Main
tenets of the theory
Interest
and economic crises
The
lure of having more money in the future is at the basis of lending
out money at interest. Because the amount of money is limited, it
will become increasingly difficult to repay debts with interest,
unless savers spend their money or new debts are made. Insofar as those
debts can be exchanged for money, which is the case with bonds and
savings as they represent claims on debts, their creation tends to be
inflationary. From time to time interest payments cannot be met
because there is a limited amount of money in circulation. At that
moment the scheme collapses and a bust cycle sets in. If
those debts could be exchanged for money, their destruction tends to
be deflationary.
During
a boom phase interest rates rise. Promises are made that cannot be
kept because the pool of money is limited. Borrowing against demand
deposits or fractional reserve banking has made it possible to issue
loans without the need for savings. In this way interest rates are
suppressed when investments exceed savings during the boom phase.
This fuels the boom as higher interest rates would have curbed the
boom sooner. Because interest rates cannot go negative, they are
propped up when savings exceed investments during the bust phase.
This extends the bust phase because lower interest rates would have
ended the bust sooner.
Economic policies
To deal with the boom-bust cycle and to deal with bank runs that come from the charging of interest on money, central banks, government guarantees, as well as monetary and fiscal policies, have been introduced to manage interest rates, money supply, and aggregate demand. Those instruments have turned out to be awkward because the best course of action is difficult to know in advance, but also because policy actions distort markets and favour politically connected people and businesses.
Economists often assume that there is a neutral rate of interest that can guide the economy on the maximum sustainable growth path without booms and busts. The neutral rate of interest may differ from the natural rate of interest set by the market so economists often assume that it must be set by monetary policies. The monetary policies appear to be needed because there is a boom-bust cycle caused by interest on money, amplified by fractional-reserve banking.
During a boom phase the neutral rate of interest is above the natural rate of interest because economic growth is above the maximum sustainable growth path, while during a bust phase it is below the natural rate of interest because economic growth is below the maximum sustainable growth path. Monetary policies tend to be too easy during the boom phase as it is difficult to determine the neutral rate of interest. High interest rates will also prompt a bust and policy makers prefer not to be responsible for creating busts.
As a consequence policy makers tend to extend booms and mitigate busts, so overall monetary policies tend to be too easy so money supply as well as debts continue to grow. Mostly money-supply growth exceeds nominal interest rates because the scheme of compound interest cannot be sustained. The continued debt expansion makes interest payments continue to grow, even at lower interest rates. This prompts the need for new debts and money printing that undermines the value of the currency.
The basis of civilisation is specialisation and the division of tasks. Money is the agent that makes this possible. If money becomes worthless then a society can disintegrate. The escalating moral hazard within the financial system may in the end destroy currencies, and may bring down nations and civilisations with it. It is the ultimate consequence of charging interest on money and trying to work around the perverse consequences of interest using government and central-bank interventions.
Risk
Monetary and fiscal policies have created a false sense of security and this entailed a moral hazard. It enabled market participants to increase their leverage. The policy instruments do not deal with the underlying issues that create financial instability, which are interest on money and fractio nal-reserve banking. Risks tend to be extended until the point of breaking because there is an incentive to do so in the form of interest. The instruments of policy makers turned out to have done the opposite of what they intended to do. They increased the overall level of risk and offloaded this risk to the public.
Our
current monetary system does not allow for negative nominal-interest
rates. There is no holding fee on money, so there is no incentive to
lend out money at extremely low, zero, or negative nominal-interest
rates. Interest on money is an allowance for the risk of default and
also reflects the rate of return on capital. Higher interest rates
increase the risk of default when the amount of real money (M1) is
fixed. With respect to risk, interest on money is a lose/lose
proposition. When interest rates could be negative in nominal terms
then it is possible to reduce this problem. For this, a holding fee
or demurrage on money is needed.
Natural
Money
Natural
Money is a currency with a holding fee and a ban on charging
interest. By putting money in a savings account,
savers accept the risks attached to banking and are rewarded with not
having to pay the holding fee. As interest is a reward for risk, a
ban on charging interest will curb risk-taking in the financial
system. Risks will be offloaded to investors so banks will be
relatively safe. Savers will also keep a close eye on their bank,
making the bank less willing to engage in risky activities. The
absence of interest on money mitigates economic cycles, which further
reduces the risks of banking. In such a situation government
guarantees and central bank support may not be needed, which
eliminates the moral hazard.
Next Page 1 | 2 | 3 | 4 | 5 | 6 | 7 | 8 | 9 | 10 | 11 | 12 | 13 | 14 | 15
(Note: You can view every article as one long page if you sign up as an Advocate Member, or higher).
2
1
1
