Wednesday, 20 November 2013

How much seigniorage do private banks steal from central banks?

Not as much as is claimed in this Positive Money article.
Siegniorage is the profit that a money issuer makes from printing and spending money. And if the only issuer of money is the central bank or the “government / central bank machine”, then the latter machine profits when the money supply is expanded. Or put another way, the new money can be spent on the usual public secor items, education, infrastructure, etc, which means that the entire community “profits”.
But the large majority of money in existence was created by private banks, not central banks. So if the only money allowed was central bank money (i.e. if we implement full reserve banking), than on the face of it, all the money created by private banks over the last decade or two or three, is money which the central bank would have created, and thus which government could have spent on education, infrastructure, etc.
Indeed, the latter idea is set out in chart form by the above PM article: reproduced below.

Now there is a whapping great problem with the above argument, as follows.
Central bank money is a NET ASSET as viewed by the private sector, whereas commercial bank money is not. In fact commercial bank money nets to nothing because for every dollar of commercial bank money created, there is a corresponding dollar of debt.
So if $X billion of commercial bank money is simply replace by central bank money, there is a huge increase in private sector paper assets – liquid assets to boot. And the effect of that will be inflationary, assuming the economy is already at capacity.
So if full reserve is to replace fractional reserve, commercial bank money will have to be replaced by a significantly smaller amount of central bank money. And that might seem like a problem: it might seem that there won’t be enough money to lubricate economic activity.
Well the answer to that little problem is that a significant proportion of commercial bank money is not really money at all, and for the following reasons. (Incidentally, and for the sake of brevity, I’ll paint an over simple picture of what banks do below. But the over simple picture is not greatly at variance with reality.)
The so called money that is deposited at commercial banks can be divided into two types. There is day to day spending money: that’s what might be called “real money”. And second, there are deposits which the relevant depositors have no intention of spending in a hurry (if ever). And the latter so called money can be loaned on by banks because the relevant depositors have no immediate use for it.
In short, the latter so called money is not money at all: it’s a debt owed by a debtor to a creditor with the bank acting as go-between. I.e. the bank arranged the loan by the depositor to the borrower. Indeed, the likelihood of money in deposit accounts actually being counted as money varies with the “term” of the deposit, and practice varies from one country to another.
Of course, and to repeat, the real world is a bit more complicated than that: in particular, commercial banks in fact lend on a portion of money from current or checking accounts. That’s called “maturity transformation”. But let’s stick with the over simple picture.
So if full reserve were implemented, debts would under no circumstances be counted as money. Thus the above apparent problem that implementing full reserve results in a significant reduction in the money supply is in fact no problem at all because a significant proportion of the existing so called “money supply” is not really money: it’s a longish term debt owed by one private sector non-bank entity to another.
And that in turn means that had we implemented full reserve long ago, there would not have been quite to bonanza for the government / central bank machine that is portrayed in the above chart.


  1. Anyone can create an asset/liability pair by writing out an IOU. It is only when the IOU is passed to someone else that a 'new money' can be considered to have been issued.
    So the commercial banks aren't doing anything out of the ordinary, when they loan out money.
    The commercial banks do, of course, have to abide by certain rules set by their reserve bank ( a requirement to keep a certain level of reserves etc) but ultimately they in turn borrow money , just about as much as they consider they need, from the reserve bank, at lower rates of interest. The difference of course is where they make their profit.
    So, ultimately, all new money, unless it is counterfeit, does come from Government. The money supply is increased by lending it out. Interest rates are adjusted as necessary to control the process.
    The money supply could be increased by spending it out too. However, the conventional wisdom is that it's a very bad idea and leads to 'Zimabweland'! Budget deficits should be funded should be via the issue of Treasury bonds.

    For some reason, the issuing of bonds is not seen by the mainstream as printing money, or even creating money by keystroke.

    MMTers know better of course. There's no fundamental difference between a bond and a banknote! Converting one to the other, as in QE, has very little effect on the economy.

  2. I'm not sure I agree with this. This is my take on the issue of the 'creating money from thin air' argument.

  3. The confusion arise from the fact that the public ignore the cheating in accounting in bank financial statements.
    I explained it concisely here: Bank of England: robbing the UK Treasury blind


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