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My attention was caught by the removal of an "unreferenced section" tag from this section by an editor stating that "references not needed, info is self evident." That's not right. When a reference is requested, one should be supplied. Here, the red flag is the attribution to "critics."
What critics, exactly, have said this, and wouldn't it be better to quote them if possible rather than to paraphrase? As it stands, having been tagged as unreferenced for half a year without the request for references being honored, one might think that an editor was stating his own beliefs but attributing them to "critics."
If this material is true and self-evident, then someone, somewhere will have written about it, and the burden of locating and quoting that reference is on those who wish to have this material in the article. Dpbsmith (talk) 23:34, 12 September 2008 (UTC)
Critics of current bank regulations argue that:
The criticisms sections here is mostly undocumented, and with a fair bit of nonsense. The statement that it is incompatible with a gold standard - despite all the historical evidence - is just bizarre. I'm going to flag this for now with a view to deleting eventually unless there's some content added.-- Gregalton ( talk) 10:26, 8 March 2008 (UTC)
Fractional reserve banking can be done based on gold or fiat currency no problems. It is however harder to expand the money supply if you are based on gold, which of course has both positive and negative aspects - it stops the government abusing the currency, but equally the size of the economy becomes heavily dependant on how much gold is held/mined rather than innovation or productivity increases leading (hence all the wars during the ages of mercantilism and empire being significantly preoccupied with getting as much gold as possible to just sit around in vaults somewhere). -- 86.164.126.9 ( talk) 21:49, 2 October 2008 (UTC)
The article says "when loans are paid back, the process moves from the bottom to the top and commercial bank money is canceled out, effectively erasing it from existence." It seems, given events in the economy during 2008, this is one of the most important points in the whole article, but I think this article does little more than skate over this issue.
How is FSB effected if debt is re-paid, even more importantly how is it effected if debt goes bad?
There is another connected issue. In an economy which is seeing rapid increases in productivity, which presumably leads to higher wages, it is possible to envisage a scenario in which people and business re-pay debt, without reducing expenditure. But how does this impact on FSB?
A criticism made of FSB elsewhere is that it can only work if debt continuously expands. This article implies that if commercial bank money is re-paid there would be a sharp reduction in money supply, apparently confirming this criticism. This is an important criticism, and if true a major flaw in FSB. Is this criticism valid?
It seems that a flaw with the gold standard was that as innovation led to greater potential economic output, the supply of money was constrained by the amount of gold in existence. Actually, if output rises and money supply stays constant, one would expect price to fall.
Presumably FSB enables the possibility of creating money in tandem with growth in potential output. Is this a major benefit of this system over gold based standards?
mikeiabn —Preceding unsigned comment added by Mikeiabn ( talk • contribs) 13:28, 18 September 2008 (UTC)
I find the "History" section completely useless, as it gives no sense of when or where fractional reserve banking originated or developed. It would be better to eliminate it until someone puts some concrete facts and events in there. Right now, it isn't history at all. JoeFink ( talk) 17:09, 1 October 2008 (UTC)
I just reverted Scientus' complete deletion of this section. Just because no exact date is given, doesn't mean the section is completely useless! This information is factually accurate and has been explained many times in books, documentaries, and at other sites. So I believe that full deletion is a disservice. By leaving it in, perhaps someone will take the time to research and edit the section, and bring it up to par in the future. Htfiddler ( talk) 15:59, 15 October 2008 (UTC)
I put in the ambox but i really hate those, in general the section just really sucked, was very vague, uninteresting, and didnt really say anthing. I do not argue that what it is talking about is important and deserves coverage but i would certainly not enjoy reading it again, it needs a rewrite. Maybe it could be moved to the bottom of the page, or archived into talk?, or replaced with a really good external link? Scientus ( talk) 16:07, 15 October 2008 (UTC)
I agree that it sucks and don't have time for the needed rewrite. It is in the right location for sure. Let's just hope someone will eventually come along and fix it. In the meantime, I am linking to this section, and would appreciate it being left in the article. Thx. Htfiddler ( talk) 07:37, 16 October 2008 (UTC)
Although the table is correct it is misleading. To the layman it looks as if Bank A actually pays out 80 ( as a loan ) and leaves only 20. This is not the case as the Bank simply credits it's borrowers account with 80 in return for an IOU ( promissory note ) The 100 deposit remains untouched, and the bank's Assets increase to 180. This should be made clearer IMO. 81.79.255.0 ( talk) 16:59, 7 October 2008 (UTC)
The table and the complete article is complete nonsense because it confuses the meaning of reserves. Reserves in banking terms ARE SHAREHOLDER FUNDS . . .i.e. money raised from investors in the bank and the retained (i.e. undistributed earnings or profits). They are not a share of depositors money held bank for a rainy day! It is the RESERVE ASSET RATIO that allows banks collectively to create money and the LIQUIDITY RATIO that constrains a particular bank. If Bank A starts business with 20 dollars as reserves in fresh capital (ie. 20 dollars in cash and 20 dollars as reserves) then it can create indeed create a loan of 80 dollars if the required ratio is 20 percent. It creates a debit balance of 80 dollars on the loan account and a credit balance of 80 dollars on the checking account. If there are 10 banks in the economy and all have the same share of business in the economy then Bank A is likely only to retain 8 dollars of that checking account money, the rest will spill into the other banks. This creates two problems. Bank A has a liquidity problem because it has to pay 72 dollars to the other banks and it only has 20 dollars in cash. It needs to borrow 52 dollars from the other banks! The other banks now have a reserves problem. Their collective balance sheets have increased by 72 dollars (72 dollars in fresh liabilities as customer deposits matched by a 52 dollar loan to Bank A and the 20 dollars that Bank A had shipped over in a
Securicor van. They are now below their allowed reserves ratio. Indeed to support 72 dollars fresh balances they need to raise 18 dollars of fresh capital from their stockholders or make a profit of 18 dollars from 72 dollars (quite hard to do in a single day unless you are an investment bank selling a sow's ear as a crock of gold). Bank A meanwhile has liabilites as follows ... Share Capital 20 dollars, Interbank borrowing 52 dollars and a Customer credit balance of 8 dollars making total Liablilities of 80 dollars. On the assets side it still has the the customer loan of 80 dollars, so its reserve ratio is still 20 per cent. A single bank's ability to create new money is severely limited by the need to maintain liquidity (In practise Bank A has no liquid assets and could be put out of business by the other banks immediately). Collectively the banks can expand the money supply if they are all growing their business at the same rate, but they still need to get SHAREHOLDER FUNDS or MAKE AND RETAIN PROFITS to sustain their capital ratios. The table makes the fundamental mistake of thinking that money is created by the central bank placing deposits in the commercial sector. This does not normally happen. Nor does money stay in the same bank. It tends to get spent and spreads into other banks. Deposits move between banks but do not accumulate over time as the table suggests. The need to maintain both liquidity and reserve assets (shareholder funds... not held back cash are fundamental constraining factors. The present money crisis is a problem for the banks because they now have made huge losses. This has reduced their capital ratios and has been causing them to stop lending to maintain adequate reserve asset ratios. The action of central banks in Europe has been to pump in capital making this pressure reduce, and by lending against toxic assets (which rather unusually for central banks) places deposits at the disposal of the banks, increases liquidity. It also increases the money supply and will have impacts on inflation in the longer term, which will probably mean higher interests will be needed in the longer term (even if the flood of liquidity has decreased rates over the short term). I am amazed that this table has been in this article for so long without this even being questioned. --
Tom (
talk)
23:25, 17 October 2008 (UTC)
Analoguni ( talk) 05:11, 21 October 2008 (UTC)
Analoguni ( talk) 07:41, 25 October 2008 (UTC)
http://www.federalreserveeducation.org/fed101_html/policy/frtoday_depositCreation.pdf
I think the opening sentence is poorly worded and gives a misleading impression unless you already know what it means:
says that banks are forced to do this thing, rather than being permitted to. Perhaps better
This inversion of meaning seems to have come in at revision 206775658, 9 April 2008 and loses the intent of the source cited in the discussion leading to the change Lead: text suggestion
- Royan ( talk) 10:32, 20 October 2008 (UTC)
Analoguni ( talk) 05:10, 21 October 2008 (UTC)
please provide sources, as I am intersted in the subject. See http://en.wikipedia.org/wiki/Talk:Fractional-reserve_banking#High_power_money_in_the_.22Money_as_Debt.22_movie Analoguni ( talk) 07:42, 25 October 2008 (UTC)
That is a deeply flawed film. However - to the subject - according to the http://en.wikipedia.org/wiki/Capital_requirement page - lending institutions can lend a multiple of their capital requirement. —Preceding unsigned comment added by Mischling ( talk • contribs) 23:40, 26 October 2008 (UTC)
There seems to be a lot of confusion regarding the "creation of new money", also referred to as "commercial bank-money" throughout this article. Now, I'm not an expert on economics, however I think I have located two sources of confusion. The first seems to stem from lack of precision in defining fractional-reserve banking, and the second from confusion around whether or not federal-reserve banking implies something about what the real money should be.
In order to have some more precision in our discussion, let's make a few definitions.
We are in a fictonal community with currency Unit of Currency denoted . We do not assume anything with respect to the nature of what really is. Let . Let be the total deposits to Bank at time , let be the reserve in bank at time . Here deposit effectively means the the number obtained by adding up the balance of all accounts held by all the banks customers, viz. the money deposited to the bank for safe-keeping by other parties. Reserves means the number of bank-notes kept in the Banks vault.
Now then, some participants on this forum seem to be employing the following definition:
Definition 1 Fractional-reserve banking (FRB) is the practise where, for some preordained , all banks are required to at all times maintain the inequality
.
This means that if and represents some point in time
for which it is true that customers have total deposits of in bank , then
bank is reqired to ensure that the reserve at those points in time is no less than
. Note that reduces full-RB to a special case of fractional-RB.
Now, in my opinion, if this is the correct definition, there really is not much more to be said about FRB, and anything else could be nicely fit within one extra paragraph or so with proper references/links to articles on bank-runs, central-banks, money-supply etc. Clearly, with definition 1 and , a bank can upon a deposit of 100UC by person X lend out up to 90UC to person Y, and X clearly cannot withdraw more than 10UC until (some of) the loan have been repaid by Y, as there is nothing there to pay out. In fact, X cannot withdraw anything until some of the loan has been repaied by Y, lest the bank would violate the fractional-reserve constraint (Does this system sound like the one we all know?).
However, others seem to use a fundamentally different definition of FRB:
Definition 2 Fractonal-reserve banking (FRB) is the practise where, for some preordained , all banks are required to at all times maintain the inequality
and furthermore, bank may at time create/issue an amount of money, if (i)
and (ii) the money is created specifically for the purpose of being lent out.
If definition 2 is in fact the accurate one, then -- as many are claiming -- money is created by the banks,
since the money lent out by the bank is not affecting
its deposits-balance.
Example () Upon a deposit of 100UC (in actual currency) from X at time 0 the bank first registers a deposit of 100UC made in the name of X. This means that . 10UC is put aside to ensure that the FR-constraint is not violated, so . Hence up to 90UC can be lent out. However, and actually obviously, they are still counted as part of the banks total deposits; imagine how X would react were he to check his balance and find it at only 10UC. Thus the 90UC's are created to be lent to Y. Evidently, under this scheema, any withdrawal by X -- not exceeding 90UC -- cannot lead to the bank violating the constraint even in the case that Y "deposits" the newly-created UC's at the bank. Why? they still have 10UC in "real" money in the vault to back up the (100-90)+90=100. Now assume Y leaves, reenters (t=1) and deposits his loan in the Bank. The bank now "forgets" where the money originated from, and adds 90UC to their total deposits, so . They promptly place 9UC in the special reserves-vault, now totalling 19UC (10 backs up X's deposits, 9 Backs up Y's deposits). However, the "excess" 81UC's may be lent to Z -- again without affecting the balance in Y's account --- and so on.
This process yields the geometric series
where is the original deposit. So this is the mathematical explanation of how the 100UC's become 1000UC's as described in Modern Money Mechanics or on the home-page of the Fed. In general the series converges to , so that eg. yields the limit . (Note that is not defined for this formula, yet hints to as the limit.)
Feel free to play with this scenario, but note that if it is true that most of the money out there, at any given time, sits in some bank-account, then (i) the amount of money created is a function of the willingness to borrow money in the general public, limited by the series above and the initial deposit of "real money", and (ii) as long as we are willing to accept the mere adjustment of our bank-account balance as payment for goods and services, noone will ever notice a thing. To anyone outside the banks "new-money" and "real-money" is indistinguishable.
Which definition applies? Actually, on the web-page of the Federal Reserve much evidence is found suggesting that it is in fact definition 2 which is representative for the system implemented in the real world (at least the USA). Personally, I am quite disgusted to learn how the process works, and please note that no mention of interest has been made so far. Money = Debt seems to me to reflect accurately the truth. However, as demonstrated above, both scenarios can be described neutrally, and what remains is for the people editing this page to first agree upon what FRB actually means (which pretty much reduces to deciding on one of the above definitions, or possibly some other if neither is accurate). We are bound to have infinitly many re-edits if half the editors work with one definition, while the other half uses a second, since at any point in time the contents will be "false".
Secondly, there is confusion about what the real money is, and whether this is relevant to the article. Note that one can have FRB (with definition 1 or 2), and eg. a gold standard. There is nothing in the definition of FRB which implies what the "real" money should be. In fact, the US did have a system with FRB and a gold standrd until 1971, after which they have FRB with fiat money. Hence it is simply erroneus to make any assumtions as to what the UC's should "really" be. They could be gold, silver, silk or -- as is the case in most countries today -- federal/central-bank-bank notes (which are backed up by the goverments pledge to ensure all citizens accept them as currency...) Again -- personally -- I am strongly biased towards a commodities/precious-metals standard, and will not even attemp writing a neutral article about that matter. My point here is that such issues are irrelevant in an article titled Fractional-reserve banking, as long as it is understood that when there is an X-standard, the reserve may consist of a mixture of X and bank-notes, and when fiat-money is used, what is beeing created by the bank upon a loan request is no longer tokens of X, but more of X itself.
Best Mathias
Barra ( talk) 13:14, 2 November 2008 (UTC)
There have been some recent edits made that change the sense (occasionally to non-sense) of various sentences/paragraphs and also change words in sections that are direct quotes. I am going to roll back these changes. I someone wants to add them back in, please hold off until it can be discussed as many of these edits are simply not good enough to add back in, and some are dangerous. BananaFiend ( talk) 10:02, 6 November 2008 (UTC)
(This article -- and many "money" related articles have many problems -- because the articles are interrelated, I think it would be best to change them all Martycarbone ( talk) 00:35, 7 August 2008 (UTC)):
I propose to restructure the article as follows:
This structure enables NPOV to be maintained, and pushes the controversy to the later part of the article. Remember the purpose of the article is to explain the term rather than to engage in the controversy. 122.57.90.63 ( talk) 19:26, 16 December 2007 (UTC)
Greg, Yes, the term reserves can be used for capital reserves (e.g. when the bank revalues the land under its branches upward), for loan loss provisions, for employee entitlement provisions and probably more. Reserves in banking, for the purposes of this dicusssion, really means legal tender reserves, i.e. assets that can directly discharge the bank's liabilities, without needing to be sold or redeemed. Fractional reserve banking means, at least to some extent, the bank is relying on its ability to sell or redeem assets that it can't directly pay out to discharge its liabilities, so for this discussion we need to be strict about the term. Liquid assets are really secondary reserves that anti-FRB people won't admit as reserves.
I have bought in data from a particular bank, ANZ National as an illustration, to avoid claims of original research. Is this the right thing to do?
The steps you propose to illustrate are good, except you can't dispense with equity capital, it is an essential ingredient in getting people to hold the bank's liabilities. Really a model bank illustration should include equity capital, demand deposits/notes, term deposits, loans and advances, marketable securities, and cash reserves. 122.57.90.63 ( talk) 09:20, 17 December 2007 (UTC)
Greg, If a customer walks into a bank branch and demands repayment, the customer has a right to insist on legal tender, and the bank can't directly use its balances with the central bank to pay the customer (they aren't legal tender), instead the bank has to redeem its balance with the central bank in legal tender which can then be paid to the customer. (This may or may not be correct, but why should you be discussing legal tender here? Most of us think legal tender is money such as dollar bills. If that is not correct -- and perhaps it is not, it should be discussed elsewhere Martycarbone ( talk) 00:35, 7 August 2008 (UTC)) Really the only difference between balances held with a central bank and balances held with a commercial bank is that the former may be safer. 122.57.90.63 ( talk) 21:11, 17 December 2007 (UTC)
Greg,
I think this article is supposed to be pan-jurisdictional and relate to the principle of the thing first, and the variants under regulatory law later.
I've checked out another bank's financial statements, Westpac New Zealand Limited has a less complex balance sheet and it only lists $102m in 'cash and balances with central banks' without breaking it up between the two, and it has a maturity analysis that lists 'on call' separately from 'less than one month'. Interestingly this gives a reserve ratio of just 0.78%, basically the same as the legal tender cash reserve ratio of ANZ National Bank Limited. Perhaps we should put both the balance sheet and the maturity analysis there as the example. David.hillary ( talk) 23:20, 17 December 2007 (UTC)
===Lets keep the table and graph that explains the essence of the fractional reserve system=== ( If that table are graph are the ones I think they are, think they are, in my opinion, they are completely misleading and have nothing to do with the way the fractional reserve system works Martycarbone ( talk) 00:35, 7 August 2008 (UTC)) Since this article is about fractional reserve banking, and the purpose of wikipedia is for people to have the ability to understand things, I think it's necessary to explain what essentially fractional reserve banking is in the simplest way possible. (unless that simple way is erroneous Martycarbone ( talk) 00:35, 7 August 2008 (UTC)) The table that displays the fractional reserve lending system at work does just that. There are a lot of people trying to explain in many words how fractional reserve lending works and this graph does it all for them. There's no need to have long discussions about how much can be lent out. Just look at the table.
