Gould explains how money works to Brash

Written By: - Date published: 12:06 pm, April 30th, 2017 - 157 comments
Categories: business, economy, the praiseworthy and the pitiful - Tags: , , , ,

Interesting series of articles in The Herald, where Bryan Gould schools Don Brash on how money works. It started with this piece by Gould:

Bryan Gould: Banking should be under closer Government control

It’s not every day that monetary policy dominates the news.

It is normally seen as a technical issue, very much within the realm of the Governor of the Reserve Bank and, apart from the odd unexpected move in interest rates and, therefore affecting mortgage rates, of not much significance to anyone else.

But, in the past week, no fewer than three people have made the headlines by virtue of their views on monetary policy.

Gould discusses comments by Joyce, Robertson, and Sonny Bill Williams. But here’s the bit that Brash objected to:

Most people believe, and it is a belief assiduously promoted by the banks themselves, that the banks act as intermediaries between those wishing to save and those wishing to borrow, usually on mortgage. … The banks make their money, so it is said, by charging a higher rate of interest to the borrowers than they pay to the depositors, the equivalent of a small fee for the administrative costs of bringing the parties together. But this benign view of their operations is inaccurate and misleading. The banks do not lend you on mortgage money deposited with them by someone else.

They lend you money that they themselves create out of nothing, through the stroke of a pen or, today, a computer entry. The banks make their money, in other words, by charging interest on money that they themselves create. Not surprisingly, they are keen to lend as much as possible.

But the consequences of this bizarre scenario go much further. It is the willingness, not to say keenness, of the banks to lend on mortgage that provides the virtually limitless purchasing power that is constantly bidding up the prices of homes in Auckland and, now, elsewhere.

It is the banks that are fuelling the housing unaffordability crisis, a crisis that is leaving families homeless and widening the gap between rich and poor.

Don Brash took exception:

Don Brash: Sonny Bill Williams and Bryan Gould both wrong about banks

A few days ago, Bryan Gould wrote an article for the Herald headlined, “Sonny Bill has a point about banks amid crisis” [links to the piece above which now has a different name]. Almost everything he contended was wrong, writes Don Brash.

[Summarises Gould above] He then goes on to blame this money creation for the housing affordability crisis which Auckland now finds itself in, and to attack the Government for washing its hands of this aspect of the housing crisis. Mr Gould is not alone in peddling this nonsense, but that certainly doesn’t make it correct.

The banking system does create money. When Bank A lends money to one of its customers, the customer may use those funds to buy something from somebody who banks with Bank B. Bank B then finds itself with an additional deposit, a part of which it can lend out to its customers (keeping some of the additional deposit as a liquidity reserve). So an initial loan may end up considerably increasing the total lending by the banking system.

But from the point of view of each individual bank, it can only lend out a part of the money which its customers deposit with it, or money which it borrows from other sources, possibly overseas.

If individual banks really could create money by “the stroke of a pen or a computer entry”, as Mr Gould contends, why do they bother paying interest on deposits, why do they borrow funds from parent banks overseas, why do they borrow funds in the international market, why do they need to hold some funds in government securities as a liquidity reserve, why do some banks occasionally run out of money when customers lose confidence in them?

As well as being a former Governor of the Reserve Bank, I now chair the small New Zealand subsidiary of the Industrial and Commercial Bank of China, the largest bank in the world. It would certainly make life very much easier if we could, “by the stroke of a pen or a computer entry”, simply create the money which we lend out to New Zealand borrowers. Unfortunately, we can’t.

In a further piece, Bryan Gould replied:

Bryan Gould: Brash doesn’t seem to understand banking

I said the vast majority of new money in circulation is created by the banks “by the stroke of a pen”, and they then make their profits by charging interest on the money they create. If this is “nonsense”, the “peddlers” include some very distinguished economists. My legal training has taught me the value of being able to turn to reliable authority to support what I say.

In my original piece, I referred to a Bank of England research paper, published in the bank’s first Quarterly Bulletin 2014, which describes in detail the process by which banks create money.

First, they say,”One common misconception is that banks act simply as intermediaries, lending out the deposits that savers place with them…[that] ignores the fact that, in reality in the modern economy, commercial banks are the creators of deposit money…Rather than banks lending out deposits that are placed with them, the act of lending creates deposits – the reverse of the sequence typically described in textbooks.

“Bank deposits make up the vast majority – 97 per cent of the amount [of money] currently in circulation. And in the modern economy, those bank deposits are mostly created by commercial banks themselves.”

It is a pity (and a surprise) that Don Brash seems unaware of these findings in one of the most important research papers published in recent years. If he would care to proceed with his charge of “peddling nonsense”, I could introduce him to the authors of the paper, with whom I have corresponded, and he could put that charge directly to them.

“Commercial banks create money, in other words, by placing loans [or credits] into the bank accounts of borrowers. They then charge interest on, and demand security for and repayment of, those loans. They have no capacity to create money in any other way or for any other purpose [though the central bank can pursue “quantitative easing” to increase the money supply if it thinks that is needed].

But the capacity they do have is hugely important. I concluded by asking whether it was wise to entrust such wide-ranging powers – so significant in their impact on the whole economy – to the banks, and then to arrange that the only person able to regulate that impact was himself a banker – the Governor of the Reserve Bank.

That concern is surely heightened if a former Governor seems not to understand what is really happening.

NZ really dodged a bullet when we declined to elect Brash. I wonder if Bill English understands this stuff?


Here’s the Bank of England paper cited – Money creation in the modern economy (pdf). With accompanying video:

Don should read the original, but if that’s too technical maybe he would prefer one of these tutorials on YouTube.

157 comments on “Gould explains how money works to Brash”

  1. mikesh 1

    I find it difficult to believe that someone of Brash’s training and experience is not familiar with banking practices. Nevertheless Gould is obviously correct: money is ultimately created out of nothing “at the stroke of pen”. There may be a misunderstanding on the question of where money is created. If the money is created overseas and borrowed by local banks then perhaps Brash is right: (local) banks are not creating money. However this would be even worse than if they were, since it would mean that most of the profit from interest is travelling overseas. It would be better if money for local purposes, including housing, was created by the Reserve Bank and relent to the banks at a token rate.

    • Nic the NZer 1.1

      Its probably important to recognize what different kinds of monies are being discussed, as this explains where they come from.

      One kind is bank reserves, which are digital entries allocated to banks in the inter-bank accounts maintained by the RBNZ. These are a way for one commercial bank to pay another and also for a government to make payments to or from commercial banks (clearly the payments end up with a particular customer account at a commercial bank in most cases here). These obviously can only be created by the RBNZ.

      Another kind is NZ$ cash notes, these are like bank reserves created only by the RBNZ, but exist outside the inter-bank accounts.

      Another kind is NZ$ bank deposits. These are an accounting entry of a commercial bank saying a bank owes a customer so many dollars. These are clearly money, part of M3 statistics, but are created and maintained by commercial banks as a record of customer accounts. When somebody borrows they typically give a balancing document like a mortgage contract to the bank in exchange for access to bank deposit like payments. The commercial banks accounts balance this loan asset with the added liability of the customers access to payments.

      Nothing anywhere in this process which is denominated in NZ$ is created outside of New Zealand what-so-ever. The next time somebody explains that this or that because NZ needs to access investment or funding from overseas, well… They are implying a much more complicated model and this probably has a fixed real exchange rate relationship implied by it. That would be a relationship where say so much NZ goods and services is worth the same amount of overseas goods and services and that this relationship is fixed. Before they can claim ‘this or that’ they would need to demonstrate that what ever real-exchange-rate relationship is implied here that it is actually a fact.

      • Draco T Bastard 1.1.1

        Another kind is NZ$ bank deposits. These are an accounting entry of a commercial bank saying a bank owes a customer so many dollars. These are clearly money, part of M3 statistics, but are created and maintained by commercial banks as a record of customer accounts. When somebody borrows they typically give a balancing document like a mortgage contract to the bank in exchange for access to bank deposit like payments. The commercial banks accounts balance this loan asset with the added liability of the customers access to payments.

        This type of money should not exist as it’s what causing all of the problems that we have.

        • Nic the NZer 1.1.1.1

          “This type of money should not exist as it’s what causing all of the problems that we have.”

          All things considered I have many many problems which are much more pressing than those caused by the existence of commercial bank deposits.

          • Draco T Bastard 1.1.1.1.1

            All things considered I have many many problems which are much more pressing than those caused by the existence of commercial bank deposits.

            No, really, you don’t. You only think you don’t because you’re not looking beyond yourself and how such bank deposits destroy societies.

            • Liberal Realist 1.1.1.1.1.1

              Brings to mind a quote from Thomas Jefferson:

              “I believe that banking institutions are more dangerous to our liberties than standing armies, If the American people ever allow private banks to control the issue of their currency, first by inflation, then by deflation, the banks and corporations that will grow up around (these banks) will deprive the people of all property until their children wake up homeless on the continent their fathers conquered…”

              • Draco T Bastard

                And that is exactly what’s happening as per Piketty but they’re not limited to one continent any more.

              • keepcalmcarryon

                I believe Thomas Jefferson was a very clever human being.

    • DH 1.2

      “Nevertheless Gould is obviously correct: money is ultimately created out of nothing “at the stroke of pen”. ”

      I’m afraid that’s complete bollocks Mikesh. This false narrative has been doing the rounds for far too long now. It’s worse than a Chinese whisper.

