Showing posts with label government. Show all posts
Showing posts with label government. Show all posts

Wednesday, 24 December 2014

Regulatory economics



From Wikipedia, the free encyclopedia/Blog Ref http://www.p2pfoundation.net/Transfinancial_Economics

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Regulatory economics is the economics of regulation, in the sense of the application of law by government or and independant agency for various purposes, such as centrally-planning an economy, remedying market failure, enriching well-connected firms, or benefiting politicians (see Regulatory capture). It is not considered to include voluntary regulation that may be accomplished in the private sphere.
Regulatory capture is the process by which a regulatory agency, created to act in the public interest, instead advances the commercial or special concerns of interest groups that dominate the industry that the agency is charged with regulating. The probability of regulatory capture is economically biased, in that vested interests in an industry have the greatest financial stake in regulatory activity and are more likely to be motivated to influence the regulatory body than dispersed individual consumers, each of whom has little particular incentive to try to influence regulators. Thus the likelihood of regulatory capture is a risk to which an agency is exposed by its very nature.[1]


Regulation[edit]

Public services can encounter conflict between commercial procedures (e.g. maximizing profit), and the interests of the people using these services (see market failure), as well as the interests of those not directly involved in transactions (externalities). Most governments therefore have some form of control or regulation to manage these possible conflicts. This regulation ensures that a safe and appropriate service is delivered, while not discouraging the effective functioning and development of businesses.
For example, the sale and consumption of alcohol and prescription drugs are controlled by regulation in most countries, as are the food business, provision of personal or residential care, public transport, construction, film and TV, etc. Monopolies are often regulated, especially those that are difficult to abolish (natural monopoly). The financial sector is also highly regulated.
Regulation can have several elements:
  • Public statutes, standards or statements of expectations.
  • A process of registration or licensing to approve and to permit the operation of a service, usually by a named organisation or person.
  • A process of inspection or other form of ensuring standard compliance, including reporting and management of non-compliance with these standards: where there is continued non-compliance, then:
  • A process of de-licensing whereby that organisation or person is judged to be operating unsafely, and is ordered to stop operating or suffer the penalty of acting unlawfully.
This differs from regulation in any voluntary sphere of activity, but can be compared with it in some respects. For example, when a broker purchases a seat on the New York Stock Exchange, there are explicit rules of conduct the broker must conform to as contractual and agreed-upon conditions that govern participation. The coercive regulations of the U.S. Securities and Exchange Commission, for example, are imposed without regard for any individual's consent or dissent as to that particular trade. However, in a democracy, there is still collective agreement on the constraint—the body politic as a whole agrees, through its representatives, and imposes the agreement on the subset of entities participating in the regulated activity.
Other examples of voluntary compliance in structured settings include the activities of Major League Baseball, FIFA (the international governing body for professional soccer), and the Royal Yachting Association (the UK's recognized national association for sailing). Regulation in this sense approaches the ideal of an accepted standard of ethics for a given activity, to promote the best interests of the people participating as well as the acceptable continuation of the activity itself within specified limits.
In America, throughout the 18th and 19th centuries, the government engaged in substantial regulation of the economy. In the 18th century, the production and distribution of goods were regulated by British government ministries over the American Colonies (see mercantilism). Subsidies were granted to agriculture and tariffs were imposed, sparking the American Revolution. The United States government maintained a high tariff throughout the 19th century and into the 20th century until the Reciprocal Trade Agreement was passed in 1934 under the Franklin D. Roosevelt administration. However, regulation and deregulation came in waves, with the deregulation of big business in the Gilded Age leading to President Theodore Roosevelt's trust busting from 1901 to 1909, and deregulation and Laissez-Faire economics once again in the roaring 1920s leading to the Great Depression and intense governmental regulation and Keynesian economics under Franklin Roosevelt's New Deal plan. President Ronald Reagan deregulated business in the 1980s with his Reaganomics plan.
In 1946, the U.S. Congress enacted the Administrative Procedure Act (APA), which formalized means of assuring the regularity of government administrative activity, and its conformance with authorizing legislation. The APA established uniform procedures for a federal agency's promulgation of regulations, and adjudication of claims. The APA also sets forth the process for judicial review of agency action.

