Economy - The Truth About Money

The Money Tree
Have you ever wondered how money is created? Most people realise that of course the government creates money, the Royal Mint creating it and the Bank of England putting it into circulation. But there is more to it than simply creating money. But most people know very little of the process for creating money, what part tax plays and even how the money is spent. The money tree isn't magic, it is just a system of soveriegn currency. This section looks to explain how money works, explode the myths around money and show how the government is so badly mismanaging the monetary processes that ensure a fair and prosperous society.

Types of Money


As can be seen from Figure 1 money can be categorised into three types. Cash is fairly obvious being the physical notes and coins that are used to make purchases. This is the physical money created by the Royal Mint. Only the Bank of England (BoE) can issue this type of money. Less than 3% of the money in circulation is made up of cash.

The BoE reserve is the money held full the purpose of interbank transfers. Only banks can hold and utilise money in the BoE reserve. The reserve works as a pool of money held by each bank to faciliate money going between banks. So for example if somebody wants to pay somebody who banks with the NatWest and they bank with Barclays, they will either go to a branch or online and make a payment to the applicable NatWest account. Rather than transfer the money directly to the NatWest, Barclays will pull down money from their reserve at the BoE and this will be paid into the appropriate NatWest account. This saves banks having to move physical cash between different banks.



The third type of money is bank liabilities. This goes by a number of names, but the it is essense a liability that the bank holds electronically. If somebody pays £100 into their bank, it will be recorded on a computer as a liability to the person who pays in the money. This is not legally money as such, but acts in the same way as the two other types and makes up 97% of money in circulation (existence). This money can be created out of thin air by a bank for example providing a loan (see how money is created section)

Figure 2 shows the different types of money. Bank liabilities are referred to with several names in the industry, such as Bank Deposits, Demand Deposits, Sight Deposits or Bank Credit. Or amount to being Bank Liabilities.



How Money is Created
Avoid too much money in the system with the risk of hyperinflation Devaluing the national currency making imports more expensive