How Do Banks Work?

"Once upon a time, gold was used as money." How banks work. (College introductory economics level.)

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[kaitenuser]

0_o ... Wonderful explanation and great intuitive graphics.  What are your plans with this Ecolanguage? I think you are on to something brilliant that can serve to teach slow people (like me) about how economics works.

[leearnold]

@thebestsumoeva -- Yes, the gov't deficit can be from either tax cuts (with no spending cuts) or additional spending (with no tax hikes). But no, the gov't is not spending money that doesn't exist: it borrows it by selling T-bills. And gov't spending only causes inflation when it causes Aggregate Demand to exceed Aggregate Supply (not a problem at the moment, for example). Please study a regular textbook on economics before proceeding any further with this, so we can use the same definitions.

[thebestsumoeva]

@leearnold In general the government spending money that doesn't exist causes inflation. The deficit is a deficit no matter whether it comes from tax cuts or increased spending. With that said debt in our system has to grow because no matter who takes out the loan they end up owing more money back on the loan than the loan was worth hence we owe more money to banks than physically EXISTS. We have to increase debt in our system to prevent rampant deflation and economic disaster.

[leearnold]

@thebestsumoeva -- The choice between tax cuts and gov't spending depends upon two different things: (1) WHERE we are in the business cycle, and (2) HOW LONG it goes: i.e., whether the tax cuts or gov't spending is short-term or long-term. These give different answers.

At current U.S. levels of tax and spend, the efficiency results of mild policy changes are small. And the analysts NEVER balance them against the concomitant changes in economic welfare, to give a NET benefit/cost.

[thebestsumoeva]

@leearnold While I don't like large amounts of debt I am not 100% against the government having debt in our system. If the government expanded it's debt it would make it easier for private citizens to pay off their debt. Now if the government expanded it's debt through tax breaks it's not so bad, but if they expand it through more spending then they are creating a distortion in the market which makes the market less efficient.

[leearnold]

@thebestsumoeva -- That is true: if suddenly, in one moment, all private debts in the world were paid off, there would be one (or some) remaining. This is the same process as in the video: we end up with more paper money than there is gold to back it up. Just substitute credit (which is the ability to incur a debt) for paper money, and you would see the same process.

I thought you were writing about government debt, which seems to be the topic on most people's minds.

[thebestsumoeva]

@leearnold Economic growth does create more wealth but not more physical money. Physical money is only created when someone expands their debt and the bank prints the money to do so. The fact that they ask for interest back on the money that they just printed means in the long run you will pay them more money than they created hence why it is literally impossible to pay off deb as a whole. Someone may be out of debt but it is only because others have debt.

[leearnold]

@thebestsumoeva -- Have a look at the videos on the Bush Tax Cuts and Social Security, which picture federal deficits and debt.

But it is possible to pay off debt, even it's more than the amount of money that exists. this is because it is paid off on installment, and the concurrent economic growth creates more value, and so creates more incomes. The only real problem is by incurring new debt, without ever paying off the old.

[thebestsumoeva]

@leearnold You could also add a debt box which shows how much money we owe vs. how much money exist. If there is anything I wish people understood it's that given our banking system it is impossible to pay off all the debt because the money to pay it off literally doesn't exist.

[MegajasmineR]

Glass–Steagall Act

"The bill that ultimately repealed the Act was introduced in the Senate by Phil Gramm (Republican of Texas) and in the House of Representatives by Jim Leach (R-Iowa) in 1999. The bills were passed by a Republican majority, basically following party lines by a 54–44 vote in the Senate." WIKI

[leearnold]

@69salford69 -- It was a bipartisan swallowing of the old nonsense that the participants in financial markets should be unleashed because the free market always knows best. Essentially the continuation of Reaganism into the Clinton period. Phil Gramm also had a big hand in derivatives deregulation (Commodity Futures Modernization Act, 2000).