Keynesian: Wikipedia definition of Fractional Reserve Banking is misleading

[idiom]

This is not necessarily true either. Don't forget that every time your "90%" scenario happens there is some fixed asset attached to back up the loan. The new money doesn't come from nowhere.

Banks loan out a certain portion of deposits (your examples are 90% but that is hardly true in the real world). It is supposed to make those loans with a lean on the property that the loan is written for, and they are supposed to follow standards so that the property value will not fall below the loan amount.

So no depositor money is lost unless the property (a house for example) falls below the value of the loan and for whatever reason the bank needs to sell.

The major fraud of the last few years is not simply the fact that 90% of deposits can be loaned. The fraud is when those 90% are loaned out to shady borrowers for shady assets with complete disregard for the risk of losing the depositors' money.

The bigger fraud is that this is a 'suprise'. That bank runs/failures are 'unnatural'. The Recessions 'shouldn't' happen.

 

[jonahtrainer]

The money is run through the banks 9 times.

Fractional Reserve banking increases the velocity of money, it doesn't create new money, it just keeps it available.

It is only fraudulent in the sense the the bank calls it safe and politicians don't expect recessions.

Without fractional reserve banking a Loan would cost 20% p.a. instead of 2% p.a. because the bank has to make ten time the profit per dollar loaned. But you don't runs or recessions.

Its a valid trade off. The fraud it not admitting the trade off.

This post fails logical scrutiny on multiple issues.

First, fractional reserve banking provides for taking in deposits, maintaining that all deposits are available for immediate withdrawal at any time and then lending out some of those deposits which are not available for immediate call. This is how 'reserves' or in other words, the % of deposits kept on hand to meet withdrawals, is determined. Any amount of 'reserves' that is less than 100% results in the bank practicing embezzlement which is a form of theft and fraud.

Second, the assertion of interest rates on private loans being higher if there were 100% reserve banking instead of fractional reserve banking is not proven nor logically derived. The market, driven by human action, would determine the interest rates and those interest rates may be either higher or lower than what the interest rates would be during if fractional reserve banking were practiced.

Third, bank runs would still happen should depositors fear the return of their deposits because of unsound practices by the bank. For sound institutions this would not be a problem because there would be 100% reserves and the only negative would most likely be a loss of storage income. For unsound institutions it would most likely result in their demise.

Fourth, there may still be recessions as predicted by Austrian business cycle theory but they would not be as amplified by the moral hazard introduced by government intervention.

 

[RCA]

Under 100% reserve banking, where does a bank get the money to create a loan?

 

[nayjevin]

Its a valid trade off. The fraud it not admitting the trade off.

The fraud is acting as though paper money has value, when in fact, it is only a symbol of a perceived value by those using it.

 

[StilesBC]

Banks don't lend out deposits. They create the debt (not money) out of thin air. Later on they go and search for deposits to satisfy the capital ratios.

The common explanation for the banking system is misinformation and cannot be empirically proven. Steve Keen does a decent job explaining this in "The Roving Cavaliers of Credit"

Warning. It's long. But it is probably the most enlightening piece I've read in the last few months.

 

[RCA]

Banks don't lend out deposits. They create the debt (not money) out of thin air. Later on they go and search for deposits to satisfy the capital ratios.

The common explanation for the banking system is misinformation and cannot be empirically proven. Steve Keen does a decent job explaining this in "The Roving Cavaliers of Credit"

Warning. It's long. But it is probably the most enlightening piece I've read in the last few months.

So, Wikipedia's definition IS wrong? If we are debating how the system works, how can we have a chance at educating the masses?

 

[jonahtrainer]

Under 100% reserve banking, where does a bank get the money to create a loan?

Banks did not make loans.

There were two different types of banks: depository and transaction. They were strictly segregated. The depository earned money by charging storage fees. The transaction banks earned money by charging for loans and clearing payments. Eventually these two different types of banks merged resulting in the messy system we currently have.

 

[StilesBC]

So, Wikipedia's definition IS wrong? If we are debating how the system works, how can we have a chance at educating the masses?

Yes, their definition is wrong. But so is the common perception of "labour theory of value" and a "paradox of thrift." The fact that common knowledge is wrong shouldn't do anything to prevent us from educating others.

I don't think I understand your question.

 

[StilesBC]

Banks did not make loans.

