Tuesday, May 22, 2012

Monopolised Fiat Monetary System - Treadmill to Hell

Please take a note of the word "Monopolised" in the title as I am not against a competitive fiat monetary system (more on it in later articles).

Imagine a condition wherein someone is robbing you everyday and instead of shouting for help, hitting that person or complaining to the police you are actually "Thanking Him" for his great service and showing your utmost gratitude. You must be thinking that it' crazy to even imagine such a situation, well sadly modern day banking does exactly that. 

Before going ahead let my also clarify that that banks are just taking advantage of this monetary system as most given an opportunity would do, infact most people working in these institutions   are not even aware of this phenomena.

Also please don't begin to step up the defense for the banks along the lines of how important a service they perform for this society by channeling the savings to entrepreneurs, I would first refer you to my previous post "Where is the Money?" (link) to drive the point how in a fiat monetary system the savings don't lead to credit creation but on the contrary it's the credit that leads to savings. With this concept in mind, in this article I would drive home the point left open in my previous post and add a new one:

- Why this system is a one giant Ponzi scheme (continuation from the last article) or in other words a treadmill to hell (as in real hell, not the abbreviated form my B-School)

- How this wealth transfer or robbery taking place because of modern day banking

So let me elucidate on the point  "Why this system is one giant Ponzi Scheme" by giving a simple examples:

Now suppose you want to buy a car but don't have the money to do so, you would go to the bank to take a loan, as stated earlier even the bank does not have a money to make that loan but thanks to the government issued diktat it can print money out of think air (bank credit) and charge you an interest on it against a collateral (car) which is owned by someone else for now . First of all such a contract in any other field of business (to the best of my knowledge) would be considered null and void except banking. How can you take a loan against a collateral that you don't even own?? 

Anyways coming back to our original point, now let's say you have bought the car thanks because of a loan of ten thousand dollars from the bank, now the bank charges a 10% interest on that loan and so let's say you would have to pay back 11 thousand dollars after one year. However in our economy there are only ten thousand dollars (remember in a fiat monetary world credit drives money supply and consequently savings) and so in this type of system unless you or someone else comes in and take more debt you would end up defaulting on your car loan, not matter how hard you work!!!

So you can see that this system can only survive we people get deeper into debt!!! and that is why I call this a "Ponzi Scheme".

So to keep this system going more and more people go deeper into debt or new people enter into debt and with every debt that we take and then try to service it with our toil the bank gets a piece in the form of interest payments and this payment it gets for doing what???

Nothing but printing the money out of thin air (remember: "not channeling the savings to productive economy") or in other words all that bank is doing is inflating the money supply and slowly sucking real resources from the economy in the form of interest payments or more directly (as it can keep your house if you default on your debt).

Let me introduce another example for this "transfer of wealth phenomenon". Let us say that you plan to setup a business that would need 2 workers. Now this how things can work:

- The workers that you hire are equally risk taking and decide that they would not take any salary but would instead take a share of the profit. This means that the workers are almost taking an identical risk like you and should be compensated accordingly (in this case a share of the profits).

- A second scenario can happen in which the workers want to play it safe and hence want a fixed compensation, in this case they would get a lesser compensation as they are not bearing any risk for the success of your business.

Now for this second scenario, you don't have any money to pay the workers but surely a great idea and operational competence. You approach the bank and get a loan of 50k to pay the workers, the workers deposit this money in their bank accounts.

So in the first scenario the risk for the success of the project is shared between yourself and the workers and so your workers are compensated highly. In the second scenario the risk is shared between you and "the bank" and "Not the Workers" and so they are given lesser compensation. However as you are going to see now that it's really the poor workers that still share the risk and are not even compensated for it anymore, all because of the monetary system.

Now let's say that your project has failed and has not generated any cashflow, the bank would have right-off that loan (an asset on the bank books), following the rules of accounting it has to wipe-off an equal amount in liabilities and as we just saw the poor workers had deposited that salary in the bank account which would now be obliterated. So as in scenario one because the project has failed you don't get anything, the bank would have nothing but more importantly even the workers would have nothing; which is unfair as they took this option of lesser compensation because they wanted to have their pay irrespective of the state of the project.

However if the project succeeds you are going to make millions, bank is going to have an interest income but the workers would have no upside and only the pay that they were promised which was wrongly computed as it was assumed that the workers are taking no risk.

So I hope you have got the irony of the system, i.e. under the current monetary system the people working at fixed pay have no upside to the success of any business but downside to its failure, banks have no downside but upside (interest income if project succeeds & no real losses as they anyways printed money to lend which would be written off) and people working for equity have both upside and downside. 

Ofcourse in practical parlance to avoid a possibility in which the banks would have to right-off the savings of the workers, the Central Banks constantly aim at boosting the credit growth in the economy and inflating the money supply which only creates an illusion wherein the people working on fixed pay appear not to loose money but this scenario changes nothing as they are still loosing out in the same "real terms" to the banks and people working for equity.

So in other words if most of you have noticed or heard of the increase in the wealth disparity in the last 30-40 years it's because in 1970 we went on a monopolised fiat monetary system.....

In the next article I will show how the system would work in a different monetary system wherein it is the savings that drive the credit growth and not vice versa

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