Special thanks to: Anthony Molloy
Produced with the support of The JRSST Charitable Trust
PRIVATISATION BY STEALTH
The common misconception of how banks work is
that they take people’s savings and lend them out
in the form of loans. In this vision, banks merely
operate as the middlemen between savers and
borrowers, but this is simply not what happens.
When a bank makes a loan it does not take the
money out of anyone else’s account. Instead, it
simply creates a new account for the customer and
types a number into it.
When a customer is approved for a loan (of say
£1,000), she signs a contract with the bank obliging
her to pay back £1,000 plus interest over a period
of time. According to accounting conventions, the
£1,000 loan can then be recorded as an asset of the
bank. At the same time the bank opens an account
for the customer and types £1,000 into it. As the
bank owes the customer this money, it is recorded
on the liabilities side of the bank’s balance sheet. By
this process, the bank has simultaneously created
new money in the borrowing customer’s account
and a corresponding debt. The bank’s new asset
(the debt) balances out the new liability (the newly
created money) so that in accounting terms, the
The customer now has £1,000 of new money to
spend on whatever they choose. No money was
taken out of anyone else’s bank account. New
money has been created out of nothing.
In the UK, over 97% of the entire money supply was
created in this way and exists in the form of ‘digital’
money, numbers in the bank accounts of members
of the public and businesses.
NO ACCOUNTABILITY TO CUSTOMERS
Unlike pension funds, banks are not required to
disclose how they will use their customers’ money.
As 97% of the UK’s money supply is effectively held
with banks, this allows them to allocate a larger
sum of money than either the entire pension fund
industry or the elected government itself. Conse-
quently the UK economy is shaped by the invest-
ment priorities of the banking sector, rather than
the priorities of society.
Just five banks hold 85% of the UK’s money, and
these five banks are steered by just 78 board
members whose decisions shape the UK economy.
This is a huge amount of power concentrated in very
few hands, with next to no transparency or account-
ability to wider society.
It is common knowledge that anyone found printing
their own bank notes can expect to find the police
kicking down the door at two o’clock in the morning.
However, it has only been illegal for individuals and
companies to create their own £5 or £10 notes since
Prior to 1844, the state had a legal monopoly only
over the creation of metal coins dating from the
time when this had been the only form of money.
But keeping lots of metal and carrying it around was
inconvenient so customers would typically deposit
their metal coins with the local jeweller or goldsmith
who would have secure storage facilities. Eventually
these goldsmiths started to focus more on holding
money and valuables on behalf of customers rather
than on actually working with gold, and thereby
became the first bankers.
A customer depositing coins would be given a piece
of paper stating the value of coins deposited. If the
customer wanted to spend his money, he could take
the piece of paper to the bank, get the coins back,
and then spend them in the high street. However,
the shopkeeper who received the coins would then
most likely take them straight back to the bank. To
avoid this hassle, shopkeepers would simply accept
the paper receipts as payment instead. As long as
the bank that issued the receipts was trusted, busi-
nesses and individuals would be happy to accept the
receipts, safe in the knowledge that they would be
able to get the coins out of the bank whenever they
Over time, the paper receipts came to be accepted
as being as good as metal money. People effectively
forgot that they were just a substitute for money
and saw them as being equivalent to the coins.
The goldsmiths then noticed that the bulk of the
coins placed in their vaults would be gathering dust,
suggesting that they were never being taken out.
In fact, only a small percentage of all the deposits
were ever being claimed at any particular time. This
opened up a profit opportunity—if the bank had
£100 in the vault, but customers only ever withdrew
a maximum of £10 on any one day, then the other
£90 in the vault was effectively idle. The goldsmith could lend out that extra £90 to borrowers.
However, the borrowers again would choose to use
the paper receipts as money rather than taking out
the metal coins from the bank. This meant that the
bank could issue paper receipts to other borrowers
without necessarily needing to have many—or even
any—coins in the vault.
The banks had acquired the power to create a substitute for money which people would accept as being money. In effect, they had acquired the power to create money: perhaps this is when the goldsmiths became real bankers.
The profit potential drove bankers to over-issue
their paper receipts and lend excessive amounts,
creating masses of new paper money quite out of
proportion to the actual quantity of state-issued
metal money. As it always inevitably will, blowing
up the money supply pushed up prices and destabi-
lised the economy (of the many crises, particularly
galling was the Bank of England having to borrow £2
million from France in 1839). In 1844, the Conserva-
tive government of the day, led by Sir Robert Peel,
recognised that the problem was that they had
allowed the power to create money to slip into irre-
sponsible private hands and legislated to take back
control over the creation of bank notes through the
Bank Charter Act. This curtailed the private sector’s
right to print money (and eventually phased it out
altogether), transferring this power to the Bank of
However, the 1844 Bank Charter Act only addressed
the creation of paper bank notes. It did not refer to
other substitutes for money. With growth in the use
of cheques, the banks had found another substitute.
When a cheque is used to make a payment, the
actual cash is not withdrawn from the bank. Instead,
the paying bank periodically communicates with the
receiving bank to settle any net difference remaining
between them once all customers’ payments in both
directions have been cancelled out against each
other. This means that payments can be made even
if the bank has only a fraction of the money that
depositors believe they have in their accounts.
Following on in the spirit of financial innovation,
after cheques came credit and debit cards, elec-
tronic fund transfers and internet banking. Cheques
are now almost irrelevant as a means of payment
but over 99% of payments[b] (by value) are made
Today the electronic numbers in your bank account
do not represent real money. They simply give you a
right to demand that the bank gives you the physical
cash or makes an electronic payment on your
In fact, if you and a lot of other customers
demanded your money back at the same time—a
bank run—it would soon become apparent that
the bank does not actually have your money.