Also, the intro to this article is horrible. I have no idea what it's saying. Since wikipedia is supposed to be for people all over the world of different age groups and from different educational backgrounds, I think this article should be designed to be as easy to comprehend as possible. I don't think the intro needs to get too technical or complicated. Just say what fractional reserve banking is: when a bank lends out most of the deposits and increases the money supply without physically creating new money. (That is an erroneous description. New money is essentially created and there is nothing wrong with that. Read the information from Wright Patman on my website --- links above Martycarbone ( talk) 00:35, 7 August 2008 (UTC)) The table then displays how this works. Not much more is needed in this article after that other than the purpose of this system and the arguments supportive of it and arguments against it.
Here is the table again. Could someone please explain why this shouldn't be in this article?: (It is simply wrong in my opinion. It has no relation to how fractional reserve banking works Martycarbone ( talk) 00:35, 7 August 2008 (UTC))
Table 1: $1,000 of actual money loaned out 10 times with a 20 percent reserve rate | |||
---|---|---|---|
Individual Bank | amount deposited at bank | amount loaned out | amount left in bank (reserves) |
A | $1,000.00 | $800.00 | $200.00 |
B | $800.00 | $640.00 | $160.00 |
C | $640.00 | $512.00 | $128.00 |
D | $512.00 | $409.60 | $102.40 |
E | $409.60 | $327.68 | $81.92 |
F | $327.68 | $262.14 | $65.54 |
G | $262.14 | $209.72 | $52.43 |
H | $209.72 | $167.77 | $41.94 |
I | $167.77 | $134.22 | $33.55 |
J | $134.22 | $107.37 | $26.84 |
K | $107.37 | ||
total reserves: | |||
$892.63 | |||
total deposits: | total amount loaned out: | total reserves + last amount deposited | |
$4,570.50 | $3,570.50 | $1,000.00 |
I think this simple table explains things more than sufficiently. Who does or does not like this table? Please state your reasons. (It is so wrong, it is hard to comment on Martycarbone ( talk) 00:35, 7 August 2008 (UTC). I simply think the source is wrong. As far as I can tell the source is simply a publication from the Fed and may or may not been approved by someone who knows the system. Is it not incumbent on you to show where the information in that table agrees with or is supported by a written description in an authoritative source --- such as an FRB law or the other sources on my website? Trying to tell how this chart or table is wrong is like trying to prove something does not exist -- it is virtually impossible Martycarbone ( talk) 00:35, 7 August 2008 (UTC))
Analoguni ( talk) 19:32, 19 December 2007 (UTC)
The problem is that the table above and the one in the current article, do not correctly reflect how the banking system works. In particular, the table claims that loans are made from reserves, which is not correct. Bank loans are not made from reserves. From:
"Modern Money Mechanics, by the Federal Reserve Bank of Chicago": (a statement like "bank loans are not made from reserves is one of those silly statements which are usually deceptive and misleading. Bank loans -- (if the borrower takes cash) are taken (made) from the cash on hand at the bank. Since the bank does not label each dollar of cash on hand with its source, it can't be said that the the dollar comes from any particular account. It is just wrong to say where the loan comes from. You can refer to the accounting entries when referring to a loan and show thereby which accounts are reduced and which are increased when a loan is made -- but that is quite different, I think than saying the loan is made from a certain account -- unless you explain what you are doing, it is just goofy. In your reference -- where does the reference say "loans" are made from?
Martycarbone (
talk)
00:35, 7 August 2008 (UTC))
No, bank loans are not made from cash on hand at the bank. It is not wrong to say where the money comes from because bank loans are newly-created money. THAT is the whole essence of fractional reserve banking. From the reference above by the FRB of Chicago:
"It does not really matter where this money is at any given time. The important fact is that these deposits do not disappear. They are in some deposit accounts at all times. All banks together have $10,000 of deposits and reserves that they did not have before. However, they are not required to keep $10,000 of reserves against the $10,000 of deposits. All they need to retain, under a 10 percent reserve requirement, is $1000. The remaining $9,000 is "excess reserves." This amount can be loaned or invested.
If business is active, the banks with excess reserves probably will have opportunities to loan the $9,000. Of course, they do not really pay out loans from the money they receive as deposits. If they did this, no additional money would be created. What they do when they make loans is to accept promissory notes in exchange for credits to the borrowers' transaction accounts. Loans (assets) and deposits (liabilities) both rise by $9,000. Reserves are unchanged by the loan transactions. But the deposit credits constitute new additions to the total deposits of the banking system."
AceNZ ( talk) 00:04, 28 September 2008 (UTC)
Of course, they do not really pay out loans from the money they receive as deposits. (They might. Once the bank has the deposit on hand, they might turn around and lend some of that money to their next customer Martycarbone ( talk) 00:35, 7 August 2008 (UTC)) (Wrong: as described above, money on-hand is not used to fund loans AceNZ ( talk) 00:04, 28 September 2008 (UTC)). If they did this, no additional money would be created. What they do when they make loans is to accept promissory notes in exchange for credits to the borrowers' transaction accounts. Loans (assets) and deposits (liabilities) both rise by $9,000. Reserves are unchanged by the loan transactions. But the deposit credits constitute new additions to the total deposits of the banking system. (in my opinion, this is way too much information even if it is correct. Can't you simply say "when someone gets a loan they sign a contract to pay that loan back"? You do not have to mention "promissory notes. Also -- why do you have to tell how that transaction is recorded "in exchange for credits to the borrowers' transaction accounts. Loans (assets) and deposits (liabilities) both rise by $9,000. Reserves are unchanged by the loan transactions. But the deposit credits constitute new additions to the total deposits of the banking system.", that just complicates things Martycarbone ( talk) 00:35, 7 August 2008 (UTC))
It also neglects the fact that new money is created when loans are made. Loans are in fact just bookkeeping entries (they are far more than Just bookkeeping entries Martycarbone ( talk) 00:35, 7 August 2008 (UTC)), where the maximum amount is determined by the amount of excess reservesthat are available (I don't want to make a big deal out of this -- but when a loan is made there does not have to be "excess reserves" available. The reserves needed are created precisely by the dollar amount of the loan. Martycarbone ( talk)). That is, in my opinion, precisely the essence of fractional reserve baking Martycarbone ( talk) 00:35, 7 August 2008 (UTC)). In fact for every dollar lent -- that dollar creates about $10 that can be lent out Martycarbone ( talk) 00:35, 7 August 2008 (UTC)) (Again, not correct. New loans don't create reserves. Reserves can only be created by the Federal Reserve, usually through open market operations. And yes, before a loan is made, "excess reserves" must be available. The process is fully described in the reference above that was written by the Federal Reserve themselves AceNZ ( talk) 00:04, 28 September 2008 (UTC)). Here's a revision of the table that tells the story more accurately:
Table 1: $1,000 of actual money loaned out 10 times with a 20 percent reserve rate | ||||
---|---|---|---|---|
Individual Bank | amount deposited at bank | required reserves | excess reserves | new loan |
A | $1,000.00 | $200.00 | $800.00 | $800.00 |
B | $800.00 | $160.00 | $640.00 | $640.00 |
C | $640.00 | $128.00 | $512.00 | $512.00 |
D | $512.00 | $102.40 | $409.60 | $409.60 |
E | $409.60 | $81.92 | $327.68 | $327.68 |
F | $327.68 | $65.54 | $262.14 | $262.14 |
G | $262.14 | $52.43 | $209.72 | $209.72 |
H | $209.72 | $41.94 | $167.77 | $167.77 |
I | $167.77 | $33.55 | $134.22 | $134.22 |
J | $134.22 | $26.84 | $107.37 | $107.37 |
K | $107.37 | |||
total required reserves: | ||||
$892.63 | ||||
total deposits: | total reserves + last amount deposited | total amount loaned out: | ||
$4,570.50 | $1,000.00 | $3,570.50 |
As the number of banks and loans increases, the total required reserves approaches the amount of the initial deposit and the total amount loaned plus the initial reserve approaches 1 divided by the reserve requirement times the amount of the initial deposit (1*1000/0.2 = 5000x in this case).
I suggest the table above be included in the article instead of the current one. -- AceNZ ( talk) 10:20, 6 May 2008 (UTC)
Sorry I find this table and the explanation of FRB as 'lending out deposits' as confusing and unhelpful. What happens to the money lent by the bank in a sense isn't what FRB is about: it is about the money the bank doesn't lend out but hold in reserve, hence the term FRACTIONAL RESERVE BANKING. Since deposits are the bank's liabilities, to talk about lending deposits I think is very confusing. (I agree that it is confusing, but not for the reason you give. As strange as it seems the banks do take in deposits and then lend out about ten times the amount of those deposits
Martycarbone (
talk)
00:35, 7 August 2008 (UTC))
I think we should start with the individual bank, and then move to the system as a whole, and then introduce the controversy concerning the stock of money and price of money as close to the end of the article as possible. For this reason I have restructured and edited the article to start with an example of the balance sheet of the fractional reserve bank, showinging that the bank's stock of legal tender reserves are a small fraction of its demand liabilities, which is the essence of fractional reserve banking. (Sounds way to complicated to me -- it is not that complicated. Read the sources at the URLs I give above. Patman starts by simply talking about a single bank, the owner of that bank, his customers and the King. It is hard to beat his description for simplicity Martycarbone ( talk) 00:35, 7 August 2008 (UTC)) David.hillary ( talk) 04:59, 20 December 2007 (UTC)
Here is a good source for the data in the table. It's from the New York regional reserve bank of the US Federal Reserve System: http://www.newyorkfed.org/aboutthefed/fedpoint/fed45.html Scroll down to the "Reserve Requirements and Money Creation" section. Here is what it says:
I rest my case. By the way, I am the creator of that table. Analoguni ( talk) 09:38, 27 December 2007 (UTC)
Be Careful Analoguni!!! - you have to keep reading the Fed article that you are citing. The paragraph after the example states, "In practice, the connection between reserve requirements and money creation is not nearly as strong as the exercise above would suggest ... Furthermore, the Federal Reserve operates in a way that permits banks to acquire the reserves they need to meet their requirements from the money market, so long as they are willing to pay the prevailing price (the federal funds rate) for borrowed reserves." This indicates that Fractional Reserve Banking is about RESERVES - and not deposits. - http://www.newyorkfed.org/aboutthefed/fedpoint/fed45.html
Example - A brand new bank opens up with no assets/money whatsoever. The day that it opens, it loans Joe Schmo $1,000 by opening him a checking account and putting $1,000 in it (it doesn't actually put real cash in the checking account - it just marks down on its books that Joe has an account with $1,000 in it). At the end of the day, the Bank notes that it has "lent" $1,000 to Joe (still just noting an amount of $1,000 in his checking account), but that it has no actual money in reserve - as nobody has made any deposits with the bank. At this point, if Joe tried to take any money out in cash, the bank would say "Sorry - we ain't got any." So the bank goes to the money market and borrows $100 at the prevailing federal funds rate. Now the bank has $100 from the money market in actual money and puts it in its vault ("in reserve"). Why only $100? Well because it is equal to 10% of what it lent out to Joe. This way they are meeting the statutory regulations imposed on them of having 10% reserves. This way, when Joe tries to take some cash out of the checking account, the bank has some cash to give him. Chances are he won't ask for the whole amount, and that is why the law says that the bank only has to keep 10% on hand. (All of this is basically and wholly untrue -- Joe Schmo's $1000 deposit can immediately be lent out 10 times over. I know that is hard to believe but that is fractional reserve banking and it has essentially worked for hundreds of years. There has never been a more proven system Martycarbone ( talk) 00:35, 7 August 2008 (UTC))
So, including your chart only confuses what Fractional Reserve Banking is about. It is true that your example shows a way that transaction deposits can be created through Fractional Reserve Lending, but is seperate and distinct from what Fractional Reserve Banking is. —Preceding unsigned comment added by 70.64.6.187 ( talk) 06:08, 13 January 2008 (UTC)
I haven't seen any discussion of interest on loans. Banks count future interest on mortgages as assets too. They discount it at the rate of inflation but big deal the damage is still done. Thus the fractional reserve that they claim as a basis for making additional loans in inflated wildly by the interest on mortages. The table doesn't show that! The interest over 30 years far exceeds the initial principle amount. Additionally it far exceeds the present day value of the real asset (the house), especially after a recession when housing prices fall. These loans were bundled and sold to larger banks and investors invested in them. Those banks and investors were counting on principle + future interest for the bundled loan assets. When all the forclosures hit, the problem was compounded because the banks writedown inlcluded the fact that the real asset values (housing prices) were falling as the market crashed. Once investers realized that the assets were never going to pay out at the value promised (principal + future interest) everyone pulled out and several large banks no longer exist because of it. This practice is at least as bad as anything Enron did and no one is calling the banks on it. Instead we bailed them out without asking one question while at the same time car companies which actually produce goods are left out in the cold.
The net effect of this practice is the general public pays interest to banks for money the bank never had to begin with. And now the government has bailed them out at the expense of that same general public. And if this practice isn't inflationary, please tell me what is. Mbrisendine ( talk) 03:53, 4 December 2008 (UTC)
Fractional reseve banking isn't just about the reserves but it is also about the money supply in a banking system and/or economy. (back in the 1800's, in the free banking era, private banks controlled their own money. This is why I say banking system (free banks) and/or economy (govt regulated banks)). Fractional reserve banking has a direct effect on the money supply and it is not only important, but necessary to include the effects on the money supply in this article.
The table above shows how the money supply is expanded through the fractional reserve lending system and I think it's necessary to include it in this article.
Here is a quote from the U.S. Federal Reserve's official education website (www.federalreserveeducation.org). It is from a document that was created to educate people on how the federal reserve system works. It is titled, "The FED Today". Some text on the cover says, "Histroy, Structure, Monetary Policy, Banking Supervision, Financial Services, and more", and, "Lesson plans and activies for economics, government, and history teachers". The link to it is: http://www.federalreserveeducation.org/fed101/fedtoday/FedTodayAll.pdf
This is on page 57 of the document. Analoguni ( talk) 07:51, 27 December 2007 (UTC)
Now let's contrast the statement from the federal reserve with the statements by users above:
Clearly, the loans and resulting deposits are important because new money is created this way. The money supply is expanded through this system. Analoguni ( talk) 08:21, 27 December 2007 (UTC)
There are several characteristics of fractional reserve banking that aren't included in the article. For example, commercial bank bank money gets its value from the fact that it can be exchanged at a bank for central bank money. It only exists "on paper" in the form of checks or electronic transfers. Also, some more info on how deflation occurs as debts are paid back can be helpful. The addition of new money has a multiplying affect since it can be used to create more commercial bank money. There is much more commercial bank money in existence then there is central bank money. Official money supply statistics show how much more commercial bank money exists then central bank money. I put in a list with these things but it was changed and some information was removed without at least putting in citation tags. I think all of these things describe fractional reserve banking and help to give an understanding of how it all works.
An analysis of how much money is needed to pay back the loans is probably necessary too, since it would show if and how new money would be needed within a system in order to be able to pay back a loan plus interest. The banks make their profits from taking money out of the system, but it also might be important to point out that the banks spend the money they make so it could still be within the system. An analysis of this could be useful. Analoguni ( talk) 04:03, 7 February 2008 (UTC)
There's too much complicated stuff in this article. I think it would be best to have sufficient information so that someone who doesn't know what fractional reserve banking is will know what it is after reading this article. Analoguni ( talk) 20:05, 19 December 2007 (UTC)
I think everyone agrees with this, the debate is on what we can lose and how to structure and word the article so it is clear and unbiased.
David.hillary (
talk)
04:59, 20 December 2007 (UTC)
this article is just wrong. cash reserves deposited at a central bank allow banks to MULTIPLY their money by the reserve requirement. 1 dollar may be turned into 9 with a 1:9 ratio. (that is absolutely correct in my opinion
Martycarbone (
talk)
00:35, 7 August 2008 (UTC))
if the chequebook money created by the bank is deposited at another bank they are now required to keep a portion of it as a reserve. ( I do not think that is true. Deposits in new banks continue the process -- they too can be lent out over and over. Hard to believe -- but true -- as far as i know, nobody has ever calculated a safe upper limit. As long as the loan is covered by collateral and most of the loans are used by businesses and people to create wealth -- it is a healthy situation Martycarbone ( talk)) see
http://uk.youtube.com/watch?v=hfXavRTM4Fg&feature=related
why can't i edit the article to make it accurate? —Preceding unsigned comment added by 91.110.50.216 ( talk) 06:39, 31 December 2007 (UTC)
Why do multiple banks need to be involved? The first bank can keep all the money deposited and write loans for $400 to the next customers that come in wanting a loan, and they keep all the business that way. Doing it the way in this article would lose the majority of the profit to be gained. -- 86.164.126.9 ( talk) 21:32, 2 October 2008 (UTC)
I see the following problems with the current table that is used. 1. It does not clarify, or show where the "money" is going. This particular example, although not wrong, does not provide sufficient clarity or explanation of the a reserve system with a central bank. 2. It doesn't make sense. I could basically show the exact same thing, as that table in one line. BANK A gets a $1000 cash deposit, and uses that money to lend out 10,000 chequebook dollars. 3. It does not include what is really going on, purchase of assests, fed funds lending, payment of collection of interest.
So I propose the following. We need a table which while it includes many more details, it is as simplified as we can make it. This table must include the central bank accounts, it must include chequeing accounts at private banks, it must include people.