      Where is the critical thinking from people? Of course banks don’t create money out of nothing. The very idea is absurd. The banking system in its entirety can create new money but individual banks sure don’t.

      Banks largely lend out from existing deposits and if they run short of deposits (cash reserves) they borrow more money from other banks or financial institutions.

      • Nic the NZer 1.2.1

        Commercial bank demand deposits are counted as money by the RBNZ (and all other central banks), under the M3 series. The accounts for those are only on the balance sheets of commercial banks who of course create them. On the other hand, the money multiplier doesn’t work as a model in practice and NZ doesn’t actually have a statutory reserve ratio.

        • DH 1.2.1.1

          Seriously? No banks don’t create them. Deposits are created by the depositors.

          • Nic the NZer 1.2.1.1.1

            Sure, and where does a deposit come from just after a loan is made? Say for example someone pays with a credit card into a deposit account.

            BTW, I linked an article by Richard Werner to this page where an academic borrows some money to investigate what happens to the overall balance sheet. The money is deposited in the borrowers account. The conclusion was loans create deposits.

            Also note thats actually what both Brash and Gould are saying, though Brash thinks the overall system is constrained by the RBNZ in some way.

            • DH 1.2.1.1.1.1

              “The conclusion was loans create deposits.”

              Not true Nic. Loans can create deposits but they don’t do it automatically. There’s no direct cause & effect there, it depends on what the borrowed money is used for.

              If borrowed money is used to repay another loan from a bank no (permanent) deposit is made, no new money created. And I suspect most borrowed money is used for just that purpose. With property mortgages, for example, the seller usually has a mortgage of their own which has to be repaid on completion of the deal.

              • Nic the NZer

                Good so we agree. Loans create deposit money and repayment of loans destroy deposit money. Of course these two things sometimes net to no aggregate difference.

                Maybe you want to get a better idea about what causality is before using that term in debate again.

                • DH

                  I’d hesitate to sneer if I was in your shoes Nic.

                  Think about it for a minute, use your brain……

                  If banks did create money out of nothing they’d be pocketing not just the entire interest payments but all of the principal on every loan they made. The banks wouldn’t just own the planet by now they’d own the solar system.

                  How can rational people be so irrational to believe banks can create their own money? It’s patently absurd.

                  • One Anonymous Bloke

                    Yeah, it sounds wack. On the other hand, the Reserve Bank of New Zealand confirms it, as mentioned various times on this page.

                    Who to believe? You, or the RBNZ? That’s a toughie, I admit.

                  • Nic the NZer

                    Looks like a severe case of

                    “The process by which money is created is so simple that the mind is repelled.” – John Kenneth Galbraith

                    Anyway this has been elabourated well enough to you already and your actually disagreeing with all parties to the debate including Don Brash, at least on the point that bank deposits are created by lending and are money.

                    If you want to be ignorant of how banks function that is up to you.

                    • DH

                      I’m pretty well schooled on how banks work thanks, enough to get quite irritated when people start making wild claims about banks creating money out of nothing.

                      Btw you’re still labouring under a false premise there. Deposits aren’t created from bank lending. Bank deposits are merely a result of the act of depositing money in a bank. The source of that money can be from lending, it can be cash, it can be from another deposit such as a cheque account… and so on.

                    • Nic the NZer

                      Not out of nothing, banks create money by lending. Well you agree about that anyway.

                      So as an exercise, why don’t you just explain where you contradicted yourself in the statement,
                      “Deposits aren’t created from bank lending. Bank deposits are merely a result of the act of depositing money in a bank. The source of that money can be from lending”

                    • DH

                      IMO You’re not wording your argument right Nic.

                      This from you….

                      “bank deposits are created by lending and are money.”

                      In that context you are saying there that all bank deposits are created by lending. That is not correct, which I addressed.

                      If you mean some bank deposits are created by lending then you need to say so …. and by the by they’d still not be created by lending they’d be created from lending because not all lending ends up as bank deposits.

                    • Nic the NZer

                      Don’t worry I can clear that confusion up for you, if I had meant to say “that all bank deposits are created by lending.”

                      I would have written instead,

                      all “bank deposits are created by lending and are money.”

                      But I didn’t, because that would be untrue. I do hope that clears things up for you!

                    • DH

                      Isn’t it annoying, and curious, how seemingly simple misinterpretations of grammar or phrase can spoil a good argument.

                      One of us read it wrong somewhere along the way there, could have been you it could be me… who knows. We’ve gone as far as we can go on that now…

                      If you look back at my first post you should find I was much on the same page as Brash, don’t much like the guy but he makes more sense than Gould on that subject and my own reading on the banking system mirrors what Brash has said. It’s rational and logical, the opposing argument is not.

                    • Nic the NZer

                      Well we had this discussion. Some things were said who could possibly remember what was said. Somebody contradicted themselves, we can’t find out who or how or when. Those comments, the words that were used nobody could possibly know what they mean.

                      I have this feeling now, oh yeah i think i’m hungry. What were you saying?

                  • One Anonymous Bloke

                    So I looked it up.

                    Reserve Bank of New Zealand Bulletin, March 2008, Reference Vol. 71. No. 1. March 2008

                    The banking and payment system, and how money and credit are created.

                    In a modern economy, money can be created either by the central bank (the Reserve Bank, in New Zealand’s case) or by private sector institutions – in practice, mostly registered banks

                    Section 25 of the Reserve Bank of New Zealand
                    Act 1989 gives the Reserve Bank the monopoly right to issue physical money (notes and coins), which enters public circulation through the private sector institutions to which it is issued.

                    A private sector institution can also create money by issuing claims on itself (ie, by accepting deposits) that may be transferred between, and are generally accepted by, members of the public as a means of payment. For that matter, any institution that can maintain the public’s confidence that its liabilities will be generally accepted as means of payment, can create money.

                    Yep, they confirmed it.

                    Run along now.

                  • mikesh

                    Banks probably create money in NZ by allowing accounts to go into overdraft. However in the USA I think they create money by directly crediting a borrower’s account with the amount of the loan.

                    I think if they created money in the manner you mention then I rather think the banks’ auditors would be up in arms.

          • mikesh 1.2.1.1.2

            “Deposits are created by the depositors.”

            Is this true? Well, well, well, who’d have thunk it?

            Actually, banks don’t lend out the deposits of demand depositors, since these deposits continue to be “owned” by those depositors, who can spend them by writing a cheque or by swiping a plastic card. Money created and loaned by a bank represent an addition to demand deposits.

            • Nic the NZer 1.2.1.1.2.1

              Thats introducing more confusion than its worth.

              When you deposit with a bank the deposited money (presumably reserve money or cash) becomes property of the bank. The bank also adds a matching liability, an entry in a deposit account. The depositor in effectively loaning to the bank their deposit.

              Notice there are two entries added, thats double entry accounting.

              Understanding this means there is only one possible way to resolve the Gould Brash debate, and its that the act of lending must create deposit money as it occurs. Other models of banking violate double entry accounting rules.

              • Phil

                there is only one possible way to resolve the Gould Brash debate, and its that the act of lending must create deposit money as it occurs.

                The lending transaction, and its associated accounting records, in and of itself does not create money. All the lending transaction does is shift the assets of the bank from one class (e.g. liquid assets) to another class (e.g. a loan to you to buy a house).

                Money is created when the seller of the house then deposits money into their bank.

                • Nic the NZer

                  What you have said there

                  “All the lending transaction does is shift the assets of the bank from one class (e.g. liquid assets) to another class (e.g. a loan to you to buy a house)”

                  is clearly incorrect. No such bank assets (including the reserves which may be used to make payment) shift class or ownership during the signing of a loan agreement. In general having a spendable entry in a bank account does allocate particular reserve assets to a customer for spending (the bank reserves remain property of the bank, as does cash until its withdrawn). Obviously what must happen here is the loan account balances the loan agreement in double entry accounting, e.g the loan account is where the deposit money is created if its spent or not.

                  You also failed to deal with the case of when the spender and receiver have accounts at the same bank (because the spending in this case involves no deposit like transaction).

                  • Nic the NZer

                    That should have been
                    In general having a spendable entry in a bank account does *not* allocate particular reserve assets…

                  • Phil

                    To keep it simple, start with two individuals (a buyer and a seller) and two banks:

                    If you, as the buyer, want to draw down on your home loan and pay money to the seller, then your bank must action this by transferring funds from itself to the seller (via the sellers bank). In practice, this is done through the settlement account each bank has with the Reserve Bank.

                    The double entry for your bank is:
                    Our deposit with the RBNZ down $x
                    Loan secured against a buyer and their house up $x

                    Both of these are assets on the balance sheet of your bank. Therefore, there is no change in money supply at all (because money is a liability to the bank).

                    The seller then receives the money as a deposit in their bank.
                    The double entry for their bank is
                    Our deposit with the RBNZ up $x
                    Deposit owed to the seller up $x

                    The first entry is an asset to the sellers bank. The second is a liability to the sellers bank. The increase in bank liabilities at the sellers bank is an increase in the money supply.

                  • Phil

                    You also failed to deal with the case of when the spender and receiver have accounts at the same bank

                    I didn’t “fail to deal with” a single-bank example at all. I deliberately chose to use two banks because (somewhat counter-intuitively) it’s actually easier to illustrate how money is created by the depositor, not the borrower, using two banks rather than one.

                    In the case of one bank representing both the buyer and the seller, there is still exactly the same amount of money created, but the accounting entries don’t illuminate the process in as useful a way.

