Fractional reserve banking works because most people don’t need all their money as soon as they get paid. Most businesses keep some money in the bank too. Banks have a required percent of deposits that they must keep on hand to allow these withdrawals. And if they run low on cash, they just borrow money for a day from other banks (literally just one day). The US government can adjust the percent of required reserves or the overnight lending rate to keep banks from lending too much money out.
Banks use this money to loan to businesses or people buying houses. It works well because whenever the money is loaned out it is used for a purchase and just redeposited in another bank. A percentage of that money is retained by the bank and the rest is loaned out again. And again and again. This way money is “created” when people buy things in the economy.
This seems like an already failed banking model which places lenders at the front of the pack and will lead to only larger asset bubbles. Japan’s Kiretsu system of banking led to banks taking out loans to cover up their own investment losses as they had put their money into an asset bubble which collapsed. Banks then committed wholesale fraud by disguising such losses on their books. The Japanese government then used quantitative easing. They create money ex nihilo, swap the money for a t bill, then they bought the toxic assets by giving t bills to the bank. The bank doesn’t sell the t bill, they merely collect interest on it.
The main effect is a system in which bubbles are never popped and consumers suffer a declining standard of living in order to keep asset prices high.
I mean, there’s all kinds of math that goes into making modern fractional reserve banking a self-correcting system with a reasonable theoretical basis, but I’m guessing you’ve made up your mind already.
Sorry I appreciate your comment. So I read (erroneously?) that central bankers had done away with the reserve ratio in the fractional reserve banking article. And that just seems like a reckless thing to do given how prone to bubbles our economy is.
One of the main points in “this time is different” is that despite the math, we are experiencing greater and greater asset bubbles and at no point in world history were things actually different.
In a lot of jurisdictions there’s no minimum reserve requirement anymore, in cash. It’s not really a problem, because at the big bank level money on paper is barely real. If they need more, they can almost just ask. They do have to have a certain minimum amount of capital, though, which can take a number of forms.
I mixed up my exact terms a bit earlier, sorry about that. I’m not a professional macroeconomist, I only know enough to know they’re not completely full of shit.
we are experiencing greater and greater asset bubbles and at no point in world history were things actually different.
I’m not sure what you mean by this. If things aren’t any different from before, how can we have bigger and bigger asset bubbles? I don’t know that we do, really. The niche for bear investors is very full, if something’s overvalued by the whole market you and me won’t know either.
Everything you wrote lined up with the article on wikipedia so if you got something wrong I didn’t see it.
I’m referring to the book “This Time Is Different: Eight Centuries of Financial Folly” the title of which mocks the oft repeated defense of bubble investors:
But their point is that every single asset bubble ended up popping, despite the protections instituted by banks and governments. They also point out that the bubbles have been getting bigger and bigger
It’s not a “failed model”. Japan has issues because banks committed fraud and disguised non-performing loans. There are strict rules in the US about when assets must be “marked to market”. Plus the US has a growing population because we let in immigrants, which supports a growing economy. We are not close to having problems like Japan.
There are also many levers the Federal Reserve can pull to keep banks in check. As I said, they can raise and lower the reserve requirement and raise and lower the overnight lending rate. This can prevent banks from going nuts with lending, but obviously can’t prevent all asset bubbles. Sometimes people are just irrational.
Frankly you seem to be using a bunch of big words and implying that they make a point. Using “ex nihilo” instead of “from nowhere” clinched it for me. Also, you spelled “keiretsu” wrong.
Thanks for the reply. I hope you don’t let my spelling or use of ex nihilo (this is the exact language used by the fed and economists, I didn’t just make it up) turn you off, because at a policy level they are pursuing policies that keep real estate prices high.
You think that high interest rates keep real estate prices high? That’s the opposite of what happens with high interest rates. People can’t afford to pay as much when interest rates are high (like they are now).
I’m judging solely based on your comments. You are using big words incorrectly. You clearly don’t understand what you’re talking about if you think high interest rates keep real estate prices high. Also, your description of Japan’s economic problems are disjointed and confused, not correct.
I’m not sure what you mean, but no, I don’t think that and I didn’t write that but i can understand the confusion because it’s not well known how QE works. Some forms of QE prevent crashes. The Fed can achieve this by taking the bank’s failing debt instrument off the books, and swapping it for a t bill.
Well, they have it in the sense that somebody deposited it with them, and they have some fraction of it held
in reserveto cover withdrawals.Edit: Well, in the form of capital, so that’s actually the wrong terminology.
