Bankers and the Financial Sector get blamed for our economic ills. They are not to blame. They do a good job of trying to control the complicated financial system we have inherited. They cannot change the system on their own, but they can work with us to change it into a simpler more efficient system.

The money system

We use money tokens to transfer value by exchanging money tokens for goods and services. We can create money tokens with an IOU. The IOU means we agree to repay the money at some time in the future. Anyone can issue IOUs. What we call money is a Government IOU. Governments create money, or a government IOU, by promising that they will accept the money tokens they create and sell to us so we can pay our taxes. Because most people trust the government and most pay taxes they will accept the government’s IOUs; the government money becomes a currency. That is, we can use government IOUs (money) to transfer the value of anything.

Banks make IOUs for us using government money. We call this debt. Government money is fungible. It means our IOUs created as debt have the same value as a government’s IOU.

Why the current money system is expensive to operate

The current loans system is convenient, but it causes excessive costs. When a bank gives us a loan as a debt, the loan is our IOU. Unfortunately, our IOU is not the same value as a government IOU because it has a greater risk of not being repaid. The financial system, governments and banks have created a complicated system to account for the difference in value between our IOU and a government IOU.

To cope, we do the following.

  • We give money tokens a time value using compound interest on money.
  • We have invented the idea of capital which is the surplus money left over when we repay our loans.
  • We create capital as money tokens with value.
  • Because money tokens have a value, we can create capital markets as a way to distribute capital.
  • Banks can create government IOUs for us but only if we have an asset or some form of income as collateral.
  • We regulate banks to ensure they do not create too much money.
  • Central Banks have a policy of targetted inflation to reduce the value of all money tokens when too many are created.
  • We create insurance policies to compensate investors for bad loans.
  • As well as insurance we invent other derivates of money to recover the cost of bad loans.

All these mechanisms are expensive to operate and all involve actual costs incurred by the financial system.

A lower-cost way to make loans

We can remove the need for most of these artefacts by repaying the loan with goods and services rather than with government money. By giving goods and services of greater value than the money created for the loan means investors get a return without impacting the value of government money. If the borrower cannot repay the loss is localised and does not affect government money. If government money inflates so that it decreases in value, we can give more goods and services and so compensate lenders without impacting government money.

Doing this on an individual loan means the loan is isolated from the government money system. Using these rules we save the interest on debt, and we save the cost of inflation for any loan. We can provide insurance by working with others with similar loans to provide more goods and services to cover unpaid loans. We remove the need for most financial derivatives.

On short term loans, the cost savings are small. On long-term loans, the cost of loans more than halves. We can use the approach for any loan both present and future, and we can do it without impacting the existing system. However, because the loans have lower costs we can expect many loans to move to repayments in goods and services instead of repayments in money.

Doing this replaces money markets as the way to set the price of capital indirectly with the cost of debt. Instead, the risk associated with the reason for the loan establishes the cost of capital directly for each loan. These prices can set the price for conventional debt loans. It means we do not need a money market to set prices. Removing the need for money markets to set the price of capital saves costs.

By reducing the need for capital markets, we reduce the impact of changes in government interest rates.  Systems, where changes to one component affect all parts, are brittle.  Removing this dependency will make economies more resilient and adaptable.

The practicalities of changing IOU repayments to goods and services

When individual loans operate independently, we can still get economies of scale and spreading of risk if we have a knowledge of other loans for each entity both as a lender and a borrower. It works well if we have a secure, reliable distributed system with autonomous linked entities. We call such systems complex adaptive systems where entities synchronise their activities by communicating with other entities through a distributed network structure.

An area of need is the removal of public debt. We can do this by communities self-funding infrastructure. Here is an outline of how to do this.

Here is a proposal for a Water Authority to replace all its debt with promises to repay with goods and services.

Here is a proposal to a public housing authority to provide affordable housing to all who need it.

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