I don't know how to post my table here, but the following table is what I recommend. I have included many "steps" that could be shrunken down, but I think my model is the simpilest that can be used. I would like to add various types of transactions to this table..ie what happens when the asset devalues(mortgage crisis), what happens when people want their money, etc...
Here is the link to my spreadsheet... please let me know if this clears some things up..
http://spreadsheets.google.com/pub?key=pWw-cpEDjoPazmAoiOIgTfQ
Thoughtbox ( talk) 19:44, 13 February 2009 (UTC)
The current content is unclear as to what the benefits are and to who. Some comments below.
"According to the United States' Federal Reserve, fractional reserve banking provides benefits to the economy and the banking system:
The fact that banks are required to keep on hand only a fraction of the funds deposited with them is a function of the banking business."
Not a benefit just a fact of how the system works
"Banks borrow funds from their depositors (those with savings) and in turn lend those funds to the banks’ borrowers (those in need of funds)."
This is just saying banks act as middle men, this is not unique to fractional reserve banking.
"Banks make money by charging borrowers more for a loan (a higher percentage interest rate) than is paid to depositors for use of their money. If banks did not lend out their available funds after meeting their reserve requirements, depositors might have to pay banks to provide safekeeping services for their money."
Not having to pay safekeeping fees is a possible benefit. Getting interest on deposits is a possible benefit but you could argue that it is the cost of potentially not getting all your money back as fractional reserve implies. Banks making money from the interest rate differential is a possible benefit to the banks.
"For the economy and the banking system as a whole, the practice of keeping only a fraction of deposits on hand has an important cumulative effect."
What is the benefit? it says its important but doesn't say why it is important or what the benefit is.
"Referred to as the fractional reserve system, it permits the banking system to "create" money.[4]" Again what is the benefit?
Quoting the Federal Reserve Bank on the benefits of the system it is involved in is likely to be biased.
It would also make sense to have a section on benefits next to the section on criticism -- both near the bottom.
Tridy ( talk) 17:42, 20 January 2009 (UTC)
The term "fractional-reserve banking" is irrelevant to the way actual finance works and demonstrably so at present - it's certainly no more than a theoretical principle and that from a long-dead theory. In practice, it's not clear what the 'fraction' is of, there is no value in the central bank to 'reserve' against or hold a 'ratio' of, and other problems. Read gang8 for a few months to become convinced of the truth of this... So:
This article and criticisms of fractional-reserve banking need to be merged with a proper accurate statement of how the global financial clearing system really works, including a lot of explanation of the Bank for International Settlements and its role. A title that neutrally reflects the scope of the discussion is banking reserve rules. Why this title? Several reasons:
Hopefully this will resolve the NPOV issue that seems unresolvable in any other way.
See also monetary reform and talk:monetary_reform for more context on all this, and what other approaches to reforming financial regulation have been considered and why.
We could also keep criticisms of fractional-reserve banking and monetary reform as places for goldbugs to gather. As things stand I had to add a POV tag after my own edit just because I couldn't get all the goldbug nonsense out on the first edit - we might as well redirect all these articles to goldbug if we can't get rid of their POV.
Meanwhile sane people who know we are never heading back to any mythical never-existed supposedly-honset gold standard could just develop parallel banking reserve rules, capital adequacy and monetary policy articles. But in that case neither of the goldbug articles should be included in the monetary economics category, they should be in their own category:goldbug. ;-)
removing my own comments
I agree as well I think the article name should remain. Wikiiscool123 ( talk) 17:03, 3 March 2009 (UTC)
The statement in the leading paragraph This practice is universal in modern banking. is very much against WP:POV. I would like to get a consensus to change it to This is a common practice in modern banking. Some foreign banks do use sound banking. Smallman12q ( talk) 14:39, 14 February 2009 (UTC)
In addition, the statement that "Fractional reserve banking is a necessary consequence of bank lending" is not supported with any citations. I would argue that this statement is an evidence of the "confusion between loan banking and deposit banking" that is quoted later in the article. The two sentences seem to state that a) fractional reserve banking is necessary, so therefore b) it is universally practiced in "modern" banking. While(b) may be true, (a) is just an assertion. It also seems to equate "bank lending" with "when banks lend out a fraction of the deposits the receive." But are demand deposits the only source of funds for banks to lend? They are not. A bank lending structure based exclusively on lending funds from time deposits or other instruments is possible, and would not constitute fractional reserve banking. Bshow ( talk) 18:49, 24 February 2009 (UTC)
The graphs and the table are complete nonsense. A bank can lend out the whole amount in a single loan if it wants to. Banks do not lend cash. Banks lend chequebook money. Below is an illustration of the issue with a 10% reserve requirement:
Symbols: $ = cash # = chequebook money (bank liability to deposit holder) Stage 1: Bank has no (available) cash and can't lend Stage 2: A depositor walks in with $100 in cash: Bank vault: $$$$$$$$$$ ($100) Depositor account: ########## ($100) Stage 3: Bank lends chequebook money Bank vault: $$$$$$$$$$ ($100) Depositor account: ########## ($100) Debtor account(s): ########################################################################################## ($900)
The point is: There can be any number of lending operations to achieve the full money multiplier effect, including just one.
The same example with a 50% requirement:
Stage 1: Bank has no (available) cash and can't lend Stage 2: A depositor walks in with $100 in cash: Bank vault: $$$$$$$$$$ ($100) Depositor account: ########## ($100) Stage 3: Bank lends chequebook money Bank vault: $$$$$$$$$$ ($100) Depositor account: ########## ($100) Debtor account(s): ########## ($100)
Reiska (
talk)
21:02, 8 March 2009 (UTC)
Don't have "autoconfirmed" authority yet to correct this myself, but the sentence "Holders of demand deposits can withdraw all their at any time" should probably be "their money" or "their funds at any time". Luke831 ( talk) 21:08, 4 March 2009 (UTC)
Sorry, but this article is currently in a dreadful condition. There is a lot of good information, but it needs radically organising and some parts need re-writing to explain the process of deposit multiplication under Fractional Reserve Banking and to properly explain the good info that is already present. Vexorg ( talk) 07:49, 12 March 2009 (UTC)
Agreed. When I first referred people to this article in late 2007, it was simple and easy to read. Now it's a horrible, obfuscatory mess and one long violation of NPOV. Putting "Benefits of Fractional Reserve Banking" at the beginning, before it's even explained or defined? Is there an opposite term to "goldbugged"...maybe "bankrolled"? I've never edited a page before, but am sorely tempted to register and do so just to fix this abomination.
In the meantime, the best and simplest thing anyone could do is revert this article to its late-2007 state. 173.75.70.109 ( talk) 04:21, 1 May 2009 (UTC)
The article on History of Banking seems to indicate that fractional-reserve banking has been going on since the third millenium BC, having traced its origins to temples and palaces. This article, on the other hand, seems to indicate that fractional-reserve banking is a new development circa 1800 AD. The first reference from antiquity that I immediately think of, comes from the Bible in Matthew 25:27 (NIV): "Well then, you should have put my money on deposit with the bankers, so that when I returned I would have received it back with interest."
Either Jesus is saying that these first millenium bankers know something we don't, or they were making money by lending out their deposits. Jsharpminor ( talk) 05:50, 17 March 2009 (UTC)
Since Rubisco gave such an excellent point, I am removing the contradiction warning in the history section. Hendrixjoseph ( talk) 02:01, 18 March 2009 (UTC)
Coming back to Greg, the basic idea of a demand deposit account, with non-negative interest, requires FRB. Otherwise the bank is simply offering free storage and safekeeping facilities. I'd say the crucial thing that defines a bank is participation in a monetary system that consists of some kind of abstract claim such as a banknote or debit settlement system. To finance this, FRB is essential. JQ ( talk) 10:03, 21 May 2009 (UTC)
The very first paragraph is downright false. Banks do not lend deposits. when you take out a loan from the bank you aren’t receiving other people’s money. your promise to pay (legally binding) becomes a form of money (a piece of paper with value). With this signed paper the bank is allowed to write the amount of the loan into your account. No money is subtracted from any other place. Of course your promise to pay X dollars by 2030 isn’t worth X dollars now, it’s worth X minus some amount based on the risk that you’ll default, the nominal interest rate, etc. This discount is determined by the market for loans. what does the bank do with your deposits? well your loan is worth X-some amount. The bank needs to cover the discount. It uses deposits to do this, despite the fact that demand deposits are liabilities and not assets.
in terms of the number of loan dollars you can see that the number of actual cash the bank has is quite low, probably only a few percent of the value of all the loans. 24.5.25.157 ( talk) 20:23, 24 May 2009 (UTC)
It would be helpful if the people who come in with comments like this were to pick up any modern (within last 10 years) macroeconomics textbook first and at least find out what the mainstream thinks about modern banking. LK ( talk) 04:42, 30 May 2009 (UTC)
Quite recently the author of the movie together with his team provided answers to the two of the questions that are discussed below. Yes they said, it is not all 100% according to official banking rules but these are also not 100% obeyed in various countries. In general, all this was done in the film to simplify some more complicated parts of fractional reserve banking, and certainly those too complicated for wider audience. The general picture of the banking system was not malformed - they say. These explanations can be found under the following address: http://paulgrignon.netfirms.com/MoneyasDebt/disputed_information.html —Preceding unsigned comment added by Maciekskje ( talk • contribs) 20:24, 12 January 2009 (UTC)
At one moment the movie states that an initial deposit by THE FOUNDERS OF A BANK of their own capital in the central bank 1111,12$ of high power money enables them to give out their first loan of 10000$, but then the customers credit money who deposits in the bank enables them only to give a loan of 9000$ to the next customer and the ladder begins. Is this an accurate paraphrase? If so, is it true? Mik1984 ( talk) 03:16, 25 July 2008 (UTC)
In the Money as Debt cartoon [about 13:00 to 15:00], a hypothetical new bank gives out a loan of nine times more than its assets.
Here's the relavent narration from the movie:
|
So, is this accurate? Specifically the part where it says the bank can "legally conjure into existence" nine times more money than it has on deposit at the central bank. -- loqi ( talk) 15:22, 13 October 2008 (UTC)
I have looked up more information on fractional-reserve banking and I think I found a source for the 2 different ways of doing it. Here is an analysis by the austrian economist Murray Rothbard, which I think gives a good description of what is going on (with the exception of him referring to the process as "counterfeit"):
In conclusion, the U.S. system must be different. One way of looking at it is to try to understand how things worked under a gold standard. For example, a bank could start off with 100 ounces of gold and no paper money. Since only 10% of the paper representing gold is redeemed at any given time, the bank could just write up paper claims for 1,000 ounces of gold immediately. This is where I think this idea of lending out more than there is available comes from. However, when the Federal Reserve System was set up in the United States in 1913, the rules were changed a little bit so that banks in the United States must have funds available to lend out. Analoguni ( talk) 16:08, 25 October 2008 (UTC)
I understand that there is a lot of controversy on Fractional banking, and so in order to clarify what to me is one of the most contentious points I am asking this question: Is it legal to take a depositor's money (say $1000) and then loan out $9000 with the $1000 in reserve instead of lending out $900, and having $100 in reserve? This seems to me to be where most of the inflation attributed to banks is supposed to come from. Wikiiscool123 ( talk) 05:31, 3 March 2009 (UTC)
Thank you Lawrencekhoo for the prompt response. Rubisco, would you please clarify? You say that you are removing the section but it seems as if you are referring to the actual article than to this talk section. I would appreciate if you did not delete this talk section and maybe made your own so that you can elaborate on "A Simple Example - A Single Bank". Or at least it would be nice to know that the aforementioned article is what you are talking about. LK, how is it that people get the idea that you can inflate via bank's fractional banking capabilities? Does this have to do with special rules for the base supply of money?
Thx so much both of you, Wikiiscool123 ( talk) 16:05, 3 March 2009 (UTC)
Wikiiscool123 ( talk) 19:25, 6 March 2009 (UTC)
Rubisco said above: "Banks cannot create money out of “thin air”. Every penny of the money lent out by banks has to be funded from somewhere on a 1:1 basis. If banks really could lend $400 based on holding $100 in reserve, their balance sheets wouldn’t balance: they would have assets worth $400 and liabilities worth $100."
Erm, not quite. Let us suppose that I deposit $100 in cash into the bank and Rubisco borrows $50, and that the $50 is put into Rubisco's checking account. So now the bank's balance sheet is: Assets = $150 ($100 cash + $50 loan Rubisco); Liabilities = $150 ($100 demand deposit Bshow, $50 demand deposit Rubisco). Where did the $50 come from? What is "backing" it? Nothing; the bank has created $50 out of thin air and then loaned it to Rubisco, while still pretending to be safekeeping my $100. If Rubisco withdraws his loan proceeds of $50 in cash, they will just give him $50 of my cash, and the balance sheet will show: Assets = $100 ($50 cash + $50 loan Rubisco); Liabilities = $100 ($100 demand deposit Bshow). Now I go down to withdraw my demand deposit... Oops!
Bshow ( talk) 05:32, 7 March 2009 (UTC)
A financial intermediary accepts funds from depositors, and lends those funds to borrowers. To do so, an institution (usually called a bank) must lend out money than it receives from depositors. When it does so, it necessarily no longer has enough cash-on-hand to pay back the full amount owed to depositors. That is, its reserves only equal a fraction of its deposits; hence it is practicing fractional reserve banking. Full reserve banking requires that a bank always has the full amount of deposits as cash-on-hand, so it cannot lend any funds deposited out, therefore, it cannot act as a financial intermediary.
I believe this point is adequately explained in the article, but please feel free to explain more clearly if you feel that is necessary. LK ( talk) 02:41, 28 June 2009 (UTC)
I came across these two videos tonight. Very detailed history of the US Federal Reserve up to its current monetary system. (my own opinion: Slightly conspiracist. States in plain terms the threat of the potentially nefarious power to print money in private hands; private bodies other than the citizenry. However, very informative.)
Links not working... http://video.google.com/videoplay?docid=-2665915773877500927 http://video.google.com/videoplay?docid=-8753934454816686947
Reissgo ( talk) 16:23, 1 August 2009 (UTC)
For all practical purposes, the banking system does not "lend out" money. Loans are "promissory notes" that are deposited into accounts, not counted out as cash at the bank counter. The money that is lent sits in deposit accounts just as any other money that is deposited in bank accounts. By definition, the reserve requirements are supposed to be high enough to withstand the usual needs of withdrawal.
Imagine a banking system with just a single bank, where everybody keeps their deposits, excluding an insignificant fraction that they keep in cash. Assume that the bank has exhausted its reserve requirements and has no excess reserves. Now somebody deposits $100 (say in newly printed cash from the Federal Reserve). The deposit liabilities increase by $100 and the reserves increase by $100 as well.
As only (say) 10% of deposits need to be kept in reserve as cash (or equivalent central bank deposits) the bank now has excess cash reserves of $90. Thus, the bank can now lend another $900 to somebody, bringing its excess reserves to zero.
We have to remember that even that $900 (or even $9000000) loan is just a drop in the bucket of the whole deposit base of the bank. If the money is transferred to some other bank, there is no problem. The reserves can (by definition) withstand these transfers, and transfers between banks cancel each other out during the reserve maintenance period. If the bank is lacking reserves in the end of the reserve maintenance period (about a month or so), it can get an inter-bank loan or sell assets to another bank, but for the whole banking system the reserves and deposits are in balance.
The fact is that banks do create money by accepting promissory notes. There could be no bank lending otherwise, unless the loans and deposits were perfectly matched by term. The significant issue is the level of reserve requirements, which I personally think have been taken outrageously low, in addition to the fact that no reserves whatsoever are required for savings accounts, which is a problem when a lot of money is suddenly transferred from savings accounts to checking accounts.
Reiska ( talk) 08:39, 3 July 2009 (UTC)
The concept of fractional reserve banking is completely wrong, and this article is way too influenced by conspiracy theorists.
Let's say I'm a stock investor. Together with some others I'm putting 1.000.000 dollars as equity in New Bank Inc.
New Bank opens and needs money to lend out. It prints 5.000.000 worth of debt in the form of tradeable bonds. The bonds yields 5 pct and martures in ten years. The money is transferred from the bond owners to the bank.
Then New Bank accepts 5.000.000 worth of deposits.
Now the bank has 11.000.000 dollars, but the bank doesnt actually own any money. It owes 1.000.000 to the shareholders, 5.000.000 to the bond owners and 5.000.000 to the depositors.
Now the bank can lend out 10.000.000 dollars. It has 1.000.000 dollars (equity) which serves as a margin capital if the bank has to write down some of it's assets (i.e. what the bank has lended).
