Steve Baker MP Explains What Is Wrong With Banking

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Steve Baker MP (Conservative, Wycombe), writing in the Wall Street Journal Europe explains what’s wrong with the current banking system. You may need to subscribe to read the full article (try it) but here’s some choice quotes:

“If you borrow a friend’s painting and promise that you will give it back on demand, and you then lend that same painting to somebody else, you have committed a fraud. The same rules do not apply, however, to bankers. British parliamentarians have an opportunity to change that today, and I hope they do.

“Today, banks enjoy the legal privilege of fractional reserve banking, meaning they may lend out what they already owe depositors. By lending and investing on-demand deposits, banks create money by extending credit. When the bank’s investments turn sour—and investments often turn sour at some point—the bank cannot pay back the deposits and goes bust. Unless it manages to convince politicians that it is too large to fail, in which case it will be bailed out by taxpayers.

Steve then goes on to make a huge announcement, and something that we fully support:

“Today I will be supporting my colleague Douglas Carswell, member of Parliament for Clacton, as he introduces a bill to phase out fractional reserve banking. Our friends in the U.S. and Europe are watching closely, for the same crony capitalism afflicts the world. […] Our Regulation of Deposits and Lending bill would allow you, Britons, to choose how your money is used. You would have the choice either to deposit your money for safe-keeping, or to save it for a term to be invested further by the bank. If safe-keeping is your choice, you can have your money back on demand. Your property rights would be intact—you would remain the owner of your deposit. You would probably not earn interest; in fact you may have to pay for the privilege of direct access through branches and cash machines. If, however, you want a yield, you may choose to deposit your money for a term instead. The bank can then invest it further, potentially earning you an income.”

But what about making sure the economy has enough credit? Steve goes on:

“Credit would continue to exist, backed by real savings. The saver would be fully aware of the benefits and risks when choosing between depositing money and saving it for a term.

That sounds good – much better than the current system, whereby all bank depositors are exposed to the same risk, and then, because they were unaware of the risks, have to have those risks negated by tax-payer funded deposit insurance and other bailouts.

But why has this system not been fixed before now? Here’s a suggestion:

“Is it outrageous to suggest that bankers rather like the socialization of risk and easy access to others’ money, and that their success in this system requires the ears of the right politicians?

There are also issues with corporate structures and the effect that has on incentives:

“Executives who, in another age, would have lost everything as partners with open liability, have instead retired wealthy.

But surely fractional reserve banking is a natural product of free market principles? Surely capitalism is the root of the issue? I – personally – don’t think so, and neither does Steve Baker:

“In reality markets do not grant legal privileges such as fractional reserve banking—politicians do. The legal privilege of fractional reserve banking destroys the sound capitalist mechanisms of property and contract law. Today we hope to end it.”

Positive Money will do what we can to support this bill. It doesn’t matter if you’re pro-free-market, like Steve Baker MP, or you think that free markets don’t work – fractional reserve banking works against the interests of everyone, no matter what side of the political spectrum, and now is the time for us to bring this practice to an end and move to a better banking system.

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  • Bruce Smith

    Since private enterprise has always has a need of credit to oil its workings but banks have shown they are undependable and inflationary suppliers of credit through their reckless speculative activity. Is not the real issue one of devising a new dependable supplier of credit?

    • Ben Dyson

      @Bruce – agreed. Banks have shown numerous times they can not be trusted with the power to create money (bank deposits, or ‘credit’ in bank speak). But to take a step back, it’s not ‘credit’ that enterprise needs – it’s to be able to access money when someone has a good idea and needs the resources to put it into action. There’s no evidence to suggest that real savings wouldn’t be enough to meet the needs of business if we were not running the economy on a debt-based money supply. Currently the high need for credit is a lot like a junky’s high need for heroin – in the current system, it’s the supply (of debt/credit) that creates the demand for it.

      The real question is how do we make sure that people and organisations that have ideas and can add value to the economy/society are able to do so without being prevented by a lack of money. I’m not sure what the perfect system would be, but it’s obvious that the current system is completely failing to do that.

      • Barry Thompson

        The ‘need for credit’ is the key argument against the positive money campaign. Even in a positive money system, investment cannot always be made from savings. Borrowing money will remain essential for investment. It is absolutely crucial to make clear that, in a positive money system, borrowing of money will be *just as easy* as it is today. It will just occur without banks creating money. Why? Because saving positive money will be much easier than saving credit money and those savings can only earn interest if they are lent out to borrowers.

        • Ben Curtis

          Hi Barry,

          In a positive money system, demand for borrowing will have to meet the supply, unlike today, with government manipulation and the demand for the product (credit) that actually brings about the existence of the supply. This falls under the heading of “productivity”, it would be impossible to have a productive economy without a sufficient supply of credit. We will define our four concepts more clearly in the coming weeks.

          • Barry Thompson

            How about these four fundamental reforms?

            1. All new money to be created solely by the central bank, not by commerical banks.
            2. The central bank then provides loans on demand to commercial banks to fund all lending.
            3. Deposits will not earn interest and cannot be ‘lent out’ – i.e.: are 100% backed.
            4. The central bank is able to provide funds to the treasury in times of war or economic recession.

            The central bank would then directly control the interest rate on funds it provides to banks for lending and would also be able to control the quantity of funds it provides to manage inflation or deflation.

          • Dai

            Point number 2 makes a lot of sense since savings at present don’t cover the borrowing capacity of the country at present. I don’t quite agree with point number 3, I do think that savings will have to be lent out to meet borrowing capacity. Apart from this Barry’s reforms seem sound.

  • http://None. Frederick W Gilling

    Prompted by the fact that 53 years of my economic life have been virtually wiped out, by holding fiat currency, I have spent many hours trying to understand world finance and the associated economics.

    The number of terms, expressions, explanations, manipulation techniques, short selling, derivatives, Ponzi schemes, pyramids, creative accounting, off balance sheet assets or liabilities and you name it and name it and name it in regard to investing money, buying, selling or holding shares, property, futures, toxic debt and so on and so on practically defy belief.

    For centuries banks have failed, bubbles have burst and millions of people have seen their lives ruined, the ultimate conclusion that I have come to is that every country in the world should nationalise its financial institutions ASAP, put a temporary ban on the outward movement of its own currency, wait for the dust to settle and then help, internationally, to plan the way forward.

    Frederick W Gilling 11:50 AM BST Saturday 18 September 2010.

  • Tony Harvey

    Hear Hear Mr Gilling. That too is what I over the years concluded we need to halt the economic/monetary dictatorship (as I see it) safely and start change. But how to bring it about? I have seen many many money reformers try to enact ideas but have seen them make no real progress due to vested interests and general pubic ignorance/incredulity/conditioning. An yet the tide seems suddenly to be turning now. I think the ongoing financial/banking collapse (even if temporaily deferred/hidden) is awakening millions even if they only dimly suspect that the current system doesn’t work & can’t really ever be repaired. So I think this crash has been the turning point we need. Ben Dyson’s campaign along with Douglas Carswell’s bill really give me hope, it seems a strange hope that I can’t quite understand yet but there’s something very refreshing to me in these developments that really augurs well for the future.

  • http://None. Frederick W Gilling

    Dear Mr Harvey

    Your comments most appreciated, I did attempt to reply at a little longer length than this a few days ago but some unknown gremlin did not pass it along. Mind boggling amounts of money are still being thrown at part of the problem, thanks again for your comments, will see if gremlins are asleep

    Frederick W Gilling 17:15 hrs BST Friday 01 October 2010.

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