Where Does Money Really Come From?

Given current events, it might be good idea for the average citizen to better understand our modern banking system. Reader Rick submitted this following video by Paul Grignon which tries to explains things in an accessible way using animation. It is about 45 minutes long, so you need to commit a chunk of time to watch it, but I thought it was worth it.

The first part explains our fractional-reserve banking system very well. One might think that for every $1 we put in a bank account, that is $1 that can be lent as a mortgage loan. In actuality, it is more like $100 that can be lent. (Wonder why banks want our money so bad?) So where is most of the world’s money coming from? In effect, it is created by the act of borrowing itself. Money is created by debt!

However, in the end, it draws some controversial conclusions. The creator contends that this system is unsustainable, and because banks control the credit in our society, they effectively control the society. Thus, it would be better if the government took over such transactions. I have been unable to find a good rebuttal by a financial professional or economist online, so please drop a comment if you have.

(Best viewed in full-screen mode. Takes a while to start.)

Comments

  1. Uncommonadvice says:

    I love “Money is Debt” in terms of the entertainment value, but like yourself, I think it turned into a bit of a rant in the end.

    The alternative to our current system given above is what I call “State Capitalism”, which is essentially how the USSR was ran from the time of Stalin onwards.

  2. The government DOES control things in the end, because it sets the minimum reserve requirements for all banks.

  3. Hi, Great info thanks.

  4. Uncommonadvice – Soviet economy is not state capitalism, pre-war Germany and Japan were. Soviet and much of the communist/socialist economy at the time (from 50s to 90s) are primarily a central planing type economy, and ironically enough, theoretically it is meant to avoid problems that we are facing now. In Das Capital, Marx and his friend Engles illustrated the fundamental flaws of the capital based economy – economic cycles. In fact, Marx predicted the 1929 depression nearly 50 years before it occurs. Although his theory is largely ignored by today’s economics theorists, the basic phenomenon economic cycle is still there no matter how you explain it. And those who say the crisis was caused by democrats or republicans or bush or greed are all missing the point. What happened is inevitable regardless of what those individuals’ interior motivation. That’s sort of the outcome of their underline philosophical argument of the dialect materialist view that things are going to happen based on a set of principles regardless of what your subjective mind.

    I don’t necessarily agree with that whole theory but I continue to be amused of how sometimes these 1880 stuff still predicting the things happening now.

    Regarding that documentary. I think it represents a growing Ron Paul like sentiment in this country that our current economic system is too complicated and it borderline on fraud in the name of growth. Many people would rather live in a simple life (Jeffersonian?) where they know exactly how much they worth because they can count those value using no more than 10 fingers plus 5 toes (two hands and one foot are enough). Of course Omish people have lived in such simple life for ages. They seem to be happy…

  5. Banks want our money to satisfy their capital reserve requirements at the Federal Reserve. Otherwise, banks wouldn’t need our cash at all and hyperinflation would ensue as loans were given at an exponential rate. However, there are two reasons why governments and banks love central banks. 1. The Federal Reserve, a cartel to benefit banks, keeps banks in line by inflating evenly. 2. The Federal Reserve also creates whatever money the government needs to finance its debt (e.g. the Fed buys bonds issued by the US Treasury). For example, the $700B bailout will be financed by the Fed’s money creation.

  6. This fractional reserve banking system is painfully flawed, and needs to be removed.

    Why can’t the government abolish central banks and print the money themselves, with no debt to the bankers? They have to be responsible about to of course. The USA has done that before, with success, why can’t everyone do it again?

  7. Its funny cause I found this exact video on my own today before going here.

    But it makes me wonder, if everything does collapse, what could we do. gold wouldn’t help, currencies wouldn’t help. we’re kinda screwed, maybe I should use my money to buy lessons on husbandry and farming….

  8. Search under competition and banking.

    http://ideas.repec.org/p/bca/bocawp/04-24.html

  9. Go to http://www.mises.org

    Read What Has the Government Done to Our Money and The Case Against the Fed by Murray Rothbard.

    The US Constitution implicitly requires gold and silver as money.

    Here is a good explanation of fiat versus hard money:
    http://globaleconomicanalysis.blogspot.com/2007/06/why-does-fiat-money-seemingly-work.html

    Read both parts.

    Here is a 40 minute video:
    http://video.google.com/videoplay?docid=-466210540567002553

    You don’t want the government printing money either.