Theories of regulation[edit]

The development and techniques of regulations have long been the subject of academic research, particularly in the utilities sector. Two basic schools of thought have emerged on regulatory policy, namely, positive theories of regulation and normative theories of regulation.
Positive theories of regulation examine why regulation occurs. These theories of regulation include theories of market power, interest group theories that describe stakeholders' interests in regulation, and theories of government opportunism that describe why restrictions on government discretion may be necessary for the sector to provide efficient services for customers. In general, the conclusions of these theories are that regulation occurs because:
  1. the government is interested in overcoming information asymmetries with the operator and in aligning the operator's interest with the government's interest,
  2. customers desire protection from market power when competition is non-existent or ineffective,
  3. operators desire protection from rivals, or
  4. operators desire protection from government opportunism.
Normative economic theories of regulation generally conclude that regulators should
  1. encourage competition where feasible,
  2. minimize the costs of information asymmetries by obtaining information and providing operators with incentives to improve their performance,
  3. provide for price structures that improve economic efficiency, and
  4. establish regulatory processes that provide for regulation under the law and independence, transparency, predictability, legitimacy, and credibility for the regulatory system.
Alternatively, many heterodox economists working outside the neoclassical tradition, such as in institutionalist economics, economic sociology and economic geography, as well as many legal scholars (especially of the legal realism and critical legal studies approaches) stress that market regulation is important for safeguarding against monopoly formation, the overall stability of markets, environmental harm, and to ensure a variety of social protections. These draw on a diverse range of sociologists of markets, including Max Weber, Karl Polanyi, Neil Fligstein, and Karl Marx as well as the learnt history of government institutions involved in regulatory processes.
Principal-agent theory addresses issues of information asymmetry, which in the context of utility regulation, generally means that the operator knows more about its abilities and effort and about the utility market than does the regulator. In this literature, the government is the principal and the operator is the agent, whether the operator is government owned or privately owned. Principle-agent theory is applied in incentive regulation and multipart tariffs.[2]

Regulation as red tape[edit]

The World Bank's Doing Business database collects data from 178 countries on the costs of regulation in certain areas, such as starting a business, employing workers, getting credit, and paying taxes. For example, it takes an average of 19 working days to start a business in the OECD, compared to 60 in Sub-Saharan Africa; the cost as a percentage of GNP (not including bribes) is 8% in the OECD, and 225% in Africa.
The Doing Business project has informed or inspired 120 reforms around the world. It is the World Bank's top-selling publication and accounts for half of all the media coverage of the World Bank Group.
The Worldwide Governance Indicators project at the World Bank recognizes that regulations have a significant impact in the quality of governance of a country. The Regulatory Quality of a country, defined as "the ability of the government to formulate and implement sound policies and regulations that permit and promote private sector development"[3] is one of the six dimensions of governance that the Worldwide Governance Indicators measure for more than 200 countries.

Deregulation[edit]

Main article: Deregulation
During the late 1970s and 1980s, some forms of regulation were seen as imposing unnecessary 'red tape' and other restrictions on businesses. In particular, government support of cartel activity was seen as diminishing economic efficiency. Regulatory agencies were often seen as having been captured by the regulated industries, as a means of diminishing competition between industry participants, and so not serving the public interest. As a result, there has been a movement towards deregulation in a number of industries. These include transportation, communications, and some financial services.
One example is the international monetary system: it is now much easier to transfer capital between countries. As a result, the globalisation of markets has increased.
An accompaniment of deregulation has been 'privatisation' of industries that previously had been under government control. The hope was that market forces would make these industries more efficient. This program was widely pursued in Britain throughout the later years of the last century. Critics argue that although this has increased choice in services, their standards have declined and wages and employment have been reduced.
Some, particularly libertarians, feel there has been little progress in deregulation during recent decades, and controls on small businesses, for example, are greater than ever. They feel deregulation is an aspirational, rather than a real, intention.
Others support re-regulation on the basis that deregulation has gone too far and given too much power to corporations and special interests at the expense of the power of the people's elected representatives.
Many criticize the influence of Intellectual Property Rights and other sorts of national regulations on the internet and IT business (software patents, DRM, trusted computing).

