What is the role of private banks in money creation?

Private banks create the vast majority of money (around 97%) by issuing loans. When you take out a loan, the bank essentially creates new digital money that can be spent, with the loan acting as a promise to repay with interest.

What is quantitative easing (QE)?

Quantitative easing is a method where central banks create large amounts of money digitally to purchase assets like government bonds or securities. This is often done during financial crises to inject liquidity into the economy.

Why don't governments just print all the money needed?

Governments primarily create physical currency, which is a small fraction of the economy. Printing excessive amounts of money would devalue the currency through hyperinflation, as seen in countries like Argentina and Venezuela.

How does money creation relate to debt?

In modern economies, most money is created as debt through bank loans. When a bank issues a loan, it's creating new money, and the borrower incurs debt. This debt-based money is then circulated in the economy.

What are the consequences of current money creation practices?

These practices can lead to significant wealth inequality, as printed money often flows into assets like stocks and real estate, benefiting those who already own them. It can also lead to economic distortions and fragility.

What is the role of the US dollar in global money creation?

The US dollar is the world's reserve currency, meaning its creation and policies significantly impact the global monetary system. The decision to move off the gold standard in 1971 made the dollar, and thus the global money supply, more elastic.

What can individuals do about the current monetary system?

While not financial advice, individuals might consider diversifying into non-debt based assets like gold or cryptocurrencies as a form of insurance. It's also important to research and make informed decisions based on personal beliefs.

How is Money Created? – Everything You Need to Know

ColdFusion

Science & Technology4 min read30 min video

Jun 8, 2020|5,816,391 views|142,661|12,131

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Key Moments

TL;DR

Money is created by governments (physical) and banks (digital debt). QE by central banks floods markets, causing wealth inequality.

Key Insights

Physical money (coins and notes) constitutes a small fraction (3-8%) of the economy, with governments earning seigniorage from its production.

The majority of money (around 97%) is created digitally by private banks through issuing loans, effectively creating debt-based currency.

Quantitative Easing (QE) by central banks involves creating digital money to purchase assets like bonds, injecting liquidity into the economy.

Central banks can create unlimited money and are protected from insolvency, leading to them owning significant portions of global assets.

The current monetary system, driven by debt and financialization, leads to wealth inequality, with newly created money benefiting asset holders first.

Future economic outlook may involve stagflation, a loss of faith in the US dollar, or potential solutions like digital currencies and Modern Monetary Theory.

GOVERNMENT-INFLUENCED PHYSICAL MONEY CREATION

Physical money, comprising coins and paper notes, is primarily created by governments through entities like the Royal Mint. This physical currency represents a small percentage, roughly 3-8%, of the total money supply. When banks need to meet customer withdrawal demands, they rely on this physical cash. The government profits from minting money through 'seigniorage', the difference between the face value of currency and its production cost. However, governments largely refrain from producing the bulk of money due to the risks of inflation and potential political misuse for campaign funding or conflicts, which could devalue the currency.

THE DOMINANCE OF PRIVATE BANK-CREATED DEBT MONEY

The vast majority of money in circulation today, approximately 97%, is created digitally by the private banking sector. This process begins when banks are authorized to issue loans. For instance, when a bank issues a $500,000 mortgage, it digitally creates that sum in its accounts and records an equal amount of debt obligation for the borrower. This newly created debt-money then enters the economy when used for transactions, such as purchasing a home. The underlying principle is that economic growth in this system often necessitates an increase in debt, as debt and money are, from different perspectives, the same financial instrument.

FRACTIONAL RESERVE LENDING AND BANKING RISKS

Banks operate on a fractional reserve system, where they are legally permitted to lend out a significant portion (historically 90%) of customer deposits, retaining only a fraction in reserve. This practice, known as fractional reserve lending, allows for the multiplication of money within the economy. A deposit of $100 can eventually lead to $1,000 in circulation. However, recent changes in reserve requirements have removed these limitations, potentially allowing banks to create 'infinite' amounts of money. Furthermore, banks can invest these deposits in complex financial instruments like derivatives, which carry significant risks.