                    • Nic the NZer

                      Seriously? All you have succeeded in doing in inter-twining the lending and withdrawal transactions together in such a manner that is more difficult to understand than with separate transactions, and introduces independent procedures for lending with an internal payment (where no money is withdrawn, or deposited) and lending with an external payment (where money is withdrawn and a deposit is paid into another bank).

                      This also doesn’t prove the point your trying to suggest, “Money is created when the seller of the house then deposits money into their bank.”. Because mixing lending and bank withdrawal transactions into the same transaction does not allow you to show which transaction has created money, and which has simply transferred ownership of funds.

                      I also have a little proof by contradiction for you. Say, “Money is created when the seller of the house then deposits money into their bank” the following conclusions must follow (because the seller could have got the money to deposit in many alternate ways apart from following a prior lending & withdrawal transaction),
                      1) All deposit transactions create money.
                      2) Purchases where only one bank is involved must be different to ones with two banks and must not create money (because no deposit is involved).
                      These are already things we know to be certainly un-true, ergo the quoted statement is therefore false.

                    • Phil

                      Your comment is utterly baffling to me. Can you please try that again?

                • Nic the NZer

                  Sure, can go through it again.

                  What your trying to suggest, which is that its the spend and deposit step creating money, during a overall purchase transaction must logically be incorrect. Its clearly the lending step.
                  First the actual transaction suggested is broken up at an inconsistent point. Its broken up where you have reserve bank deposits between banks. Since reserve bank deposits are account entries the accounting cant be broken apart like this mid transaction. I took your example and mentally repaired it by imagining the buyer withdraws cash to take to the seller.
                  The next issue here is that the sellers deposit transaction is in this case identical to any other deposit transaction. If that transaction step creates money so does any other transaction of depositing money (which we know to be untrue, implying a prior mistake has been made in reasoning).
                  The prior mistake is to not correctly account for the lending transaction, which created the new money. Conflating this with a withdrawal transaction also made it difficult to see the mistake made here. Now obviously withdrawing money from a bank doesn’t create money so just to explain why the statement, “Both of these are assets on the balance sheet of your bank. Therefore, there is no change in money supply at all (because money is a liability to the bank).” Is wrong. Money wasn’t created by the withdrawal but correctly considering it as a cash withdrawal there is now more money in public hands than before. Thats the money which was created when the loan transaction was completed.
                  I also suggest this is much easier to see by breaking down the multi step process into the minimal transactions such as borrow, withdraw, deposit or pay as this is not only more lucid, but also means the number of banks involved is irrelevant to seeing how a borrow transaction happens. The point I have been making about internal and inter-bank payment differences is that for an internal bank payment reserves are not involved at all. This blows any theory reserves are involved in the banks money creation process out of the water.

      • Liberal Realist 1.2.2

        I’m afraid that’s complete bollocks Mikesh. This false narrative has been doing the rounds for far too long now. It’s worse than a Chinese whisper.

        Where is the critical thinking from people? Of course banks don’t create money out of nothing. The very idea is absurd. The banking system in its entirety can create new money but individual banks sure don’t.

        Where do you think the money comes from when a loan is created? Simply put, some digits are keyed into a computer system creating new currency. Retail banks can do this as long as they meet regulatory liquidity requirements.

        Banks largely lend out from existing deposits and if they run short of deposits (cash reserves) they borrow more money from other banks or financial institutions.

        You actually made me laugh! How naive! The false narrative is yours my friend. Read up on fractional reserve banking, you might just find it educational.

        • DH 1.2.2.1

          “Read up on fractional reserve banking, you might just find it educational.”

          Why would I do that? The NZ banking system doesn’t operate a fractional reserve and we’re discussing NZ here.

          • MikeS 1.2.2.1.1

            Umm yes it does. Well i think its now a no reserve system but same principle

        • Phil 1.2.2.2

          Where do you think the money comes from when a loan is created? Simply put, some digits are keyed into a computer system creating new currency.

          Wrong.

          The agreement and transaction to create a loan between you and a bank does not, in and of itself, create money. Nor does it involve keying new money into a computer. Money is created only after further transactions – i.e you buy a house and give money to the seller. The seller then deposits money into their bank. It is that third transaction which creates money.

          People’s misunderstanding about this has relatively less to do with understanding banking, and more to do with understanding accounting.

          • Nic the NZer 1.2.2.2.1

            That description is slightly brief but absolutely true. It has to be true because of double entry accounting rules, which are not optional for banks.

            When a borrower signs a loan agreement the bank gains an asset. Thats one entry, a matching liability entry must be added somewhere else on the balance sheet of the bank. The entry is a computer entry, its a loan account. It contains bank money and just like a deposit account can be spent. No further transactions are required!

            If you require it to be spent you failed to deal with the possibility that spender and receiver are at the same bank. If the spender and receiver are at the same bank then this intrnal transfer just adds and subtracts bank money on two internal accounts of the bank. Ergo, the bank money exists as an account entry of the bank before its spent.

          • MikeS 1.2.2.2.2

            Rubbish

            You stated a further transaction as being giving money to the seller. Where does that money come from? It is created out of thin air as bank credit which is deposited in our account as a loan. You can then go and spend that money.

          • mikesh 1.2.2.2.3

            Money is only created, in that sense, if the buyer’s bank honours the seller’s cheque. So it comes back to the lending bank being the creator of money.

      • mikesh 1.2.3

        Where do those other banks get it from? Surely they create it out of nothing.

        • DH 1.2.3.1

          The point about money creation is it’s a collaborative event. Banks can’t create money by themselves, for money creation to occur requires borrowers and depositors as well as banks.

          There’s a line of thinking that a bank creates a deposit on approving a loan. Double entry book-keeping demands an entry on both sides of the ledger so a loan creation is matched with a new deposit to hold the loan.

          Bank deposits are counted in M3 money supply ergo the creation of that new deposit must be creating new money … out of nothing.

          Viewed in isolation that argument looks to have merit however it’s not the only journal entry involving the loan. The bank also transfers money out of reserves or borrowing to fund the loan.

          IMO most of the bollocks spread about banks originates from academics being pedants.

          • Nic the NZer 1.2.3.1.1

            You should have stopped at, “must be creating new money…out of nothing” because that is the right answer.

            Lets look at the accounting entries for a spending transaction across different banks. So at the payers bank the payers deposit account is debited by the spent amount. Also the banks reserve account is debited by the same amount. This works in double entry as both an asset and liability account are debited at once.
            At the other bank the payees deposit account is credited and the banks reserve account is credited with that same sum. This also works in double entry accounting in the same way.

            Now lets look at the accounting entries for a spending transaction at one bank. So the payers account is debited and the payees account is credited. This also works in double entry as the credits and debits cancel.

            Since the total reserve and deposit balances stayed the same across both transactions no money was created by the spending. Also note its the same as any other spending transaction (not just one subsequent to a loan) so spending transactions don’t ever create money.

            • DH 1.2.3.1.1.1

              I have no idea what you’re on about there.

              My comments, and Brash’s for that, are targeted solely at the claim banks create money of out nothing. That’s opposed to creating money out of something … like depositors funds or borrowed money.

              No-one disputes money is created from bank lending. That goes without saying. What money isn’t created from is thin air.

              • Nic the NZer

                Your still in the wrong there then. What has been highlighted is that the bank deposits created during a loan transaction are money, and they are created by account entry which is what out of nothing describes (no account entries are debited during a loan, as you yourself described). Also Don Brash agrees with that though he further eroniously claims reserves are needed before a loan can be made.

                What i was highlighting in my prior comment is that the spending step of a loan and purchase can’t possibly be doing any kind of money creation because no kinds of money (bank money or reserves) are created (or destroyed) when that occurs. Also because the spending step is the same spending step which happens with no loan, also because the spending step doesn’t contain any deposit step when two customers at only one bank are involved. You stated the process both completely and correctly but should have stopped after describing the loan transaction which created the bank deposits (eg money).

                • One Anonymous Bloke

                  Shorter and for my aching brain:

                  When I borrow (say) 100k to buy a house, the 100k is ‘created’ from nothing other than the bank’s assessment of my ability to pay. If they approve the loan the money is created and paid to the vendor.

                  I may or may not make good on the contract to repay the loan.

                  Is that the guts of it? I suppose the bank gets the house etc etc,; in practical terms that looks like a potential liability if they can’t sell quickly. Oh crap now my brain hurts again 🙂

  2. Nic the NZer 2

    Another relevant fact here is NZ has no statutory reserve requirements for banks. Commercial banks can hold what ever level of reserves they feel is prudent, given the payments they may have coming due. In fact this explains what reserves actually do in the system, they allow the banks to settle between each other on a day to day basis. They form no kind of constraint on overall lending what-so-ever (even in countries with a mandatory reserve requirement).

    “I wonder if Bill English understands this stuff?”

    Its clear he doesn’t. His concern about government deficits (which add reserves to the inter-bank system) indicate he believes that adding reserves to the system drives up interest rates. This is the more ‘modern’ version of monetarism where banks and the government compete for a scarce reserves resource and this drives interest rates for commercial loans and government finance. This is both standard doctrine and utter non-sense. In fact government deficits add reserves to the inter-bank system and this creates downward pressure on interest rates, at this point the RBNZ and DMO typically borrow the spending medium back with Open Market Operations (OMO’s) and so allow the RBNZ to maintain its chosen Official Cast Rate (OCR) near the 90-day bills rate (at which commercial banks lend each other reserves). Bill English has made several statements claiming that running government deficits will drive up commercial bank interest rates.

