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Socialist Party of Great Britain - Camden and North West London Branches SPGB Lectures - The Origin of Bank Deposits.

Edgar Hardcastle (H) 29th October 1993

1). Bank Deposits are money deposited by depositors.

No doubt most people who have bank deposits believe that bank deposits originate with the depositors who, having spare cash, choose to lend it to banks in return for the interest they receive, confident that whenever they want to withdraw it they will be able to do so.

This is a correct description of what goes on, but it is denied by some economic theorists who hold that bank deposits are “created” by the banks through the act of making loans.

Hartley Withers in his “THE MEANING OF MONEY” (1921, page 61) says:

The greater part of the banks’ deposits is thus seen to consist, not of cash paid in, but of credit borrowed. For every loan makes a deposit”.

2). The two versions of the Book “Banking”.

In 1926 the Home University Library published the book “BANKING”, written by Walter Leaf, ex-chairman of the Westminster Bank.

In his book, Walter Leaf supported the view that deposits originate with depositors and ridiculed the theory that deposits are created by the banks through the act of making loans.

He wrote:

The banks can lend no more than they can borrow –in fact not nearly so much. If anyone in the deposit banking system can be called a “creator of capital” it is the depositor; for the banks are strictly limited in their banking operations by the amount which the depositor thinks fit to leave with them” (page 102).

He went on to argue, quoting figures relating to the “big Five” banks, that the Hartley Wither’s theory “will not stand confrontation with the facts”.

In 1948 the Home University Library published a new version of “banking” not written by Walter Leaf but by W. J. Thorne, and published a second edition of the Thorne book in 1962.

The Thorne version put the view that bank deposits are created by the banks through making loans; that is to say it put the case which the Leaf version had argued “will not stand confrontation with the facts”. The Thorne version made no attempt to argue that the Leaf version was wrong.

The Thorne version (page 94) put the view that deposits are created by the banks, in the following terms:-

The cheque drawn by the customer in favour of other people go to the credit of their accounts and thus it comes about that money lent creates a deposit except in the few cases where the borrowed money is paid to somebody in notes that for some reason never find their way back into a bank account”.

In the controversy about the rival theories many banks from Britain and abroad supported the Leaf version that bank deposits originate with depositors.

3). The MacMillan Committee (Committee on Finance and Industry 1929-31).

This committee, of which J. M. Keynes was a member, supported the view that bank deposits are mostly created by bank lending. Paragraph 74 of the Committee’s report opened as follows:

it is not unnatural to think of the deposits of the bank as being created by the public through the deposits of cash as representing either savings or amounts which are not for the time being required to meet expenditure. But the bulk of the deposits arise out of the action of the banks themselves, for by granting loans, allowing money to be drawn on overdraft or purchasing securities a bank creates credit in its books, which is equivalent to a deposit”.

Keynes was a member of the Committee and is believed to have drafted the above mentioned Paragraph 74.

Although the members of the committee signed the Report without dissenting from Paragraph 74 they did not all agree with Paragraph 74. Before the Committee was set up in 1929 Professor T. E. Gregory had been stating his opposition to the view that Bank Loans create deposits and continued to do so after publication of the Report.

A Banker member of the Committee when asked by a member of the Socialist Party of Great Britain employed by him how he could support Paragraph 74 admitted that he had not read it.

J. T. Walton Newbold, when asked by another member of the SPGB how he came to sign the Report without dissenting from Paragraph 74 he was indignant that that he could be believed capable of agreeing with the nonsense written in Paragraph 74 but explained that he was put on the Committee to support another member, Ernest Bevin, who favoured Keynes general attitude, and had no alternative but to vote with Bevin.

Another member of the Committee when asked if he agreed with Paragraph 74 said that he didn’t but was unwilling to be drawn into the controversy.

Professor Edwin Cannan derided this new banking theory as “the mystical school of credit creation”.

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