Usually a household wishing to own a home must borrow funds from a bank. The household pledges its future earning capability to pay off a mortgage during the home owner’s lifetime. Likewise, a city needs to borrow for public projects like streets, utilities and the airport. That city pledges its earnings from taxes to pay off the loans over its lifetime. But a city’s lifetime is indefinite, so it borrows continuously forever.
It would be nice if a city could use a simple process like a “cash management system” to finance its long-term investments. But like most households, most cities do not have the financial capacity to pay for their long term investments with cash.
Interest typically adds between 30 percent and 40 percent to the costs cities must repay for their borrowing. Wouldn’t it be marvelous if the city of Santa Fe could recover that interest? For a household, the interest goes to the bank’s private owners. For a city borrowing from its own public bank, the interest goes back to the city to benefit the community.
A five-year model for a public bank for Santa Fe considered refinancing $45 million of the city’s existing debt of over $300 million and another $5 million in partnership lending with other financial institutions for affordable housing, small businesses or renewable energy. The model found that such a bank could make a profit of $10.5 million to benefit the public and reduce both the city’s total debt and the amount of its annual debt payments.
Critics of a public bank question how a city can benefit by depositing funds in a bank and borrowing those same funds back while paying bank overhead costs. If that were the case, those critics would be rightfully indignant. However, public bank overhead costs are minimal compared to the costs saved by reducing the number of public projects required to be funded through municipal bonds.
Many people think that banks merely pay a low interest rate on deposits and lend those same deposits at a higher rate to make a profit. This is a misleading oversimplification. A close look at the double-entry accounting of banks tells a different story.
A bank deposit is a liability for the bank that must be repaid to the depositor upon demand. Chartered banks do not lend out deposits. When the city deposits our taxes and fees in a bank, the money is not held in that bank. The money is held electronically in the bank’s asset account at the Federal Reserve Bank. So, the deposit is a promise, or an IOU, that the bank will redeem requests for cash or check withdrawals. Banking regulations allow a bank to issue loans up to several times its core capital. Interest on those loans is the main source of a bank’s income. A public bank returns loan interest to the community it serves.
A loan is an exchange of promises. As a banker explained it, banks book loans on both sides of the balance sheet. The bank has an asset in the borrower’s promissory note to repay the loan and an equal liability in the new deposit. The borrower has a liability in the promissory note and an asset in the new deposit. The new deposit is new money created when the bank issues the loan. A public bank’s profit is returned to the public through the city’s investment in public projects. By investing in a public bank, the city of Santa Fe will be exercising its proper role as a responsible steward of public funds.
Elizabeth Dwyer – Bernalillo