Now tell me where new money was created. (--guest) —Preceding unsigned comment added by 80.202.109.224 ( talk) 01:21, 14 July 2009 (UTC)
Reiska, can I ask why you think the way you do? Having worked in a bank, it's been my personal experience that a bank (at least the one I worked in) does not lend out money more than the excess cash on hand that it currently holds. In the example above, that would be about $9million. LK ( talk) 06:03, 28 July 2009 (UTC)
Just had a look at Reiska's ref, in which I did not see any reference to the Basel Accords, something that I cannot understand for such a topic. In most countries, banks are forced through regulation to comply with the Basel Accords, and it is under its approach to the Basel Accords that a bank manages its capital structure and therefore its balance between cash on hand and risky assets. -- Childhood's End ( talk) 13:11, 29 July 2009 (UTC)
added an application of interest section under criticism. what do you think? Please help to add better sources. Cstof j ( talk) 12:52, 16 August 2009 (UTC)
Fractional-reserve banking is the banking practice in which banks keep only a fraction of their deposits in reserve (as cash and other highly liquid assets) [but banks don't need to be in receipt of deposits to be a fractional-reserve bank, they can simply make loans] and lend out the remainder, while maintaining the simultaneous obligation to redeem all these deposits upon demand.[1][2] Fractional reserve banking necessarily occurs when banks lend out any fraction of the funds received from deposit accounts [Not if the deposit accounts are locked up as in the case of time deposits...]. This practice is universal in modern banking. Orangedolphin ( talk) 15:52, 21 September 2009 (UTC)
This article is off to a very poor start. The second sentence "This may result from either the depositors being ignorant of the shortfall, or trusting of the Government guarantee" is fringe POV. Although this sentence is cited, it's an extremely non-mainstream POV to suggest that the entire modern banking system is largely predicated on ignorance. This would maybe be acceptable in a "criticism of fractional reserve banking" section, but is downright bizarre to place so prominently. In the United States at least, anyone who is paying attention learns how banks work in high school and the fact that people keep accounts well above FDIC insured limits shows the second assertion to be largely false as well. -- JayHenry ( talk) 00:29, 23 September 2009 (UTC)
The article says that the Fed is a government institution, but it is wrong. It is a private institution as Federal as Federal Express. I was shocked to learn the conspiracy theorist were right on this one. In all countries around the world, no central bank belong to the government, they belong to individual investors who are not known by the public (Anonymous societies is a very common way to form companies in most countries). Central banks just play nicely to governments and lend them as much money as they want as long as they agree to pay it back.
The Fed has a license to print money. WOW!
Who owns the Federal Reserve?
The Federal Reserve System is not "owned" by anyone and is not a private, profit-making institution. Instead, it is an independent entity within the government, having both public purposes and private aspects.
As the nation's central bank, the Federal Reserve derives its authority from the U.S. Congress. It is considered an independent central bank because its decisions do not have to be ratified by the President or anyone else in the executive or legislative branch of government, it does not receive funding appropriated by Congress, and the terms of the members of the Board of Governors span multiple presidential and congressional terms. However, the Federal Reserve is subject to oversight by Congress, which periodically reviews its activities and can alter its responsibilities by statute. Also, the Federal Reserve must work within the framework of the overall objectives of economic and financial policy established by the government. Therefore, the Federal Reserve can be more accurately described as "independent within the government."
The twelve regional Federal Reserve Banks, which were established by Congress as the operating arms of the nation's central banking system, are organized much like private corporations--possibly leading to some confusion about "ownership." For example, the Reserve Banks issue shares of stock to member banks. However, owning Reserve Bank stock is quite different from owning stock in a private company. The Reserve Banks are not operated for profit, and ownership of a certain amount of stock is, by law, a condition of membership in the System. The stock may not be sold, traded, or pledged as security for a loan; dividends are, by law, 6 percent per year.
Taken from: http://www.federalreserve.gov/generalinfo/faq/faqfrs.htm
Organized as a private entity, but with no owner, monopoly of printing money given by congress, but can't be overruled by any government agency, although the congress can change its charter (the mission of the enterprise), it can't overrule it either. It is even worse than a private bank, because the CEO of a bank must show results to the board, otherwise risking termination. The president of the fed (or any central bank) can go willy nilly and not print money when necessary or print a lot of money when it is necessary to contract the supply. Most central banks behave as good citizens, but I guess the only reason is to avoid loosing their monopoly to government, which may take it back or simply grant it to another cartel.
Furthermore, private banks have stock on the fed, why isn't it traded like all stock? That's unfair. If we could all buy and sell shares of the fed, all our money would grow at least 6% per year. That would be really nice.
Also, if the bank doesn't have any profit, how does it distribute dividends? It has profits, it just doesn't recognize them as such in order to avoid taxation. Why? I understand the motives of the Fed, having an endless money supply is fascinating. I just don't understand the motives of the government to abide such a scam. If they have profits but don't recognize it as such, the government could tax them without calling it a tax. Call it royalties on money generation, or dividend collection probing, I don't care.
Central banks need money to operate. They can print the money directly, or they can obtain it by providing products and services. In the case of the central bank, its services are printing (or loaning) money. Printing a $1000 bill is a as expensive as printing a $100 bill, but the interest obtained in one of them is ten times as much as the other. The cost of printing is below $1. Bills last 5 years on average. The interest rate is between 0% and 10% normally and nominally, but usually considering inflation, it is more like 1% to 3% real annually.
If the cost of printing $1000 is $1 and the return is 1% real, that's $10. That's a 900% profit. Even if they are not careful with money and considering they reprint all bills every year, there are 150 million workers in America and the average American makes $3,000 per month, that's $450 billions only considering the labor side, it can be 10 times that in reality. That money must pay interest, otherwise it wouldn't be printed. Month after month, this money must exist in the economy or otherwise workers wouldn't be paid.
If we consider the fed to play nice, they would charge just a 1% per year of $450 billions, which is $4.5 billions per year. It is almost impossible for one institution to spend all that money every year. —Preceding unsigned comment added by 190.45.14.46 ( talk) 11:41, 1 November 2009 (UTC)
I noticed the sentence "By its nature, the practice of fractional reserve banking expands money supply (cash and demand deposits) beyond what it would otherwise be." This is only true because of the use of cheques or card/computer based equivalents. It would be perfectly possible for FRB to exist in a system in which the only thing you could buy goods with was cash, in which case there can be no expansion of the money supply. So perhaps the sentence should be "By its nature, the practice of fractional reserve banking, combined with the of cheques or card/computer based equivalents, expands money supply (cash and demand deposits) beyond what it would otherwise be."
I guess we can all agree that it all depends on how money supply is defined. Anyway, all too esoteric for the article I think. If there is a reliable source somewhere that makes the same point we can put it in, but not in the lead I think. It's all moot anyway, as AFAIK there are no serious proposals to eliminate checks and electronic transfers, but keep savings accounts. LK ( talk) 17:47, 25 November 2009 (UTC)
Hi,
Just wanted to say that I added a bit of criticism from the Federal Reserve page that had been written about fractional-reserve banking in general and didn't really belong there. I didn't want to delete it altogether, though, so added it here (in condensed form). I also thought the intro paragraphs were very long, so put the discussion of risk into a separate section.
Afelton 03:19, August 2, 2005 (UTC)
The section of the article that talks about how central banks originated in response to failures of fractional reserve banks is shameful. Anyone remotely conversant with the origins of the Banks of Sweden, England, and France would know that it's a pure concoction. Early central banks were motivated by governments' desire for fiscal aid.
I would like to take issue with the following two excerpts: "Moreover, the existence of fractional-reserve banking allows either the central bank or individual banks (under a free banking regime) to create money at will" and "the inflation brought about by fractional-reserve banking". Both these snippets give the impression that FRB in and of itself is a mechanism for generating long term inflation. This is not true. It is the assorted means by which a government and/or central banks create additional money that causes that. And that could occur under any monetary system, FRB or otherwise. Once the FRB has maxed out the money multiplication process, there is no further scope for increasing the money supply other than "governments creating more money" and "governments creating more money" is not part of the definition of FRB as far as I know.
I suspect what has happened in the article is the conflating of "fractional reserve banking" and "the banking system, as it exists in many countries today". They are not one and the same thing. Sure FRB is a component of today's banking system. But I think it fair to say that today's banking system is FRB plus features X,Y and Z. I think this article should be careful not to attribute the characteristics of X, Y and Z to FRB.
Maybe someone should start a whole new wiki page called "Banking as it is today". Reissgo ( talk) 13:32, 28 November 2009 (UTC)
The revisions made in February took what had been a reasonably good explanation of fractional reserves and made a mess of it--for example: a T-account with 3 columns instead of the usual two, and a long string of transactions trying to show what had been adequately expressed with just two transactions. —Preceding unsigned comment added by 67.49.42.239 ( talk • contribs) on 10 February 2007.
I hope everyone realizes "fractional reserve banking" does not really exist. Banks lend neither a fraction of their deposits nor a fraction of their reserves. In fact, a bank theoretically could have zero deposits and lend billions of dollars. From an accounting standpoint, the very act of lending creates reserves. Further, the federal government will lend any bank any amount of money to support loans.
So what limits bank lending? Capital requirements.
Anyone who wishes to discuss this more privately can reach me at rmmadvertising@yahoo.com. Rodger Malcolm Mitchell —Preceding unsigned comment added by 24.1.107.40 ( talk) 19:59, 19 March 2010 (UTC)
I have been doing some research on Selgin and found that he seems to have very weak ties to Austrians in general and is more involved with CATO, Modern Free Banking School, and other economic organizations. The fact that he was even interviewed by the Federal Reserve makes things a bit strange knowing that Austrians are overwhelmingly anti-Fed. The latest source I found comes from the "Journal of Austrian Economics" with an article aimed at disconnecting Selgin's views from Mises.
My point is, it does not seem credible to include Selgin as a spokesman for Austrians in this article since his position on fractional reserves may only resonate with a very small minority of Austrian economists. Additionally, he doesn't even have any Austrian connections, according to the Wiki article on him. I recommend we remove all references to Selgin in this article. Gaytan ( talk) 22:26, 28 January 2010 (UTC)
I have just removed the sentence: "This practice is universal in modern banking, and can be contrasted with full-reserve banking which is no longer practiced by commercial banks.". The sentence says three things:
1. This practice is universal 2. It can be contrasted with full-reserve banking, for which a wiki reference was given. 3. It is "no longer" practised by commercial banks.
1. is wrong because many types of loan operate without any reserve. 2. Is of no use because the wiki page on full reserve banking does not define what full reserve banking is! 3. The implication is that full-reserve banking *used* to be practised by commercial banks which I believe to be untrue. If someone wants to re-assert this claim then please provide a reference.
If an alternative sentence was required to round off the first paragraph then I think it would be more accurate to have something like "In recent years the reserve requirements have become less and less of a restriction on lending, gradually being replaced by 'capital adequacy' restrictions instead". Modern banking should scarcely be called "fractional reserve banking" any more.
Reissgo ( talk) 13:36, 28 April 2010 (UTC)
The US Federal Reserve sets a Required Reserve Ratio of 10%, but applies this only to deposits by individuals; banks have no reserve requirement at all for deposits by companies.
And – according to Steve Keen – about 6 OECD countries have already done away with reserve requirements altogether (Keen confirmed that Australia requires no reserves; I know that Mexico doesn’t require reserves; and Canad, New Zealand, Sweden and the UK supposedly require no reserves as well).
Just because a bank does not have a reserve requirement does not mean that it is not practicing FRB. In the early days of banking, there were no reserve requirements, and banks kept reserves based on prudence and estimates of what cash they would need. Since they loaned out their deposits, they were still practicing FRB. Back to the point, all modern banks practice FRB. I would like to note this in the lead, unless there is a direct objection to this statement? LK ( talk) 16:35, 29 April 2010 (UTC)
The section on the "money multiplier" needs editing to reflect the fact that there are several money multipliers. Some referring to ratios of the different "M's", M0,M1 etc, while still other multipliers are ratios of *changes* in the amount of "M's". Reissgo ( talk) 17:19, 29 April 2010 (UTC)
I note the following sentence from the main article "When there are no mandatory reserve requirements, the capital requirement ratio acts to prevent an infinite amount of bank lending.". Does anyone have a reference for this? I ask because I have seen an unpublished paper which shows that there is no such limit in place: http://arxiv.org/PS_cache/arxiv/pdf/0904/0904.1426v2.pdf Reissgo ( talk) 17:18, 29 April 2010 (UTC)
I noticed that in the quote from the federal reserve it says: "depositors might have to pay banks to provide safekeeping services for their money". But this is completely disingenuous because of course customers do pay for safekeeping. Just because it is not charged explicitly, it is never the less an expense that must be paid for. Its like buying a car and being told that the wheels are free. Sure a salesman can say those words, but we all know that its not really true. I note that the quote is taken from a document which is not peer reviewed. Reissgo ( talk) 19:27, 5 May 2010 (UTC)
How could someone write this and keep a straight face, the system described is unbelieveably criminal. I was especially surpised at the frankness of the 'History' section. There is a word for what the goldsmiths were doing, it's called EMBEZZLING! They should have been thrown in jail. This article is a perfect example of something which is "hidden in plain sight" Why doesn't the public know about this?? We should be outraged! —Preceding unsigned comment added by 99.198.32.36 ( talk) 05:57, 5 June 2010 (UTC)
The paragraph is quoted bellow:
"However, there have been some recent bank runs: the Northern Rock crisis of 2007 in the United Kingdom is an example. The collapse of Washington Mutual bank in September 2008, the largest bank failure in history, was preceded by a "silent run" on the bank, where depositors removed vast sums of money from the bank through electronic transfer.[citation needed] However, in these cases, the banks proved to have been insolvent at the time of the run. Thus, these bank runs merely precipitated failures that were inevitable in any case."
Why were the run of these banks inevitable? In the paragraph that preceded this one it is said that central banks have an obligation to stop these bank runs and do this by being the lender of last resort. Why doesn't this apply to these brief exceptions? —Preceding unsigned comment added by 195.67.20.5 ( talk) 12:04, 27 July 2010 (UTC)
Hi, I tried to remove some of the more confusing references to the Fed in the opening example, as if this is meant to introduce the situation by example it really doesn't work at the moment (being both Americo-centric in stand point and confusing by adding all the Fed information). Any chance of moving the Fed stuff out of the opening example?
— Preceding unsigned comment added by 86.151.152.146 ( talk • contribs) 09:56, 26 September 2007 (UTC)
The quote here: "The expansion and contraction of the money supply occurs through this money creation process. When loans are given out, the process moves from the top down and the money supply expands. When currency is withdrawn from the commercial banks, causing loans to be called back, the process moves from the bottom to the top and the money supply contracts" suggests a number of things that are confusing. One - is the causality right? How is currency withdrawn from commercial banks when they are loaned out to the hilt? Second - when people repay debt, does the repayment not go to the reserve accounts of the banks? Aren't these repaid amounts now bank capital? In other words is it not the case that when deleveraging takes place, money accumulates in the banks, and so the money 'supply' remains constant? —Preceding unsigned comment added by 83.208.165.249 ( talk) 19:29, 29 September 2010 (UTC)
This is misleading, people don't borrow from a bank to put the money into another bank. This would be stupid as the interest you pay a bank for borrowing money is more than you get in interest by depositing it. To look at it in this way is a total fiction. Fraction Reserve Banking (FRB) allows the bank to invest the majority of the money placed in it by usually by lending it to customers at a higher rate of interest than it is paying the customers who deposited the money. This section of the article is misleading and people have the idea that FRB creates money. What would the alternative be? That a bank should not loan out money to other people but pay people interest for it storing the money in its safe? Ridiculous! —Preceding unsigned comment added by Caparn ( talk • contribs) 14:17, 17 July 2010 (UTC)
>> I think that the receiving bank is getting money from the supplier of goods/services that the lendee bought with the loan that the previous bank lent out. Omitting that process makes the table simpler. 99.62.29.93 ( talk) 01:03, 9 September 2010 (UTC)
I feel that the reference to Modern Money Mechanics should come with some kind of health warning because it is now seriously out of date (1992? 93?). Doing a quick search reveals the document does not contain the phrases "Basel" or "Capital adequacy". The name of the document in itself implies that it is up to date but clearly it is not. Reissgo ( talk) 07:27, 14 September 2010 (UTC)
Besides any caveats that article deserves, I'm uncomfortable with its hosting. That makes it hard to verify that it is indeed what it claims to be. Is there a more authoritative link we can use? CRETOG8( t/ c) 13:46, 15 September 2010 (UTC)
An essential feature of fractional reserve banking was to place certain limits on money creation. However in the real world today fractional reserve banking in its pure form is rarely (if ever?) practised. The rules controlling the limits on money creation vary from country to country. I propose a new page about the rules *as practised in reality today* governing lending limits in a variety of countries. I have crated a very rough outline of how I see the page in my userspace here: http://en.wikipedia.org/wiki/User:Reissgo/Limits_on_money_creation_around_the_world while it is being prepared. If anyone cares to help out, it would be much appreciated.
Surely hundred of academics have written articles in peer reviewed journals about fractional reserve banking and the actions of the fed. The fed is a semi-private company. Their publications are hardly likely to be unbiased and they certainly won't be peer reviewed.
I was asked to refer this matter to get some independenet editors (not regular contributorsd to this page) to give their opinion on http://en.wikipedia.org/wiki/Wikipedia:Reliable_sources/Noticeboard#Is_the_Fed_a_reliable_source. Looking at the comments of Itsmejudith , Blueboar and Wehwalt it seems that the consensus is that this particular children's educational document is not a reliable source or that an alternative source should be found. Reissgo ( talk) 06:54, 5 October 2010 (UTC)
In answer to Cretog8's last comment. The sentence I object to most is: "If banks did not lend out their available funds after meeting their reserve requirements, depositors might have to pay banks to provide safekeeping services for their money." I do not believe you can find a peer reviewed document to support that assertion. Reissgo ( talk) 12:06, 5 October 2010 (UTC)
Back to the general discussion--I think that the source is fine, and I like it because it's well-sourced and well-phrased. I think the particular line in question is also uncontentious. I also read the lack-of-consensus on the RS noticeboard to read less as, "this is not a reliable source" and more as a "hmm, maybe you can do better". Since I think Reissgo is mistaken, but is acting in good faith, I'm willing to try to do better. One of us must have an intro money & banking text around which we can use. CRETOG8( t/ c) 17:00, 6 October 2010 (UTC)
Referring to the example: how is $180 out of $100? I just don't understand this. I deposit $100. $80 is loaned out to other people, $20 goes into the figurative vaults,... but where does the other $80 come from? I still do not understand, how is money created here? The loans are always less than the deposits, a difference equal to that original deposit by the Fed. I certainly understand how money is created by the Feds, but I don't get how it is created by the commercial banks. Someone please make this clearer for me. 99.62.29.93 ( talk) 01:03, 9 September 2010 (UTC)
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My attention was caught by the removal of an "unreferenced section" tag from this section by an editor stating that "references not needed, info is self evident." That's not right. When a reference is requested, one should be supplied. Here, the red flag is the attribution to "critics."
