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Published May 12 2010 by History News Network, Archived May 12 2010
Thanks to Seth Snapp for pointing me to this article. Toward the end of the article the author makes the connection between the economy and oil, making an important point that it was cheap fossil fuels that made possible the kind of life we've come to expect as our birthright: "The decline in EROI (Energy Return on Energy Invested) is a portent that austerity in public spending is not a temporary passage from which recovery is possible, but something like the permanent condition of governance in the post-petroleum era. Oil’s 10,000% rate of return was magic. It created fortunes (think Rockefeller and Getty), fuelled philanthropy, and ultimately paid for a lot of public works: schools and bridges and roads, Medicare and Social Security, moon missions and foreign wars." - David M.

Reforming seigniorage: the key to a sustainable economy

by Eric Zencey

Chances are that unless you’re a total financial wonk, you’ve never heard the term “seigniorage.” But you should, because doing the right thing with it could help solve several major, interrelated problems.


As a concept, seigniorage is as old as money. It’s the difference between the face value money and its cost of production; it’s the profit that comes from creating money. When money was coined in valuable metals, seigniorage wasn’t very significant; a shekel had to contain something like a shekel’s worth of silver, or it wouldn’t be accepted as a token of exchange. The advent of paper money and the more recent development of fiat money—money backed not by metal but by the faith and credit of a government—led to a dramatic increase in seigniorage. If it costs one cent to print a hundred dollar bill, the seigniorage on that bill is ninety-nine dollars and ninety-nine cents.

By long tradition, and by general consensus among anyone who ever thought much about it, seigniorage belongs to the sovereign power that issues money. In our system, that’s us: we, the people. But in the largest subsidy program ever instituted by any government anywhere, most of our seigniorage is given away free to the institutions that create most of our money supply: private banks.


To most of us the idea that banks create money comes as a surprise. Here’s how it happens: when you deposit $100 into your checking account, the bank is required to keep only a fraction of it on deposit against the chance you’ll show up and ask for cash. The rest it lends out as quickly as possible. With a reserve requirement of 10%, your bank can lend out $90 of your $100 deposit, which it does by simply crediting the borrower’s account—an act that costs almost nothing. And 90% of that new deposit can be lent out as well, which becomes a fresh $81 dollar deposit in the system. And so on. Eventually, the introduction of $100 into a system with a 10% reserve requirement leads to a $1000 increase in the money supply.


This system of fractional reserve banking evolved organically from the goldsmith’s practice of issuing notes for sums of coins held on deposit—and from some enterprising goldsmith’s recognition that the notes themselves, and not the coins, were being used in commercial transactions. Since few people actually brought the notes in to redeem them for gold held on deposit, it was possible to lend out the gold and collect interest on the loans. The loans could be issued as notes, with the gold remaining unmoved within the goldsmith’s safe. A single bag of gold coins could do double, triple, quadruple duty: two, three, or four people could hold certificates claiming it—as long as they didn’t actually claim it.


Clearly, the practice of leveraging loans against deposits in this way made goldsmith shops (and, later, banks) vulnerable to a cascading collapse of confidence—a “run”--when holders of certificates of deposit show up and demand the return of what they’ve deposited. This is exactly what happened during the Depression, sparking a round of bank failures and deepening the economic downturn.

In the wake of that experience, the practice of fractional reserve banking might have been forbidden, and the creation of money be reserved to the sovereign power of government. Instead, fractional reserve banking was formalized, and the perceived problem—that cascading collapse of confidence—was addressed by the creation of the Federal Deposit Insurance Corporation, which assures customers that the government will make good their deposits (up to the generous limit of $250,000 per account) if the banks fail. Banks were given free rein to go on creating money, and to collect seigniorage in the form of interest on the loans they make with the money they create.