Controversy[edit]

Proponents[edit]

The regulation of markets is to safeguard society and has been the mainstay of industrialized capitalist economic governance through the twentieth century.[citation needed] Karl Polanyi refers to this process as the 'embedding' of markets in society. Further, contemporary economic sociologists such as Neil Fligstein (in his 2001 Architecture of Markets) argue that markets depend on state regulation for their stability, resulting in a long term co-evolution of the state and markets in capitalist societies in the last two hundred years.

Opponents[edit]

There are various schools of economics that push for restrictions and limitations on governmental role in economic markets. Economists who advocate these policies do not necessarily share principles, such as Nobel prize-winning economists Milton Friedman (monetarist school), George Stigler (Chicago School of Economics / Neo-Classical Economics), and Friedrich Hayek (Austrian School of Economics), as well as Richard Posner (Chicago School / Pragmatism), all of whom have sought substantially to limit economic regulation. Generally, these schools attest that government needs to limit its involvement in economic sectors and focus instead on protecting negative individual rights (life, liberty, and property). These schools would assure economic rights equally, rather than diminish individual autonomy and responsibility for the sake of remedying any sort of putative "market failure." They tend to regard the notion of market failure as a misguided contrivance wrongly used to justify coercive government actions.
These economists believe that government intervention creates more problems than it is supposed to solve—as well-meaning as some of these interventions may be—chiefly because government officers are incapable of accurate economic calculation, lacking any reliable ability (or true incentive) to gather, integrate, or honestly evaluate the vast amounts of information that guide the "invisible hand" of a free market.
The Austrian School economists, beginning with Ludwig von Mises, see regulations as problematic not only because they disrupt market processes, but also because they tend only to bring about more regulations. According to Austrian theory, every regulation has some consequences besides those originally intended when the regulation was implemented. If the unintended consequence are undesirable to those with the power to regulate, there exist two alternative possibilities: do away with the existing regulation, or keep the existing regulation and institute a new one as well to treat the unintended consequence of the old one. In practice, regulators very seldom even consider that the problems they detect may actually be the consequence of prior regulation[citation needed], so the second option is preferred far more often than the first. The new regulation, however, has unintended consequences of its own that bring about this cycle anew. If unchecked, the result over time is regulation so extensive as to amount to a state-run economy.
Laissez-faire advocates do not oppose monopolies unless they maintain their existence through coercion to prevent competition (see coercive monopoly), and often assert that monopolies have historically developed only because of government intervention rather than a lack thereof. Specifically, every regulation has some associated cost of compliance. If these costs increase the total cost of operation enough to block new entry into a market but allow existing firms to continue to generate a profit, the regulation effectively cartellizes or monopolizes the industry. When existing firms are able to lobby for regulation, this effectively becomes an opportunity to do away with competitors.
Some economists argue that minimum wage laws cause unnecessary unemployment, for the same reason that a minimum price on anything will decrease the quantity of it that people purchase. If a minimum wage law is passed that makes it illegal to pay less than M per hour, employers will continue to keep on payroll only those workers whose hourly work brings in more than M in revenues. Consequently, those workers who are least productive, and are therefore likely to be paid the least without a minimum wage, are also the ones most likely to become unemployed after a minimum wage is implemented.
Another argument against regulation is that laws against insider trading reduce market efficiency and transparency. If a firm is "cooking the books," insiders, without restraint on insider trading, will take short positions and lower the share price to a level that aggregates both insider and outsider knowledge. If insiders are restrained from using their knowledge to make transactions, the share price will not reflect their insider information. If outsider investors (those whom such laws are supposed to protect) buy shares, their purchase price won't reflect the insider knowledge and will be high by comparison to the price after the insider information becomes public. Outsiders wind up taking an avoidable loss. If insiders were allowed to trade freely, the price would never get as high to begin with, and outsiders would lose less money.
Another position held by most economists is that government-enforced price-ceilings cause shortages. If the public is willing to buy Q units of some good at price P, and the sellers of that good are willing to sell Q units at P, then in the absence of regulation, the market for that good will clear. That is, everyone who wants to buy or sell at price P will be able to do so. If a regulation imposes a price ceiling below P, sellers will be willing to sell some lesser quantity, Q - a, and buyers will be willing to buy some greater quantity, Q + b, at the new price. In addition to a shortage of a + b units, there is also the matter of deciding who should get the units offered, since at the regulation price, demand will exceed supply. Such situations typically generate ways to avoid the effects of the market imbalance and clear the market, such as 'black markets'.
A recent comprehensive study of evidence on government regulation has supported the Iron Law of Regulation which claims “There is no form of market failure, however egregious, which is not eventually made worse by the political interventions intended to fix it.”[4]

