Split Thread Fractional reserve credit vs. derivatives

[rikzilla]

Any system that relies on guns to make it work will ultimately destroy itself.

The market rejects the use of violence.

Violence stops economic growth, it does not encourage it.

Forcing people to accept a currency does not make the currency exempt from destruction.

Are you kidding? How have neoliberal economic ideas been promoted in Chile? Argentina? Indonesia? Russia? China?

Laissez faire doesn't happen easily in a democracy, it's easier to implement at the point of a gun because these kinds of market reforms are not popular. The imminent threat of broad violence has historically made the people accept the unacceptable. This is an example (several really) of violence going hand in hand with economic growth of this kind. I find it a little hard to believe that "the market rejects the use of violence" is some kind of axiom when the market has applauded vigorously as billions were carted out of places like Baghdad or Santiago by multinational corporations on the heels of war, torture, and general planned deprivations.

-z

 

[Francesca R]

Selling shares that have been borrowed from a third party does not create phantom shares - as long as the buyer or his agent takes physical possession of the traded shares.

You appear to be trying to maintain that using derivatives to sell and buy stocks doesn't create synthetic exposures, but banks re-lending money they have borrowed does "create new money"

You don't get to have it both ways. If selling borrowed stock to a new buyer does not create synthetic long exposure (in reality it does--the buyer of the borrowed stock is long and the legal-title owner who lent it is long as well), then lending borrowed money to a new borrower doesn't create synthetic money exposures either, however you mean it.

Yet according to your post 100, you think it does.

I could borrow a motor car from somebody and sell it to a third party. There would still only be one motor vehicle and the original owner would not be driving a "phantom" motor vehicle around while his real vehicle is on loan

This confuses "net asset value" and "gross exposure", and also confuses beneficial ownership with legal title.

There is one vehicle, but there is 2 x long exposure to the motor vehicle (the lender of the car remains long one car, and the third party is long one car) and 1 x short exposure to the vehicle (you are short one car).

If--for the sake of this analogy--the car suddenly increased in value and the original owner wanted to sell it to cash in, then she would call in the loan of her car made to you, you would then have to go out and buy that car back from who you sold it to, you'd return it to the owner and she'd sell it (to someone else). At that point there is, once again, only one long exposure and no shorts. Meanwhile you have lost a real, tangible sum on your ill-fated synthetic short, the third party you sold it to has had a real, tangible gain from his synthetic position long of a car, and the original owner has a real, tangible gain as well.

Total profit/loss (change in net asset value) is 1 x [the increase in the car's value]. Gross profit is 2 x [same]. Gross losses are -1 x [same].

There is another issue that you don't appreciate:If a broker was to start selling shares that he had neither bought nor borrowed (naked short selling) he would still need to have actual shares on hand in case some of his clients wanted to take their shares away with them.

Agreed but naked shorting is not what is being discussed and fractional reserve lending is (see previous post) not at all like naked shorting and very much like covered shorting.

This is exactly analogous to how a bank operates under FRB and it has the same problem; if the broker goes out of business (and any rumour that he was naked short selling would ensure that) then all the shares that his clients thought they were buying would cease to exist.

It is very different to how a bank operates under FRB since its loans are backed by deposits.

To repeat--to fulfil your accusation that a bank was doing naked shorting, it would need to be making loans without having taken any deposits at all.

 

[psionl0]

Apparently, you don't have a clear idea of what fractionalism entails.

Banks create money when they make loans because they give depositors and borrowers access to the same money at the same time. In the example I referred to in post #100, the bank loaned out $10,000. However, it didn't tell the people who deposited the $10,000 that they would have to wait until the loan was repaid before they could spend their money again. It can't say this to its depositors because it isn't borrowing this money, it is holding it on behalf of its depositors. BTW bank loans are not backed by deposits (these are the things the bank is lending out). They are backed by promissory notes signed by the borrowers.

Banks can get away with this because money in bank accounts is just as real as notes and coins. However, phantom shares (if they existed as you claim) would have none of the properties of the real ones. One can make or lose money by trading on the things he has borrowed but that doesn't mean that anything has been created during the trade.

You didn't read the example of the naked short selling stock broker clearly. He must have a reserve of stocks in the same way that banks must maintain a reserve of notes and coins. In reality, a stockbroker could not lend its clients' shares out without the permission of the share holder. So FRB is more akin to "naked" than "covered" short selling.

The key question you need to ask is, "can the original share owner trade these shares WHILE they are on loan"? Since the answer is "no", there is no fractionalism involved. Note that the original owner could sell his interest in the loaned shares but he is then trading in debt - not shares. Neither the original owner nor the person who buys up the interest can touch the shares themselves until they are repaid.

