Without an increase in the pool of real savings, banks cannot create more credit

by Frank Shostak
Mises.org

There are two kinds of credit: that which would be offered in a market economy with sound money and banking (true credit), and that which is made possible only through a system of central banking, artificially low interest rates, and fractional reserves (false credit).
Banks cannot expand true credit as such. All that they can do in reality is to facilitate the transfer of a given pool of savings from savers (i.e., those lending to the bank) to borrowers.
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 had saved only four loaves of bread, the amount of credit would have only been four loaves instead of eight.
Note that the saved loaves of bread provide support to the shoemaker. That is, the bread sustains the shoemaker while he is busy making shoes.
This 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 the path to real economic growth.
Money and Credit
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 eight dollars and then lend them to the shoemaker.
With eight dollars the shoemaker can secure either eight loaves of bread or other goods to support him while he is engaged in the making of shoes. The baker is supplying the shoemaker with the facility to access the pool of real savings, which among other things also has eight loaves of bread that the baker has produced. Also note that without real savings the lending of money is an exercise in futility.
Money fulfills the role of a medium of exchange. 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.
There is one provision here that the flow of production of goods continues. Without the existence of goods, the money in the baker’s possession will be useless.
The existence of banks does not alter the essence of credit. Instead of the baker lending his money directly to the shoemaker, the baker lends his money to the bank, which in turn lends it to 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 essence of credit remains the transfer of saved real stuff from lender to borrower.
Without an increase in the pool of real savings, banks cannot create more 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 eight dollars we must remember that he has exchanged for these dollars eight saved 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” dollars, so to speak.
False Credit: An Agent of Economic Destruction
Trouble emerges when instead of lending fully backed money, a bank engages in issuing empty money (fractional reserve banking) that is backed by nothing.
When unbacked money is created, it masquerades as genuine money that is supposedly supported by real stuff. In reality however, nothing has been saved. So when such money is issued, it cannot help the shoemaker since the pieces of empty paper cannot support him in producing shoes — what he needs instead is bread.
Since the printed money masquerades as proper money it can be used to divert 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 priority list of consumers as far as life and well-being is 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 credit they are in fact setting in motion a weakening of the process of wealth formation.
It has to be realized that banks cannot pursue unbacked lending on an ongoing basis without the existence of the central bank. The central bank, by means of monetary pumping, makes sure that the expansion of unbacked credit doesn’t cause banks to bankrupt each other.
We can thus conclude that as long as the increase in lending is fully backed by real savings it must be regarded as good news since it promotes the formation of real wealth. False credit, which is generated out of “thin air,” is bad news since credit which is unbacked by real savings is an agent of economic destruction.

by Paul Joseph Watson

This week’s revelation that the wealthy are purchasing secret hideaways in remote locations in order to escape social upheaval and possible riots is the culmination of Zbigniew Brzezinski’s warning that a worldwide “political awakening” is serving to derail the move towards further global centralization of power.
Economist Robert Johnson made headlines at the recent Davos Economic Forum when he revealed that “hedge fund managers all over the world….are buying airstrips and farms in places like New Zealand because they think they need a getaway.”
Johnson cited income inequality and the potential for civil unrest and riots as the reason for the panic.
“A lot of wealthy and powerful people are quite afraid right now – they see us on an unstable trajectory,” said Johnson. “As the system doesn’t have proper resources, as it doesn’t represent people, things are getting more and more dangerous as say Ferguson, Missouri brings to bear.”
However, Johnson’s warning is nothing new – the super rich have been busy securing property in safe heavens for at least five years in anticipation of the next financial collapse.
In 2010, John Malone, billionaire chairman of Liberty Media, announced that he had bought a retreat on the Quebec border as an insurance policy to “have a place to go if things blow up here,” adding that he was concerned about the survival of the dollar and whether or not “America (was) going to make it” through the economic crisis.
In 2012, Hollywood director James Cameron also announced his decision to leave America and move his entire family to a 1,067 hectare farm in New Zealand.
The Bush family also purchased 100,000 acres in Paraguay back as far back as 2006.
There are several reasons why the rich are preparing to flee, but the main factor is the rise of income inequality – a factor that Zbigniew Brzezinski blamed for the “global political awakening” that poses a direct threat to the elite’s bid to further centralize power.
“For the first time in all of human history mankind is politically awakened – that’s a total new reality – it has not been so for most of human history,” said Brzezinski during a 2010 Council on Foreign Relations speech in Montreal, adding that the development was borne out of “global inequities, inequalities, lack of respect, exploitation.”
Brzezinski made similar comments during a November 2012 speech in Poland, in which he admitted that a worldwide “resistance” movement to “external control” driven by “populist activism” is threatening to derail the move towards a new world order.
The former US National Security Advisor also noted that “persistent and highly motivated populist resistance of politically awakened and historically resentful peoples to external control has proven to be increasingly difficult to suppress.”
It is important to note that Brzezinski was not championing this development. In his 1970 book Between Two Ages: America’s Role in the Technotronic Era, the former Obama advisor heralded the arrival of a technotronic era “dominated by an elite, unrestrained by traditional values” under which citizens would be tightly controlled and manipulated.
The likelihood of widespread disenfranchisement and economic turbulence causing civil unrest has also been repeatedly invoked by economist Martin Armstrong, who correctly predicted the 1987 Black Monday crash as well as the 1998 Russian financial collapse.
“It looks more and more like a serious political uprising will erupt by 2016 once the economy turns down. That is the magic ingredient. Turn the economy down and you get civil unrest and revolution,” wrote Armstrong.
With distrust in government and leadership in the United States and other western countries continuing to remain near historic lows, the toxic cocktail of increased corruption, social alienation, and lack of community (all contributory factors to the 2011 London riots), will heighten the risk of domestic disorder.
As real wages drop it will also become increasingly harder to pacify younger generations via consumer culture. With religion, family and social mobility all declining in influence, lifestyles built around the acquisition of products will become harder to maintain as the economic environment worsens and the wealth gap widens.
Police brutality and perceived widespread injustice will also lead to more unrest in poorer areas as unfolded in Ferguson, Missouri last year.
While the move on behalf of the wealthy to purchase property in safe heavens by no means signifies a relinquishing of power, it does indicate that the super rich are readying insurance policies in the form of secret getaways in case massive political unrest leads to sustained domestic turmoil.
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(Paul Joseph Watson is the editor at large of Infowars.com and Prison Planet.com).