How much is that seigniorage worth? The money supply on which the U.S. economy operates is $7.7 trillion. Of that, scarcely a tenth--only $746 billion--is actual currency issued by the Treasury, the seigniorage on which goes into the public coffers. The rest, $7 trillion, is bank balances in various forms. And since the cost of entering pixels into databases is negligible, the seigniorage is almost equal to the supply of money created this way. Seven trillion dollars is more than the federal government has spent on two world wars, Korea, Vietnam, Iraq, the moon mission, and Social Security combined.


Capturing seigniorage for the public treasury presents no technical challenge. To make money creation the exclusive prerogative of the sovereign, the money-creation activity of banks could be curtailed by a 100% reserve requirement on demand deposits. The change could be phased in gradually, as Herman Daly and other ecological economists have advocated. Banks could earn their income not from seigniorage but by charging for such legitimate and useful services as safekeeping, accounting, check clearing, and mediating loans between savers and borrowers. As the new reserve requirement is phased in, the Treasury could spend money into existence at an appropriate rate, replacing exactly the quantity of money that banks are no longer creating. The immediate macroeconomic effect would be minimal; the net result would be a shift in the way money is created, and an end to a huge public subsidy to the banking system.


One macroeconomic effect would be eventually significant: loans could only be made out of savings, not from the creation of money. This means that someone, somewhere in the system, would have to refrain from consumption today in order to increase consumption later. The only argument that can be made against this essentially boils down to “we’d have to change how we do things.” One consequence of doing this is that we would no longer pay for our consumption today by passing the expense to our children and grandchildren.

Bankers, of course, will be against this change, and will do everything in their considerable power to prevent it. Creating money, it turns out, is a very lucrative business. But there are positive effects that make this policy change very attractive.


One benefit would be a dramatic dampening of our economy’s boom-and-bust cycles. As chemist-turned-economist Frederick Soddy pointed out in the 1920s, the creation of money by banks is also the creation of debt, and boom-and-bust cycles are one inevitable result of letting debt grow too rapidly. Soddy’s logic: debt is a claim on the future production of wealth. When the creation of debt exceeds the capacity of the economy to create the real wealth that is needed to pay it off, eventually a trigger event will set off a cascading crisis of debt repudiation—a run on the bank, writ large. Inflation, bankruptcies, foreclosures, stock market crashes, bond failures—these are forms of debt repudiation, and (inflation excepted) they tend to come in a spasm, a crisis, a collapse.

The Great Recession we find ourselves in today follows this pattern. A run-up in the price of gasoline to $4 a gallon reduced the disposable income of Americans, including many who had been encouraged to take on more mortgage than they could afford. That they were encouraged to do this was one result of “demand-pull” for risky mortgages. With banks like Goldman Sachs actively assembling portfolios of bad mortgages so that hedge fund managers could bet against them, loan officers nationwide stepped up to supply the demand. They responded to an increased call for risky mortgages by issuing more risky mortgages. When some mortgagors defaulted, housing prices declined, and many homeowners found themselves “underwater”—owing more on their houses than the market said they were worth. This led to more defaults, which led to more defaults, which led to more defaults.


The version of the crisis that began in 2008 had its origin in mortgage loans. But the same dynamic lies underneath all crises of debt repudiation—the Savings and Loan crisis, the Enron affair, the crisis of Asian debt refinancing, the stock market crash of 1987. They all trace to the process of letting claims on wealth grow faster than wealth can grow, and the driver of that is the process of money-and-debt creation through fractional reserve banking.


Money that is created and spent into existence by the government does not create this equal-and-opposite burden of debt. At bottom, fractional reserve banking is a routinized, publicly funded machine for inflating speculative bubbles, based on the bizarre supposition that $100 of wealth can be made to support $1000 worth of claims upon it. It takes a lot of economic growth to produce $1000 worth of wealth in the future for every $100 worth that exists today.

