4 ms·

I groan every time I read something along the lines of "before long, they began issuing additional receipts for gold even if they were not backed by a deposit.

by derriz 6y ago

I groan every time I read something along the lines of "before long, they began issuing additional receipts for gold even if they were not backed by a deposit. This came to be known as ‘fractional reserves banking’ – lending out far more money than one actually has on deposit – and the road to banking ruin was firmly in place." That is not what "fractional reserves (sic) banking" is. What the author is describing is pure and simple fraud and nothing to do with the mechanics of fractional reserve banking. The goldsmiths were passing off paper certificates under false pretence that they correspond with real stored gold. Fractional reserve banking is really simple: you gather up a pile of money by convincing others to deposit their money with you (although when the depositors are other banks and institutions such "deposits" are often structured as bonds); you RESERVE a fraction of gathered money (varies but usually between 6% and 15%) while lending out the rest. At no point does fractional reserve banking involve "lending out more than what you have on deposit".

zhte415 6y ago
I also groan at this. You, or readers, may be interested in this article from the Bank of England's blog, which provides a somewhat more modern/real-world version of the 'money multiplier' i.e. market operations to provide liquidity/funds/interbank/creation of liabilities to fund assets (lending)/balance banks' sheets on lending, which has been the case for years now. https://bankunderground.co.uk/2015/06/30/banks-are-not-intermediaries-of-loanable-funds-and-why-this-matters/ https://bankunderground.co.uk/2015/06/30/banks-are-not-inter... An excerpt: > In the simple ILF model, bank loans represent the intermediation of real savings, or loanable funds, between non-bank savers and non-bank borrowers. Lending starts with banks collecting deposits of real resources from one agent, and ends with the lending of those resources to another agent. In the real world, however, banks never intermediate real loanable funds, an activity that, correctly understood, can only amount to barter. > Rather, the key function of banks is the provision of financing, meaning the creation of new monetary purchasing power through loans, for a single agent that is both borrower and depositor. Specifically, whenever a bank makes a new loan to a non-bank customer X, it creates a new loan entry in the name of customer X on the asset side of its balance sheet, and it simultaneously creates a new and equal-sized deposit entry, also in the name of customer X, on the liability side of its balance sheet. The bank therefore creates its own funding, deposits, through lending. It does so through a pure bookkeeping transaction that involves no real resources, and that acquires its economic significance through the fact that bank deposits are any modern economy’s generally accepted medium of exchange. This understanding of the function of banks, which we will refer to as the financing and money creation (FMC) model, has been repeatedly described in publications of the world’s leading central banks—see McLeay, Radia and Thomas (2014a,b) for an excellent summary. What has been challenging is the incorporation of these insights into macroeconomic models.
alimw 6y ago
> What the author is describing is pure and simple fraud ... The goldsmiths were passing off paper certificates under false pretence that they correspond with real stored gold. Where there are no false pretences there is no fraud. From https://en.wikipedia.org/wiki/Gold_certificate https://en.wikipedia.org/wiki/Gold_certificate: Banks may issue gold certificates for gold that is allocated (non-fungible) or unallocated (fungible or pooled). Unallocated gold certificates are a form of fractional-reserve banking and do not guarantee an equal exchange for metal in the event of a run on the issuing bank's gold on deposit. > you gather up a pile of money by convincing others to deposit their money with you ... you RESERVE a fraction of gathered money ... while lending out the rest. If this were true then the only money in circulation would be that created by the Central Bank. Far from accurate.
- derriz 6y ago
  > Where there are no false pretences there is no fraud It most certainly would constitute fraud if a bank were to issue gold certificates for more gold than it had claim to - whether allocated or unallocated. What happens during a bank run has no relevance here. A bank run isn't caused by a bank issuing more loans than it has borrowed itself. It's caused by the mismatch between the nature of a bank's liabilities and assets. Much of its liabilities have short terms or even worse - deposit accounts can be demanded from the bank at any time - while their assets which are generally loans which are generally fixed term or at least not recallable at will by the bank. A bank with $1B worth of depositors money could in theory suffer a bank run even if it has only lent out $1m while holding the other $999m in it's vaults. No excess lending required is required for this to happen. > If this were true then the only money in circulation would be that created by the Central Bank. Far from accurate. No, that's certainly not implied by the simple statement of fact that the amount of money a bank loans out is strictly less than the amount of money that the bank has borrowed from others, whether from depositors or other institutions. The sum of the balances of deposit accounts in the banking system easily exceeds the amount of money created by central bank but that does not require banks to "lend out more than they've raised" - it's a simply a result of simple arithmetic and the fact that loans exist in the system.
  - 6y ago

