1811 overture by Lord Caithness

[Beck1968]

The Banking (No 2) Bill which we are currently discussing in the

House is very complex and detailed – but, regardless of the detail

and complexity, it does nothing to resolve the current banking crisis.

It fails to address the actual fault which has led every major banking

and currency crisis over the past 200 years including this one. This

Bill is quite wrong. It merely, lazily and weakly, papers over the

cracks. Like Lilliputians we are trying to tie down Gulliver with ever

more strands of rope. It didn’t work then. It hasn’t worked since

1811. It won’t work now. The fault that needs correcting is our

current banking system.

In March 1997 I warned in this House that our failure then to address

the actual problem would lead to greater hardship. I said then that

 

“

The cycle will continue, but the next time, as before, we will all start

deeper in debt and with a burden heavier to carry.”

We did not act

then in good times. The current crisis is a good reason to act now.

By January last year I could see that the imprudence of bankers had

exceeded even my worst fears and I introduced The Safety Deposit

Current Account Bill to try to defuse the explosion I could see

coming. During the debate in April at the second reading I said that I

didn’t know under which Act of Parliament the current banking

system was established. I understand no Act has been passed by

Parliament. The current crisis, like others, emanated from a base of

judicial decisions.

Prior to 1811 title to the money in depositors’ accounts belonged to

the depositor. Lending of depositors’ money without their consent

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could then have been considered fraudulent. In that year in

Carr v.

Carr [1811]

, Sir William Grant ruled that since money paid into a

bank deposit had been ‘paid in generally’, and not earmarked in a

sealed bag (i.e., as a ‘specific deposit’) the transaction had become a

loan rather than a bailment. Following that, in

Foley vs. Hill [1848],

in the High Court of Chancery, Lord Cottenham stated

‘There is a

fallacy in likening the dealings of a banker to the case of a deposit to

which in legal effect they have no sort of resemblance, money paid

into a banker’s account becomes immediately a part of his general

assets and he is merely a debtor for the amount’.

These two judicial decisions gave legal status to the banking practice

of removing depositors’ money from their accounts and lending it to

others. Since then, title to depositors’ money has transferred from

the depositor to the bank at the moment that the deposit is made.

Bankers have always seen it as their job to invest as much of their

depositors’ money as they prudently can, in order to earn income for

themselves whilst, at the same time, maintaining sufficient cash flow

to be able to honour depositors’ cheques when presented and to

meet withdrawals when demanded. If new deposits fail to

materialize in sufficient strength or if borrowers fail to repay on time

or at all, banks need to be rescued or they will fail. Historically, bank

failures then led to a demand for Central banks to act as lenders of

last resort in order to save imprudent bankers who get caught short.

These judicial decisions meant that, from then until now, money

deposited belonged to the bank and not the depositor thereby

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allowing bankers to use customers’ deposits as they saw fit, always

provided that they could manage cash flow so as to meet depositors’

requirements. In good times that enabled them to take greater risks.

Then, with the advent of Central Banks as lenders of last resort, the

bankers soon learned they could take even greater risks with virtual

impunity. When their lending became too aggressive and their

reserves and deposit receipts were less than required to meet cash

flow, they began to lend to each other. Banks with excess reserves

would lend on the overnight market to those with a shortfall. With

all of these supposed safety mechanisms to protect them, bankers

came to believe they could become even more aggressive in their

lending enabling them to make increased profits for themselves.

The provision of these safety mechanisms had, in some cases, merely

encouraged them to take excessive risks.

Further, these two judicial decisions overlooked or failed to consider

the fact that when banks lend depositors’ funds, more than one

receipt for the same deposit is issued. This was not done

intentionally by individual banks or it would immediately have been

seen as fraudulent. Rather, it was done by the system as a whole.