What critics, exactly, have said this, and wouldn't it be better to quote them if possible rather than to paraphrase? As it stands, having been tagged as unreferenced for half a year without the request for references being honored, one might think that an editor was stating his own beliefs but attributing them to "critics."
If this material is true and self-evident, then someone, somewhere will have written about it, and the burden of locating and quoting that reference is on those who wish to have this material in the article. Dpbsmith (talk) 23:34, 12 September 2008 (UTC)
Critics of current bank regulations argue that:
The criticisms sections here is mostly undocumented, and with a fair bit of nonsense. The statement that it is incompatible with a gold standard - despite all the historical evidence - is just bizarre. I'm going to flag this for now with a view to deleting eventually unless there's some content added.-- Gregalton ( talk) 10:26, 8 March 2008 (UTC)
Fractional reserve banking can be done based on gold or fiat currency no problems. It is however harder to expand the money supply if you are based on gold, which of course has both positive and negative aspects - it stops the government abusing the currency, but equally the size of the economy becomes heavily dependant on how much gold is held/mined rather than innovation or productivity increases leading (hence all the wars during the ages of mercantilism and empire being significantly preoccupied with getting as much gold as possible to just sit around in vaults somewhere). -- 86.164.126.9 ( talk) 21:49, 2 October 2008 (UTC)
The article says "when loans are paid back, the process moves from the bottom to the top and commercial bank money is canceled out, effectively erasing it from existence." It seems, given events in the economy during 2008, this is one of the most important points in the whole article, but I think this article does little more than skate over this issue.
How is FSB effected if debt is re-paid, even more importantly how is it effected if debt goes bad?
There is another connected issue. In an economy which is seeing rapid increases in productivity, which presumably leads to higher wages, it is possible to envisage a scenario in which people and business re-pay debt, without reducing expenditure. But how does this impact on FSB?
A criticism made of FSB elsewhere is that it can only work if debt continuously expands. This article implies that if commercial bank money is re-paid there would be a sharp reduction in money supply, apparently confirming this criticism. This is an important criticism, and if true a major flaw in FSB. Is this criticism valid?
It seems that a flaw with the gold standard was that as innovation led to greater potential economic output, the supply of money was constrained by the amount of gold in existence. Actually, if output rises and money supply stays constant, one would expect price to fall.
Presumably FSB enables the possibility of creating money in tandem with growth in potential output. Is this a major benefit of this system over gold based standards?
mikeiabn —Preceding unsigned comment added by Mikeiabn ( talk • contribs) 13:28, 18 September 2008 (UTC)
I find the "History" section completely useless, as it gives no sense of when or where fractional reserve banking originated or developed. It would be better to eliminate it until someone puts some concrete facts and events in there. Right now, it isn't history at all. JoeFink ( talk) 17:09, 1 October 2008 (UTC)
I just reverted Scientus' complete deletion of this section. Just because no exact date is given, doesn't mean the section is completely useless! This information is factually accurate and has been explained many times in books, documentaries, and at other sites. So I believe that full deletion is a disservice. By leaving it in, perhaps someone will take the time to research and edit the section, and bring it up to par in the future. Htfiddler ( talk) 15:59, 15 October 2008 (UTC)
I put in the ambox but i really hate those, in general the section just really sucked, was very vague, uninteresting, and didnt really say anthing. I do not argue that what it is talking about is important and deserves coverage but i would certainly not enjoy reading it again, it needs a rewrite. Maybe it could be moved to the bottom of the page, or archived into talk?, or replaced with a really good external link? Scientus ( talk) 16:07, 15 October 2008 (UTC)
I agree that it sucks and don't have time for the needed rewrite. It is in the right location for sure. Let's just hope someone will eventually come along and fix it. In the meantime, I am linking to this section, and would appreciate it being left in the article. Thx. Htfiddler ( talk) 07:37, 16 October 2008 (UTC)
Although the table is correct it is misleading. To the layman it looks as if Bank A actually pays out 80 ( as a loan ) and leaves only 20. This is not the case as the Bank simply credits it's borrowers account with 80 in return for an IOU ( promissory note ) The 100 deposit remains untouched, and the bank's Assets increase to 180. This should be made clearer IMO. 81.79.255.0 ( talk) 16:59, 7 October 2008 (UTC)
The table and the complete article is complete nonsense because it confuses the meaning of reserves. Reserves in banking terms ARE SHAREHOLDER FUNDS . . .i.e. money raised from investors in the bank and the retained (i.e. undistributed earnings or profits). They are not a share of depositors money held bank for a rainy day! It is the RESERVE ASSET RATIO that allows banks collectively to create money and the LIQUIDITY RATIO that constrains a particular bank. If Bank A starts business with 20 dollars as reserves in fresh capital (ie. 20 dollars in cash and 20 dollars as reserves) then it can create indeed create a loan of 80 dollars if the required ratio is 20 percent. It creates a debit balance of 80 dollars on the loan account and a credit balance of 80 dollars on the checking account. If there are 10 banks in the economy and all have the same share of business in the economy then Bank A is likely only to retain 8 dollars of that checking account money, the rest will spill into the other banks. This creates two problems. Bank A has a liquidity problem because it has to pay 72 dollars to the other banks and it only has 20 dollars in cash. It needs to borrow 52 dollars from the other banks! The other banks now have a reserves problem. Their collective balance sheets have increased by 72 dollars (72 dollars in fresh liabilities as customer deposits matched by a 52 dollar loan to Bank A and the 20 dollars that Bank A had shipped over in a
Securicor van. They are now below their allowed reserves ratio. Indeed to support 72 dollars fresh balances they need to raise 18 dollars of fresh capital from their stockholders or make a profit of 18 dollars from 72 dollars (quite hard to do in a single day unless you are an investment bank selling a sow's ear as a crock of gold). Bank A meanwhile has liabilites as follows ... Share Capital 20 dollars, Interbank borrowing 52 dollars and a Customer credit balance of 8 dollars making total Liablilities of 80 dollars. On the assets side it still has the the customer loan of 80 dollars, so its reserve ratio is still 20 per cent. A single bank's ability to create new money is severely limited by the need to maintain liquidity (In practise Bank A has no liquid assets and could be put out of business by the other banks immediately). Collectively the banks can expand the money supply if they are all growing their business at the same rate, but they still need to get SHAREHOLDER FUNDS or MAKE AND RETAIN PROFITS to sustain their capital ratios. The table makes the fundamental mistake of thinking that money is created by the central bank placing deposits in the commercial sector. This does not normally happen. Nor does money stay in the same bank. It tends to get spent and spreads into other banks. Deposits move between banks but do not accumulate over time as the table suggests. The need to maintain both liquidity and reserve assets (shareholder funds... not held back cash are fundamental constraining factors. The present money crisis is a problem for the banks because they now have made huge losses. This has reduced their capital ratios and has been causing them to stop lending to maintain adequate reserve asset ratios. The action of central banks in Europe has been to pump in capital making this pressure reduce, and by lending against toxic assets (which rather unusually for central banks) places deposits at the disposal of the banks, increases liquidity. It also increases the money supply and will have impacts on inflation in the longer term, which will probably mean higher interests will be needed in the longer term (even if the flood of liquidity has decreased rates over the short term). I am amazed that this table has been in this article for so long without this even being questioned. --
Tom (
talk)
23:25, 17 October 2008 (UTC)
Analoguni ( talk) 05:11, 21 October 2008 (UTC)
Analoguni ( talk) 07:41, 25 October 2008 (UTC)
http://www.federalreserveeducation.org/fed101_html/policy/frtoday_depositCreation.pdf
I think the opening sentence is poorly worded and gives a misleading impression unless you already know what it means:
says that banks are forced to do this thing, rather than being permitted to. Perhaps better
This inversion of meaning seems to have come in at revision 206775658, 9 April 2008 and loses the intent of the source cited in the discussion leading to the change Lead: text suggestion
- Royan ( talk) 10:32, 20 October 2008 (UTC)
Analoguni ( talk) 05:10, 21 October 2008 (UTC)
please provide sources, as I am intersted in the subject. See http://en.wikipedia.org/wiki/Talk:Fractional-reserve_banking#High_power_money_in_the_.22Money_as_Debt.22_movie Analoguni ( talk) 07:42, 25 October 2008 (UTC)
That is a deeply flawed film. However - to the subject - according to the http://en.wikipedia.org/wiki/Capital_requirement page - lending institutions can lend a multiple of their capital requirement. —Preceding unsigned comment added by Mischling ( talk • contribs) 23:40, 26 October 2008 (UTC)
There seems to be a lot of confusion regarding the "creation of new money", also referred to as "commercial bank-money" throughout this article. Now, I'm not an expert on economics, however I think I have located two sources of confusion. The first seems to stem from lack of precision in defining fractional-reserve banking, and the second from confusion around whether or not federal-reserve banking implies something about what the real money should be.
In order to have some more precision in our discussion, let's make a few definitions.
We are in a fictonal community with currency Unit of Currency denoted . We do not assume anything with respect to the nature of what really is. Let . Let be the total deposits to Bank at time , let be the reserve in bank at time . Here deposit effectively means the the number obtained by adding up the balance of all accounts held by all the banks customers, viz. the money deposited to the bank for safe-keeping by other parties. Reserves means the number of bank-notes kept in the Banks vault.
Now then, some participants on this forum seem to be employing the following definition:
Definition 1 Fractional-reserve banking (FRB) is the practise where, for some preordained , all banks are required to at all times maintain the inequality
.
This means that if and represents some point in time
for which it is true that customers have total deposits of in bank , then
bank is reqired to ensure that the reserve at those points in time is no less than
. Note that reduces full-RB to a special case of fractional-RB.
Now, in my opinion, if this is the correct definition, there really is not much more to be said about FRB, and anything else could be nicely fit within one extra paragraph or so with proper references/links to articles on bank-runs, central-banks, money-supply etc. Clearly, with definition 1 and , a bank can upon a deposit of 100UC by person X lend out up to 90UC to person Y, and X clearly cannot withdraw more than 10UC until (some of) the loan have been repaid by Y, as there is nothing there to pay out. In fact, X cannot withdraw anything until some of the loan has been repaied by Y, lest the bank would violate the fractional-reserve constraint (Does this system sound like the one we all know?).
However, others seem to use a fundamentally different definition of FRB:
Definition 2 Fractonal-reserve banking (FRB) is the practise where, for some preordained , all banks are required to at all times maintain the inequality
and furthermore, bank may at time create/issue an amount of money, if (i)
and (ii) the money is created specifically for the purpose of being lent out.
If definition 2 is in fact the accurate one, then -- as many are claiming -- money is created by the banks,
since the money lent out by the bank is not affecting
its deposits-balance.
Example () Upon a deposit of 100UC (in actual currency) from X at time 0 the bank first registers a deposit of 100UC made in the name of X. This means that . 10UC is put aside to ensure that the FR-constraint is not violated, so . Hence up to 90UC can be lent out. However, and actually obviously, they are still counted as part of the banks total deposits; imagine how X would react were he to check his balance and find it at only 10UC. Thus the 90UC's are created to be lent to Y. Evidently, under this scheema, any withdrawal by X -- not exceeding 90UC -- cannot lead to the bank violating the constraint even in the case that Y "deposits" the newly-created UC's at the bank. Why? they still have 10UC in "real" money in the vault to back up the (100-90)+90=100. Now assume Y leaves, reenters (t=1) and deposits his loan in the Bank. The bank now "forgets" where the money originated from, and adds 90UC to their total deposits, so . They promptly place 9UC in the special reserves-vault, now totalling 19UC (10 backs up X's deposits, 9 Backs up Y's deposits). However, the "excess" 81UC's may be lent to Z -- again without affecting the balance in Y's account --- and so on.
This process yields the geometric series
where is the original deposit. So this is the mathematical explanation of how the 100UC's become 1000UC's as described in Modern Money Mechanics or on the home-page of the Fed. In general the series converges to , so that eg. yields the limit . (Note that is not defined for this formula, yet hints to as the limit.)
Feel free to play with this scenario, but note that if it is true that most of the money out there, at any given time, sits in some bank-account, then (i) the amount of money created is a function of the willingness to borrow money in the general public, limited by the series above and the initial deposit of "real money", and (ii) as long as we are willing to accept the mere adjustment of our bank-account balance as payment for goods and services, noone will ever notice a thing. To anyone outside the banks "new-money" and "real-money" is indistinguishable.
Which definition applies? Actually, on the web-page of the Federal Reserve much evidence is found suggesting that it is in fact definition 2 which is representative for the system implemented in the real world (at least the USA). Personally, I am quite disgusted to learn how the process works, and please note that no mention of interest has been made so far. Money = Debt seems to me to reflect accurately the truth. However, as demonstrated above, both scenarios can be described neutrally, and what remains is for the people editing this page to first agree upon what FRB actually means (which pretty much reduces to deciding on one of the above definitions, or possibly some other if neither is accurate). We are bound to have infinitly many re-edits if half the editors work with one definition, while the other half uses a second, since at any point in time the contents will be "false".
Secondly, there is confusion about what the real money is, and whether this is relevant to the article. Note that one can have FRB (with definition 1 or 2), and eg. a gold standard. There is nothing in the definition of FRB which implies what the "real" money should be. In fact, the US did have a system with FRB and a gold standrd until 1971, after which they have FRB with fiat money. Hence it is simply erroneus to make any assumtions as to what the UC's should "really" be. They could be gold, silver, silk or -- as is the case in most countries today -- federal/central-bank-bank notes (which are backed up by the goverments pledge to ensure all citizens accept them as currency...) Again -- personally -- I am strongly biased towards a commodities/precious-metals standard, and will not even attemp writing a neutral article about that matter. My point here is that such issues are irrelevant in an article titled Fractional-reserve banking, as long as it is understood that when there is an X-standard, the reserve may consist of a mixture of X and bank-notes, and when fiat-money is used, what is beeing created by the bank upon a loan request is no longer tokens of X, but more of X itself.
Best Mathias
Barra ( talk) 13:14, 2 November 2008 (UTC)
There have been some recent edits made that change the sense (occasionally to non-sense) of various sentences/paragraphs and also change words in sections that are direct quotes. I am going to roll back these changes. I someone wants to add them back in, please hold off until it can be discussed as many of these edits are simply not good enough to add back in, and some are dangerous. BananaFiend ( talk) 10:02, 6 November 2008 (UTC)
(This article -- and many "money" related articles have many problems -- because the articles are interrelated, I think it would be best to change them all Martycarbone ( talk) 00:35, 7 August 2008 (UTC)):
I propose to restructure the article as follows:
This structure enables NPOV to be maintained, and pushes the controversy to the later part of the article. Remember the purpose of the article is to explain the term rather than to engage in the controversy. 122.57.90.63 ( talk) 19:26, 16 December 2007 (UTC)
Greg, Yes, the term reserves can be used for capital reserves (e.g. when the bank revalues the land under its branches upward), for loan loss provisions, for employee entitlement provisions and probably more. Reserves in banking, for the purposes of this dicusssion, really means legal tender reserves, i.e. assets that can directly discharge the bank's liabilities, without needing to be sold or redeemed. Fractional reserve banking means, at least to some extent, the bank is relying on its ability to sell or redeem assets that it can't directly pay out to discharge its liabilities, so for this discussion we need to be strict about the term. Liquid assets are really secondary reserves that anti-FRB people won't admit as reserves.
I have bought in data from a particular bank, ANZ National as an illustration, to avoid claims of original research. Is this the right thing to do?
The steps you propose to illustrate are good, except you can't dispense with equity capital, it is an essential ingredient in getting people to hold the bank's liabilities. Really a model bank illustration should include equity capital, demand deposits/notes, term deposits, loans and advances, marketable securities, and cash reserves. 122.57.90.63 ( talk) 09:20, 17 December 2007 (UTC)
Greg, If a customer walks into a bank branch and demands repayment, the customer has a right to insist on legal tender, and the bank can't directly use its balances with the central bank to pay the customer (they aren't legal tender), instead the bank has to redeem its balance with the central bank in legal tender which can then be paid to the customer. (This may or may not be correct, but why should you be discussing legal tender here? Most of us think legal tender is money such as dollar bills. If that is not correct -- and perhaps it is not, it should be discussed elsewhere Martycarbone ( talk) 00:35, 7 August 2008 (UTC)) Really the only difference between balances held with a central bank and balances held with a commercial bank is that the former may be safer. 122.57.90.63 ( talk) 21:11, 17 December 2007 (UTC)
Greg,
I think this article is supposed to be pan-jurisdictional and relate to the principle of the thing first, and the variants under regulatory law later.
I've checked out another bank's financial statements, Westpac New Zealand Limited has a less complex balance sheet and it only lists $102m in 'cash and balances with central banks' without breaking it up between the two, and it has a maturity analysis that lists 'on call' separately from 'less than one month'. Interestingly this gives a reserve ratio of just 0.78%, basically the same as the legal tender cash reserve ratio of ANZ National Bank Limited. Perhaps we should put both the balance sheet and the maturity analysis there as the example. David.hillary ( talk) 23:20, 17 December 2007 (UTC)
===Lets keep the table and graph that explains the essence of the fractional reserve system=== ( If that table are graph are the ones I think they are, think they are, in my opinion, they are completely misleading and have nothing to do with the way the fractional reserve system works Martycarbone ( talk) 00:35, 7 August 2008 (UTC)) Since this article is about fractional reserve banking, and the purpose of wikipedia is for people to have the ability to understand things, I think it's necessary to explain what essentially fractional reserve banking is in the simplest way possible. (unless that simple way is erroneous Martycarbone ( talk) 00:35, 7 August 2008 (UTC)) The table that displays the fractional reserve lending system at work does just that. There are a lot of people trying to explain in many words how fractional reserve lending works and this graph does it all for them. There's no need to have long discussions about how much can be lent out. Just look at the table.
