Merryn's Blog

Britain's move to 'capitalism with Chinese characteristics'

In the West, commercial banks have traditionally created money. But the MMR might mark the beginning of a revolution.

We've written here several times over the last few years about the way in which money is created in the West. So regular readers will understand that the supply of money is not created in the main by central banks, but by commercial banks - they create it out of thin air every time they make a loan.

This isn't the kind of thing that the authorities much like to talk about it is hard to maintain the idea that central banks are in absolute control of monetary policy when everyone knows that commercial banks print 97% of the new money every year as and when they feel like it.

Subscribe to MoneyWeek

Become a smarter, better informed investor with MoneyWeek.

So we have been interested to see the subject making its way into the mainstream. First, in the first quarter of this year came the the Bank of England Quarterly Report, which described the process pretty clearly: "In the modern economy, most money takes the form of bank deposits. But how those bank deposits are created is often misunderstood: the principal way is through commercial banks making loans. Whenever a bank makes a loan, it simultaneously creates a matching deposit in the borrower's bank account, thereby creating new money."

Then came FT columnist Martin Wolf. A few weeks ago he too described the way in which money is really created, and then last week he suggested a few improvements to the current system. Why, he asks, should the ability to print money rest to such a large degree in private hands? Is it this that gives us boom and bust? And if so what should we do about it?

Advertisement - Article continues below

These are big questions and ones we will be discussing at length at the MoneyWeek Conference on Friday (there are a few tickets left). But there is definitely a growing sense in government that things aren't quite as they should be.

Douglas Carswell, among others, reckons that taking away the government guarantee on deposits would sort things out pretty well (see our interview with himand this roundtable discussion), while Martin suggests that only the government should have the right to print money, create inflation and pocket the proceeds of doing so.

However in the short term the most likely move will be towards credit controls whereby the Bank of England puts restrictions on how much banks may lend out, and how. There is a little of this about at the moment (banks have to hold less capital against mortgages than business loans for example, something that encourages them to make more mortgage than business loans). But there are more precise ways to do it.

The Japanese have long used something called "window guidance" as a way of telling the banks exactly how much may be lent to any one sector at any one time. And if you look at the restructured Bank of England, you will see, as I discussed a few months ago,that the Financial Policy Committee has the ability to control the supply of credit to different sectors at different times, something CLSA's Russell Napier calls "capitalism with Chinese characteristics", and we could also call "capitalism with Japanese characteristics".

What it means is that the Bank already has the power, should it choose to use it, to fully direct and control the creation of money inside the UK economy.

Will it use it? Hard to tell. But the much-discussed mortgage market review, whereby the banks have to make sure that borrowers can afford to repay their loans before they make them, might give us a hint.

Advertisement - Article continues below

The Bank of England, via the FCA, is telling the commercial banks how they may lend. It isn't a particularly stringent credit control, but it is still a credit control.

Banks have been creating money without much in the way of controls since the 17th century. Is this the beginning of a revolution?




How long can the good times roll?

Despite all the doom and gloom that has dominated our headlines for most of 2019, Britain and most of the rest of the developing world is currently en…
19 Dec 2019

Beyond the Brexit talk, the British economy isn’t doing too badly

The political Brexit pantomime aside, Britain is in pretty good shape. With near-record employment, strong wage growth and modest inflation, there is …
17 Oct 2019
UK Economy

How to protect the earnings of the self-employed as well as employees

The government has acted swiftly to protect the earnings of those in employment, But the self-employed deserve help too. Merryn Somerset Webb has a fe…
25 Mar 2020
UK Economy

Three tasks for Andrew Bailey, the new governor of the Bank of England

As Andrew Bailey takes over as governor of the Bank of England, he should be thinking about more than just viruses, says Matthew Lynn.
22 Mar 2020

Most Popular


Stockmarket crash: more to come

The stockmarket crash was hard and sudden – and it might not be over yet. But while the short term outlook is awful, says Merryn Somerset Webb, that d…
23 Mar 2020

Markets are starting to realise just how bad the coronavirus crisis will be

As governments around the world throw everything including the kitchen sink in the fight against coronavirus, markets are reaching the “moment of maxi…
23 Mar 2020

International Consolidated Airlines: a buy for the brave

International Consolidated Airlines, BA’s parent company, is dirt cheap and well placed to recover. Here's how to play it.
23 Mar 2020

Why investors shouldn’t overlook Europe

SPONSORED CONTENT - Ollie Beckett, manager of the TR European Growth Trust, tackles investor questions around Europe’s economic outlook and the conseq…
6 Nov 2019