A Challenge to Banking
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SECTION ONE - Dishonest Money
Invalid Claims Made Legitimate
A man in New Jersey once tried to corner the soybean oil market
using a practice not dissimilar to that employed in the normal
course of banking. He bought and paid for a storage tank of
soybean oil. He then asked his bankers to test it for quantity
and quality. He borrowed against it and bought a futures contract
for the delivery of an equal amount of oil to him at some
future date. He then shifted the oil to another tank and filled
the first tank with water so that it would continue to appear
full. He was not concerned about his borrowings, they had
been covered by the futures contract.
He then had his bankers test the new tank for quality and
quantity and borrowed against the new tank. He bought a further
futures contract. He kept repeating the process in the hope
of gaining control of the market and driving up its price
to his advantage.
In each case, he had removed the real oil, and had effectively
replaced it with a legal promise to deliver an equal amount
of oil at some stage in the future. This is what the banking
system does with our deposits. They are removed. Loan agreements
are held in their stead. Loan agreements are agreements to
deliver a specific amount of money to the lender at some future
The soybean oil man was eventually exposed. He was tried
and convicted. He went to jail for fraud. Yet bankers, who
in essence do the same thing with money, continue to function
as legitimate businessmen - and, in fact, they are. Their
misrepresentation has been legitimised. The legitimisation
occurred so long ago that most, if not all, current bankers
and customers have no knowledge of it. Today, bankers are
seen as the pillars of the community. No reputable economist
or financial expert of whom I am aware has questioned the
validity of the money-lending mechanism of the banking system.
To each it is a "given".
One of the most odious effects of this misrepresentation
occurs when bankers voice their objections to wage rises,
arguing that such rises are inflationary. Such comments are
an insult to working people. Wage earners request a wage increase
to claw back the purchasing power which has been removed from
their pay packets. For reasons they do not fully understand,
their wages can no longer adequately support their standard
of living. Demands for higher pay lead to conflict and industrial
dispute. Once again we can see how dishonest money divides
decent people and sets man against man.
Then we hear financiers and bankers weigh in with arguments
about the workers' greed. Yet we can now see that it is not
workers' greed. It is the actions of bankers themselves that
are causing the losses. The injustice of their comments is
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As we saw with the gold coin in the previous chapter, the
system produced by superimposing the mechanism of money-lending
onto the system for storing and distributing money is dishonest.
It ought not to have the support of the legal system. Giving
legal respectability to misrepresentation turns logic on its
head. The widespread use and acceptance of institutionalised
money-lending leads us to believe it is a sound practice.
But it is based upon misrepresentation. It is dishonest. It
certainly ought not to have the support of the legal system.
Nevertheless, it does have the support of the legal system,
and the amount of the misrepresentation continues to grow.
The amount can be measured. In a given banking system, it
will equal the amount of loans outstanding on the books of
all branches of all the banks in that particular system, less
the paid-up capital of those banks. Each time the banking
system as a whole produces a net increase in loans, the amount
of misrepresentation will increase, and the real exchange
value of each previously existing unit of money will decrease
This decrease should become immediately apparent in the market-place
- but it doesn't. Under the gold standard, for instance, prices
remained stable during periods when misrepresentation was
continually occurring. Hidden from public view, a gap was
opening between the amount of gold available to honour claims
and the amount of those claims. With each new misrepresentation
the gap widened. Holders of claims were unaware of it. They
believed that the claims which they held could be exchanged
at any time for the amount of gold stated. So long as this
view held, each claim was treated as if it were the amount
of gold stated.
Confidence then became the key to successful banking. It
was irrelevant that a bank could not meet all its issued claims
if presented for payment at the same time. What mattered was
that individual claims could be met when presented. Systems
were put in place to assure depositors that their deposits
were safe. The presence of these systems allowed lenders to
increase their misrepresentation with impunity. Nevertheless,
with the increased misrepresentation, prices remained stable.
Gold had a minimum exchange value. It was in demand as the
principal medium of exchange and store of value for future
exchanges; it was rare: it was hard to find: it required a
considerable amount of expenditure of human energy for both
its discovery and its production. People would not produce
it for less than the effort to produce it was worth. If demand
fell and its value in exchanges fell, less would be produced.
As less was produced, less would be available to service the
needs of the market-place, and its exchange value would begin
to increase. These factors helped to provide a minimum level
below which even massive misrepresentation could not push
the exchange value of gold.