    • Draco T Bastard 2.1

      Its clear he doesn’t.

      Actually, I’m pretty sure that he and Brash do understand it and how it benefits the rich and that’s why they refuse to change it.

      • Nic the NZer 2.1.1

        I don’t think that the finance system needs to be modified.

        In present form it implies that the government can top up spending to what ever level the economy can sustain without effecting interest rates or inflation. That the government is always able to do this and it can’t be forced to default or back down by private finance not approving of its policies (or funding it). And that its possible for non-government finance to function independently of this (meaning the government does not need to be involved in every lending decision in the economy).

        What I do think needs modification (and what Gould appears to be implying needs modification) is that the role of commercial banks in facilitating house price competition needs to be observed, and could be much more stringently restricted by regulation to discourage this competition. I also think the public should understand the actual constraints of government finance better and public policy would be better served by much greater use of the governments full spending capacity and turning this towards the public good.

        • Draco T Bastard 2.1.1.1

          In present form it implies that the government can top up spending to what ever level the economy can sustain without effecting interest rates or inflation.

          Whatever makes you think it does that?

          And that its possible for non-government finance to function independently of this (meaning the government does not need to be involved in every lending decision in the economy).

          Even if we only had a single bank the government still wouldn’t be involved in any lending decisions.

          And considering that the government can and should make those loans available at 0% interest means that private companies couldn’t compete anyway.

          What I do think needs modification (and what Gould appears to be implying needs modification) is that the role of commercial banks in facilitating house price competition needs to be observed, and could be much more stringently restricted by regulation to discourage this competition.

          I tend to be in favour of sovereign money and preventing private banks from creating money in any way, shape or form The only money that they’d be able to loan out would be money that’s been deposited for that purpose. none of this money would have a government guarantee: When you loan someone money you’re taking the risk that you’re not going to get it back.

          I also think the public should understand the actual constraints of government finance better and public policy would be better served by much greater use of the governments full spending capacity and turning this towards the public good.

          True but I think it needs to be made clear that all money in the system comes from government spending.

          • Nic the NZer 2.1.1.1.1

            “Whatever makes you think it does that?”

            Once you stop believing that the quantity theory of money drives inflation, then it becomes relatively obvious that inflation is actually driven by spending above the real limits that the economy can sustain causing individuals to raise prices. This obviously implies that spending can be topped up to that level without effecting inflation.
            Interest rates on the other hand can be adjusted by a range of means in the same way the RBNZ controls interest rates today. By way of example of how this works in practice note the 90-day bills rate never deviates far from the OCR which is set by committee.

            “Even if we only had a single bank the government still wouldn’t be involved in any lending decisions.”

            Your saying the government loans money out at 0% interest without considering what it’s being borrowed for? Hmmm.

            “True but I think it needs to be made clear that all money in the system comes from government spending.”

            If we are considering what happens today, all money in the system doesn’t come from government spending, this is not even remotely factual. However what Don Brash has been fallaciously saying is that the total quantity of all money is a, relatively fixed, multiple of all the money the government has spent. That’s extremely miss-leading and I don’t think its good to advocate other miss-leading things be considered factual either. The implication of all money coming from government spending is that private debt levels are not important and can be ignored I don’t think that’s true even if all non-government lending happens via time-deposit style loans.

            • Draco T Bastard 2.1.1.1.1.1

              Your saying the government loans money out at 0% interest without considering what it’s being borrowed for? Hmmm.

              I’m saying that the government wouldn’t have a say in it in the same way that the government, despite owning Kiwibank, doesn’t have a say in the loans that they make. In fact, I’d expect it to be Kiwibank that actually does the loans.

              If we are considering what happens today, all money in the system doesn’t come from government spending, this is not even remotely factual.

              I know correlation doesn’t prove causation but:

              http://www.scoop.co.nz/stories/HL1112/S00130/keith-rankin-the-global-debt-crisis.htm

              That really does indicate that it’s government spending that keeps the economy afloat.

    • dukeofurl 2.2

      “NZ has no statutory reserve requirements for banks. ” ???

      http://www.rbnz.govt.nz/regulation-and-supervision/banks/prudential-requirements/information-relating-to-the-capital-adequacy-framework-in-new-zealand
      A Common Equity Tier 1 capital ratio of 4.5%;
      A Tier 1 capital ratio of 6%;
      A total capital ratio of 8%.

      It wouldnt be prudent to make it ‘statutory’ as they makes it much more difficult to change

      Ie say a ‘simple example’ ,Kiwibank has its own capital of say $1.5 bill, then it could lend $33 billion. ( simple example)
      This came up recently when it was proposed to increase KB capital by $200 mill. Even people who worked in lending at KB said they would only lend that $200 mill, when obviously the extra lending could be $4.5 bill

      As an aside KB in the Financial statements says it has $13.7 Bill of customer deposits (FY15), $9.1 bill of that is term deposits. plus $2.3 bill of debt securities
      Gross loans and advances is just over $15 bill.

      Where is this fictional money?

      So not much money there created by stroke pen.

      • Nic the NZer 2.2.1

        Capital requirements and Reserve requirements are different things.

        • dukeofurl 2.2.1.1

          DId you read it ? Obviously not

          Since 1 January 2013, locally incorporated registered banks have been required to comply with the following minimum capital ratios, which are calculated as the amount of capital that must be held in relation to risk-weighted exposures (including market and operation risk

          Reserves ? You probably mean liquidity
          http://www.rbnz.govt.nz/regulation-and-supervision/banks/prudential-requirements/liquidity-policy

          All registered banks are normally subject to minimum one-week and one-month mismatch ratios…. To be able to meet the minimum ratio requirement, a bank needs to hold a sufficient stock of liquid assets to be able to fill the projected mismatch between cash inflows and outflows. Liquid assets include securities that can be sold quickly and at a reliable price, such as New Zealand government debt.

          It would help if you knew the common names you are talking about

          • Nic the NZer 2.2.1.1.1

            By reserves I mean bank reserves, also called high powered money. That is the part of the money supply which you keep harping on about the RBNZ being the only issuer of, which is true.

            Obviously exactly what you have already quoted to me highlights the difference between a capital requirement and a reserve requirement. Only a reserve requirement can function as the high powered money term in a “money multiplier” as capital includes other things which are not counted as money, such as “New Zealand government debt” securities.

            • Phil 2.2.1.1.1.1

              Leaving aside the ‘money-ness’ element for a second, banks in NZ are required, implicitly, to hold reserves with the central bank. It’s not an explicit requirement like the Fed, but incorporated into the 1-week and 1-month mismatch ratios, exactly like dukeofurl describes.

              • Nic the NZer

                Yes, but unless there is a fixed ratio between high powered money and bank deposit money then the money multiplier model doesn’t describe the outcome.

                In fact (as dukeofurl highlights himself) the reserve bank stands ready to lend reserves as needed for settlement anyway. Even if reserves were a constraint then there is no constraint of deposit money by the central bank.

                We know its not just this which is a problem with the theoretical reserve constraint however. When central banks (in particular the Bank of England) have tried to enforce a limited growth of deposit money as a multiple of reserves it simply failed. The UK tried this under early Thatcher, or the prior Labour govt. Deposit money just grew unconstrained by reserve limits, regardless of high powered money creation rates. Look up Monetarism for details of that experiment.

  3. Draco T Bastard 3

    Real Monetary Reform
    Why are House Prices So High?

    there’s a lot of stuff on the internet that explains how the present banking system is a Ponzi Scheme/Pyramid scam.

  4. Bill 4

    I’m just quietly seeing it as a very good thing that mainstream voices are finally pointing to the wee man behind behind the monetary curtain.

    Next up (hopefully). Pointing out there is no reason whatsoever that government can’t play that role (if we’re to continue with this nonsense economy we’ve created) and provide all the money for all of the infrastructure work we need to be getting started on.

  5. Zack Brando 5

    Yes, it’s called the fractional reserve banking system. Lets not forget bad money is flushed out though the bankruptcy of irrelevant businesses, debt is diminished over time as currency devalues over time, the consumer enjoys the purchasing power of loans straight away AND ‘wealth is created’ when asset values increase due to money decreasing in purchasing power over time.

    Now you have been schooled.

    • SpaceMonkey 5.1

      Only if they are allowed to go bankrupt… so many are artificially propped up these days (pretty much the entire banking and insurance sectors… lots of bad money right there) that there is no way we can call it capitalism.

      • Zack Brando 5.1.1

        The whole system is out of wack, keep an eye on the SDR.

        • SpaceMonkey 5.1.1.1

          You mean that thing masquerading as a global currency while waiting in the wings to BE the one world currency?

    • Nic the NZer 5.2

      Fractional reserve banking is exactly what Don Brash is saying occurs. Gould highlights that this is exactly the model of banking that the Bank of England says is invalid and not how banking works (among a multitude of other sources, across multiple decades, if you were paying attention to this).

      • dukeofurl 5.2.1

        Where does the Reserve Bank say what happens in England happens here ?

        Also if money can be created by a stroke of a pen , how come so many UK banking institutions collapsed?
        eg https://www.theguardian.com/business/2011/dec/12/rbs-collapse-timeline

        • Draco T Bastard 5.2.1.1

          Where does the Reserve Bank say what happens in England happens here ?

          We use exactly the same banking system here as there. In fact, it was imported wholesale back in the 19th century when all of the UKs laws were imported wholesale.

