The Other I

August 22, 2011

Other People’s Money

Filed under: The Economy: a Neophyte's View — theotheri @ 3:52 pm

OPM – other people’s money – is at the heart of working capitalism.  That’s why we need banks.  And that is why governments moved heaven and earth in 2008 to keep them from collapsing throughout the western world.

Many of us have benefited from using other people’s money by taking out a mortgage.  Some of us have been able to build businesses with the help of bank loans or other people’s money.

What very few of us have appreciated though is exactly how much business throughout the world has expanded and runs on OPM.  Because the thing about OPM is that it can be used – and even in some sense legally owned – at the same time by 2 or 3 or 4 or 5 different sources.

I take out a mortgage, for instance, with a great deal of other people’s money to buy my house.  I now possess all the rights of a legal owner – I can sell it, I can renovate it, rent it, live in it – as long as I repay a small amount of the mortgage each month.   This is true even though the money that the bank gave me is money depositors have placed for safe keeping with the bank, and which those depositors may, at any given time, legally take back out of the bank.  Meanwhile, the seller of the house, perhaps a builder, to whom the money lent to me by the bank was given, has quite possibly used it as a partial payment to take out a business loan in order to build another house.  And on yet a further development, banks now often package the mortgages and other loans they have made which they sell to investors who then receive part of the interest paid by the people repaying the loans on a monthly basis.  And so on.

In just this small example, the same money is being used simultaneously by at least four different sources.  So well-run, secure banks expand the amount of working capital available to build businesses, to build roads and houses and schools, to fund everything from care homes to wars and space exploration.

Banks all over the world operate on the assumption that not all its depositors will want all their money back at the same time.  If they do, there is a run on the bank and they eventually collapse.   Economies can withstand the isolated collapse of even a very big international bank.  But the widespread collapse of banks will destroy functioning capitalism.

Because although we each individually – if we are lucky –  may still have our jobs, the major multiplier of money will have become defunct.   And actually, many of us may not even be able to hold onto our jobs.  Look at how many jobs have been lost to the building industry, for instance, because it is so much harder for people to get a mortgage than it was five years ago.  And then job losses cascade like rows of falling dominoes.

That’s why, however much one may hate the greediness of the bankers and wish them no good at all, we cannot let those banks go to the wall.

That is part of the explanation for the answer given by Nouriel Roubini, the  economist who was one of the few to predict the banking collapse three years ago, when he was asked if capitalism was doomed.  “Possibly,”  he said.


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