How the banks create money

[psionl0]

So where do these large sums of money come from if we are already at the limit as set by the reserve ratio?

Mortgages.

Would you like to confirm that answer drkitten?

 

[se7ensnakes]

The first problem with Fractional Reserve Banking:
Article 1: Section 8 - Congress
"The Congress shall have Power To coin Money and regulate the Value thereof."
Money is whatever society uses as money. Be it credit, digital entries, paper. Fractional Reserve Banking creates money and its money affects society. But Congress cannot regulate its value. Presently Congress is not allowed to interfere with the Federal Reserve's decision. Nor can it generally interfere with credit in private banks. Congress did not merely charter a private central bank to do their duties ...congress actually abdicated its power.

 

[JoelKatz]

I interpret this clause to mean that Congress can coin money and has the power to regulate the value of the money that Congress has coined. Interpreted the way you suggest, this would prohibit private banks from even issuing mortgages because they reduce the value of dollars.

 

[Sceptic-PK]

The first problem with Fractional Reserve Banking:
Article 1: Section 8 - Congress
"The Congress shall have Power To coin Money and regulate the Value thereof."
Money is whatever society uses as money. Be it credit, digital entries, paper. Fractional Reserve Banking creates money and its money affects society. But Congress cannot regulate its value. Presently Congress is not allowed to interfere with the Federal Reserve's decision. Nor can it generally interfere with credit in private banks. Congress did not merely charter a private central bank to do their duties ...congress actually abdicated its power.

Wrong once again. The Fed is an independent government agency whose powers were given to it by Congress, the same way Congress has the authority to delegate any number of its powers to other sectors of the government. Just more CT nonsense from people who don't understand banking.

 

[drkitten]

Would you like to confirm that answer drkitten?

Not really; it's right, but it's incomplete.

Obviously, any bank that has currently lent out to the legal maximum isn't going to be lending any more out right now, but that's because it's already lent out the money at the kind of bucket wholesaler rates that are only possible if you have large amounts of money to lend in the first place.

And any bank that has lent out to the legal maximum will therefore be getting money back, including repayment of principle and the interest earned on top of it. So if the bank is lent out to the maximum today, just come back next week and it should have enough money to lend out some more. And it will be able to do so more cheaply than you can get the money in dribbles.

And, of course, the money that's been lent out is itself being used in many instances to create wealth, which in turn means that people have more disposable income which they will use to make new deposits and thereby increase the amount that the bank can lend out.

Really, I'm wondering why you consider your question to be relevant. If FRB is good because it allows banks to make loans more cheaply, then a bank that has made lots of loans is a direct proof that the system works in practice as well as only in theory.

 

[tensordyne]

... sorry for this interuption ...



According to Steve Keen commercial banks routinely lend money even if they do not have the reserves required. Reading over this thread I can not help but think about a thread I started on this same subject dedicated to just trying to figure out exactly how FRB's do their accounting, i.e., what the rules are exactly.

Many people seem to think that banks loan out from what they have instead of creating new money from book-keeping entries. On this score I think such people are wrong (read the quote on my signature for why I think so).

Another question seems to be whether Fractional Reserve Banking is really such a good idea for society as a whole. The general concensus that was reached on the thread I started was (as far as I could tell and only relating to the accounting not the consequences of the accounting) that FRB's create the loan principal from nothing, charge interest that they do not create from nothing and is not seperately also created from nothing, and then when repayment is made the principal of the loan is extinguished (book-keeping wise) but the interest is profit for the bank in question. The result of charging interest then means there is always a pressure for a new loan to cover the interest created ex nihilo. Unfortunately, since the next loan in the chain comes with interest in the same way as any original loans did, the system can never reach an equilibrium, thus implying the impossibility of loan repayment gets worse the more interest is charged.

More could be said but it has all been said before I suppose.

 

[drkitten]

Many people seem to think that banks loan out from what they have instead of creating new money from book-keeping entries. On this score I think such people are wrong (read the quote on my signature for why I think so).

