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But when they have loaned out as much as they can, they will only be able to loan more money if they get more deposits (or capital). [Edit: I failed to mentions

by kgwgk 7y ago

But when they have loaned out as much as they can, they will only be able to loan more money if they get more deposits (or capital). [Edit: I failed to mentions other sources of financing, including from central banks as lenders of last resort. RobertoG is right.] They cannot create money at will as a central bank can. [Edit: the point stands, the intervention of central banks may be required to inject liquidity when the banks cannot create enough money by themselves and cannot find anyone willing to lend money to them.]

RobertoG 7y ago
You are wrong. After creating money by giving loans, a private bank have to get reserves proportional to the money it has loaned. For this, they got to the inter-bank market or the central bank. The goal of the Central Bank it's to control the interest rate, not the quantity of money. If there are not enough reserves in the inter-bank market, and the Central Bank refuses to supply them, the interest rate will go up. So, if the Central Bank want to control the interest rate, it can't control the quantity of money and vice versa. Modern Central Banks target the interest rate, not the quantity of money. The quantity of money in the economy it's automatically regulated by the level of economic activity.
- benj111 7y ago
  They target the interest rate buy printing money to buy bonds "The central bank influences interest rates by expanding or contracting the monetary base, which consists of currency in circulation and banks' reserves on deposit at the central bank" https://en.m.wikipedia.org/wiki/Monetary_policy https://en.m.wikipedia.org/wiki/Monetary_policy
  - RobertoG 7y ago
    Nothing in your quote contradict what I said. Note that the Central Bank is not targeting the monetary base, but the interest rate.
    - benj111 7y ago
      They target the interest rate through the monetary base. It is a means to an end. If you don't feel that quote clarifies feel free to read the rest of the section on monetary policy instruments.
      - RobertoG 7y ago
        When they target the interest rate through the monetary base, they lost control of the monetary base. In other words, if they target the interest rate they can't control the monetary base, so, Central Banks don't control the quantity of money in the economy. If they choose to target the quantity of money in the economy, the tool that they have to use is the interest rate. So, they would lost control over the interest rate. Modern central banks target the interest rate: they sacrifice control over the monetary base. The central bank don't decide the quantity of money in the economy, they decide the interest rate. The implication is that they have to cover any necessary reserves by the private banks if they want to keep the interest rate in its target. So, yes, private banks create money when they lend and destroy money when the money is returned. And that's OK because that means that the quantity of money adapts to the activity of the economy.
      - JumpCrisscross 7y ago
        > They target the interest rate through the monetary base This is correct. (The Fed has other tools beside open market operations, however, including directly manipulating rates on reserves and the discount rate.) But monetary base != money supply. The Fed manipulates rates to effect changes on the money supply.
ajross 7y ago
No, because the dollar they created and wired away based on the 10 cents of reserve they hold might be itself deposited. Or the 10 cents might be the deposit of a bank-created dollar. It's a feedback system, it doesn't strictly need a central bank to work.
- kgwgk 7y ago
  That’s not how reserves work. In the US they can only be deposited at the Federal Reserve (the corresponding regional branch, in fact).
  - ajross 7y ago
    Not understanding the point. Money is fungible. If a bank gets $100 from somewhere, it has to deposit $10 to the corresponding regional branch of the Federal Reserve, but so what? There's no tracking of those specific dollars. They can deposit the ones they got that are "known" to be unreserved cash holdings or they can deposit ones that they just got from a wire transfer from a credit account issued by another bank. The feedback loop is the point, and it remains.
- kgwgk 7y ago
  I’m sorry, it seems I misread what you wrote. That doesn’t contradict what I wrote. Yes, if the money created is in the end kept in the system as a deposit it enables new loans (but it is not necessarily so if the money goes to someone that uses it to cancel a loan of their own, for example). And due to the fractional reserve requirement the quantity of money cannot be increased without limit by commercial banks. That’s just a mathematical reality, notwithstanding the fact that it’s not usually a binding constraint.
  - ajross 7y ago
    Right, there's an asymptote that caps the maximum amount of money in a system based on some initial M1 and a reserve fraction. But in practice that doesn't get hit because not all money is lent, so per upthread I think it's perfectly reasonable to say that "banks create money" in the abstract.
fspeech 7y ago
That is what is meant by interest rate targetting: the central banks guarantee to supply as much reserve as needed to maintain the interest rate target.

