Where did the 'Fractional Reserve Banking' meme begin?

[portlandatheist]

My goodness, I have to apologize for posting and running, I forgot about this thread as this is a section I rarely visit and I appreciate all the responses. I 've heard this stuff alot from some of the 9/11 conspiracy people and the Ron Paul people but I heard it from a coworker who seems like an otherwise smart guy that sent me this garbage:
http://www.chrismartenson.com/three_beliefs
From one of the videos comes this gem:
"for 111 years a dollar saved was well...a dollar saved
Can you imagine what it would be like to live in a world where you could earn a thousand dollars put it in a coffee can in your backyard, and your great great grandchildren could dig it up and enjoy the same benefits from it as you would have 100 years previously"

My point I'd like to make:
Inflation is good. It gives you incentive to do SOMETHING with your money: spend it, invest, put it to work as it were. This era of 111 years the author refers to had minimal economic growth in real terms and an economy were the wisest thing to do is stuff your money under your mattress is a recipe for decreased economic activity.
Tippit, how is this system impoverishing others? I'm not impoverished by it or am I a beneficiary of the system? Americans, economically, have and are doing quite well over partially due to our monetary system. Take a look at the microcredit movement that is happening in Africa, I would contend this is helping both lenders and borrowers, increasing overall economic activity. The economy is not a zero sum game.

 

[TheLoneBedouin]

Why is an idea you support called an idea, while an idea you disagree with called a "meme"?

 

[Francesca R]

Inflation is good. It gives you incentive to do SOMETHING with your money: spend it, invest, put it to work as it were.

I don't agree that "inflation is good". It's just that low and predictable (stable) inflation is probably the optimum place to be on a continuum.

Stable and predictable because inflation volatility otherwise becomes one more source of risk to protect against. Higher risk premia to investing (in anything) increases the rate at which investors discount the future payback back to now, which--all else equal--makes all investments less attractive than if future inflation is more certain.

Low and positive because, well, it has to have a number, and as discussed on other threads, negative inflation kills not only investment but also consumption, and the reason why is that it is technically impossible in a free society for the monetary authority to adjust the real risk-free interest rate downwards (and real interest rates that are too high promote saving over investing and consuming). So aiming for positive inflation reduces the risk that it will end up negative and get stuck there.

With regards providing an incentive to invest and spend--this is driven by the real (net of inflation) interest rate as just mentioned, and not by inflation per-se (ex the above point about high inflation uncertainty). The lower the real rate, the more favourable the invest-or-spend versus save tradeoff is towards investing and spending.

Aside from monetary metrics, incentives to invest are stimulated by credit availability, derivative (risk transfer) instruments, low corporate taxes, no/few capital controls, and other desiderata of capitalism.

how is this system impoverishing others?

Inflation--if it is stable and predictable--does not "rob" anyone of anything. By itself it steadily decreases purchasing power, and therefore transfers purchasing power from savers to borrowers. But this is compensated for by the risk-free rate of interest in a stable-inflation system, because the real interest rate is known with decent certainty in advance of the decision to save or borrow. *Unexpected* inflation (or deflation) creates winners and losers because unexpected inflation is not compensated before it happens. This is why virtually all central banks target a low positive rate of inflation.

 

[Francesca R]

Why is an idea you support called an idea, while an idea you disagree with called a "meme"?

It is not. If the response to anti-FRB enthusiasts on this forum was nothing more than "that is stupid" and the argument in favour of FRB was mothing more than "it's the best" your question would have relevance here. But the truth is far from that. On several threads it has been argued in great detail *why* full-reserve lending and a gold-backed currency is a thoroughly dreadful idea in comparison to the system we have. In my view the opposing side has had every argument it has made dismantled and has provided feeble or no responses to any challenge levelled at it. So I suppose after a while you get posts where such ideas are simply ridiculed. But at that point, the complaint of "you are just calling it a meme" is invalid.

