- I thoroughly share Oliver Heydorn's concern for the way
in which the debt-finance system oppresses many. Indeed, my research has
been on how the irresponsible use of debt created economic chaos in Ecuador.
Nevertheless, I think that three main points of criticism can be pointed
out from an economist's perspective: on the nature of fractional reserve
banking, on the sufficiency of money supply relative to output, and on
Social Credit itself.
- First criticism:
- Martinez: First, Mr. Heydorn rightly points out that
the banking system creates money by the process of lending. This is the
process: Smith takes his $100 to a bank. The bank lends $90 of it out to
Jones. Jones takes the $90 and with it he opens a new bank account. Result:
you have a total of $190. And so on.
- Dick Eastman reply: Smith takes $100 dollars from his
mattress or from sale of a bond to the Fed and deposits it. But that bank
won't have the deposit for long as Smith will be spending it soon. But
no matter, the check will be in some checking account at all times until
someone withdraws the 100 and puts it once more in a mattress. However
the banking system will have the 100 added to reserves upon which 90 can
be loaned -- a new deposit, against which 90 percent can be loaned by the
system -- which will again be spent but will raise the reserve level of
the system by 90 and so on. Yes, that is how fractional banking - and the
money multiplier works.
- Martinez: Out of this $190, the original $100 in cash
is "true" paper money while the $90 is just credit money.
- Dick Eastman reply: No the $100 does not have to be a
Fed reserve note. The Fed can just credit an account upon the sale of
a bond to the Fed by Smith.
- Martinez: Can a bank charge interest on credit money?
Mr. Heydorn argues that it can't, because credit money is created ex nihilo,
without any cost.
- Dick Eastman reply: All money is credit money and interest
is charged on it. Mr. Heydorn sounds like a gold-standard libertarian.
- Martinez: "The problem with the fractional reserve
system is that although it cost the financiers little or nothing to create
this new money, they nevertheless insist on interest payments.... [T]he
loan is not the product of a cost-generating process."
- Dick Eastman reply: No the problem of the fractional
reserve system is over-indebtedness and chronic deflation because the financial
sector is lending this new money but all of that money must be paid back
plus interest -- the end result must be deflation.
- Martinez: We can infer that Mr. Heydorn has never worked
at a bank. Indeed, we ought to infer that he has never applied for a car
loan or a mortgage. Anyone who has experienced the loan process (on either
side) can testify that considerable work and effort goes into making a
loan (from identifying a suitable loan candidate, to presenting attractive
offices, to persecuting delinquent debtors, etc.)
- Dick Eastman reply: This is usually true about loans
-- but the problem is that even good loans to a well qualified borrower
become bad loans under deflation and when in response to deflation the
banks liquidate loans because of non-payment and pessimism due to the deflation
- Martinez: Moreover, loans are not created ex nihilo.
Consider what would happen if Smith withdrew his $100 from the bank. The
bank would be forced to call in Jones's $90 loan. That is, banks need deposits
to make loans.
- Dick Eastman reply: The fact that calls on loans operate
the money multiplier in reverse -- monetary contraction and deflation
-- does not change the fact that the money multiplier that works because
of fractional reserve banking is indeed money created "out of nothing"
- a multiple of the original deposit.
- Martinez: Bank employees can testify to the enormous
effort that goes into getting people to trust a bank with their money.
If Jones gets $90, it is only because Murphy spent endless hours making
the bank attractive to depositors (which, incidentally, includes persecuting
- Dick Eastman reply: You mean charging a woman $35 for
each of five NSF checks because she ran out of diapers before pay day and
wrote a check for some -- and the bank cashes the biggest checks first
so there will be a lot of little checks going NSF rather than processing
the big check last so that only one check goes NSF. Yes this is a lot
of work for the poor banker -- but it is not work "creating money"
-- the money is still created by the banking system at no cost.
- Martinez: People are often happy to receive loans. For
instance, students are very happy not to have to pay college tuition right
away; they can cover their tuition with loans. Where does that money come
from? It comes from the effort of the bank employee and the trust of the
depositor. I believe that that effort (and risk-taking) and that trust
- Dick Eastman reply: That's it? Where is the argument
against social credit? Is this man so stupid? Does he think his students
are that stupid? The argument is empty nonsense.
- Second criticism:
- Martinez: "Whenever a banker creates a loan and
demands to be paid back with interest, he only introduces the principal
into the monetary supply; he does not introduce any money to cover the
interest payments which may, in the long run, amount to more than the principal
itself. The result is that under the current financial set-up there is
a chronic lack of money that artificially limits both production and consumption."
- Dick Eastman reply: Now Heydorn is making sense. Let's
see what Martinez says.
- Martinez: If this were true, then countries with extensive
financial systems would be chronically poor and financially strangled,
while countries with not much banking would be models of stability and
prosperity. The evidence proves the opposite.