CENTRAL BANK INTERVENTION AND QUANTITATIVE EASING

Quantitative Easing (QE) is a monetary policy tool where central banks create digital money to purchase assets, such as government bonds, from banks and corporations. Initially implemented during crises like the 2008 financial meltdown and the COVID-19 pandemic, QE injects liquidity into the financial system. This action inflates the central bank's balance sheet and allows it to acquire substantial holdings in real assets, including stocks and bonds. The underlying financing for these operations is effectively debt, which future taxpayers are obligated to repay through taxation or inflation.

CONSEQUENCES OF MONEY CREATION: WEALTH INEQUALITY

The current system of money creation, particularly through QE and bank lending, disproportionately benefits those who receive the newly created money first—often asset holders and the wealthy. This phenomenon, known as the Cantillon effect, leads to soaring asset prices like stocks and real estate, while the real economy sees limited growth. This contributes to widening wealth inequality, where the rich become significantly richer, while the purchasing power of the average person may stagnate or decline, creating social unrest and fragility within the economic system. The Fed's ability to create money digitally and purchase assets means it can prevent bank collapses, at the cost of the public ultimately bearing the debt.

FUTURE ECONOMIC PROSPECTS AND INDIVIDUAL STRATEGIES

The long-term outlook for the current monetary system is uncertain, with potential scenarios including stagflation (high inflation and slow economic growth) or a loss of faith in the US dollar. Alternative theories like Modern Monetary Theory (MMT) propose that governments can print money as long as they can maintain productivity to service the debt. Individuals seeking to hedge against these risks might consider diversifying into non-debt-based assets like gold, which central banks cannot print, or exploring cryptocurrencies. The overarching message is the need for critical thinking and personal research to navigate these complex financial landscapes and prepare for potential future economic shifts.

Mentioned in This Episode

●Software & Apps

●Companies

●Organizations

●Concepts

●People Referenced

Money Creation Methods by Sector

Data extracted from this episode

Form of Money	Creator	Percentage of Economy	Mechanism
Physical Money (Notes/Coins)	Government (outsourced to Royal Mint)	3-8%	Printing/Minting currency. Profit (seigniorage) goes to government.
Digital Money (Debt-based)	Private Banks	approx. 97%	Issuing loans (creating debt which acts as money).
Quantitative Easing (QE)	Central Banks	Varies (significant in crises)	Creating money digitally to issue loans/buy assets (bonds, securities).

Common Questions

Money is created in three main ways: by governments minting physical currency (notes and coins), by private banks issuing loans (creating debt-based digital money), and through quantitative easing by central banks who digitally create money to buy assets.

Topics

Private Banks

Mentioned in this video

conceptFractional Reserve Lending

A banking practice where banks keep a fraction of deposits in reserve and can lend out the rest, effectively creating more money than is physically in circulation based on initial deposits.

conceptDollar Milkshake Theory

A macroeconomic theory suggesting that the US dollar may rise in value as other nations exchange their falling currencies for it, seeing the US as the 'cleanest' economy amongst a group of declining ones.

legislationPromissory Notes Act

An English law passed in 1704 that gave promissory notes the legal standing of money, setting the stage for debt to be used as currency.

conceptCantillon Effect

A phenomenon where the first recipients of newly created money benefit at the expense of later recipients, leading to wealth inequality.

organizationColdFusion TV

The media channel producing the video, focusing on explaining complex topics like money creation.

concept2008 Financial Crisis

A major economic downturn that led to unprecedented central bank interventions, including quantitative easing, and marked a turning point in the real economy.

softwareCryptocurrencies

Suggested as a potential asset for younger individuals to consider, as governments and banking systems are beginning to take the technology seriously.

toolGold

organizationRoyal Mint