Lending limits of banks

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heswartz's picture
heswartz
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Lending limits of banks

Chapter seven says that $1,000 deposited in a bank can result in a $900 loan, since banks are allowd to loan 90% of their deposits.  However, if that $900 loan is spent and then redposited in the bank, then the bank can loan $810 more dollars.  This would result in $1,710 of loans coming from the original $1,000 deposit.  As the loan monies are spent and redeposited and then reloaned, the original $1,000 can be leveraged up indefinitely.  My question is, isn't the law that the bank can loan 90% of their total deposits at any time, rather than 90% of each deposit that comes in?  The end result of the two are quite different.

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rowmat
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Re: Lending limits of banks
heswartz wrote:

Chapter seven says that $1,000 deposited in a bank can result in a $900 loan, since banks are allowd to loan 90% of their deposits.  However, if that $900 loan is spent and then redposited in the bank, then the bank can loan $810 more dollars.  This would result in $1,710 of loans coming from the original $1,000 deposit.  As the loan monies are spent and redeposited and then reloaned, the original $1,000 can be leveraged up indefinitely.  My question is, isn't the law that the bank can loan 90% of their total deposits at any time, rather than 90% of each deposit that comes in?  The end result of the two are quite different.

My understanding is if the bank has $1000 in actual cash reserves it can then create a further $9000 out of thin air in the form of a loan.

Not in cash, but as an electronic loan.

So it technically complies with the fractional reserve lending requirements as it has at least 10% of what it loaned out (created) still in reserve.

The total of the loan plus what it holds in reserve is $10,000.

That fact that the $9000 didn't exist prior to the loan being made doesn't matter... it's how money is created.

Thomas Hedin's picture
Thomas Hedin
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Re: Lending limits of banks

There is no limit the the amount of money that banks can create.

The banks reserves only consist of more promises to pay (loans).  If a bank wants to create more money, there really is nothing stopping them.  If they want to contract the money supply they just stop making loans and foreclose on all the people.

karinabartram's picture
karinabartram
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Yes, there is no limit 

Yes, there is no limit  other than willing borrowers on the amount of money banks can create. Banks can make money as they wants.

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mariusm98
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Central banks, not banks
karinabartram wrote:

Yes, there is no limit  other than willing borrowers on the amount of money banks can create. Banks can make money as they wants.

I don't know the US legislation in detail, but I see absolutely no indication that banks other than the Federal Reserve create money, electronic or paper. By far the most important function of a central bank is to control the money supply.

As for the fractional reserve rule it does indeed mean that the bank has to have ready money (paper or electronic) in a certain proportion (say 10%) to the deposits it hold. The rest is lent out.

http://en.wikipedia.org/wiki/Fractional_reserve

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Travlin
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Good try, but look again
mariusm98 wrote:

I don't know the US legislation in detail, but I see absolutely no indication that banks other than the Federal Reserve create money, electronic or paper.

http://en.wikipedia.org/wiki/Fractional_reserve

Mariusm

Your link to Wiki provides the answer.  The article has good information, but is poorly written, so it is easy to miss the point that commercial banks do indeed create money, in fact much more money in aggregate than central banks.  In the USA the reserve requirement is in practice less than 10% so each dollar of deposits can be used to create over nine new dollars of loans, in theory.  In practice it is hard to do and bankers sit up nights trying to figure out how to increase their loans to creditworthy borrowers.  Kudos to you for studying the issue.  Few people make the attempt

 

Wikipedia wrote:

Example of deposit multiplication

The table below displays the mainstream economics relending model of how loans are funded and how the money supply is affected. It also shows how central bank money is used to create commercial bank money from an initial deposit of $100 of central bank money. In the example, the initial deposit is lent out 10 times with a fractional-reserve rate of 20% to ultimately create $400 of commercial bank money.

 

http://en.wikipedia.org/wiki/Fractional_reserve

Travlin

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Peace
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I also thought, that the way

I also thought, that the way "money" ist created is not really correctly explained in the "Crash Course". In the "Crash Course", as in the Wiki-article about fractional reserve banking it is not explained, how banks actually in reality really do work. The funny thing is, everywhere, even in school it is explained like that, but the reality is even crazier.

The biggest lie about banks is, that they can only give credits of the amount of money they got first from other people. But that's simply not true!

If I have a $1000 dollars as a bank, an have e.g. a minimum reserve requirement of 10%, I can theoretically actually give out credits for $10'000 (in checkbook  money). For the law demands, that I always have at least 10% of the checkbook money as real money (central bank money). This means, that If the $1000 came from a customer, I can theoretically additionally give out credits for $9000 (as I have an additional $1000 demand from the customer who gave his money). 

Sure I couldn't pay them out (in real money). But the whole system of banks actually is founded on the belief, that most money will remain on the bank deposits, and will not have to be paid out in real money. 
 

And the bigger you are (as a bank), the higher are your chances, that you don't have to pay it out (in real money), for the chances get higher, that somebody else will have also an account at this bank, and so the bank can do the transfer, without needing real money.

