This is the seventh edition of the Wizards of Money, your money and financial management series… with a twist. My name is Smithy and I’m a Wizard Watcher in the Land of Oz.
Introduction
In this seventh edition of Wizards we are going to take a look at the very intimate and certainly, very troubled, relationship between money and water. We will do this by first navigating our way through a simple model of money flows – which we shall call the Money Cycle. Then we’ll circle through the Water Cycle and remind ourselves of all that stuff we learned in elementary school … plus more of the stuff they didn’t tell us about.
Then we’ll do something you don’t see very much – we’ll highlight the link between money and water by identifying a point on both cycles where they are firmly fixed to each other, and where its easy to see that what’s good for one is normally pretty horrible for the other. Throughout this episode of Wizards we’ll be hearing some water-cycle words of wisdom from Dr Vandana Shiva, Indian scientist and activist, who gave a presentation at the Council of Canadians International Forum on Conservation and Human Rights in June this year. Dr Shiva has a new book coming out called “Water Wars”, which is to be released in February of next year.
The link between profiteering, corporate globalization and damage to the water cycle should be fairly well-known to most people. Coverage of issues such as water contamination, salinization of water supplies, acid rain and ecological damage caused by dams have received widespread attention in recent years. And there is no doubt these phenomena are the result of human activities driven by economic pressures of paying interest on loans and meeting profit expectations of shareholders – that is, this damage has been a consequence of the pressures of contemporary capital and debt markets. Many realize that mainstream economics forgot to factor in the environment and that economics must now change.
What we will focus on in this edition is how much such environmental destruction is actually built right into the fundamental building blocks of the monetary system and their associated capital markets. In fact, as we shall see, this link exists right at the point of money creation.
The link between water and money was selected for this discussion because all of us are made up of about two thirds water, we can’t live without it and, today, water is our most troubled natural resource. Water is shaping up to be the biggest issue of the 21st century so we had better understand very well how money works to disturb the water cycle. If this disturbance involves something fundamental to the mechanics of the monetary system we had better know this too so we can think about, as we discussed in Wizards Part 6, designing more water-friendly monetary systems.
How Money Flows
Recall in Wizards Part 1 that we discussed how you and I don’t just go out and make money when we go to work or sell something. Instead we are just getting a transfer of already existing money from people that have some. Unless these people or companies are a bank then they didn’t make money either – they also got a transfer of some money that already existed. Money, you will recall, is just the other-side, the mirror image, of debt. Money is created by the creation of a corresponding amount of debt. Money, in its most basic and spendable (or liquid) form, is created by banks making loans to the non-bank public.
As we discussed in Wizards Part 1, banks make money up out-of-thin-air by making a loan to a borrower, which also becomes a deposit (or money) to the recipient of these funds (say the seller of a house). So this means that when you come by some money, say from your paycheck or by selling some furniture at your yard sale, this money has already been through some kind of journey to get to you. But at some time, maybe last week, or maybe 50 years ago, it started off as a bank loan or a bank (or Federal Reserve) purchase of some asset. Then it has traveled through many different human interactions of trade to get to you. It is interesting to think about this.
Maybe the money you’re getting today started its life for some purpose you think is quite good. But maybe it started its life as funding for a dam or mining project, and here you are with it today. Maybe it even started off as the funding for that logging project that caused your favorite forest to be clear-cut and which caused you so much distress. That seems like money some of us might not like very much. So we better have a look at exactly what purposes money is being created for and then we’ll have a better idea of the history of the money we are condoning and accepting today.
This is quite easy to do in a few simple steps.
Step 1: Go to the web site of the Federal Deposit Insurance Corporation at http://www.fdic.gov. Go to the link to Historical Statistics on Banking and then go to Commercial Bank Reports. Go to Table CB09, which gives you total assets for Commercial Banks (http://www2.fdic.gov/hsob/hsobRpt.asp). Total assets of commercial banks at year end 2000 are $6.2 trillion dollars. If you also went to the Savings Institutions links on the FDIC website (http://www2.fdic.gov/hsob/hsobRpt.asp) you would see that the Savings Institutions have total year end 2000 assets of $1.2 trillion.
