Fractional reserve lending is NOT inherently fraudulent

[Mini-Me]

Your analogy fails since there are MANY other reasons for having a gun than to commit crime.

Fractional reserve banking IS inherently inflationary. It was developed for the purpose of enabling those who control that system to inflate more efficiently. Inflation IS inherently fradulent, ergo fractional reserve banking is also inherently fraudulent.

Only those who either have a vested interest in continuing with the fraud, or are ignorant (in the true sense of the word, not intended as an insult) of the economics involved would assert otherwise.

I think you're missing the crux of the problem though: Banks are only committing fraud when bank customers are misled into believing - as we are today - that IOU's from the bank (i.e. bank deposits) are just as good as cash. It is this misconception (which the system fraudulently encourages) about the nature of money that allows fractional reserve banking to inflate what we call the money supply. However, the real money supply in cash is (or should be) an entirely different entity from the supply of credit: If our monetary base was gold (or something similar), no banking system could ever inflate the "cash supply" (physical metal), only the amount of credit on the books. As long as people were not misled into believing that credit (which can be inflated) is the same thing as real money, credit inflation alone would not be fraudulent.

If people knew the truth, they would not blindly put their money in on-demand accounts, because they'd understand that the accrued interest comes at a risk. Instead, they'd more seriously consider alternatives, and if they chose on-demand accounts, they'd be much more vigilant about choosing responsible banks and demanding hefty interest rates (and without a central banking system, banks could not rack up credit in concert anyway, since they'd each exist as a competitive counterbalance to each other...as Rothbard explains in the quote in my earlier post).

You might argue that banks would still be committing fraud, because people then go out and spend their bank deposits in the general economy as though they were cash. However, the point is that they are NOT cash, and as long as the banks let their own customers know that, they are not committing fraud. If banks were not defrauding customers - i.e. if they did not mislead them or lie to them about the nature of bank deposits - then it would be the responsibility of the bank account holder to be up front about their own transactions with others. In other words, if people selling goods and services knew the truth, they may very well be more hesitant accepting a bank IOU as money in the general economy, knowing full well that IOU's could potentially lose their value at any time...and so they would likely prefer actual cold hard cash from customers, or they may even charge a premium for those paying with bank credit. Whatever we consider "cash" (gold, etc.), there's only one way for credit inflation to cause cash to unfairly lose buying power: That is if credit starts chasing the same goods and services while pretending that it is cash as well, and the people selling the goods and services are misled into believing there's no distinction between the credit (IOU's) and the real commodity we call cash.

To give you an analogy, let's say the bank makes Monopoly money. They can make as much Monopoly money as they want, and it would not be fraudulent as long as they aren't trying to pretend it's real money; after all, they're not actually inflating the money supply. Similarly, if the bank gives you a bunch of Monopoly money and clearly states what it is, and you're totally okay with that fact, they are not defrauding you. It then becomes your responsibility to be up front with whoever else you're dealing with not to trick them into thinking that the Monopoly money is "real" cash. As long as they're not being tricked, it would then be their decision whether or not to accept Monopoly money as payment, just as it would be to accept any other commodity as payment. IOU's work the same way...they're just a bit closer to being redeemable in cash than Monopoly money is.

In a free market, money is really whatever people want it to be, i.e. whatever is most widely accepted and trusted as a medium of exchange. As long as nobody is being misled into thinking Monopoly money, an IOU, or a bushel of corn is something it is not - i.e. gold, silver, or whatever - then nobody is being defrauded. Fraud only occurs when someone intentionally tricks someone else, i.e. by blurring the distinction between Monopoly money and an ounce of gold. That's the kind of thing that's going on today in our banking system, but it's not an inherent, inseparable property of fractional reserve banking.

 

[someperson]

Assuming a state exists, if the state does not mandate participation in fractional reserve banking, and the state does not provide public funds (FDIC) to secure these banks, and the state does not require individuals and businesses to accept currency provided by such banks as legal tender, I would have no problem with it existing.

