NEF-Southampton-Positive-Money-ICB-Submission

paid in interest to the financial sector is retained within the financial sector, then it results in the financial
sector growing while the real economy shrinks in relaGve proporGon. If much of the interest is redistributed
to bank staff, then, due to the concentraGon of highly-­‐paid bank staff in the City of London, this would result
in increasing inequality between the City and the rest of the country, with the rest of the country becoming
poorer while the City grows as a percentage of GDP.
A variety of studies show that economic inequality and the concentraGon of wealth in the manner caused by
the current arrangements of the banking system is detrimental to producGve economic growth and well-­‐
being (Werner, 2005; Wilkinson and PickeO 2009; Frank 2007; Chang 2010).
Risk To The Government’s Fiscal PosiDon
FracGonal reserve banking poses a significant risk to the government’s fiscal posiGon for two main reasons:
1.As outlined above, the pro-­‐cyclicality of fracGonal reserve banking appears to be a major contribuGng
factor in the boom-­‐bust cycle. In the bust phase of the cycle, government tax revenues fall
significantly, meaning that the government is faced with the choice of either a) rapidly cuung public
services or raising taxes, or b) running up a sizeable deficit. Rapid cuts of public services or tax rises
are usually poliGcally unacceptable (and have potenGally damaging economic impacts in terms of
reducing demand) so the government is usually forced to run up a deficit, increasing the naGonal
debt and worsening the government’s fiscal posiGon.
2.The inherent instability of fracGonal reserve banking as a business model means that governments
are very likely to be called on for financial support sooner or later.
AddiDonal Problems With FracDonal Reserve Banking:
Weakness of interest rate adjustment as a macroeconomic tool
When the Bank of England feels that inflaGon is geung too high, it tries to indirectly reduce the money
supply by raising interest rates to reduce borrowing. If the economy is in a recession, it does the exact
opposite, lowering interest rates in order to encourage more borrowing, as an indirect way of increasing the
money supply.
This method of ‘steering’ the economy using interest rates is necessary under fracGonal reserve banking, and
is another great cause of instability. It is a liOle like driving a car by stepping on the brake and the accelerator
at the same Gme. When the economy is ‘overheaGng’, the banking sector has its foot on the accelerator
(creaGng more money as debt) while the Bank of England has its foot on the brake (raising interest rates to
slow down the borrowing). When the economy sinks into a recession, they swap pedals: the banking sector
slams on the brakes (refusing to lend) and the Bank of England steps on the accelerator (cuung interest rates
to their lowest level). This type of management of the economy appears unlikely to ever lead to economic
stability. Indeed, many studies demonstrate the weakness of changes in interest rates in affecGng the real
economy (Blanchard and Fisher 1989; Werner 2005). One of the most widely used examples is Japan in the
1990s, when interest rates were held at zero for an extended period but there was no tangible impact on
output mainly because banks were too heavily leveraged. A similar story can be seen today in the UK.
Interest rate manipulaGon is also a zero-­‐sum game in terms of the social cost to managing the economy.
When interest rates are cut, pensioners and other savers who were living off interest income from their
savings see their wealth and income rapidly deteriorate. Meanwhile, other individuals, especially the young,
are tempted to borrow because credit is cheap. This is supposed to sGmulate the economy by raising the
money supply. But if the economy does pull out of recession, the Bank immediately increases interest rates,
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