There were two different types of banks: depository and transaction. They were strictly segregated. The depository earned money by charging storage fees. The transaction banks earned money by charging for loans and clearing payments. Eventually these two different types of banks merged resulting in the messy system we currently have.

Bingo.

 

[RCA]

Banks did not make loans.

There were two different types of banks: depository and transaction. They were strictly segregated. The depository earned money by charging storage fees. The transaction banks earned money by charging for loans and clearing payments. Eventually these two different types of banks merged resulting in the messy system we currently have.

That was what I was getting to. Banks can't make loans under a 100% reserve system. I'm still not clear on what a transaction bank is all about. Is all of this covered in "The Case Against the Fed?".

 

[brandon]

. Banks can't make loans under a 100% reserve system.

They can. The reserve ratio only applies to checking accounts and other "on demand deposits."

Banks are free to lend out 100% of the money in savings accounts and CD's.

The ethics of lending money in a savings account is debatable, but I certainly don't see anything wrong with a bank selling a 6 month CD and then giving a 6 month loan with the money from the CD. This would still continue in a full reserve system.

Although here semantics comes into play. What exactly is the difference between an investment firm and a bank? (Rhetorical question)

 

[danberkeley]

That was what I was getting to. Banks can't make loans under a 100% reserve system. I'm still not clear on what a transaction bank is all about. Is all of this covered in "The Case Against the Fed?".

The purpose of a bank isnt to borrow then lend out money. It is a storage place for money (think bloodbank). The bank would receive a fee to storing the money in it's vault.

However, a company in the business of borrowing money and then lending it out would have issue timed-deposits (think Certificates of Deposits).

 

[RCA]

The purpose of a bank isnt to borrow then lend out money. It is a storage place for money (think bloodbank). The bank would receive a fee to storing the money in it's vault.

However, a company in the business of borrowing money and then lending it out would have issue timed-deposits (think Certificates of Deposits).

Thanks for the clarification. I'm currently painting a picture in my head of how banking "should" work. I didn't realize it was this entailed.

 

[danberkeley]

Thanks for the clarification. I'm currently painting a picture in my head of how banking "should" work. I didn't realize it was this entailed.

Read Rothbard's The Case Against the Fed. It's only about 150 pages. Easy read. Go... now.... commence reading.

 

[brandon]

Thanks for the clarification. I'm currently painting a picture in my head of how banking "should" work. I didn't realize it was this entailed.

IMO, it's impossible for one person or a group of central planners to decide how banking should work.

The only way we will ever know how banking should work is to abolish the FDIC and the Fed and just let the market figure it out.

 

[weslinder]

Fractional reserve banking has existed in every society with enough stability and freedom to allow free enterprise. It is a natural outgrowth of commerce. It happens when gold is money, when paper is money, when cigarettes are money. Arguing against it is like arguing against gravity.

If the posters in this thread are against it that much, set up a bank with 100% reserve. Let me know how it works for you. Personally, I'd put my money in a safe before I'd put it in a bank with 100% reserve.

 

[StilesBC]

The reason there is interest paid on savings accounts is to provide an incentive to take on risk. The higher the rate, the higher the risk.

Today, chequing accounts are "swept" daily (another Greenspan advent) into a bucket where they, too, are lent out.

There's nothing wrong with loaning other people's money and taking a small cut of the interest to facilitate the "investment." But it needs to be sold as such - not as a savings account. Transparency is the key.

 

[danberkeley]

Fractional reserve banking has existed in every society with enough stability and freedom to allow free enterprise. It is a natural outgrowth of commerce. It happens when gold is money, when paper is money, when cigarettes are money. Arguing against it is like arguing against gravity.

I suppose fraud is a natural outgrowth from commence.

If the posters in this thread are against it that much, set up a bank with 100% reserve. Let me know how it works for you. Personally, I'd put my money in a safe before I'd put it in a bank with 100% reserve.

If you are in favor of FRB that much, set up a bank with fractional reserve.

 

[Bradley in DC]

I guess I'm confused about how the 9:1 ratio works then.

There is no 9:1 ratio except in pure economic theory. Moving over to the real world would then cause confusion, yes.

 

[RCA]

There is no 9:1 ratio except in pure economic theory. Moving over to the real world would then cause confusion, yes.

The way I thought the 9:1 ratio worked was Customer A deposits $100 then the bank can loan $900 (out of thin air) to Customer B. The original $100 stays in the bank which is why Customer A can always withdraw it at any time.