Aside: As an aside here’s an interesting way to look at this data. Adding up the total Commercial Banks and Savings Institution Assets would give a total of $7.4 trillion in bank assets. This is, of course, debt of the non-bank public (that’s us) owed to the banks – this is in the form of mortgage, credit card debt and so-forth. The way that money works this should mean that the total M3 money supply in US dollars (that is the money that we non-banks can use in the trade for all goods and services) should be close to this $7.4 trillion in bank assets. You can check this by going to the Federal Reserve web site at http://www.federalreserve.gov, clicking the link to Research and Data, clicking the link to Statistics, then go to Table H.6 and click the link to money and debt stock measures. Click on Table 1 and look at the M3 money supply column. ( http://www.federalreserve.gov/releases/H6/hist/h6hist1.txt). At the end of 2000, this is $7.2 trillion, which is only 2% off the total bank assets or debt owed by the public to the banks.
Step 2: Let’s just focus on Commercial Banks since that’s where most money (almost 85%) is being created. This total balance sheet of the commercial banks gives us the breakdown of how today’s available bank money was created. We see that $3.8 trillion, or 60% of it, is created as “Loans and Leases”. The rest was created for other assets owned by the banks such as investment securities and bank real estate. So let’s drill down into these “Loans and Leases” since they make up most of the money that’s been created. Go to Commercial Bank table CB11 and you will see a breakdown of how this $3.8 trillion dollars was created. Almost 50% was created for real estate purposes, mostly mortgages for residential and commercial real estate purchases and development. Another 30% is for commercial and industrial project purposes. And most of the rest is loans to individuals, in the form of Credit Card and other personal debt.
Step 3: Combining this information we can see that almost half of the money created by banks comes into existence for some kind of real estate transaction, commercial or industrial project. We can extrapolate and say that about half the money we use today came into existence for the purpose of some kind of alteration to natural land and its associated natural resources. This means the replacement of natural land with some kind of human development.
The US dollar based monetary system as we know it today is heavily dependent for its survival on human alteration of the natural landscape. This provides the key link between money and water.
The Simple Money Cycle Model
Let us build a simple model of the money cycle in our heads for the purposes of discussion. The Wizards of Money web site at www.wizardsofmoney.org has a diagrammatic representation of the Money Cycle we are about to discuss. Similarly it has a diagram of the Water Cycle and of this critical link between the two.
Simple Model: Lets suppose in our simple model that all money is created as real estate loans, either for developers who initially built houses, offices and shopping centers, or for those who end up buying these buildings. Then money cycles around the economy as follows:
Suppose a bank loan first gets made to a developer of 100 units to go out and develop land. They then develop this land enough so that they can sell it at a high enough price that they can both pay the interest of 10 units on that loan to the bank as well as make a profit for their shareholders (say another 10 units). This need to return both interest to the banks and a profit to their shareholders encourages development above and beyond what would result in a zero interest monetary system (similar to those systems we spoke about in Wizards Part 6). Let’s say that the developer spent the 100 units of money he borrowed on some workers to clear the land and at the brick store to buy the bricks for the house.
Let’s say that the workers and the brick-store owner spend all their money (100 units in total) at the Snazzy Furniture Store at the local mall. Snazzy puts this 100 units in its checking account at the same bank.
The developer sells the house to a buyer, which is you, for 120 units. You borrow this full amount of money from the bank in order to buy the house. This money gets put in the developer’s checking account. The developer pays back their 110 (which is the original 100 + 10 interest). The bank makes 10 units in profits which it then distributes to its shareholders, and the developer makes 10 units in profits which it also distributes to its shareholders. These shareholders then spend all their money at the Snazzy Furniture Store which has become very popular. This is also the store where you work at as a salesperson.