Also, the intro to this article is horrible. I have no idea what it's saying. Since wikipedia is supposed to be for people all over the world of different age groups and from different educational backgrounds, I think this article should be designed to be as easy to comprehend as possible. I don't think the intro needs to get too technical or complicated. Just say what fractional reserve banking is: when a bank lends out most of the deposits and increases the money supply without physically creating new money. (That is an erroneous description. New money is essentially created and there is nothing wrong with that. Read the information from Wright Patman on my website --- links above Martycarbone ( talk) 00:35, 7 August 2008 (UTC)) The table then displays how this works. Not much more is needed in this article after that other than the purpose of this system and the arguments supportive of it and arguments against it.
Here is the table again. Could someone please explain why this shouldn't be in this article?: (It is simply wrong in my opinion. It has no relation to how fractional reserve banking works Martycarbone ( talk) 00:35, 7 August 2008 (UTC))
Table 1: $1,000 of actual money loaned out 10 times with a 20 percent reserve rate | |||
---|---|---|---|
Individual Bank | amount deposited at bank | amount loaned out | amount left in bank (reserves) |
A | $1,000.00 | $800.00 | $200.00 |
B | $800.00 | $640.00 | $160.00 |
C | $640.00 | $512.00 | $128.00 |
D | $512.00 | $409.60 | $102.40 |
E | $409.60 | $327.68 | $81.92 |
F | $327.68 | $262.14 | $65.54 |
G | $262.14 | $209.72 | $52.43 |
H | $209.72 | $167.77 | $41.94 |
I | $167.77 | $134.22 | $33.55 |
J | $134.22 | $107.37 | $26.84 |
K | $107.37 | ||
total reserves: | |||
$892.63 | |||
total deposits: | total amount loaned out: | total reserves + last amount deposited | |
$4,570.50 | $3,570.50 | $1,000.00 |
I think this simple table explains things more than sufficiently. Who does or does not like this table? Please state your reasons. (It is so wrong, it is hard to comment on Martycarbone ( talk) 00:35, 7 August 2008 (UTC). I simply think the source is wrong. As far as I can tell the source is simply a publication from the Fed and may or may not been approved by someone who knows the system. Is it not incumbent on you to show where the information in that table agrees with or is supported by a written description in an authoritative source --- such as an FRB law or the other sources on my website? Trying to tell how this chart or table is wrong is like trying to prove something does not exist -- it is virtually impossible Martycarbone ( talk) 00:35, 7 August 2008 (UTC))
Analoguni ( talk) 19:32, 19 December 2007 (UTC)
The problem is that the table above and the one in the current article, do not correctly reflect how the banking system works. In particular, the table claims that loans are made from reserves, which is not correct. Bank loans are not made from reserves. From:
"Modern Money Mechanics, by the Federal Reserve Bank of Chicago": (a statement like "bank loans are not made from reserves is one of those silly statements which are usually deceptive and misleading. Bank loans -- (if the borrower takes cash) are taken (made) from the cash on hand at the bank. Since the bank does not label each dollar of cash on hand with its source, it can't be said that the the dollar comes from any particular account. It is just wrong to say where the loan comes from. You can refer to the accounting entries when referring to a loan and show thereby which accounts are reduced and which are increased when a loan is made -- but that is quite different, I think than saying the loan is made from a certain account -- unless you explain what you are doing, it is just goofy. In your reference -- where does the reference say "loans" are made from?
Martycarbone (
talk)
00:35, 7 August 2008 (UTC))
No, bank loans are not made from cash on hand at the bank. It is not wrong to say where the money comes from because bank loans are newly-created money. THAT is the whole essence of fractional reserve banking. From the reference above by the FRB of Chicago:
"It does not really matter where this money is at any given time. The important fact is that these deposits do not disappear. They are in some deposit accounts at all times. All banks together have $10,000 of deposits and reserves that they did not have before. However, they are not required to keep $10,000 of reserves against the $10,000 of deposits. All they need to retain, under a 10 percent reserve requirement, is $1000. The remaining $9,000 is "excess reserves." This amount can be loaned or invested.
If business is active, the banks with excess reserves probably will have opportunities to loan the $9,000. Of course, they do not really pay out loans from the money they receive as deposits. If they did this, no additional money would be created. What they do when they make loans is to accept promissory notes in exchange for credits to the borrowers' transaction accounts. Loans (assets) and deposits (liabilities) both rise by $9,000. Reserves are unchanged by the loan transactions. But the deposit credits constitute new additions to the total deposits of the banking system."
AceNZ ( talk) 00:04, 28 September 2008 (UTC)
Of course, they do not really pay out loans from the money they receive as deposits. (They might. Once the bank has the deposit on hand, they might turn around and lend some of that money to their next customer Martycarbone ( talk) 00:35, 7 August 2008 (UTC)) (Wrong: as described above, money on-hand is not used to fund loans AceNZ ( talk) 00:04, 28 September 2008 (UTC)). If they did this, no additional money would be created. What they do when they make loans is to accept promissory notes in exchange for credits to the borrowers' transaction accounts. Loans (assets) and deposits (liabilities) both rise by $9,000. Reserves are unchanged by the loan transactions. But the deposit credits constitute new additions to the total deposits of the banking system. (in my opinion, this is way too much information even if it is correct. Can't you simply say "when someone gets a loan they sign a contract to pay that loan back"? You do not have to mention "promissory notes. Also -- why do you have to tell how that transaction is recorded "in exchange for credits to the borrowers' transaction accounts. Loans (assets) and deposits (liabilities) both rise by $9,000. Reserves are unchanged by the loan transactions. But the deposit credits constitute new additions to the total deposits of the banking system.", that just complicates things Martycarbone ( talk) 00:35, 7 August 2008 (UTC))
It also neglects the fact that new money is created when loans are made. Loans are in fact just bookkeeping entries (they are far more than Just bookkeeping entries Martycarbone ( talk) 00:35, 7 August 2008 (UTC)), where the maximum amount is determined by the amount of excess reservesthat are available (I don't want to make a big deal out of this -- but when a loan is made there does not have to be "excess reserves" available. The reserves needed are created precisely by the dollar amount of the loan. Martycarbone ( talk)). That is, in my opinion, precisely the essence of fractional reserve baking Martycarbone ( talk) 00:35, 7 August 2008 (UTC)). In fact for every dollar lent -- that dollar creates about $10 that can be lent out Martycarbone ( talk) 00:35, 7 August 2008 (UTC)) (Again, not correct. New loans don't create reserves. Reserves can only be created by the Federal Reserve, usually through open market operations. And yes, before a loan is made, "excess reserves" must be available. The process is fully described in the reference above that was written by the Federal Reserve themselves AceNZ ( talk) 00:04, 28 September 2008 (UTC)). Here's a revision of the table that tells the story more accurately:
Table 1: $1,000 of actual money loaned out 10 times with a 20 percent reserve rate | ||||
---|---|---|---|---|
Individual Bank | amount deposited at bank | required reserves | excess reserves | new loan |
A | $1,000.00 | $200.00 | $800.00 | $800.00 |
B | $800.00 | $160.00 | $640.00 | $640.00 |
C | $640.00 | $128.00 | $512.00 | $512.00 |
D | $512.00 | $102.40 | $409.60 | $409.60 |
E | $409.60 | $81.92 | $327.68 | $327.68 |
F | $327.68 | $65.54 | $262.14 | $262.14 |
G | $262.14 | $52.43 | $209.72 | $209.72 |
H | $209.72 | $41.94 | $167.77 | $167.77 |
I | $167.77 | $33.55 | $134.22 | $134.22 |
J | $134.22 | $26.84 | $107.37 | $107.37 |
K | $107.37 | |||
total required reserves: | ||||
$892.63 | ||||
total deposits: | total reserves + last amount deposited | total amount loaned out: | ||
$4,570.50 | $1,000.00 | $3,570.50 |
As the number of banks and loans increases, the total required reserves approaches the amount of the initial deposit and the total amount loaned plus the initial reserve approaches 1 divided by the reserve requirement times the amount of the initial deposit (1*1000/0.2 = 5000x in this case).
I suggest the table above be included in the article instead of the current one. -- AceNZ ( talk) 10:20, 6 May 2008 (UTC)
Sorry I find this table and the explanation of FRB as 'lending out deposits' as confusing and unhelpful. What happens to the money lent by the bank in a sense isn't what FRB is about: it is about the money the bank doesn't lend out but hold in reserve, hence the term FRACTIONAL RESERVE BANKING. Since deposits are the bank's liabilities, to talk about lending deposits I think is very confusing. (I agree that it is confusing, but not for the reason you give. As strange as it seems the banks do take in deposits and then lend out about ten times the amount of those deposits
Martycarbone (
talk)
00:35, 7 August 2008 (UTC))
I think we should start with the individual bank, and then move to the system as a whole, and then introduce the controversy concerning the stock of money and price of money as close to the end of the article as possible. For this reason I have restructured and edited the article to start with an example of the balance sheet of the fractional reserve bank, showinging that the bank's stock of legal tender reserves are a small fraction of its demand liabilities, which is the essence of fractional reserve banking. (Sounds way to complicated to me -- it is not that complicated. Read the sources at the URLs I give above. Patman starts by simply talking about a single bank, the owner of that bank, his customers and the King. It is hard to beat his description for simplicity Martycarbone ( talk) 00:35, 7 August 2008 (UTC)) David.hillary ( talk) 04:59, 20 December 2007 (UTC)
Here is a good source for the data in the table. It's from the New York regional reserve bank of the US Federal Reserve System: http://www.newyorkfed.org/aboutthefed/fedpoint/fed45.html Scroll down to the "Reserve Requirements and Money Creation" section. Here is what it says:
I rest my case. By the way, I am the creator of that table. Analoguni ( talk) 09:38, 27 December 2007 (UTC)
Be Careful Analoguni!!! - you have to keep reading the Fed article that you are citing. The paragraph after the example states, "In practice, the connection between reserve requirements and money creation is not nearly as strong as the exercise above would suggest ... Furthermore, the Federal Reserve operates in a way that permits banks to acquire the reserves they need to meet their requirements from the money market, so long as they are willing to pay the prevailing price (the federal funds rate) for borrowed reserves." This indicates that Fractional Reserve Banking is about RESERVES - and not deposits. - http://www.newyorkfed.org/aboutthefed/fedpoint/fed45.html
Example - A brand new bank opens up with no assets/money whatsoever. The day that it opens, it loans Joe Schmo $1,000 by opening him a checking account and putting $1,000 in it (it doesn't actually put real cash in the checking account - it just marks down on its books that Joe has an account with $1,000 in it). At the end of the day, the Bank notes that it has "lent" $1,000 to Joe (still just noting an amount of $1,000 in his checking account), but that it has no actual money in reserve - as nobody has made any deposits with the bank. At this point, if Joe tried to take any money out in cash, the bank would say "Sorry - we ain't got any." So the bank goes to the money market and borrows $100 at the prevailing federal funds rate. Now the bank has $100 from the money market in actual money and puts it in its vault ("in reserve"). Why only $100? Well because it is equal to 10% of what it lent out to Joe. This way they are meeting the statutory regulations imposed on them of having 10% reserves. This way, when Joe tries to take some cash out of the checking account, the bank has some cash to give him. Chances are he won't ask for the whole amount, and that is why the law says that the bank only has to keep 10% on hand. (All of this is basically and wholly untrue -- Joe Schmo's $1000 deposit can immediately be lent out 10 times over. I know that is hard to believe but that is fractional reserve banking and it has essentially worked for hundreds of years. There has never been a more proven system Martycarbone ( talk) 00:35, 7 August 2008 (UTC))
So, including your chart only confuses what Fractional Reserve Banking is about. It is true that your example shows a way that transaction deposits can be created through Fractional Reserve Lending, but is seperate and distinct from what Fractional Reserve Banking is. —Preceding unsigned comment added by 70.64.6.187 ( talk) 06:08, 13 January 2008 (UTC)
I haven't seen any discussion of interest on loans. Banks count future interest on mortgages as assets too. They discount it at the rate of inflation but big deal the damage is still done. Thus the fractional reserve that they claim as a basis for making additional loans in inflated wildly by the interest on mortages. The table doesn't show that! The interest over 30 years far exceeds the initial principle amount. Additionally it far exceeds the present day value of the real asset (the house), especially after a recession when housing prices fall. These loans were bundled and sold to larger banks and investors invested in them. Those banks and investors were counting on principle + future interest for the bundled loan assets. When all the forclosures hit, the problem was compounded because the banks writedown inlcluded the fact that the real asset values (housing prices) were falling as the market crashed. Once investers realized that the assets were never going to pay out at the value promised (principal + future interest) everyone pulled out and several large banks no longer exist because of it. This practice is at least as bad as anything Enron did and no one is calling the banks on it. Instead we bailed them out without asking one question while at the same time car companies which actually produce goods are left out in the cold.
The net effect of this practice is the general public pays interest to banks for money the bank never had to begin with. And now the government has bailed them out at the expense of that same general public. And if this practice isn't inflationary, please tell me what is. Mbrisendine ( talk) 03:53, 4 December 2008 (UTC)
Fractional reseve banking isn't just about the reserves but it is also about the money supply in a banking system and/or economy. (back in the 1800's, in the free banking era, private banks controlled their own money. This is why I say banking system (free banks) and/or economy (govt regulated banks)). Fractional reserve banking has a direct effect on the money supply and it is not only important, but necessary to include the effects on the money supply in this article.
The table above shows how the money supply is expanded through the fractional reserve lending system and I think it's necessary to include it in this article.
Here is a quote from the U.S. Federal Reserve's official education website (www.federalreserveeducation.org). It is from a document that was created to educate people on how the federal reserve system works. It is titled, "The FED Today". Some text on the cover says, "Histroy, Structure, Monetary Policy, Banking Supervision, Financial Services, and more", and, "Lesson plans and activies for economics, government, and history teachers". The link to it is: http://www.federalreserveeducation.org/fed101/fedtoday/FedTodayAll.pdf
This is on page 57 of the document. Analoguni ( talk) 07:51, 27 December 2007 (UTC)
Now let's contrast the statement from the federal reserve with the statements by users above:
Clearly, the loans and resulting deposits are important because new money is created this way. The money supply is expanded through this system. Analoguni ( talk) 08:21, 27 December 2007 (UTC)
There are several characteristics of fractional reserve banking that aren't included in the article. For example, commercial bank bank money gets its value from the fact that it can be exchanged at a bank for central bank money. It only exists "on paper" in the form of checks or electronic transfers. Also, some more info on how deflation occurs as debts are paid back can be helpful. The addition of new money has a multiplying affect since it can be used to create more commercial bank money. There is much more commercial bank money in existence then there is central bank money. Official money supply statistics show how much more commercial bank money exists then central bank money. I put in a list with these things but it was changed and some information was removed without at least putting in citation tags. I think all of these things describe fractional reserve banking and help to give an understanding of how it all works.
An analysis of how much money is needed to pay back the loans is probably necessary too, since it would show if and how new money would be needed within a system in order to be able to pay back a loan plus interest. The banks make their profits from taking money out of the system, but it also might be important to point out that the banks spend the money they make so it could still be within the system. An analysis of this could be useful. Analoguni ( talk) 04:03, 7 February 2008 (UTC)
There's too much complicated stuff in this article. I think it would be best to have sufficient information so that someone who doesn't know what fractional reserve banking is will know what it is after reading this article. Analoguni ( talk) 20:05, 19 December 2007 (UTC)
I think everyone agrees with this, the debate is on what we can lose and how to structure and word the article so it is clear and unbiased.
David.hillary (
talk)
04:59, 20 December 2007 (UTC)
this article is just wrong. cash reserves deposited at a central bank allow banks to MULTIPLY their money by the reserve requirement. 1 dollar may be turned into 9 with a 1:9 ratio. (that is absolutely correct in my opinion
Martycarbone (
talk)
00:35, 7 August 2008 (UTC))
if the chequebook money created by the bank is deposited at another bank they are now required to keep a portion of it as a reserve. ( I do not think that is true. Deposits in new banks continue the process -- they too can be lent out over and over. Hard to believe -- but true -- as far as i know, nobody has ever calculated a safe upper limit. As long as the loan is covered by collateral and most of the loans are used by businesses and people to create wealth -- it is a healthy situation Martycarbone ( talk)) see
http://uk.youtube.com/watch?v=hfXavRTM4Fg&feature=related
why can't i edit the article to make it accurate? —Preceding unsigned comment added by 91.110.50.216 ( talk) 06:39, 31 December 2007 (UTC)
Why do multiple banks need to be involved? The first bank can keep all the money deposited and write loans for $400 to the next customers that come in wanting a loan, and they keep all the business that way. Doing it the way in this article would lose the majority of the profit to be gained. -- 86.164.126.9 ( talk) 21:32, 2 October 2008 (UTC)
I see the following problems with the current table that is used. 1. It does not clarify, or show where the "money" is going. This particular example, although not wrong, does not provide sufficient clarity or explanation of the a reserve system with a central bank. 2. It doesn't make sense. I could basically show the exact same thing, as that table in one line. BANK A gets a $1000 cash deposit, and uses that money to lend out 10,000 chequebook dollars. 3. It does not include what is really going on, purchase of assests, fed funds lending, payment of collection of interest.
So I propose the following. We need a table which while it includes many more details, it is as simplified as we can make it. This table must include the central bank accounts, it must include chequeing accounts at private banks, it must include people.
