By: Dr. Akbar In 1969, a court case was filed by First National Bank of Montgomery, Minnesota against Jerome Daly seeking foreclosure of his mortgaged property as he was unable to pay his bank loans back. Jerome Daly pleaded that in actual it was the bank which did not keep its part of the Consideration, as the money which he was provided with did not actually belong to the bank and in fact was created by mere ‘book keeping’ and thus out of thin air.

The bank's president, Lawrence V. Morgan admitted that this was a standard banking practice. Justice Mahoney, upon hearing this concluded that it sounded like fraud to him, the jury agreed and the foreclosure was therefore stalled.

What comes to one mind is how do the banks create money out of thin air? Simple, through the Fractional Reserve Banking. Under this system the banks are required to keep a “Fraction” of their reserves/assets (as per the central bank requirements) and they can lend the rest or monopolize it at will. The State Bank of Pakistan’s fraction requirement presently stands at 15 percent. So this means that if anyone opens an account/Demand Deposit with a bank A of Rs. 1000/- , the bank’s legal obligation would be to keep Rs.150/- or 15% of the total with the Central bank and the rest Rs 850/- would be used by the bank to loan it further on interest or ‘gamble’ with it in the speculative market. If loaned to say person 2 then, at this particular point there are now two people who can lay a claim on the same money. Also the bank assets column will now show Rs.1850/-, creating money ‘out of thin air’.

As if this isn’t absurd enough, say if the Rs. 850/- loaned by the bank A ends up in bank B as a Demand Deposit it will automatically take its place in the bank’s assets column and bank B would be able to loan it further keeping only 15 % of the total amount. Hypothetically, with a 10% reserve requirement the banks can pyramid a maximum of nine times the original amount, that is for every rupee in demand deposits the money supply could be artificially expanded to 9 rupees the just by book keepings, in ratio of

1:9. At 15% reserve requirement the ratio is 1:7.5. At 20 % it is 1:5.

What is seen here is that the Banks not only serve to concentrate wealth in the hands of a few and allows them to do away with it at will but also that at 15 % reserve requirement the banks increase the supply of money up to 7.5 times as would exist in the society without them. At 10 % and 20% reserve requirements this inflationary (due to increased supply of money) potential is 9 times and 5 times respectively. Thus, smaller the reserve requirement the greater the inflationary potential and vice versa. This naturally creates disequilibrium as the supply of goods and services can not keep up, so there is now more money than that previously existed. The purchasing power of the currency thus falls. As money supply is increased to 7.5 times, this would mean that now Rs. 7.5 is deriving value from 1 Rupee. To put it simply a loaf of bread that previously was purchased for 1 rupee will now need 7.5 rupees as the market adjusts to increased money supply. This will hit the poor and people with fixed incomes the most.

Bankers have for long argued against playing any role in creating inflation and fail to consider the potential risks involved, for banking sector has played a major role in creating economic depressions, for every Boom is always followed by a period of correction, the Bust. The longer the governments and banks maneuver to maintain the boom the greater will be the bust. As what go around comes around, increased redemption that would take place with soaring inflation would place banks and thus the society under severe pressure of loan contraction and deflation. When the redemption pressure surpasses a certain level the banks would need a bailout or they will be forced out of business. The credit contraction would severely hamper production, job cuts and unemployment is then rampant as the market corrects itself, this period of trough can last for years and with a predominantly poor society the nation can be easily pushed into a revolution. As Thomas Jefferson puts it, "I sincerely believe... that banking establishments are more dangerous than standing armies, and that the principle of spending money to be paid by posterity under the name of funding is but swindling futurity on a large scale."

Banks are inherently great embezzlers of money as they appropriate it fraudulently to their own use, gamble with the money and the property entrusted to their care in the speculative market, without consent or knowledge of the owner, and reap profits out of usury. Handiworks of the devil from a religious perspective. The State bank would act all too benevolently to bail them out on taxpayer’s money if the need arises. So that puts the people at the receiving end both ways. First the Private banking corporate would inflate and undertake credit expansion diluting the purchasing power of an economy and if they land up in trouble the State bank would readily help them out at the common man’s expense.

It is important to note here that the fragility in this system arises when banks perceive Demand Deposits as Dept to owner rather than safekeeping’s, what it actually should be. Banks engaging in Fractional Reserve at any given time do not have the total amount of reserves and according to Austrian Free Market economists are ‘sitting ducks’ without a central bank behind them. The banks keep ‘fully loaned up’ as per reserve requirements and have thus gambled with people’s money. So should it not be the people to have something mortgaged from the bank in case they fail to show up with their money? After all loans go bad and banks form a centerfold of scams, which would place banks as a liability to its account holders.

Also as cited earlier, it comes to mind as to how in the world can banks demand foreclosure of public property when the loans or money provided by them does not belong to the banks in the first place, the Consideration failure is due onto them from the very beginning. And why is colossal amount of money given to bailout this corrupt institution whereas a fraction is hardly spent to provide relief to a poor farmer? or to a common man? The State patronizing such an unstable and fragile system of banking that has the capability to undermine its economy and take leverage out of the common man is an astounding revelation in its own right. For it must have been from an economic perspective for sure when Iqbal said, ‘this (western) civilization will commit suicide of its own dagger’

Last but not the least is the application of interest/usury, the banks thrive on it; actually suck at it as it forms their primary source of earnings. It entails that this section of the society is privileged enough where it can just reap enormous profits by mere book keeping whereas others have to toil under hardships to meet their ends. Why don’t people themselves keep fully loaned up on their own accounts and expect the fruits of others hard labor for free. But how can anyone morally justify usury? Every religion in the world abhors it and particularly from an Islamic perspective this invokes a declaration of war from Allah and his Messenger (pbuh) upon us, as described in Surah Al-Baqara’h. Yet very conveniently and shamelessly we turn a blind eye towards it for sake of monetary benefits made by the private banking corporate. The Structural banking reforms are thus, the need of time. It is imperative for the government to incrementally increase the Reserve requirement etching up through time towards full. Abrupt changes will expedite the Boom and Bust cycle and put people into misery. Do away with usury. This will levy pressure on productive market and counteract the depression to some extent as the credit contraction occurs due to increasing reserve requirements.

This is not only a religious obligation to set things straight and reforms be made in light of divine guidance from Allah and his Prophet (pbuh) but it is also essentially a national obligation put upon the State by Muhammad Ali Jinnah at the inauguration ceremony of the state bank on July 1st, 1948. He said, “The western world in spite of its advantages, in mechanization and industrial efficacy, is today in a worse mess than ever before in history. The adoption of western economic theory and practice will not help us in achieving our goal of a happy and contended people. We must work out destiny in our own way and present an economic system to the world based on true Islamic concept of equality of manhood and social justice” For long we have been imposed upon a system in complete contradiction with our religious and moral values. Economics should not all be about ruthless profiteering but there has to be just and moral aspect of it as well. This is for the state to ensure.

By: Dr. Akbar

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