          And you should probably do a lot of reading here which has been written by someone who’s done the research into our laws that show that it’s exactly the same.

          • dukeofurl 5.2.1.1.1

            So the RB says that then where ?

            I looked at Kiwibank financial statements, where the Gross loans and advances is roughly equal to the total of deposits and debt securities.
            You tell me where a NZ bank has created money , by reference to their accounts ?

            ie Money KB have borrowed ( mostly term deposits) is roughly equal to Gross amount lent out

            Its simple: borrow at short term rates ( 3months – 4-5 years) and lend out long term (25 years)
            The difference in interest rates is the banks margin.

            Not too different to the way every company works, except Banks have very low capital ratios, while say Fonterra might be 40-50%

            • Nic the NZer 5.2.1.1.1.1

              Here is an example dealing with the details of commercial bank accounts.

              “Can banks individually create money out of nothing?” – Richard Werner

              The Abstract concludes,
              “This study establishes for the first time empirically that banks individually create money out of nothing. The money supply is created as ‘fairy dust’ produced by the banks individually, “out of thin air”

              http://www.sciencedirect.com/science/article/pii/S1057521914001070

              • dukeofurl

                Save the links to other countries, explain your process with regard to Kiwibank ( or other NZ bank)

                You cant of course !

                • Nic the NZer

                  Of course its perfectly obvious that its the same in NZ. This follows from several facts which are well known attributes of the lending process,

                  a) Nobody (depositor or other party) loses access to their demand deposits when Kiwibank (or any other bank) makes a loan.
                  b) The borrower gains access to additional spending they didn’t have access to prior to borrowing.
                  c) Bank deposits are counted as part of the money supply, by the RBNZ.

                  That is exactly what Werner’s paper above verifies, and its clearly as true of NZ as it is of Germany, or the UK, or the US or for any other bank anywhere.

            • Draco T Bastard 5.2.1.1.1.2

              You tell me where a NZ bank has created money , by reference to their accounts ?

              And WTF do you think ‘debt securities’ are you moron?

              Here, I’ll spell it out for you:

              1. Person goes to bank to get mortage
              2. Bank creates money and deposits it in the persons bank account
              3. Bank takes house as debt security

        • Nic the NZer 5.2.1.2

          Banking in NZ works the same as banking in other countries. What the Bank of England wrote about was in no way particular to how banking in the UK works. Its clear NZ has the same institutions and practices as the UK in this way. Also, if your considering fractional reserve as a model see how that works when NZ has no statutory reserve requirements in place.

          What loans create deposits doesn’t mean is that banks can’t collapse. Banks need to balance assets and liabilities, so if a bank loans money, creating additional deposits in the process and then the borrower defaults on their loan (which is a bank asset) then the bank still ends up with a hole in their balance sheet. When this happens enough then the bank can still become insolvent (having more liabilities than assets).

          Another thing which didn’t help with this is once people discovered that RBS may be insolvent then they started trying to rapidly get their money out, e.g drawing down their demand deposits. This rapidly led to RBS running out of ‘cash’ and having to buy top ups of cash and bank reserves, at interest (cost of the UK equivalent of the OCR), from the Bank of England.

          However as long as RBS could find borrowers then they would be able to lend. If they did so and lacked the reserves to make payments then they could always borrow them from the Bank of England anyway, having access to this might depend on them being able to show solvency to the Bank of England however.

        • Nic the NZer 5.2.1.3

          Sorry to respond again but, I found a really good story in another Richard Werner paper. Apparently Credit Suisse effectively bailed themselves out to the tune of 7 billion pounds by lending to people who invested in their own shares (e.g they created 7 billion pounds and indirectly loaned it to themselves). Surprisingly we know this actually happened because it was disclosed to Swiss regulators (who were unbelievably, ok with it).

          http://www.sciencedirect.com/science/article/pii/S1057521915001477
          See section 5.2

          So if you can get this kind of thing past bank regulators then banks can (and have) bailed themselves out via the credit creation process!

          • Phil 5.2.1.3.1

            I cannot speak for other nations, but the RBNZ has an explicit rule in our capital standards that a bank cannot recognise capital it has directly or indirectly funded the purchase of.

            In the case of the Swiss, they’re a party to the Basel international banking standards (which have undergone complete revision since the GFC) and I suspect whatever loophole allowed CS to issue capital in 2008 will have been closed.

            • Nic the NZer 5.2.1.3.1.1

              Did you see the follow up rumour story about Barclay’s doing the same thing in th UK where it is illegal?

              • Phil

                I did not. Interesting. Link?

                • Nic the NZer

                  Its in the section 5.2 in the above. Its just a record of a rumor of course.

                  “A similar share issue transaction by Barclays Bank was “a remarkable story of one of the most important transactions of the financial crisis, which helped Barclays avoid the need for a bailout from the UK government”. The details remain “shrouded in mystery and intrigue” (Jeffrey, 2014) in the case of Barclays”

      • mikesh 5.2.2

        .Even if fractional reserve banking still applied, it would entail the banks creating money out of nothing. The issue with creating money through lending though is whether the money so created goes into productive activity, or whether it simply increases prices of existing assets.

        If credit creation were nationalised the government would probably be able to exercise better control of this factor in the public interest. The banks could exercise greater control but don’t. They seem to place profit ahead of the public interest.

    • Draco T Bastard 5.3

      And that’s all a load of bollocks.

      Lets not forget bad money is flushed out though the bankruptcy of irrelevant businesses

      No it’s not – there simply isn’t enough bankruptcies and most of the money created is in housing mortgages which you cannot default upon. All of which means that the amount of debt created expands exponentially.

      debt is diminished over time as currency devalues over time

      No it’s not because more debt has to be taken on to cover the exponentially expanding interest.

      the consumer enjoys the purchasing power of loans straight away

      And they get to enjoy the ever increasing debt, stagflation and collapse of the economy which inevitably makes them worse off throughout their life.

      ‘wealth is created’ when asset values increase

      Now that is just pure delusion The value of an asset never increases. In fact, it always decreases – that’s why we have depreciation in our tax laws.

      Now you have been schooled.

      The only thing we learned was that either you’re a complete ignoramus with no ability to think or that you were lying.

  6. ianmac 6

    Wasn’t the Green Party a few years ago, suggesting that the Government printed money? The idea was ridiculed of course. Is it the same thing Bryan was talking about? Money or different money I guess.

    • dukeofurl 6.1

      No. Gould was saying Banks create money, when for NZ, its the Reserve bank that does it – and would do for the Greens ‘printing money’ proposal ( which is what China Japan USa, UK , EU did)

      NZ banks reconcile their accounts overnight as they transfer money to each other, any bank that is short must borrow the difference from the Reserve Bank ( and pay interest). In this part of the banking system, the overnight money ( smallish amounts) is created by RBNZ

      • Nic the NZer 6.1.1

        This is all correct but it doesn’t contradict what Brian Gould is saying. Bank deposits are also money it their own right (counted as M3 in central bank statistics). That is the kind of money being discussed in the debate between Gould and Brash.

    • Nic the NZer 6.2

      What the Green Party was discussing was the common practice of the Debt Management Office (DMO) borrowing all government spending before it occurs at interest from the inter-bank market. This is largely un-necessary but if there are too many bank reserves (what the government spends/taxes/collects and banks pay each other with) in the inter-bank market then the interest rate banks lend to each other at (90-day bills rate) will diverge from the Official Cash Rate (OCR). The OCR is roughly where the RBNZ wants the price of borrowing to be, according to its current monetary policy.

      There are other ways that this system could be maintained, such as letting the OCR fall to zero indefinitely, or paying interest on reserves to maintain a positive rate. This means the government doesn’t need to be borrowing more if it wants to run a deficit. What the Green Party was more discussing was the fact that the government is in charge of the RBNZ and therefore overseas the inter-bank market. If it wants payments made all it needs to facilitate this is to instruct the RBNZ to make payment to some bank account, so the government faces no budget constraint.

      NZ did a similar thing under Michael Savage and part of the spending on NZ’s famous house building program was financed simply by this kind of direct government spending.

      • Draco T Bastard 6.2.1

        The OCR is roughly where the RBNZ wants the price of borrowing to be, according to its current monetary policy.

        Ah, but is interest a viable means of pricing money?
        Should money be priced at all?

        On loss from trade

        Abstract: Consider models of international trade in which capital goods are produced, not given as an unproduced endowment. A positive interest rate, in such a model, acts as a price distortion. Consequently, the gains of trade for a single country, when comparing stationary states with and without trade, can be negative. Previous authors have drawn this result in models with production depicted as a circular process, even though their point does not depend on this modeling choice. The principle contributions of this paper are to provide a demonstration of the possibility of such a loss from trade in a simplified model with “a one-way avenue … lead[ing] from ‘Factors of production’ to ‘Consumption goods’” and to illustrate the model with a concrete numerical example.

        The theory of comparative advantage is not sufficient to justify the advocacy of free trade in consumer goods, even under textbook assumptions.

        My bold.

        • Nic the NZer 6.2.1.1

          Anything from the real world you incorporate into an economic model is going to be a ‘price distortion’. That is because your comparing reality to a flawless market which has no imperfections, apart from it could not possibly exist.

          If you were comparing an actual jobs market to a hypothetical perfect jobs market where supply and demand always function then an employment contract creates a price distortion (in this example price is a wage), as it slows adjustments in the employment market to changes in conditions. This just demonstrates how meaning less talking about a ‘price distortion’ is.

