I made this video as a starting point in explaining the how banks creates money (or more accurately credit) and correct some misconceptions in the video “Money as debt”. I would like to have feedback and proposals on how to improve it The voice in the video is made by a “text to speech” engine and should be replaced by a more pleasant voice (is there anyone that wants to do it voluntarily? When the text is finally edited?)
Most of this is based on a blogg written by “Sunda pengar” and in particular his excellent blogg dealing with Basel 2:
Here’s the “text to speech” text and I should very much appreciate corrections in grammar and other issues concerning the language – since English is not my native language. Feel free to come with pedagogical remarks as well – where I’ve been to vague and so on. This is meant as an outline so I’m opened for suggestions.
Please refer to the number you think should be altered. It will be an easy thing to correct and replace it in the “text to speech” engine and put it back into the video.
The formula is as follows.
The size of the loan * (Capital Adequacy Ratio * Risk weight) = needed capital base,
Let the loan be L
Let Capital Adequacy Ratio (CAR) be C.
Let Risk weight be R.
Let needed capital base be N.
Then the the formula can be written as:
We see immediately that if the Risk R is 0 then the Needed capital N is also 0 and the bank can hence create an arbitrary large loan based on no capital what so ever.
In order to get the formula for how large loan L the bank can create on an given portion of there reserves, we only need to rearrange the formula a bit
And again we see that if the risk weight goes to 0 the bank will be abe to create an arbitrary large loan based on a arbitrary small capital base.
This means, since loans to municipalities and states have the risk weight 0 , that loans municipalities and states are basically created from thin air and the taxpayer are paying the banks interest and amortizations on these “loan”.
The philosophical discussion if a loan can be seen as a loan if it’s created out of nothing is something we leave to the viewer to judge.
Some of the actual risk weights for different loan categories in Sweden in accordance with Basel 2. Their might be some minor variations in other countries following Basel 2.