In March 2015, in Reykjavik, the Icelandic Parliamentary and Economist Frosti Sigurjónsson submitted a study to the government in which he suggested that the state take distant commercial banks' ability to make money. Sounds revolutionary? It was expected to sound like that. During this time, Icelanders' eyes were inactive directed at scars after the 2008 financial crisis, and Icelandic policies were aimed at reforms to prevent a recurrence of the disaster. Only in 2017 the previously introduced controls on capital and pension funds were abolished, Iceland was visited by 40% more tourists than in 2016, economical growth increased by 7.2% – it can be said that Iceland was only coming consecutive after a severe crisis.
Frosti Sigurjónsson prepared the study “The improvement Coins. A better monetary strategy for Iceland” commissioned by Icelandic Prime Minister Sigmundur Davíð Gunnlaugsson. It was published on March 1, 2015, and was back to the question: what money is in general and who should make it. Its nonsubjective was to analyse to what degree the past of Iceland's economical instability was the consequence of banks' ability to "create money" in the lending process. It included a comparison of the sovereign money strategy with the partial reserve strategy and discussed the most crucial trends, technological publications on money creation.
The proposed alternate monetary strategy was intended to be better than the partial reserve system: “Iceland, a sovereign country with its own currency, has the right to improvement its monetary system, depart from the current unstable partial reserve strategy and implement a much better monetary system. However, specified an initiative must be based on further studies of alternatives and a broad consensus on the request for reform," wrote Frosti Sigurjónsson.
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The bank creates money – norm or something new?
Do you know who makes money? Most will say central banks, but this is not the only answer. There have been many myths around banks reproduced in the public debate: banks are seen as intermediaries in borrowing money.
Many believe that the central bank controls the amount of credit granted. Meanwhile, the fact looks a small different.
The emergence of money begins at the central bank. He has the right to bring fresh money into the economy. For example, it does so erstwhile it buys financial assets (e.g. bonds) or lends to financial institutions. This increases the amount of money in the system. It besides controls its level, observing alleged cash aggregates specified as M2 or M3 and conducting monetary and exchange policy. Cash aggregates describe the amount of money in the economy, both in circulation and in bank deposits.
However, a large part of the money is besides generated in commercial banks. This is thanks to the partial reserve system. erstwhile a bank lends to a client, in practice it creates fresh non-cash money in its account. This money functions in the economy as well as in cash: it can be paid, transferred or saved.
Partial reserve strategy or sovereign money system?
Let's start by explaining both concepts. The partial reserve strategy is simply a model for the functioning of modern banking, in which there are 2 main types of money in the economy. The first is money issued by the central bank, alleged base money. The second is created in commercial banks, mainly at the time of granting loans based on client deposits.
In practice, this means that banks do not store all the money paid by customers in their vaults. Only a part of these funds are held in the form of reserves, while the remainder are spent on lending. That's why we talk about a partial reserve – the bank only retains any deposits and the remainder works in the economy.
This mechanics causes commercial banks to participate in the money-making process. erstwhile they grant credit, a fresh non-cash money appears on the borrower's account, which can be utilized as much as cash. The partial reserve banking strategy is simply a standard present and functions practically in all countries of the world.
The sovereign money strategy is the concept of a monetary strategy in which the central bank has the exclusive right to make money.
This means that fresh money in the economy can only be issued by a public institution and commercial banks lose their ability to make money by lending. In specified a system, the funds in the bank accounts are full secured by central bank money, and the banks are mainly financial intermediaries. They may grant loans only from capital that they actually hold, for example, from client savings or funds borrowed from the central bank.
In the sovereign money system, a bank deposit is converted into a deposit of the Central Bank which can be utilized by commercial banks. The Central Bank has full control over the amount of money in circulation and more tools to regulate inflation.
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How do we introduce fresh money? A state institution should be established in the form of a central bank, the Monetary Policy Commission, which may decide to increase the money supply. Then introduce fresh money through the national budget, in peculiar by expanding investment expenditure or through loans granted to banks by the Central Bank.
Payment is the same, but there are also processes in each monetary system. In the partial reserve system, commercial banks can make fresh money, mainly through lending. erstwhile customers make payments, banks account for each another through reserves at the central bank and their deposits and liquidity may change. In the sovereign money system, money is created solely by the central bank. Commercial banks could no longer make money through loans could only borrow the funds they actually have.