 

[portlandatheist]

I don't agree that "inflation is good". It's just that low and predictable (stable) inflation is probably the optimum place to be on a continuum.

Stable and predictable because inflation volatility otherwise becomes one more source of risk to protect against. QUOTE]

Right, I should habe been clear. There is most certainly bad inflation but like you said, low and predictable inflation is probably the best system.

 

[Roboramma]

But at that point, the complaint of "you are just calling it a meme" is invalid.

I agree with the rest of your post, but the poster didn't say "you are just calling it a meme[/quote]. He/she only asked why it's being called a meme at all. And I agree - we should (as you have done) argue an idea on it's merits, or lack thereof, and not use emotional language, or paint the other side with words rather than argument.
Personally I agree. I don't think you've done so, and I'm not sure that others have, but it's something I think we should always avoid.

 

[drkitten]

I agree with the rest of your post, but the poster didn't say "you are just calling it a meme". He/she only asked why it's being called a meme at all.

Both the word "meme" and the word "idea" denote mental concepts.

But the word "idea" connotes correctness in a way that "meme" does not.
("Rufus, why not just let some of the air out of the tires?" she asked. "Hey, that's an idea!" Rufus replied, as he leaped out of the car.)

So TLB was right --- this thread is leaning towards a pejorative use of the word "meme." But there are also times when pejorativity -- pejorativeness? -- pejoratization? -- dissing damn-fool notions is justified.

 

[portlandatheist]

Perhaps I'm abusing the word "meme". My point is that this idea is spreading somewhat virally, at least anecdotally from my perspective as I'm being hit by it from multiple places. Although I really don't understand economics, it is even more obvious to me that the people who promote this stuff know/understand less than me. The wiki article is a good read: http://en.wikipedia.org/wiki/Austrian_School and makes it clear that this is not science based.

 

[Gazpacho]

Excuse the delayed response, as I had other matters to attend to and couldn't be online much for the last week.

I start with a blank economic system. Fractional reserve rate 10%, $1,000 in system.

John Q puts $1,000 in a bank. Charley G company takes out a $900 loan. They use it to build a business, which sells widgets.

I have $1,000. The Charley G company has $900. The bank has $100.

No, this is where you go wrong. Charley G doesn't "have $900", nor does the bank "have $100." Charley has the temporary use of your $900, on the condition of paying it back, and the bank is holding your $100 in its reserve.

The idea that the same money can belong to two people at the same time does not hold up when tested, i.e. when a financial institution fails. Over the last year it has been tested repeatedly, so this shouldn't be debatable.

 

[lomiller]

I start with a blank economic system. Fractional reserve rate 10%, $1,000 in system.

John Q puts $1,000 in a bank. Charley G company takes out a $900 loan. They use it to build a business, which sells widgets.

I have $1,000. The Charley G company has $900. The bank has $100.

No, this is where you go wrong. Charley G doesn't "have $900", nor does the bank "have $100." Charley has the temporary use of your $900, on the condition of paying it back, and the bank is holding your $100 in its reserve.

The idea that the same money can belong to two people at the same time does not hold up when tested, i.e. when a financial institution fails. Over the last year it has been tested repeatedly, so this shouldn't be debatable.

You are still wrong. Since charley has spent the money presumably he has assets worth $900. The bank does have $100. $900 is sitting out there in someone else’s hands. You have an asset redeemable for $1000 cash on whatever notice you choose. This asset is also insured against the bank not being able to pay you.

When you deposit money into a bank account you are, in effect investing it. Since it’s redeemable on demand, held by a reliable source, and insured by the federal government, it’s an extremely low risk investment so the return it yields is low. (Rule 1 of investing. You get paid to take risks with your money, the more risk the higher return you must demand) Since the return is so low you may decide to take additional services instead of actual cash in return for your deposit. (I.E. a checking account)

As you can see, the money never belongs to two people at the same time.

