A GROUP of senior MPs last week asked the government to establish a public inquiry into the nation’s £200bn household debt crisis.
The request sounds incredibly worthy, but it underlines how asleep at the wheel our legislators really are.
For the truth is that if so many MPs were not so economically illiterate they would realise there is no need for such an inquiry at all, since the cause should be obvious.
In fact the pressure group Positive Money has been banging on about this issue for some years, attempting to raise awareness – and action – among our parliamentary representatives.
But like the three wise monkeys it seems a majority of MPs has not wanted to see it, hear it or speak about it, let alone do anything to put it right.
Possibly this is because most MPs – along with most journalists, for that matter – do not understand the problem. Or maybe it is just one of those issues that is too easy to put straight into the ‘too hard’ basket.
Back in 2014 Positive Money conducted a random poll of 100 MPs about our monetary system, only to discover that 90 per cent of them either did not know or believe the fact that banks can create credit at will. Out of nothing.
Seven out of ten MPs believed only the government could create money. They were wrong.
Just one in ten of those questioned appreciated that new money is created and added to the financial system when banks loan it into existence to borrowers.
Fast forward three years and MPs still do not appear to comprehend the model of banking we are taught at school – that a bank lends the money of its savers to its borrowers – is incorrect.
The fact is, as the Bank of England admits, a bank does not need deposits to make loans. It has a licence to create credit out of thin air, creating deposits when it makes loans.
Debt crisis for dummies
The sooner MPs can wrap their heads around this perverse concept, the sooner they will realise the catastrophic consequences.
In a nutshell, our household debt crisis can be explained as follows: giving banks the power to charge interest on credit that they also have the power to create into existence means the incentive for banks is to create as many loans as they can; this means the ideal for any bank is to have as many people as indebted as possible, paying as much of their salaries to the banks every month in interest charges.
Slowly but surely, this is what has happened, and this dynamic – whereby loans can be created into existence by banks indiscriminately at the tap of a few keys and the click of a mouse – explains how UK citizens have amassed more than £1.6 trillion in total personal debt once you take into account mortgages and student loans.
This abhorrent flaw in our monetary system, once fully understood, helps explain so much more about our economic and social difficulties.
For example, MPs often bemoan the growing wealth gap between the richest and the poorest in our society and wonder how it can be allowed. Yet a chief cause of this malaise becomes apparent when one realises we have put at the heart of our monetary system a mechanism that ensures it happens. Around 97 per cent of all the currency in our economy is created into existence as a loan, and this process of debt creation by the banks sucks income from the hard-working bottom of society to the very top, exacerbating wealth inequality and enslaving all but a few.
One might hear the same MPs bemoaning the fact that too many people are not saving enough to pay for their retirements, but it should come as no surprise that an overindebted population will prioritise the interest on loans that must be paid today rather than saving for the future. After all, let us not forget how one-sided this deal with the banks is: when borrowers default on paying interest on money that did not exist until the banks created it, the banks then have the right to appropriate the real assets it bought.
That this cancer at the heart of our economy remains undiagnosed by MPs also explains a slew of misdirected policy responses to various other symptoms of the crisis in our monetary system, rather than the cause of it.
Take the price of houses as an example. Many MPs, like the public and an unthinking media, buy into the idea that house prices must have risen so steeply because there is a shortage of property to buy. The solution is held to be building more homes, and giving house buyers financial help to get on the property ladder.
However, the Kingston University economist Professor Steve Keen has shown that house building in the UK has broadly kept pace with population growth. In fact the increase in house prices has been largely caused by credit creation by the banking sector, which has fallen over itself to give more and more mortgages to people who then bid up house prices and at the same time end up further in debt.
So while the act of selling off social housing and the advent of morally dubious buy-to-let mortgages have both played a part in the housing crisis, the cost of property to buy is to a great degree a function of the amount of credit that is created willy nilly by banks. As anyone might expect, putting more and more randomly created money into the housing sector has been inflationary – the house price crisis is a function of the £1.3 trillion mortgage debt crisis.
Alas, building new homes is not going to correct that, while giving financial incentives to buyers merely adds to the amount of money chasing already overvalued properties.