Yes, and you're wrong to think so. We went over this in depth on another thread; the quotation was shown to be taken completely out of context and entirely misrepresented. All it means is that when you take out a loan, you're not handed cash at closing; instead the money you borrow is credited to your account, and if you want it in cash instead, you have to go to a teller and make a withdrawal.

Another question seems to be whether Fractional Reserve Banking is really such a good idea for society as a whole.

Well, that may "seem" to be a question, but it's an easy one to answer.

Yes.

You posted this drivel in the other thread and got hammered for it. The arguments against your drivel are as valid now as they are then.

More could be said but it has all been said before I suppose.

Yup. Your drivel is still drivel.

 

[tensordyne]

not surprised...

Besides the drivel comments (which are vapid remarks not worthy of further comment except to note how truly reactionary / hatefull / unnecessary they are), I can not honestly see how drkitten is interpreting the quote I give as a signature as saying anything other then that the loan principle is created ex nihilo. Is drkitten asserting then that the loan principal is taken out of (subtracted from) the reserves a bank has? If so, any proof of this assertion would be more then welcome.

It is the maths behind the loan process that is important. So please tell me the math if you think I am wrong. Backing it up with some kind of documentation would be nice as well.

 

[se7ensnakes]

abdication or delegation?

It is clear that congress has abdicated its powers to the Federal Reserve and to Private Banks. Can an elected congressman sit in all FED meetings? Can a congressman obtain minutes of FED meetings abroad? The answer is ...NO. This is abdication not delegation. So once again you are wrong.
It is rather obvious that the founding fathers meant that coin = money. Anything affecting the volume of money in circulation comes under the heading of money. Anything affecting the volume of money in circulation need to be manage with the uttermost transparency. Anything less and you are inviting the Madoffs of the world to run things.
The problem is that the system we have is the result of lobbyist. Suit cases of cash are used to get the "right" people to pass laws that are a detriment to the working people. But I believe that you believe that record number of foreclosures, bankrupsies, unemployment, and underemployment, is worth it just so that banks can go happily affecting the volume of money in circulation.

 

[se7ensnakes]

tensodyne: The problem of fractiona reserve is not so much the interest, but the resulting expansion and contraction of the money supply. Prices go up or unemployment, bankruptsies, and foreclosures. If you were Madoff controlling the system of credit, can you figure out how to fleece the masses with foreknowledge of the economical ups and downs?

 

[se7ensnakes]

Fractional Reserve is Very Bad

Fractional Reserve causes boom and burst:
Imagine an Island where a couple of rabbits live. Soon these rabbits have baby rabbits and the baby rabbits have rabbits of their own. And in a matter of months there is no more grass to sustain the population so most of the rabbits die. A few are left, the grass grows again and the cycle begins again.
We need not only end the fed, we need to end fractional reserve banking.

 

[lomiller]

Is drkitten asserting then that the loan principal is taken out of (subtracted from) the reserves a bank has?

When a loan is deposited to you account you have 2 things happening.
1) Money is take out of reserve and records the creation of an asset in the value of the loan. I.E. they took money out of reserve to give you the loan
2) Money is put into reserve and a liability is created in the amount deposited to your account. I.E. they credit your account and put the money you gave them into their reserve

Since the two happen simultaneously, however the changes to reserve are a wash so functionally you get exactly the same result in one step if you:
1) Create an asset in the value of the loan and create a corresponding liability by depositing the money to you account.

Since the 1 step process is functionally equivalent and more efficient this is what they do in practice.

All the same rules regarding reserve requirements still apply so if they have $100 in reserve and a 10% reserve requirement their total loans can’t be more then $1000, if your loan would have put them over this then they need to either make sure they have more reserves before the day ends or they can’t make the loan. Since bank deposits are part of M2 money the M2 money supply grows by the amount of the deposit to your account, which is also the amount of the loan.