- Dick Eastman reply: More precisely those countries with
a lot of debt outstanding would tend household and business sector poverty
because of deflation. The deflation would lead to businss loss and bankruptcy
and foreclosure on homes -- the assets - collateral -- would go to the
creditors, and the borrowers would lose everything. After liquidation (transfer
of all collateral to the lenders) then new loans will again be made. The
new loans are stimulus until the interest payments and principal payment
as leakages begins to overwhelm the stimulus as injection. Deflation is
back, and once again the financial sector gets the factory and homes (which
become rental properties) in which the financiers had no hand in building.
- Martinez: The reason that Mr. Heydorn's argument seems
plausible is that we are used to thinking of an economy in fixed, static
terms. But the economy is dynamic. Loans are used to finance productive
investment, which in turn increases output.
- Dick Eastman reply: No, actually the above socialc credit
analysis is the dynamic one -- there is no equilibrium -- the tendency
is always towards deflation, which is only countered by new big borrowing,
which only sets up bigger interest payments and more loan principal to
retire - leakages again after an interval overpowering injections -- until
a war or a bailout that is debt financed buys another short period of being
ahead of deflation -- but deflation is never really escaped, just postponed
for a while.
- Martinez: The profits of successful investment pay for
the interest and the principal.
- Dick Eastman reply: Actually no. Profits do not grow
like compound interest. A new machine starts to ware out the minute it
is completed. Or its function is no longer in demand. The compound interest
grows indefinitely and geometrically. But we see that there is chronic
deflation - so the consumers cannot buy what is produced -- profitability
and success does not happen -- without the fix of an emergency stimulus
(like war expenditure) which is debt financed. If it were not for the
drain of interest as well as of principal, there would be enough money
for producers to sell their wares tot he domestic economy -- the payments
to factors would be enough to pay the costs of production that go into
the price of the finished product. But not so when selling price must
also include payments for financing.
- Martinez: Central Banks, in turn, are permanently in
the business of making sure that they print enough bills (which get multiplied
by the fractional reserve system) to match the growth of the economy. (Technically,
central banks set money-supply growth on the basis the predicted output
- Dick Eastman reply: While they may put more cash in
the system at Christmas time -- generally there is a chronic shortage of
purchasing power which is causing the bankrupticies and unemployment.
There is no way that there is enough purchasing power so that household
demand can pull the economy up. That is why social credit is necessary.
This notion that the Fed predicts economic growth and then matches the
money supply to meet the need is the biggest fantasy and joke yet. It is
the chronic lack of purchsing power that is sought by the Fed, -- because
deflation means the value of bond portfolios increases. Deflation means
debt burden grows. In the great depression lots of debt was liquidated,
but because of drastic deflation the purchasing power of each dollar that
must be paid back grew so much that the real burden of debt actually increased
-- the liquidation failed to liquidate. Martinis is a public relations
man who -- to keep a job in this economy -- is willing to tell people any
lie -- even lies he cannot get away with like the banks providing money
supply according to needs. Remember - when there is deflation those holding
bond wealth become richer. Those who are debtors must repay in dollars
worth more than the dollars they originally borrowed -- the debtor has
to work harder to get those dollars than the dollars that were originally
borrowed -- due to deflation.
- Third criticism:
- Martinez: "Instead, a National Credit Office would
be charged with the responsibility of ensuring that the money supply is
always equal to the productive capacity of the economy, in such a way that
purchasing power is sufficient to liquidate supply.
- [We've already argued that Central Banks regularly do
- Dick Eastman reply: You argued all right, but you didn't
demonstrate or prove. In fact you are wrong. When there is a shortage
of purchasing power and the result is deflation and recession -- the banks
do not replenish purchasing power among the household and business sectors
-- they put out a flow of loans injected intothe economy but over time
they have taken out of circulation principal equal to those loans plus
interest. The system leads to deflation, defalut and a transfer of real
assets from debtors to creditors -- creditors who made loans that were
backed by the borrowers collateral and which cost the bank next to nothing
- Martinez: quoting H: "[This money] would be introduced
into the economy debt and interest free. Some of this new money would be
used to finance government expenditure on health, education, infrastructure,
defense and so on (thus eliminating the need for taxes); some of it would
be distributed to each citizen in the form of a social dividend that would
guarantee everyone a minimal revenue (thus eliminating destitution and
the more severe forms of poverty); and some of it would be used to finance
the retail sector while lowering the prices of goods and services for consumers
(thus allowing for the recalibration of the whole system and the prevention
- Dick Eastman reply: Yes, the above paragraph describes
some fo the benefit of switching to the social credit system.
- Martinez: This sounds very nice, but it is based on
an equivocation. Money is not wealth, at least not how economists define
it. When I say, "Sally has a lot of money," I may mean lots of
real estate, yachts, stock holdings, or cash. But when an economist says,
"Sally has a lot of money," he only means cash or deposits.
- Dick Eastman reply: Money is an asset, and a highly speculative
one these days. It is held for a variety of reasons. However real wealth
is a bond, because bonds pay interest -- it earns.
