How Britain Forgot How Its Own Currency Works

A Simple Question That Unravels Everything

Ask yourself a simple question: where do pounds come from?

Not where you get them from, that’s easy enough to answer. You work for them, inherit them, find them down the back of the sofa. But where do they actually come from originally? Who creates them? How do they first enter existence?

You can’t print them at home, that would be counterfeiting. You can’t grow them in your garden or mine them from the earth like gold. You can’t import them from abroad; the Germans don’t manufacture pounds sterling for export. There is, in fact, only one licensed source of the British pound: the UK government itself.

This seemingly obvious observation opens a door to understanding that most of our political class either doesn’t grasp or pretends not to. Once you walk through this door, every argument about public spending, every claim about what Britain can or cannot afford, every political excuse for austerity dissolves like morning mist.

The Academic Proof Hidden in Plain Sight

In May 2022, researchers at University College London published what should have been front-page news. Their paper, with the decidedly unsexy title “The Self-Financing State: An Institutional Analysis,” proved something remarkable: “the UK Government creates new money and purchasing power when it undertakes expenditure, rather than spending being financed by taxation from, or debt issuance to, the private sector.”[1]

This isn’t economic theory. It’s not ideology. It’s an operational description of how the British monetary system actually works, today, right now. When the government spends, it doesn’t move existing money from some vault in Whitehall. It creates new money by instructing the Bank of England to mark up the appropriate accounts. As simple as changing numbers on a spreadsheet, because that’s essentially what it is.

The Bank of England itself admitted as much in 2014, acknowledging that “money creation in practice differs from some popular misconceptions.”[2] Former Deputy Governor Paul Tucker was even blunter, stating that government spending involves the central bank “creating (base) money.”[3]

The Tax Mystery That Solves Itself

But if the government can simply create money, why does anyone accept these pieces of paper, or more accurately, these electronic entries, as valuable? Why can’t we all just ignore pounds sterling and trade in something else?

The answer is brutally simple: taxes.

The UK government demands tax payments in pounds sterling. Try paying your tax bill in euros, and HMRC will reject it. Attempt to settle with gold, Bitcoin, or bushels of wheat, and you’ll get nowhere. Refuse to pay entirely, and you’ll find yourself facing asset seizure, financial ruin, and ultimately, prison.

This isn’t a design flaw, it’s the entire point. As the economist Abba Lerner observed decades ago, “money is a creature of the state.”[4] The government imposes tax obligations that can only be satisfied with its currency, creating universal demand for that currency. You need pounds to pay your tax bills, or your life gets very complicated very quickly.

The Logical Sequence That Changes Everything

Here’s where the logic becomes inescapable. Follow this chain of reasoning:

1. The government demands tax payments in pounds
2. Only the government can create pounds
3. Therefore, the government must create and spend pounds first
4. Only then can anyone pay taxes in pounds

This sequence cannot run in reverse. It’s logically impossible to collect taxes in a currency that hasn’t been created yet. You cannot tax pounds out of an economy before spending them into existence.

As economist Stephanie Kelton puts it in her bestseller The Deficit Myth, “The government has to spend its currency into existence before it can tax or borrow it back.”[5] Warren Mosler, one of the founders of this analytical framework, uses an elegant analogy: it’s like a football stadium trying to collect the tickets it hasn’t yet issued.[6]

The Deletion Function Nobody Mentions

If government spending creates pounds, what happens when you pay taxes? Here’s the part that truly bends minds: those pounds are effectively deleted. They don’t go into some government account to be spent later. They’re simply removed from circulation.

The government no more needs your tax pounds to spend than a football stadium needs to collect used tickets to admit new spectators. As L. Randall Wray explains in his seminal work Modern Money Theory, “Taxes create a demand for the currency, but they do not finance government spending.”[7]

This means that the entire political discourse about “taxpayers’ money” funding government programmes is based on a fundamental misunderstanding. The NHS isn’t run on taxpayers’ money. Schools aren’t built with taxpayers’ money. These services are funded by new government spending, with taxes serving an entirely different set of functions: managing inflation, redistributing wealth, and incentivising or discouraging certain behaviours.[8]

The Unemployment Scandal

Once you understand this sequence, spend first, tax later, a horrifying realisation dawns. If people need pounds to pay taxes and settle private debts, but can’t find work to earn them, there’s only one explanation: the government hasn’t spent enough currency into existence.