One reason that economic growth can’t match the rate of debt creation is the ongoing decline in the energy-return-on-energy-invested, or EROI, of oil, our economy’s primary fuel. In 1920, one barrel of oil invested in drilling and production yielded 100 barrels of usable product—an astounding 10,000% return, large enough to disguise quite a few structural flaws in our system. But by the close of the twentieth century the EROI of oil had fallen, worldwide, to 20:1 (For newly discovered oil, it is even lower: 5:1, by some estimates). This decline is both an underappreciated root of our current economic downturn and a warning that we have to change our institutions--and the thinking that underlies them.


The decline in EROI is a portent that austerity in public spending is not a temporary passage from which recovery is possible, but something like the permanent condition of governance in the post-petroleum era. Oil’s 10,000% rate of return was magic. It created fortunes (think Rockefeller and Getty), fuelled philanthropy, and ultimately paid for a lot of public works: schools and bridges and roads, Medicare and Social Security, moon missions and foreign wars. Today, governments at every level are struggling to sustain their revenues and provide essential services, even as their tax bases decline as a result of the recession. Meanwhile, the disposable incomes of many Americans have tumbled, and Tea Partiers shout that they’ve been “Taxed Enough Already”—taxes being one sizable household expense which citizens of a democracy feel they ought to have some say over.

There’s room for hope in the fact that the best renewable energy technologies come close to matching today’s world-wide average EROI of oil. But no energy technology will ever again offer the heady returns of the early days of oil. As we enter a crowded, ecologically straitened, post-petroleum era, the need for sound, far-sighted public expenditure on infrastructure, including renewable energy infrastructure, has never been greater, while the resources to pay for it have never been more constrained. Capturing seigniorage is one way out of this conundrum, and phasing out fractional reserve banking is the best way to do that.


