Top 10

Top 10 documents showing that the description of the monetary system found in most textbooks is wrong

Most textbooks present a description of our monetary system based on the “money multiplier model” in which the money supply is said to be “exogenous” and that deposits enable loans. The experts however, have long known that loans enable deposits and that money is “endogenous”.

Michael McLeay et al. (Monetary Analysis Directorate of the Bank of England).
Bank of England Quarterly Bulletin
“This article explains how,rather than banks lending out deposits that are placed with them, the act of lending creates deposits — the reverse of the sequence typically described in textbooks.”

“While the money multiplier theory can be a useful way of introducing money and banking in economic textbooks, it is not an accurate description of how money is created in reality.”

“This description of the relationship between monetary policy and money differs from the description in many introductory textbooks, where central banks determine the quantity of broad money via a ‘money multiplier’ by actively varying the quantity of reserves.”

“And in contrast to descriptions found in some textbooks, the Bank of England does not directly control the quantity of either base or broad money.”

“banks do not act simply as intermediaries, lending out deposits that savers place with them, and nor do they ‘multiply up’ central bank money to create new loans and deposits”

Mervyn King, former Governor of the Bank of England
Bank of England Quarterly Bulletin
“Textbooks assume that money is exogenous”… “In the United Kingdom, money is endogenous”
Lord Adair Turner, former head of the UK’s Financial Services Authority
Conference on: “Towards a Sustainable Financial System”
“Banks do not, as too many textbooks still suggest,take deposits of existing money from savers and lend it out to borrowers: they create credit and money ex nihilo [out of nothing] – extending a loan to the borrower and simultaneously crediting the borrower’s money account”
Professor Charles Goodhart CBE, FBA, ex Monetary Policy Committee, Bank of England
National Institute Economic Review
“The old pedagogical analytical approach that centred around the money multiplier was misleading, atheoretical and has recently been shown to be without predictive value. It should be discarded immediately. “
Michael Kumhoff, Research Department, International Monetary Fund
IMF Working Paper
“the textbook treatment of money in the transmission mechanism can be rejected””Bank reserves”… “do not play any meaningful role in the determination of wider monetary aggregates. The reason is that the ‘deposit multiplier’ of the undergraduate economics textbook, where monetary aggregates are created at the initiative of the central bank, through an initial injection of high-powered money into the banking system that gets multiplied through bank lending, turns the actual operation of the monetary transmission mechanism on its head.”

“Reserves therefore impose no constraint. The deposit multiplier is simply, in the words of Kydland and Prescott (1990), a myth. And because of this, private banks are almost fully in control of the money creation process.”

Michael Feroli
JP Morgan, Economic Research, Global Data Watch
“In spite of being almost totally divorced from reality, the money multiplier is still taught in undergraduate economics textbooks, with much resulting confusion.”
Glenn Stevens, governor of the Reserve Bank of Australia.
Address to the Inaugural Faculty of Economics and Business Alumni Dinner, The University of Sydney
“…discussion of the ‘money multiplier’, as an introduction to the theory of fractional reserve banking. I suppose students have to learn that, and it is easy to teach, but most practitioners find it to be a pretty unsatisfactory description of how the monetary and credit system actually works.”
Paul Sheard, Head of Global Economics and Research, Standard and Poor’s
Standard and Poor’s, Ratings Direct, Economic Research
“This goes against the grain of the usual way of describing bank lending, which suggests that banks “collect” depositsand then “lend them out.” That is not the way it happens at all.”
Seth Carpenter & Selva Demiralp, Federal Reserve Board
Finance and Economics Discussion Series, Federal Reserve Board, Washington, D.C.
“We argue that the institutional structure in the United States andempirical evidence based on data since 1990 both strongly suggest that the transmission mechanism does not work through the standard money multiplier model from reserves to money and bank loans.”
Piti Disyatat, Monetary and Economic Department, Bank for International Settlements
BIS Working Papers
“loans drive deposits rather than the other way around.”