WEALTH AND MONEY PART IX: FRACTIONAL RESERVE BANKING AND THE FREE HOUSE
“Commercial banks create money, in the form of bank deposits, by making new loans. When a bank makes a loan, for example to someone taking out a mortgage to buy a house, it does not typically do so by giving them thousands of pounds worth of banknotes. Instead, it credits their bank account with a bank deposit of the size of the mortgage. At that moment, new money is created. For this reason, some economists have referred to bank deposits as ‘fountain pen money’, created at the stroke of bankers’ pens when they approve loans.”
– – Bank of England Quarterly Bulletin 2014 Q1
“Thus it can now be said with confidence for the first time – possibly in the 5000 years’ history of banking – that it has been empirically demonstrated that each individual bank creates credit and money out of nothing, when it extends what is called a ‘bank loan’. The bank does not loan any existing money, but instead creates new money. The money supply is created as ‘fairy dust’ produced by the banks out of thin air.” – – Richard A. Werner – International Review of Financial Analysis – 2014
Jack and Jill, a couple with three small children, worked long and hard to save $30,000 for a 20 percent down payment on a $150,000 home. Loggers worked long and hard to provide the lumber for the house. Manufacturers worked long and hard to provide drywall, roof shingles, electrical and lighting fixtures, flooring, plumbing, sinks and toilets, heating equipment and all of the other hundreds of physical components that go into a modern house. Masons and bricklayers, carpenters, plumbers, electricians and heating contractors worked long and hard to turn all of these materials into a home. All of these people and entities added true physical wealth to the house, to the community. And then came the loan from the bank.
Using the legalized Ponzi scheme called fractional reserve banking, XYZ Bank created $120,000 out of thin air on a computer screen that Jack and Jill could “borrow” to purchase the house. This “fairy dust” money, of course, would have to be repaid with interest. The terms of the loan were for 30 years at a fixed rate of 3.8 percent interest. Jack and Jill would be required to pay XYZ Bank $559.15 per month for the next 30 years. When the final payment was made the couple would have paid the bank $201,293.58. This is the sum of the original principle of $120,000 and the interest paid on this imaginary money of $81,293.58.
One can argue the legitimacy of the “loan” from XYZ Bank from different perspectives. Under the economic system we have in place, providing finance does allow things to function. The $120,000 that was initially “created” is simply “uncreated” when the loan is paid. But the $81,293.58 paid in interest is another matter. Rather than adding true wealth to the community, it is entirely extractive. This $81,293.58 does not represent “fairy dust” money fabricated out of nowhere. This sum represents true wealth, paid for by the labors of Jack and Jill and everyone else involved, transferred to the bank for the use of money it never had in the first place.
But let us present another scenario. Three years after Jack and Jill take out their mortgage Jack is badly injured in a car accident. Partially paralyzed and in pain, Jack will never work again. Jill struggles for another year to make ends meet, but eventually can no longer afford the monthly house payment. By this time the couple has made 48 monthly payments for a total of $26,839.20. Of this amount, $17,918.51 went to pay interest and $9,271.30 was paid to reduce the actual loan. The remaining balance is $110,728.70. Including their original $30,000 down payment and the $9,271.30 reduction in the loan balance, Jack and Jill now have $39,271.30 equity in the $150,000 home. Including interest, they have paid out a total of about $57,000.
Over the course of the next several months XYZ Bank forecloses on the home. There will be various late fees and processing costs assessed against Jack and Jill’s equity and the bank will likely accept an auction amount below market value to simply get rid of the house. In most cases the home owner eventually loses everything – including their equity in the home. But the real point of the foreclosure process goes far beyond the loss for Jack and Jill. The bank, which did nothing more than create “fairy dust” money out of thin air, now totally owns the house. The true wealth, generated by all of the craftsmen, manufacturers, and others who worked to build the house, has been completely turned over to the bank simply to “repay” the money created out of thin air. “Getting something for nothing” seems an appropriate description. The process is entirely extractive of true wealth of the community. The need for public banking comes to mind.
Part X will discuss: Debt – The Ultimate Weapon of Conquest