In any economy, the real sector is the engine of growth, development, and job creation. However, to perform its role in an optimal manner, it needs an adequate supply of financial instruments that allows people and enterprises to save and borrow money, and buy insurance.
Why are banks so important?
A bank’s most important role may be matching up creditors and borrowers, but banks are also essential to the domestic and international payments system—and they create money. Here too banks play a central role. They process payments, from the tiniest of personal checks to large-value electronic payments between banks.
Why is Bank needed?
Banks lend money by making advances to customers on current accounts, by making installment loans, and by investing in marketable debt securities and other forms of money lending. Banks provide different payment services, and a bank account is considered indispensable by most businesses and individuals.
Where does the money go in a debt based economy?
Plus all that debt has to be paid back to the banks with interest. The interest payments don’t extinguish money from the supply—that money goes into the banks’ own coffers where it can be used by the banks to pay salaries and other expenses, so it may continue circulating in the economy.
How does the money supply affect the economy?
The money supply increases when banks make loans and decreases when borrowers pay principal back to the banks. So if the economy is chugging along happily on a $10 trillion money supply, all that has to happen to strangle it is for people to stop borrowing and start paying down debt, or for banks to stop lending.
How does the stock market affect the economy?
During both rounds, stock prices rose sharply. Higher stock prices make people richer (so long as they remain high, at least); and when people are richer they spend more money. That spending supports the economy and it creates jobs and it generates tax revenues, which reduce the government’s budget deficit. So, what’s not to like?
What happens to the money supply when people stop borrowing?
So if the economy is chugging along happily on a $10 trillion money supply, all that has to happen to strangle it is for people to stop borrowing and start paying down debt, or for banks to stop lending. The supply of money is completely at the mercy of the bank lending system. Like this:
