14 Sep 2012

Money Creation by Banks : A personal story

After reading Michael Rowbotham's claim that when banks make loans, not only do they create the money out of thin air, they actually treat the money as their own, I was reminded of the time back in 1986 when the Société Générale lent my wife and me the money we needed to buy our first house.

It's difficult to believe now, but at the time, interest rates were around 14%. We were young with a 3 year old son, and we really had to struggle to borrow enough money to buy the house we wanted. We were both working for the CNRS with government jobs where you knew precisely when you would be getting pay rises. And as a result we were able to negotiate a loan that we could pay back over 15 years with a fixed rate, but where our monthly repayments increased every year for the first five years. Normally, they would only let you pay a maximum of 30% of your combined salaries in repayments. But thanks to our government jobs, and the fact that we could show the bank our projected salaries for the following years, the bank generously allowed us to take on even more debt.

The repayments went up from 5886.58 francs a month for the first 12 months (around €900), to 7161.91 francs a month in year 6. And then from year 7 till the end the repayments were 7448.46 francs a month.

We thought ourselves very lucky. Unlike my friends in the UK, we actually knew precisely what we would be paying every month for the next 15 years. Fixed rate mortages like that have (for some inexplicable reason) never been available in the UK - and they still don't exist. As a result,  in the UK, you could easily recieve a letter one day from the bank to let you know that they had unfortunately been forced to increase the interest rate. Indeed, as many homeowners found out to their cost, the banks could effectively increase the interest rate to any random figure they like.

As it happened, we sold our house about 7 years later, and it turned out that its value had nearly doubled. It was fantastic - we had earned more on the increase in the value of the house than we did with our combined salaries. Great... right?

Well, with hindsight, the whole system seems outrageous.

We only borrowed 568,000 francs to buy the house. And yet, if you add up the total cost of the repayments, the bank gets a grand total of 1,272,980.16 francs at the end of the 15 years. That means nearly 705,000 francs in interest charges.

Remember that, in fact, the bank didn't even have the money that they lent us - they just created the 568,000 francs out of thin air. So the idea that they could charge us more than twice that sum in interest just seems obscene. And if it turns out that Michael Rowbotham is right, and the bank not only "earned" 705,000 francs of interest charges for lending us their "money", they also got to keep the money they created, then I think that there is something very very wrong with the way the system works.
Yes, if the bank has to get the money from someone else, and has to pay that someone interest on their deposits, then it is normal that they can charge me a higher rate of interest to borrrow that money. If someone who puts their savings in the bank gets paid 10% interest, then I can handle the idea that the bank will charge me 4% to borrow that money.  But if the bank just created the money out of thin air, what possible justification can there be for charging interest at all?

None of this makes any sense. Commercial banks should not be allowed to create money. Full stop.

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