Rodger Mitchell’s blog…
Where does money come from? There are three main explanations.
Only one of them is correct, and gets the prize.
 The “chartalist” theory (or “state theory“) focuses on the government creation of money by fiat. MMT people tend to uphold chartalism.
 The “credit theory” says that banks create all the money as loans. This theory goes by many silly names such as the “endogenous money theory,” the “horizontalist theory,” the “property theory,” the “monetary circuit theory,” the “quantum theory of money emissions,” and so on.
Each side gives only half of the picture.
 The correct explanation is that both bank money AND state money exist. (There is also foreign trade money that comes in from abroad if a nation has a net trade surplus. In some cases, such as the euro-zone nations, some or all of this incoming money can be in the nation’s own currency. In other cases, some or all of this money can be in a foreign currency.)
State theory vs. the credit theory. People become confused when they cling to one side while they use terms from the opposite side.
For example, credit theory people falsely claim that banks create all the money. And yet these same people use terms from the other side (the chartalist side) such as “federal deficit” and “fiat money” and “fiscal policy.”
On the other side, strictly chartalist people (i.e. state theory people) focus on government-created money, but they use terms from the other side (the credit theory side) such as “debt” and “interest rates.”
Each of these two sides has its own foibles. The credit theory people falsely think that debt and interest rates are what “drive money” (i.e. debt and interest are what maintain public demand for a currency). Meanwhile the chartalist people falsely think that taxes are what “drive money.”
Each side is only half correct. Money is “driven” by taxes and interest rates.
Beyond this, however, the strongest “driver” of money is routine habit, which is maintained by taxes, interest rates, legal tender laws, and society’s fundamental need for money as a medium of exchange. The average American (and everyone he knows) uses the dollar from cradle to grave. This collective habit forms the basis for “full faith and credit” in the dollar (or in the pound, or whatever). This is why many nations experience demand for their sovereign currencies, despite having no income taxes or capital gains taxes.
Again, each of these two sides has its own errors. The credit theory people tend to think that banks hold infinite power, and that banks use this power to enslave all. Their views of money are entirely political.
On the other side, the chartalist theory people tend to ignore politics altogether, claiming that politicians are simply “misguided.” Their views of money are entirely academic.
The truth is that – regardless of politics and academics — there are three ways that money can enter into any economy (bank lending, government spending, and foreign trade) but various people use these three ways for political purposes. Bankers use debt to enslave people, and politicians use austerity to starve people. Both have the “power of the purse.” But in addition to their evil, each of us as individuals causes poverty and inequality whenever we seek to widen the Gap between us and people who are below us in wealth, income, and power.
Each of the two sides has its own fetishes and fixations. Chartalists are obsessed with unworkable and unnecessary notions such as their “jobs guarantee.” Credit theory people are obsessed with unworkable and unnecessary notions such as “end the Fed!”
The correct understanding of money includes yet transcends both sides. For simplicity’s sake, we call it “Monetary Sovereignty.”
People on both sides frustrate us (chartalists vs. credit theory) because they often mean well, but they trap themselves in ruts that they refuse to leave. They will listen to you, but they refuse to hear you. They will agree with your objections, but they refuse to modify their fantasies. These people made the effort to climb upward, but at the halfway point they stopped, being convinced that they had concluded their journey.
Perhaps this is a product of spite. Perhaps these people don’t mean well after all. They choose a bogeyman such as bankers, or rich people, or politicians, or “Jews,” “Muslims,” liberals, conservatives or whatever. The reality is that when I seek to widen the Gap below me, I become the boogeyman. I become like these twits below…
Another part of the problem is carelessness in terminology. For example, neither the credit theory nor the chartalist theory is an actual theory, since both sides ignore certain facts. Instead, they are opinions or perspectives. At best they are hypotheses. Each side is said to advance “arguments.” This is like sitting in a modern jetliner and discussing the theory of aerodynamics. One person “argues” that the plane will get off the ground. The other person “argues” that it will not. This is silly. Theories are a network of objective facts, not subjective opinions.
Another example of carelessness is the failure to distinguish between “some,” “most” and “all.” For example, some credit theory people say that banks create all of the money.” Others say that banks create most of the money. Okay, what about the rest of the money? “Oh that’s just coins and bills,” they respond, “which comprise less than three percent of the money supply, and are therefore negligible.”
Really? What about the four trillion dollars that the U.S. government expects to create during FY 2016? Their answer: “That’s all borrowed from the banks, as is proven by the national debt crisis.”
On the other side are chartalist people (or state theory people) who correctly dismiss the “national debt” hoax, but who incorrectly say things like, “The gold standard imposed limits on the U.S. government’s ability to create money.”
This is what happens when people get stuck in a rut while fancying themselves brilliant.
Now, just for amusement, let’s see an example of the chartalist nonsense that appears in various blogs…
“Outside of physically distributing money, the other main way the government puts money into the economy is by first taking it out of the economy. Before money can be dispersed, it must be collected as taxes.”
Got that? The government gets its spending money from taxpayers, so that the government can spend money on taxpayers. So say the pundits…
And now let’s look at the opposite side. Here is some credit theory garbage…
“New money is created by commercial banks when they extend or create credit, either through making loans or buying existing assets. In creating credit, banks simultaneously create deposits in our bank accounts, which, to all intents and purposes, is money.”
Banks only create loan money. They do not create federal government money. And what’s with the silly phrase, “to all intents and purposes”? Either it is money, or it is not.
“Fiscal policy does not in itself result in an expansion of the money supply. Indeed, the government has in practice no direct involvement in the money creation and allocation process.”
Cute huh? Credit theory people think that when a bank follows the U.S. government’s instructions to credit your account, thereby creating money, this is a loan from your bank. Credit theory people admit that you never have to pay back this loan, or pay interest on it, but they claim that this is why we have a “national debt crisis.” They think that to pay federal taxes is to pay the interest on this “national debt.” Therefore we don’t have to pay back the (non-existent) loan, and yet we do.
“The process by which banks create money is so simple that the mind is repelled. When something so important is involved, a deeper mystery seems only decent.”
Credit theory people are likewise repelled by simplicity. They accept that banks create money when banks make loans, but they cannot accept that central governments also create money when governments “spend.” They think that budget debates in the UK parliament are about how much the government should “borrow from the banks.”
Here is credit theory garbage vomited out by the Bank of England itself…
“The amount of money created in the economy ultimately depends on the monetary policy of the central bank. In normal times, this is carried out by setting interest rates. Monetary policy acts as the ultimate limit on money creation.”
Got that? There is no government fiscal policy, since there is no government spending. The words “fiscal” and “government spending” do not appear anywhere in the entire fourteen-page document from the Bank of England.