The idea behind banks is that they lend into business and industry to increase the productive capacity of the economy. Business and industry don’t have to wait until they have the money to expand. They can borrow the money and use it to expand today, and then pay that money back in the future.

The economy can then grow more rapidly than it would without banks. Debt grows with GDP and there are no problems. So far so good.

The Problem with Banks

If you could only move real money inside your bank it would be a problem. You also need to send and receive money from other banks. This banks have their own ledgers and every x hours this ledgers are connected to become consistent: that’s the compensation process, and this is what makes transfers hours and dates. This makes the system so dependent on banks, which charge huge fees, and it doesn’t prevent banks from manipulating ledgers.

When a bank lends money to someone they add a transaction to their won ledger. For X , it expects to get back X + Y, where Y is the interest. Its important to understand that at least a part of X simply does not exist before the transaction takes place. This is how most money is minted and created: using debt.

This is why they have the lender to pay default insurance in addition to interest, and also why the interest rate is supossed to be proportional to the risk the bank is taking. Subprime mortages happen when banks start to lend to people that can’t pay pack the loans.

The Subprime Issue

The banks took that risk because they could, given that the rules where fuzzy. Banks created very sophisticated financial products that repackaged all of those debts and got a good rating from agencies. They called this products collateral debt obligations (CDO).

They could do that because they had the power to do it: the power to create money, to create debt, to turn it into a complex product, and the power to deem this product into a suposedly safe new product. And also the power to hide what those CDOs had inside.

As the Fed kept lowering interest rates, CDOs looked more and more interesting, demanding more bad debts to be repackaged in a vicious cycle triggering more and more subprime mortgages to be signed, with very few people understanding what was going on at the time.

Once households defaulted payments, everything started to collapse in chain, a disaster that started to really unfoold in the fall of 2008 with the fall of Lehman. At that very same time, someone called “Satoshi Nakamoto”  published a whitepaper with the concept and the codebase for a new kind of monetary system. A way to store and transfer value in a 100% digital way.

Bitcoin fails, next crisis

In the actual sytem, value is stored and controlled by centralized bank ledgers, which give the banks basically the power to do whatever they want. For years scientists and engineers have been looking for ways to decentralize this, but it has been very hard. The NSA Bitcoin experiment has been interesting for many reasons (its price is not among them), but it has basically failed in giving people a new form of money.

We are now going to see the dawn of a new system sponsored by central banks, based on CBDCs (Central Banks Digital Currencies). Basically a fiat money scheme on steroids, linked to a social credit system like the one running on China.

How are they going to do it, and the kind of crisis they need to trigger to deploy this tools is a story for some other day.