To “soe” when above, I wrote the words below, I should have added one more phrase to clarify.

“In other words, if you lend your money to the Government (for Treasury Bonds) the Government deposits the money you gave to them into their own bank (it could be any commercial bank). Via the Multiplier Effect, that money is now available for additional lending (subject to Reserve Requirements that cause that commercial bank to hold a “fraction” of the money back from new lending).”

I should have clarified the above by further saying that it does not matter if the Government IMMEDIATELY spends the money it gets from you, or “saves” it in their own bank.

Even if the Government immediately buys something with your money, it would be the case that this spent money that gets deposited by someone else (the Receiver) into a bank —— and now it would be THEN that this spent money that starts up the Multiplier Effect.

Either way, the Multiplier Effect would start to work its evil magic (which of course is More Future Borrowing without corresponding EQUIVALENT Future Saving).

Now, I ask for a little patience while I explain that statement.

Here below is an excerpt, that might help you understand how YOUR savings can be misused to cause more harm by our current Broken Money System.
This is from a Mises Blog entry I wrote a week ago at The Faults of Fractional Reserve Banking at http://mises.org/daily/4880
The actual entry I wrote, on December 30, 2010, was at the Blog for the above article which is at COMMENTS for The Faults of Fractional Reserve Banking which is at http://blog.mises.org/15105/the-faults-of-fractional-reserve-banking/

Let’s do a Thought Experiment…

Imagine The Money System and The Banking System as one really Big System, but a UNITARY system nonetheless.

And let’s say we keep track of transactions on a really big computer, with a really big database. Let’s look at this imagined system as consisting of One Big Bank (OBB).

So, in other words, this is a world bank, The New and Famous “OBB”, One Big Bank, with millions of branches around the world, but it has one common database that keeps track of all pertinent information.

Let’s say I make a deposit into this system from money I earn from goods and services I have created, which were sold to another person.

I take my money to this “OBB”. I deposit it. Let’s assume that my money is so-called Base Money (gold in the old days, but whatever its form, cattle or paper today, let’s say that it was not created via the debt-creation method, but starts its life in a pristine, “untarnished” and “unencumbered” state).

The OBB puts this in their vault (or into their “safeholding” barn if I live in a country where our money consists of cattle).

The OBB staff records this deposit as belonging to me.

If I make a term deposit, the OBB can lend out my money, since I have essentially made an investment contract with the OBB by agreeing to the terms of a Term Deposit — which is what at Term Deposit is.

From this deposit I fully expect some personal return. I also realize that the OBB will take their cut so as to cover the expense of keeping my deposit.

(If I make this deposit as a demand deposit, I may have to agree to subsidize the OBB with a small fee for their trouble, for safekeeping my wealth. This is especially true if we understand Demand Deposits to be residing in the Full-Reserve Part of the OBB, not the Fractional-Reserve Part of the OBB —— remember this is One Big Bank, and it does have many parts, to serve many different customers and their many diverse needs).

For purposes of our Thought Experiment let’s assume I have made a ‘term deposit’.

Now such a ‘system’ —— consisting of one really gigantic single bank, with many, many branches world-wide, as many as the world needs for intermediating its economic transactions —— knows to whom the original money belongs. Don’t forget it has the World’s Biggest Computer And Database System (“WBCADS”).

If this system (the OBB) now finds a borrower to whom my money can be lent, and deposits my money into THAT borrower’s account, the system still knows to whom the original (“base” or unencumbered) money belongs, and who now has temporary custody of the lent (that is, MY) money.

This is to say that there is NO LOSS of Information in this type of imaginary Money System. Since a Money System is essentially an Information System, potential loss of information is a serious matter.

(A side comment: Austrians decry the resulting loss of valid pricing information when Central Banks inflate their currencies and drop interest rates and thereby debase their money, most significantly exactly because of the loss of good information on which Entrepreneurs and other investors base their business investment decisions, thus leading to malinvestments and a harmful series of boom-bust business cycles.)

In fact, even if the first or primary borrower spends the money, since this imaginary system is all-knowing (with only one gigantic database of information that tracks all deposits and loans and expenditures via checks) our World Famous OBB will still be able to differentiate between base money and loan-created money.

The base money (thus far in our scenario) is what I deposited, and — following the money trail — this money, which was spent by the primary borrower was THEN deposited by the receiver of that money into their account. That is, the SECOND Receiver of my lent money has money in their hands that has already been saved, borrowed, and spent ONCE. (No additional saving activity with my base money has occurred in the meantime, other than with my original deposit to the OBB.)

So my money is no longer ‘unencumbered’ —— that is, there was no real saving involved because the borrower simply consumed the proceeds of my money, and gave the money to the person who provided the consumable.

That which was consumed, in a real sense, belongs to me, even though I do not want or need it at this time —— I have ‘deferred’ MY consumption for now. That is my personal “Time Preference” for my money.

In fact ANY money that is in this system that is base, unencumbered money, may be lent out as I have described, with no harm to the rest of the system and its participants. This is because savings so far have matched borrowing. (But on the other hand, if this once-encumbered money is now lent out again, additional Debt or Credit would be created because no saving activity would have been matched to that new lending.)