See also[edit]

References[edit]

  1. Jump up ^ Gary Adams, Sharon Hayes, Stuart Weierter and John Boyd, "Regulatory Capture: Managing the Risk" ICE Australia, International Conferences and Events (PDF) (October 24, 2007). Retrieved April 14, 2011
  2. Jump up ^ Body of Knowledge on Infrastructure regulation Theories of Regulation.
  3. Jump up ^ "A Decade of Measuring the Quality of Governance". 
  4. Jump up ^ Armstrong, J. Scott; Green, Kesten C. (2013). "Effects of corporate social responsibility and irresponsibility policies". Journal of Business Research. 
  • Journal of Regulatory Economics (1989 - ) [1]

External links[edit]

Retrieved from "http://en.wikipedia.org/w/index.php?title=Regulatory_economics&oldid=639379404"
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Thursday, 22 May 2014

The National Debt Clock



The following Link shows the National (US) Debt Clock in action...       http://www.usdebtclock.org


Blogger Ref Link http://www.net/p2pfoundation.net/Transfinancial_Economics








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Coordinates: 40°45′23″N 73°59′02″W / 40.756329°N 73.983921°W / 40.756329; -73.983921
Photo of the National Debt Clock on September 15, 2009, at which time it reads approximately 11.8 trillion USD in national debt
The National Debt Clock on September 15, 2009, at which time it read approximately 11.8 trillion USD in national debt
The National Debt Clock is a billboard-sized running total display which constantly updates to show the current United States gross national debt and each American family's share of the debt. It is currently installed on Sixth Avenue in Manhattan, New York City.
The idea for the clock came from New York real estate developer Seymour Durst, who wanted to highlight the rising national debt. In 1989, he sponsored the installation of the first clock, which was originally placed on Sixth Avenue—between 42nd Street and 43rd Street—one block away Times Square. At the time, the national debt remained under $3 trillion but was rising. The clock was temporarily switched off from 2000 to 2002 due to the debt actually falling during that period.
In 2004, the original clock was dismantled and replaced by the current clock at the new location one block away. In 2008, the U.S. national debt exceeded $10 trillion for the first time, leading to press reports that the clock had run out of digits.[1][2][3][4]
The original clock outlived Seymour, who died in 1995, with Seymour's son Douglas taking over responsibility for the clock through the Durst Organization. As of September 2009, Douglas Durst's cousin Jonathan "Jody" Durst, with whom he currently shares a co-presidency of the company, is in the process of taking over the day-to-day operations as president. In an interview with The New York Times, Jonathan Durst has said that maintenance of the clock is planned "for years to come."[5]


History[edit]

Clock concept[edit]

Invented and sponsored by New York real estate developer Seymour Durst, the National Debt Clock was installed in 1989.[6] After Seymour's death in 1995, his son Douglas Durst became president of the Durst Organization which owns and maintains the clock.[7][8][9]
Douglas Durst has been quoted as saying that the clock represents a non-partisan effort; he has further explained the motivation behind the project in terms of intergenerational equity: "We're a family business. We think generationally, and we don't want to see the next generation crippled by this burden."[10]
According to Douglas Durst, his father had been toying with the basic idea of drawing attention to the growing national debt since at least 1980, when during the holiday season he sent cards that said "Happy New Year. Your share of the national debt is $35,000" to senators and congressmen.[11] In the early eighties, when Durst first developed the idea of a constantly updated clock, the technology required to implement the project was not yet available.[10]