So at this point, bank loans total 120 to you, and there is also 120 in checking account money floating around in the economy, which has all purchased goods at the Snazzy Store, and is accounted for in Snazzy’s checking account. Over the next few years you will earn this 120 from your job at the Snazzy store and will be able to pay off your loan. Well…sort of. Let’s not forget that you need to pay interest to the bank as well. So more money must be coming into the system from other places that will enable you to get the total money you need to pay off the loan plus interest.
To keep everything flowing enough money must be coming in, or being created, to enable most people access to enough money to pay off their loans. This is not true for all people, as a certain amount of bankruptcies are built into the system, but you don’t want too many or even a few big bankruptcies as this would threaten confidence in the system which would collapse it. Well, all this means a constant supply of new money must be continuously created, and especially as others are paying off their bank loans, and thus making money “disappear”. Recall that in our simple model we assumed that all money is being created by direct land development or alteration, but in the real world its more like half, though much of the other half is indirectly related to land alteration. So all this means more real estate development or land alteration to create this money to keep things flowing smoothly, keep confidence in it and keep it from collapsing.
In a way then, the money machine is sort of “eating up land” for its own survival. The survival on the monetary system as we know it today depends on land alteration, which in turn disturbs the water cycle.
But whatever is this going to mean for the water cycle? Surely the humans need water more than they need money!
The Market Meets Real Efficiency – Nature’s Water Cycle
Here are some excepts from Dr. Vandana Shiva’s water speech to remind us first about our relationship to water, and second, some simple truths about the water cycle.
Excerpt: Dr Shiva Water Words of Wisdom Part 1 (vs1.wav) – The water cycle is the thing that links us together and Water Profiteers that need to go back to Elementary School.
On the first topic of how the water cycle links us together over space, we must also remember that the water cycle links us together over time, and that it doesn’t just link humans together, it links together all life on earth. Sometimes I like to look at a glass of water and ponder whether some of the molecules might have been sweated out by dinosaurs millions of years ago, and a few others might have been used to refresh a weary statue carrier on Easter Island some 2 thousand years ago. Whatever we do to the water cycle today our dirty fingerprints will be all over whatever the water cycle becomes for future generations. Furthermore the water cycle is so complex, such an intricate piece of Mothers Nature’s handiwork that we barely even understand it. We are still, and always will be, learning more. So we can’t possibly know the consequences of significant human alteration to the water cycle.
On the second topic – the elementary school water cycle lessons – well, on the off chance that there are some water profiteers out there in the audience I drew on my elementary school teaching resources and found this little tune to help us remember the water cycle.
The Water Cycle Song
As we know from Grade 4 classes water evaporates from the ocean, lakes, rivers, and is sweated out by plants and goes to the sky as a gas. Later it falls as rain or snow, gets used by plants and animals – including the humans – and then goes running down hills and mountains to the rivers and sea to start all over again.
Of course this is a huge oversimplification suitable for a 4th grader but it doesn’t much help us grown-ups see all the links between money creation, land alteration and water cycle disturbance. Let’s consider some other parts of the water cycle that will help.
Nature has figured out some excellent ways to moderate the flow of water to manage flood and drought risk and also to clean water so that the waste of one process can get all cleaned up and ready for another process. This all happens through water’s interaction with the land and with the ultimate Central Banker – the Central Banker of Energy, the Sun.
Humans have absolutely no control over the Energy Central Banker. All they can control is the things that store the sun’s energy like plants and animals that eat plants, and also they can go find the sources of other stored solar energy in the form of old squashed dead plants and animals, called oil and coal. All these activities plus all of the human monetary-system driven development of land effect the land on earth, not the Energy Central Banker. So the land is what we focus on in considering the link between the water cycle and the money cycle that forms the basis of our economy.
The way that nature manages flood and drought risk is really through plants and soils which are, of course, the very best of friends – the soils being largely made up of decaying leaves and trees, and the plants needing the soils for food. The soils store lots of the rain as groundwater and they are kept in place by tree roots. Some of this water the trees might like for later when they get a bit thirsty, and other ground water might fall to an underground aquifer or run off slowly into a stream in the watershed.
