Money & Finance

Content…

How money is created in Australia: Money is not created just by printing notes. The RBA issues physical currency, but the majority of money exists digitally within the banking system. New money enters the economy when banks create loans or when the RBA buys assets in financial markets using newly created funds.

Physical cash, digital money and credit: Cash refers to notes and coins, which make up only around three to four percent of money in circulation. Digital deposits are the account balances held at banks, largely created through lending. Credit represents borrowed purchasing power that temporarily increases the money supply while the loan is outstanding.

Fractional reserve banking: Banks keep only a fraction of customer deposits as reserves and lend out the rest. When a bank issues a $500,000 home loan, it typically does not transfer existing deposits; it credits the borrower’s account, effectively creating new digital money.

COVID stimulus example: During the pandemic, the RBA created new money electronically to buy government bonds and provide cheap funding to banks. At the same time, the government injected billions into the economy through stimulus payments. This spending was enabled by central bank operations rather than drawing from a fixed pile of physical cash in a vault.

RBA’s role: The RBA manages monetary policy, sets key interest rates, and works to maintain the stability of the financial system. Through these levers it influences both the supply and the cost of money in the Australian economy.

Effect of interest rate decisions: Higher interest rates make mortgages and other loans more expensive, but increase returns on savings. Lower rates reduce borrowing costs and encourage spending and investment, but typically weaken the interest earned on cash and deposits.

Why cash rate announcements matter: The cash rate is the benchmark for most borrowing costs in the economy. Banks, businesses, investors and households all adjust their decisions and expectations based on what they think the RBA will do with this rate.

Quantitative easing (QE): Under QE, the RBA buys large quantities of government bonds using newly created money. This lowers longer-term interest rates, injects liquidity into financial markets, and supports lending. QE was used extensively during COVID to stabilise markets and support economic activity.

Why government issues bonds: Governments issue bonds to fund spending without immediately increasing taxes. These bonds provide a low-risk investment option and help manage the overall money supply and interest rates.

Who buys government bonds: Major buyers include super funds, banks, insurance companies, foreign investors, and central banks. They are attracted by the stability, regular interest payments and strong credit rating of the Australian government.

Spending vs taxation: Government spending injects money into the economy through wages, infrastructure projects and welfare payments. Taxation pulls money out, helping to prevent overheating and providing funding for public services.

National vs personal debt: Individuals must generally repay their debts within their lifetimes and cannot issue their own currency. Governments, by contrast, can refinance debt indefinitely and borrow in a currency they control. Australia’s AAA credit rating indicates that its level of government debt is considered sustainable compared with many other nations.

How banks use deposits: Customer deposits form part of the pool that banks use to fund loans. Banks earn profits from the spread between the relatively low interest paid on deposits and the higher interest charged on lending.

Why money isn’t just sitting there: When you deposit $1,000, the bank typically holds only a small portion as reserves and lends most of it out to other customers. Your digital balance still appears available, but the underlying funds are actively circulating.

Payments system mechanics: EFTPOS, PayID and card transactions work by updating electronic records at banks. Behind the scenes, clearing and settlement systems, often coordinated via the RBA, move funds between institutions to ensure everything balances.

What happens in a bank run: If too many customers demand physical cash at the same time, a bank may not have enough reserves to meet all withdrawals, which can threaten its stability. To prevent panic, Australia’s Financial Claims Scheme guarantees eligible deposits up to $250,000 per depositor, per bank.

Causes of inflation: Inflation can be driven by strong demand for goods and services, rising production costs, or an expansion of the money supply. Often these factors interact.

Why money supply matters: If the quantity of money grows faster than the economy’s ability to produce goods and services, more money chases the same output, pushing prices higher.

Danger of deflation: Deflation, where prices fall over time, can discourage spending because people delay purchases in expectation of lower prices. It can also make existing debts harder to manage in real terms.

Purchasing power example: One hundred dollars in 2000 has roughly the purchasing power of about $165 today if inflation averaged 2.5% per year. Reversing this, $100 today would buy only what around $60 could buy in 2000.

Why the AUD rises or falls: The value of the Australian dollar is influenced by interest rate differences with other countries, the strength of commodity exports, global investor confidence and trade balances.

Global factors that matter: When the US Federal Reserve raises interest rates, global capital often flows into US assets, which can lower the AUD. Strong Chinese demand for Australian iron ore and other resources tends to lift export income and support a stronger currency.

Foreign investors and the AUD: Overseas investors buy Australian dollars and bonds to access higher yields or diversify their portfolios. Their demand for AUD-denominated assets directly affects the exchange rate.

Exchange rate impacts: A weaker AUD makes imported goods such as fuel, electronics and overseas travel more expensive, but can support exporters by making Australian products more competitive. A stronger AUD has the opposite effect, improving the affordability of overseas holidays while putting pressure on export industries.

Rise of digital payments: Tap-and-go cards, PayID, online banking and digital wallets now dominate everyday transactions, with cash used in fewer than about fifteen percent of payments in Australia.

Central bank vs private digital money: Central bank money includes physical notes and coins and the reserves banks hold at the RBA. Private money includes bank credit, PayPal balances, Afterpay limits and similar products, which are promises backed by private institutions.

Central Bank Digital Currencies (CBDCs): A CBDC is a purely digital form of central bank money. The RBA is experimenting with a potential “digital Aussie dollar,” although it has not committed to a full rollout.

Cashless society risks: Moving away from cash can improve efficiency and convenience, but reduces privacy and increases reliance on digital infrastructure. System outages or cyberattacks could cause significant disruption in a fully cashless environment.

Who the system benefits first: Banks benefit from the ability to create money through lending and earn interest on it, while governments shape taxation and money supply settings in line with their policy goals.

Institutional influence: Large banks, funds and corporations move billions of dollars daily, giving them far more influence over financial flows and policy discussions than individual consumers.

Why money feels complex: The monetary system is technical and jargon-heavy, which can make it difficult for everyday people to understand. This complexity often advantages institutions that operate within the system every day.

Hidden truth about money creation: Many people assume only governments “print money,” but in practice banks create the bulk of new money when they issue loans. This reality is rarely explained in school curriculums.

Why understanding money matters: Knowing how money is created and managed gives context to decisions about taking on loans, holding savings, or investing. It helps explain why interest rates, inflation and policy changes affect everyday life.

Impact on personal goals: Mortgage rates, credit card costs and investment returns all link back to broader monetary policy and money supply conditions. Awareness of these links helps people plan more realistically for major goals.

Insider tip for young Australians: Debt is central not only to household finances but also to how governments and banks keep the system running. Understanding credit cycles and how rates change over time can help you avoid borrowing too aggressively during booms or becoming over-leveraged when conditions turn.