The Criticism of Money Base Multiplier Theory and Some Macroeconomic Implications of Credit Creation Theory of Banking

Document Type : Original Article

Authors

1 Professor of Economics, Faculty of Economics, Allameh Tabataba’i University, Tehran, Iran

2 Ph.D Candidate in Economics, Faculty of Economics, Allameh Tabataba’i University, Tehran, Iran

Abstract

The debate between supporters of the “Bank’s Credit Creation Theory” and the “Money Base Multiplier Theory” on banks money creation began in the 1920s and before the 2007-2008 financial crisis, which ended with the prevailing of the Money Base Multiplier Theory. But after the financial crisis, many central banks, international financial institutions, and prominent economists acknowledged that the story of the Money Base Multiplier Theory in the intermediary of each bank and the way banking system creates money is wrong. Because of misunderstanding of the banking nature and the process of banking money creation, the financial crisis of the last decade has shown that it was not only a crisis in the economy, but it was also a crisis for economics. The fact that each bank can and does create money (the Credit Creation Theory of Banking) reverses some macroeconomic theories. This paper uses the analytical-descriptive method and the accounting analysis to explain the incorrect reasons of the money base multiplier theory. Eventually, some main macroeconomic implications of credit creation theory of banking such as interest rate, saving and investment are expressed.

Keywords

References

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Journal of Economics and Modelling
Volume 11, Issue 2 - Serial Number 42
September 2020
Pages 65-96

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