 

[Conza88]

Edit: Haha, I think there was some confusion here, started by the terms used in the OP, as Feenix pointed out. I suppose I was thinking of the case where a gold standard was in effect, and the bank kept the full amount of gold in its vault, while lending out gold notes, which appears to inflate the money supply, but doesn't, since the money is all backed by gold, and any unsupportable issuance of notes is not a problem beyond the loss of deposits, as the supply of gold doesn't change.

That said, full consent fractional reserve banking STILL isn't fraud. The only fraud comes into play when the printing press is used. Otherwise, any bad debt or excess notes are simply washed away as null and void when the bank goes under, keeping the money supply stable.

Haha. Yes, confusion on your end. Pseudo receipts - DO INCREASE THE MONEY SUPPLY.

Anti free-bankers are statists. (That should piss Conza off to no end.)

Why would it? You are wrong and are engaged in fallacy. You can be anti-"free bankers" and not require the state. Epic fail on your behalf.. and I find it highly amusing to be honest.

Anti-Bank Leagues FTW!

Very good post by Mini-Me.

My point with that admittedly reaction seeking comment (anti free bankers are statists) was that enforcement of full reserve banking could only be done by the state. Any type of private court system would find in favor of a fractional reserve bank so long as its depositors were not defrauded in the conditions of their deposit.

Again, as Mini-Me clearly pointed out, in a free banking system both full reserve and various fractional reserve banks would develop. Consumers would be able to weigh the risks of runs on fractional reserve banks versus the increased interest that they could earn. Furthermore, private insurance options would likely become available. Private ratings agencies would audit banks for consumers. All these forces would interplay in the market setting interest rates and conditions on the deposits to best satisfy the demands of the consumers (depositors). Furthermore, changing economic conditions would be caught early and lending practices would automatically retract if it was deemed that banks were overextending. (Insurance providers would charge banks higher premiums, ratings agencies would give banks bad ratings, and consumers would be weary of making deposits in overextended banks.)

You mean as Rothbard pointed out... it was a possibility in a free society.

Yes... and all of the above can be applied to private defense agencies !

 

[Conza88]

We come now to perhaps the thorniest problem facing the monetary economist: an evaluation of "fractional reserve banking." We must ask the question: would fractional reserve banking be permitted in a free market, or would it be proscribed as fraud? It is well-known that banks have rarely stayed on a "100%" basis very long. Since money can remain in the warehouse for a long period of time, the bank is tempted to use some of the money for its own account?tempted also because people do not ordinarily care whether the gold coins they receive back from the warehouse are the identical gold coins they deposited. The bank is tempted, then to use other people's money to earn a profit for itself.

If the banks lend out the gold directly, the receipts, of course, are now partially invalidated. There are now some receipts with no gold behind them; in short, the bank is effectively insolvent, since it cannot possibly meet its own obligations if called upon to do so. It cannot possibly hand over its customers' property, should they all so desire.

Generally, banks, instead of taking the gold directly, print uncovered or "pseudo" warehouse receipts, i.e., warehouse receipts for gold that is not and cannot be there. These are then loaned at a profit. Clearly, the economic effect is the same. More warehouse receipts are printed than gold exits in the vaults. What the bank has done is to issue gold warehouse receipts which represent nothing, but are supposed to represent 100% of their face value in gold. The pseudo-receipts pour forth on the trusting market in the same way as the true receipts, and thus add to the effective money supply of the country. In the above example, if the banks now issue two million ounces of false receipts, with no gold behind them, the money supply of the country will rise from ten to twelve million gold ounces--at least until the hocus-pocus has been discovered and corrected. There are now, in addition to four million ounces of gold held by the public, eight million ounces of money substitutes, only six million of which are covered by gold.

Issue of pseudo-receipts, like counterfeiting of coin, is an example of inflation, which will be studied further below. Inflation may be defined as any increase in the economy's supply of money not consisting of an increase in the stock of the money metal. Fractional reserve banks, therefore, are inherently inflationary institutions.