Allowing the banks to create the money that drives our economy has not only blown an unsustainable house price bubble and fuelled the obscene illusion that a home is an investment rather than an unproductive utility that yields nothing and costs money to maintain. The misallocation of investment capital in favour of property has also made it harder for productive industries to get the cash they need to grow, create well-paid jobs and manufacture goods that can be exported to other nations and help us pay our way in the world.
So what amounts to a failed privatisation of the creation of credit, which makes our society more unequal, also contributes to making our economy more unbalanced, which makes us poorer as a nation on the global stage.
An object lesson in doing the wrong thing
To understand how banks operate is to realise the current financial system is just a glorified Ponzi scheme that eventually leads to an inevitable collapse under the weight of debt created by the banks themselves. We have a debt-based currency system that can only continue so long as greater sums of credit are borrowed into existence in ever increasing amounts.
At the end of an economic boom fuelled by irresponsible credit expansion, eventually the economy stagnates as we reach what economists refer to as the ‘Minsky moment’, where merely paying the interest on debt becomes too much of a burden. The economic bust of credit contraction and recession inevitably follows as people try to pay down those debts or default on them, in what is known as a debt deflation. Banks then face going belly up as their Ponzi scheme in debt creation collapses – as happened during the credit crunch a decade ago, which set off a housing market slump and a deep recession.
A lack of understanding by MPs of how this iniquitous, guaranteed-to-fail racket spawned the crisis of 2007-2008 explains the misplaced response to it on the part of all politicians of all parties. They delivered us an object lesson in doing exactly the wrong things.
Instead of bailing out savers, creating accounts for them at newly formed utility banks, providing relief for the overly indebted and letting insolvent banks pay the price of bankruptcy for their imprudent lending and various fraudulent practices, the government threw hundreds of billions of pounds in ‘quantitative easing’ at the very architects of the crisis in a bid to make them solvent again.
That was akin to paying the nation’s kidnappers to keep the country hostage, and it happened because politicians saw only the liquidity crisis that the banks were suffering, but not the crisis of private debt and financial sector criminality at the heart of it. So MPs made the mistake of bailing out the creditors, rather than the debtors, and through nationalisations they put taxpayers on the hook for bankers’ gambling debts as well.
To ‘save’ the economy the Treasury and the Bank of England also launched an all-out assault on savers through low interest rates. They engineered this act of financial repression through illegal market manipulation by Libor-rigging banks, and sold it to the public as a means of jump-starting a recovery. Incredibly, in a bid to promote more consumer spending and reflate the economy, the idea was to promote less saving and more borrowing in an economy in which consumers were already overindebted.
As per the laws of unintended consequences, it turned out that low interest rates helped to take money out of the real economy and were actually deflationary – the Bank of England has since admitted that for every £1 in interest payments saved by borrowers, another £2 in spending power has been lost to savers in earnings from interest.
Low interest rates have forced retirees with savings to choose between a decline in living standards or cannibalising their nest eggs in order to maintain their quality of life – then going broke if they live too long. Pension funds have obligations to policy holders that must be met regardless, and many have ended up with deficits that threaten their long-term future.
Both retirees and pension funds have been incentivised by low interest rates to invest in property and stocks in a search for yield, along with higher-risk bonds that offer better interest rates. But to add insult to injury they have been doing so in competition with the quantitative easing cash that was given to the banks.
MPs had imagined such largesse might encourage new lending to entrepreneurs and industry to create jobs and prosperity, but the banks saw things differently and stuffed much of their additional funds into assets.
Low interest rates have also encouraged corporations to join the debt party, with many boardrooms favouring stock buybacks with the borrowed cash. The short-term benefit for executives is that buybacks boost the value of the shares they get as part of their remuneration packages. The longer-term cost to shareholders is a company saddled with debt.
The end result of all of this has been bubbles in all asset classes, which has not only widened the wealth divide between the asset rich and everyone else but has also exposed a huge number of ordinary people to the risk of devastating losses on stocks, property and bonds when an inevitable recession comes.
Compounding these self-defeating policies, MPs have singled out the public sector for austerity measures in order to pay for the bank bailout. Making the majority pay for the mistakes of a privileged minority is not only unfair but also destructive since the macroeconomic effect of the resulting cuts to public services and benefits has been to encourage an already debt-stressed private sector to fill the void by taking on even more debt, which has been possible to sustain only due to interest rates being the lowest they have been in centuries.
