3.4  Trade credit and bank credit. Dysfunctional identity of money and credit

/58/ With double-entry bookkeeping and the parlance of 'crediting and debiting' for adding to and subtracting from an account, the term credit has contracted a double meaning. For one, it refers to 'have'-entries on account. More specifically, yet, it has the meaning of a loan which is lent by a creditor and borrowed by a debtor. Where overdrafts are allowed, current accounts can be run as debitor accounts as well as creditor accounts. But drawing down an overdraft clearly means borrowing bank money, whereas receiving a payment on current account from another customer current account simply means to receive a 'have'-entry, an amount of digital currency, without being burdened in this act by borrowing and incurring a debt. Perhaps one could refer to this distinction as credit in its general booking sense (crediting-entry), and credit in its specific loan sense. Or put it this way: Loaning implies crediting-entries, but crediting-entries do not necessarily imply loaning. Moreover, bank credit is primary credit – as explained in 2.2 – which can relate not only to a bank loan or overdraft, but also to bank purchases of secured and real assets.

Maybe the different meanings of the word credit are part of semantic irritations between MMT and NCT. So one should be clear, depending on context, in which sense one is using the term. To this end, the following distinctions might be useful. Payments can be made in the settlement of three or four types of transactions:
1.  private transfers (family sharing of income, making gifts, donating, sponsoring)
2.  compulsory transfers prescribed by law or imposed by authorities, such as taxes, fees and fines
3.  real-economic transactions, i.e. purchases and sales of goods and services
4.  financial transactions, i.e. loaning or investing money in financial property titles (loan claims, bonds, equity, real estate) which generate capital income such as interest, dividend, rent or similar; maybe also appreciation of the principal.

/59/ Since we now have an economy based on digital currency on account, the act of crediting and debiting accounts, i.e. transferring have-entries for carrying out payments, applies to all four categories. However, credit in the sense of extending credit and incurring a debt has a different meaning according to category:

As to 1, there is neither credit nor debt involved.
As to 2, no one creates a credit, it is all about having to pay charges imposed.
As to 3, the situation depends on whether payment is carried out promptly or deferred. Everyday purchases in a shop have to be paid instantly at the point of sale. When buyers receive an invoice, a certain payment period is allowed. Long-standing business partners often agree upon a swing, i.e. a ceiling on outstanding payments. This is the age-old practice of running a debt balance. Modern language also calls this taking something 'on credit'. Any judge would agree indeed that the party to whom the money is owed is a creditor, and the party who owes the money is the debtor. But more specifically open invoices in real-economic transactions are called a trade credit, or transaction credit. This might also be called a commodity or exchange credit. Whatever you call it, it is different from financial credit, as in 4.

In the seller's books a trade credit is registered as a crediting-entry in a delivery account. This is a claim on money, not a 'have money'-entry yet. Likewise, the debtors do not have money from this booking entry but have received some commodity or service for which they will have to pay money soon. Neither the creditor nor the debtor can use outstanding payments to make payments to third parties.

A deferred payment is an open claim or liability in real-economic transactions, be this a fiscal transfer (2) or purchase/sale of goods and services (3). This is not the same as financial credit and debt (4) as long as such real-economic debts are not made transferable, for example as special bills of exchange, not for being deposited with a bank in order to obtain money but directly used in lieu of demand deposits (which does not exist so far), or as securitised IOUs which are sold to financial investors and are thus removed from the books in exchange for money on current account (which is a banking practice, but is not used in real-economic transactions either).

/60/ Contemporary actors, private and public alike – and above all the revenue office – have adopted the habit of claiming interest on delayed payments. This is nothing but imposing banking logic onto real-economic claims and liabilities – as if the claimants, had they received a payment promptly, would have on-loaned that money interest-bearingly to someone else, or deposited it longer than overnight in a bank, or invested in stocks and bonds, while in fact they have to make timely payments themselves. An actual justification for claiming interest on delayed payments is when claimants, while waiting to be paid, have to take up interest-bearing bridging loans from banks. This is one of the gateways through which banking logic imposes itself on the real economy.

In any case, in a deferred payment no loaning and borrowing of money is involved. Trade credit actually avoids using money for a certain time. Deferred payment is not about credit creation, it is just about open invoices. Mitchell-Innes, however, over-simplifies and wipes out any differences:

'A sale ... is not the exchange of a commo­dity for some intermediate commodity called the 'medium of exchange', but the exchange of a commodity for a credit. ... By buying we become debtors and by selling we become creditors. ... Money, then, is credit and nothing but credit. A's money is B's debt to him, and when B pays his debt, A's money disappears. This is the whole theory of money. ... We are all both buyers and sellers, so that we are all at the same time both debtors and creditors of each other, and by the wonderfully efficient machinery of the banks to which we sell our credits, and which thus become the clearing houses of commerce.'[1]

Well, real-economic purchases and sales do not create money, but pass money on in exchange for something indeed. The money involved does not disappear upon payment, as bank credit does upon payback, but remains on some current account and in circulation. Nor do we sell our demand deposits to banks. For convenience and disenchantable trust, we accept to hold demand deposits which are backed by central-bank money just to a small fractional extent. We refrain from demanding to be paid out in cash, yes, but this is not 'selling' our have-entries on account to the banks. Banks make out primary credit of their own. To do so, they do not need our deposits (banking liabilities). Instead they need liquid assets, i.e. vault cash and excess reserves. Customers' savings and time deposits do not help fund bank activities but represent inactivated demand deposits, etc. (cf. 2.2).

/61/ As to 4, i.e. financial transactions, this is the realm of financial credit, or bank credit to put it more precisely, as distinct from trade or transaction credit. Here we come back to the distinction between primary credit, which creates demand deposits, and secondary credit, which on-loans or invests existing deposits. Mitchell-Innes confused trade credit and bank credit, and over-interprets trade credit as if delayed real-economic payment would create money or, close to absurdity, payment on the spot would involve credit and debt. Payment actually precludes a debt as it settles an open debt.  

Primary bank credit or central-bank credit, by contrast, through making out loans or purchasing financial assets, actually create deposits which are directly used as digital means of payment or withdrawn as cash. At its source, all money today is non-cash primary credit. Coin is not spent into circulation anymore, just as little as banknotes ever were. All contemporary money is loaned into existence, and a residual amount of cash (i.e. coin and notes) is exchanged out of and back into the original non-cash money supply.

 This, however, is no timeless truth. It applies to the contemporary condition of fractional reserve banking. It did not apply for more than two thousand years when sovereign currency creation and commercial credit creation were two different things apart from one another and the currency entered into circulation as debt-free money, up until around the 1700s. Under today's practices, however, the entire money supply is credited into current accounts, as is also explained by MMT authors. Bank credit and central-bank credit are entered into the books when acquiring some financial asset, in particular when granting loans, hence the semantic near-identity of the terms credit and loan – and the false and dysfunctional banking-doctrinaire identity of money and credit.


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[1] Mitchell-Innes 1913 394|31, 402|42, 391|30.