 

[ladmo]

Banks create money when they make loans because they give depositors and borrowers access to the same money at the same time. In the example I referred to in post #100, the bank loaned out $10,000. However, it didn't tell the people who deposited the $10,000 that they would have to wait until the loan was repaid before they could spend their money again. It can't say this to its depositors because it isn't borrowing this money, it is holding it on behalf of its depositors. BTW bank loans are not backed by deposits (these are the things the bank is lending out). They are backed by promissory notes signed by the borrowers.

Banks can get away with this because money in bank accounts is just as real as notes and coins. However, phantom shares (if they existed as you claim) would have none of the properties of the real ones. One can make or lose money by trading on the things he has borrowed but that doesn't mean that anything has been created during the trade...

Excellent psion10... your explanation is quite understandable.

 

[lomiller]

Rubbish. Notice deposits and time deposits are always bailed out by democratic governments. You are describing an anarcho-capitalist utopia that is not in existence in any developed country with a functioning banking system.

I find it funny that this anarcho–capitalist position still needs to have even more restrictive rules then the current ones.

 

[Suddenly]

I find it funny that this anarcho–capitalist position still needs to have even more restrictive rules then the current ones.

Yeah... shouldn't depositors be free to put dough in banks with whatever reserve requirements they desire, and the free market would make the decision?

I mean, those paranoid against FRB could pay a bank to warehouse their money and process checks and so on (the bank couldn't invest it of course, that would make it less than 100% reserve, so no interest for you) and others could use a bank following FRB for free and get free checking and some interest.

A ban on banking processes seems a bit draconian and statist.

 

[ladmo]

[QUOTEGovernments do not let despositors lose their savings where governments are democratically elected. [/QUOTE]

This is more of an opinion. The government has allowed the banks to take homes from people who cannot make their payments. If money is so sacred, then the home should also be treated as such but since it is the banking industry that reaps the rewards (this is worth another thread) from the foreclosure process... the homeowner is not bailed out like the lending and betting institutions.

 

[michaelsuede]

I find it funny that this anarcho–capitalist position still needs to have even more restrictive rules then the current ones.

You shouldn't.

The free market is much more unforgiving than central bankers.

For example, a free market never would have bailed out bankers at tax payer expense. Nor would the free market ever have let banks become "too big to fail" in the first place.

 

[lomiller]

You shouldn't.

The free market is much more unforgiving than central bankers.

For example, a free market never would have bailed out bankers at tax payer expense. Nor would the free market ever have let banks become "too big to fail" in the first place.

The first is correct, the free market would not have bailed out a troubled banking system, it would have simply let the banks go under and allowed the resulting liquidity and crisis to shut down most US businesses.

The second is patently false. When left to their own devices corporations almost always consolidate to the fewest possible players because that allows them pricing power.

 

[michaelsuede]

The first is correct, the free market would not have bailed out a troubled banking system, it would have simply let the banks go under and allowed the resulting liquidity and crisis to shut down most US businesses.

The second is patently false. When left to their own devices corporations almost always consolidate to the fewest possible players because that allows them pricing power.

The second is patently true. Corporations are only capable of becoming massive conglomerates by using the power of the State to further their business interests. In a free market, competition prevents any one corporation from becoming too big.

For example, government contracts, subsidies, permit requirements, regulatory burdens, etc.. etc.. all serve to benefit big business while destroying start-up competition.

The banking industry itself is consolidated under the Federal Reserve Act, which cartelizes the industry to allow for the even expansion of the money supply to the benefit of private banking interests.

 

[Francesca R]

Banks create money when they make loans because they give depositors and borrowers access to the same money at the same time.

False. If Sally withdraws money then her bank either has to liquidate some reserves or call in its loan to Bob, and if liquidating reserves brings them below the reserve requirement, then it still has to call in the loan to Bob. Banks are prohibited from printing money and increasing the monetary base.

It can't say this to its depositors because it isn't borrowing this money, it is holding it on behalf of its depositors.

BTW bank loans are not backed by deposits

Banks can get away with this because money in bank accounts is just as real as notes and coins.

"Real" means what? It is not part of M0, it is not the monetary base.

However, phantom shares (if they existed as you claim) would have none of the properties of the real ones. One can make or lose money by trading on the things he has borrowed but that doesn't mean that anything has been created during the trade.

An asset and a liability are created, both of which are legal obligations. No net wealth is created. Same with bank lending.

In reality, a stockbroker could not lend its clients' shares out without the permission of the share holder. So FRB is more akin to "naked" than "covered" short selling.

False. Banks have the "permission" of demand depositors to lend against their monies. If they did not, it would be fraudulent and you could notify the authorities and get the practice stopped. (Note that it is invalid for you or anyone to call it "legal fraud" at this point. You invoked permission which in turn invokes prevailing laws.)

The key question you need to ask is, "can the original share owner trade these shares WHILE they are on loan"? Since the answer is "no", there is no fractionalism involved.

Red herring, as above, once Sally withdraws her money, that part which was on loan (if it was on loan) is recalled.

