• This article explains how the majority of money in the modern economy is created by commercial banks making loans.
• Money creation in practice differs from some popular conceptions — banks do not act simply as intermediaries, lending out deposits that savers place with them, and nor do they “multiply up” central bank money to create new loans and deposits.
• The amount of money created in the economy ultimately depends on the monetary policy of the central bank. In normal times, this is carried out by setting interest rates. The central bank can also affect the amount of money directly through purchasing assets or “quantitative easing”.
The authors of the Bank of England report remind us that, these days, most settlement of financial transactions involves changing the amounts in personal deposit accounts held in banks. Against popular belief, and textbook economics, these deposits definitely do not fund bank lending.