THE Global Justice Movement Website

THE Global Justice Movement Website
This is the "Global Justice Movement" (dot org) we refer to in the title of this blog.

Wednesday, March 1, 2023

What is the “Banking Principle”?

Frequently, we have made the statement that, where the so-called mainstream schools of economics (the Keynesian, Monetarist/Chicago, and the Austrian) are based on the “Currency Principle” and belong to the “Currency School,” the binary economic of Louis Kelso is based on the “Banking Principle” and belongs to the “Banking School.”  What does this mean?

Louis O. Kelso


First, we need to know the difference between the Currency Principle and the Banking Principle.  Most simply put, the Currency Principle is that the amount of money in the economy determines economic activity, while the Banking Principle is that economic activity determines the amount of money in the economy.

Whether we use the Currency Principle, or the Banking Principle affects how we understand something called “the Quantity Theory of Money Equation.”  This is,

M x V = P x Q

where M is the quantity of money, V is the “velocity” of money or the average number of times each unit of currency is spent in a year, P is the price level, and Q is the number of transactions.


Georg Friedrich Knapp

Thus, if the Currency Principle is valid, then fiddling with or manipulating the money supply, whether increasing or decreasing the money supply, changing the value of the currency, or even changing the meaning or definition of money in an effort to bring about desired results.

Currency Principle economic policy varies from the extreme of defining money, setting the quantity, and leaving it alone (Austrian or capitalist), the moderate position of attempting to match the quantity of money to the level of economic activity (Chicago/Monetarist or “mixed economy), to the opposite extreme of “Chartalism,” Georg Friedrich Knapp’s “State Theory of Money,” which reaches its highest form of development in the economics of John Maynard Keynes and socialism.

In mathematical terms expressed in the Quantity Theory of Money Equation, Currency Principle schools mandate different policy prescriptions:

·      Austrian: Leave the money supply alone and treat M as a constant both with respect to value and amount.

·      Monetarist/Chicago: Keep an eye on the economy to equalize the money supply and economic activity by holding the value of money constant but changing the amount.

·      Keynesian: Constantly manipulate money with respect to both value and quantity to achieve desired results, whether full employment, low inflation, or reelection.

John Maynard Keynes


The driving idea behind all Currency Principle schools of economics is that money is a commodity and necessarily comes before economic activity.  All economic activity, whether production, distribution, or consumption, absolutely requires that money pre-exist all forms of economic activity.  Production, distribution, and consumption all derive from money.

In contrast, a Banking Principle school of economics assumes as a given that economic activity necessarily precedes money, not the other way around as Currency Principle schools of economics insist.  Under the Banking Principle, money derives from economic activity, not the other way around.

In binary economics, the only Banking Principle school of economics of which we have any knowledge, money is a way of measuring economic values and activity, it does not create them.  In binary economics, it is as baffling to say that you must have X amount of money created before you can do thus-and-so as to say you need so many inches before a thing can have length.  As Louis Kelso explained,

Money is not a part of the visible sector of the economy. People do not consume money. Money is not a physical factor of production, but rather a yardstick for measuring economic input, economic outtake and the relative values of the real goods and services of the economic world. Money provides a method of measuring obligations, rights, powers and privileges. It provides a means whereby certain individuals can accumulate claims against others, or against the economy as a whole, or against many economies. It is a system of symbols that many economists substitute for the visible sector and its productive enterprises, goods and services, thereby losing sight of the fact that a monetary system is a part only of the invisible sector of the economy, and that its adequacy can only be measured by its effect upon the visible sector. (Louis O. Kelso and Patricia Hetter, Two-Factor Theory: The Economics of Reality. New York: Random House, 1967, 54-55.)

Jean-Baptiste Say


In contrast to Currency Principle schools of economics which take money as a given and economic activity as the derivative of money, Banking Principle schools of economics, meaning at present only binary economics, assume as a fundamental principle that money derives from production, not the other way around.

This point cannot be sufficiently stressed, if only because under prevailing Keynesian theory, people assume money must exist before anything can happen.  They will nod and smile and agree with the Just Third Way of Economic Personalism and say how great it would be . . . and then demonstrate they did not understand one of the most important and fundamental principles by saying, “But where will you get the money?” or commenting in reference to the current political and financial elite, “They will never allow it.”

Either statement (and the infinite variations thereon) are a clear indication that the speaker completely missed the point: that “money” is not the problem that people have turned it into.  Consistent with Say’s Law of Markets, and given a modern commercial/mercantile and central banking system, anything of value can be turned into money, and used to facilitate economic activity:

·      Existing inventories of goods for which there is insufficient money in the economy to clear can be turned into money by “pre-selling” or mortgaging the goods and redeeming the mortgage) and cancelling the money) when the goods are sold.

·      Future production can be financed by “discounting” the future value of as-yet unproduced marketable goods and services to their present value and using such new money to finance the future production, cancelling the money once the production has been sold.

·      Consumption can be financed by producing something and selling it.

It is completely unnecessary to rely on the existing accumulations of the currently wealthy to finance economic activity.  They may keep what they have intact or spend it as they please; they need not fear redistribution, coercive or otherwise.  Banking Principle economics has the potential to fiancé all economic activity without the use of any past savings whatsoever.

That is why the Just Third Way of Economic personalism as applied in the Economic Democracy Act is not merely a proposal for widespread capital ownership, a limited economic role for the State, free and open markets, and the restoration of the rights of private property, but also a reform of the monetary and tax system to make those goals achievable.