 

[lomiller]

Fractional Reserve causes boom and burst:
Imagine an Island where a couple of rabbits live. Soon these rabbits have baby rabbits and the baby rabbits have rabbits of their own. And in a matter of months there is no more grass to sustain the population so most of the rabbits die. A few are left, the grass grows again and the cycle begins again.

Without the Fed that may well be what happens but the Fed sets reserve requirements which in effect says that “the original rabbits can have no more than 10 living descendants at any given time” which effectively limits total population to 10 rabbits. They then control the total population by adding or removing “original” rabbits.

 

[tensordyne]

quibbles



Some comments about the post by lomiller. Let me take all of the following as gospel:

When a loan is deposited to you account you have 2 things happening.
1) Money is take out of reserve and records the creation of an asset in the value of the loan. I.E. they took money out of reserve to give you the loan
2) Money is put into reserve and a liability is created in the amount deposited to your account. I.E. they credit your account and put the money you gave them into their reserve

Since the two happen simultaneously, however the changes to reserve are a wash so functionally you get exactly the same result in one step if you:
1) Create an asset in the value of the loan and create a corresponding liability by depositing the money to you account.

Since the 1 step process is functionally equivalent and more efficient this is what they do in practice.

All the same rules regarding reserve requirements still apply so if they have $100 in reserve and a 10% reserve requirement their total loans can’t be more then $1000, if your loan would have put them over this then they need to either make sure they have more reserves before the day ends or they can’t make the loan. Since bank deposits are part of M2 money the M2 money supply grows by the amount of the deposit to your account, which is also the amount of the loan.

One problem is that nothing like evidence was provided to show that this is the case, but let's not quibble. According to the above the natural question is why is money put back into the reserve in step 2? Is this "money" in the form of the promissary note? If so, then apples are being mixed in with oranges. Actually, this is a show-stopper for further analysis of the consequences of the above statements. Looking at the step that combines the steps into one step for guidance on how to interpret the above quote does not help much either I am afraid. In this I am simply trying to figure out what exactly lomiller is trying to say and nothing more but am stymmied by the lack of concreteness.

In any event, I hope we can both agree that a promissory note is the asset being reffered to. I would contend that a promissory note should not be called money in the same sense as accounting money. On a personal note, I have always somewhat dispised lomiller's avatar picture. It reminds me of some cock-sure carsalesman or something.

 

[lomiller]

According to the above the natural question is why is money put back into the reserve in step 2?

It’s put back in because the size of their reserve determines the maximum amount a bank can lend.

Is this "money" in the form of the promissary note?

Only currency or accounts with Federal Reserve Bank can be used as bank reserves.

In any event, I hope we can both agree that a promissory note is the asset being reffered to. I would contend that a promissory note should not be called money in the same sense as accounting money

Do you mean the promises of the borrower to repay the loan? Yes, this is the asset the bank receives in exchange for the liability of crediting the lenders account. Both of these, however, are promises to make money available.

Your promise to repay the loan, however, isn’t part of the money supply. The banks promise to supply you with money on demand *is* part of the money supply. This is the only money created in the fractional reserve process.

 

[se7ensnakes]

How Banks circumvent reserve requirements

The required reserve ratio applies only to demand deposits, not savings accounts and term deposits which comprise the major part of a bank's deposit liabilities. Additionally real transaction data suggest that the reserve requirements have negligible affect in bank lending. Commercial, industrial and consumer loans no longer have any link to bank reserves. Since 1995, the volume of such loans have exploded, while bank reserve have actually declined.

 

[se7ensnakes]

ya dun undestat banfking

How deep do you need to go? We are suppose to be a republic, a republic is government according to laws posted in a constitution. The constitution says that congress have the power to coin money and determine its value. Then you turn around and tell me that the Fed is independent? But independece does not mean delagation ...it clearly means abdication. If a franchise owner of Taco Bell hires a manager. This is delegation. The franchise owner goes and plays golf all day long, but looking at the books at the end of the month he can come in and question the manager how he sees fit. The Owner can demand that the manager make certain changes. This is called delegation. Independence, is not delegation. its abdication. Also the federal reserve act did not happen as a result of a politicians think tank, but as a result of bankers getting together and paying off politicians.