Therefore being big is very advantageous for a bank. The bigger you are, the lesser the chance you will have to pay out, the smaller the risk if you go higher with the multiplication factor.

Only if the bank needs to transfer the money to another bank, or pay it out in cash, it needs to give out real money (central bank money).

This is just for the explanation, how a bank really works.

In basic principle, there's no difference between, how it is explained in the "Crash Course" and how it's really done. For on the bottom line you will always have the limiting multiplication factor (1/minimum reserve) of checkbook money vs central bank money either way. So the banks cannot multiply the money indefinitely!

But the way it is explained in the course would only be true, if the money would always have to be paid out, which is in reality not the case. So in reality it doesn't need to go over many banks to multiply the money. Even one bank alone can already multiply the money. And they do that (sure not to the theoretical limit, that would be too dangerous). The advantage of the bank: They get interest rates from many people, although they actually do not even have the money, or ever had the money. They just create checkbook money out of thin air and get interest rates for it. The only limiting factor is the demanded minimum reserve requirement.

This only a bank can do, for only if you have a bank license you are allowed to do this. If you would do this as a private person, it would be highly illegal, and you would end up in jail!   

Maybe in a future version this can be shortly explained.

Thomas Hedin's picture
Thomas Hedin
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Agreed.

The biggest lie about banks is, that they can only give credits of the amount of money they got first from other people. But that's simply not true!

Agreed but remember all we use for money is credit.

If I have a $1000 dollars as a bank, an have e.g. a minimum reserve requirement of 10%, I can theoretically actually give out credits for $10'000 (in checkbook money). For the law demands, that I always have at least 10% of the checkbook money as real money (central bank money). This means, that If the $1000 came from a customer, I can theoretically additionally give out credits for $9000 (as I have an additional $1000 demand from the customer who gave his money).

Sure I couldn't pay them out (in real money). But the whole system of banks actually is founded on the belief, that most money will remain on the bank deposits, and will not have to be paid out in real money.

If you have a 1000 dollars in a reserve account OR 1000 dollars in FRNs.  There is no law governing the amount of reserves that banks have to have (if any) its all just rules within the banking system.  Banks do not 'give' out credit, they extend (create) create when they issue new loans. The truth is banks have no reserves and all the need is a borrower.

The numbers in the checking account is real money, and is the real money in this system.  The FRNs or any other form of money cannot enter circulation until the check book money exsists.  It is not true (honest) money though because it is all based on interest bearing debt.

Sure I couldn't pay them out (in real money). But the whole system of banks actually is founded on the belief, that most money will remain on the bank deposits, and will not have to be paid out in real money.
 

And the bigger you are (as a bank), the higher are your chances, that you don't have to pay it out (in real money), for the chances get higher, that somebody else will have also an account at this bank, and so the bank can do the transfer, without needing real money.

Therefore being big is very advantageous for a bank. The bigger you are, the lesser the chance you will have to pay out, the smaller the risk if you go higher with the multiplication factor.

Banks have no risk because they never have to pay period.  Dale and Soderberg vs Federal Reserve Bank of Minneapolis proved that.  If you wanted the private commercial banks to pay its true they will get rid of their liability (destroy the checkbook money) and shift it to a Federal Reserve bank (FRN).  Both are just forms of credit money.  A FRN is a non-redeemable note on a private bank.

 

In basic principle, there's no difference between, how it is explained in the "Crash Course" and how it's really done. For on the bottom line you will always have the limiting multiplication factor (1/minimum reserve) of checkbook money vs central bank money either way. So the banks cannot multiply the money indefinitely!

But the way it is explained in the course would only be true, if the money would always have to be paid out, which is in reality not the case. So in reality it doesn't need to go over many banks to multiply the money. Even one bank alone can already multiply the money. And they do that (sure not to the theoretical limit, that would be too dangerous). The advantage of the bank: They get interest rates from many people, although they actually do not even have the money, or ever had the money. They just create checkbook money out of thin air and get interest rates for it. The only limiting factor is the demanded minimum reserve requirement.

The question is if we all have to collectivly borrow from the banking system and pay interest, where does the money come from to pay the interest?

This only a bank can do, for only if you have a bank license you are allowed to do this. If you would do this as a private person, it would be highly illegal, and you would end up in jail!

There is no law authorizing banks to create money, but we are trying to get one passed up here in Minnesota for the benifit of the people.  H.F. 610 and S.F. 65.

mickanomics's picture
mickanomics
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Quote:Yes, there is no
Quote:

Yes, there is no limit  other than willing borrowers on the amount of money banks can create. Banks can make money as they wants.

Agreed. And for more detail, read chapter one of => this.

 

Emma Drew's picture
Emma Drew
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Lending Limits Of Banks

I don't know much about the lending limit, but I know that Lichtenstein D has loaned over 51 million dollars from the Canadian Imperial Bank of Commerce. There's got to be a catch to loan all that money

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