- Martinez: Now, let's say that Mr. Heydorn (and his source,
Scottish engineer C.H. Douglas) are thinking of distributing wealth for
free. We have such a system in place already, in the form of unemployment
benefits and farm subsidies. But to actually plan to sustain the entire
economy on the basis of freely (and centrally) produced wealth implies
that goods and services can be produced without cost. Reminder: There ain't
no such thing as a free lunch. It also implies the elimination of personal
responsibility and the collectivization of economic initiative. Not very
- Dick Eastman reply: Actually, the finacial sector has
imposed deflation (though calling loans to liquidate debt outstanding)
which causes sound businesses to become unsound. A few bankers have the
power to stop the entire economy. Martinez doesn't realize that there
are plenty of people willing to work and plenty of resources for production
and plenty of entrepreneurs and engineers to get the work done in a cost
effective way -- but what is lacking, what is causing recession is the
financial sector -- the scarcity of M1 money. And yes, the creditors are
getting a free lunch by this deflation. The interest dollars they are
collecting are worth more than the dollars they loaned to the borrower
- Martinez: Maybe Messrs. Heydorn and Douglas actually
meant distributing money for free. Let's think technically for a bit. Prices
are proportional to the ratio of the available money (cash and deposits)
divided by the amount of goods and services available. This will become
clear if we think that money is used to buy goods and services. Then, if
there is more money (cash and deposits), that ratio has to rise: i.e.,
prices will have to rise.
- Dick Eastman reply: Martinez is arguing that if the
society makes an economic pie and pays dollars to those who baked it which
dollars can be spent in buying the pie -- then the dollars spent will be
enough to buy all the pie. However if the bakery and ingredients required
a business loan then not only must the loand be paid back, but the interest
on the loan as well. That interest will be money that will not be going
to buy pie. Thre will be unsold pie -- unless the price per slice goes
up or else the size of a slice of pie a dollar will buy goes down. Unsold
inventories will mean layoffs in pie production. Less pie. Falling standard
of living. Martinez believes in the naive Say's law -- but supply does
not call forth its own demand under usury -- because interest is withheld
and not spent on pie. The recession means that investment in new production
will not be profitable and will not happen. The interest earnings of the
financial sector are not invested in a recessionary/ deflationary market
environment -- just as tax cuts for the rich are not invested. The only
way to end this problem is with social credit putting spending power free
and clear into the hands of households. Let the household sector be the
only source of new money.
- Martinez: Imagine financing the government, the citizen,
and the retail sector (which is not formed by citizens, I assume) by constant
costless, unbacked money creation: the result is economic chaos.
- Dick Eastman reply: Backing does nothing but inflict
a new cost. Gold backing is merely an engine for deflation. Gold serves
the debt slavery system. Credit expansion and contraction are both possible
and are both historical problems under the gold system. Having ample purchasing
power to keep businesses going and to prevent houses from being forclosed
-- is not wasted money -- it is in fact the best that one can do to strengthen
the household and business sectors which have been robbed blind by deflationary
recessions leading to the elite buying up the all in distressed seller
- Martinez: Indeed, this is the experience of many countries
that tried to finance government expenditures by monetary creation: Germany,
Hungary, Argentina, Brazil, Ecuador... the list goes on. Rapid monetary
creation leads to inflation, which (by a familiar economic process, known
as the Oliviera-Tanzi effect) leads to reduced government revenues, a higher
deficit, and a need for more money cre-ation...
- Dick Eastman reply: Actually these hyperinflations were
caused by central banks deliberately stealing the savings of the middle
class. Once the savings of the middle class are diluted out of existence
-- Germany in 1923 or the US in 1979 then the money power switches to
tight money policy -- as the printing press gives money to the friends
of the financiers. But this is not social credit. These hyperinflations
occured under gold standards and by people opposed to the social credit
type reforms that would have made such theft (of savings) by inflation
followed by theft (of earnings) by deflation tht requires the borrower
to work harder for each dollar he must pay in interest and principal to
- Hyperinflaiton never happens without the explicit concent
and effecting hand of the banking system. It is always a deliberate policy
to degrade the middle class in advance of a monetary contraction in which
all assets devolve into the possession fo the creditors.
- Martinez: Often "hyperinflation" leads to
massive social and economic disruption. Think of Nazi Germany following
the German hyperinflation; think of Ecuador having to abolish its national
currency and replace it with trustworthy, and scarce, American dollars.
- Dick Eastman reply: But Germany did nto have socialc
credit. Their money supply was in the hands of financiers -- especially
the victors of WWI.
- Martinez: In closing, a quote from well-known economist
J.K. Galbraith is appropriate:
- "Over all history, money has oppressed people in
one of two ways: either it has been abundant and very unreliable, or reliable
and very scarce." n
- Dick Eastman reply: Social Credit is the exception,
when it is tried.
- The financiers have made deliberate recessions by contracting
the money supply -- by doing the opposite of what social credit does.
1836, 1893, 1929 and the first decade of the 21st century were man made
crashes and depressions. Only social credit takes the power of making
new money and destroying money out of the hands of hostile international
- Dr. Martinez teaches economics at AMC.