Economic Policies for an Incoming Labour Government – Part 2

Economic Policies for an Incoming Labour Government

By Bryan Gould and George Tait Edwards

Part 2 of 9: Stimulating Wealth Creation

If we are to find that better way, we must clearly understand the failures

and deficiencies of what has gone before. A major milestone in that quest

for understanding was reached earlier this year when the Bank of England,

in an article published in its first quarterly bulletin for the year1 became

the first significant central bank to acknowledge that the vast proportion of

money in our economy (calculated by the authors at 97% of the total money

supply) is created by the banks. This admission, which has been hotly

contested and denied by bankers and economists for decades, if not

centuries, casts a whole new light on the meaning of money and its

significance for economic policy, and is the key to a new approach – not

only as a response to recession – but as the foundation of a successful

economic policy.

We need not explore here the mechanisms by which the banks create

credit; suffice to say that they are well set out in the Bank of England

paper, and in the end amount to the simple fact that the banks are not

simply intermediaries, bringing savers and lenders together. They do not

lend money deposited with them but instead lend money that they

themselves create by making book entries unsupported by anything other

than their willingness to lend. But while the mechanisms may be simple,

the implications for policy are huge.

The facts that the quantity of money is almost entirely a function of bank

policy and that its continuing but regulated growth is the normal and

required condition for a well-functioning economy suggest strongly that the

conventional treatment of money as a neutral factor in economic policy is

completely mistaken. Current monetarist orthodoxy treats the money

supply as reflecting more or less automatically the needs of the real

economy, and impacting on it only in the sense that, if it is allowed to grow

too fast, it will generate inflation. The reality is, however, that the rate of

growth in the money supply is not just a function of the level of real

economic activity but is, as we shall see and according to the purposes to

which it is put, an important determinant of that level.

It is worth registering at this point that the banks’ remarkable monopoly

power to create (or “print”) money is exercised entirely in the interests of

profits for their own shareholders rather than of the economy as a whole.

It might be thought that this private exploitation of such an important

power would warrant the most careful public scrutiny, yet it attracts

virtually no attention from policymakers, other than in terms of countering

inflation; the Coalition government prefers to focus on reducing

government spending, as the supposedly essential feature of macroeconomic

policy.

They thereby totally overlook the fact that it is extraordinarily important

for the purposes of economic policy-making as a whole to understand the

impact of private money-creation on this scale and, in particular, to analyse

the purposes for which that credit is created.

A Labour government should no longer, in other words, accept that credit

creation by the banks is benign, and automatically serves – because it is

allegedly self-regulating – the public interest; a more effective economic

policy depends crucially on an acknowledgment that credit creation (and

therefore the whole of monetary policy) is hugely important and impacts

directly and substantially on the development of the real economy, and can

be made to serve a variety of wider economic interests rather than simply

those of private profit-seeking bank shareholders. A Labour government

that took this position would surely be encouraged to find that, on this

issue, public opinion had got there first.

Keynes was well aware of the fact, and of the almost unlimited potential,

of credit creation by the banks and recognised it as an important element in

macroeconomic policy. His pre-war contention that “there are no intrinsic

reasons for the scarcity of capital” is supported by compelling evidence, not

least now by the Bank of England’s recognition that money is created by the

banks from nothing. What should now be fully recognised, however, is that

the purposes of credit creation could and should extend well beyond the

funding of house purchase, which is currently its major feature.

Credit creation at the central bank, if properly directed and managed, can

be used to selectively increase the private investment level of the country,

as has previously occurred in all very high-growth economies, and as could

happen in Britain.

1Bank of England Quarterly Bulletin, 2014, Q1 “Money Creation in the Modern Economy” by

Michael McLeay, Amar Radia and Ryland Thomas of the Bank’s Monetary Analysis Directorate.

© Bryan Gould and George Tait Edwards 2015