Defenders of banks reply as follows: the banks are simply functioning like other businesses?they take risks. Admittedly, if all the depositors presented their claims, the banks would be bankrupt, since outstanding receipts exceed gold in the vaults. But, banks simply take the chance--usually justified?that not everyone will ask for his gold. The great difference, however, between the "fractional reserve" bank and all other business is this: other businessmen use their own or borrowed capital in ventures, and if they borrow credit, they promise to pay at a future date, taking care to have enough money at hand on that date to meet their obligation. If Smith borrows 100 gold ounces for a year, he will arrange to have 100 gold ounces available on that future date. But the bank isn't borrowing from its depositors; it doesn't pledge to pay back gold at a certain date in the future. Instead, it pledges to pay the receipt in gold at any time, on demand. In short, the bank note or deposit is not an IOU, or debt; it is a warehouse receipt for other people's property. Further, when a businessman borrows or lends money, he does not add to the money supply. The loaned funds are saved funds, part of the existing money supply being transferred from saver to borrower. Bank issues, on the other hand, artificially increase the money supply since pseudo-receipts are injected into the market.

A bank, then, is not taking the usual business risk. It does not, like all businessmen, arrange the time pattern of its assets proportionately to the time pattern of liabilities, i.e., see to it that it will have enough money, on due dates, to pay its bills. Instead, most of its liabilities are instantaneous, but its assets are not.

The bank creates new money out of thin air, and does not, like everyone else, have to acquire money by producing and selling its services. In short, the bank is already and at all times bankrupt; but its bankruptcy is only revealed when customers get suspicious and precipitate "bank runs." No other business experiences a phenomenon like a "run." No other business can be plunged into bankruptcy overnight simply because its customers decide to repossess their own property. No other business creates fictitious new money, which will evaporate when truly gauged.

The dire economic effects of fractional bank money will be explored in the next chapter. Here we conclude that, morally, such banking would have no more right to exist in a truly free market than any other form of implicit theft. It is true that the note or deposit does not actually say on its face that the warehouse guarantees to keep a full backing of gold on hand at all times. But the bank does promise to redeem on demand, and so when it issues any fake receipts, it is already committing fraud, since it immediately becomes impossible for the bank to keep its pledge and redeem all of its notes and deposits. [15] Fraud, therefore, is immediately being committed when the act of issuing pseudo-receipts takes place. Which particular receipts are fraudulent can only be discovered after a run on the bank has occurred (since all the receipts look alike), and the late-coming claimants are left high and dry. [16]

If fraud is to be proscribed in a free society, then fractional reserve banking would have to meet the same fate. [17] Suppose, however, that fraud and fractional reserve banking are permitted, with the banks only required to fulfill their obligations to redeem in gold on demand. Any failure to do so would mean instant bankruptcy. Such a system has come to be known as "free banking." Would there then be a heavy fraudulent issue of money substitutes, with resulting artificial creation of new money? Many people have assumed so, and believed that "wildcat banking" would then simply inflate the money supply astronomically. But, on the contrary, "free banking" would lead to a far "harder" monetary system than we have today.

The banks would be checked by the same three limits that we noted above, and checked rather rigorously. In the first place, each bank's expansion will be limited by a loss of gold to another bank. For a bank can only expand money within the limits of its own clientele. Suppose, for example, that Bank A, with 10,000 ounces of gold deposited, now issues 2000 ounces of false warehouse receipts to gold, and lends them to various enterprises, or invests them in securities. The borrower, or former holder of securities, will spend the new money on various goods and services. Eventually, the money going the rounds will reach an owner who is a client of another bank, B.

At that point, Bank B will call upon Bank A to redeem its receipt in gold, so that the gold can be transferred to Bank B's vaults. Clearly, the wider the extent of each bank's clientele, and the more the clients trade with one another, the more scope there is for each bank to expand its credit and money supply. For if the bank's clientele is narrow, then soon after its issue of created money, it will be called upon to redeem--and, as we have seen, it doesn't have the wherewithal to redeem more than a fraction of its obligations. To avoid the threat of bankruptcy from this quarter, then, the narrower the scope of a bank's clientele, the greater the fraction of gold it must keep in reserve, and the less it can expand. If there is one bank in each country, there will be far more scope for expansion than if there is one bank for every two persons in the community. Other things being equal, then, the more banks there are, and the tinier their size, the "harder"--and better--the monetary supply will be. Similarly, a bank's clientele will also be limited by those who don't use a bank at all. The more people use actual gold instead of bank money, the less room there is for bank inflation.