International money creation proposals
The study presents a past of changes to the world's money-making systems. It follows that in the United States in late 2011, congressman Dennis Kucinich presented the National Emergency Act for employment Protection (NEED Act). The bill was to reconstruct the right to make money by the Treasury Department. The bill passed to the Financial Services Committee and was later rejected.
The proposals to introduce the sovereign money strategy to the UK were developed by affirmative Money, the fresh Economics Foundation and prof. Richard Werner. The presentation of it to the Independent Banking Commission triggered public opinion and, above all, debate in the British Parliament in 2014, in which most politicians supported the project. From 2015, the Institute for Public Policy investigation proposed the creation of a monetary commission. The opinions of respective politicians were encouraging, all the more so due to the fact that they thought the fresh investigation into the operation of monetary systems in the UK came from the 1930s, and since then the function of money and credit has changed. They so proposed setting up a committee on the function of money. However, the proposals ended with no votes.
Iceland – post-crisis change laboratory
Iceland, a painfully experienced financial crisis of 2008, was 1 of the first to start a serious reflection on the functioning of the banking sector. As early as 2012, there was a parliamentary proposal to set up a committee to research the anticipation of separating the lending process from the money creation. In practice, this would mean removing the anticipation for commercial banks to make fresh deposits erstwhile granting loans.
Although any experts and institutions have supported the request to analyse specified a solution, The Central Bank of Iceland expressed scepticism, pointing to the hazard of economical isolation of the country. In turn, representatives of the financial sector stressed the request to adapt the Icelandic banking strategy to European standards. After all, Parliament has not made a decision. The subject returned in 2015, erstwhile it was proposed again to set up a commission to examine the mechanisms of money creation by 11 Members of various political parties. This time even the Central Bank felt that the discussion itself was valuable.
The Icelandic case shows that after a deep crisis of society they are more inclined to question the current rules of financial play.
Some economists even thought that the success of specified a improvement could trigger global changes in the financial system. At the same time, it was stressed that the improvement of the monetary strategy is simply a massive undertaking, requiring highly careful implementation. The voices in favour of the introduction of Sigurjonsson's proposal see the fresh start of the debate on the future of the financial system. In 2017, another publication was published by Niklas Döbbeling, Athanasios Makrogannis, Veronica Verebova on the monetary strategy for Iceland, which will dispute the effort to improvement Sigurjonsson. So far, no of the proposals have been implemented into the system.
Netherlands – force of citizens
An even more interesting example is the Netherlands, where the impetus for the debate came straight from citizens. More than 1 100 1000 signatures forced a parliamentary public proceeding on money creation. So much public activity resulted from the publicity of the petition by the Ons Geld Foundation promoting sovereign monetary reform. Both activists, economists and representatives of banks and regulators participated in the debate before the Finance Committee.
In 2016, a debate took place during the parliament's meeting, during which the anticipation of transition to the sovereign money strategy was considered. Although the improvement was not implemented, Parliament decided to commission further investigation to the technological Council on Policy. Government on the functioning of the monetary system, including alternate models of money creation and the issue of state income from money issuance, i.e. seniority.
Did Switzerland take a large step towards sovereign money? Or did she go back?
Switzerland went further, where the mechanics of direct democracy allows citizens to initiate a constitutional referendum. The Vollgeld initiative, calling for a strategy where only the central bank could issue money, raised over 111,000 signatures, leading to a nationwide referendum. Commercial banks would be deprived of the right to make money, there would be no hazard of insolvency as a central bank.
At first, the Federation Council spoke, which was definitely critical. It was argued that the improvement could make unpredictable risks to diametric changes in the monetary system. In a akin tone, the opinion of the Association of Swiss Banks highlighted the hazard of reducing money supply. This would consequence in a simplification in the amount of credit to the private sector. The union argued that the initiative would harm citizens' well-being: reduce interest on their own contributions and increase taxes.
The reformers, however, replied that the current strategy favours the emergence of speculative bubbles and shifts crisis costs to society. The improvement was intended to increase the resilience of the economy to financial crises and to increase the safety of the banking sector.