by derriz 6y ago

zhte415 6y ago

I also groan at this. You, or readers, may be interested in this article from the Bank of England's blog, which provides a somewhat more modern/real-world version of the 'money multiplier' i.e. market operations to provide liquidity/funds/interbank/creation of liabilities to fund assets (lending)/balance banks' sheets on lending, which has been the case for years now. https://bankunderground.co.uk/2015/06/30/banks-are-not-intermediaries-of-loanable-funds-and-why-this-matters/ https://bankunderground.co.uk/2015/06/30/banks-are-not-inter... An excerpt: > In the simple ILF model, bank loans represent the intermediation of real savings, or loanable funds, between non-bank savers and non-bank borrowers. Lending starts with banks collecting deposits of real resources from one agent, and ends with the lending of those resources to another agent. In the real world, however, banks never intermediate real loanable funds, an activity that, correctly understood, can only amount to barter. > Rather, the key function of banks is the provision of financing, meaning the creation of new monetary purchasing power through loans, for a single agent that is both borrower and depositor. Specifically, whenever a bank makes a new loan to a non-bank customer X, it creates a new loan entry in the name of customer X on the asset side of its balance sheet, and it simultaneously creates a new and equal-sized deposit entry, also in the name of customer X, on the liability side of its balance sheet. The bank therefore creates its own funding, deposits, through lending. It does so through a pure bookkeeping transaction that involves no real resources, and that acquires its economic significance through the fact that bank deposits are any modern economy’s generally accepted medium of exchange. This understanding of the function of banks, which we will refer to as the financing and money creation (FMC) model, has been repeatedly described in publications of the world’s leading central banks—see McLeay, Radia and Thomas (2014a,b) for an excellent summary. What has been challenging is the incorporation of these insights into macroeconomic models.

alimw 6y ago

> What the author is describing is pure and simple fraud ... The goldsmiths were passing off paper certificates under false pretence that they correspond with real stored gold. Where there are no false pretences there is no fraud. From https://en.wikipedia.org/wiki/Gold_certificate https://en.wikipedia.org/wiki/Gold_certificate: Banks may issue gold certificates for gold that is allocated (non-fungible) or unallocated (fungible or pooled). Unallocated gold certificates are a form of fractional-reserve banking and do not guarantee an equal exchange for metal in the event of a run on the issuing bank's gold on deposit. > you gather up a pile of money by convincing others to deposit their money with you ... you RESERVE a fraction of gathered money ... while lending out the rest. If this were true then the only money in circulation would be that created by the Central Bank. Far from accurate.

derriz 6y ago
> Where there are no false pretences there is no fraud It most certainly would constitute fraud if a bank were to issue gold certificates for more gold than it had claim to - whether allocated or unallocated. What happens during a bank run has no relevance here. A bank run isn't caused by a bank issuing more loans than it has borrowed itself. It's caused by the mismatch between the nature of a bank's liabilities and assets. Much of its liabilities have short terms or even worse - deposit accounts can be demanded from the bank at any time - while their assets which are generally loans which are generally fixed term or at least not recallable at will by the bank. A bank with $1B worth of depositors money could in theory suffer a bank run even if it has only lent out $1m while holding the other $999m in it's vaults. No excess lending required is required for this to happen. > If this were true then the only money in circulation would be that created by the Central Bank. Far from accurate. No, that's certainly not implied by the simple statement of fact that the amount of money a bank loans out is strictly less than the amount of money that the bank has borrowed from others, whether from depositors or other institutions. The sum of the balances of deposit accounts in the banking system easily exceeds the amount of money created by central bank but that does not require banks to "lend out more than they've raised" - it's a simply a result of simple arithmetic and the fact that loans exist in the system.
- 6y ago