Suppose, however, that the banks form a cartel, and agree to pay out each other's receipts, and not call for redemption. And suppose further that bank money is in universal use. Are there any limits left on bank expansion? Yes, there remains the check of client confidence in the banks. As bank credit and the money supply expand further and further, more and more clients will get worried over the lowering of the reserve fraction. And, in a truly free society, those who know the truth about the real insolvency of the banking system will be able to form Anti-Bank Leagues to urge clients to get their money out before it is too late. In short, leagues to urge bank runs, or the threat of their formation, will be able to stop and reverse the monetary expansion.

None of this discussion is meant to impugn the general practice of credit, which has an important and vital function on the free market. In a credit transaction, the possessor of money (a good useful in the present) exchanges it for an IOU payable at some future date (the IOU being a "future good") and the interest charge reflects the higher valuation of present goods over future goods on the market. But bank notes or deposits are not credit; they are warehouse receipts, instantaneous claims to cash (e.g., gold) in the bank vaults. The debtor makes sure that he pays his debt when payment becomes due; the fractional reserve banker can never pay more than a small fraction of his outstanding liabilities.

We turn, in the next chapter, to a study of the various forms of governmental interference in the monetary system--most of them designed, not to repress fraudulent issue, but on the contrary, to remove these and other natural checks on inflation.

[14]A third form of money-substitute will be token coins for very small change. These are, in effect, equivalent to bank notes, but "printed" on base metal rather than on paper.

[15]See Amasa Walker, The Science of Wealth, 3rd Ed.(Boston: Little, Brown, and Co., 1867) pp. 139-41; and pp. 126-232 for an excellent discussion of the problems of a fractional-reserve money.

[16]Perhaps a libertarian system would consider "general warrant deposits" (which allow the warehouse to return any homogeneous good to the depositor) as "specific warrant deposits," which, like bills of lading, pawn tickets, dock warrants, etc., establish ownership to certain specific earmarked objects. For, in the case of a general deposit warrant, the warehouse is tempted to treat the goods as its own property, instead of being the property of its customers. This is precisely what the banks have been doing. See Jevons, op. cit., pp. 207-12.

[17]Fraud is implicit theft, since it means that a contract has not been completed after the value has been received. In short, if A sells B a box labeled "corn flakes" and it turns out to be straw upon opening, A's fraud is really theft of B's property. Similarly, the issue of warehouse receipts for non-existent goods, identical with genuine receipts, is fraud upon those who possess claims to non-existent property. - What has the Government Done to Our Money? by Murray N. Rothbard​

 

[Conza88]

Loaning out money that does not exist, then they charge interest on that same money that does not exist....... which allows more banks to loan money that does not exist, then they charge interest on that same money that does not exist....... which allows more banks to loan money that does not exist, then they charge interest on that same money that does not exist...... which allows............................ see above......

Nope..... nothing fraudulent here.

I have this theory about people who suck.

You see......... I believe that most people suck, in fact the vast majority of people suck. When two groups of people both suck, and they start fighting, what is the outcome? A compromise that sucks even worse. Later this compromise will have detractors, who will then compromise with something else that sucks, this stupid fracas continues until everything in the entire world sucks. Such is the nature of people who suck. Making the rest of us swim in the cesspool they create.

I believe fractional reserve lending is a wonderful working example of the above theory.

It should.

OP makes thread titled ' Fractional reserve lending is NOT inherently fraudulent' without knowing the definition of 'ractional reserve lending'.

 

[aravoth]

yes there is, by not trading in their currency, by not living in the country that's being manipulated.

so I take it you're 100% invested inflation?

Last time I checked, people got thrown in jail for paying employees in competeing currency, so in a sense, yes. Anyone that gets a pay check denominated in US dollars is 100% invested in inflation. After they get payed inflated dollars they can invest elsewhere obviously, but not before the damage has been done.

You do realize you are defending a system that has brought about our current economic woes right?

 

[Imperial]

I don't think fractional reserve lending is inherently fraudulent.

However, that doesnt mean it isn't risky for both bank and depositer. If it is straight out saying, "we practice fractional reserve banking", nothing is wrong with it. but you are still banking on everyone not cashing in at once.

