Banking Services today give financiers and the wealthy an unnecessary and unproductive advantage. Financiers work with big, affluent customers to preserve the advantage of existing capital and increase the unequal distribution of wealth with its resulting inefficiencies. Today, access to new money is restricted to the wealthy as new money is introduced into the economy with bank loans of new government money.
The government and public servants who set the rules can change this by creating a level economic playing field and ensuring everyone has equal access to electronic money. Equal access means that electronic money is like cash. Everyone can buy it for the same price, and everyone pays the same for the same goods and services. That is not the case today, as explained in Banks Charge Interest Twice.
Banks circulate money through the community, and the government licenses banks to introduce new money into the economy through loans. Loans introduce temporary cash into the economy as the money is destroyed when a loan is repaid unless some of the money created becomes a “capital gain”.
For their services, banks charge interest and fees on loans. However, they also charge capital gains by capitalising interest and fee payments. For most loans involving transfers of assets, capitalisation is unnecessary and inevitably leads to excess money creation, requiring governments to agree to a target for inflation to remove excess money.
It doesn’t have to be this way. By judicious use of capital gains and losses on new money, governments can create electronic cash where everyone has equal access to money for public goods by acquiring it when they pay for public goods. This gives a mechanism for the Reserve Bank to fine-tune the economy so that everyone who can and wishes to work can and that the economy produces enough money to stop deflation and keep inflation at zero.
How Banks Create Unnecessary Money
Capitalisation (requiring any loan repayment to pay interest first and then reducing the capital) came from banking when the bank’s money backed loans. Today, the loans are backed by the Reserve Bank’s new money, and banks can always go to the Reserve Bank and request a loan where interest is not capitalised. It means there is little limit on the loans banks can create and it is difficult for the Reserve Bank to detect when a bank is not meeting its reserve requirements. However, capitalisation of interest and fees is not required in a modern banking system when existing assets back a bank’s loans.
Capitalisation of loans is justified when building new assets but can be achieved by using the new assets created as collateral for the loan. As the assets are built, the capitalisation of interest and fees can decrease.
Significantly, it increases bank returns when building new assets and reduces their returns when using loans to transfer existing assets.
Removing the capitalisation of interest and fee payments for loans to buy existing assets should be stopped immediately. It will increase productivity, meaning the same banking service for less money. Last year, the four big Australian banks capitalised about 74 billion dollars of interest and fees. Removing this will increase the economy's productivity by more than 4%.
Capitalisation of loans is justified when building new assets and can be removed as the new assets become collateral for the loan. As the assets are built, the capitalisation of interest and fees decreases.
In modern banking, the change is easy to implement, and it will encourage banks to lend more for new assets and less for existing assets. For example, it will reduce the cost to buyers of existing assets, reducing the cost of home loans to buy existing homes by about 30% while leaving the house prices the same. At the same time, the profits from home loans for building new homes remain high.
Financiers today make more money by selling existing assets and less money financing new assets. Reversing this will encourage the construction of new homes and increase the turnover of existing properties. It will stop the rise in existing assets.
The suggestion to the new Reserve Bank Board that sets interest rates is to concentrate on adjusting the capitalisation rates of loans and leave the interest rates on the desired increase in economic productivity without inflation or deflation.
Loans without Capitalisation
Removing the capitalisation of interest and fees from loans means there needs to be another way to increase the money supply without causing inflation. This is achieved by governments making loans to communities to build assets that stay in the ownership of the communities that use and pay to use the assets. These loans are repaid if the communities sell the assets to others outside the user community.
Today, money for community assets comes from taxes on the profits of borrowers who build assets, often with loans of new money. As the loans are repaid, the new money is destroyed, and the profits increase. However, the effort to make the taxes from new money loans is much greater than the effort of governments to create new money.
Building public works with new money and ensuring the assets remain in the community for whom they were built saves almost all the financial costs of creating assets and removes the need for communities to repay loans. This, in turn, eliminates the need for the rest of the community to pay taxes for community capital projects.
An Example of Keeping Capital in a Community of Users
A small local community consists of ten houses, each of value $1,000,000. The house's depreciation is over forty years, and insurance and maintenance costs are $20,000 yearly for each house. The government supplies the money to build the houses. Each house owner pays $25,000 and purchases $25,000 shares yearly from the government. Once a person has a share, they can sell or keep it. When they have shares of the house's value, they continue to pay $25,000 each year to buy more shares in the house group. When they become an investor, they receive 5% more shares yearly, but they must sell 10% to other occupiers or investors.
The group of houses will pay the government 2.5% each year of the total invested of $10,000,000. After a maximum of 40 years, the government will receive the money, which they can use the same as they use taxes. However, in practice, it is expected that the government will be rapidly repaid as an investment in the community loan will give a 10% annuity for 20 years, which is twice the return of an allocated pension.
Occupants of houses become investors in their homes by paying to live there. 50% of their payments become shares in their house, which they have a shared title with the rest of their community.
People can leave the group, keep their shares, and become investors. Depending on their income and other expenses, the group can decide how much each occupant pays. Occupants can sell house shares if there are buyers and the group allows it.
The group of houses becomes a self-contained economic entity. It can purchase more houses, extend the group, or invest in other housing groups if it has excess funds. However, it has removed the need and cost of the existing financial system to buy and sell their homes. Modelling shows that it typically halves the cost of home ownership and enables everyone to acquire it because it makes new money accessible to all, not just the already wealthy. Investors in the economic entity receive an inflation-adjusted annuity of 10% for 20 years.
The Application to Other Capital Goods
The housing market is called a permanent home market. The same principles can be used for all asset markets and will remove the cost of the financial system for the assets included. It co-exists with the existing system and assets, and people can move independently between markets for different assets.
It can be used for all public assets like roads, railways, hospitals, schools, research institutions, and other national and local institutions as consumers become owners and later stop being consumers. Hence, control passes to the next generation.
The System Change
The current financial system is based on money earning more money and a profit increasing wealth. This is different from what happens. Money literally cannot earn more money. It can enable wealth to transfer from one entity to another, but one person’s capital gain is another person's loss. One person’s profit is another person’s loss. There is no net increase in wealth.
As Modern Monetary Theory points out, the issuers of a currency are the only ones that can create more money. However, another way of increasing wealth is to improve the rate at which money moves. This is one reason that permanent asset markets are cheaper. Permanent asset markets move existing money more quickly by being continuous rather than happening occasionally. Another reason is that everyone becomes an investor, and the more investors, the more economic activity. The more economic activity, the more innovation and investment, and the lower the costs.
Summary
The Reserve Bank can return to zero inflation with full employment by eliminating capitalisation on bank loans of existing assets. It increases the money supply to match demand by working with the government on the spending rate on new community assets. It leaves private investment the same by allowing capitalisation of interest and fees for investments in new assets. Most Australians will see little immediate change except a drop in mortgage payments of 30% and a halt in the increase in the share price of banks. However, the bank's profits remain the same and could potentially increase.
As the approach is used on public transport, water, electricity, universities, and schools, the public will become part owners and invested in their communities, leading to civic pride and a prosperous society by reducing the cost to consumers of all the services that adopt the approach.
