The power to create new money lies with the government, and one way in which it exercises this power is by allowing commercial, privately-owned banks to lend much more money than they actually have.

New money is created when loans are made, and it disappears again when the loans are paid off. This process is regulated, but mostly with a view to ensuring that the banks don’t fail.

Despite this extraordinary power, banks have little accountability back to the government about how the new money is used. It is the banks, rather than the government, that decides how money flows through the economy, and where it ends up.

Money can buy the materials, equipment and skills necessary for useful production - for example the machines and raw materials and people needed to make new products and provide useful services. Or it can be used to accumulate more money through transactional activity, for example by speculating or investing in financial, commodity and property markets.

Since the former creates real, new wealth, while the latter merely helps the rich get richer, a government could make the banks direct more money towards activities that result in real, useful production. But that’s not what happens. Governments want banks to make commercial decisions about risk and reward based on the “free market” because they think that will lead to a higher level of financial turnover, and higher GDP.

This image shows the amount of money that UK banks were lending or had agreed to lend to UK people and businesses in 2023. It is divided into four sections, which show the areas of the economy that commercial banks were most willing to invest in, as follows:

• Red: Mortgage lending to households and lending to property-related businesses (48%);

• Pink: Lending to companies engaged in financial transactions (29%);

• Green: Lending to non-financial businesses, including commercial mortgages (18%);

• Yellow: Personal loans to individuals (5%).

Taken together, lending to property and finance activities (red and pink) amounts to more than three quarters of all bank lending. Actually it is more than this, because some of the green section is for the purchase of land and buildings, too. Transactions in the financial markets don’t add anything new, as we have seen. High land and property prices also push money towards investors and landowners, without adding anything new and useful to the real economy.

From a bank’s point of view, this makes perfect sense. Like all private companies, their objective is to extract as much money from the economy as they possibly can for the benefit of their shareholders. And yet banks are not wholly private: they have the public function of creating money. It is as if they have the role of gatekeeper for the whole town, but are only paying attention to the locks on their own front doors.

Data sources:

The data is from the Bank of England, Table C1.2, here. Data used is “The amounts outstanding of facilities granted in all currencies” taking an average from December 2022 to November 2023. A spreadsheet containing the data and the percentages used to create the image can be found here.