Last Thursday, the UK parliament debated the issue of “money creation and society”. This was a backbench debate, which means that no vote is taken at the end and no laws are changed; it is simply an opportunity to discuss important policy issues outside of the government’s agenda.
The government’s view on this debate was provided by Andrea Leadsom MP. Leadsom is the Economic Secretary to the Treasury, a position which is also known by the title “City Minister” (as in the City of London, the UK’s financial centre). She is responsible for the government’s financial reform and regulation agenda.
So we would hardly expect the government’s City Minister to come out as an advocate of Positive Money’s proposals. However, her critique of the proposals was surprisingly mild. Rather than making sweeping assertions (as some critics have done) she simply raised a number of ‘important questions’. I’ve addressed those questions below.
Leadsom comes on to the topic of a sovereign money system (as advocated by Positive Money) by saying:
“But first I just want to briefly set out why we don’t believe that the right solution is the wholesale replacement of the current system by something else such as a Sovereign Money system.
“Under a sovereign monetary system it would be the state not banks creating new money. The central bank via a committee would decide how much money is created and this money would mostly be transferred to the government. Lending would then come from the pool of customer’s investment account deposits held by commercial banks.
Such a system would raise a number of very important questions.”
She then lists 7 questions, which we’ve quoted verbatim below:
1) “How would that committee assess how much money would be created to meet the inflation targets and support the economy?”
Today the Bank of England’s Monetary Policy Committee is responsible for setting interest rates as a very indirect way of influencing how much money banks create. The 9-person committee has a team of researchers and access to a wealth of data about the health of the economy. The members of the committee spend up to two days deliberating before casting their vote to raise or lower interest rates.
In a sovereign money system, the process would be much the same, but instead of raising or lowering interest rates, the Monetary Policy Committee (or a new Money Creation Committee) would directly increase or decrease the rate at which new money is created by the Bank of England. (The banks by this point would no longer be able to create money.) Show More...
2) “If the central bank had the power to finance government’s policies what would the implications be for the credibility of the fiscal framework and the government’s ability to borrow from the market if it needed to?”
This relates to the fear that if the government is allowed to create money directly, it will get carried away and print money to pay for every white elephant or vote-winning project they can think of. It is thought that even the fear that this might happen is enough to scare investors in financial markets to the extent that they’ll stop buying the government’s bonds. This is normally put foward as the reason for prohibiting governments from creating money, and placing that power in the hands of commercial banks, that we know would never use it recklessly or excessively(!).
It doesn’t take much thought to find an answer to this. Show More...
3) “What would be the impact on the availability of credit for businesses and households?”
This is certainly a topic that requires greater study, and we will be releasing a paper on this in the near future. But a few points are important here:
- Banks would still be able to lend; they’d just need to get money from savers before they could do so.
- The amount of credit provided by banks to households to date has been totally excessive. Because most of it went into property (through mortgages) it has resulted in a huge increase in the cost of housing relative to salaries. There is an appropriate amount of credit: enough to allow people to buy houses, but not enough to push the price of those houses up at 20% or more in the space of a year.
- With regards to credit provides to businesses:
o Only around a tenth of UK banks’ loans are to businesses. Lending to business is a sideshow compared to their main business (i.e. lending secured on property).
o Around 66% of SMEs (small and medium enterprises) said they never used bank loans anyway. Instead, they finance their investment through retained profits and other sources of funding.
o In a survey of UK businesses, the majority said that the primary barrier to their growth was not their access to finance from banks, but whether they could increase their sales. In other words, to boost the economy, we need more money in consumers’ pockets. Sovereign money makes it possible to get money in consumers’ pockets without relying on them to take on ever greater amounts of debt.
4) “Wouldn’t credit become pro-cyclical?”
Leadsom doesn’t elaborate here, meaning that we have to guess what her thinking was on this point.
Clearly, the level of credit is already hugely pro-cyclical. Banks provide too much credit (and therefore create too much money) when the economy is growing, leading to the kind of debt-fuelled boom we had before the financial crisis. Then, in the recession, they restrict their lending (therefore restricting their money creation), which makes the recession worse. You can read more about this process here, but it’s clear that credit is already pro-cyclical, and it’s hard to imagine that it would become even more so. Show More...
5) “Wouldn’t we incentivise financing households over businesses, because in the case of businesses presumably expect the state to step in?”
It’s hard to make sense of this point, and Leadsom doesn’t elaborate, so we’ll have to guess at what she means.
Leadsom suggests we would incentivise financing households over businesses because “presumably the state would step in” [to lend to businesses?]. But this point makes no sense. Firstly, in a sovereign money system, the Bank of England would be able to create money to lend to banks so that those banks could lend more to businesses. But this money goes through the banks, not around them. The banks would therefore have a role to play in lending to businesses. Why would this incentivise banks to not lend to businesses? Show More...
6) “Wouldn’t we be encouraging the emergence of an unregulated set of new shadow banks?”
The argument here is that by prohibiting banks from creating money, a whole collection of companies that are not banks but act like them will spring up and start creating equivalent substitutes for money, in effect creating the same situation we have today.
Most shadow banks are simply entities that behave like banks but avoid registering as banks in order to escape regulation. So the government approach to shadow banks should really be, “If it looks like a bank and behaves like a bank, then regulate it as a bank.” And who has responsibility for making sure that the regulators do their job properly? Funnily enough, Andrea Leadsom, the City Minister. Show More...
7) “Wouldn’t the introduction of totally new system untested across modern advanced economies create unnecessary risk at a time when people need stability?”
This final point rests on the assumption that the current system can provide ‘stability’, and that the government’s reforms since the crisis have been adequate. But even her own Prime Minister has recently been warning about danger signs in the global economy, and the former head of the Financial Services Authority, Lord Adair Turner, has been warning about the dangers financial stability from rising household debt.
Right now, what Andrea Leadsom thinks is ‘stability’ may in fact be the calm before the storm. The major benefit of a sovereign money system is that it would provide greater stability.
To the Andrea Leadsom’s expressed concerns about the makeup of the committee that would create money:
Andrea Leadsom makes a rather silly point, parrotting points made earlier by Ann Pettifor. Leadsom says:
“And of course bearing in mind our current set of regulators we would presumably then be looking at a committee of middle aged white men making the decision on what the economy needs and that’s also would be a significant concern to me were that to happen.”
“In addition, of course, bearing in mind our current set of regulators, presumably we would then be looking at a committee of middle-aged, white men deciding what the economy needs, which would also be of significant concern to me.”
Yes, the Monetary Policy Committee, which makes decisions on interest rates, is made up of white, middle class, middle aged men with similar backgrounds. To the best of my knowledge, Andrea Leadsom has never campaigned for the Monetary Policy Committee to be made more representative or diverse, so it’s interesting that she has suddenly taken an interest. Presumably if she objects to the Monetary Policy Committee having the power to directly manage money creation, she would also object to them having the power to set Bank of England’s interest rates for the lending of reserves to the banks (which indirectly influences money creation).
However, the makeup of the committee in a sovereign money system is up for grabs. Show More...
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