If you crash, you just accept you entered those terms and banked on it.

 

[Optatron]

I don't think fractional reserve lending is inherently fraudulent.

However, that doesnt mean it isn't risky for both bank and depositer. If it is straight out saying, "we practice fractional reserve banking", nothing is wrong with it. but you are still banking on everyone not cashing in at once.

If you crash, you just accept you entered those terms and banked on it.

see? why is that so hard to admit?

 

[Optatron]

Last time I checked, people got thrown in jail for paying employees in competeing currency, so in a sense, yes.

If you're talking about Liberty Dollar, that's not the only way.

Anyone that gets a pay check denominated in US dollars is 100% invested in inflation.

I was asking you, ARE YOU INVESTED TO BENEFIT FROM INFLATION IF YOU BELIEVE IT'S GUARANTEED.

After they get payed inflated dollars they can invest elsewhere obviously, but not before the damage has been done.

Yes, before the damage is done, it's been done, and it can be done more, so every minute you get a paycheck is one minute before another damage is done.

You do realize you are defending a system that has brought about our current economic woes right?

No, I'm defending responsibility, not calling anything fraud unless it's actually outright lying.

Do I like FRB and FRL? NO, but doesn't mean its fraud.

 

[aravoth]

]
Do I like FRB and FRL? NO, but doesn't mean its fraud.

It is fraud when one bank has a government mandated monopoly over the currency being issued.

 

[Optatron]

Haha. Yes, confusion on your end. Pseudo receipts - DO INCREASE THE MONEY SUPPLY.

Not if they're stamped
DISCLAIMER : NOVELTY PURPOSES ONLY, NOT REDEEMABLE

Yes... and all of the above can be applied to private defense agencies !

PDAs who only need to listen to money and the mob are definitely preferred over what we have today.

 

[Optatron]

It is fraud when one bank has a government mandated monopoly over the currency being issued.

monopoly on currency and forcing every person to use it are quite different things.

neither are fraud though.

fraud is when you're lied to believe A and it turns out to be B.

If you're forced to accepted A, and no choice as to what it's going to turn out, it's not fraud, it's force and it sucks, but it's not fraud.

 

[nayjevin]

monopoly on currency and forcing every person to use it are quite different things.

neither are fraud though.

fraud is when you're lied to believe A and it turns out to be B.

If you're forced to accepted A, and no choice as to what it's going to turn out, it's not fraud, it's force and it sucks, but it's not fraud.

It is, here's why:

It would be stupid to put money into a bank that practices fractional reserve when there are more secure banks available.

When folks like us begin to learn about fractional reserve banking, we tend to pull our money out of banks (and dollars).

It's easy to see that a degree of misunderstanding must occur on the part of the depositor to voluntarily deposit into an insolvent banking model.

The complexity of the system, and changing the model of a bank from 'safety deposit box' or 'financial investment portfolio manager' to 'lending institution' requires a change in the wealth deposited (transferring gold coins to paper money for instance) and a misrepresentation of the amount of existing wealth.

It is a system where loans go out in paper that represent an amount of wealth that doesn't exist -- and that is inherently fraudulent.

A person can know it's fraudulent, and still participate, but it's still fraudulent.

 

[Epic]

FRB is not necessarily fraud.

If both sides consent, and nobody else is aggressed upon, you're all good.

 

[Optatron]

It is, here's why:

It would be stupid to put money into a bank that practices fractional reserve when there are more secure banks available.

Stupid yes, not wrong or fraud

When folks like us begin to learn about fractional reserve banking, we tend to pull our money out of banks (and dollars).

It's easy to see that a degree of misunderstanding must occur on the part of the depositor to voluntarily deposit into an insolvent banking model.

Or if they're just stupid.

The complexity of the system, and changing the model of a bank from 'safety deposit box' or 'financial investment portfolio manager' to 'lending institution' requires a change in the wealth deposited (transferring gold coins to paper money for instance) and a misrepresentation of the amount of existing wealth.

It is a system where loans go out in paper that represent an amount of wealth that doesn't exist -- and that is inherently fraudulent.