by kgwgk 7y ago

RobertoG 7y ago

You are wrong. After creating money by giving loans, a private bank have to get reserves proportional to the money it has loaned. For this, they got to the inter-bank market or the central bank. The goal of the Central Bank it's to control the interest rate, not the quantity of money. If there are not enough reserves in the inter-bank market, and the Central Bank refuses to supply them, the interest rate will go up. So, if the Central Bank want to control the interest rate, it can't control the quantity of money and vice versa. Modern Central Banks target the interest rate, not the quantity of money. The quantity of money in the economy it's automatically regulated by the level of economic activity.

benj111 7y ago
They target the interest rate buy printing money to buy bonds "The central bank influences interest rates by expanding or contracting the monetary base, which consists of currency in circulation and banks' reserves on deposit at the central bank" https://en.m.wikipedia.org/wiki/Monetary_policy https://en.m.wikipedia.org/wiki/Monetary_policy
- RobertoG 7y ago
  Nothing in your quote contradict what I said. Note that the Central Bank is not targeting the monetary base, but the interest rate.
  - benj111 7y ago
    They target the interest rate through the monetary base. It is a means to an end. If you don't feel that quote clarifies feel free to read the rest of the section on monetary policy instruments.
    - RobertoG 7y ago
      When they target the interest rate through the monetary base, they lost control of the monetary base. In other words, if they target the interest rate they can't control the monetary base, so, Central Banks don't control the quantity of money in the economy. If they choose to target the quantity of money in the economy, the tool that they have to use is the interest rate. So, they would lost control over the interest rate. Modern central banks target the interest rate: they sacrifice control over the monetary base. The central bank don't decide the quantity of money in the economy, they decide the interest rate. The implication is that they have to cover any necessary reserves by the private banks if they want to keep the interest rate in its target. So, yes, private banks create money when they lend and destroy money when the money is returned. And that's OK because that means that the quantity of money adapts to the activity of the economy.
    - JumpCrisscross 7y ago
      > They target the interest rate through the monetary base This is correct. (The Fed has other tools beside open market operations, however, including directly manipulating rates on reserves and the discount rate.) But monetary base != money supply. The Fed manipulates rates to effect changes on the money supply.

ajross 7y ago

No, because the dollar they created and wired away based on the 10 cents of reserve they hold might be itself deposited. Or the 10 cents might be the deposit of a bank-created dollar. It's a feedback system, it doesn't strictly need a central bank to work.

kgwgk 7y ago
That’s not how reserves work. In the US they can only be deposited at the Federal Reserve (the corresponding regional branch, in fact).
- ajross 7y ago
  Not understanding the point. Money is fungible. If a bank gets $100 from somewhere, it has to deposit $10 to the corresponding regional branch of the Federal Reserve, but so what? There's no tracking of those specific dollars. They can deposit the ones they got that are "known" to be unreserved cash holdings or they can deposit ones that they just got from a wire transfer from a credit account issued by another bank. The feedback loop is the point, and it remains.
kgwgk 7y ago
I’m sorry, it seems I misread what you wrote. That doesn’t contradict what I wrote. Yes, if the money created is in the end kept in the system as a deposit it enables new loans (but it is not necessarily so if the money goes to someone that uses it to cancel a loan of their own, for example). And due to the fractional reserve requirement the quantity of money cannot be increased without limit by commercial banks. That’s just a mathematical reality, notwithstanding the fact that it’s not usually a binding constraint.
- ajross 7y ago
  Right, there's an asymptote that caps the maximum amount of money in a system based on some initial M1 and a reserve fraction. But in practice that doesn't get hit because not all money is lent, so per upthread I think it's perfectly reasonable to say that "banks create money" in the abstract.

fspeech 7y ago

That is what is meant by interest rate targetting: the central banks guarantee to supply as much reserve as needed to maintain the interest rate target.