Chapter 6 - Lettuce.

Lettuce sounds the same as ‘Let us’ as in

Let us set up a bank and make some loans.

You and I shall set up the ‘Bank of Salad’. We set the bank up with minimal assets meaning almost nothing. The important part is that we arrange to join the payments arrangements between banks so that we can transfer money to and from bank accounts in other banks. A man called Mr Carrot walks into our bank and asks for a loan to buy a house. His first name is ‘Diced’ and we agree to the loan. Mr Onion who is the seller happens to be another of our customers. We write plus one million into the account of Mr Onion. We write minus one million dollars into the account of Mr Carrot. Our balance sheet sees changes in the plus column and in the minus column, but remains in balance. The plus one million balances the minus one million. Mr Onion has $1 million that he can spend. Nobody had this one million before the loan was made, so this is new money. So this is an increase in the money supply of the nation of $1 million. We have created $1 million of new money which is used in the real estate industry. We have also created $1 million of new debt in the nation. No interaction with the with the central bank was required. No central bank created cash folding notes were involved. No $1 million cash is held in a vault to enable the transaction. No customer deposits to the magnitude of $1 million were required before we could lend $1 million.

I guess you’re fairly new to banking and do not know the tricks of the trade. The main trick of the trade is to avoid using real money which is the cash folding notes issued by the Reserve Bank. Our customers believe that $1000 listed in their bank statement represents $1000 in RBA cash folding notes. Although we will give them small quantities of real money to maintain the illusion that the figures in a bank statement represent real money, reality is the money does not exist. We play a game of shifting numbers between bank accounts to give the illusion of payments from one customer to another, where in reality the money in the bank accounts does not exist and never did exist. Provided we can get the government and the reserve bank to support this system we can make interest income on money that does not exist.

We have a fairly straightforward way of making loans to people. Because they don’t ask for the money as cash real money, we can make a loan of money that doesn’t exist. Sarah wants a loan of $10,000 to buy a car from ‘Dodgy Car Yard’. We agree and and get Sarah to sign some loan papers. We type minus $10,000 against the account of Sarah. We type plus $10,000 against the account of dodgy car yard. Logical people just assume that we lent out other people’s money at a minor premium. We don’t dispel this myth but we do actually need other people’s deposits as reserves. These reserves are needed to cover minor fluctuations in demand for cash which we buy from the reserve bank using our virtual money and any daily imbalance between ourselves and other banks. Luckily these demands are not too great because we persuaded customers to use our virtual money which we named ‘Commercial Bank Money’ for realism. One of our clever predecessors created the term ‘fractional reserve banking’ to imply that a fractional reserve was held at the reserve bank. We did not doubt this even though it was not true as there was no fraction and no reserve. Thankfully we had sympathetic politicians who were thankful for our donations to their campaigns. They were so helpful to us that we gave them consultancy jobs on on retirement from politics.

Hopefully you have learnt your first lesson well. It is entirely erroneous and misleading to suggest that customer deposits are required before a loan can be made. It is entirely erroneous to suggest that this is fractional reserve banking as new money is created without any involvement of the central bank.

Although our loans are made by making plus and minus accounting entries, we do need to make some other adjustments. We need to have a little more cash available as customers like to have comparatively small quantities money in cash for minor retail payments. Between three and five percent of money in the nation is in the form of cash folding notes in people’s wallets and buried in back gardens. So we will need to purchase a little more cash from the central bank just to cover likely demand for cash. We will also need to transfer a little more money to the central bank as a buffer to cover the daily interbank transactions which are the result of people paying bills into accounts in other banks. Unlike the money we magiced up when we made the loan we cannot magic up the money to cover the cash and payments requirements as this would give the game away. So this is why we have to attract customer deposits into bank.

We will soon add interest to the account of Mr Carrot. Mr Carrot’s loan account will be increased by about 10% each year. This is income and we list it as income in our profit and loss statement. So Mr Carrot’s loan has increased by 10%. Overall the money owed to our bank will increase about 10% each year although some of the income will be spent on expanses and wages. The virtual digital money that we created by register entries, created does not increase. So the effect of our loan practices is to have an escalating volume of debt in the nation whilst the volume of money does not increase. The rate of increase in debt in the nation is a little less than the interest rate as we spend money back into society on wages and expenses.

The money we created by accounting entries is called Commercial Bank Money. It is entirely virtual. It never came from the central bank. It can be classed as money because it can be used to pay for purchases and clear debts. We will tolerate customers walking into our premises and requesting for small quantities of this virtual Commercial Bank Money to be converted into the legal tender of the nation, but we do our best to avoid them using the legal tender of the nation by giving them cheque-books, credit cards and online money transfer facilities. Collectively our cartel of banks has done remarkably well in keeping the use of central bank money down to 3%. 97% of the money used in the nation is the virtual Commercial Bank Money that we create when we make loans. It is remarkably good system as it makes the people work very hard and we finish up owning most of the assets and shares of the nation. You did of course notice that when Mr Carrot our money that we created with account entries, that the house belonged to us if he did not repay with virtual money that he had to earn from somebody else. This effectively means that at the time of creating the virtual money, we own the physical asset called a house. In the total scheme of things, this means that our cartel of banks effectively owns the housing stock of the nation through simple accounting entries and virtual money creation. This does of course mean that we need to keep the housing stock slightly restricted and keep population growth through immigration at a reasonable level to maintain a demand for our virtual money so that we can get the maximum amount of interest from housebuyers. We had a win when we doubled the value of our housing stock and interest by encouraging women into the workforce. We now get a good slice of two peoples incomes in their monthly interest payments. Thankfully we have stopped them paying of their loans to quickly causing a drop in our interest income. Thirty year loans are much better for us than fifteen year loans because we make more money. The real estate agent thinks he is selling houses but in reality he is selling our loans. We encourage the mortgagee to believe that he is the home owner when in reality he is a mortgage note holder which means he is not the owner until he has paid us the last of our payments. We effectively own all the housing stock in the nation by creating loans out of thin air.

There is a very interesting effect of our loans for real estate. If we did not make loans for real estate people could only buy houses and land for the money that they had. This would be money they could earn or beg from family and friends. House prices and land prices would be very low. As we make loans for houses using money that we magic up with plus and minus account entries, we conveniently make vast quantities of money available for real estate purchases. This raises the purchase price of real estate dramatically. People reach a situation where they can only buy a house if we give them a loan of our mythical virtual Commercial Bank Money. The other effect of this is that they mortgage the house to our Bank of Salad. Bank of Salad effectively owns the house and the banks combined effectively own the real estate stock of the nation by creating accounting entries in ledgers.

Thankfully we have managed to downplay the warnings in the Bible and in the Koran about the evil of usury. We have conditioned the public to believe usury is normal practice. Another issue occurred in 1767 when Sir James Steuart wrote his books about economics and banking. Although he wasn’t against our banks, he did point out many of the problems we were creating. We labelled him as an out of date ‘Mercantilist’ and conveniently Adam Smith produced a book nine years later that looked as if it was being harsh on banking practices but was actually accepting of what he called ‘reasonable interest’ and the reduced ‘state control’ of our practices. He wrote a book favourable to our interests so we arranged for it to be heavily promoted.