Every unemployed person who wants to work represents a government choice not to create the paid work they could be doing. As Pavlina Tcherneva argues in The Case for a Job Guarantee, “Unemployment is a monetary phenomenon” that exists because the government hasn’t created enough paid employment.[9]

The UK’s 4.3% unemployment rate[10] doesn’t represent a lack of work needing to be done. Britain has a nursing shortage, a teaching crisis, crumbling infrastructure, and a climate emergency requiring massive mobilisation. It doesn’t represent a lack of willing workers. It represents a lack of pounds being created to pay people to do necessary work.

The Inflation Bogeyman

“But surely,” comes the predictable objection, “if the government just creates money to employ everyone, we’ll have hyperinflation! Look at Zimbabwe! Look at Weimar Germany!”

This objection confuses financial constraints with real resource constraints. Inflation occurs when spending, whether public or private, exceeds the economy’s productive capacity.[11] If you try to buy more than the economy can produce, prices rise. It’s that simple.

But Britain today has massive unused capacity. Empty shops line high streets. Factories sit idle or run below capacity. Millions of people who want to work more hours can’t find the employment. As the economist John Maynard Keynes observed nearly a century ago, “The difficulty lies, not in the new ideas, but in escaping from the old ones.”[12]

The hyperinflation examples critics cite, Zimbabwe, Weimar Germany, Venezuela, all involved massive destruction of productive capacity: land reforms that disrupted agriculture, war reparations that exceeded realistic payment capacity, or collapse of key export industries.[13] They weren’t caused by money creation itself, but by trying to buy things that didn’t exist or couldn’t be produced.

The Debt That Isn’t

Perhaps no economic concept is more misunderstood than the “national debt.” The very term is misleading. When the government runs a deficit, spending more than it taxes, the difference doesn’t disappear. It becomes private sector savings.

Every pound of government “debt” is a pound of private wealth. Your pension fund’s government bonds, your ISA savings, the reserves held by banks, these are all government “debt.” As economist Eric Lonergan points out, “Government debt is not debt in any meaningful sense. It is private wealth.”[14]

When politicians fret about the national debt, they’re literally worrying about the private sector having savings. The last time Britain eliminated its national debt, in 1821, it was followed by an economic depression.[15] The same pattern has repeated throughout history: government surpluses drain money from the private sector, leading to private debt accumulation and eventual crisis.[16]

The Bond Market Theatre

“But wait,” say the sceptics, “if the government doesn’t need taxes to spend, why does it sell bonds? Why does it ‘borrow’ from financial markets?”

Here’s the secret: it doesn’t need to. Bond issuance is a monetary policy operation, not a financing operation. When the government sells bonds, it’s not borrowing pounds it needs to spend. It’s offering the private sector an interest-bearing alternative to regular pounds, like offering someone the option to move money from their current account to a savings account.[17]

The Bank of England could stop all government bond issuance tomorrow, as former Deputy Governor Paul Tucker has acknowledged.[18] Japan’s experience proves this: despite having government debt exceeding 250% of GDP, Japanese interest rates remain near zero because the Bank of Japan controls them.[19] The bond markets have no power over a currency-issuing government that they don’t choose to give them.

The Real Constraints That Matter

None of this means governments can spend without limit. But the limits are real, not financial. Britain has a finite number of doctors, teachers, construction workers, and wind turbines. It has ecological limits that must be respected. It has only 24 hours in each day.

These are the real constraints on government action. As economist Bill Mitchell explains, “The only financial constraint that governments face is the risk of inflation if they spend too much.”[20] But with unemployment, underemployment, and vast unmet social needs, Britain is nowhere near these limits.

The government saying it “cannot afford” to properly fund the NHS is as absurd as a referee claiming the match must be abandoned because they’ve “run out of goals to award.” The scorekeeper cannot run out of points. The government cannot run out of pounds.

The Political Choice Masquerading as Economic Necessity

Every politician who claims “there’s no money” for nurses’ pay rises, for green energy investment, for affordable housing, is making a choice. They’re choosing to leave resources idle, to leave needs unmet, to leave people unemployed. They’re not describing economic reality; they’re expressing political preference.

As Kelton writes, “Every economy faces a set of real resource constraints. The question is how to deploy the resources you have to their best use.”[21] That’s a political question, not an economic one.

The framework I’ve described here isn’t radical or even particularly new. Keynes understood much of it. So did Abba Lerner in the 1940s. It was orthodoxy during the post-war period that built the NHS, council housing, and the welfare state. We forgot these lessons not because they were disproven, but because forgetting them served certain interests.