Think back to that unnamed goldsmith who first had the idea of making loans against money that belonged to someone else. Through one conceptual lens, the man was an innovator, a banking genius: the gold was just lying there, not being used, so why not issue additional notes against it? Through another lens, though, the man committed fraud: he treated as his own something that was not his to lend. The fact that we’ve had centuries of routine acceptance of that basic fraud doesn’t change the essential character of the act. And aside from the moral considerations that call into question the foundation of fractional reserve banking, there are also large practical reasons for changing our practice. The pyramiding of debt through fractional reserve banking is one strong driver of heedless economic growth, “growth for growth’s sake,” which has expanded our economy’s ecological footprint beyond sustainable limits. Returning seigniorage to its rightful owner is a strong step toward ecological, and civic, sanity.

~~~~~~~~~~~~~~~ Editorial Notes ~~~~~~~~~~~~~~~~~~~

Eric Zencey is a novelist, essayist, and Visiting Associate Professor of Historical and Political Studies for Empire State College in Europe and New York. His writing in environmental history and political theory has been supported by grants from the Rockefeller, Guggenheim, and Bogliasco Foundations. This essay is from the forthcoming The Other Road to Serfdom: Essays in Sustainable Democracy (University Press of New England, Fall 2011)

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I just watched Money as Debt videos 1 thru 5 on You Tube:


The first part of this article is explaining the same stuff as the video. If these details about how money is created and leveraged for profit by private institutions are true, then yes- it is an almost unfathomable sleight of hand played against a great mass of unwitting people. -Kyler

"Capturing seigniorage is a wonderful idea, but I find it unlikely to be put into practice until the nation-state is already toast. At that point there may be other wonderful ideas floating around."

On this point I agree with you Walter.  The problem with most reformist critics of the status-quo whether from the left or right is that they ignore that these problems have been known for a long long time (i.e., at least a couple centuries).  Yet it is in the nature of capitalism itself to reward the most monopolistic elements who become even more successful and powerful by each crisis they help to create - as you alluded to.  They become more and more powerful.  How could you argue against or lecture to power?  How could you reform those that write the rules (i.e., the kingmakers)?  To expect that somehow by conventional / legal means (i.e., means within the system such as protest or strike, unions, voting, law suits, etc.) we could deprive the top 10% out of their >90% global wealth would be like an ant telling a charging elephant to back off (in fact ants being more social than most of us "individualized" creatures would probably have a better chance).  So I consider all such reformist proposals idealistic and more precisely "reactionary" in the sense that they want to take us back in history not considering the inherent dynamics and contradictions of the system that eventually cause its demise - the work of evolution at work.

The nation-state has been toast for a long time as "capital" is free to go wherever in the world thus undermining local economies and as a result any semblance of true nationhood / community.  The only viable response / solution will have to be a "superior" economic model - i.e., one that is more responsive to the survival needs of the species / global population (since capitalism has conquered all the world thoroughly during its "globalization" phase).  If you study the dynamics of economic system transformations through history you will notice that this will necessarily require a different form / system of production, exchange, distribution and above all ownership - i.e., a transformation in class-structure.  I won't go into details but suffice it to say the weaknesses or problems of the old system (e.g., poverty and unemployment, accelerating global crises especially on the economic front, disease and epidemics, climate change and environmental devastations, etc.) will be fuel for the new system and thus the new economic system would grow organically out of the ashes of the old - evolution at work.  Power is rooted in economics (survival factor) and the new system by providing better survival advantages to the species overpowers the old one and replaces it.  

A few other questions worth pondering are 1) what other internal contradictions make capitalism unsustainable and unreformable?  2) where is capitalism in its life cycle? (terminal? how long?)  3) what would be the defining characteristics of the next economic system and how can / will it take shape locally?

Thank you Behrouz for your reply.  I appreciate the perspective you are sharing.


I like to quote a comment on a blog post I read a few months ago (by someone who called him/herself "Riversong"):


"But if we understand the current paradigm as a necessary but no longer functional part of human evolution, then the sane solution is to create another, more functional, paradigm. Only when it becomes widely perceived as “better”, because we are joyfully living it while others suffer, will it become the next dominant paradigm and the previous one will fall away."

I suppose we have to disagree on that point Walter.  The basis of every nation state, i.e., the identifying factor of a genuine national experience and cohesion has been a unique local / national economy.  During the mercantilism stage of capitalism when governments actually protected their local national production (manufacturing / agriculture / etc.) against foreign ones by economic (e.g., taxes and tariffs) and political (e.g., wars) means nation-states still existed.  However, the banking sector "banksters" / gangsters always led the charge and bankrolled the larger and larger-scale industries which then generated increasing amounts of profit / capital demanding "free markets" (lifting of tariffs and national barriers for trade / commerce) serving the ever increasing demands of capital in their fiercely competitive .  During the colonial times many wars were fought around this issue (among the "western" nations) sometimes by proxy in colonies such as China and India as it became known that opening of markets for industries of one nation could in effect lead to subjucation of another by economic means.  This culminated in world wars I and II where nation-states in the western world effectively disappeared with the effective victory of the anglo-saxon imperialists (primarily U.S.) and establishment of a relative free-market zone in the "western" world that although was on the surface led by the U.S. was increasingly led by multi-national banksters and corporations with U.S. acting as a police state / watch dog as the world was divided into two camps (the Soviets and Chinese vs. the U.S. led multinationals).  The "developing world" at this point became increasingly devoid of any true nationhood as their economies were devastated during colonialism and subjugated to the greater capitalist / imperialist market becoming client states thus devoid of any national control and living national identity.


