How Banks Make Money

Modern banking may seem very complex, but originally the idea of banking was to make life simpler.
Banks and money came into existence to help merchants trade.

So how did Banking take over the world and come to dominate every aspect of our lives?

I am The Austrian and welcome to my channel.

Let's take a sneak peek into the history of money and how banks became the creators of money.

The Origins Of Money

Before we invented money, we simply traded goods and services directly, people bartered goods or
services for other goods or services in return.

But because the value of each good wasn't fixed, it was quite cumbersome and inefficient to
exchange what you had for what you wanted.

Imagine this scenario: A long time ago, in a world more ancient than ours, we lived in a village.

You had a garden where you grew veggies, and I had a few sheep and cows that I would take out to
pasture.

If I wanted some of your vegetables for dinner, but I only reared livestock, I would have to give you
some of my meat in exchange for a bag of vegetables.

And right away, you can already see one of the major problems with this barter system of trade.

Because there was no standardised medium of exchange, it was very difficult for two people who
needed things from each other to come to an agreement that seemed fair and just.

Having to wait until a "double coincidence of wants" where two people need the exact opposite
thing at the same time also proved to be very difficult and inefficient.

And to top it off, there was an even bigger problem. You see, our "money" is not only a medium of
exchange, it's also considered a store of value.

When you produce something of value, money is what you could exchange that good or service for.

It was also a way for you to store the value of having produced that good or service until you were
ready to use it for whatever you needed when the need arose.

Before the invention of money, some people could never store their wealth for
no fault of their own.

Think about the farmer who sells fruits and the man who makes clothes.
The man who makes clothes could barter it with anyone who needed clothes as and when needed,
all year long. But the farmer who grows and sells mangoes can only barter when mangoes are in
season.
And
because mangoes are perishable goods, he cannot keep them for a long
period of time.
So, although he would be putting in the same effort into his business as the
garment maker, and producing something of comparable value, there is no
way for him to remain wealthy all year long because he can't store the fruit of
his labour. Quite literally.
Money: as a means of exchange and store of value.
People soon discovered commodity money. The people who became wealthy
were those who owned things that everybody wanted. Things like weapons,
animal skin, and salt. Since everyone knew that everyone wanted these
things, and if these things were not perishable and were able to hold their
value, everyone began buying them even if they didn't need them at the time
just so they could trade with these commodities later.
People would exchange goods and services for the most common items like
salt or weapons and just use that to trade for something they wanted from
someone else. To overcome the problem of having something that only very
few people wanted, you could exchange your goods and services for arbitrary
objects to act as placeholders of value. After which, you could use these
placeholders to get goods and services that you actually wanted from
someone else.
The idea was brilliant. So brilliant that the entire world slowly moved away
from the Barter system to the money exchange system.
But there was still one problem with this medium of exchange. You see, for
money to be worth anything, it needs to be scarce. The more available
something is, the easier it is to get it and the lesser its implied value. So
things like sand or shells that you could easily pick up on any beach weren't
really good placeholders of value because you could just get more sand or
seashells from the beach.

Along come semi-nomadic pastoralists with livestock, metals and weapons.

When the Proto-Indo-Iranians began trading with neighbouring tribes they
traded their sheep (and Livestock in general) which they called "movable
possessions". As skilled metallurgists, they also began trading in weapons
and metal tools. These became their "principal property", and further came to
mean "fortune", "fee", and "money".
The Chinese then made miniature versions of these metal tools that came to
resemble currency as we know it today. As a result, around the year 770 BC,
the ?rst metal coins were created in China.
They made the coins circular so it was easy to reach into pockets and take
them out without hurting your ?ngers, and they were made from bronze.
You couldn't just go to a beach somewhere and pick up bronze. It was
scarce. These coins acting as placeholders of value were ?nally worth
something and they held their value for a very very long time.
At this time, money wasn't yet an illusion. The value of a coin was determined
by the value of the metal the coin was made out of. If you had a coin that was
made of 1 gram of gold, it was worth 1 gram of gold. You could easily
measure it and see for yourself that it is, in fact, 1 gram of gold.
But without an authority certifying the value of the coin, it was still a bit risky to
trust the bearer of the coin. It was in 600 BC, that Alyattes, King of Lydia,
created the ?rst of?cial money mint. He created coins using a mix of silver
and gold and stamped an image on the coin to act as denominations. Now
people could easily tell the value of the piece of metal they were holding
simply by looking at the picture on its face.
The value of the coin was now what the rulers and the banks said it was. For
example, one British Pound Sterling represented one pound of Sterling Silver.
However, Kings and Rulers quickly discovered the power of money. They
realised that the more of these tiny precious metals you had, the more power
you could control. So they began to mint more of these coins. The Kings of
the world wanted more money and more power, but precious metals were too
expensive.
To make more money, they started slimming down the coins, and then mixing
the more expensive metals with cheaper metals.
Soon, all the coins in circulation were Debased - meaning they were worth

