Money, Debt and Growth

July 31, 2013

One of the major capitalist institutions that the market socialism sketchily outlined in my last post didn’t address, is the banking system. The banking system plays a fundamental role in capitalism in at least two ways. 1) It creates money. 2) It determines to a considerable extent the allocation of investment resources. Money is obviously a central institution to any system that makes substantial use of the market. And decisions around the allocation of investment determine to a large extent what ‘we’ take to be valuable productive uses of the surpluses our economic system generates.

I’ll take these two functions one at a time. The banking system creates money by lending out customers’ savings to other customers. If I put $10 in a savings account, the bank can then lend this $10 to another customer. If they spend the money on bibles, and the bible-seller pays the money back into a savings account, the bank can then lend it out again to another customer. If this customer then puts the money into their own savings account, the bank can lend it out again; and so on. This ‘duplication’ of ‘the same’ money – in this example, the transformation of $10 into $30 – is how banks create money.

The same process allocates investment resources. Banks’ decisions about who to lend to determine to a considerable extent how the surplus resources generated by our economic system are reinvested. We’re going to need some institution or institutions that perform this function – pooling common resources and redirecting them to places we regard as the most worthwhile locations for investment – if we are going to have any kind of complex and large scale economy. The issue is the principles by which this system will operate. Banks will lend to businesses that they regard as likely to be profitable; so ‘the profit motive’ here determines where our society invests its surplus.

Both these functions are, under capitalism, centrally influenced by the principle of return on investment. What renders the ‘trick’ of banks’ money-creation relatively stable, most of the time, is the growth of the economy underwriting an overall return on investment that allows the banks to, on average, receive back more money than they lent out, even accounting for defaults. (When this goes wrong, and default overruns the banks’ margin for error in their lending calculations, the whole institution can potentially collapse: this is a banking crisis.) So capitalist growth is what enables the banks’ process of money-creation to ‘work’; and the banks’ process of money creation is, at the same time, a central driving force of capitalist growth. (Because money is created as loans that require repayment with interest, the need to valorise capital is ‘baked in’ to the capitalist economy at a quite basic level: the economy must grow, over the medium-long term, or the banking system will fail.)

So – the capitalist banking system binds the institution of money to the social compulsion for economic growth, in a way that strikes me as potentially quite hard to ‘unpick’ through institutional reform. To what extent is this a problem?

Initial thoughts on that question:

1) There’s nothing wrong with economic growth; economic growth doesn’t have to be environmentally destructive, for example (although it is, under our current system).

2) There is something wrong with ‘blind’ growth – growth that is driven only or principally by investors’ sense of the most profitable avenues for investment.

3) The socially destructive consequences of blind growth could possibly be ameliorated by:

3a) the more equitable distribution of wealth (because investment choices would be less likely to overwhelmingly serve economic demand associated with a small elite), and

3b) planning, regulation and/or incentivisation to guide investment in directions chosen through more democratic decision-making

4) A system that operates using a banking system of this broad kind is still going to be crisis-prone; there will just be less severe human consequences of crises, because people will be less reliant on labour for income

5) The system will also involve a strong set of incentives to ‘overide’ regulatory or social-welfare-oriented policy, in order to prevent profit-crisis (this is part of the overall social dynamic that makes left achievements in capitalism so unstable).

6) I’m not sure whether those incentives are stronger or more worrying than the usual incentives people have to screw each other over.

I admit, I am uneasy about the idea replicating this central element of the capitalist system in a proposed alternative economic system. That said:

a) it’s not clear to me that this element of capitalism in fact has to be altered/abolished in order to do away with the negative features of capitalism we’re aspiring to remove; and

b) I also don’t really know how to dissociate the socially useful functions of money from the growth dynamic described above, given our starting-point.

Of course, one could abolish money – but this seems to me to be an extreme step, with very major institutional repercussions; I want to explore the possibilities of less wholesale institutional overhauls, before assuming that such a step would be required to achieve our goals. For these reasons I am – at least for now – going to work on the assumption that we can retain something in the ballpark of a banking system that creates money by turning savings into investments; but I’m also going to try to remain attentive to alternatives.

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