You ever stop to think that maybe Brown somewhat knows the difference between good credit and false credit (causes further maladjustments). Not everyone in the world runs irresponsible printing presses around the clock. This Shostak excerpt will explain the concept:
Full essay: mises.org
Good credit versus false credit
There are two kinds of credit: that which would be offered in a market economy with sound money and banking (good credit) and that which is made possible only through a system of central banking, artificially low interest rates, fractional reserves, deposit insurance, and bailout guarantees (false credit).
Banks cannot expand good credit as such. All that they can do in reality is to facilitate the transfer of a given pool of savings from savers (lenders) to borrowers. To understand why, we must first understand how good credit comes to be and the function it serves.
Consider the case of a baker who bakes ten loaves of bread. Out of his stock of real wealth (ten loaves of bread), the baker consumes two loaves and saves eight. He lends his eight remaining loaves to the shoemaker in return for a pair of shoes in one-week's time. Note that credit here is the transfer of "real stuff," i.e., eight saved loaves of bread from the baker to the shoemaker in exchange for a future pair of shoes.
Also, observe that the amount of real savings determines the amount of available credit. If the baker would have saved only four loaves of bread, the amount of credit would have been only four loaves instead of eight.
Furthermore, note that the saved loaves of bread provide support to the shoemaker, i.e., they sustain him while he is busy making shoes. This in turn means that credit, by sustaining the shoemaker, gives rise to the production of shoes and therefore to the formation of more real wealth. This is a path to real economic growth.
The introduction of money does not alter the essence of what credit is. Instead of lending his eight loaves of bread to the shoemaker, the baker can now exchange his saved eight loaves of bread for money (i.e., sell his stock for money) and then lend the money to the shoemaker. The shoemaker in turn can exchange the money for goods and services he requires.
Observe that money fulfils the role of a claim against real goods and services. This simply means that the holder of money expects to be able to exchange them for goods and services whenever he requires. Thus, when the baker exchanges his eight loaves for eight dollars he retains his real savings, so to speak, by means of the eight dollars. The money in his possession will enable him, when he deems it necessary, to reclaim his eight loaves of bread or to secure any other goods and services.
The existence of banks does not alter the essence of credit. Instead of the baker lending his money directly to the shoemaker, the baker will now lend his money to the bank, which in turn will lend it to the shoemaker. By lending his money, the baker temporarily transfers his claims over real resources to the bank. The bank in turn lends these claims to the borrower, who is the shoemaker.
In the process the baker earns interest for his loan, while the bank earns a commission for facilitating the transfer of money between the baker and the shoemaker. The benefit that the shoemaker receives is that he can now secure real resources in order to be able to engage in his making of shoes.
Despite the apparent complexity that the banking system introduces, the act of extending credit remains the transfer of saved real stuff from lender to borrower. Without the increase in the pool of real savings, banks cannot create more real credit. At the heart of the expansion of good credit by the banking system is an expansion of real savings.
Now, when the baker lends his saved eight dollars we must remember that he has exchanged for these dollars eight loaves of bread. In other words, he has exchanged something for eight dollars. So when a bank lends those eight dollars to the shoemaker, the bank lends fully 'backed-up' dollars, i.e. fully backed-up claims on real resources.
Trouble emerges however, if instead of lending fully backed-up claims a bank engages in issuing empty claims (fractional reserve banking) that are backed-up by nothing. Rather than fulfilling the role of intermediary, i.e., facilitating the transfer of savings from lenders to borrowers, the bank now gives rise to a diversion of real savings from wealth generating activities to activities that are lower on the consumer's list of priorities.
When unbacked claims are created, they masquerade as genuine money that is supposedly supported by a real stuff. In reality however, nothing has been saved. So when such claims are issued, they cannot help the shoemaker since the pieces of empty paper claims cannot support him in producing shoes. What he needs instead is bread.
Since the printed money masquerades as proper money it can however be used to "steal" bread from some other activities and thereby weaken those activities. This is what the diversion of real wealth by means of money out of "thin air" is all about. If the extra eight loaves of bread weren't produced and saved, it is not possible to have more shoes without hurting some other activities, which are much higher on the consumer's lists of priorities as far as life and well being are concerned. This in turn also means that unbacked credit cannot be an agent of economic growth.
Rather than facilitating the transfer of savings across the economy to wealth generating activities, when banks issue unbacked claims they are in fact setting in motion the weakening of the process of wealth formation. It has to be realized that banks cannot pursue ongoing unbacked lending without the existence of the central bank, which by means of monetary pumping makes sure that the expansion of unbacked claims doesn't cause banks to bankrupt each other.
We can thus conclude that as long as the increase in lending is fully backed up by real savings it must be regarded as good news since it promotes the formation of real wealth. Only false credit, which is generated out of "thin air", is bad news. Low interest rate policies by the Fed both encourage the expansion of false credit and discourage saving, in a process that brings about continually weakening financial conditions.
Curiously some commentators are of the view that any type of credit helps grow the economy. This way of thinking is based on a crude empiricism, which supposedly shows that the expansion in bank lending and the expansion in economic growth are closely correlated. However, only credit which is backed up by real savings is an agent of economic growth. Credit which is unbacked by real savings is an agent of economic stagnation.
Furthermore, regardless of how sophisticated and advanced the banking system is, if it is engaged in the expansion of unbacked claims it will promote misery and not economic prosperity. Hence, while it is important to have a sophisticated banking system for facilitating the transfer of real savings it is real savings and not banks that give rise to economic growth. |