First clock[edit]

Photo of the first National Debt Clock at the original location near Times Square
The first clock at the original location near Times Square (2002)
With the national debt at 2.7 trillion dollars, the original 11 by 26 feet (3.4 m × 7.9 m) clock was constructed in 1989 at a cost of $100,000.[7] It was mounted a block from Times Square, on a Durst building at Sixth Avenue near 42nd Street, facing the north side of 42nd Street and Bryant Park across the intersection. Built by the New York sign company Artkraft Strauss, the clock featured a dot-based segment display emulating the then-typical character resolution of 5x7. Similar to the second clock, the updating mechanism was such that the display was set to the estimated speed of debt growth (odometer-style) and adjusted weekly according to the latest numbers published by the United States Treasury.[7][9][12] Up until the week before his death, Seymour Durst himself adjusted the tally via modem.[7] Since his passing, Artkraft Strauss has been keeping the figures current.[7]
In 2000, due to an improving debt situation, the clock started to run backward.[8] With the original purpose of the clock being to highlight the rising debt and the reverse giving a mixed message, and with the display not being designed to properly run backward, the clock was unplugged and covered with a red, white and blue curtain in September 2000, with the national debt standing at roughly 5.7 trillion dollars.[10] The clock was not dismantled, however, and in July 2002 the curtain was raised and the clock once again picked up tracking a rising debt, starting at 6.1 trillion dollars.[13]

Second clock[edit]

In 2004, the original clock was moved from its location near 42nd Street; the building has since made way for One Bryant Park. An updated model, which can run backward, was installed one block away on a Durst building at 1133 Avenue of the Americas (more commonly known as 1133 Sixth Avenue).[10][14] It is mounted on the side wall of the building which faces W. 44th Street. The new clock is outfitted with a brighter seven-segment display with multiple LEDs per segment, allowing the numbers to be read more easily.
In the midst of extensive media attention during the financial crisis beginning in 2007, some news reports mentioned the National Debt Clock, highlighting the fact that its display had run out of digits when the U.S. gross federal debt rose above $10 trillion on September 30, 2008.[1][2][3][4]
An overhaul or complete replacement adding two more digits to the clock's display is currently being planned.[12][15][16]

Similar projects[edit]

Photo of the German national debt clock at the Berlin headquarters of taxpayer watchdog group Bund der Steuerzahler
German national debt clock at the Berlin headquarters of taxpayer watchdog group Bund der Steuerzahler
The idea of conveying a message through a periodically updated clock found an earlier expression in the Doomsday Clock. However, the innovation of the National Debt Clock was to feature a constantly running counter; it has since inspired similar projects elsewhere, both in the United States and further afield.[7][17] Various tracking counters of national debt are also kept online.[18]
The National Debt Clock has also been credited as the inspiration behind other running totalisers, for example an AMD campaign employing an electronic billboard; instead of a debt, it tracked the supposed additional cost of using a rival chip.[19]

See also[edit]

References[edit]

