“Yes, you can lend money as many times as you wish, but what interest do you charge for the money?” The cabbie asked.
“Well, I charge whatever I can get. ”
“Which is?”
“In the beginning, it was quite high. There had been no development in the village for years. I checked out the first entrepreneur’s business proposal and saw that his factory, because it would be the first factory to produce whatever it was producing, would make obscene profits. So I adjusted my cut accordingly.”
“What happened then?”
“Well, the second proposal wasn’t that profitable. So I reduced the rate I was going to charge him.”
“And the tenth? Twentieth?”
“Ah! Now I see! Even if I have an infinite amount of money to lend, I cannot lend it all. I am a good banker. I cannot lend to projects that will give, after adjusting for risk, returns of less than…”
“Whatever. Some rate close to zero. You are in The Model village, so you do not pay interest to your depositors. Money does not cost you anything except your salary. So if you had an infinite amount of money, you wouldn’t keep lending for ever. You would lend only till you exhausted the credit in the economy.”
Arjun Banker now understood. “You have opened my eyes!” He told the cabbie, and bowed. “When I was indulging in fractional reserve banking, I was not creating money. I was monetizing credit.”
“Yes you were. Incidentally, where is the gold? Is it still locked up in the vault?”
“Actually, I don’t know. The Panchayat president is absconding. I’ve kept this news quiet because I did not want to set off a panic. Without his key, the gold will turn into lead.”
“But do you see that it does not really matter? The money that The Model villagers held was backed, not by gold, but by the factories and businesses that your loans were financing. You were merely the instrument that identified the productive capacity of the economy. When they held money, they owned a share of the future prosperity of the village, even when they can not redeem the money with gold. ”
“I now do, oh Cabbie! ”
“So Arjun, do not fret about creating infinite amounts of money. Pick up your cellphone and go forth and lend!”
“But wait…” said Arjun Banker.
[...] Part II [...]