Politicians often like to point out that there is no “magic money tree”. But that raises the question, where does money actually come from? The answer is more complicated than many people realise.
If you listened to some government ministers, you might assume that there’s a fixed amount of money in the economy, or that the amount is strictly controlled by the Bank of England.
But in fact, money is being created out of thin air all the time. And this process has hugely important implications for issues like housing, inequality and the environment.
Most of the money we use comes in digital form, as the numbers we see on our bank statements. This money is created by private banks like HSBC and Natwest when they make loans. They create it by simply typing numbers into a computer – some might call this magic!
Sound implausible? You don’t have to take our word for it – the Bank of England itself has confirmed that “whenever a bank makes a loan, it creates a deposit in the borrower’s bank account, thereby creating new money.”
Unfortunately, banks direct most of their lending towards property and financial speculation, which pushes up house prices and makes financial crises more likely. Banks prefer lending to the ‘financial’ economy than the ‘real’ economy, where most ordinary people would see the benefit. This means they do a bad job of lending to businesses which create jobs and grow the economy in a sustainable way.
And because commercial banks were slow to start lending again after the 2008 crisis, the Bank of England stepped in with its own money creation programme called quantitative easing. It’s chosen to pump this new money into the financial sector, which is pushing up the value of assets like houses, shares, and corporate bonds.
This policy has done very little for ordinary people, but the Bank of England’s own research has shown that quantitative easing made the richest 5% over £128,000 richer. So at a time when politicians are using the absence of a “magic money tree” to justify austerity, the Bank of England policies are enriching a wealthy few.
All of this exposes how dysfunctional our money and banking system is. But we know it doesn’t have to be this way. We can reform the system so that it supports a fairer and more sustainable economy.
- Instead of the Bank of England pumping new money into financial markets through quantitative easing, it should be spent via the government into infrastructure, green technology, or as a cash transfer to help households pay off their debts and improve their finances.
- And we need to transform our banking system so that banks lend money to support investment and jobs in the real economy. This means having a more diverse range of banks and government policies that encourage lending for productive purposes.