Fractional reserve lending versus.... what?

[kpitcher]

It's all about free markets. If people want to put their money into a bank that offers fractional reserve banking then fine, that's their choice.

The problem we have now is the FED can print money out of thin air and give the money to banks of choice who can work as they please knowing they're too big to fail as they can do no wrong in the eyes of the government. If there was true accountability, banks could fail, and no shadowy hand of the FED picking who makes fortunes in the financial sector, you'd notice a world of change. This would allow a free market banking to actually exist and people would have to decide what sort of bank they do business with.

[Domalais]

Actually, you can lend 90% of the money taken in as a deposit, having met the reserve requirement. The very next day, the original depositor may withdraw 100% of that deposit - the money that was loaned out already - because both the depositor and the borrower are given the same RIGHT NOW claim on the same money. Meanwhile, the money that was loaned gets deposited into another bank, 90% of which gets lent out as well. AND...the money that the depositor withdrew can be deposited into another bank, where it can be lent out as well. And the very next day, that depositor can withdraw 100% of his deposit. And so on.

Let's run through a hypothetical situation. Suppose you have a Blockbuster membership subscription, entitling you to rent any movie you please for as long as you want for a monthly fee. You also really want to watch Twilight, because you heart you some twinklevamps.

You drive to Blockbuster. On the way, you are on roads whose number of lanes are determined based on forecasts of traffic flows. Traffic is a little congested. When you arrive, you park in a parking lot whose size is determined by forecasts of patrons per hour and average length of stay. You have a hard time finding a parking space. Upon going inside, you find that - to your dismay, all the copies of Twilight are rented out! How can this be??? You have a membership which states that you can rent any movie you want, any time that you want! Blockbuster should carry enough copies of each movie such that every member could rent one particular movie at a given time!

In a fury, you drive back home and create three Youtube videos - one about the evils of the fractional movie rental system, another on the fractional road system, and the last on the fractional parking lot system.

[Domalais]

It would be even better if you were in a car crash on the way home. That way, you could also talk about the fractional ambulance system, fractional emergency room system, and the fractional pharmacy system.

If you died, you could add the fractional morgue system, fractional funeral home system, fractional floral system, and the fractional cemetery system.

[fisharmor]

How can a bank exist under a full reserve system? How would they make money? They would not be using deposits to make loans so they would have to be fee based- charging fees for everything including fees to keep your deposits for you (they have to cover the costs of their employees and property and equipment). But would you put your money into a bank where you had to pay them to keep it for you? Perhaps if you were worried about theft you might.

100% reserve banking means that banks would have to keep 100% of demand deposits available for withdrawal. They can still lend out time deposits, like CDs or what have you, where your money isn't available to withdraw for a period of time. They could charge fees for checking accounts and what not, and lend out the time deposits to make money on the interest. The bankers wouldn't starve. Don't worry.

This is not necessarily the model that would be followed.
As an example, I offer the Making Homes Affordable programs. I'm looking into this ( which I have no moral problem with because a) they've been taking my money for most of my life and b) anything I can do to speed up the bankruptcy I consider a public service ).
These programs have not been in existence very long. My carpool buddy is involved with one already, and after having signed up for one, he's getting cold calls from other private actors offering access to other programs.
Some people see parasites: I see the market in action.
Within what, three years, the market has adapted to a new situation and figured out a way to squeeze some pennies out of it while offering consumers a valuable service.
It's what it does. It's what it always does.
Who could have foreseen that market actors would descend on these federal programs this way? This is another thing the market does: it adapts in ways most of us could never have anticipated.

So when people say "The market will figure this out", it's not a cop out and it's not really even faith. It's just an admission that we don't know. If we knew, if anyone could know up front what the best allocation of dollars is for the purpose of getting more dollars, then central planning might actually work. But central planning doesn't work, and market forces do work. The fact that we don't know what would happen is the entire point of advocating for market forces.
I don't know how the market would make profits from full reserve banking. I just know it would work.

you notice how you keep asking the wrong question? Why do you assume we NEED loans and credit?
What happens, if starting tomorrow, we had no car loans, home loans, credit cards?

THIS X 1000 and +rep!
Some people actually save for big purchases still, despite it being a losing proposition.
With fractional reserve banking, the purchasing power of money is diluted.
Add in the standard Keynesian mantra about how inflation is good. Now you have a diluted money which is also guaranteed to lose even further value over time. (The only discussion about this is ever "how much".)
Who is going to save for a car purchase in this environment, considering that the time you're saving is time you don't have possession of the thing you want, and the longer you save, the longer you have to save? You hit a point of diminishing returns at some point, where it's actually more cost effective (supposing you actually value having the thing you want) to finance it.

If the money retains value over time, it's much easier to save for the thing you want. If the money is actually **SHOCK!!!!** slightly deflationary, then it becomes a much better idea to save for it than to finance. Which I suspect is why deflation is vilified more in the public sphere than Satan himself: it would render an entire mega-billion dollar industry moot, and millions of financiers would have to figure out how to make an HONEST living.

