-created money is suggested, the knee-jerk reaction of orthodox economists is that it would be inflationary. That is not correct. It is the quantity of money put into circulation that influences prices, not who prints it. GCM would be entirely neutral if BCM was reduced accordingly.

The infusion of substantial sums of debt-free money would end the tsunami of debt that has put the world financial system in peril and paralysed governments from taking the essential steps to solve the problems of the real world, as opposed to the demands of the money-changers.

Was it too much to ask of the leaders of the G20 that they put the interests of their electors and of future generations ahead of the interests of an elite few?

Former defence minister Paul Hellyer is the author of a new book titled Light at the End of the Tunnel: A Survival Plan for the Human Species.

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