          • Draco T Bastard 6.2.1.1.1

            That is because your comparing reality to a flawless market which has no imperfections, apart from it could not possibly exist.

            That is a major problem with present economic hypothesis in that it points to a perfect market and says that it works and thus it should also work in the real world. The real world data shows that it doesn’t and never will.

            This just demonstrates how meaning less talking about a ‘price distortion’ is.

            Not for the supply of money because there is no cost to such supply. Or, to be more precise, the cost should be covered by general taxes rather than levied individually because everyone needs money so that the cost is subsumed and doesn’t have the same effect.

  7. Draco T Bastard 7

    Bryan’s got another piece out on this: The Fallout from Brash’s Downfall

    In either case, my rebuttal – again in the Herald – of his assertion that I was “peddling nonsense” has a number of ramifications that are worth pursuing. For a start, here was one of our most high-profile public figures revealing that he was woefully ill-informed on a subject on which he was widely regarded as expert.

    He had, after all, been the country’s top banker, and that is to say nothing of his eventual emergence as a “hard right” politician – leading first the National party and then Act, and only narrowly failing to become our Prime Minister in 2005.

    His woeful attempt to deny what is now accepted must cast huge doubt on the continuing legacy of “Rogernomics” in our economic policies. The whole myth of prudent economic management under neo-liberal policies must be reconsidered in the light of what we now know is the banks’ self-interested creation (or “printing”) of billions of new money.

    The frequent condemnations of any suggestion that governments might “print money” (unless it is “quantitative easing”, with the purpose of bailing out the banks) must now be viewed against the relaxed attitude towards the banks doing precisely that – day in, day out, and on a massive scale – for their own profit-making purposes.

    • dukeofurl 7.1

      I respect BG’s opinion on a lot of things, but he knows squat about NZs banking system.
      An Oxford law degree then the diplomatic service do not a financial expert make.

      Brash may be a silly old goat but Im sure hes forgotten more of the top level financial nous than BG ever new.

      In one way its not too surprising, most national Mps have no idea of how NZ unions work or have a clue at all about industrial relations. Reading some tomes from US or UK wouldnt be much help either.

  8. Wayne 8

    I am pretty sure that Don Brash will be vastly more knowledgeable about this issue than Bryan Gould.

    Commercial banks don’t create money, only central banks can do that. That is what Don Brash said, and he is right.

    Draco (5.2.1.1.1.2). You are wrong. The bank (a commercial bank) can only lend money to a homeowner if it borrows it externally, either from other banks, or from its depositors.

    The central bank, through QE type mechanisms, may have created more money for the commercial banks to borrow, but for the commercial banks such money is a liability on their books. Of course such bank borrowings from the reserve bank or interbank loans will have a lower interest rate than what the homeowner is paying. The margin between the two is how the bank makes money to cover its running costs and for the profit for shareholders.

    • Draco T Bastard 8.1

      I am pretty sure that Don Brash will be vastly more knowledgeable about this issue than Bryan Gould.

      The research prove Bryan right and Brash (and you) wrong.

      The bank (a commercial bank) can only lend money to a homeowner if it borrows it externally, either from other banks, or from its depositors.

      No, I’m right. I know this because of research done by a lot of people across the world, including the bank of England, which show that banks create money when they make a loan

      • dukeofurl 8.1.1

        Show it from a NZ banks books like Kiwibank ?

        I proved the opposite: The money borrowed is essentially the source of funds.

        If they can create money, why have term deposits at all ?

        A primer on NZ banks funding is here
        http://www.rbnz.govt.nz/-/media/ReserveBank/Files/Publications/Bulletins/2012/2012jun75-2wong.pdf

        There is a limited pool of savings in New Zealand and
        therefore a limited appetite for local investors to consider
        investing in long-term wholesale bank debt. Banks that
        seek longer term debt issues are effectively forced to
        attract overseas investors and this usually means issuing
        in foreign currency. A widening of the investor pool by
        seeking overseas funding enables the banks to diversify
        funding risk.

        Local investors in long term bank debt !
        widening investor pool by seeking overseas funding !

        • Draco T Bastard 8.1.1.1

          I proved the opposite:

          No you didn’t. You made an assertion which I rapidly proved wrong.

          The money borrowed is essentially the source of funds.

          Yeah, that would be the point – the banks create money.

          Local investors in long term bank debt !

          So, what are you exclaiming about there?

          widening investor pool by seeking overseas funding !

          Which is pure delusion. We don’t need foreign money to utilise our own resources.

          And then there’s the fact that that money from offshore is also likely to be bank money because they use the same banking system and have the same ratio of bank money to reserve currency.

          • dukeofurl 8.1.1.1.1

            Where ? Your only evidence is some report from Bank of England

            Its not something Im particularly interested in, yet I can pull up all the local in formation in 10 mins or so.

            1)A banks books, which show the quantum nad source of funds for lending
            2) A Reserve Bank report of the general methods and sources of bank borrowing.

            DTB you are usually wrong about most things , but denying the meaning of simple words takes the cake.

            What do you think ‘local investors investing in wholesale long term bank debt’ means that its created at a stroke of a pen. ? I dont care where they get it from overseas, its a clear evidence the local banks borrow their money before onlending.

            Wake up man , you have lost your marbles.

            • MikeS 8.1.1.1.1.1

              The Reserve Bank of New Zealand in bulletin 71 states that the vast majority of money is created by private banks.

            • Draco T Bastard 8.1.1.1.1.2

              I dont care where they get it from overseas, its a clear evidence the local banks borrow their money before onlending.

              No it’s not especially in a system that’s based around a fractional reserve. They borrow some to push up their reserves allowing them to lend out even more.

              If the small part that they borrow also comes from the same method, which it most likely does, then we have two instances of ex nihilo money and not just one which is, essentially, doubling down on failure.

          • Gosman 8.1.1.1.2

            Explain how Zimbabwe can’t exploit it’s own resources then?

            • Draco T Bastard 8.1.1.1.2.1

              Because of corrupt leadership.

              • Gosman

                Not really good enough answer Draco. They would be desperate to exploit your proposed systems amazing ability to create capital for exploiting their own resources but somehow lack that ability. Your challenge is to show how they could do that.

                • Draco T Bastard

                  Not really good enough answer Draco.

                  Yes it is because that really is what’s causing their problems.

                  Your challenge is to show how they could do that.

                  That’s not really a challenge:

                  1. Good education
                  2. Use that education to develop local infrastructure which would include
                  – Extraction of local mineral resources
                  – Processing of those resources
                  – Development of industry to utilise those processed resources
                  3. Goto 2.

                  You know, same as what we did – especially in the 1930s under the 1st Labour government.

    • Nic the NZer 8.2

      I hope your presently wearing your best “I’m with stupid” tee-shirt Wayne.

    • PMC 8.3

      “I am pretty sure that Don Brash will be vastly more knowledgeable about this issue than Bryan Gould.”

      No doubt your belief is commensurate with your political leanings, Wayne. I hope you’re not trying to pretend otherwise.

    • DoublePlusGood 8.4

      “The bank (a commercial bank) can only lend money to a homeowner if it borrows it externally, either from other banks, or from its depositors.”
      You’re either staggeringly ignorant about banking for someone with your employment record, or you’re deliberately lying.

    • MikeS 8.5

      Rubbish Wayne

      This from the reserve banks own website, RB Bulletin 71, March 2008

      “In practice, by far the largest share
      of money – 80 percent or more, depending on the measure
      (discussed below) – is created by private sector institutions. “

    • Sacha 8.6

      How would you characterise fractional reserve banking, Wayne?

      • Phil 8.6.1

        How would you characterise fractional reserve banking

        I can’t speak for Wayne, but I would personally characterise FRB as a fundamentally misunderstood concept, sitting alongside the likes of “neo-liberal” and “communist” as a term peddled exclusively by the ignorant.

        • Sacha 8.6.1.1

          Gosh, here I was thinking it was such a common term there was a citation-filled Wikipedia entry about it: https://en.wikipedia.org/wiki/Fractional-reserve_banking

          “Fractional-reserve banking is the practice whereby a bank accepts deposits, makes loans or investments, and holds reserves equal to a fraction of its deposit liabilities. …

          Because banks hold reserves in amounts that are less than the amounts of their deposit liabilities, and because the deposit liabilities are considered money in their own right, fractional-reserve banking permits the money supply to grow beyond the amount of the underlying base money originally created by the central bank.”

          • Phil 8.6.1.1.1

            What you’ve described there is “banking”. That’s all. When people use the term ‘fractional reserve banking’ they’re usually using it in the pejorative (just like neo-liberal or communist or socialist or conservative) and ignoring the broader context of how banks operate with the framework of regulation.

            • Nic the NZer 8.6.1.1.1.1

              So your saying the Fractional Reserve wiki page does accurately describe the practice of banking then?

              • Phil

                The third sentence of the FRB wikipedia page says exactly that, yes.

                As I said above, the problem I have is that the people who use the term FRB are often doing so in a pejorative manner, or in a way that implies it’s somehow different and “bad” from other forms of financial activity.

                To use an analogy: ‘banking’ is to ‘fractional reserve banking’ as ‘cricket’ is to ‘bat and ball cricket’.

        • mikesh 8.6.1.2

          Fractional reserve banking takes its name from the situation in which gold was used as money, or banknotes were convertible into gold. In those days the amount of money a bank could create and lend was a multiple of the amount of gold equivalent it held on deposit, the multiple being determined by its Prudential requirements.

