II: The Monetary-Based Economy
- What is a Monetary-Based Economy?A monetary-based economy, also known as a Market Economy, is simply an economy which gives value to money in. This allows the people of the economy to purchase goods and services, based on the supply and demand of these goods and services.
- Fractional Reserve BankingA: Fractional reserve banking is a system which, in the modern age, is the way in which the economics create money for the monetary based economies to work. The fractional reserve banking system undertakes the production and multiplication of money in order to keep the increase of the money supple stable with an increase (or lack of) spending by the people within the economy itself. I will explain this production through an example involving the Federal Reserve and the US Government, which follows:
1. The US Government requests a sum of money (for this example $10 billion)
2.The US Government prints out $10 billion worth of US Government bonds and transfers this to the Federal Reserve.
3. The Federal reserve produces $10 billion in Federal Reserve notes (US Dollars) and transfers it to the US Government.
4. The Government transfers this money into a bank account; and thus $10 billion dollars has been added the US money supply.
This is the basis of the production of money in most countries around the world today. A simple way to produce money through request and delivery through a government and it's central bank.
B: Inflation is a term that is defined as (for our case) “A continuing rise in the general price level usually attributed to an increase in the volume of money and credit relative to the available goods and services”. In more simple terms, inflation is the increase in the supply of money, and credit, in relation to the amount of goods and services within an economy. This serves the purpose of keeping the value of a countries money even with the goods and services in an economy in order to keep the purchasing power of that currency at a stable level.
C: Interest is a utilization of the 'fractional reserve system' that allows the central bank of a country (the Federal Reserve from our example), or any smaller bank, to make profit from the amount of money that it loans to the government/people. Interest, for our purpose, is defined as “a charge for borrowed money generally a percentage of the amount borrowed”. The basic concept of interest being that with any money that you are taking out in the form of a loan (borrowed money from the bank) will be paid back to the bank, with a little extra money on top of the initial amount that you took out.
iii: Flaws of a Monetary-Based Economy
Although a monetary-based economy may seem like an ideal system at first, through the analysis of the fraction reserve system that is currently used and the general ideas of the system itself we can see otherwise. One of the most apparent flaws can only be described through a given example, for this example I will use the previous example of the Federal Reserve and the Government; however, this time instead of just describing the process of money creation I will be analyzing the actual process of the production and the after effects of the creation of the money.
1.The US Government requests $10 billion from the Federal Reserve.
2. The US Government prints out $10 billion worth of US Government bonds and transfers this to the Federal Reserve.
The problem that arises here comes from two definitions which results in the fact that US Government bonds are literally debt. A Government Bond is defined as “a bond that is an IOU for the US Treasury”. An IOU is defined as “ a paper that has on it IOU, a stated sum, and a signature and that is given as an acknowledgment of debt”. Obviously the government does not just write “IOU $10 billion” on a piece of paper and sends it to the Federal Reserve, the US Treasury produces special IOU's that in would equate to a total of $10 billion. However, the significance of this is that it is “an acknowledgment of debt”; in short the government is buying money with debt.
3. The Federal reserve produces $10 billion in Federal Reserve notes (US Dollars) and transfers it to the US Government.
Here we find our second problem, the fact that the Federal Reserve is merely printing what we see on the US Dollars onto pieces of (cotton) paper and then selling them to the US Government for IOU’s (debt).
4. The Government transfers this money into a bank account; and thus $10 billion dollars has been added the US money supply.