  1. ^ Jump up to: a b "National Debt Clock runs out of digits". London: timesonline.co.uk. October 9, 2008. Retrieved 2008-10-10. 
  2. ^ Jump up to: a b "The Debt to the Penny and Who Holds It — Daily History Search Application". TreasuryDirect. September 30, 2008. Retrieved September 15, 2009. 
  3. ^ Jump up to: a b "Debt clock can't keep up (CNN video)". cnn.com. October 4, 2008. Retrieved 2008-10-05. 
  4. ^ Jump up to: a b "US debt clock runs out of digits". BBC News. October 9, 2008. 
  5. Jump up ^ Marino, Vivian (September 11, 2009). "Square Feet | The 30-Minute Interview: Jonathan Durst". The New York Times. Retrieved September 15, 2009. 
  6. Jump up ^ Daniels, Lee A. (November 8, 1991). "Chronicle". The New York Times. Retrieved 2008-10-06. 
  7. ^ Jump up to: a b c d e f Toy, Vivian S. (May 28, 1995). "The Clockmaker Died, but Not the Debt". The New York Times. Retrieved 2008-10-06. 
  8. ^ Jump up to: a b "National Debt Clock stops, despite trillions of dollars of red ink". CNN, AP, Reuters (hosted on Internet Archive's Wayback Machine). September 7, 2000. Archived from the original on 2008-01-29. Retrieved 2008-10-05. 
  9. ^ Jump up to: a b Upham, Ben (May 14, 2000). "NEIGHBORHOOD REPORT: TIMES SQUARE; Debt Clock, Calculating Since '89, Is Retiring Before the Debt Does". The New York Times. Retrieved 2008-10-05. 
  10. ^ Jump up to: a b c d "US debt clock running out of time, space". China Daily / AFP. 2006-03-30. Retrieved 2008-10-05. 
  11. Jump up ^ Koh, Eun Lee (August 13, 2000). "FOLLOWING UP; Time's Hands Go Back On National Debt Clock". The New York Times. Retrieved 2008-10-06. 
  12. ^ Jump up to: a b Rubinstein, Dana (October 6, 2008). "Durst To Add Extra Trillion Dollar Digit to National Debt Clock". observer.com. Retrieved 2008-10-08. 
  13. Jump up ^ Stevenson, Robert W. (July 13, 2002). "White House Says It Expects Deficit to Hit $165 Billion". The New York Times. Retrieved 2008-10-06. 
  14. Jump up ^ Haberman, Clyde (March 24, 2006). "We Will Bury You, in Debt". The New York Times. Retrieved 2008-10-06. 
  15. Jump up ^ Boniello, Kathianne (October 5, 2008). "'1' Big Tick is due for Debt Clock". nypost.com. Retrieved 2008-10-08. 
  16. Jump up ^ "U.S. debt too big for National Debt Clock (MSNBC video)". NBC Nightly News. msnbc.com. October 7, 2008. Retrieved 2008-10-08. 
  17. Jump up ^ "Debt Clock Moves Next Door to Government". Deutsche Welle. June 18, 2004. Retrieved 2008-10-05. 
  18. Jump up ^ Examples for online debt tracking resources include treasurydirect.gov, brillig.com and others, see External links below.
  19. Jump up ^ Hesseldahl, Arik (May 3, 2006). "AMD Sticks It to Intel—Again". BusinessWeek.com. Retrieved October 27, 2009. 
  20. Jump up ^ "indieWIRE INTERVIEW: James Scurlock, director of "Maxed Out"". indieWIRE. March 11, 2007. Retrieved 2008-10-10. 

External links

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Monday, 3 March 2014

How We Got Here..from Positive Money


Laws that make it illegal for you to print your own £5 or £10 notes have been in place since 1844. But these laws, when passed,  ignored the fact that money can also exist in the form of bank deposits. Because of this oversight, banks have the power to create money, effectively out of nothing. As a result, today almost all money exists as electronic bank deposits.

A Short History of Money in the UK

Before 1844, only the government was legally allowed to create metal coins. But trying to keep metal coins safe or carrying them around was inconvenient, so people would typically deposit their coins with the local jeweller or goldsmith who would have a safe. Eventually these goldsmiths started to focus more on holding money and valuables for customers rather than on actually making jewellery. They became the first bankers.
A customer putting coins into the new ‘bank’ would receive a piece of paper stating the value of coins deposited, like the one on the left. If the customer wanted to spend his money, he could take the piece of paper to the bank, get the coins back, and then spend them in the local shops.
However, the shopkeeper who received the coins would usually take them straight back to the bank for safety. To save a trip to the bank, shopkeepers would simply accept the paper receipts as payment instead. As long as people trusted the bank that issued the receipts, businesses and individuals would be happy to accept the receipts, safe in the knowledge that they would be able to get the coins out of the bank whenever they needed to.
Over time, the paper receipts became accepted as being as good as metal money. People effectively forgot that they were just a substitute for money and saw them as being equivalent to the coins.
Screen Shot 2013-05-06 at 12.23.26The goldsmiths soon noticed that the bulk of the coins placed in their vaults were never taken out. Only a small percentage of deposits were ever asked for at any particular time. This opened up a profit opportunity – if the bank had £1,000 of coins in the vault, but customers only withdrew a maximum of £100 on any one day, then the other £900 in the vault was effectively idle. The goldsmith could lend out that extra £900 to borrowers, and make a profit by charging interest on it.
However, rather than lend the coins the goldsmiths would write out paper receipts for borrowers. This meant that the bank could issue paper receipts to other borrowers without needing many – or even any – coins in the vault. Even with only £1,000 of coins in the vault the bank could lend out £2,000, £4,000 or as much paper money as it dared too. (Of course, the banks still faced some restrictions – if too many people came to get their money back at the same time then it would be obvious that the bank didn’t have enough money to repay everyone.)
The banks had acquired the power to create a substitute for the metal money created by the government. In effect, they had acquired the power to create money.