    Here are some more good articles on the subject of money. Scroll down past the regular articles:
    http://www.financialsense.com/fsu/editorials/gnazzo/archive.html

  10. The Federal Government has no right to get involved in banking. Get ahold of Jefferson’s commentary against the national Bank and you’ll see him tear down an argument under the same auspices used today to clump banking under the Commerce clause, but there are no inherant or implied powers granted for banking.

    No government control of banking is better than market control.

    Any of you who think otherwise should read Adam Smith’s “Causes of the Wealth of Nations” and John Locke’s “Second Treatise on Government”. Having read both of them myself, I am convinced that our elected officials have not, else they’d never propose the sort of tomfoolery that put us in this predicament to start with.

    The federal reserve system is doomed to fail eventually, and when it does, it will take down the world economy.

    The only thing the government should do is the only thing it’s empowered to do: cut taxes. Then we’ll have more money with which to pay our mortgages, pay our bills, buy food, and purchase the things we need/want.

  11. I have a suspicion he is leaving out some important details. Like the fact that the Federal Reserve essentially controls the money supply. I’m not sure it’s as simple as banks create money. Heck, that would mean you or I personally could take $111K, start a “bank”, lwrite a loan for $1 million, and collect interest on $1 million dollars???.

    Furthermore, he calls all interest “usury” and rails against it. Well everyone knows the principal of “time value of money”… If there were no interest, everyone would be able to borrow unlimited amounts of money and have their home, yacht, private jet, vacation home, etc etc at age 20

  12. Dividends Anonymous says:

    Another unfortunate victim of this credit bubble that built up for so long. WaMu was likely the most dangerous of the banking institutions since we didn’t see a firm buyer (via JPM) until it was ultimately over anyways.

    JPM will get a fairly good deal while the taxpayers are on the hook for the most of it. Further consolidation to come for sure, but who knows when or where it really ends

    Great site BTW!
    DA.

  13. Important stuff –thanks for posting this video. My 10-year-old son and i watched with interest, even if I don’t agree with all of the conclusions.

    I guess what’s fascinating to me is to see how money has changed from an actual heavy, metal, physical entity into energy, just as music and correspondence have. It’s obvious that there are flaws in the system, but I’m also encouraged to see what the new solutions will look like, since they are presently beyond my imagination.

  14. Debt does not create money. It’s production that creates money. The wealthest society is the one that produces the most goods and services. The money is always backed up by production.

  15. He’s not wrong, exactly, but his is a painfully naive and silly argument. The first half of the video tells a simple story, but the conclusions he draws are outlandish: that interest comes from nowhere and therefore the supply of money has to continue being increased to finance that interest.

    No…not correct. First, there’s no finite amount of wealth, as he seems to want to believe. Wealth is created as a byproduct of work and not all work requires the destruction of natural resources. I would wager MOST work is a new creation or otherwise sustainable or recyclable AT A CERTAIN PRICE.

    And that’s the whole point. The monetary system infuses currency with a value as a means of exchange for goods and services. Of course it’s based on IOUs. What else could it be based on? There is no intrinsic value to anything, especially not precious metals though they are rare.

    Some governments run deficits, but plenty of others run surpluses. And if nations are willing to backstop banks that provide currency in exchange for an IOU, they take a risk that they won’t be paid back. Some people don’t pay back! Ever hear of bankruptcy? It’s not a riskless transaction for the bank or for the government.

    I’ll buy into the idea that we all work for the bank, but only to an extent. It’s not like some guy is out there rubbing a cat and laughing in a dark room. These are all publicly-traded companies. Many are failing now. Clearly, the so-called cabal is either non existent or non functional.

    Barter systems do not work well. It’s impossible to create a perfect liquid market for barter and barter does not allow for the financing of long-term projects. For that, credit is needed. Someone has to provide it. Every sustained economic system has operated with a form of credit, cartoon medieval gold banker drawings notwithstanding.

  16. The alternative to market capitalism, and also to centrally planned socialism or “coordinatorism” (the existence of a third ‘coordinator’ class that Marxism fails to see), is “Participatory Economics” or Parecon for short.

    The underlying values that parecon seeks to implement are equity, solidarity, diversity, workers’ self-management and efficiency.

  17. Letting the government control all credit is certainly an idea people may want to ponder. Pondering is good, but acting on it is insanity. The pendulum has swung to one extreme (under-regulation) and it will swing to the other with over regulation and eventually will swing back to the middle.