Having lots of plants and rich soils in a watershed means that when there is lots of rain the ground will soak up lots of the excess water and this will help mitigate flood risk. When it’s been a long time between rains you can rely on the groundwater in the aquifer or the groundwater gradually seeping into a nearby stream to provide a steady flow of water from earlier rains. This helps mitigate drought risk.
As for nature’s water cleansing functions the trees keeping the soils in place prevent excessive amounts of mud, clay, sand and salt from sliding into the stream. The soils and the little microorganisms living in them are very fond of waste products that most other living things would find rather unappetizing. Them and other little critters living in or near the stream often perform water cleaning and filtering functions that help to make the water useable for others. The trees sweat off some water through evapo-transpiration helping to cool the stream area so that all the critters that live there that have an important role in the water cycle can stay at a nice temperature to do all their work.
Having such a water cycle on our planet makes a lot of sense given that gravity would otherwise drain all the water to the salty sea and sea-water is not very drinkable. This whole business of evaporation and rainfall to replenish all living things that need fresh water is quite sensible and, of course, life as we know it would not exist without an efficient water cycle. A prosperous human society cannot exist without an efficient water cycle.
There’s that efficiency word that people would have us believe that only markets can provide. Let’s have a look at this. When the laissez-faire marketeers go on about the efficiency of the market they are talking about what they label as “Pareto Efficiency”. This is a sort of ideal allocation of resources amongst societal members that matches supply to demand within a given set of parameters set by society via the governmental body of the imagined democracy.
But that’s all very confusing isn’t it. Let’s just talk about efficiency in plain language that makes sense intuitively. At the end of the day markets and the monetary system are all about allocating energy amongst the different participants of a society – whether that energy be in the form of labor applied to a raw good to make it into a product, the raw good itself such as food crops, or stored energy such as coal and oil. And we know that all our energy comes from the sun and that only plants know how to capture and store that energy directly.
All these being the processes of Mother Nature they obey what we humans have interpreted to be the natural laws of physics, most especially they obey two important energy laws – the First and Second laws of Thermodynamics – that have never ever found to be violated by any process. Water obeys these natural laws. Money, being a purely human abstraction, does not.
Those put off by what sounds to be complex laws invented by physicists should not be deterred, for these are simple to understand laws of nature that get right to the heart of the conflict between man and nature, and specifically to the conflict between money and water.
The First Law of Thermodynamics is the Law of Conservation of Energy. This says that the amount of energy in the universe is fixed and you can’t create new energy or destroy existing energy. When it comes to the planet Earth, we get new energy to the earth from another source in the universe, called the Sun. Apart from all the energy that we have stored in and on earth and the daily dose of sunlight we have no other energy available to us. This is perhaps the primary reason humans have seen fit to develop markets – that is, to allocate this scarce resource of energy.
If the laws of Thermodynamics had just stopped there, my, what a peaceful world we would have! Under the conservation of energy I could just fill my car with gas, stick a little collector in the exhaust pipe and recycle all the energy I just used and fill my car back up, since I know that energy will be conserved. I’d only ever have to buy one tank of gas in my life. I’d only have to buy one load of electricity to heat my home for my whole life – I’d just recycle everything over and over. Energy companies would go bankrupt, there would be no wars in the Middle East, and the stock market would collapse because no-one could make money from selling energy.
OK – there’s a catch. And that’s the very important Second Law of Thermodynamics. The ENTROPY Law. The law that sits right at the heart of the conflict between man and nature. ENTROPY is a measure of disorder – we shall talk of it in terms of the usefulness of energy. Low entropy means very useful energy. High entropy means quite useless energy – can’t use it for another process, its not organized enough. The Second Law of Themodynamics says that Entropy always Increases as energy is used. Therefore, once you have used all the gas in your tank, even though the driving process left the same amount of energy from the gas in the world, that energy has become pretty useless so that you can’t re-use it. This law then really creates the scarcity of energy and the primary motivation for using markets to allocate it.
