One of the main take aways I had, was the fact that banks can lend more than they have on deposit. Then that money can be deposited with another bank, and again multiplied indefinitely.
So for example,
I deposit $10 at bank A
Bank A can now lend 10x ($100) to you
You deposit that at Bank B, who can again lend 10x ($1000)
Can you explain what value has been created there? To me, it seems like the bank has been given a license to create money indefinitely, which seems like a very bad idea.
For me, that is the scam. Why can't we exist only allowing banks to lend out what they actually have instead of creating money out of thin air?
What's you're saying is actually not true. Unfortunately, it seems that almost everyone on the internet gets this wrong. The correct calculation goes as follows:
If you deposit $10 then, assuming a 10% reserve rate, the bank will keep $1 and loan $9. In return, you get a $10 bank balance, so the money supply has increased by 10$.
However, the money that was created cannot be loaned again. You can't loan your bank balance to someone else, and neither can the bank. However, the remaining $9 cash can be re-deposited by someone else. Again, the bank keeps 10% and lends the remaining $8.10, creating a $9 account in the process. Then the $8.10 can be re-deposited and so on. The total amount of money that can be created is therefore given by the equation
m = d/r
where d is the initial deposit, r is the reserve requirement percentage and m is the amount of money created. So for my example, the maximum money created is $100.
What confuses everyone is that in normal circumstances, banks don't give cash-in-hand loans. Instead, they open an account for the borrower, who has the option of withdrawing that cash, but will probably leave it there. In effect, the $9 has been immediately deposited back at the bank, where it can be reloaned. This doesn't really change anything though. It just means that the same bank is reloaning the money rather than a different bank. The total money loaned to the bank is effectively $19 (the original $10 plus the borrower who has loaned their borrowed money back again). If the borrower transfers the money to another account, then a different bank will hold the money, but it makes no overall difference to the system.
OK, thanks for clarifying. I don't see it making a big change to the main point though - banks being allowed to lend more money than they have on deposit.
Banks don't create money indefinitely. If you deposit a $10 banknote at a bank, then the whole money supply can only increase by $100 (when the reserve is 10%). Your example is wrong, because you mixed up deposits(which exists only on the balance sheet of the individual banks) and reserve (which is basically the paper money + balances of all banks at the central bank).
But of course you're right, that banks still lend out more than they have, which I agree is scam.
If I have only $100 and I lend out $60, then I have loaned more money than I have, because I now only have $40 dollars.
Banks are not doing anything different to this. They are just loaning the cash deposited with them. Although the original $10 loan will eventually lead to $100 being created, it has also lead to $100 dollars worth of loans to banks. There's no scam here, it's just the way that debt works. It's no different to people loaning money to each other.
Banks loan out money on checking accounts, but the basic idea of a checking account is to have access to the money anytime. So if I put $100 in my checking account, and the bank lends out $90 of it, the bank has liabilities of $190, backed by only $100 in cash. In other words, the bank has created $90 out of thin air.
This is still no different to normal lending. If I loan you $100, then you have created a $100 bond "out of thin air." It's true that we use "bank bonds" (checking accounts) as money, and it's true that we do this because they can be redeemed on demand, but that's our decision, not the bank's. We could use bonds issued by you instead if we wanted to. The bank is still not lending more money than has been deposited with it, or doing anything else nefarious. It's just making loans.
They're creating new "money of zero maturity". If I have a CD I can't withdraw for one year, and that's used to create a loan due in one year, that's one thing. The problem is when money in my checking account that I can withdraw at any time, is used to make loans that can't be called in at any time. This is what creates the possibility of a run on the bank. Banks borrow short and lend long, which is profitable, but can with some justice be called fraud.
The bank IS lending more money than it has been deposited with. If banks were sane, they wouldn't lend out any money out of checking accounts. They would only lend out money on savings accounts, where I would agree to give up my right on immediate redemption in exchange for payment of interest.
Not it's not. The bank only ever loans a fraction of the money deposited with (or borrowed by) it. The rest goes in the reserve. The total amount of cash loaned is always strictly less than the cash borrowed. Bank's just can't create base money from nothing. They can create checking accounts, but these are neither loaned nor borrowed. They are financial instruments representing a loan that has been made.
* You deposit $10 at a bank
* The bank is allowed, to lend a *multiple* of that $10.
So it can now lend say $60 out. Even though it hasn't got $60 to lend. It's created the extra $50 from thin air.
This is not how normal lending works. It's like if you lend me your bike, and I have magical powers that allow me to then summon 4 more bikes out of thin air, so that I can lend out 5 bikes.
Please explain to me how a bank can create base money, which is exclusively issued by the central bank.
* The bank is allowed, to lend a multiple of that $10.
False! The bank can lend only a fraction of that $10. However, if the borrower deposits that money back in the bank (i.e. makes a loan) then the bank can lend the money again, just like with normal borrowing.
Nope. Look more carefully at the video (it gets most things wrong but not this). If you look in the second part, for any deposit, the bank can lend 90% of it.
But then how do you explain bank runs? If banks practice normal lending, then bank runs shouldn't be harmful, because the bank would always have enough money to redeem all deposits.
I wouldn't, because borrowers are compensated for the risk through the payment of interest (or other services, such as free transactions). A deposit at a bank is just like any other kind of investment: you get a reward because you took a risk.
It's also worth pointing out that bank runs are incredibly rare events. In a correctly functioning market, a bank can always pay its depositors by securitizing its loans. In a dysfunctional market (such as now) there are usually government guarantees that help smooth the process. The big problem with banks at the moment is that they have been keeping insufficient capital to cover their losses. Insufficient reserves has not been a problem.
Now I get your point. So basically we have different understandings of checking accounts. I'm not a lawyer, but in my opinion money in a checking account should always be redeemable. But you're kind of right that by depositing money there, people are agreeing to their money being lent out in exchange for interest.
For me, that is the scam. Why can't we exist only allowing banks to lend out what they actually have instead of creating money out of thin air?