  18. I found the video fascinating. I went looking for some credibility behind it, and was planning to send the link to an economist I trust, David Korten. I found the filmmaker’s website and went to the reviews page to see what kind of people support this view of the monetary system. To my pleasant surprise, I found Korten’s positive review there, along with positive reviews by other respected economic thinkers I recognize, like Hazel Henderson, and Thomas Greco. Check it out:

    http://paulgrignon.netfirms.com/MoneyasDebt/reviews.htm

  19. The message in this video is flawed, though it’s trying to get to a subtle point in macroeconomics. Let me explain.

    Banks cannot lend more than their deposits. In fact, in a fractional banking system, a bank can only lend approx 90 cents for every $1 deposit it holds. This 90 cents, however, will go back to the banking system, and then another bank can use this 90 cents to lend out 81 cents. Thus, $1 minted by the Federal Reserve could generate approx $10 in “money”. This is called the money multiplier effect.

    The Federal Reserve (Central Bank), however, can create money out of thin air. That’s why we should all be very wary of our current monetary system that has no control over the amount of money printed.

  20. I find it fascinating that when you write a debt in a ledger you use a negative number. But the creator of the video would have us believe that a negative is a positive. A negative, a debt, is equal to a positive, the creation of money. Banks make new money on the payment of interest. This is the increase of the money supply. Debt is not the source of money creation it’s interest on the debt that creates more money. Everything this person puts forth is based on a false statement. Even the use of Venice as the beginning of banking is wrong. Banking and paper money was invented in China and the concept brought back by Marco Polo.

  21. Very interesting and informative. Thanks!

  22. Central banks do not create money out of thin air. They’re allowed to print money, and then that money is distributed to other banks. The value of the greenbacks distributed to the banks is debited from their own accounts with a one-to-one correspondence.
    The value of the money printed comes from somewhere, too — it’s taken from the US Treasury. Not from thin air. Remember all those taxes you pay? The treasury also borrows money, from private organizations and persons (most of us should be familiar with treasurydirect.gov). Neither is printed money free — all those security measures in those bills cost money as well.
    The system isn’t perfect, but it’s easy to shroud the technicalities of the economics in such a way as to make it appear that something else entirely is going on. There are many cartoon analogies floating around which overlook key details in the process, and often enough the antidotes proposed (in the name of “common sense”) would grind an economy to a halt.

  23. What backs up the US dollar? It’s the US economy. The US economy produces goods and services. If the production declines, the value of the dollar goes down. But the main point here is that it’s the production of good and services that produces wealth and that wealth is reflected in the amount of the money supply and the value of that supply.

  24. So when the government bails out these investment banks with the $700 billion does that mean in the future they will be able to produce $6.3 trillion dollars with it? :) Man, my stocks are going to go through the roof!!

  25. This video talks in parts about money and the impending crisis of the dollar…it could be a little politically motivated…but its true…

    http://video.google.com/videoplay?docid=4343898391323537541

  26. The system is flawed…the only money in circulation is the principal of loans, not the interest. Interest is never created and never exists, that is why we will always have bankruptcy and competition…there is never enough money in circulation to cover the interest. The supply of money is ALWAYS less than the demand!!!!

    Because of this you may think that interest is the creation of money but that is also false because interest is only the redistribution of wealth from one source, you and your labor output, to another, the financial institution. This is why we, normal Americans, are in trouble because America is transferring our wealth, in the form of interest, to other countries so we can live. However, if we stop borrowing and cease to create debt the entire system will fail.

  27. Was not initially pure economic balance nor will it be fixed by it. As predicted by 95% of national police Chiefs in America over 10 years ago. The total distruction and condemnation of a modern forced and excepted abuse of European Christian culture by excepting the black desired victum and savage whinning and refusial to see differeces is distroying the normal evolution of america as a christian civilized socity into an Afro primitve “poor me” no responsibility Animialistic society. The Courts and Hollywood have distoted this creating a natural underground of Bitterness and injustice that probubly requires violence to bring back confidence levels to real prosperity.

  28. The Guy says:

    @ Fred Rose: Your comments scare me. Not only your comments, but your grammar! Learn how to spell before you begin proselytizing on issues that have nothing to do with that which you’re reading. You are a bigoted idiot with nothing to offer this forum. Take your misplaced rage and violent narcissism elsewhere… like, to a Tea Party meeting or something.

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