 

[Francesca R]

Charley G may have assets worth $900 but a debt worth the opposite of that. His net worth is zero at that point. The bank's balance sheet has zero worth too. The original depositor has net worth of $1000. But if Charley G's business generates enough added value to service the debt he is solvent, and liquid. $1000 has not become "more money".

 

[GreyICE]

Charley G may have assets worth $900 but a debt worth the opposite of that. His net worth is zero at that point. The bank's balance sheet has zero worth too. The original depositor has net worth of $1000. But if Charley G's business generates enough added value to service the debt he is solvent, and liquid. $1000 has not become "more money".

You've invented an extra player. "The debt."

But what is "the debt?" It's a negative number that exists on a piece of paper IN ORDER to make it look like money wasn't created.

That's all. It has no economic reality (even if it has a financial reality). Remember, in economic terms, the $10,000 dollars you have in your mattress is not money.

The reality is that banks create money, this is well documented and understood, and in fact the economy depends upon banks and similar institutions to facilitate the rapid motion of money within our economy.

 

[Francesca R]

You've invented an extra player. "The debt."

This player was "invented" (recognised in accounting identities) five centuries ago. Welcome up to date

The rest of your post is completely wrong, except for this bit:

the economy depends upon banks and similar institutions to facilitate the rapid motion of money within our economy.

 

[se7ensnakes]

Banks are a problem, they create money each time someone borrows, but they use some of that money to buy off politicians, give them free tv and newspaper space. 200 million to in campaign contributions is not unheard of. You dont think this is a problem?

 

[The Central Scrutinizer]

Banks are a problem, they create money each time someone borrows, but they use some of that money to buy off politicians, give them free tv and newspaper space. 200 million to in campaign contributions is not unheard of. You dont think this is a problem?

In the real world? No.

 

[Francesca R]

Banks are a problem, they create money each time someone borrows

Anti fractional-lending enthusiasts would have you believe it would be better if banks did not do this--which was the case before the mid 17th century (in Europe). So we had Spanish conquistadors looting Latin America for precious metals and the Madrid crown later going bankrupt anyway. And the Italian Medicis dominating commerce in Northern Europe as well as supplying the region with two popes, three dukes and two queens of France.

Then (and correlation doesn't mean causation) the birth of non-reserve lending (in Amsterdam and London) concpicuously precedes Britain's industrial revolution and transformation to sustained positve economic growth, which later spread to Europe and the former empire, and made a whole lot more people a whole lot better off than the prior several centuries (or millennia).

I remain rather unkeen to abolish banking as we know it.

 

[soylent]

No right can depend on the coercion of another to exist.

By this definition there exist no rights.

In particular you don't have a right to life, liberty and the persuit of happiness because it takes a major effort to protect such rights; effort you have to coerce someone to expend or coerce someone to pay for. Without such enforcement rights are a mere quaint notion lacking any application to the real world.

 

[stevea]

Banks are a problem, they create money each time someone borrows, but they use some of that money to buy off politicians, give them free tv and newspaper space. 200 million to in campaign contributions is not unheard of. You dont think this is a problem?

Yes $200M in contributions from banking is completely unheard of, we might even call your statement a misrepresentation of fact.. Your anti-banking paranoia is showing.

The TOTAL 2008 contributions from all commercial banking was $37M USD, (~25M to individual candidates and ~11M to PACs). Also the party split was 52%/48% Dem/Rep of the banking contributions. Your $200M figure is ridiculously wrong - the fabrication of a someone willing to distort the truth for the sake of making a point.

http://www.opensecrets.org/industries/indus.php?ind=F03

Now if you want to find who plows big money into politics with a party bias look at

lawyers/law firms, 2008 was $235M with 76% Dem vs 23% Rep.
Telecomm $139M, spread 70%Dem, 30% Rep.
Labor Unions $76M, spread 92%Dem, 8%Rep
Energy/Nat.Resource $76M, 34%Dem, 66%Rep
Agribiz $65M spread 38%Dem, 62%Rep.
Movie/TV industry $48M spread 78% Dem, 22%Rep

The Oil and Gas portion of Energy/NatResource was only $35M distributed 23% Dem vs 77%Rep.