Let me explain. Suppose you deposited £100 into your account at,

say, Barclays who then gave you a receipt for it. Let us assume that

Barclays then lent the £100 to a customer who spent it at a shop and

the shopkeeper deposited the cash into his account at Natwest. The

same £100 will be received by Natwest as a new deposit and a new

receipt will be issued against it. Thus the banking system as a whole

will have issued two receipts against the same money and the total

of all deposits will increase by £100. You will still have your deposit

4

in Barclays and the shopkeeper now has his in Natwest. Because the

Money Supply is the total of deposits plus money in circulation, the

total Money Supply will have increased.

This process will then continue when Natwest loans the

shopkeeper’s money to someone else who spent it and, as a result,

more receipts are issued. This happens every day in retail banking.

This is how the U.K. money supply has grown from £31 billion in

1971, when President Nixon closed the gold window, to in excess of

£1700 billion today.

Let us consider the implications of those last two figures? They

mean that every year since 1971 the banking system has created, on

average - for its own use - in excess of £44 billion. That is more per

year than the entire money supply which had, until 1971, sustained

our economy since recorded history and through two world wars! Is

it any wonder that we have suffered such serious inflation over that

period? It is clear that the normal, everyday onward lending of

depositors funds by retail banks has been the principal producer of

inflation.

When paper money was backed by gold, this same production of

new receipts by the banking system increased the number of claims

for the gold held in reserve without in any way increasing the

amount of gold available to meet them. Therefore, the amount of

gold available for each receipt became smaller and the value of

paper money decreased. The normal, everyday banking practice of

onward lending of depositors’ funds led to such a continued increase

5

in the number of claims for the gold available that it caused a series

of revaluations of paper money with respect to the amount of gold

each could claim. The rates of increase varied from country to

country, creating complexity in foreign exchange markets and

leading to a series of international agreements to try to determine

the correct relationship between various national currencies and

gold. The last of these was the Bretton Woods agreement in 1944. It

was breached in 1971 when the huge increase in the number of

dollars created since 1944 forced President Nixon to close the gold

window in 1971.

This same banking mechanism, which destroyed the gold standard, is

now destroying the Central banking system. Central banks can no

longer cope. The Treasury and the taxpayers have now to try to pick

up the pieces. In fact, the failures are so serious and banks have

been so imprudent that they are now unwilling to lend to each other

and governments have now even been asked to help to kick start

inter-bank lending. The world now looks at the imperilled state of

the Western Monetary System with shock and there is so little faith

in paper money that cries are heard for a new Bretton Woods.

All of this has occurred because of the failure of governments,

economists, the press and the public at large to recognize the faults

in the banking system that were given legitimacy by those early

judicial decisions.

Even today the Government is striving to save this discredited system

with still more legislation that attempts to control the degree to

6

which this fraudulent but legal mechanism can continue to operate.

Why are we trying to save a system that, since 1811, has overcome

every attempt to harness it?

We do it to protect depositors’ funds and for our own convenience.

We have all become accustomed to ‘going to the bank’ (in whatever

form) when we need money. We have become accustomed to using

our current accounts to manage our personal budgets. Many are tied

into the system through having our incomes paid directly into our

accounts and using direct debits to pay for our regular expenditures.

It is very convenient and we wish to continue to have these facilities

available to us. But, our overall approach is wrong. We should not

be trying to perpetuate a system that issues more than one receipt

for the same deposit. We should not be trying to perpetuate a

system that debases the currency and produces inflation. We should

not be trying to perpetuate a system that is flawed and dishonest.

When I introduced the Safety Deposit Current Account Bill a year ago

it was an attempt to try to begin the job of defusing the time-bomb

within the banking system which I believed was about to explode.

Instead, I was accused of trying to place a bomb in the system. Lord

Davis called the Bill ‘explosive’. Lord Razzall said its effects would be

‘volcanic’. Well, now we can all see the truth of the matter. The

bomb was already in place and has exploded! The volcano has

erupted! I urge the Government not to re-ignite it. Let’s fix the

banking system instead of throwing more money and more

regulations at it.

