Have you ever heard that money can simply be just printed? That the Federal Reserve, the banks and the government have their fancy meetings and then they just approve it? Then you see those industrialized big printers, and you see a lot of dollar bills being printed out of the blue.
Is that truly the process of how money is created? If you’re wondering if that’s accurate or not just keep reading this.
Let’s talk about money creation, what exactly drives it and if it is really a difficult process to do. In part, there is some truth to the fact that money is being printed out, but in reality, we want to know what exactly is driving it.
How exactly is money created?
Money is created by your demand for it, it’s just as simple as that. It might be hard to believe but just like that. It’s created out of the blue because there’s the demand for it but it wasn’t always this way.
Traditionally, this is how the money or the flow of money was created: For example, a man has $10 and he just wants to put it in the bank. The rates are great, and that’s awesome.
He goes to the bank and says, “Hey, I want to give you my $10,” and that stays there for a certain period. Then there’s a woman that comes into the equation and she comes in and says: “Hey, I want to invest in Real Estate and I need you to lend me $9.” The bank is thinking that they have $10 dollars and they know that there’s a minimum of a reserve that needs to be met.
The reserve is only $1 dollar. Per the Fed, they need to keep $1 in the account but they can borrow $9 to her. She is not only going to have to pay the bank $9 back, but she’s also going to pay an interest. Interest is the key to understand how money is created.
She has the demand now for money. Because she also has to pay the price for it and the price is the interest rate. She needs to create interest. How? That’ll be up to her, whether it’s working and paying out of her pocket or just simply taking that from the rent that she gets to collect in the event that she does rent out the property. That’s the traditional way.
Money Creation: The Role of the Digital World
Things have changed tremendously over the years thanks to technology. Now we live in a very digital world and things can be created very easily, including money. What’s happening today is thanks to the digital world.
The man from the example above saw a property for $200,000, and he loved it, and he wants to buy it. He goes to the bank and says, “Hey I need you to lend me $200,000.” The bank gets creative and they’re thinking, “You know what? I don’t have the money but no problem, I can lend you that money.”
They, thanks to the digital world, create money out of thin air and they issue you a mortgage with an IOU, a promise to pay. The way that works is that now, that man is responsible for creating money because he has to repay not only the mortgage, but he also has to pay interest rates.
How does he pay that money back? That would be entirely up to him. He could either choose to work and pay the mortgage back plus interest out of his pocket or he can just simply choose to collect rent and use the proceeds from that rent to take care of the mortgage and the interest rates.
How money is created: A Certified Check
When was the last time you ever saw anybody bringing cash to the actual closing? Nobody shows up with a bag or a portfolio filled with $200,000 like you see in the movies.
You hear a lot of real estate investors saying “I can close cash” but in reality, it is because that cash is available in the bank account and everything gets transferred in a digital way. If it doesn’t happen in a digital way, at closing, an attorney will show up with a bank certified check and that is the same process.
They collect a piece of paper called a check. They can take a picture or go to their own bank. The seller can either deposit the check with a picture in their phone or just simply go to a bank and deposit that through a teller.
At no point in time the seller ever sees money being delivered to him at closing. Everything is done in a digital way. Money is just created in an instant, just like that for every demand.
If this example is not enough, think about all the stimulus that has been approved recently thanks to the CARES Act. Now money is relatively cheap thanks to the SBA loans. There are a lot of businesses who were in need of that money, therefore this was just created out of the blue.
The businesses can go to a bank and apply for an SBA loan and it gets approved quickly. Same process: They don’t get the cash right away. What they do is that they receive a deposit into their bank account but all of that is digital.
The business. It is the business responsibility to create that money. They create that money by working, by opening up their business again so that way they can have sales. With those proceeds, they will have to make the payment, the repayment back to the SBA and just pay back that loan with interest. That’s in essence how money is created.
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