What's Wrong with Our Monetary System and How to Fix It

[Guest post by Adrian Kuzminski]

Something’s profoundly wrong with our global financial system. Pope Francis is only the latest to raise the alarm:

“Human beings and nature must not be at the service of money. Let us say no to an economy of exclusion and inequality, where money rules, rather than service. That economy kills. That economy excludes. That economy destroys Mother Earth.”

What the Pope calls “an economy of exclusion and inequality, where money rules” is widely evident. What is not so clear is how we got into this situation, and what to do about it.

Most people take our monetary system for granted, and are shocked to learn that the government doesn’t issue our money. Almost all of it is created by loans made “out of thin air” as bookkeeping entries by private banks. For this sleight-of-hand, they charge interest, making a tidy profit for doing essentially nothing. The currency printed by the government – coins and bills – is a negligible amount by comparison.

The idea of giving private banks a monopoly over money creation goes back to seventeenth century England. The British government, in a Faustian bargain, agreed to allow a group of private bankers to assume the national debt as collateral for the issuance of loans, confident that the state would be able to service the debt on the backs of taxpayers.

And so it has been ever since. Alexander Hamilton much admired this scheme, which he called “the English system,” and he and his successors were finally able to establish it in the United States, and subsequently most of the world.

But money is too important to be left to the bankers. There is no good reason to give any private group a lucrative monopoly over the creation of money; money creation should be the public service most people mistakenly believe it to be. Further, privatized money creation allows a few large banks and financial institutions not only to profit by simply making bookkeeping entries, but to direct overall investment in the economy to their corporate cronies, not the public at large.

Ordinary people can get the financing they need only on burdensome if not ruinous terms, leaving them as debt peons weighed down by mortgages, student loans, auto loans, credit card balances, etc. The interest payments extracted from these loans feed the private investment machine of Wall Street finance, represented by the ultimate creditor class: the notorious “one percenters.”

There are two main critics of our privatized financial system: goldbugs and public banking advocates. The goldbugs would return us to a gold standard, making gold our currency. The problem is that it would become almost impossible to borrow money since the amount of gold which could be put into circulation is relatively miniscule and inelastic. They is no way easily to expand the supply of gold in the world

Credit—the ability to borrow money—is vital to any economy. If we cannot borrow against the future for capital investment—roads and infrastructure, housing, businesses, hospitals, education, etc.—then we cannot fund essential services. To that end, we need an elastic money supply.

Public banking advocates—like Stephen Zarlenga and Ellen Brown–appreciate the need for credit. Their aim is to transfer the monopoly on the creation of credit from private to public hands. Unfortunately, there is no guarantee that this form of “progressive” state finance would be any better than private finance.

If we had a truly democratic government actually accountable to the public, such a system might work. But in fact governments in the United States and most developed countries are oligarchies controlled by special interests. A centralized public bank—without a political revolution–would likely favor government contractors and continue to squeeze borrowers for interest payments, now supposedly directed to “the public good.”

This is curiously reminiscent of the system in the old Soviet Union and today’s China, where a political nomenklatura ends up calling the shots and enriching itself. Our current system of centralized private finance, as well as the “progressive” proposal of centralized public finance, are no more than twin versions of top-down financial control by an elite.

Fortunately, there is another model available. There is a long tradition in America, beginning with colonial resistance to “the English system,” and continuing with anti-federalists, Jeffersonians, Jacksonians, and post-Civil war populists. This tradition opposed any kind of centralized banking in favor of some kind of decentralized issuance of money.

The idea they developed is to prohibit any kind of central bank—public or private—and instead have money issued exclusively locally on the basis of good collateral to individuals and businesses. It’s a grassroots, ground-up approach. Priority is given to local citizens and businesses, who can get interest-free loans from local public credit banks to finance what they need to do.

Such a system would have to be publicly regulated to ensure fair and uniform standards of lending at the local level. It would, in that sense, be a public banking system. The absence of a centralized issuing authority, however, would prevent any concentration of financial power, public or private.

Any top-down system of financial control—private or public—presupposes some kind of control by elites, that is, some kind of central planning, whether in corporate board rooms or in the offices of government agencies, or some combination of both. The historical record suggests that such top-down decision-making is inevitably self-serving, distorted, and socially counter-productive.

Indeed, whether public or private, it is the love of money empowered by centralized finance which creates the “economy of exclusion and inequality” which Pope Francis decries.

The decentralized system of populist finance would operate with no central planning. Instead, countless local decisions about lending and credit-worthiness would function as a genuine “hidden hand” of finance, one which would be self-regulating. Here the love of money would find no way to leverage its power. Instead it would be dispersed among the general population, as it should be, without burdensome interest charges, to the benefit of all.

Adrian Kuzminski lives on a farm in upstate New York and is the author of The Ecology of Money: Debt, Growth and Sustainability and Fixing the System: A History of Populism, Ancient & Modern, among other works.