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What we all need is a system that will continue to provide us with

the convenient facilities we wish and which will provide us with the

means for continued and sustainable investment - a system which

will provide us with the means for responsible investment rather

than the so called ‘boom and bust’ scenarios and their serious social

and economic consequences.

So, how do we best achieve that? I suggest that the Government

now consider in detail a system to correct the fault by creating

accounts which do not transfer title to depositors’ money from

depositors to the banks. Banks must not be allowed to continue to

lend depositors’ money without the consent of the depositor. This

will immediately stop the issuance of two receipts against the same

money. Depositors would have to pay for the storage and

distribution of their money in current accounts and banks would

have to compete and earn their income through storage and

distribution charges.

For those who wish to earn an income with their money and who

wish banks to invest their savings for them, savings accounts are

available. The cost of storage and distribution will drive funds from

current accounts to savings, and will ensure a steady flow of funds

for investment. Some of that will go into savings accounts at banks

and banks will lend it to borrowers. Therefore, the same duplication

of receipts will also occur but will be much easier to control. If

savings were directed into bank managed/supervised open-ended

investment companies or unit trusts, then savers would exchange

8

their money for an asset, i.e., shares or units but they will not receive

deposit receipts for their money. If the investment company or unit

trust wishes to lend it to a borrower, and the borrower spends it and

the recipient deposits it into his bank account, that deposit will then

be a genuine new deposit.

With these two actions we can completely remove the duplication of

receipts from the banking system and stabilize the money-supply.

Banks will no longer be able to lend depositors’ funds. Depositors’

funds will then be safe. There will be no further need for lenders of

last resort. Taxpayers will no longer be required to bail out future

bank failures and inflation will be halted in its tracks.

Can it happen? Yes. Will it happen? That depends on us at this very

minute and on the government’s response. Will the Government

grasp the nettle and cease throwing taxpayers’ money at a faulty

system and stop trying to control the uncontrollable? There can be

no better time than now.

 

 

Things that make you go.....Hummm

[Enron]

What your talking about is fractional reserve lending, i.e. the bank will retain say 1/30 and lend 1/29 of a deposit, which as the funds are passed bank to bank inflates the money supply.

 

Their is also a problem in that the currency is no longer backed by precious metals such a gold, if you read the note it's now based on a promise. As such the £ can be expanded and contracted at will by the Bank of England, the currency is essentially created out of nothing.

 

Remember a guest on working lunch being asked how much the Bank Of England could pump into the system to bail out the banks, the guest after gulping said it was almost infinite. The only problem being is that you and me the tax payers have to repay this amount plus interest.

 

Essentially its the very thing that has happened with quantative easing, but this time its been announced the bank is creating money from thin air, this money is used to purchase government bonds.... which will then have to be repaid plus interest.

 

The American system is exactly the same, that said our bail out doesn't appear to be as open ended as there's. The initial $700 million bail out has expanded to $14 trillion.

[Beck1968]

I'm not talking about anything.....It's Lord Caithness

 

and he did metion how to fix the banks....very easily

Edited July 21, 2009 by Beck1968
adding

[rickyd]

Interesting though this is, it doesn't solve anything except change the way that assets are accounted for. If banks treated the money in their clients accounts as not being part of the total liquidity figure, all that would happen is that their values would fall. As all banks use the same system, there differential changes between banks would move slightly but everyone's valuation would still move downwards.

 

This is where Mr Darling's cunning plan came in. He decided that the problem came from the banks lending too much of their yet-to-be-received funds and placing themselves on a knife edge. He ordered them to increase there liquidity ratios so that less of the fluid assets (current account balances) of the bank were offered to borrowers.

 

IMHO it was too little and way too late.Lord Caithness is correct is pointing out what's wrong with the system, but its been this way since 1811 for a reason - its not easy to come up with a workable solution and the main protagonists like things this way.