I don't know how to post my table here, but the following table is what I recommend. I have included many "steps" that could be shrunken down, but I think my model is the simpilest that can be used. I would like to add various types of transactions to this table..ie what happens when the asset devalues(mortgage crisis), what happens when people want their money, etc...
Here is the link to my spreadsheet... please let me know if this clears some things up..
http://spreadsheets.google.com/pub?key=pWw-cpEDjoPazmAoiOIgTfQ
Thoughtbox ( talk) 19:44, 13 February 2009 (UTC)
The current content is unclear as to what the benefits are and to who. Some comments below.
"According to the United States' Federal Reserve, fractional reserve banking provides benefits to the economy and the banking system:
The fact that banks are required to keep on hand only a fraction of the funds deposited with them is a function of the banking business."
Not a benefit just a fact of how the system works
"Banks borrow funds from their depositors (those with savings) and in turn lend those funds to the banks’ borrowers (those in need of funds)."
This is just saying banks act as middle men, this is not unique to fractional reserve banking.
"Banks make money by charging borrowers more for a loan (a higher percentage interest rate) than is paid to depositors for use of their money. If banks did not lend out their available funds after meeting their reserve requirements, depositors might have to pay banks to provide safekeeping services for their money."
Not having to pay safekeeping fees is a possible benefit. Getting interest on deposits is a possible benefit but you could argue that it is the cost of potentially not getting all your money back as fractional reserve implies. Banks making money from the interest rate differential is a possible benefit to the banks.
"For the economy and the banking system as a whole, the practice of keeping only a fraction of deposits on hand has an important cumulative effect."
What is the benefit? it says its important but doesn't say why it is important or what the benefit is.
"Referred to as the fractional reserve system, it permits the banking system to "create" money.[4]" Again what is the benefit?
Quoting the Federal Reserve Bank on the benefits of the system it is involved in is likely to be biased.
It would also make sense to have a section on benefits next to the section on criticism -- both near the bottom.
Tridy ( talk) 17:42, 20 January 2009 (UTC)
The term "fractional-reserve banking" is irrelevant to the way actual finance works and demonstrably so at present - it's certainly no more than a theoretical principle and that from a long-dead theory. In practice, it's not clear what the 'fraction' is of, there is no value in the central bank to 'reserve' against or hold a 'ratio' of, and other problems. Read gang8 for a few months to become convinced of the truth of this... So:
This article and criticisms of fractional-reserve banking need to be merged with a proper accurate statement of how the global financial clearing system really works, including a lot of explanation of the Bank for International Settlements and its role. A title that neutrally reflects the scope of the discussion is banking reserve rules. Why this title? Several reasons:
Hopefully this will resolve the NPOV issue that seems unresolvable in any other way.
See also monetary reform and talk:monetary_reform for more context on all this, and what other approaches to reforming financial regulation have been considered and why.
We could also keep criticisms of fractional-reserve banking and monetary reform as places for goldbugs to gather. As things stand I had to add a POV tag after my own edit just because I couldn't get all the goldbug nonsense out on the first edit - we might as well redirect all these articles to goldbug if we can't get rid of their POV.
Meanwhile sane people who know we are never heading back to any mythical never-existed supposedly-honset gold standard could just develop parallel banking reserve rules, capital adequacy and monetary policy articles. But in that case neither of the goldbug articles should be included in the monetary economics category, they should be in their own category:goldbug. ;-)
removing my own comments
I agree as well I think the article name should remain. Wikiiscool123 ( talk) 17:03, 3 March 2009 (UTC)
The statement in the leading paragraph This practice is universal in modern banking. is very much against WP:POV. I would like to get a consensus to change it to This is a common practice in modern banking. Some foreign banks do use sound banking. Smallman12q ( talk) 14:39, 14 February 2009 (UTC)
In addition, the statement that "Fractional reserve banking is a necessary consequence of bank lending" is not supported with any citations. I would argue that this statement is an evidence of the "confusion between loan banking and deposit banking" that is quoted later in the article. The two sentences seem to state that a) fractional reserve banking is necessary, so therefore b) it is universally practiced in "modern" banking. While(b) may be true, (a) is just an assertion. It also seems to equate "bank lending" with "when banks lend out a fraction of the deposits the receive." But are demand deposits the only source of funds for banks to lend? They are not. A bank lending structure based exclusively on lending funds from time deposits or other instruments is possible, and would not constitute fractional reserve banking. Bshow ( talk) 18:49, 24 February 2009 (UTC)
The graphs and the table are complete nonsense. A bank can lend out the whole amount in a single loan if it wants to. Banks do not lend cash. Banks lend chequebook money. Below is an illustration of the issue with a 10% reserve requirement:
Symbols: $ = cash # = chequebook money (bank liability to deposit holder) Stage 1: Bank has no (available) cash and can't lend Stage 2: A depositor walks in with $100 in cash: Bank vault: $$$$$$$$$$ ($100) Depositor account: ########## ($100) Stage 3: Bank lends chequebook money Bank vault: $$$$$$$$$$ ($100) Depositor account: ########## ($100) Debtor account(s): ########################################################################################## ($900)
The point is: There can be any number of lending operations to achieve the full money multiplier effect, including just one.
The same example with a 50% requirement:
Stage 1: Bank has no (available) cash and can't lend Stage 2: A depositor walks in with $100 in cash: Bank vault: $$$$$$$$$$ ($100) Depositor account: ########## ($100) Stage 3: Bank lends chequebook money Bank vault: $$$$$$$$$$ ($100) Depositor account: ########## ($100) Debtor account(s): ########## ($100)
Reiska (
talk)
21:02, 8 March 2009 (UTC)
Don't have "autoconfirmed" authority yet to correct this myself, but the sentence "Holders of demand deposits can withdraw all their at any time" should probably be "their money" or "their funds at any time". Luke831 ( talk) 21:08, 4 March 2009 (UTC)
Sorry, but this article is currently in a dreadful condition. There is a lot of good information, but it needs radically organising and some parts need re-writing to explain the process of deposit multiplication under Fractional Reserve Banking and to properly explain the good info that is already present. Vexorg ( talk) 07:49, 12 March 2009 (UTC)
Agreed. When I first referred people to this article in late 2007, it was simple and easy to read. Now it's a horrible, obfuscatory mess and one long violation of NPOV. Putting "Benefits of Fractional Reserve Banking" at the beginning, before it's even explained or defined? Is there an opposite term to "goldbugged"...maybe "bankrolled"? I've never edited a page before, but am sorely tempted to register and do so just to fix this abomination.
In the meantime, the best and simplest thing anyone could do is revert this article to its late-2007 state. 173.75.70.109 ( talk) 04:21, 1 May 2009 (UTC)
The article on History of Banking seems to indicate that fractional-reserve banking has been going on since the third millenium BC, having traced its origins to temples and palaces. This article, on the other hand, seems to indicate that fractional-reserve banking is a new development circa 1800 AD. The first reference from antiquity that I immediately think of, comes from the Bible in Matthew 25:27 (NIV): "Well then, you should have put my money on deposit with the bankers, so that when I returned I would have received it back with interest."
Either Jesus is saying that these first millenium bankers know something we don't, or they were making money by lending out their deposits. Jsharpminor ( talk) 05:50, 17 March 2009 (UTC)
Since Rubisco gave such an excellent point, I am removing the contradiction warning in the history section. Hendrixjoseph ( talk) 02:01, 18 March 2009 (UTC)
Coming back to Greg, the basic idea of a demand deposit account, with non-negative interest, requires FRB. Otherwise the bank is simply offering free storage and safekeeping facilities. I'd say the crucial thing that defines a bank is participation in a monetary system that consists of some kind of abstract claim such as a banknote or debit settlement system. To finance this, FRB is essential. JQ ( talk) 10:03, 21 May 2009 (UTC)
The very first paragraph is downright false. Banks do not lend deposits. when you take out a loan from the bank you aren’t receiving other people’s money. your promise to pay (legally binding) becomes a form of money (a piece of paper with value). With this signed paper the bank is allowed to write the amount of the loan into your account. No money is subtracted from any other place. Of course your promise to pay X dollars by 2030 isn’t worth X dollars now, it’s worth X minus some amount based on the risk that you’ll default, the nominal interest rate, etc. This discount is determined by the market for loans. what does the bank do with your deposits? well your loan is worth X-some amount. The bank needs to cover the discount. It uses deposits to do this, despite the fact that demand deposits are liabilities and not assets.
in terms of the number of loan dollars you can see that the number of actual cash the bank has is quite low, probably only a few percent of the value of all the loans. 24.5.25.157 ( talk) 20:23, 24 May 2009 (UTC)
It would be helpful if the people who come in with comments like this were to pick up any modern (within last 10 years) macroeconomics textbook first and at least find out what the mainstream thinks about modern banking. LK ( talk) 04:42, 30 May 2009 (UTC)
Quite recently the author of the movie together with his team provided answers to the two of the questions that are discussed below. Yes they said, it is not all 100% according to official banking rules but these are also not 100% obeyed in various countries. In general, all this was done in the film to simplify some more complicated parts of fractional reserve banking, and certainly those too complicated for wider audience. The general picture of the banking system was not malformed - they say. These explanations can be found under the following address: http://paulgrignon.netfirms.com/MoneyasDebt/disputed_information.html —Preceding unsigned comment added by Maciekskje ( talk • contribs) 20:24, 12 January 2009 (UTC)
At one moment the movie states that an initial deposit by THE FOUNDERS OF A BANK of their own capital in the central bank 1111,12$ of high power money enables them to give out their first loan of 10000$, but then the customers credit money who deposits in the bank enables them only to give a loan of 9000$ to the next customer and the ladder begins. Is this an accurate paraphrase? If so, is it true? Mik1984 ( talk) 03:16, 25 July 2008 (UTC)
In the Money as Debt cartoon [about 13:00 to 15:00], a hypothetical new bank gives out a loan of nine times more than its assets.
Here's the relavent narration from the movie:
|
So, is this accurate? Specifically the part where it says the bank can "legally conjure into existence" nine times more money than it has on deposit at the central bank. -- loqi ( talk) 15:22, 13 October 2008 (UTC)
I have looked up more information on fractional-reserve banking and I think I found a source for the 2 different ways of doing it. Here is an analysis by the austrian economist Murray Rothbard, which I think gives a good description of what is going on (with the exception of him referring to the process as "counterfeit"):
In conclusion, the U.S. system must be different. One way of looking at it is to try to understand how things worked under a gold standard. For example, a bank could start off with 100 ounces of gold and no paper money. Since only 10% of the paper representing gold is redeemed at any given time, the bank could just write up paper claims for 1,000 ounces of gold immediately. This is where I think this idea of lending out more than there is available comes from. However, when the Federal Reserve System was set up in the United States in 1913, the rules were changed a little bit so that banks in the United States must have funds available to lend out. Analoguni ( talk) 16:08, 25 October 2008 (UTC)
I understand that there is a lot of controversy on Fractional banking, and so in order to clarify what to me is one of the most contentious points I am asking this question: Is it legal to take a depositor's money (say $1000) and then loan out $9000 with the $1000 in reserve instead of lending out $900, and having $100 in reserve? This seems to me to be where most of the inflation attributed to banks is supposed to come from. Wikiiscool123 ( talk) 05:31, 3 March 2009 (UTC)
Thank you Lawrencekhoo for the prompt response. Rubisco, would you please clarify? You say that you are removing the section but it seems as if you are referring to the actual article than to this talk section. I would appreciate if you did not delete this talk section and maybe made your own so that you can elaborate on "A Simple Example - A Single Bank". Or at least it would be nice to know that the aforementioned article is what you are talking about. LK, how is it that people get the idea that you can inflate via bank's fractional banking capabilities? Does this have to do with special rules for the base supply of money?
Thx so much both of you, Wikiiscool123 ( talk) 16:05, 3 March 2009 (UTC)
Wikiiscool123 ( talk) 19:25, 6 March 2009 (UTC)
Rubisco said above: "Banks cannot create money out of “thin air”. Every penny of the money lent out by banks has to be funded from somewhere on a 1:1 basis. If banks really could lend $400 based on holding $100 in reserve, their balance sheets wouldn’t balance: they would have assets worth $400 and liabilities worth $100."
Erm, not quite. Let us suppose that I deposit $100 in cash into the bank and Rubisco borrows $50, and that the $50 is put into Rubisco's checking account. So now the bank's balance sheet is: Assets = $150 ($100 cash + $50 loan Rubisco); Liabilities = $150 ($100 demand deposit Bshow, $50 demand deposit Rubisco). Where did the $50 come from? What is "backing" it? Nothing; the bank has created $50 out of thin air and then loaned it to Rubisco, while still pretending to be safekeeping my $100. If Rubisco withdraws his loan proceeds of $50 in cash, they will just give him $50 of my cash, and the balance sheet will show: Assets = $100 ($50 cash + $50 loan Rubisco); Liabilities = $100 ($100 demand deposit Bshow). Now I go down to withdraw my demand deposit... Oops!
Bshow ( talk) 05:32, 7 March 2009 (UTC)
A financial intermediary accepts funds from depositors, and lends those funds to borrowers. To do so, an institution (usually called a bank) must lend out money than it receives from depositors. When it does so, it necessarily no longer has enough cash-on-hand to pay back the full amount owed to depositors. That is, its reserves only equal a fraction of its deposits; hence it is practicing fractional reserve banking. Full reserve banking requires that a bank always has the full amount of deposits as cash-on-hand, so it cannot lend any funds deposited out, therefore, it cannot act as a financial intermediary.
I believe this point is adequately explained in the article, but please feel free to explain more clearly if you feel that is necessary. LK ( talk) 02:41, 28 June 2009 (UTC)
I came across these two videos tonight. Very detailed history of the US Federal Reserve up to its current monetary system. (my own opinion: Slightly conspiracist. States in plain terms the threat of the potentially nefarious power to print money in private hands; private bodies other than the citizenry. However, very informative.)
Links not working... http://video.google.com/videoplay?docid=-2665915773877500927 http://video.google.com/videoplay?docid=-8753934454816686947
Reissgo ( talk) 16:23, 1 August 2009 (UTC)
For all practical purposes, the banking system does not "lend out" money. Loans are "promissory notes" that are deposited into accounts, not counted out as cash at the bank counter. The money that is lent sits in deposit accounts just as any other money that is deposited in bank accounts. By definition, the reserve requirements are supposed to be high enough to withstand the usual needs of withdrawal.
Imagine a banking system with just a single bank, where everybody keeps their deposits, excluding an insignificant fraction that they keep in cash. Assume that the bank has exhausted its reserve requirements and has no excess reserves. Now somebody deposits $100 (say in newly printed cash from the Federal Reserve). The deposit liabilities increase by $100 and the reserves increase by $100 as well.
As only (say) 10% of deposits need to be kept in reserve as cash (or equivalent central bank deposits) the bank now has excess cash reserves of $90. Thus, the bank can now lend another $900 to somebody, bringing its excess reserves to zero.
We have to remember that even that $900 (or even $9000000) loan is just a drop in the bucket of the whole deposit base of the bank. If the money is transferred to some other bank, there is no problem. The reserves can (by definition) withstand these transfers, and transfers between banks cancel each other out during the reserve maintenance period. If the bank is lacking reserves in the end of the reserve maintenance period (about a month or so), it can get an inter-bank loan or sell assets to another bank, but for the whole banking system the reserves and deposits are in balance.
The fact is that banks do create money by accepting promissory notes. There could be no bank lending otherwise, unless the loans and deposits were perfectly matched by term. The significant issue is the level of reserve requirements, which I personally think have been taken outrageously low, in addition to the fact that no reserves whatsoever are required for savings accounts, which is a problem when a lot of money is suddenly transferred from savings accounts to checking accounts.
Reiska ( talk) 08:39, 3 July 2009 (UTC)
The concept of fractional reserve banking is completely wrong, and this article is way too influenced by conspiracy theorists.
Let's say I'm a stock investor. Together with some others I'm putting 1.000.000 dollars as equity in New Bank Inc.
New Bank opens and needs money to lend out. It prints 5.000.000 worth of debt in the form of tradeable bonds. The bonds yields 5 pct and martures in ten years. The money is transferred from the bond owners to the bank.
Then New Bank accepts 5.000.000 worth of deposits.
Now the bank has 11.000.000 dollars, but the bank doesnt actually own any money. It owes 1.000.000 to the shareholders, 5.000.000 to the bond owners and 5.000.000 to the depositors.
Now the bank can lend out 10.000.000 dollars. It has 1.000.000 dollars (equity) which serves as a margin capital if the bank has to write down some of it's assets (i.e. what the bank has lended).
