Banks create money (but only to a point): The ‘payments perspective’

Abstract

This paper discusses the power of commercialbanks to create money. After reviewing the relevantliterature, including the latest contributionson the topic, the paper takes a new ‘payments perspective’to the issue and investigates how the rolethat banks play in payment systems affects theway they create money. Through this new perspective,the paper analyses how banks’ payment obligationsand the rules governing their settlementdetermine (and constrain) the extent to whicheach bank can exercise its power to create money.The paper also analyses how electronic moniesand central bank digital currencies may impact thecreation of money by banks. Aside from contributingto the understanding of the critical topic ofmoney creation, the paper’s ‘payments perspective’explains the uniqueness of banks, even in today’sfast-evolving FinTech world, and provides a keyto understand the impact of FinTech on moneyand credit supply in contemporary economies.More broadly, the paper underscores the relevanceof payment system analysis for macroeconomictheory and practice, pointing to the need to betterintegrate the two disciplines.