And this follows from the fact that what I personally created whereby I earned my own ‘base money’ was offered into the marketplace as a good or service to be consumed by someone else who was hopefully using money that was earned by them in a similar fashion.

That is, working and spending the proceeds of such earning is fair and harmless because the participants both equally contributed to the economic system in accordance with what they consumed. We are all just using ‘Money’ in place of a system of barter, except that the intermediation provided by money allows us to slice and dice our purchases (or defer them) the way we all want, in a personally utility-maximizing manner.

So my money was earned by me in creating something of value, for which I had received value (the money), and that money, for the moment assumed to be surplus to my personal needs, was deposited by me in the OBB as a Term Deposit.

When such a utopian system (which is, today, of course non-existent, given our current Fiat Paper Money and FRB, Fractional Reserve Banking, System) “informationally” follows the money that the first borrower spent and which the receiver of that money then deposited in turn into the OBB, such a system recognizes that this money is now ‘encumbered’.

In other words, our utopian example has the INFORMATION to know that money is not all fungible and equally ‘good’ —— it knows which money is ‘primary’ and which is not. (Our Real World Money System, not being based on a Full Reserve Banking System, has lost this information, by this point in the money flow example.)

(Even if we do not have such a system in OUR world, this IMHO does not mean that we should not give it some consideration, should we realistically be able to construct a modified system in a manner that is less harmful than what we are stuck with today.)

The way you know that money is not truly fungible (in an thought experiment anyway) is to replace the money we have been talking about with cattle-money. Cattle cannot be created from thin air —— only so many cattle exist at a given time. And presumably cattle have a marking on them that denotes original ownership.

The encumbered non-primary money that I have described above cannot legitimately and harmlessly be lent out to another potential borrower because there is no saving that supports it —— that is to say, if it is lent out, to be used for consumption, there is nothing in the Economic System that was created, ready to be consumed by this second-class (or second-cycle) money now being proposed to be lent out to, and spent by, a secondary borrower.

So if this ‘encumbered’ money is lent out, and used for spending, then someone in this sequence of events is taking from the system something more than is logically supported by the original saving I did, and which money I put into a Term Deposit. I deferred my spending for my own reasons and this deferral legitimized a lucky borrower who needed to spend right away to spend this money once, but just ONCE, within our Economic System.

The “fraud” then within our current FRB Money System is that money can potentially be saved once, but then spent several times, with no relation to what goods and services are actually being created in our world-wide Economic System.

The “fraud” is not like the frauds of someone like Madoff.
But it is harmful.

Our current real-world FRB system allows this secondary, and tertiary, and so on, borrowing and spending and consumption.

In fact Central Banks exist to ensure that this system can operate with little “loss of confidence”. (Eventually, however, even “confidence” cannot keep such a faulty system running.)

The primary reason that we have Central Banks and Federal Deposit Insurance Corporations, is that otherwise there would be “runs on fractional-reserve banks” every day, since depositors in those banks (that is, lenders to those banks) would never know how much of their money actually is “safe”. With all the phoney non-saving-backed Credit (DEBT) that such a system creates over time, you will always need a ‘Sugar Daddy’ (The FED) to backstop the phoney Credit and to PRINT net-new paper money, when runs on banks threaten to erupt.

(That there is a lot of harm in this system is clear when you realize how much this can go on, until “the piper must be paid” as Ted Turner likes to point out.)

So there are insidious effects over time. And we are living through some of those effects today.
That we have a Money System today that is Broken is clear to most observers —— how or why it is broken is less clear to many those same observers.

How we fix it, will be the measure in this century, of what we as humans can achieve when we put our minds to it.

We should have learned this lesson after the Great Depression. Maybe we will learn it this time around?

There are many ideas on this site and amongst the participants who read and contribute here. All of them should be aired and considered.

We may not go back to commodity based money, but the status quo is also clearly unacceptable, simply because it leads to so many social problems. Our welfare as individuals and as social groupings (families, companies, nations) cannot be well served by the present system for much longer.

Our current system is just too unstable in the type of Economic Growth that it supports over the longer run. Sure it “works” seemingly well for decades. But one day, the cleansing arrives via a truly monstrous Credit Implosion that even Central Banks cannot arrest — other than by debasing paper money so severely that essentially the Purchasing Power Equivalent of all Credit is destroyed anyway. AND then there goes the value of all of our so-called Financial “Assets” (most importantly our Pensions and other Savings, like Life Insurance Policies). In other words, our expected Future Living Standard gets decimated.

A Money System can only really well serve one master and the master it has always best served (and in our own best interests) is the invisible hand of Adam Smith.

When we ask the Money System to convey too much information, by debasing it and distorting the pricing information it normally functions so well with which to pass demand and supply information through our Main Street Economic System, we are asking for trouble.

That most of our political class does not recognize this is a tragedy in the twenty-first century. That most of our economists do not recognize this (other than on sites like this one) is beyond tragedy, beyond words.

We have been lied to, and we live in an Age of Betrayal of Trust, in an Age of Economic Ignorance, and in a Time of Consequentialism and an Age of Expediency.

How much longer we can go on this is anybody’s guess, but I would guess “for not much longer”.

Cheers to “soe” for asking that most important of Economic Questions.