The US Government has effectively added money to the debt supply, through its purchase of these valueless Federal Reserve Notes with their government bonds. Taking the time to note this here, the Federal Reserve Notes are completely valueless until they are added to the overall money supply (this step in the money production process) as they only thing that gives the Federal Reserve Notes value is the already existing supply of money within circulation when the new money enters the money supply. Which is why this extra money inflates the money supply, and as immediate result the purchasing power of the overall single dollar. However, this mind-numbing flaw in the system does not stop here. Further utilizing the fractional reserve banking system the government has potential, and in some case, to do the following. When the $10 billion has been added to the bank an immediate 10% is taken from that amount as the banks reserve. They do this so they always have a small amount of all deposits made so when the costumer returns to retrieve a sum of their money they are able to give them an amount from the collective reserve; the other 90% is referred to as an “excessive reserve” which the bank uses for loans. It would be assumed that this $9 billion is taken out of the initial $10 billion deposit; however, in an effort to expand the money supply this extra $9 billion is created out of thin air and created added to the initial $10 billion. Giving us $19 billion total.
The Government does this in order to expand the money supply (and in fact this is how the money supply is expanded. As stated in the document "Modern Money Mechanics":
“Of course, [the banks] do not really pay out loans from the money they receive as deposits. If they did this no additional money would be created. What the do when they make loans is to accept promissory notes in exchange for credits to the borrowers' transaction accounts.”
So in short, what banks do when they make loans is to accept promissory notes (loan contracts) in exchange for credits (money); which means that the $9 billion can be created out of nothing, simply because there is a demand for such a loan and that there is the $10 billion deposit that can satisfy the reserve requirement.
When the $9 billion is loaned out and redeposited, it also follows this process again and again. The total process for just 4 more deposits on top of the initial two (government deposit included), looks like this:
10% x 9,000,000,000.00 =
- 900,000,000.00
$8,100,000,000.00
10% x 8,100,000,000.00 =
- 810,000,000.00
$7,290,000,000.00
10% x 7,290,000,000.00 =
- 729,000,000.00
$6,561,000,000.00
10% x 6,561,000,000.00 =
- 656,100,000.00
$5,904,900,000.00
So, within these 6 deposits the money supply has been increased by a total sum of $46,855,900,000.00. As stated earlier the only thing giving this new money value is the money that already exists, this causes the money that is already in circulation to inflate and lose purchasing power; and the more and more the initial money is expanded the less power the money will have. This falls against the increase that is necessary for the inflation of money generally needed against the supply and demand of goods and services within an economy.
iv: Inevitable Collapse of a Monetary-Based Economy
Of course the most ultimate flaw of the monetary based economy and its current use of this fraction reserve banking system is that through the economic concept of mechanization, being to “equip with machinery, especially to replace human or animal labor”, the overall system is flawed and bound to collapse. The fatal flaw in mechanization comes from the idea of 'profit' and 'maximizing efficiency' in order to achieve this profit. Mechanization offers the greatest maximization of profit that anyone producing in an economy could hope for. At the expense of electricity and maintenance, a producer could in theory be producing 24 hours a day 7 days a week thorough the complete mechanization of their production line, something a human worker could never do. This offers the greatest capability to achieve maximum profit as your will be able to produce the maximum amount of products for a given price. However good this sounds on the individual level, it is extremely bad news on a macro-economic scale. The reason for this is the fact that mechanization removes humans from the work force; increasing unemployment and decreasing that persons to purchase within the economy as he has no monetary income. This might not seem like a big deal on the minor scale, but if you take all jobs and apply mechanization to them, removing all humans from those jobs the problem starts to become clear. With the rapid expansion of mechanization and the increased loss of human workers making money as a result of their labor we see a greater and greater decrease in the amount of people with money. In theory if there is no one to buy the goods that are being produced, the entire system must collapse because there is no reason to produce the goods if there is no one to produce them for. As one can see, the system has a great flaw that, until now in the modern age, has not been a problem; but with the increased expansion of mechanization of the work place we see a bitter end to the monetary-based economy.
----------------------------------------------END----------------------------------------------------------
*NOTE: Sources include The Zeitgeist movies; Modern Money Mechanics (by the US Federal Reserve); "The Engineers and the Price System" by Veblen, Thorstein; and "Web of Debt" by Ellen Hodgson Brown
