Sunday, February 26, 2012

The bank myths debunked

The Socialist Party often finds itself waging a lonely fight on some issues within the left. One of those is is the popular misconception about banking and the power of banks to create money out of thin air. As Marx was able to use the capitalists' own findings against them, the capitalist economists often provide the argument of the Socialist Party.

Here's an extract from the BBC Business Editor Robert Peston. Notice the matter-of-fact way he takes it for granted that banks are financial intermediaries that borrow at one rate of interest and lend at a higher one, that they can only lend what they have got the funds for, and that their profits are squeezed if they find these harder to get:

"Perhaps the most striking trend is that what's called the interest margin - the difference between the interest Lloyds charges for loans and what it pays out in interest - has shrunk and will shrink again this year. The interest margin fell from 2.21% to 2.07% and is expected to fall by a similar amount in 2012.

One of the main reasons for this income squeeze is the rising cost for banks of borrowing money on wholesale markets, or from other financial institutions, at a time when what banks can charge for loans to customers remains under pressure - partly because central banks, and in its case the Bank of England, are keeping official rates at record lows, and partly because the demand for credit is subdued.

Lloyds is becoming less dependent on these less reliable wholesale sources of funding - as part of a strategic effort to make itself safer. And there has been considerable progress in that regard: its more dependable retail deposits represent 62% of all its funding today, compared with 56% a year ago.

But the price of wholesale funds is still a big influence on Lloyds' profits."

Nobody on the ground in the real world thinks that banks can create the money they lend out of thin air. If they could, why would a bank such as Lloyds have to borrow money from the money market and pay interest on it? Any banker who did this instead of just keying some numbers into a computer who surely not only be refused his bonus but would lose his job for such stupid behaviour that would cost the bank millions in unnecessary interest payment

1 comment:

DP said...

I'm not sure how a fictitious entry on a banks books would cost a bank in interest payments. The opposite would be the case, they would earn interest by lending it out.
Where they would be in trouble was when people tried to make drawings on these fictitious deposits.