Monetary system should not be replaced by something worse

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The Permanent Committee on Finance of the Dutch House of Representatives will shortly be discussing the proposals put forward by public initiative Ons Geld (‘our money’) for fundamentally and drastically overhauling the country’s monetary system.

The most important question that the initiative raises, I believe, is whether the existing system is so bad that it needs to be replaced by something as radically different as what the initiative is proposing. Han de Jong Han de Jong Chief Economist

The key elements in the initiative’s wishes are that the government should have a monopoly on money creation, that it should use its monopoly to realise societal goals and that money and debt should be kept separate. It argues that much of the money in the existing system is created through the process of lending by banks, and that as a result banks hold too much power and the volume of debt is excessive. The recent recession – so the initiative argues – has laid bare the level of misery that the existing system causes.

However, despite what the initiative says, banks do not unilaterally determine how much credit or how much money is created – in the same way that bakers do not decide how much bread people eat. The credit volume is determined by the market forces of competing banks and borrowers. Regulators act as market overseers, and the framework of conditions that they impose significantly influences the results. If the problem is that banks are lending too much, and that the volume of debt is becoming too high as a result, central banks can raise interest rates to force the demand for credit down, for example, or impose stricter requirements for the banks’ liquidity and solvency and for other factors: the system does not require a complete overhaul. A variety of measures have been taken since the recession began to prevent a repeat of the excesses that caused it and, although invisible to most people, significant progress has been made. Of course it is always debatable whether the changes are adequate, fall short or are perhaps excessive.

The most important question that the initiative raises, I believe, is whether the existing system is so bad that it needs to be replaced by something as radically different as what the initiative is proposing. In my view the answer is a resounding ‘no’. We have just been through a financial recession that caused major economic and social damage, yes, but the monetary system was an important contributing factor in the remarkable economic progress of the decades before.

The desire of the initiative to separate money creation from debt creation raises a fundamental question: what forms the basis from which money derives its value? I believe that the public initiative is dangerously mistaken here. Euro banknotes bear the signature of the President of the ECB. They acknowledge a debt from the ECB to the bearer. I have confidence in the ECB and so I am prepared to accept one of its notes in payment. I also accept electronic money, as does virtually everyone else. Scriptural money is a debt that is owed to me by the bank where I have deposited my money. I accept it precisely because it is a debt and I am confident that the bank will honour its debt to me. Contrary to what the initiative argues, banks do not create money out of thin air. The debt that the bank owes to me when I have a deposit there is balanced by claims that the bank has on others. Banknotes work in the same way. Our money derives its value from the fact that it represents a debt at the same time – although this is not at the front of people’s minds on a daily basis.

It is unclear to me what the public initiative believes should forms the basis for money’s value. The leaflet that it has published states that ‘money is created from nothing, without debt. It is covered by our confidence in it.’ The text fails to explain, though, what should form the basis for that confidence. It goes on, ‘Effectively this represents a debt to ourselves that we can simply scratch.’ Evidently this means that the government can cancel the value of my savings whenever it wishes – and this does not seem like much of a foundation for confidence in the proposed monetary system.


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