Mervyn King’s New Book: The End of Alchemy

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Mervyn King End of alchemy

Lord Mervyn King, who was Governor of the Bank of England from 2003-2013 has just released his new book, The End of Alchemy. The book is not a memoir of his time at the Bank of England; he comments that historians will be able to give a less biased view of his performance in that time, and that most biographies of this kind have been self-serving. Instead, it’s his analysis of the problems with the current financial system.

In the book he talks at length about the way that money is created and some of the implications this has for the economy:

“In the course of this book, I will explain the fundamental causes of the crisis…why the fragility of our financial system stems directly from the fact that banks are the main source of money creation;…and most importantly of all, how we can end the alchemy of our present system of money and banking.” (p8)

However, King’s main concern is the fact that a bank cannot repay all its customers’ deposits at the same time:

“By alchemy I mean the belief that all paper money can be turned into an intrinsically valuable commodity, such as gold, on demand and that money kept in banks can be taken out whenever depositors ask for it….For centuries, alchemy has been the basis of our system of money and banking. As this book shows, we can end the alchemy without losing the enormous benefits that money and banking contribute to a capitalist economy.” (p8)

King gives a history of money, going through the classical story of barter, commodities, gold coins, then paper notes and bank liabilities. However, he then gives the alternative story, in which bank liabilities and loan contracts have served as an important form of money ‘as early as Roman times’.

However, the book overlooks the impact of money creation by banks on issues such as house prices, personal debt and inequality, instead focussing rather narrowly on the danger of bank runs:

“The problem with private banks’ creation of money is obvious. Money in the form of private banknotes and deposits is a claim on illiquid assets with an uncertain value. So both its acceptability and stability can from time to time come under threat.” (p60)

I wondered if the focus on bank runs was a result of his particular viewpoint on the crisis, seated as he was in the Bank of England, trying to deal with banks that were illiquid (and often insolvent) and trying to find ways to make sure these banks do not run out of funds. His proposal (explained in technical detail here) addresses the problems of bank runs, with massive support from the Bank of England. But it doesn’t address the wider problems caused by the current monetary system.

He does talk about the proposals to stop banks creating money (in chapter 7), but concludes over a couple of pages that it may be too disruptive, and that there are “potential economic benefits [which he doesn’t elaborate on] from allowing financial intermediaries to explore and develop different ways to link savers…and borrowers.” His proposal for a Pawnbroker for All Seasons is designed as a less disruptive and cheaper approach to ‘ending alchemy’, although as I discuss in this blog it may not be effective at stopping the main problems with the current monetary system.

The book is written for non-economists, and anyone who has read our book Modernising Money  will find King’s book easy going! It’s a very good introduction to money and banking, and some of the fundamental problems in the current system, and I’d recommend reading it. It’s a shame that the proposals in it are too narrow to address the wider social and economic problems caused by the design of the monetary system, but then it seems King is addressing the problems that he saw firsthand.

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Ben Dyson (Positive Money)

Ben is Positive Money's Head of Research. He founded Positive Money in 2010 and is a co-author of Modernising Money. Ben's research focuses on potential reforms better forms of monetary policy, structural reforms to the banking system, and the potential for technology to disrupt the payment and banking systems.

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