You couldn’t make it up
So ten years after the financial crisis began – after policies pursued by Labour, Tory and Lib Dem politicians alike – we are back exactly where we started with another housing bubble, with unsustainable levels of private debt that now also require unfeasibly low interest rates, with a largely unreformed, predatory and parasitic banking sector, and this time with pension funds under stress and bubbles in the stock and bond markets to boot.
A century from today, economic historians will surely conclude you could not make it up. Our MPs and our central bank have led us into a cul-de-sac in which economic failure is certain, and guaranteed to be far worse than it would have been had they properly dealt with the banks and our monetary system a decade ago rather than kicking the can down the road.
Nobody can predict quite how the next leg of this unresolved crisis will unfold. But it will, and when it does you can expect to be told we could not have seen it coming when in fact the reverse is true.
Positive Money argues the very first thing that must be done to stop the rot is to remove the right to create credit from private sector lending institutions and place it back in the hands of government. The power to create credit, it argues, needs to be overseen by the democratic process and any new money that is pumped into the economy should be spent for the public good.
It is hard to disagree, although an improved democratic process would be a prerequisite. However, one thing we now know for sure is that private sector banks are no better – and arguably worse – than governments at exercising control of money creation.
To deal with the levels of household debt, some form of debt forgiveness or debt jubilee must also be engineered. Instead of giving quantitative easing money to the banks, both Positive Money and Steve Keen advocate ‘quantitative easing for the people’, whereby cash is given to individuals on the condition that anyone with debts must use the gift to pay them down.
Taking back full control of the Bank of England may also be desirable, and some critics might reasonably hope that MPs will one day dare to moot the idea of abolishing our central bank altogether.
And if we are to maintain a monetary system in which huge amounts of credit can be created from nothing, the idea that government – and therefore taxpayers – should have to borrow it and pay interest on it must also be challenged.
That said, can we really trust any government to run our monetary system properly when it is not tied to something real? Certainly not until each and every MP has passed an exam in how the monetary system works, and learned the lessons of a litany of monetary mistakes from the past. And even then it would be reasonable to harbour plenty of doubts.
Ultimately the advocates of a return to sound money are on very strong ground when they argue we need to put gold and silver back at the heart of finance, since a tie to something physical is about the only thing that can impose discipline on those in charge of the system.
There is a reason gold and silver have been money for 5,000 years of human civilisation, and have maintained their value throughout. It is that kings, queens, governments and bankers cannot print gold and silver, or create them at will on a computer screen.
It is no coincidence that so many key economic metrics – from the earnings gap between the best and worst paid, to the balance of payments deficit, to levels of household debt – all began to deteriorate soon after 1971, the year President Richard Nixon took the US and the rest of the world off gold. This is because when money is not tied to something real, the system gets gamed and abused by those with control over the currency.
The same forces also explain why the success rate of paper currencies is precisely zero. Human fallibility ensures every one of them eventually fails and returns, as Voltaire once quipped, to its intrinsic value of nothing.
MPs should now be talking about gold
Today there is a very real prospect that gold will soon be restored to the global financial system, with China recently discussing the prospect of a yuan-denominated oil contract convertible into gold. If it was to happen, this would be a very big deal, and if our parliamentarians were fit for purpose they would be talking about it and preparing the nation.
Like the Russians and the Chinese and several other countries in the East – who have been buying gold hand over fist – they would be ensuring the UK increased its gold reserves. And, like the Chinese, they might even be encouraging their citizens to put their savings into physical gold as well.
But our MPs are not talking about gold any more than they are talking about the way banks create money. In fact you can bet they would be more likely to sell our gold – our national wealth – than to start buying more of it with the computer digits and bits of paper we laughably refer to as money. Just like Gordon Brown did in the late 1990s, when he dumped on to the market more than half of the UK’s gold reserves for the purpose of (drum roll) … a bailout of US investments banks.
And you could not make that up either.
The reality is that Parliament’s ignorance of the monetary system has become a national security issue. It renders the entire political class a liability to our economic and social wellbeing.
If we need an inquiry, it is into the economic and monetary illiteracy of MPs.