Now tell me where new money was created. (--guest) —Preceding unsigned comment added by 80.202.109.224 ( talk) 01:21, 14 July 2009 (UTC)
Reiska, can I ask why you think the way you do? Having worked in a bank, it's been my personal experience that a bank (at least the one I worked in) does not lend out money more than the excess cash on hand that it currently holds. In the example above, that would be about $9million. LK ( talk) 06:03, 28 July 2009 (UTC)
Just had a look at Reiska's ref, in which I did not see any reference to the Basel Accords, something that I cannot understand for such a topic. In most countries, banks are forced through regulation to comply with the Basel Accords, and it is under its approach to the Basel Accords that a bank manages its capital structure and therefore its balance between cash on hand and risky assets. -- Childhood's End ( talk) 13:11, 29 July 2009 (UTC)
added an application of interest section under criticism. what do you think? Please help to add better sources. Cstof j ( talk) 12:52, 16 August 2009 (UTC)
Fractional-reserve banking is the banking practice in which banks keep only a fraction of their deposits in reserve (as cash and other highly liquid assets) [but banks don't need to be in receipt of deposits to be a fractional-reserve bank, they can simply make loans] and lend out the remainder, while maintaining the simultaneous obligation to redeem all these deposits upon demand.[1][2] Fractional reserve banking necessarily occurs when banks lend out any fraction of the funds received from deposit accounts [Not if the deposit accounts are locked up as in the case of time deposits...]. This practice is universal in modern banking. Orangedolphin ( talk) 15:52, 21 September 2009 (UTC)
This article is off to a very poor start. The second sentence "This may result from either the depositors being ignorant of the shortfall, or trusting of the Government guarantee" is fringe POV. Although this sentence is cited, it's an extremely non-mainstream POV to suggest that the entire modern banking system is largely predicated on ignorance. This would maybe be acceptable in a "criticism of fractional reserve banking" section, but is downright bizarre to place so prominently. In the United States at least, anyone who is paying attention learns how banks work in high school and the fact that people keep accounts well above FDIC insured limits shows the second assertion to be largely false as well. -- JayHenry ( talk) 00:29, 23 September 2009 (UTC)
The article says that the Fed is a government institution, but it is wrong. It is a private institution as Federal as Federal Express. I was shocked to learn the conspiracy theorist were right on this one. In all countries around the world, no central bank belong to the government, they belong to individual investors who are not known by the public (Anonymous societies is a very common way to form companies in most countries). Central banks just play nicely to governments and lend them as much money as they want as long as they agree to pay it back.
The Fed has a license to print money. WOW!
Who owns the Federal Reserve?
The Federal Reserve System is not "owned" by anyone and is not a private, profit-making institution. Instead, it is an independent entity within the government, having both public purposes and private aspects.
As the nation's central bank, the Federal Reserve derives its authority from the U.S. Congress. It is considered an independent central bank because its decisions do not have to be ratified by the President or anyone else in the executive or legislative branch of government, it does not receive funding appropriated by Congress, and the terms of the members of the Board of Governors span multiple presidential and congressional terms. However, the Federal Reserve is subject to oversight by Congress, which periodically reviews its activities and can alter its responsibilities by statute. Also, the Federal Reserve must work within the framework of the overall objectives of economic and financial policy established by the government. Therefore, the Federal Reserve can be more accurately described as "independent within the government."
The twelve regional Federal Reserve Banks, which were established by Congress as the operating arms of the nation's central banking system, are organized much like private corporations--possibly leading to some confusion about "ownership." For example, the Reserve Banks issue shares of stock to member banks. However, owning Reserve Bank stock is quite different from owning stock in a private company. The Reserve Banks are not operated for profit, and ownership of a certain amount of stock is, by law, a condition of membership in the System. The stock may not be sold, traded, or pledged as security for a loan; dividends are, by law, 6 percent per year.
Taken from: http://www.federalreserve.gov/generalinfo/faq/faqfrs.htm
Organized as a private entity, but with no owner, monopoly of printing money given by congress, but can't be overruled by any government agency, although the congress can change its charter (the mission of the enterprise), it can't overrule it either. It is even worse than a private bank, because the CEO of a bank must show results to the board, otherwise risking termination. The president of the fed (or any central bank) can go willy nilly and not print money when necessary or print a lot of money when it is necessary to contract the supply. Most central banks behave as good citizens, but I guess the only reason is to avoid loosing their monopoly to government, which may take it back or simply grant it to another cartel.
Furthermore, private banks have stock on the fed, why isn't it traded like all stock? That's unfair. If we could all buy and sell shares of the fed, all our money would grow at least 6% per year. That would be really nice.
Also, if the bank doesn't have any profit, how does it distribute dividends? It has profits, it just doesn't recognize them as such in order to avoid taxation. Why? I understand the motives of the Fed, having an endless money supply is fascinating. I just don't understand the motives of the government to abide such a scam. If they have profits but don't recognize it as such, the government could tax them without calling it a tax. Call it royalties on money generation, or dividend collection probing, I don't care.
Central banks need money to operate. They can print the money directly, or they can obtain it by providing products and services. In the case of the central bank, its services are printing (or loaning) money. Printing a $1000 bill is a as expensive as printing a $100 bill, but the interest obtained in one of them is ten times as much as the other. The cost of printing is below $1. Bills last 5 years on average. The interest rate is between 0% and 10% normally and nominally, but usually considering inflation, it is more like 1% to 3% real annually.
If the cost of printing $1000 is $1 and the return is 1% real, that's $10. That's a 900% profit. Even if they are not careful with money and considering they reprint all bills every year, there are 150 million workers in America and the average American makes $3,000 per month, that's $450 billions only considering the labor side, it can be 10 times that in reality. That money must pay interest, otherwise it wouldn't be printed. Month after month, this money must exist in the economy or otherwise workers wouldn't be paid.
If we consider the fed to play nice, they would charge just a 1% per year of $450 billions, which is $4.5 billions per year. It is almost impossible for one institution to spend all that money every year. —Preceding unsigned comment added by 190.45.14.46 ( talk) 11:41, 1 November 2009 (UTC)
I noticed the sentence "By its nature, the practice of fractional reserve banking expands money supply (cash and demand deposits) beyond what it would otherwise be." This is only true because of the use of cheques or card/computer based equivalents. It would be perfectly possible for FRB to exist in a system in which the only thing you could buy goods with was cash, in which case there can be no expansion of the money supply. So perhaps the sentence should be "By its nature, the practice of fractional reserve banking, combined with the of cheques or card/computer based equivalents, expands money supply (cash and demand deposits) beyond what it would otherwise be."
I guess we can all agree that it all depends on how money supply is defined. Anyway, all too esoteric for the article I think. If there is a reliable source somewhere that makes the same point we can put it in, but not in the lead I think. It's all moot anyway, as AFAIK there are no serious proposals to eliminate checks and electronic transfers, but keep savings accounts. LK ( talk) 17:47, 25 November 2009 (UTC)
Hi,
Just wanted to say that I added a bit of criticism from the Federal Reserve page that had been written about fractional-reserve banking in general and didn't really belong there. I didn't want to delete it altogether, though, so added it here (in condensed form). I also thought the intro paragraphs were very long, so put the discussion of risk into a separate section.
Afelton 03:19, August 2, 2005 (UTC)
The section of the article that talks about how central banks originated in response to failures of fractional reserve banks is shameful. Anyone remotely conversant with the origins of the Banks of Sweden, England, and France would know that it's a pure concoction. Early central banks were motivated by governments' desire for fiscal aid.
I would like to take issue with the following two excerpts: "Moreover, the existence of fractional-reserve banking allows either the central bank or individual banks (under a free banking regime) to create money at will" and "the inflation brought about by fractional-reserve banking". Both these snippets give the impression that FRB in and of itself is a mechanism for generating long term inflation. This is not true. It is the assorted means by which a government and/or central banks create additional money that causes that. And that could occur under any monetary system, FRB or otherwise. Once the FRB has maxed out the money multiplication process, there is no further scope for increasing the money supply other than "governments creating more money" and "governments creating more money" is not part of the definition of FRB as far as I know.
I suspect what has happened in the article is the conflating of "fractional reserve banking" and "the banking system, as it exists in many countries today". They are not one and the same thing. Sure FRB is a component of today's banking system. But I think it fair to say that today's banking system is FRB plus features X,Y and Z. I think this article should be careful not to attribute the characteristics of X, Y and Z to FRB.
Maybe someone should start a whole new wiki page called "Banking as it is today". Reissgo ( talk) 13:32, 28 November 2009 (UTC)
The revisions made in February took what had been a reasonably good explanation of fractional reserves and made a mess of it--for example: a T-account with 3 columns instead of the usual two, and a long string of transactions trying to show what had been adequately expressed with just two transactions. —Preceding unsigned comment added by 67.49.42.239 ( talk • contribs) on 10 February 2007.
I hope everyone realizes "fractional reserve banking" does not really exist. Banks lend neither a fraction of their deposits nor a fraction of their reserves. In fact, a bank theoretically could have zero deposits and lend billions of dollars. From an accounting standpoint, the very act of lending creates reserves. Further, the federal government will lend any bank any amount of money to support loans.
So what limits bank lending? Capital requirements.
Anyone who wishes to discuss this more privately can reach me at rmmadvertising@yahoo.com. Rodger Malcolm Mitchell —Preceding unsigned comment added by 24.1.107.40 ( talk) 19:59, 19 March 2010 (UTC)
I have been doing some research on Selgin and found that he seems to have very weak ties to Austrians in general and is more involved with CATO, Modern Free Banking School, and other economic organizations. The fact that he was even interviewed by the Federal Reserve makes things a bit strange knowing that Austrians are overwhelmingly anti-Fed. The latest source I found comes from the "Journal of Austrian Economics" with an article aimed at disconnecting Selgin's views from Mises.
My point is, it does not seem credible to include Selgin as a spokesman for Austrians in this article since his position on fractional reserves may only resonate with a very small minority of Austrian economists. Additionally, he doesn't even have any Austrian connections, according to the Wiki article on him. I recommend we remove all references to Selgin in this article. Gaytan ( talk) 22:26, 28 January 2010 (UTC)
I have just removed the sentence: "This practice is universal in modern banking, and can be contrasted with full-reserve banking which is no longer practiced by commercial banks.". The sentence says three things:
1. This practice is universal 2. It can be contrasted with full-reserve banking, for which a wiki reference was given. 3. It is "no longer" practised by commercial banks.
1. is wrong because many types of loan operate without any reserve. 2. Is of no use because the wiki page on full reserve banking does not define what full reserve banking is! 3. The implication is that full-reserve banking *used* to be practised by commercial banks which I believe to be untrue. If someone wants to re-assert this claim then please provide a reference.
If an alternative sentence was required to round off the first paragraph then I think it would be more accurate to have something like "In recent years the reserve requirements have become less and less of a restriction on lending, gradually being replaced by 'capital adequacy' restrictions instead". Modern banking should scarcely be called "fractional reserve banking" any more.
Reissgo ( talk) 13:36, 28 April 2010 (UTC)
The US Federal Reserve sets a Required Reserve Ratio of 10%, but applies this only to deposits by individuals; banks have no reserve requirement at all for deposits by companies.
And – according to Steve Keen – about 6 OECD countries have already done away with reserve requirements altogether (Keen confirmed that Australia requires no reserves; I know that Mexico doesn’t require reserves; and Canad, New Zealand, Sweden and the UK supposedly require no reserves as well).
Just because a bank does not have a reserve requirement does not mean that it is not practicing FRB. In the early days of banking, there were no reserve requirements, and banks kept reserves based on prudence and estimates of what cash they would need. Since they loaned out their deposits, they were still practicing FRB. Back to the point, all modern banks practice FRB. I would like to note this in the lead, unless there is a direct objection to this statement? LK ( talk) 16:35, 29 April 2010 (UTC)
The section on the "money multiplier" needs editing to reflect the fact that there are several money multipliers. Some referring to ratios of the different "M's", M0,M1 etc, while still other multipliers are ratios of *changes* in the amount of "M's". Reissgo ( talk) 17:19, 29 April 2010 (UTC)
I note the following sentence from the main article "When there are no mandatory reserve requirements, the capital requirement ratio acts to prevent an infinite amount of bank lending.". Does anyone have a reference for this? I ask because I have seen an unpublished paper which shows that there is no such limit in place: http://arxiv.org/PS_cache/arxiv/pdf/0904/0904.1426v2.pdf Reissgo ( talk) 17:18, 29 April 2010 (UTC)
I noticed that in the quote from the federal reserve it says: "depositors might have to pay banks to provide safekeeping services for their money". But this is completely disingenuous because of course customers do pay for safekeeping. Just because it is not charged explicitly, it is never the less an expense that must be paid for. Its like buying a car and being told that the wheels are free. Sure a salesman can say those words, but we all know that its not really true. I note that the quote is taken from a document which is not peer reviewed. Reissgo ( talk) 19:27, 5 May 2010 (UTC)
How could someone write this and keep a straight face, the system described is unbelieveably criminal. I was especially surpised at the frankness of the 'History' section. There is a word for what the goldsmiths were doing, it's called EMBEZZLING! They should have been thrown in jail. This article is a perfect example of something which is "hidden in plain sight" Why doesn't the public know about this?? We should be outraged! —Preceding unsigned comment added by 99.198.32.36 ( talk) 05:57, 5 June 2010 (UTC)
The paragraph is quoted bellow:
"However, there have been some recent bank runs: the Northern Rock crisis of 2007 in the United Kingdom is an example. The collapse of Washington Mutual bank in September 2008, the largest bank failure in history, was preceded by a "silent run" on the bank, where depositors removed vast sums of money from the bank through electronic transfer.[citation needed] However, in these cases, the banks proved to have been insolvent at the time of the run. Thus, these bank runs merely precipitated failures that were inevitable in any case."
Why were the run of these banks inevitable? In the paragraph that preceded this one it is said that central banks have an obligation to stop these bank runs and do this by being the lender of last resort. Why doesn't this apply to these brief exceptions? —Preceding unsigned comment added by 195.67.20.5 ( talk) 12:04, 27 July 2010 (UTC)
Hi, I tried to remove some of the more confusing references to the Fed in the opening example, as if this is meant to introduce the situation by example it really doesn't work at the moment (being both Americo-centric in stand point and confusing by adding all the Fed information). Any chance of moving the Fed stuff out of the opening example?
— Preceding unsigned comment added by 86.151.152.146 ( talk • contribs) 09:56, 26 September 2007 (UTC)
The quote here: "The expansion and contraction of the money supply occurs through this money creation process. When loans are given out, the process moves from the top down and the money supply expands. When currency is withdrawn from the commercial banks, causing loans to be called back, the process moves from the bottom to the top and the money supply contracts" suggests a number of things that are confusing. One - is the causality right? How is currency withdrawn from commercial banks when they are loaned out to the hilt? Second - when people repay debt, does the repayment not go to the reserve accounts of the banks? Aren't these repaid amounts now bank capital? In other words is it not the case that when deleveraging takes place, money accumulates in the banks, and so the money 'supply' remains constant? —Preceding unsigned comment added by 83.208.165.249 ( talk) 19:29, 29 September 2010 (UTC)
This is misleading, people don't borrow from a bank to put the money into another bank. This would be stupid as the interest you pay a bank for borrowing money is more than you get in interest by depositing it. To look at it in this way is a total fiction. Fraction Reserve Banking (FRB) allows the bank to invest the majority of the money placed in it by usually by lending it to customers at a higher rate of interest than it is paying the customers who deposited the money. This section of the article is misleading and people have the idea that FRB creates money. What would the alternative be? That a bank should not loan out money to other people but pay people interest for it storing the money in its safe? Ridiculous! —Preceding unsigned comment added by Caparn ( talk • contribs) 14:17, 17 July 2010 (UTC)
>> I think that the receiving bank is getting money from the supplier of goods/services that the lendee bought with the loan that the previous bank lent out. Omitting that process makes the table simpler. 99.62.29.93 ( talk) 01:03, 9 September 2010 (UTC)
I feel that the reference to Modern Money Mechanics should come with some kind of health warning because it is now seriously out of date (1992? 93?). Doing a quick search reveals the document does not contain the phrases "Basel" or "Capital adequacy". The name of the document in itself implies that it is up to date but clearly it is not. Reissgo ( talk) 07:27, 14 September 2010 (UTC)
Besides any caveats that article deserves, I'm uncomfortable with its hosting. That makes it hard to verify that it is indeed what it claims to be. Is there a more authoritative link we can use? CRETOG8( t/ c) 13:46, 15 September 2010 (UTC)
An essential feature of fractional reserve banking was to place certain limits on money creation. However in the real world today fractional reserve banking in its pure form is rarely (if ever?) practised. The rules controlling the limits on money creation vary from country to country. I propose a new page about the rules *as practised in reality today* governing lending limits in a variety of countries. I have crated a very rough outline of how I see the page in my userspace here: http://en.wikipedia.org/wiki/User:Reissgo/Limits_on_money_creation_around_the_world while it is being prepared. If anyone cares to help out, it would be much appreciated.
Surely hundred of academics have written articles in peer reviewed journals about fractional reserve banking and the actions of the fed. The fed is a semi-private company. Their publications are hardly likely to be unbiased and they certainly won't be peer reviewed.
I was asked to refer this matter to get some independenet editors (not regular contributorsd to this page) to give their opinion on http://en.wikipedia.org/wiki/Wikipedia:Reliable_sources/Noticeboard#Is_the_Fed_a_reliable_source. Looking at the comments of Itsmejudith , Blueboar and Wehwalt it seems that the consensus is that this particular children's educational document is not a reliable source or that an alternative source should be found. Reissgo ( talk) 06:54, 5 October 2010 (UTC)
In answer to Cretog8's last comment. The sentence I object to most is: "If banks did not lend out their available funds after meeting their reserve requirements, depositors might have to pay banks to provide safekeeping services for their money." I do not believe you can find a peer reviewed document to support that assertion. Reissgo ( talk) 12:06, 5 October 2010 (UTC)
Back to the general discussion--I think that the source is fine, and I like it because it's well-sourced and well-phrased. I think the particular line in question is also uncontentious. I also read the lack-of-consensus on the RS noticeboard to read less as, "this is not a reliable source" and more as a "hmm, maybe you can do better". Since I think Reissgo is mistaken, but is acting in good faith, I'm willing to try to do better. One of us must have an intro money & banking text around which we can use. CRETOG8( t/ c) 17:00, 6 October 2010 (UTC)
Referring to the example: how is $180 out of $100? I just don't understand this. I deposit $100. $80 is loaned out to other people, $20 goes into the figurative vaults,... but where does the other $80 come from? I still do not understand, how is money created here? The loans are always less than the deposits, a difference equal to that original deposit by the Fed. I certainly understand how money is created by the Feds, but I don't get how it is created by the commercial banks. Someone please make this clearer for me. 99.62.29.93 ( talk) 01:03, 9 September 2010 (UTC)
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