What are Government Bonds (Fractional Reserve Lending)?
How are paper notes produced?
The ‘Treasury’ (Government) creates a 'promise’ (Bonds) to a Central Bank, which through other banks, turns it into paper notes. This Paper is now a promise whose value is based on the idea that it can be exchanged for goods and services. Because the paper is accepted when exchanging goods and services, people want it (Creating a Demand for the Supply).
Which countries issue government bonds?
How banks increase their profits from Fractional Reserve Lending
These banks can also create Money without them needing to print paper notes. In a process called ’Fractional Reserve Lending’, banks use a percentage of what people have put into their bank account and give it to other clients.
They do this, without decreasing or changing the recorded value of the person’s account (The place) from which they took it from. If the person wants to withdraw from their account, but the bank doesn’t have enough 'Vault Cash’ (Physical paper), the Bank creates 'Bank Credit’, which promises to give back what they removed from their account. This process continues if a business owner, who after receiving a bank loan ( Given by taking a percentage out of someone else’s account), puts what they’ve been given into their own bank account, another percentage may be taken.
This process may repeat, creating more 'Bank Credit’ from what was originally paper notes. Although there is a limit (Reserve Ratio) on how much Bank Credit can be made (Usually 10% or 1%).
How the population pays for the Governments debt
Taxes are given to the Treasury (Government), which then gives it to the bank that printed the paper. Because the Treasury made a 'promise’ with the bank that prints the money (Bonds) to give Principal Plus Interest (A return in value that is bigger than what was originally given).
The bank receives this as payment in exchange for printing the paper notes, because they are it’s only suppliers. The 'promise’ the Treasury (Government) made was that the bank would be paid using its own paper in exchange for printing it.
Through the Treasury, the population provides the bank with paper notes (Taxes), which the bank itself printed. This bank can then use it's own paper currency in exchange for real assets (Goods and services). This is all done on the premise that they are the only ones who can print this physical paper. All the while increasing the amount of their own paper owed to them.
These promises (Bonds), issued by Governments and printed by banks, are valuable because they represent an interest that is to be paid at a later date. The bank which prints money, does so on the condition that it be paid back with the same paper notes it printed, plus interest. Because of this, the bank will always need more paper than it printed, even if it’s just a tiny fraction.
So to summarize, the government gets its paper notes from the bank at an interest. The population pays for its governments debt through taxation, but the paper notes they used to pay it also have a debt attached to them. So it will never be completely paid off.
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