What if all sides were aware of what existed, what didn't exist, and what they're getting?

A person can know it's fraudulent, and still participate, but it's still fraudulent.

YES, IF it was fraudulent to begin with.
But if it's NOT fraudulent, it's not.
I think you mean, a person can KNOW its stupid, and still participate, doesn't make it fraudulent.

 

[Conza88]

Not if they're stamped
DISCLAIMER : NOVELTY PURPOSES ONLY, NOT REDEEMABLE

Oh, like monopoly money? It is not used as a medium of exchange... there is no force or coercion, fraud (implicit theft) backing it up like fiat currency and pseudo receipts.

PDAs who only need to listen to money and the mob are definitely preferred over what we have today.

The market isn't the mob.

 

[Optatron]

Oh, like monopoly money?

Yes , exactly, if I didn't tell you it was anything other than what it actually was, and you were not told it represents a piece of gold which it isn't, whats the problem???

Or, if I printed a note saying "this represents gold, but I won't tell you how much", what's the problem if you agree I can change my mind any day how much gold one paper represents? I never lied to you! I didn't say "today it's one oz, tomorrow it's 100oz".

It is not used as a medium of exchange... there is no force or coercion, fraud (implicit theft) backing it up like fiat currency and pseudo receipts.

Anything two parties agree on can have value, and used as medium of exchange.

The market isn't the mob.

The market isn't the mob, nor is the state the mob, but anybody can be the mob if they choose to. The market, in this case, is the money. Voting with money is far superior to allowing each person an equal vote.

 

[tmosley]

Haha. Yes, confusion on your end. Pseudo receipts - DO INCREASE THE MONEY SUPPLY.

Actually no, now that I did some more reading, I realize that I was right the first time. The system described by the OP in option A is fractional reserve lending. Option B is multiple reserve lending (ie lending out of money at multiples of reserves), and Option C is full reserve "banking", where the bank simply acts as a vault. Fractional reserve banking does not permanently increase the money supply. As there are runs on the banks, the amount of credit in the economy contracts back to the amount that it was prior to those loans being made (this can also be accomplished through repayment of loans). This happened during the Great Depression (you know, that deflationary depression that everyone is afraid of now).

My question is this: Do we now have fractional reserve lending, or do we have "multiple reserve lending"?

Fractional reserve lending does not and can not create permanent inflation (as was shown in the Great Depression). It can be accomplished under a gold standard (as was the case at the time), therefore it CAN'T be inflationary. If we now have multiple reserve lending, as I suspect we do, then THAT is the cause of the inflation we are seeing now, and even with repayment or bankruptcy, the money supply doesn't contract back to the proper level, but it rather contracts either by 1/9th or ~1/500th (depending on whether the "domino effect" takes hold, and the bankruptcy of one bank leads to bankruptcy for the other banks along the multiple reserve lending chain.

Again, it can't be fraud, so long as all participants are fully informed.

 

[fletcher]

Fractional reserve banking is scenario B, not scenario A. You have the "fractional" part mixed up. It doesn't mean they lend out a fraction of what they have. It means they have a fraction of what they lend out.

Hope that clears it up for everyone.

This should have cleared it up right away.

 

[shenlu54]

As we discussed in many previous threads, there's a difference between

A. Taking $10 in, lending $9, keeping only $1.
vs.
B. Taking $10 in, claiming to have $100, and lending out $90.
vs.
C. Taking $10, keeping it all.

A. Is the typical bank operation of fractional reserve
B. Is outright printing money, increasing money supply, "lending money that doesn't exist"
C. Simply depositing money and doing nothing with it.

I'm sorry,but we can not say A is absolutely a bank operation of fractional reserve,it depends on whether the total supply of money is increased within this operation.

In today's banking system,if you get an open book account or demand deposit in a bank and deposit some dollars in your account,then the bank can loan these money out to others,so at the same time these same money belongs to those loaners while still belonging to you,thus the total supply of money is increased.

Anyway,in the history,there was a very different bank once existing,it's called "loan bank", it took time deposit not demand deposit,so when this kind of bank loaned money out,it didn't increase the total supply of money.

You can see <The Case Againt the Fed> by Murray Rothbard to get more details.