The economists tell us that this will be done most efficiently if the conditions of a free market are met. Presumably this means energy will be distributed more efficiently since that ultimately is what the market is distributing. So how does the market deal with the Entropy Law? The answer to that would be … Not at all! While it is true that the Entropy Law contributes greatly to the scarcity that gives rise to the need for markets you will not find the Entropy Law mentioned in mainstream economics textbooks. Modern money and capital markets, and contemporary economics have been built up IGNORING the most fundamental laws of nature.
When it comes to the water cycle it is interesting to consider who runs things most efficiently – the Markets or Mother Nature? Given that the most desirable outcome of the water cycle, even from a human-centered point of view, is a stable, secure flow of clean water one would have to conclude that Mother Nature arranges the most efficient allocation of energy, for, in the natural processes there are no waste products, and solar energy is used to its maximum. Every player in the natural water cycle does some work in the water cycle and various related nutrient cycles and their waste products get used as input into some other process in these cycles. Nothing is wasted and everything fits together to form a whole cycle that has evolved over millions of years and that we are the beneficiaries of today. Nature’s water cycle seems to have taken the Entropy law into consideration and then optimized energy use within this boundary condition.
Enter the Humans and Their Crazy Monetary System
But then the Humans come along with their fears of scarcity, markets and monetary system that ultimately depends on alteration of the land for its survival and for the survival of the markets. But most alterations to the natural landscape then disturb Mother Nature’s maximally energy efficient water cycle in several common ways. These are common things that have happened all across the globe:
- First, deforestation exposes soils and causes soils, sediment and salt to rush into the stream at the next rainfall. You end up with salty water and/or sediment that kills off lots of the plants and critters that had important roles in the water cycle such as water filtration.
- Second, the loss of soil and vegetation, coupled with impervious surface coverage such as roads, car-parks and buildings means that water can no longer seep into the ground as is very important in mitigating flood and drought risk. The frequency of flood and drought increases.
- Human activity in watersheds (real estate, mining, logging, intense farming and so forth) and the loss of filtering systems through the loss of vegetation and soils means more and more pollutants are entering the water sources.
- The practice of building dams either for hydropower or for storing water in a place that doesn’t have enough, and the practice of channeling water to places that don’t have much, has been responsible for massive loss of aquatic life, flooding and drastic alteration to affected watersheds and local water cycles.
Then the market-oriented humans come along and say “Well, now we have a water problem. Let’s use some market mechanisms to fix it.” In fact a lot of the market-oriented people go so far as to say – “Let’s privatize water – that pure market solution will fix everything”. And they say this perhaps forgetting that it was market forces that got us into this problem in the first place.
At this point it’s worth hearing some more Water Words of Wisdom from Dr Vandana Shiva’s Canadian water speech.
Dr Shiva Water Words of Wisdom Part 2 (vs2.wav) – Human alternation of land and saving the water cycle and (vs3.wav) – Water Freedom.
Are these market solutions as efficient as Mother Nature’s way of managing and distributing water? I think not because there is obvious waste in these market solutions. For example in order to clean water that has been polluted by human activities some electricity is needed, and this is extra energy that is simply NOT needed in the natural process. Not only is extra energy needed but there are waste products produced by the human processes, such as extra water treatment chemicals, that cannot be readily absorbed by natural processes and so create waste. Add to this the fact that human alteration of land has increased flood risk and drought risk that then gets adjusted for by all these human constructions – holding ponds, gutters and so forth – adding more and more energy input into the water cycle, that is in turn further disturbing the water cycle through channelizing flow, which causes streambank erosion … and the list goes on.
Surely it would be hard to argue that markets can run the water cycle – that cycle responsible for the stuff of life we so depend on – more efficiently than Mother Nature can. Nature has had the opportunity to develop a most energy efficient water cycle millions more years than the humans have, and we are
after all, creatures of nature ourselves.
All this is not to say that humans should not have markets for other things or should not alter the land. Rather it is to say that humans might build a much better world and more efficient use of energy if they just leave the water cycle up to the master of it. Ultimately this would mean a paradigm shift in the way land is developed so as to retain enough natural features in every watershed to retain Nature’s energy efficient control over the water cycle. Ideally this need to retain essential natural functions would enter into the economy at the point of credit creation, or equivalently money origination.