 

[Sceptic-PK]

It is clear that congress has abdicated its powers to the Federal Reserve and to Private Banks. Can an elected congressman sit in all FED meetings? Can a congressman obtain minutes of FED meetings abroad? The answer is ...NO. This is abdication not delegation. So once again you are wrong.

You don't understand how the Fed works. FYI there is absolutely nothing preventing Congress from changing the relationship of the Fed inside government, hence it is not "abdication" (which of course is an absurd term in the context you're using it but I won't expect you to realise that).

FYI all board minutes are released by the Fed with a lag, last time I checked it was 5 years. So, go knock yourself out and investigate the minutes from 2005 and provide us evidence of all the nefarious activities as the Fed attempts to maintain full employment, stable prices and a stable currency.

It is rather obvious that the founding fathers meant that coin = money.

So, we should obviously ban credit cards, EFT payments and sharemarket transactions, right?

The problem is that the system we have is the result of lobbyist. Suit cases of cash are used to get the "right" people to pass laws that are a detriment to the working people. But I believe that you believe that record number of foreclosures, bankrupsies, unemployment, and underemployment, is worth it just so that banks can go happily affecting the volume of money in circulation.

You're conflating a number of irrelevant issues here. People go bankrupt and have their houses foreclosed on because they are unable to make their repayments. Of course, under your fictitious, magical system these issues would be compounded due to extraordinarily high interest payments due to lack of fractional lending.

How deep do you need to go? We are suppose to be a republic, a republic is government according to laws posted in a constitution. The constitution says that congress have the power to coin money and determine its value. Then you turn around and tell me that the Fed is independent?

I suggest you learn how to use the quote function. Yes, the Fed is independent. I have serious problems understanding why you and the rest of the CT brigade don't follow the reasoning behind the independence of central banks. Most if not all central banks are organised in a similar fashion to conduct monetary policy independently from political pressure. You'd be the first one to tell us that we can't trust our politicians, yet you want them with their hand in the cookie jar it would seem. Please make up your mind.

Please also note that Congress can delegate any of its responsibilities given to it by the Constitution except where the Constitution forbids it.

But independece does not mean delagation ...it clearly means abdication. If a franchise owner of Taco Bell hires a manager. This is delegation. The franchise owner goes and plays golf all day long, but looking at the books at the end of the month he can come in and question the manager how he sees fit. The Owner can demand that the manager make certain changes. This is called delegation. Independence, is not delegation. its abdication.

The fact you don't understand that Congress can make any changes to the relationship between the Fed and the rest of government means that any further discussion with you on this topic is pointless.

Also the federal reserve act did not happen as a result of a politicians think tank, but as a result of bankers getting together and paying off politicians.

Of course this is completely wrong and I suggest you read real history books rather than nonsensical fantasy like Griffin's The Creature from Jekyll Island. If you are unable to choose adequate source material you will find it difficult to understand the topic properly.

 

[Sceptic-PK]

The result of charging interest then means there is always a pressure for a new loan to cover the interest created ex nihilo. Unfortunately, since the next loan in the chain comes with interest in the same way as any original loans did, the system can never reach an equilibrium, thus implying the impossibility of loan repayment gets worse the more interest is charged.

Explain to me how people pay off their loans then. How did I pay off my car loan? How am I paying off my house loans? How did my parents, my grandparents?

 

[drkitten]

Explain to me how people pay off their loans then. How did I pay off my car loan? How am I paying off my house loans? How did my parents, my grandparents?

In the real world, by creating wealth.

In anti-Fed paranoid fantasy magic world, by stealing from other people who were forced to take out loans to cover your interest.

Exactly one of these descriptions accurately reflects economics. Hint: it's not the one espoused by tensordyne.