Monetary Properties and Incentives
We all know that money is used as an incentive, but what does it incentivize at its core? What outcomes do the fundamental properties of money guarantee? Consider a simple workplace example: If I offer higher pay for management positions, I use money to incentivize workers to take on more responsibility. Yet I could just as easily offer more money to non-management roles to discourage people from pursuing management. In this way, money can steer behavior in multiple directions depending on how it is deployed. What I want to explore is deeper: what does money itself incentivize, regardless of how it is specifically used? To answer this, we must first examine the basic characteristics and properties of modern money.
How is new money created?
Most people assume the government directly prints money. This is not entirely correct. In our fractional-reserve banking system, the majority of new money is created when commercial banks issue loans. The principal of the loan is brand-new money that did not exist before the loan was made. When the loan is repaid, the principal is destroyed, but the interest remains and is kept by the bank.
What about the Federal Reserve?
The Federal Reserve has a unique hybrid public-private structure. Commercial banks own stock in the Federal Reserve. No other federal agency issues stock or has private shareholders. While the regional Federal Reserve Banks issue stock to member banks, this stock is non-transferable and does not confer normal ownership rights or control like shares in a typical corporation. Importantly, these member banks (the shareholders) do profit from the Fed’s operations and decisions. The regional Reserve Banks earn interest on the securities they hold. However, the structure still creates a direct financial interest for the member banks in the overall profitability of the system. For the purposes of this essay, we can simplify the Fed’s core function: it creates money primarily by purchasing U.S. Treasury securities. In effect, it finances government borrowing in a manner similar to how commercial banks create money through loans to individuals and businesses. A key difference is that the U.S. government routinely rolls over its debt—paying interest and issuing new debt to cover principal—rather than ever fully repaying it.
What inherent incentives does this system create?
Because banks profit from the interest on loans, they are incentivized to issue more credit. The more loans they create, the more interest they collect and the more new money enters circulation. This expanded the money supply, when the money supply outpaces growth in goods and services, prices increase as more units of money exist per the amount of goods and services. At its core, our debt-based monetary system incentivizes inflation. Regardless of which political party holds power, this outcome is baked into the system’s design.
What if we were to stop creating new money?
Because most money enters circulation as debt, the total amount of outstanding debt across all sectors (households, businesses, corporations, and government) far exceeds the broad money supply. As of mid-2026, U.S. M2 money supply stands at approximately $23 trillion, while total debt exceeds $100 trillion. Without continuous new debt creation, there would not be enough money in the system for all debtors to repay both principal and interest simultaneously. In this sense, inflation and ongoing money creation are structural necessities. If new credit stopped flowing, the monetary system would face severe contraction or collapse. This incentive to create ever more debt also encouraged excessive risk-taking by banks. In the years leading up to the 2008 financial crisis, the drive for more loans and interest income led many institutions to lower lending standards, issue subprime mortgages, and engage in risky financial engineering. When the housing bubble burst, the systemic consequences were severe. The same profit motive that pushes banks to expand credit can also lead to dangerous over-leveraging and poor risk management. This logic applies to the Fed as well.
Although it faces more constraints and oversight, the Fed stock holders have strong incentives to support excessive government spending. Deficit spending by the government becomes profitable for the financial sector. In this sense, there is a structural bias toward encouraging government deficits.
How does this system affect individuals?
Because the properties of money guarantee some level of ongoing inflation, individuals are incentivized to spend now rather than hold cash. As John Maynard Keynes observed in The Economic Consequences of the Peace, inflation acts as a hidden tax: “By a continuing process of inflation, governments can confiscate, secretly and unobserved, an important part of the wealth of their citizens.” This dynamic discourages saving money and instead encourages immediate consumption or investment in assets that may outpace inflation. You and I are thus incentivized to spend or invest rather than save in cash. Spending keeps many people poor in real terms. The often-cited statistic that the average American cannot afford an unexpected $400 emergency illustrates this. Instead of letting savings erode, rational individuals are pushed to invest in stocks, real estate, gold, Bitcoin, or in themselves (education, skills). This drives up asset prices. Those who cannot or do not invest are left behind. Savers see the purchasing power of their bank accounts decline even if the nominal number stays the same. Meanwhile, asset owners often benefit as inflation lifts the value of their holdings. Extreme cases make the incentive obvious: in 2018, Venezuela experienced hyperinflation exceeding 80,000% (with some estimates much higher). People spent money the moment they received it—on necessities or assets like bricks that held value better than the currency. Our more moderate inflation produces similar (though less dramatic) pressures: stagnant wages alongside rising rent and food costs for those without assets. The widening wealth gap, persistent government deficit spending, the disincentive to save, and the encouragement of debt are not accidental—they are inherent properties of our current debt-based monetary system. Saving money is penalized. Debt is rewarded. Maybe it is time to consider whether a different form of money would produce better incentives and outcome for the users of the money.
