“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. ”
“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?”
Long long ago, nestled among the mountains, there was a village perfectly isolated from the rest of civilization. Its inhabitants led a hand to mouth existence. Because this village always behaved according to our macroeconomic models, it was called “The Model”.
Now, in The Model, villagers used gold coins, and only gold coins for trading. They used gold for nothing else. The total number of gold coins in The Model was fixed.
But gold coins were cumbersome to lug around and exchange with each other. So one day, a wise villager named Arjun Banker (or AB for short) made them an offer. He told them to deposit all their gold coins with him. He would maintain their titles to the gold coins. Whenever they wished to make a transaction, they could inform him and he would transfer the titles to the gold as needed.
I am writing a series of posts that will tell you everything you need about the banking system and about how money works. It will be simple to understand because I am not a real economist. First post will be up on Monday morning.