As a result, there was also a minimum exchange value below
which claims on gold could not be pushed unless and until
holders recognised that each claim could not be exchanged
for the amount of gold stated on its face. Only then would
the exchange value of paper claims collapse.
This prospect faced the Western monetary and banking system
in the 1930's. Had the invalid claims then been declared illegitimate,
the exchange value of gold would have risen as the market
recognised that there was not nearly as large a supply as
had been represented. As the exchange value of gold, or money
as it was then, increased less of it would have been needed
in exchanges for the same previous value of goods and services.
Prices would have fallen. The holders of gold and valid claims
would have found their purchasing power increased. The existing
amount of gold would then have been able to support an increased
volume of exchanges. This was not allowed to happen. Instead,
the invalid claims were legitimised, and gold was removed
as a form of money.
The problems faced by the monetary authorities and banking
systems in the late 1920's and 1930's were a direct result
of the practice of money-lending. In the United Kingdom, for
instance, up to that time, a pound was the name given to a
note which had a legal claim upon one quarter of an ounce
of gold. Pound notes were issued both by private banks and
the Bank of England. Each accepted pound notes as deposits
as if they were gold itself. Each loaned both. The acceptance
of pound notes as deposits, the issuance of receipts against
them, and their eventual use for loans, merely served to compound
the rate of misrepresentation. The mechanics of money-lending
were misrepresenting both the amount of gold in the market-place
and the amount of valid claims which were issued against gold.
It took a long time before a sufficient number of individuals
began to suspect that they might not be able to exchange their
claims for the exact amount of gold stated. During that long
period, the exchange rate of both gold and claims remained
very stable at, or near, the minimum level below which gold
could not be pushed. When sufficient individuals did suspect
the truth of the matter, they acted with natural self-interest.
The suspicious preferred not to hold notes for future exchanges:
they asked for gold. The British banking system had to face
the truth: it held insufficient gold to honour all the claims
issued. In Great Britain, monetary collapse became imminent.
The situation was similar in North America. But it was exacerbated
by the acceptance of shares on the stock market as collateral
for loans. Through the provision of up to 90 per cent of the
purchase price of shares in the form of loans, "bidding
power" was provided which drove the share market higher
and higher. At each higher level, lenders remained willing
to advance 90 per cent. The value of shares soon became unsupportable.
Yet "bidding power" continued to drive them higher.
In due course even the most optimistic investor began to suspect
that share prices had far exceeded their actual value, and
would no longer invest. The market collapsed. The inflated
value of collateral disappeared. Individuals and institutional
borrowers were unable to sell their shares to cover loans.
Lenders found much of their collateral valueless. Lending
stockbrokers and their supporting banks began to fall like
So, by the early 1930's, monetary collapse in Great Britain
and the United States of America as imminent. The monetary
authorities of both countries ought to have recognised misrepresentation
as the cause of the impending collapse. They ought to have
exposed if and thereby helped the system to heal. Instead,
they reasoned that if individuals had been willing to accept
paper claims at a given value on one day, they ought to be
able to accept them at a similar value the following day.
Confidence in the exchange value of the invalid claims had
to be created. Both governments therefore chose to legitimise
the claims. They made them the only legal medium of exchange.
They cancelled the convertibility of these claims to gold
by other than governments. They banned the use of gold itself
as a medium of exchange.
Thus the prudent and the careful, who had chosen to hold
gold rather than paper, paid the penalty and the careless
and the fraudulent were let off the hook. Dishonesty was rewarded
and integrity penalised.
Nevertheless, the validation of paper money might have solved
the governments' monetary problems had action been taken to
stop the continuing production of invalid receipts. But nothing
was done to stop the banking practice of money-lending.
Therefore the issuance of invalid receipts continued. Now,
however, it was worse: the deposit looked just like the paper
receipt. Both were simply statements about pounds or dollars.
It is and it remains difficult to differentiate between them.
Today, in the absence of a clear understanding of how the
mechanism actually works, the money supply appears to grow
organically. Some would even say mysteriously. Yet there is
nothing mysterious about it. By allowing the superimposition
of the mechanism of money-lending onto the system for storing
and distributing money we have both legitimised and institutionalised
misrepresentation. Thereby we have allowed the emergence of
a monetary and banking system which continues to debase the
currency by its own natural action.
"...the international banking community will now
expand the world's paper money supply to the point of
imprudence." How the money lending system and the
production of money by central banks create inflation
and the possible consequences of this system.
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