Sorry, you still have nothing. It is something of a mystery why you are typing yourself in knots trying to dodge around this so much. Almost as though you really do not wish to admit that there is no logical case against FRB.

Which is--of course--why it prevails. Everywhere.

 

[Francesca R]

I find it funny that this anarcho–capitalist position still needs to have even more restrictive rules then the current ones.

A ban on banking processes seems a bit draconian and statist.

This is why it is logically inconsistent with an-caps' or libertarians' position/ideology (Not all libertarians are against FRB of course, I don't even think most of them are, but I can't back that up).

 

[NewtonTrino]

This is why it is logically inconsistent with an-caps' or libertarians' position/ideology (Not all libertarians are against FRB of course, I don't even think most of them are, but I can't back that up).

I'd consider myself a small 'l' libertarian and I have no problem with FRB. In fact I'm still not sure what the alternative is...

 

[lomiller]

This is why it is logically inconsistent with an-caps' or libertarians' position/ideology (Not all libertarians are against FRB of course, I don't even think most of them are, but I can't back that up).

Remember US politics are skewed far to the right, so the predominant view of US libertarians tends to fall somewhat more towards the crazy then actual libertarianism. Even though he’s now officially a Republican Ron Paul is still viewed as the leader of the Libertarian party, and a large percentage of self identified US libertarians are going to follow his lead, and he is pro-gold standard anti-Fed anti-FRB.

 

[ladmo]

Remember US politics are skewed far to the right, so the predominant view of US libertarians tends to fall somewhat more towards the crazy then actual libertarianism. Even though he’s now officially a Republican Ron Paul is still viewed as the leader of the Libertarian party, and a large percentage of self identified US libertarians are going to follow his lead, and he is pro-gold standard anti-Fed anti-FRB.

Moral hazard is greatly reduced if the gold standard were used. The gold standard will create another set of issues but the moral hazard dilemma would be checked off.

 

[michaelsuede]

Moral hazard is greatly reduced if the gold standard were used. The gold standard will create another set of issues but the moral hazard dilemma would be checked off.

The moral hazard is greatly reduced if free markets in money and banking are allowed to operate.

What form that money and banking takes is immaterial to it being free of coercion and fraud.

 

[psionl0]

I mean, those paranoid against FRB could pay a bank to warehouse their money and process checks and so on (the bank couldn't invest it of course, that would make it less than 100% reserve, so no interest for you) and others could use a bank following FRB for free and get free checking and some interest.

That's a nice democratic sentiment. It almost sounds like it could work although the banks would still have to be compelled to offer full reserve accounts.

I suspect that the banks' argument against this idea would be that with modern electronic banking, a flight of money from fractional reserve accounts to full reserve accounts could happen much faster and more frequently than would otherwise happen with traditional bank runs. This would be just as catastrophic as as traditional run and because of the ease of transferring money electronically, a flight could start with the slightest of rumours.

 

[michaelsuede]

Well, except for the part about it not being what you said.

"Bank A has 100 dollars of fiat money that has been put on deposit with it by savers.

Bank A can now legitimately make 100 dollars of loans.

If Bank A makes MORE than 100 dollars of loans, the bank will be engaging in fractional reserve lending."

I feel the need to address this since I missed it earlier.

Clearly my statement is entirely accurate and true.

Starting from the position of a bank having zero reserves, if money is put on deposit with that bank by savers, that money can be considered the bank's reserves.

If in the course of operations the bank lends out more money than was deposited in it by the public, it necessarily must be engaged in fractional reserve lending (either that or it's engaged in outright fraud, one of the two).

Please describe a situation where this is not the case.

 

[psionl0]

Rubbish. Notice deposits and time deposits are always bailed out by democratic governments. You are describing an anarcho-capitalist utopia that is not in existence in any developed country with a functioning banking system.

I find it funny that this anarcho–capitalist position still needs to have even more restrictive rules then the current ones.

So you are in favour of the taxpayer bailing out not only people who put their money into demand deposit accounts but also those who put money into the riskier higher interest term deposits.

What next? Shareholders who's share prices have fallen? Householders who's food has expired?

 

[psionl0]

If in the course of operations the bank lends out more money than was deposited in it by the public, it necessarily must be engaged in fractional reserve lending (either that or it's engaged in outright fraud, one of the two).

Please describe a situation where this is not the case.

Sorry Michael, you are labouring under a misapprehension. If a bank lends out ANY of its reserves then it is practising fractional reserve banking. In the most usual case, the loaned money is deposited into the borrower's bank account and the dollar amount of the reserves is unchanged (ie money has been created even if the loan is for less than the bank's reserves).

Since the bank is just crediting its borrower's bank account, it could in theory lend more than its reserves. However, they wouldn't do so because they would expect the lent money to be withdrawn and wind up at a different bank.