If bankers had to earn their money rather than "create" it out of nothing, then producers/workers would have a lot more money. That's the thing. Bankers don't "create" money out of nothing ... debasement of currency through fractional reserve banking is pure unadulterated theft. Plain and simple.

Agreed 100%!

One question I get is how are large projects going to be funded without large banks?

Large projects like what?
Aquaducts that deliver water reliably for the better part of a millenium?
800-year-old Cathedrals which in their time were the largest indoor enclosures in the world?
Cities like Amsterdam, where they had to basically build up islands on top of water before they could put houses on it?
How about 800 foot long rigid airships?
The list of free market supplied large projects is pretty long, if you look prior to 1913.

Or are we talking about the empire type projects?
Thousands of miles of stone wall designed not to keep Mongols at bay, but to be nothing more than a gigantic civic works project?
Pyramid shaped tombs for the guys who beat you?
Rockets to deliver men to the moon, which are really only a demonstration of the ability to put warheads anywhere desired?
Unconstitutional interstate systems that encourage sprawl and have us spending our lives in tiny metal boxes?

The situation you describe could happen and cause trouble for one particular company. But it does not explain why the same mistake could be committed by thousands of companies simultaneously. It's the clusters of mistakes that need to be explained.

Why do they need to be explained? Prior to central banking, the examples I'm familiar with of boom/bust cycles (like the Dutch tulip craze in the early 17th century) are all pretty benign. Did a few people get ruined? Sure. Do we have a pre-central-banking version of the Great Depression? Not that I've ever seen.
Is it interesting to examine booms/busts prior to central banking? I think so. I also think getting rid of them is an anti-market and, frankly, stupid idea.... so I'm not seeing figuring them out as a vital need.

It would be even better if you were in a car crash on the way home. That way, you could also talk about the fractional ambulance system, fractional emergency room system, and the fractional pharmacy system.

If you died, you could add the fractional morgue system, fractional funeral home system, fractional floral system, and the fractional cemetery system.

I'm not sure where you're going with this. If I owned three funeral homes, and I entrusted them to someone else, and went back to claim them only to find them gone, and the state had to get involved with an insurance program which would only give me back two funeral homes, then you'd have an analogy going.

[Paul Or Nothing II]

Banking is evil.

Money is real. Banking may have a place in the future, but bankers have to learn to be honest, first.

I'd beg to differ, there's nothing wrong with "banking" per se, but the problem lies in the fact that government grants them an authority to engage in legalized theft.

In a truly free-market with free-market & where there's no "corporate personhood" to shield the bankers from losses, banks would be an essential link between savers & borrowers & aid in the production of more goods & services by taking on the risk in lieu of the savers to lend money to producers to produce & raise the living-standards of the society.

Lending out time deposits is still a form of fractional reserve banking. They are keeping a fraction of their deposits on reserve and lending out another fraction (the time deposits).

NO, it isn't "fractional reserve banking" as such because there's a fundamental difference between lending of time deposits & demand deposits & the effect it has on moneysupply. It's called "full-reserve-banking" because banks should be in a position to meet all their obligations at any given time but in a real "fractional-reserve-banking" paradigm that isn't true at all, meaning, all the "reserves" they need to have on hand are ACTUALLY there.

Fractional reserve banking basically means banks are giving out more investments than they have in savings. This is not necessarily a bad thing.

Except it IS because that act of lending more than they have artificially inflates the moneysupply & purchasing-power of rest of the holders of money goes down, not to mention it leads to overexpansion of moneysupply causing an inflationary boom & followed by the bust.

Now, if we'd complete free-banking without government intervention where banks issued their own currencies & you had the choice to go for FRB-bank & I'd the choice to go for 100%-bank then that would be fine BUT under a system of unified-currency that we have, it's nothing more than LEGALIZED THEFT

This:

You would have two basic accounts. One where you could withdraw funds immediately, for writing checks or whatever, but which would pay no interest. That would be 100% reserves - no risk of loss. And the other would be fractional reserve and would pay you interest for the use of your savings. They would lend the money out and you would be paid interest as the loans are repaid; the banks would keep a percentage. That would also come with the risk of loss and time restrictions on withdrawals. There would be no FDIC, Federal Reserve, or bank bailouts.

Under the current system, with FDIC insurance and bailouts, there is no risk of loss to the nominal amount in your personal bank account, but you still pay for the risk at a system wide level through devaluation of your savings. In a Ron Paul world you would have control over the amount of risk you would like to take while under the current system you are forced to take risk on behalf of the bankers and debtors.

+1

Great post

CDs are still available to the saver during the length of their deposit. The bank, based on historical data, estimates what percentage of CDs will be withdrawn during a particular month of the year and retains as a fractional reserve at least this much money - plus or minus additional amounts based on other economic factors.

There is no functional difference between the two systems you are suggesting.

Yes, there IS, under full-reserve-banking, the banks would be in a position to honor all their obligations at the same time while under fractional-reserve-banking, it would impossible; & again, the increase in moneysupply caused by FRB is nothing but legalized theft, not to mention the boom-bust-cycles that disrupt economies.

