Endogenous Money Or How Loans Create Deposits

If you open any economic textbook you will find a standard explanation of how banks operate. The basic story is that a person deposits some money (say €100) into a bank which then saves a percent of this (say 10%) as a reserve and then lends out the rest. This €90 is then deposited by whoever receives the loan, 10% of which is saved and the rest is lent out. This goes on and on until the original €100 has become €1,000. It is easy to see why students are told this story; it is simple, intuitive and gives them a basic idea of banking. Unfortunately, it is wrong.

There is strong evidence that contrary to the above story (known as the loanable funds theory) the banking system works the other way around. Deposits don’t create loans; loans create deposits (this is known as endogenous money). This is a more complicated story but a more realistic one that can better guide our view of the economy. Continue reading “Endogenous Money Or How Loans Create Deposits”

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The Bitcoin Bubble Has Burst

Well it has finally happened. We looked at those charts of ever rising price of bitcoin and said this cannot last, and it hasn’t. The bitcoin bubble has finally peaked and now all that is left is to watch its steady and inexorable decline. But this post will not simply be full of smug gloating (though I see no reason why there shouldn’t be at least a little bit of smugness). You see, the crash of bitcoin mirrors other financial crashes and gives us an opportunity to draw some conclusions. It is best to view bitcoin as a giant experiment of how an economy would operate without a central bank. Continue reading “The Bitcoin Bubble Has Burst”

The Great Bitcoin Bubble

There’s this new idea that plans to revolutionise money. It’s called bitcoin and aims to be an online currency to replace the real thing. Unlike printed money, it is not controlled by any central bank or government and prides itself on its lack of rules and regulations. Its proponents see it as a 21st century version of the gold standard and it has been enthusiastically endorsed by libertarians and anarchists around the globe as its price sky rockets. However, it is in reality a giant internet bubble based primarily on speculation that will inevitably crash. It is open to abuse, hacking and is no more trust worthy than the government. It is an economic calamity and trapped in hyper deflation death spiral. It can teach us a lot about how currencies work, and just as importantly, why some don’t. Continue reading “The Great Bitcoin Bubble”

Why Do We Print Money?

Printing money seems like a no-brainer. Surely it’s extremely obvious that printing money is a recipe for disaster that will result in hyperinflation. Surely the obvious action is to not print money and therefore avoid inflation. Yet every year, every country prints money. Why? Surely the money supply should be fixed. What possible reason could central banks have for risking massive inflation? Why do we print money? Continue reading “Why Do We Print Money?”