Banks, Land and Water
Excerpt: Dr Shiva Water Words of Wisdom Part 3 (vs4.wav) – Start off with some reminders about the World Banks relationship to land and water.
So what are the banks and other financial institutions doing about all this? In fact it’s not just the private financial institutions who should be paying attention it’s also their regulators and the central banks.
On this latter point it is interesting to study the composition of the Boards of Directors of the 12 Regional Federal Reserve Banks to see what industries and activities might have the most influence over central banking practices. Interestingly the highest concentrations of representation outside of the bank sector are from the real estate/development industry, and the energy and transportation industries. This is consistent with our earlier observations of what activities really drive the monetary system. You can find a listing of these directors on-line at www.federalreserve.gov, under General Info and List of Directors.
Let us turn our attention to the largest banking conglomerate of all, Citigroup. What are they doing about all these environmental problems? On September 28, 2001 Citigroup issued a press release entitled “Citigroup Selected as Component of Dow Jones Sustainability World Indexes”. The release goes on to say that “Companies included on the DJSI World are … leading their industries by setting standards for best practices and demonstrating superior environmental, social and economic performance.” The article then goes on to mention that Citigroup serves on the steering committee of the United Nations Environment Program or UNEP, and that Citigroup seeks to “manage potential environmental issues … and find financial value in environmentally sound business transactions.” Their statements in this press release are somewhat at odds with their funding of environmentally destructive projects as documented on the citiaction.org web site. Citiaction is a project of the Rainforest Action Network and various other NGOs.
Citigroup and other large international financial conglomerates have been fairly active in UNEP’s Finance Initiatives group established in 1997. You can find more information on this initiative at unepfi.net. The Swiss Bankers Association has also come out with some very nice statements about doing business in an environmentally friendly manner.
While all these nice words from the banking sector might make some sleep more soundly, others might be concerned about leaving monetary system reform up to the bankers themselves. Especially since land alteration pressures lie right at the heart of foundations of our mainstream monetary system.
Unfortunately the approach of the concerned bankers and the various Finance Initiatives groups has been to see everything through profit and money tinted
glasses. They think of environmental problems in terms of dollar cost and often think of solutions in terms of getting more profits in monetary terms. Thus, much work in the field of sustainable economics often gets reduced to converting all natural processes into monetary equivalents. Continuation of this practice could very well lead to a situation where economic sustainability looks great on paper in terms of long term sustainable profits but completely misses the prediction of, say, catastrophic alteration to the water-cycle – increasing flood, drought and contamination risks.
To move from contemporary economics, which has historically ignored natural destruction, and to a more ecologically sensitive “Ecological Economics” we MUST move away from the practice of converting anything and everything to dollars terms in order to analyze them. The necessity for this can be seen in the observation that money is an abstract human invention that doesn’t obey natural laws, but Nature does! For example, when it comes to water, the PRIMARY measure for analysis should be water indicators – say probability of flood, drought, contamination – NOT money. We can also use energy itself as an indicator, since distribution of energy is so much of what our markets are about.
After such analysis, and given that nature is the most efficient user of energy shouldn’t we use natural solutions (preservation, conservation) to complement and mitigate the effects of human development, rather than energy intensive human mitigation efforts. Having established the right balance between human development and natural land features based on purely environmental indicators we can then bring money into the picture based on environmental constraints and not the other way around, as happens today. This approach finally would constrain the monetary system to recognizing the Laws of Nature, which it has never done before. Finally money would begin to respect the Entropy Law, the Second Law of Thermodynamics!
In summary, this would result in fundamental changes to the monetary system itself right at the point of money origination – a much more radical approach than proposed by any of the finance industry dominated groups such as the UNEP Finance Initiatives group. But it is an approach that seems necessary.
That’s all for Wizards of Money Part 7. Please note that Wizards of Money has a web site at www.wizardsofmoney.org where you can find the text of all episodes plus some more references and other information.
