Communities Secretary, Sajid Javid, recently said the government should take advantage of “record low interest rates” and “borrow” money to invest in infrastructure that leads to more affordable housing being built.
- Notice that he said “borrow” and “interest rates”
In other words, he appears to think the government should borrow money from a private bank, or other private lender, and pay them interest on that loan. Just like we would if we took out a mortgage.
Maybe he’s saying that because, like many MPs it seems, he doesn’t know how money is created or because he believes borrowing money from private banks is the only source of money for the government. Who knows.
There is another, more affordable and less costly way to fund house building, or any other public service for that matter: the Chancellor could tell the Bank of England to create the money instead.
The Bank has done this before as part of its programme of quantitative easing after the 2008/9 financial crisis. So far, it has created £435 billion.
All it took to do that was a series of polite letters between the Chancellor and Governor of the Bank of England.
Not a single note was printed. Not a single coin was minted. Not a single penny was collected in tax beforehand. Not a single penny was borrowed from a private lender either.
It just created the electronic money by tapping in the numbers on a computer and making an entry in its ledger to record how much was created.
Creating money in this way means:
- There is no limit to the amount of money we can create.
- The government can never run out of money.
- We don’t have to borrow it from a private lender and pay them interest.
- We don’t have to collect any tax beforehand to raise the money.
- We can create whatever amount we want to buy the services and goods we need to build and run our public services.
That is how we can pay for public services if we want to.
From that perspective, austerity is needless, some might say cruel. Financial prudence isn’t optional though. The government should always be careful about how much money it creates and what it buys with it.
Money doesn’t equate to supply
Being able to create the money like this doesn’t mean the resources or goods we need will be instantly available either. Neither does it mean we can ignore the risk of inflation.
But creating the money can allow us to buy in whatever resources are available now, and invest in producing the resources that aren’t readily available.
Eventually, we’ll have the houses or NHS we want, but not overnight.
The return on investment
The other thing about creating money in this way is that whatever money the Bank creates, and the government invests in the economy, always comes back to the government.
That’s an essential part of the process.
When the government pays the architect to design the houses or hospital, the architect will use some of that money to pay someone else for a good or service to help with the planning, design and building.
When that happens, VAT is charged on the invoices and income tax is collected on salaries. Where does the tax go? Back to the government.
In this way, slowly but surely, the money created by the Bank makes its way back to the government as tax.
This process is called geometric sequencing. Although if any of that money is stashed under the mattress, spent abroad, or hidden away in tax havens, it probably wouldn’t get back to the government.
But what about inflation?
Collecting tax when the money is spent helps keep inflation under control because collecting it removes a small portion of that money from circulation.
This helps regulate how much of the original sum of money created can be spent. Too much spending, too quickly, can affect the levels of supply and demand and thus inflation.
So, if we want a first class health service, rail network, police force, or anything else, we have a way to pay for it that does not rely on taxing anyone beforehand or borrowing money from private banks (who would charge us interest).
If you doubt this…
And you should if you are an intelligent person, I would point you again to the £435 billion the Bank of England created as part of quantitative easing.
It didn’t raise that money from tax or borrow it. It simply created it in its electronic ledger and used it to buy back bonds it had previously sold to inject money into the finance sector.
Richard Murphy, from Tax Research UK, has described how this way of creating money – called “Green QE” – could be used for public investment and to grow the economy.
Sadly for Javid, even with the reality of being able to create the money we need – and not borrow it – Hammond doesn’t seem to want to give him what he wants.
Which begs the question: does Hammond know how money is created?