The Question That Ends All Arguments

For those still clinging to the old mythology, I pose one simple question: How did the first taxpayer get pounds to pay taxes if the government hadn’t spent them into existence yet?

There is no answer to this question that doesn’t acknowledge the truth: government spending must come first. The sequence is inviolable. The logic is irrefutable.

Once you see this, you cannot unsee it. Every economic argument changes. Every political excuse evaporates. Every claim about affordability dissolves. Britain isn’t broke. The money exists, or rather, can be created, for whatever we democratically decide we need.

The question isn’t whether we can afford to build a better society. The question is whether we can afford not to. And that’s not an economic question at all. It’s a moral and political one.

The tragedy isn’t that Britain lacks money. It’s that we’ve been convinced we do. The criminals aren’t those who would spend on public services. They’re those who perpetuate the myth that we cannot.

---

References

[1]: Berkeley, A., Tye, R., & Wilson, N. (2022). “The Self-Financing State: An Institutional Analysis.” UCL Institute for Innovation and Public Purpose. https://www.ucl.ac.uk/bartlett/publications/2022/may/self-financing-state-institutional-analysis

[2]: McLeay, M., Radia, A., & Thomas, R. (2014). “Money creation in the modern economy.” Bank of England Quarterly Bulletin, Q1. https://www.bankofengland.co.uk/quarterly-bulletin/2014/q1/money-creation-in-the-modern-economy

[3]: Tucker, P. (2007). “Money and credit: Banking and the macroeconomy.” Bank of England Speech, December 13. https://www.bankofengland.co.uk/speech/2007/money-and-credit-banking-and-the-macroeconomy

[4]: Lerner, A. (1947). “Money as a Creature of the State.” American Economic Review, 37(2), 312-317.

[5]: Kelton, S. (2020). The Deficit Myth: Modern Monetary Theory and the Birth of the People’s Economy. New York: PublicAffairs, p. 25.

[6]: Mosler, W. (2010). The Seven Deadly Innocent Frauds of Economic Policy. Valance Co., p. 13.

[7]: Wray, L. R. (2015). Modern Money Theory: A Primer on Macroeconomics for Sovereign Monetary Systems (2nd ed.). Basingstoke: Palgrave Macmillan, p. 45.

[8]: Murphy, R. (2019). “Tax and Modern Monetary Theory.” Real-World Economics Review, Issue 89, pp. 138-147.

[9]: Tcherneva, P. (2020). The Case for a Job Guarantee. Cambridge: Polity Press, p. 27.

[10]: Office for National Statistics. (2024). “Labour market overview, UK: December 2024.” https://www.ons.gov.uk/employmentandlabourmarket/peopleinwork/employmentandemployeetypes/bulletins/uklabourmarket/

[11]: Mitchell, W., Wray, L. R., & Watts, M. (2019). Macroeconomics. London: Red Globe Press, pp. 255-270.

[12]: Keynes, J. M. (1936). The General Theory of Employment, Interest and Money. London: Macmillan, Preface.

[13]: Fullwiler, S., Grey, R., & Tankus, N. (2019). “An MMT response on what causes inflation.” Financial Times Alphaville, March 1.

[14]: Lonergan, E. (2014). “Government debt is not debt, it is equity.” Philosophy of Money, June 15. https://www.philosophyofmoney.net/government-debt-is-not-debt-it-is-equity/

[15]: Mitchell, W. (2015). “British government debt and deficit hysteria.” Billy Blog, April 24. http://bilbo.economicoutlook.net/blog/?p=30733

[16]: Godley, W., & Wray, L. R. (2000). “Is Goldilocks Doomed?” Journal of Economic Issues, 34(1), 201-206.

[17]: Bell, S. (2000). “Do Taxes and Bonds Finance Government Spending?” Journal of Economic Issues, 34(3), 603-620.

[18]: Tucker, P. (2011). “Discussion of Lord Turner’s Lecture.” UK Parliament Treasury Committee, March 6.

[19]: Werner, R. (2003). Princes of the Yen: Japan’s Central Bankers and the Transformation of the Economy. Armonk: M.E. Sharpe.

[20]: Mitchell, W. (2016). “There is no need to issue public debt.” Billy Blog, September 3. http://bilbo.economicoutlook.net/blog/?p=34333

[21]: Kelton, S. (2020). The Deficit Myth, p. 37.