A referendum on this issue was held in 2018, with more than 75% of citizens opposed the Vollgeld initiative. The initiative failed at nothing, but it became a reason for a broad discussion about the subject that has been left out over the years.
End of “bank alchemy”?
Reformists frequently mention to the current financial strategy as "alchemy". By lending, banks make fresh money in the form of deposits, which, according to critics, leads to financial instability and excessive debt.
Martin Wolf, editor-in-chief of the Financial Times, emphasises that the sovereign money strategy could reduce excessive debt to societies and transfer money creation profits from the banking sector to full societies.
Similar arguments were put forward by the erstwhile president of the Bank of England – Mervyn King, who indicated that it was possible to end “bank alchemy” without damaging the benefits of the modern banking system. According to supporters of the reform, the removal of the right to make money from banks could besides reduce the problem of "too large institutions to fall" 1 of the key challenges following the 2008 financial crisis.
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New monetary policy tools
The debate on sovereign money coincided with the increasing interest in another concepts that seemed purely theoretical a decade ago. 1 of them is the digital currency of the central bank. investigation at the Bank of England suggested that 30% of GDP in sovereign money could increase GDP by 3% and improve economical stableness by reducing transaction costs and improving the effectiveness of monetary policy. The debate on the search for fresh monetary policy tools is increasingly talking about quantitative loosening or chopper money.
Quantitative loosening means central banks' investments with fresh money in fiscal bonds. For citizens it will be an injection of fresh money into circulation by spending. Even more breathtaking is the thought of alleged chopper money, that is, direct transfer of recently created money to citizens by reducing taxation rates or financing public spending. Although any economists indicate that this solution could effectively stimulate the economy in times of crisis, opponents inform against the hazard of inflation and weakening motivation to work. Banking institutions have different approaches to this: the European Central Bank has not analysed this action, the Bank of Japan is convinced of negative fluctuations in the financial market, and the national Reserve would be tempted not only in utmost situations.
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What do technological studies say?
The economical literature on public money systems is extensive, but the conclusions are not conclusive. Many studies indicate that a improvement of the transition to sovereign money could reduce the level of public and private debt, reduce the hazard of falling assurance in the bank's solvency and improve the control of business cycles. any economical models even propose that the economy can function with zero inflation and unchangeable employment.
On the another hand, there are serious concerns. Critics stress that limiting the function of commercial banks could lead to a shortage of credit, increased volatility of interest rates and the improvement of the uncontrolled parabanky sector. It besides points to the hazard of excessive concentration of economical power in the hands of central banks, which could rise questions about democratic control over monetary policy.
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The debate on sovereign money is indeed a dispute over what 21st century capitalism should look like.
Reformists see money as a public good that should be created in the interests of society as a whole. On the another hand, opponents inform that experimenting with the foundations of the financial strategy can have hard to predict. past shows that monetary systems have changed many times from the gold standard, through the Bretton Woods system, to contemporary fiducial money – issued by central banks that are not based on material goods and trust to an issuer that determines its value. So the question is not whether the financial strategy can change, but whether the current economical and social tensions will force its next evolution.
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More and more economists agree on 1 thing: the current financial strategy is not fault-free, but each improvement must be carried out highly carefully. Sovereign money remains a concept that simultaneously inspires and raises concerns. It may not become the dominant monetary model, but it already has a bearing on the direction of discussion on the function of central banks, digital currencies and ways of combating economical crises. Regardless of the result of this debate, 1 thing seems certain: the question of who should make money will increasingly appear at the centre of the political and economical disputes of the modern world.
We are 2026 – is it worth going back to the report?
The creation of money by the central bank should be without doubt, there must be no magic wand from somewhere that the state will make fresh income. Unfortunately, in the media, we hear that there is no money, the deficit increases, and we are in danger of bankruptcy.
Frosti Sigurjónsson, the author of the report, warned against the risks posed by the strategy in which money is mainly generated in commercial banks. Today, in times of rising inflation, advanced debt and digital currencies, the questions that the study raised are even louder.
It's not just 1 of many reports, it's a guide to how a more unchangeable economy can look. Sigurjónsson showed that if money only creates a central bank, its supply can be better controlled and the hazard of financial crises reduced. In a planet where digital money is becoming increasingly common, its conclusions give an interesting perspective: does the modern banking strategy truly service people, or does it work for its own profits?
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