The neocolonialist era was extended to the era of globalization where the final nails were driven in the coffin of nation-states even in "developed" countries.  Due to the ever-present profit imperative of capitalism (in search of lower cost labor and other means of production) the ruling class elite in these countries had outsourced the manufacturing base across the globe serving the overlord of capital which reached its highest level of freedom and power moving around the globe in the name of "free trade and free market" while subjecting the masses of the world to the highest level of restriction and oppression by limiting and controlling their movement in the administrative zones / "nations" of yesteryears all for the purpose of profit.  Thus, with NAFTA, KAFTA, WTO, World Bank, UN, NATO, EU, etc. an effective new world government was set up following the interests of global capital with all semblance of localism (like nation-states, and political factionalisms e.g., "democracy" / "socialism" and "communism" / "theocracy", etc.) becoming empty caricatures and resembling one another due to the uniformity of the pervasive underlying global economic system (capitalism) in its final life stage.  


We should not let the superficial political divisions such as nation-states (administered for the purpose of "divide and control" of the populace) confuse us and lead us to overlook the deeper reality of economic uniformity in the world designed to serve the interests of capital.  For example, while the borders with Mexico do not stop flow of capital (i.e., freedom of expropriation or profit-making on either side of the border) it does limit the flow of labor which serves to divide the population / labor rendering the "undocumented" immigrants more vulnerable i.e., easier to exploit, cheaper labor - effectively serving the interests of capital.  While there is a political benefit in convincing the U.S. populace in validity of nationhood with genuine national interests worthy of defense or even war, the deeper economic reality is that the "national leaders" have done nothing but to wreck the lives of most of its populace including but not limited to outsourcing their manufacturing jobs (the backbone of its national economic identity) and squandering their wealth by a gigantic military complex has not done any defending of their interests at least since the civil war and rather serves the interests of the global capital (i.e., world government led by multinational banksters and corporations).


As for considering ideas as "idealistic" and "reactionary" I certainly did not mean to attack you personally.  But I have call the ideas the way I see them.  I think it is valid to label ideas (not individuals) as long as the meaning of the label is clearly communicated as well as supporting evidence / arguments so to avoid misunderstandings.  I will try to do better.  As you can see I have to often resort to somewhat lengthy discussions to explain my point of view as it is further from the established framework of thought than most.  That is the challenge when one tries to question the established paradigm with its inherent inertia.  Unfortunately, our language (a clumsy instrument of our relatively primitive culture often at best based on vague and abstract reason / rationalization / common sense) and our divisive competitive lives (full of distant virtual realities), both reflecting the underlying state of economy, are not very conducive to deep and clear understanding.  Meanwhile, as we try to come to terms with the myriad of influences on us and the extent of the task at hand to change the paradigm, we should realize the historical figures that we are; possessed by the prevailing economic system and all its reflections influencing us through its institutions (e.g., education, media, other institutions driving our lifestyle).  Thus, we are but vehicles.  Our ideas are not ours.  In fact we have no individual identity despite our individual consciousness telling us otherwise.  From our genes, to our ideas, thoughts, and "spirit" we are but a synthesis of material / natural elements in time / history.  Personal attacks are uncalled for when personhood in reality does not exist.


I'll be happy to join you in your farm for more discussions while doing some REAL work as long as you show REAL commitment and interest through action for collective work and living.


P.S. I enjoyed your videos on "feeding the soil".

Warren, I look forward to contacting you when I get into town in a few months.  Hoping to learn more from your experiments and experience.

I sympathize with you Garrett, but I never think I am only writing to my immediate audience, when writing in a public forum - as your response to my post shows the point.

I briefly reviewed the book you suggested.  It looks interesting.  I went to Jeff Vail's web site and was surprised to by what I found about his background as a special ops. planner and a current attorney.  And yet I viewed some of his other posts which seemed related to his book, but seemed to stop towards the end of 2010.  Thereafter, his posts seem to be all related to his business.  What happened?  Actually, I thought this apparent contradiction between his business and his 'ideas' could not be reconciled in the long run and so it is hard for me to take him too seriously.  I wish he would recognize this too, and resolve to abandon his current business / individualist interests sooner than later, before he is completely swallowed up by the system death machine for his own and our species sake.  'Tomorrow is now and will soon be yesterday'!

I used to follow Jeff Vail's blog a lot too, but I haven't read A Theory of Power.  Vail was a former contributor to The Oil Drum blog, and then started his own, talking about systems theory and his rhizome theories, which it looks like developed into this e-book.  Not sure why, but as Behrouz noted, he hasn't been posting about these topics for a while now.

Looks like a nice summary of the Theory of Power book by Dave Pollard (see Dave's How to Save the World blog) in his review posted at Energy Bulletin here.

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