Isn't it strange that we were all told the "big oil" was the dirty player in politics when in fact lawyers shifted the party cash positions by 6 times as many dollars ? And labor unions by 2.4x as much ?

In 2008 each national party took in an amount just shy of $1billion ! So the commercial banks accounted for less than 2% of the total. Not trivial, but not the sort of clout the ridiculous $200M statement would imply.

Yes our politicians are bought and sold, and yes they fail to listen to their constituents IMO. But it might pay you to spend an hour trying to understand who really pulls the wallet-strings of each party. Laywers are the major purchasers with Telecomm a distant 2nd. Banks are far down the list.
==

I'm with Francesca - there is nothing wrong, mysterious or underhanded about fractional reserve banking. It's a prudent and proven system.

 

[stevea]

Sorry, duplicate.

 

[Patrick_R]

I'm not defending anything, only suggesting that the foundations of the criticism of fractional reserve banking are very reasonable and rational points.

An article from Rothbard on fractional reserve banking: http://www.lewrockwell.com/rothbard/frb.html

It seems most of us can agree that increasing the money supply faster than the demand for money and the velocity of money means you have inflation. Way too much money leads to hyper inflation.

The Austrians just take this one step further - understanding that banks are expanding the money supply by lending more than they have.

And naturally this does present some problems. If creditors demand their money when you have lent it out your bank is in a bit of a rough spot.

Here is what Rothbard says,

“Let's see how the fractional reserve process works, in the absence of a central bank. I set up a Rothbard Bank, and invest $1,000 of cash (whether gold or government paper does not matter here). Then I "lend out" $10,000 to someone, either for consumer spending or to invest in his business. How can I "lend out" far more than I have? Ahh, that's the magic of the "fraction" in the fractional reserve. I simply open up a checking account of $10,000 which I am happy to lend to Mr. Jones. Why does Jones borrow from me? Well, for one thing, I can charge a lower rate of interest than savers would. I don't have to save up the money myself, but simply can counterfeit it out of thin air. (In the nineteenth century, I would have been able to issue bank notes, but the Federal Reserve now monopolizes note issues.) Since demand deposits at the Rothbard Bank function as equivalent to cash, the nation's money supply has just, by magic, increased by $10,000. The inflationary, counterfeiting process is under way.

The nineteenth-century English economist Thomas Tooke correctly stated that "free trade in banking is tantamount to free trade in swindling." But under freedom, and without government support, there are some severe hitches in this counterfeiting process, or in what has been termed "free banking." First: why should anyone trust me? Why should anyone accept the checking deposits of the Rothbard Bank? But second, even if I were trusted, and I were able to con my way into the trust of the gullible, there is another severe problem, caused by the fact that the banking system is competitive, with free entry into the field. After all, the Rothbard Bank is limited in its clientele. After Jones borrows checking deposits from me, he is going to spend it. Why else pay money for a loan? Sooner or later, the money he spends, whether for a vacation, or for expanding his business, will be spent on the goods or services of clients of some other bank, say the Rockwell Bank. The Rockwell Bank is not particularly interested in holding checking accounts on my bank; it wants reserves so that it can pyramid its own counterfeiting on top of cash reserves. And so if, to make the case simple, the Rockwell Bank gets a $10,000 check on the Rothbard Bank, it is going to demand cash so that it can do some inflationary counterfeit-pyramiding of its own. But, I, of course, can't pay the $10,000, so I'm finished. Bankrupt. Found out. By rights, I should be in jail as an embezzler, but at least my phoney checking deposits and I are out of the game, and out of the money supply.

Hence, under free competition, and without government support and enforcement, there will only be limited scope for fractional-reserve counterfeiting. Banks could form cartels to prop each other up, but generally cartels on the market don't work well without government enforcement, without the government cracking down on competitors who insist on busting the cartel, in this case, forcing competing banks to pay up.”