If bankers had to earn their money rather than "create" it out of nothing, then producers/workers would have a lot more money. That's the thing. Bankers don't "create" money out of nothing ... debasement of currency through fractional reserve banking is pure unadulterated theft. Plain and simple.

Not one man in a million can see it.

Enough said!

consumer loans need to go.

In a truly free system, there's no room for regulations like that, problem isn't so much the consumer-loans but abundant supply of loans in general under an inflationary paradigm, which allows for so much consumer-lending but under a less inflationary paradigm under full-reserve-banking, supply of loans might be tight enough for productive-lending to outmuscle consumer-lending.

Let's run through a hypothetical situation. Suppose you have a Blockbuster membership subscription, entitling you to rent any movie you please for as long as you want for a monthly fee. You also really want to watch Twilight, because you heart you some twinklevamps.

You drive to Blockbuster. On the way, you are on roads whose number of lanes are determined based on forecasts of traffic flows. Traffic is a little congested. When you arrive, you park in a parking lot whose size is determined by forecasts of patrons per hour and average length of stay. You have a hard time finding a parking space. Upon going inside, you find that - to your dismay, all the copies of Twilight are rented out! How can this be??? You have a membership which states that you can rent any movie you want, any time that you want! Blockbuster should carry enough copies of each movie such that every member could rent one particular movie at a given time!

In a fury, you drive back home and create three Youtube videos - one about the evils of the fractional movie rental system, another on the fractional road system, and the last on the fractional parking lot system.

OK, we get it, breach of contracts & fraud are ok in your opinion!

I won't even address the issue of theft of purchasing-power & the boom-bust-cycles caused by FRB

[Domalais]

OK, we get it, breach of contracts & fraud are ok in your opinion!

Missing the point much, are we? The point is that every industry is based upon forecasted demand for resources. What makes banks magically different such that they receive your fractional ire?

Is it a breach of contract or fraud that your internet service provider is unable to provide full bandwidth to all their customers simultaneously?

What company provides your telephone service? What would happen if all of their customers attempted to place a call simultaneously?

I won't even address the issue of theft of purchasing-power & the boom-bust-cycles caused by FRB

Is the FRB perfect? No. Have they made mistakes? Yes. Is it the best possible system? Arguably no. Did business cycles exist before the FRB? Yes. Were recessions worse before the FRB? Yes.

Since the creation of the FRB, business cycles are longer in duration and have less intense contractions.

[Domalais]

Yes, there IS, under full-reserve-banking, the banks would be in a position to honor all their obligations at the same time while under fractional-reserve-banking, it would impossible; & again, the increase in moneysupply caused by FRB is nothing but legalized theft, not to mention the boom-bust-cycles that disrupt economies.

How, exactly, could you have a bank with more than one branch and have each branch be in a position to honor all of the bank's obligations?

[fisharmor]

Were recessions worse before the FRB? Yes.

NAME ONE

[fisharmor]

Missing the point much, are we? The point is that every industry is based upon forecasted demand for resources. What makes banks magically different such that they receive your fractional ire?

Is it a breach of contract or fraud that your internet service provider is unable to provide full bandwidth to all their customers simultaneously?

What company provides your telephone service? What would happen if all of their customers attempted to place a call simultaneously?

Other state-mandated cartels work the same way as the state-mandated banking cartel! This is irrefutable proof that state mandated cartels are good!

[AceNZ]

Banks lend from what they have. They cannot loan out money they don't have. Under our Fractional Reserve system they can lend out up to 90% of the money they have been given in the form of deposits. If they are loaning out more than that, they are in violation of banking laws.

This is strictly true, but it's also misleading.

There are other factors at play, which, IMO, are at the heart of what's wrong with FRB: first, when a bank makes a loan, they don't lend deposits. When a loan is funded, the bank creates brand new money, just for that purpose.

The second problem is that the newly created money can be deposited into another bank, where it becomes the foundation for another loan (creating even more money).

The net result with a 10% reserve is that a single $1000 cash deposit can expand into $9000 worth of loans (ever wonder why banks complain so much when you withdraw large amounts of cash?).

While I think the current banking and monetary systems are badly broken, I'm not in the camp that thinks all banks must always be evil or dishonest. There is a useful, honest way to do banking. The key to keeping it honest is to eliminate the multiplicative factor. One way to do this would be for banks to deduct loans from their reserves.

For example, if I deposit $1000 cash, that becomes bank reserves. With a 10% minimum reserve requirement, they would have $900 in "excess reserves," which could be loaned. With the current way of doing things, they would create $900 in new money to fund the loan. Instead, they should lend out $900 of the original deposit, without creating new money. The depositor might still see that they have $1000 on deposit. If the $900 loan gets deposited back into the same bank, the bank should still only have $1000 in deposits. Today, the way it works is that they would then have $1900 in deposits, and could loan 90% of that amount, even though they created $900 of those dollars from thin air.