less than what the image on their face said they were worth. The value of the
coin was no longer determined by the value of the metal that made up the
coin.
Money Is An Illusion
The illusion of money is one that we never really think about, do we?
In 11th-century Italy, the centre of European trading at the time, merchants
from all over the continent met to trade their goods, but there was one
problem. International traders soon realised that metal coins were too heavy
to cart around and there were too many currencies in circulation leading to
confusion and distrust. Merchants had to deal with several different types of
coins and had to exchange money constantly.
This exchange business, which commonly took place outdoors benches,
is where we get the word "bank" from the word "banco" - Italian for "bench".
And so Banks, in Italy and around the world, started issuing IOU certi?cates
for long-distance trading, culminating with English innovators set the stage for
banks to become the creators of money across the globe in 1704 with the
English Parliament passed the Promissory Notes Act.
Here's how money is created as promissory notes: Instead of carrying heavy
metals like Gold and Silver, you could deposit them in a Bank in exchange for
an IOU certi?cate which you could redeem with another Banker who also
recognised and issued similar IOUs. In a nutshell, banks are in the risk
management business to counter the dangers of travelling, counterfeit
money, and the dif?culty of getting a loan.
Because these pieces of paper were stamped by the Bankers who trusted
each other, and because these pieces of paper represented real Gold or
Silver, people trusted its declared value and believed that they could use it to
get back whatever it was worth in Gold or Silver coins. This was largely true
for the time. As more of these IOU certi?cates ?ooded the market, people
needed coins less and less. Until eventually, we operated like the paper was
worth what it said it was worth, even if we no longer exchanged it for physical
pieces of gold and silver.
Since then, money has remained a mere representation of value, which is
determined by the belief people place on it.
Fiat Money

"Fiat" is a Latin word that translates to "let it be done." It's a decree by the
government that, in the case of money, determines what its value is. But just
like the Kings of old, the governments of today understand the power of
money and, as always, want more of it. They understood that the more
currency notes they have, the more power they have. So what do they do?
Well, they can simply create more pieces of paper. Nowadays you don't even
have the cost of paper due to billions of dollars being created electronically.
If for example, the US government wanted $40 Billion dollars for, I don't know,
maybe another war, they can simply print the money to do so. But there's one
problem with this.
The thing about money is that primarily, it needs to be valuable and act as a
means of exchange. So, the amount of money in circulation needs to re?ect
the value of the goods and services that are being provided. When more
money (or currency) is pushed into circulation than the amount of goods and
services available in the market, all other things being equal, the prices of
these goods and services increase as per currency units, but the value the
money itself represents drops.
This is known as in?ation.
The Money Printer
Right now, less than 5% of the currency in circulation is printed by the Central
Bank. However, the remaining 95-97% of the money in circulation is
electronic currency created by commercial banks. In our previous video, we
looked at how private banks create money from nothing by issuing new loans.
This is done through a double accounting system. This means that when a
bank issues a loan it's not somebody else's savings and it's not money that
the bank had in it's vaults. It's essentially brand-new money that they create
as debt by simply typing it into a computer and it appears as a digital
representation of money
Debt is actually money just from a different point of view:
-
-
to the lender it's an asset of money and
to the borrower it's a liability of debt
The bene?ciary of this brand-new debt is not the borrower receiving the
money lent to hi, but actually the bank - because they get to charge interest
on that money. That's how they make a pro?t later when you repay your loan.
The debt disappears and the money also disappears but the bank's pro?ts

from the interest remain.

Private Banks maximise their pro?ts by issuing loans that need to be paid
back to them with interest and minimise risk by lending against collateral.
Collateral is what you lend to the Bank when you borrow the loan amount.
When the borrower of the loan (called Debtor) fails to pay the loan amount
with interest, the Bank keeps the collateral which then becomes the Bank's
asset. This is why Banks are incentivised to lend against real estate for
mortgages. Banks have decided that Real Estate is the safest yet most
pro?table form of creating debt because if you can't repay the loan the banks
can simply take your house. Hence the new money that is created ?ows into
the Real Estate market, making property prices more expensive and housing
less affordable for the young couple wanting to buy their ?rst home.
In the UK, salaries have risen by 0.8% year on year while property prices
have risen by 7.7%
Accounting for in?ation, US home prices have leapt by 118% since 1965,
while median household income has increased by just 15%.
And so on, in every nation around the world.
Housing Prices keep rising because more and more currency units are
chasing a ?nite and limited number of homes, making each home worth more
and more currency units.
In the 70s, a single parent on a regular income could afford a home and live a
comfortable middle-class lifestyle. Today, two-income households that are
fortunate enough to even get a mortgage for their homes are barely even
making ends meet. Mortgages are the best-selling product on the Bank's
shelves because of this reason. What happens when interest rates rise?
Monthly payments become larger and if the young family defaults on their
payments, the Bank will re-possess the home.
Banks are incentivised to create currency when we don't need it and withhold
it when we do need it. This is why rich people can get loans easily while those
who actually need the money have little chance of ever getting that loan.
Making the Rich richer and the Poor poorer.
What do you call a shop that sell umbrellas when it is sunny and shuts shop
during the rainy season?
A Bank.

When the economy is booming, like pre-2008, stocks and house prices rise
and Banks are eager to lend money by creating new currency units. However,
this has the effect of in?ating prices even further. These bubbles eventually
burst and lead to a market crash, recessions or even depressions. When a
crisis occurs, banks become reluctant to lend money, worsening an already
unstable situation.
With an increased supply of new freely created currency units, non-productive
sectors that don't bene?t the real economy are in?ated at the expense of
creating new jobs. That's why Real Estate and Stocks keep rising whereas
everything else barely appreciates in our sluggish economy.
Banker or Racketeer?
When the common man votes his representative into power, he hopes to
have a say in how the laws that affect him are made. But unfortunately, the
politicians are powerless in front of these private banks that issue and control
money. This is why bankers got bailed out during the 2008 global ?nancial
crisis while the common man was kicked out onto the streets. As for the
common man, unless and until he learns how money works, he will lose his
freedoms, his purchasing power, his peace of mind and ultimately his family's
future.
No wonder Henry Ford once said, "It is well enough that people of the nation
do not understand our banking and monetary system, for if they did, I believe
there would be a revolution before tomorrow morning."
Are we looking at a repeat of the 2008 Banking Crisis or perhaps the Great
Depression of the 1930's, or are we going to print our way out of the situation.
Let us know what you think in the comments section.
Thanks for watching and stay tuned for more education that will set you
?nancially free. If you liked this video, hit the thumbs up and we'll see you
next time.