  9. Phil 9

    As it happens, Gould and Brash are BOTH RIGHT.

    The key thing most people miss is that while money is an important component of understanding how economies function, money is fundamentally an accounting concept. The question of “what is money?” is driven by how we choose to some thing as a means of exchange to interact with each other (i.e. economics) but the questions of “how much money is there and how it is created?” are fundamentally questions of how transactions are accounted for.

    Brash is right when he says a bank singular cannot create money “by the stroke of a pen” because that would violate basic accounting principles. Money can only be created through interaction and transaction with others.

    On the other hand, Gould is right when he says commercial banks plural create money. It’s created through a series of transactions, with corresponding movements in debits and credits across multiple organisations. That we, as a society, choose to call something money is more about how we interact in society than anything magical or special about commercial banks.

    • Nic the NZer 9.1

      If Brash is right, in practice what figure is the money multiplier? If it varies over time (significantly) then Brash is wrong and Gould is the only correct one.

      • Liberal Realist 9.1.1

        Perhaps the distinction everyone is debating is the difference between ‘broad money’ and ‘base money’?

        • Nic the NZer 9.1.1.1

          No, its just if broad money is a fixed multiple of base money (or if as Gould argues the multiple is not constrained by anything in particular). That is the nub of the debate right there.

      • Phil 9.1.2

        If Brash is right, in practice what figure is the money multiplier?

        I’m not sure what the point of your question is?

        The money multiplier isn’t a constant like the speed of light. It is, in my view, nothing more than a ratio that can be calculated by looking at the changes that occur over time in a bank balance sheet. I guess it helps a student demonstrate in an exam they were paying attention to the math in that particular economics lecture… *shrugs*

        In NZ the context, the money multiplier is not especially interesting or illuminating in practice. Our method of limiting the growth of banks is through capital adequacy requirements, not reserve ratio requirements. And, our method of managing inflation is through changes in interest rates, not changes in reserve ratio requirements.

        • Nic the NZer 9.1.2.1

          Thats exactly the point, Brash is claiming Gould is wrong based on the ‘money multiplier’ being a thing. But the relationship between base and broad money is arbitrary and not in any way dictated by this relationship, and it doesn’t influence reserve bank policy.

          When Brash says something most people would have the understanding that its a scientific statement about how things in the economy actually function, and that this effects how central banks do things. Maybe we should take it instead that this is just some high powered economist showing he was listening to his professor in economics classes, and the economy actually works in an unrelated manner which he is not describing.

          • Phil 9.1.2.1.1

            I’m still perplexed our question, but admittedly may be missing an obvious point.

            Brash said:
            The banking system does create money. When Bank A lends money to one of its customers, the customer may use those funds to buy something from somebody who banks with Bank B. Bank B then finds itself with an additional deposit, a part of which it can lend out to its customers (keeping some of the additional deposit as a liquidity reserve). So an initial loan may end up considerably increasing the total lending by the banking system.

            That’s the money multiplier in action right there, right? The money multiplier is not exclusively about the relationship between base and broad money.

            • Nic the NZer 9.1.2.1.1.1

              Yes, most people take the money multiplier model to mean there is a largely fixed ratio between broad and base money. This is quite reasonable, and Brash is missleading the public to highlight this relationship and claim Gould is saying something wrong.

              That model also implies some incorrect things about bank accoumting. If you highlight such a numeric relationship the reasonable assumption is that its not an arbitrary ratio of two unrelated numbers.

    • the Joneses 9.2

      I guess what you are saying is when you think you have money in the bank, you do not. You just have credits which you may or may not be able to convert back into cash or products at some future point in time, depending on the banks fortune. You can call it money, but it isn’t really till it is cash in your hands, or you have paid for something with it.

      I do agree that they are both basically saying the same thing. But coming at it from a different perspective.

      It is strange that the banking system is such a secret (not taught in school, portrayed as boring and complicated elsewhere) when they effectively control a lot of what goes on in the world. I guess knowing about how banks work might make people not want to put their money in a bank, and that is ‘bad for the economy’. Also we might question why so much power over how a country works is put into private hands.

      • Phil 9.2.1

        Sort of.

        In economics there’s the idea of “moneyness” which is how close a thing comes to exhibiting all the expected/desired attributes of money – does it store value? can it be used as a medium of exchange? is it divisible? can it be easily accessed and converted? and so on.

        At the purest and most obvious end is physical cash. then comes things like eftpos transaction accounts, then savings accounts and term deposits, then things like stocks and bonds, then physical assets.

        At the end of the day, we call cash and deposits with banks ‘money’ because they exhibit most of those “moneyness” attributes that matter for transacting with each other.

        That money is (mostly) the creation of bank transactions in NZ is largely a quirk of how the economy has evolved and our limitations of being able to count a wide array of financial assets held by millions of individuals. By contrast, a lot of latin american countries include municipal bonds (equivalent of Auckland City Council debt securities) in money while we don’t, yet they have literally the same features.

        • the Joneses 9.2.1.1

          I don’t think it is a quirk. I feel it has been created by the wealthy as a lever for the rich getting richer and the poor getting poorer. The rich own assets, while the poor only have their labour to get by on. With inflation, the value rises to those able to hold onto assets, while those without get increasingly poorer. As can be seen in Auckland right now.

          Also I guess it is the tax system not helping, taxing income rather than net value is also weighted against the poor.

          What was wrong with the gold standard? I don’t understand why money has to loose value, rather than increase in value for an economy to function properly. I guess it has to do with people hoarding cash. But people hoard land and other assets currently in the same manner so not much difference.

          • Phil 9.2.1.1.1

            I don’t think it is a quirk.

            I’ve probably used ‘quirk’ wrong. What I mean is that there have been plenty of other cultures and societies that have used other stuff as money – shells, stones, live animals, precious gems, even cigarettes. The fact that what we call money today is largely created by organisations called banks is because of how society evolved, and the types of organisations that service people’s needs.

            Or, to put it another way – banks are currently powerful because of their central position in the economy, which in turn is because of their unique ability to meet our transactional and investment needs. That they also create money in the process of doing that job really just a by-product.

            What was wrong with the gold standard? I don’t understand why money has to lose value,

            You’ve literally answered your own question in the very next sentence. 🙂

          • Liberal Realist 9.2.1.1.2

            I feel it has been created by the wealthy as a lever for the rich getting richer and the poor getting poorer.

            Nailed it!

            The debt based monetary system we operate the world over is basically a ponzi scheme of the grandest proportions. It doesn’t have to be this way however we’re so far down the rabbit hole that the only way out in my opinion is a worldwide collapse of the global financial system (all those zeros and ones) wiped clean. Only then, could a fair system have a chance of arising from the ashes of the grand scam (and that is doubtful!).

            What was wrong with the gold/silver standard was that is constrained the globalists. For example, when the US overspent on murder in Asia Nixon dropped the gold standard because the French wanted their gold and the US couldn’t come up with the goods. Of course, the US later came up with the petro-dollar, solidifying their position as global hegemon.

            How long the perpetual debt based system can go on is anyone’s guess but it’s got to fail eventually.

            • Phil 9.2.1.1.2.1

              For example, when the US overspent on murder in Asia Nixon dropped the gold standard

              The US effectively got rid of the gold standard in 1933, and doing so allowed FDR to get the US out of the depression. Nixon’s motivations in ’71 were political, but almost completely irrelevant to the function of the US economy.

              What was wrong with the gold/silver standard was…
              … that it forced governments to do exactly the wrong thing to mitigate economic downturns or limit overheating economies.

              In an overheated economy, nobody wants to hold gold (because it does not earn interest), so you have to lower interest rates to make gold relatively more attractive to the public. This, in turn encourages more borrowing and spending and overheats the economy further.

              On the other hand, in a downturn people want to hold gold (because it is perceived to be a good store of value) so to balance the gold standard you have to raise interest rates and make dollars more attractive. This, in turn, makes borrowing and spending less attractive to the wider economy and can lead to a severe downward spiral… just like what happened in the great depression.

              In both cases the gold standard exacerbates, not mitigates, the boom-and-bust nature of an economic cycle.

    • mikesh 9.3

      Phil, that is incorrect. Money is not merely a transaction record. It is actually part of the transaction. Accounting has nothing to do with the transaction itself.

      Demand deposits at a commercial bank are considered money because they can be spent by writing out a cheque, or by swiping a plastic card, or by initiating a transaction via the internet.

      Some people say that the banks, when they make loan, are merely lending their demand deposits, and are therefore not creating money “out of nothing”. This would be true only if those deposits were removed from the books: which is patently not the case. The deposits remain on the books and can be spent at any time by the depositors. Therefore the loans are made with money created by the bank for that purpose.

      • Phil 9.3.1

        Money is not merely a transaction record. It is actually part of the transaction. Accounting has nothing to do with the transaction itself.

        To clarify, what I mean is: the total value of all the stuff that you and I and the rest of society call ‘money’ is measured by statisticians, who analyse the balance sheets of registered banks and other financial institutions. The balance sheets of financial institutions are a record that represents the impact or consequence of transactions we make.

        Some people say that the banks, when they make loan, are merely lending their demand deposits, and are therefore not creating money “out of nothing”. This would be true only if those deposits were removed from the books: which is patently not the case.

        You are incorrect, that’s not what people are (not what I am) saying. I think your error comes from confusing two kinds of deposits.

        A deposit you and I make with a bank is money. On your balance sheet you call it an asset, and on the banks balance sheet that very same deposit is a liability.

