Why Do We Allow Banks to Make Huge Profits and Decide Economic Policy As well?
Banks are, as we know, very profitable institutions. Last year, the big five banks operating in New Zealand made a combined profit of over $5 billion.
Reactions to this news will vary from one person to another. Many will say “good on them”, and “just as well – we want our banks to be profitable, so that our money is safe” and “they provide a reliable service which we should be prepared to pay for”. But many will have little idea as to how these profits are made, what happens to them and what is the true role of banks in our economy.
The first point to grasp is that four of the” big five” banks are Australian-owned, and that last year they sent back across the Tasman to their Australian owners $3.485 billion. It is as though there is a massive vacuum cleaner that is sucking this huge sum out of the New Zealand economy and depositing it back in the Australian economy where, as well as unbalancing our balance of payments and adding to our indebtedness, it works to the advantage of Australian investment in new productive capacity. Little wonder that, by virtue of this $7 billion adjustment (whereby we give up $3.5 billion and they gain $3.5 billion), the Australians enjoy a higher living standard than we do.
The second point is that the profits are “earned”, not because the banks provide a service of this value but because the banks have a unique monopoly power – they alone are able to create new money, which they do every time they make a new loan, usually on mortgage. They do not, as many people believe, lend money deposited with them by one group of people to another group of people who pay interest on their borrowings. When a bank lends you money, it doesn’t actually send round a cartload of $50 dollar notes to put in your account. It simply writes a bank entry that authorises credit of the agreed amount to be drawn down from your account, and then it makes its profit by charging you interest on the money it has created out of nothing.
The truth of this is now established beyond all doubt by an excellent research paper published by the Bank of England. What that paper demonstrates is of huge consequence to our economy.
This is because money created in this way is by far the single most important source of new money in our economy and therefore has a major influence on issues such as the rate of asset inflation (particularly for property and especially houses) and inflation more generally, and on the affordability of housing. We, and our political leaders, may think that they are in charge of economic policy but they are actually just operating on the fringes; the real running is made by the banks.
As well as the price we pay in terms of the bank profits that many see as excessive and that are then transferred across the Tasman, in other words, we concede to these Australian-owned banks the major influence over how our economy develops, with the result that, because lending on mortgage is more profitable than lending to industry, a large proportion of our national resource is diverted into house purchase rather than into productive investment. We cannot hope to improve our productivity in comparative terms while this bias in our economy remains.
We suffer, by virtue of the current role of the banks in our economy, not only an economic loss, but also a partial loss of the power of self-government. We have less control of where our economy is heading than a truly sovereign country has a right to expect. The amazing thing is that this huge influence over our economy is achieved – through their unique ability to create new money – by private (and in this case foreign-owned) companies in the course of pursuing their own private profits, and that they are allowed to do this without any democratic control whatsoever.
Our politicians, however, seem unconcerned; they are happy to disclaim any responsibility for this important aspect of economic policy and to rely on the ignorance of the public to allow the situation to remain undisturbed. Wouldn’t it be good to think that our new government might take a fresh and more critical look at it?
Bryan Gould
17 February 2018
7 Comments
I agree Bryan but most people do not understand how money is created and circulated. Mind you, most people don’t want to know. I suggest your readers listen to lectures on Modern Monetary Theory (MMT) by Bill Mitchell (Aust). Randall Wray (US) and Stephanie Kelton (US) on YouTube when they go for a walk or at the gym. They are all excellent speakers and listening to them is a lightbulb moment.
I think the problem is not so much the three trillion odd that is being transferred to Australia, but the fact that that that sort of profit is being made in the first place. It seems that most of this profit comes from property lending on overpriced housing; inadequate housing policies and tax policies seem to be contributors to this.
Having said that, I think that banking should be run as a ‘public utility’. This would entail setting up state banks and allowing only these to create money ‘from nothing’. Demand deposits should be deemed to be the property of their depositors and therefore not be available for lending on a ‘fractional reserve’ basis.This would mean that overseas banks (and local privately owned banks) would be restricted to to providing payments facilities etc, and perhaps recycling fixed deposits.
I quite agree – a private monopoly in money creation should not be tolerated.
How much would it cost for the government to set up a state bank that did all of the nations banking?
Because if it’s less than $5 billion per year then we’re being ripped off and the government should immediately set up such a bank.
It won’t happen. We have witnessed what happens to those countries who try and set up their own sovereign money system or move away from the US dollar, though China and Russia are making some moves to trade in their own currencies.
Watch this space. NZ lost our sovereignty many years ago, thanks to the Lange government and Rogernomics. Fittingly the final nail will be the signing of the TPPA by the present Labour government. How sadly ironic.
Firstly the housing sector needs to be taxed appropriately to remove speculative bubbles.
Secondly we should allow nationalisation of mortgage lending and re-regulation of the financial sector/banks – a lot of what they do is casino gambling with only negative destabilising effects on the real economy. The financial sector should go back to being very boring like it was post-war and financing productive investment.
From an MMT perspective, I think private credit creation – endogenous money – is necessary still for investment in productive purposes and to smooth consumption over the lifespan for people. I don’t think you can have a body of experts deciding exactly how much money to release into the economy every year. And such a body could well become like a new undemocratic reserve bank monetary policy committee wielding immense power.
What I do think is we need to wake up and see that our government should be running greater deficits to offset the private savings desires of the non-government sector and permanent current account deficit we run. Our government, being the sole issuer of the currency, can never run out of money, and can create it from thin-air – without issuing debt -like the the banks do.
The limit to this is of course the real economy and inflation. But when you have large underutilised resources and labour (as we do in NZ -12% underutilisation) inflation is unlikely. The government spending more money into the economy would stimulate output, bringing these underutilised resources into productive use. A universal Job Guarantee to eliminate unemployment would serve this purpose well.
In NZ we tolerate ever increasing household debt and high underemployment in the name of government surpluses. Surpluses of 1s and 0s in excel spreadsheets. The government should use its capacity to spend (it is not a household) to offset the leakages from the economy from private saving and the CAD.
A growth strategy based on monetary policy stimulating asset prices and endlessly rising household and consumer debt is self-limiting and will end in tears.
So in summary – creating money out of thin air is real, the banks make a huge profit out of it, but governments have the same power and should be using it judiciously to create full employment and bring into use all the underutilised capacity in the economy and for public purposes we decide are important.
True. Good on you Brian. We should make the govt use Kiwibank for its business.