Yes, they still have it. It’s just not in cash.
Fractional reserve banking works because most people don’t need all their money as soon as they get paid. Most businesses keep some money in the bank too. Banks have a required percent of deposits that they must keep on hand to allow these withdrawals. And if they run low on cash, they just borrow money for a day from other banks (literally just one day). The US government can adjust the percent of required reserves or the overnight lending rate to keep banks from lending too much money out.
Banks use this money to loan to businesses or people buying houses. It works well because whenever the money is loaned out it is used for a purchase and just redeposited in another bank. A percentage of that money is retained by the bank and the rest is loaned out again. And again and again. This way money is “created” when people buy things in the economy.
This seems like an already failed banking model which places lenders at the front of the pack and will lead to only larger asset bubbles. Japan’s Kiretsu system of banking led to banks taking out loans to cover up their own investment losses as they had put their money into an asset bubble which collapsed. Banks then committed wholesale fraud by disguising such losses on their books. The Japanese government then used quantitative easing. They create money ex nihilo, swap the money for a t bill, then they bought the toxic assets by giving t bills to the bank. The bank doesn’t sell the t bill, they merely collect interest on it.
The main effect is a system in which bubbles are never popped and consumers suffer a declining standard of living in order to keep asset prices high.
I mean, there’s all kinds of math that goes into making modern fractional reserve banking a self-correcting system with a reasonable theoretical basis, but I’m guessing you’ve made up your mind already.
Sorry I appreciate your comment. So I read (erroneously?) that central bankers had done away with the reserve ratio in the fractional reserve banking article. And that just seems like a reckless thing to do given how prone to bubbles our economy is.
One of the main points in “this time is different” is that despite the math, we are experiencing greater and greater asset bubbles and at no point in world history were things actually different.
In a lot of jurisdictions there’s no minimum reserve requirement anymore, in cash. It’s not really a problem, because at the big bank level money on paper is barely real. If they need more, they can almost just ask. They do have to have a certain minimum amount of capital, though, which can take a number of forms.
I mixed up my exact terms a bit earlier, sorry about that. I’m not a professional macroeconomist, I only know enough to know they’re not completely full of shit.
I’m not sure what you mean by this. If things aren’t any different from before, how can we have bigger and bigger asset bubbles? I don’t know that we do, really. The niche for bear investors is very full, if something’s overvalued by the whole market you and me won’t know either.
Everything you wrote lined up with the article on wikipedia so if you got something wrong I didn’t see it.
I’m referring to the book “This Time Is Different: Eight Centuries of Financial Folly” the title of which mocks the oft repeated defense of bubble investors:
https://www.nber.org/system/files/working_papers/w13882/w13882.pdf
But their point is that every single asset bubble ended up popping, despite the protections instituted by banks and governments. They also point out that the bubbles have been getting bigger and bigger
It’s not a “failed model”. Japan has issues because banks committed fraud and disguised non-performing loans. There are strict rules in the US about when assets must be “marked to market”. Plus the US has a growing population because we let in immigrants, which supports a growing economy. We are not close to having problems like Japan.
There are also many levers the Federal Reserve can pull to keep banks in check. As I said, they can raise and lower the reserve requirement and raise and lower the overnight lending rate. This can prevent banks from going nuts with lending, but obviously can’t prevent all asset bubbles. Sometimes people are just irrational.
Frankly you seem to be using a bunch of big words and implying that they make a point. Using “ex nihilo” instead of “from nowhere” clinched it for me. Also, you spelled “keiretsu” wrong.
Thanks for the reply. I hope you don’t let my spelling or use of ex nihilo (this is the exact language used by the fed and economists, I didn’t just make it up) turn you off, because at a policy level they are pursuing policies that keep real estate prices high.
You think that high interest rates keep real estate prices high? That’s the opposite of what happens with high interest rates. People can’t afford to pay as much when interest rates are high (like they are now).
I’m judging solely based on your comments. You are using big words incorrectly. You clearly don’t understand what you’re talking about if you think high interest rates keep real estate prices high. Also, your description of Japan’s economic problems are disjointed and confused, not correct.
I’m not sure what you mean, but no, I don’t think that and I didn’t write that but i can understand the confusion because it’s not well known how QE works. Some forms of QE prevent crashes. The Fed can achieve this by taking the bank’s failing debt instrument off the books, and swapping it for a t bill.