For example, on the 31st of January 2007 banks held
just £12.50 of real money (in the form of electronic
money held at the Bank of England) for every £1000
shown in their customers’ accounts. Even among
those who are aware that what banks do is more
complicated than merely operating as middlemen
between savers and borrowers, there is a wide-
spread belief that banks are obliged to possess a
sum corresponding to a significant fraction of their
liabilities (their customers’ deposits) in liquid assets,
i.e. in cash or a form that can be rapidly converted
into cash. In fact, such laws were emasculated in
the 1980s in response to lobbying from the industry
(although some effort is now being made to
re-impose such rules in the aftermath of the crisis).
When a run starts (like the one on Northern Rock
on the 14th September 2007) it becomes almost
impossible to stop.
Once the bank has paid out any cash which it holds in the branch to individuals (and transferred all of its reserves to other banks) other depositors will have to wait for the bank to sell off its remaining assets before they see their money.
And because the bank has to sell these assets
quickly, it will find it hard to receive a fair price.
Because of this it is unlikely the proceeds from these
sales will cover the value of their deposits and other
liabilities, and therefore most customers are likely to
lose a large proportion of their savings. Because this
type of personal ruin is a tragedy and, even more
importantly, because one bank run is likely to lead
to others (as confidence in the banking system falls
through the floor) the government insures deposits,
guaranteeing some level of payback in the event of
bank failure. Thus, because the system is inherently
unstable, and because almost all of our money
exists on banks’ balance sheets, the banking sector
has to be underwritten and rescued by the taxpayer,
all as a result of the failure of legislation to keep up
with technology and financial innovation since 1844.
When money is created, it can be put into the
economy in two ways: it can either be spent in
exchange for goods and services or lent out. When
banks create money, they put most of it into the
economy through lending. Exactly who this newly-
created money is given to is crucial because it will
determine the shape of the economy.
Over the decade leading up to the 2008 financial
crisis, the amount of money lent out by banks
tripled but this steep rise is largely accounted for by
loans advanced for the purposes of buying property
and for financial speculation. The amount dedicated
to productive investment remained more or less
constant throughout this period meaning that the
proportion of the money supply that was dedicated
to enhancing production steadily waned.
Between November 1982 and November 2006 the
banking sector increased the money supply—by
creating new money through lending—by an
average of 10% a year.
Between November 2007 and November
2008, £258 billion of new money was created. If
government were to increase the money supply
at this rate, it would be accused of following the
policies of Zimbabwe, but because few people
understand that banks create money via lending,
this is completely overlooked.
This huge growth in the money supply is hardly
surprising when we consider the incentives that
banks have to increase their lending. In confident
times, all of a banker’s incentives push him to
lend as much as possible: by lending more, they
maximise short-term profits and, more specifically
their own bonuses, commissions and prospects
of promotion and profits. There is no reward for
bankers who are prudent and choose not to lend
or only lend judicious sums. In short, the supply
of money into the economy depends on the confi-
dence and incentives of bankers rather than what is
best for society as a whole.
Investing in machinery to make factories
more efficient is productive investment whilst
lending to buy existing property through mortgages
is non-productive as it simply pushes up house
prices without increasing production.
The £1.16 trillion of new money created by
the banks over the last ten years could have been
used to: pay off the national debt (which currently
stands at around £977 billion); invest in public
transport, hospitals, schools or renewable energy;
or exempt the poorest ten per cent of the popula-
tion from tax. Instead, it has been used by the
banking sector to fuel a housing bubble that has
made buying a home unaffordable for all but the
The last few years have proven the business model that enables banks to create money is fundamentally unstable, requiring rescue by the government from time to time.
When this happens, taxpayer funds are diverted
from public spending and spent on salvaging failing
corporations. This further reduces the power of
government to do what it was democratically
elected to do, weakening democracy in the process.
By handing the power to create money over to
the banks, the government reduces its revenue,
compromises its capacity to carry out the activities
that it has been mandated to carry out and under-
mines the potential of the democratic system to
change society for the better.
THE HIDDEN TAX THAT BANKS POCKET
Giving banks the power to create money results in
two hidden and undemocratic ‘taxes’ being levied
on the public.
The first of these ‘taxes’ is inflation, when increases
in the amount of money in the economy feed
through into higher prices. If the money supply
is increased quickly then the new money pushes
up prices, especially in housing to where much of the new lending is destined.
Of course, it is now banks that create the vast
majority of new money. They have increased the
amount of money in the economy at an average of
10% a year between 1981 and 2007, (by lending)
and pumped this money mainly into the housing
As a result, house prices shot out of the
reach of ordinary people, whereas those who got
the ‘first use’ of the money (by borrowing first)
received most of the benefit. Meanwhile those who
were not already on the housing ladder became
significantly poorer, in real terms, because the
relative cost of housing doubled in just 10 years
(between 1997 and 2007).
Consequently, the inflation caused by allowing banks to create money is also effectively a ‘tax’ accruing to the banks (through their increased interest income on ever greater mortgages) and those who borrow early on (to buy property and other assets).
The second of these hidden taxes corresponds to
interest. Because banks create 97% of the UK’s
money supply, essentially through making loans,
the entire money supply is ‘on loan’ from the
banking sector. For every pound created, somebody
somewhere goes one pound into debt and starts
paying interest on it. By virtue of their power
to create money, banks have the right to collect
interest on nearly every pound in existence.
A hidden tax collected by private corporations
because they have a power that most people would
consider—and believe—to be a prerogative of the
state can hardly be considered democratic.
Written By: Andrew Jackson and Ben Dyson
Special thanks to: Anthony Molloy
Produced with the support of The JRSST Charitable Trust
© February 2012 Positive Money