The Question:
Why would you need to know all this stuff? The answer could be that as a voter, you might be a better voter if you had knowledge of how an economy works.
When the Covid-19 thing came along, the first thing the government did was announce that a lot of
money would be given to various people and companies to help them get through the lock down. A question asked by a reporter was:
"Where is all this money coming from?"
To which the answer was:
"It will be borrowed."
My question, which somebody may be able to answer is: why borrow? why not just print some?
To approach even some form of an answer from my side, we need to understand how the Reserve Bank works. In the USA, the equivalent of our Reserve Bank would be the Federal Reserve. The following is for New Zealand, but it is probably the similar for other countries.
The reasons why we have a Reserve Bank:
1. To print money to replace worn out money that is in circulation, which has no economic effect.
2. To make loans to the trading banks. In NZ these include the likes of Auckland Savings Bank (ASB), Australia and NZ Bank and the Bank of NZ.
The Reserve Bank never makes a profit from it's activities.
How it Lends money to trading banks:
1. The Governor of the Reserve Bank gets out of bed one day and says:
"Let's offer 100 Million Dollars to the Auckland Savings Bank (ASB), at an interest rate of 6%, for 1 year."
Of course, he is not saying print all this money, because nowadays it is all done electronically.
2. At the Auckland Savings Bank, they accept the offer and duly lend it out at various rates say 7% for mortgages, or higher for credit cards.
After a year passes, they repay the Reserve Bank back a tidy sum of $106 million dollars, as agreed.
If we suppose the bank made $10 million out of it's lending, then their profit would be $4 million.
The point to think about here is that the net new money in the economy after all this is around $4 million, and most of it will be profit for the bank. Which, in NZ, are owned mostly by Australian Banks, so this is sent offshore somehow to Australia, effectively removing some of this money, but not all, from the NZ economy.
This example of course assumes everyone paid the bank back in one
year, which is not likely, but for simplicity, we can say they do.
How does this benefit the economy?
Suppose one of the people lent to was a market gardener who grew only carrots.
He borrows the money and buys machinery, which will mechanize his production, needing less
workers and resulting in a larger profit for himself.
Now he can sell more carrots, maybe even at a cheaper price, so in effect all of NZ gets "richer".
Of course, not everyone grows carrots, some will be investing in gold rings or caviar.
Let's Print Money and Give it to Ourselves!
This raises the interesting point that, if printing money is so easy, why not print a
whole bunch and give everyone lots?
Because finance is now digital, money only exists as 0's and 1's in a computer somewhere, so you
would not even need to print any paper money.
Let's say we gave everyone a decent chunk of money, say $10,0000,000 each. Thinking about the effects of this, what would you expect? Take a plumber: he would just sit at home and drink beer, and watch Netflix. No plumbing repairs equals chaos. Society would soon cease to function.
The Universal Basic Income, which has been talked about for some time now could have a similar effect, but apparently, some people like working, so if they were paid a lot more as well it might keep plumbers on the job.
Of course, in our current reality, this has not happened. We have borrowed lots, and one day it will have to be paid back to someone, with interest. Not that I am saying they were wrong to borrow the money, I just cannot see why we could not have printed it for ourselves.