1844 Bank Charter Act

Screen Shot 2013-05-06 at 12.21.01The hunt for profit drove bankers to issue and lend too much paper money. This increases the amount of money in the economy, pushing up prices and de-stabilising the economy. (One crisis was particularly embarrassing for the Bank of England – in 1839 it had to borrow £2 million of gold from France to rescue failing banks).
In 1844, the government of the day, led by Sir Robert Peel, recognised that the problem was that they had allowed the power to create money to slip into the hands of banks. They passed a law to take back control over the creation of bank notes. This law, the Bank Charter Act, prohibited the private sector from (literally) printing money, transferring this power to the Bank of England.

The banks fight back

Screen Shot 2013-05-06 at 12.26.05However, the 1844 Bank Charter Act only stopped the creation of paper bank notes – it didn’t refer to other substitutes for money, such as bank deposits. Because of this oversight, banks could still create ‘bank deposits’ by making loans – and so they could still create money simply by opening accounts for people or companies and adding numbers to them. With growth in the use of cheques these deposits could be transferred to make payments, and therefore used as money. When a cheque is used to make a payment, the actual cash is not withdrawn from the bank. Instead, the paying bank talks to the receiving bank to settle any differences between them once all customers’ payments in both directions have been cancelled out against each other. This means that payments can be made even if the bank has only a fraction of the money that depositors believe they have in their accounts. However, despite the rise of cheques cash was still used for a large proportion of transactions, and so banks were limited in the amount of money they could create in case they ran out of physical cash.

And then there were computers

Screen Shot 2013-05-06 at 12.28.18Following on in the spirit of financial innovation, after cheques came credit and debit cards, electronic fund transfers and internet banking. Cheques are now almost irrelevant as a means of payment: today over 99% of payments (by value) are made electronically. With the rise of computers and financial deregulation beginning in the 1970′s, banks could really let loose, as the following charts show:


        Even among those who are aware that what banks do is more complicated than merely operating as middlemen between savers and borrowers, there is a widespread belief that banks are obliged to possess a sum corresponding to a significant fraction of their liabilities (their customers’ deposits) in liquid assets, i.e. in cash, or a form that can be rapidly converted into cash. In fact, such laws were weakened in the 1980s in response to lobbying from the industry (although some effort is now being made to re-impose such rules in the aftermath of the crisis).

        The situation today

        The electronic numbers in your bank account do not represent real money. They simply give you a right to demand that the bank gives you the physical cash or makes an electronic payment on your behalf. In fact, if you and a lot of other customers demanded your money back at the same time – a bank run – it would soon become apparent that the bank does not actually have your money. For example, on the 31st of January 2007 banks held just £12.50 of real money (in the form of electronic money held at the Bank of England) for every £1000 shown in their customers’ accounts.
        Screen Shot 2013-05-06 at 12.32.58Deposit money now makes up over 97% of all the money in the economy – around £2.1 trillion, compared to only £50 billion of cash.1 By volume of payments, bank deposits are used for 99.91% of transactions and transfers, with cash being used for just 0.09% of transfers2. Consequently, the physical currency issued by the state has been almost entirely replaced by a digital currency issued by private companies. In other words, the UK’s money supply has been effectively privatised.
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