        A deposit a bank makes with, say, the Reserve Bank is the opposite. To the bank, it’s an asset and to the Reserve Bank it’s a liability.

        When you borrow from a “A-bank” and buy a house, A-bank enters a record that it has a new asset (i.e. a loan which you have to repay to A-bank) and at the same time it enters a record that reduces its deposit with the Reserve Bank, because it has given money to “B-bank” for the seller of the house. B-Bank acknowledges it now has an increase in its deposit with the Reserve Bank, and at the same time records an increase in its liabilities, because it has put ‘money’ into the deposit account of the Seller.

        • mikesh 9.3.1.1

          I am familiar with all this, but it merely a discription of a process, and does not mention the net effect of that process. In effect it does not address the issue of whether the process does, or does not, create money, which is what this debate is about.

          On the face of it, A bank, in the example you give, would seem to have created money because that money turns up eventually in the account of B bank’s customer.

          • Phil 9.3.1.1.1

            In effect it does not address the issue of whether the process does, or does not, create money, which is what this debate is about.

            On the face of it, A bank, in the example you give, would seem to have created money because that money turns up eventually in the account of B bank’s customer.

            But that’s exactly the kicker – it is the process, not one individual party, that creates money. Money can only be created when multiple parties agree that a ‘thing’ (in this case, a loan) is able to be used for transactions. When Brash rails against Gould’s assertion that banks can create money by themselves, without intervention or action by someone else, this is exactly the misunderstanding that Brash is railing against.

            • Nic the NZer 9.3.1.1.1.1

              Well that makes zero sence. As you know Credit Suisse was able to bail itself out by effectively issueing itself a loan. A transaction which required no diss intrested party to agree to. And if a seller and buyer inhabit the same bank then its only a transaction of the banks internal deposit accounts. Other than the borrower and bank no other parties are involved.

              What Brash appears to be railing against is the public getting the idea that bank reserves are not involved in the money creation process. It happens in this case that what Brash is claiming is incorrect. Bank reserves are for interbank payments but are simply not involved in (or a constraint on) lending.

          • Phil 9.3.1.1.2

            To use an analogy.

            Saying “banks create money” is a bit like saying “flour creates bread”.

            Yes, flour is a critical part of the bread making process, but it ignores the important roles played by the other raw ingredients, the hot oven, and the baker.

            • mikesh 9.3.1.1.2.1

              When a borrower asks for a loan, he is just asking for money, not ‘fiat’ money. It is the bank which, if doesn’t have any on hand to lend him, decides to create the stuff.

              All of this of course is just a lot of hair splitting. Clearly if money is being created it is the bank that is doing it.

              Using your earlier example, a lending bank has sufficient funds in its RB account to cover the loan then it is not creating money; and if it’s RB account doesn’t contain sufficient funds then money is being created. Of course the RB account may contain funds from other sources e.g. term deposits etc and overseas borrowings; this is what Don Brash is getting at. Bryan Gould seems to have relied too much on the BoE governor’s generalised statement without really checking what goes on locally.

              • Nic the NZer

                The banking process in NZ and the UK are similar enough that there is no problem relying on BofE research (or the Bundesbank, or the St Louis Fed who have similar published research).

                Interbank spending never creates money and the bank must have the funds before the transfer always.

                Brash is simply making an incorrect claim.

  10. Jeremy 10

    I think they are both technically right.

    Brash is focussing on the fractional reserve, and trying to pull the wool over everyone’s eyes about the rest. While Gould is focussing on the rest, and obsecuring the importance of the fractional reserve.

    • Nic the NZer 10.1

      No, what Gould is saying is that there is no fixed relationship between reserve money and bank deposit money. While one is always a fraction of the other, if that fraction is not fixed, then modeling this as a fixed relationship (the supposed money multiplier relationship) is pure fantasy. That is the point of contention in this discussion.

      NZ has no statutory reserve requirements, btw…

      • Jeremy 10.1.1

        The fraction retained is crucially important.

        Gould’s article makes it seem that any fractionality is inherently dangerous, while Brash’s article makes it seem that every dollar lent is backed by a corresponding asset in fixed quantities.

        In my opinion the truth is in the middle.

        • Nic the NZer 10.1.1.1

          Sure, so seeing how crucially important that fraction is what is it? How many dollers of bank money are able to be created for each doller of bank reserves.

          • Jeremy 10.1.1.1.1

            I think Lehman was at 1 in 42 when it collapsed in 2008, so that’s clearly ridiculous. The Aussie banks seemed to survive that particular stress test without collapse so their ratios must been adequate, from memory they were approx. 1 in 10 at the time.

            • Nic the NZer 10.1.1.1.1.1

              That 1 to 42 figure is a leverage ratio. Its a measure of Lehman assets to liabilities but includes many assets and liabilities which are not money. So thats not indicative of a money multiplier ratio.

              Basically what i asked about is a ratio of high powered money to bank deposit money. The number itself however is not very useful and not of much interest to central banks as its not in any way fixed. Commercial banks don’t need the bank reserves to extend loans. Even if the reserves necessary to settle don’t become available directly to the bank the central bank will lend them at the OCR anyway. There is reserve constraint restricting bank lending creating new bank deposit money, and this is why we never hear of a bank refusing to lend because they have no funds (they refuse for other reasons).

              The implications for good policy here based on understanding this correctly are not neglegible.

              • Nic the NZer

                Oops, meant to write, There is *no* reserve constraint …

                • Jeremy

                  I must have remembered Lehman’s leverage ratio as their reserve ratio. The problem of relying on memory.

          • Phil 10.1.1.1.2

            what Gould is saying is that there is no fixed relationship between reserve money and bank deposit money. While one is always a fraction of the other, if that fraction is not fixed, then modeling this as a fixed relationship (the supposed money multiplier relationship) is pure fantasy.

            seeing how crucially important that fraction is what is it? How many dollers of bank money are able to be created for each doller of bank reserves.

            Gould is exactly right to say there is no fixed relationship between the two. But that’s because the ratio (and hence the money multiplier) will vary (possibly significantly) over time depending on a lot of things including but not limited to:
            *the risk appetite of the bank
            *the savings/spending behavior of New Zealanders
            *the way the way other regulations and requirements (like LVR restrictions or liquidity requirements) impact the balance sheet of the bank.

            Literally nobody, especially Brash, is saying that the money multiplier is a fixed ratio. And it doesn’t need to be fixed for the concept to hold. That doesn’t in any way mean the money multiplier is ‘fantasy’. it just means it’s not something you can calculate in isolation particularly easily. You could certainly estimate how it changes over time using some econometric modelling and I’m sure the data exists somewhere.

            • Nic the NZer 10.1.1.1.2.1

              You are aware for any two numbers there is a ratio between them? Maybe there are some other important ratios we are not looking into on that basis.

              Anyway Brash said Gould was wrong, thats different to ‘Gould is using different words to me to describe the same thing’ as I understand it.

  11. Sacha 11

    Good times. Our largest bank’s half-year profit soars by 24%. http://www.nzherald.co.nz/business/news/article.cfm?c_id=3&objectid=11848460

  12. Sacha 12

    So NZ is implementing the Basel capital adequacy framework, which adds some nuance to the ratio between what a bank can lend vs what it can honour when it comes to the crunch: http://www.rbnz.govt.nz/regulation-and-supervision/banks/prudential-requirements/information-relating-to-the-capital-adequacy-framework-in-new-zealand

Recent Comments

Recent Posts

  • Membership: Australia and New Zealand Electronic Invoicing Board
    The Governments of Australia and New Zealand have announced the membership of the Australia and New Zealand Electronic Invoicing Board (ANZEIB) today. This is an important step towards implementing e-Invoicing across both countries to help businesses save time and money ...
    1 week ago
  • An end to unnecessary secondary tax
    Workers who are paying too much tax because of incorrect secondary tax codes are in line for relief with the passage of legislation through Parliament late last night. The Taxation (Annual Rates for 2018-19, Modernising Tax Administration, and Remedial Matters) ...
    2 weeks ago
  • Chatham Islands pāua plan approved
    Efforts to reverse the decline in the Chatham Islands pāua fishery are the focus of a new plan jointly agreed between government, the local community and industry. Fisheries Minister Stuart Nash says the plan was developed by the PauaMAC4 Industry ...
    2 weeks ago
  • Bill introduced for synthetics crackdown
    The Police will get stronger powers of search and seizure to crackdown on synthetic drugs under new legislation, which makes the two main synthetics (5F-ADB and AMB-FUBINACA) Class A drugs. The Government has today introduced the Misuse of Drugs Amendment ...
    2 weeks ago
  • Blasphemous libel law repealed
    The archaic blasphemous libel offence will be repealed following the passing of the Crimes Amendment Bill today, says Justice Minister Andrew Little. ...
    3 weeks ago
  • Coalition Government lassos livestock rustling
    New rules to crack down on livestock rustling will come into force following the passing of the Crimes Amendment Bill says Justice Minister Andrew Little. ...
    3 weeks ago
  • Medieval law axed
    The ‘year and a day rule’ rule will be repealed following the passing of the Crimes Amendment Bill, says Justice Minister Andrew Little. ...
    3 weeks ago
  • Further steps to combat tax evasion
    Further steps to combat tax evasion Revenue Minister Stuart Nash has announced New Zealand is expanding its global ability to combat tax evasion by joining forces with authorities in 30 countries and jurisdictions. Cabinet has agreed to add another ...
    3 weeks ago