> While money is essential to facilitating purchases and sales of real resources outside the banking system, it is not itself a physical resource, and can be created at near zero cost.
> The fact that banks technically face no limits to instantaneously increasing the stocks of loans and deposits does not, of course, mean that they do not face other limits to doing so. But the most important limit, especially during the boom periods of financial cycles when all banks simultaneously decide to lend more, is their own assessment of the implications of new lending for their profitability and solvency. By contrast, and contrary to the deposit multiplier view of banking, the availability of central bank reserves does not constitute a limit to lending and deposit creation. This, again, has been repeatedly stated in publications of the world’s leading central banks.
The current model of understanding is broken. To issue money nothing has to be created, therefore if one issues money whilst wealth creation stands still one appropriates some of the total wealth through inflation.
Before if you wanted more money you had to have more gold reserves, or the govt/central bank had to lower the exchange rate.
Because new production of gold would add only a small fraction to the accumulated stock, and because the authorities guaranteed free convertibility of gold into nongold money, the gold standard ensured that the money supply, and hence the price level, would not vary much.
> the availability of central bank reserves does not constitute a limit to lending and deposit creation
Private banks decide how much land costs. And they always lend as much as they can, so land will always be as much as people can possibly pay. This means that no amount of efficiency gains will ever improve life. All you will see is inflation and people who bought just before the jump have a gain, but again the next batch are pushed into servitude. Because we haven't had a big step-change in efficiency for a couple of decades (and in part because it's not passed on due to globalisation / migration) it's misery all round, unless you are a usurer.
> The fact that banks technically face no limits to instantaneously increasing the stocks of loans and deposits does not, of course, mean that they do not face other limits to doing so. But the most important limit, especially during the boom periods of financial cycles when all banks simultaneously decide to lend more, is their own assessment of the implications of new lending for their profitability and solvency. By contrast, and contrary to the deposit multiplier view of banking, the availability of central bank reserves does not constitute a limit to lending and deposit creation.
> If a bank has insufficient deposits, it can't lend any more money.
That's not actually true, banks effectively create money when making a loan, and the only constraints on this are the interest rate set by the central bank, which affects both demand for credit and the cost of providing it, and liquidity requirements set by legislation.
No, banks create money when they make a loan, they don't lend out deposits. Loans are constrained by risk and by reserve requirements set by central banks.
No, banks are allowed to loan more money than they have in reserves (they are allowed to have a fraction of a loan in their reserves = fractional reserve banking).
I’m sorry, it seems I misread what you wrote. That doesn’t contradict what I wrote.
Yes, if the money created is in the end kept in the system as a deposit it enables new loans (but it is not necessarily so if the money goes to someone that uses it to cancel a loan of their own, for example).
And due to the fractional reserve requirement the quantity of money cannot be increased without limit by commercial banks. That’s just a mathematical reality, notwithstanding the fact that it’s not usually a binding constraint.
That's not how the banking system works in theory or practice. It hasn't worked like that for a very very long time.
Lending isn't limited by deposits, it's limited by central bank regulations.
Here's what the Bank of England says [0]
> if you borrow £100 from the bank, and it credits your account with the amount, ‘new money’ has been created. It didn’t exist until it was credited to your account.
> Regulation limits how much money banks can create.
Banks only need to maintain enough deposits to cover their liquidity needs - what they need to pay people withdrawing cash and what they need to transfer to other banks due to electronic money moving.
If your point is that the actual money issued by the central bank (M0) does not necessarily result in the monetary supply that could be potentially produced according to the minimal reserve requirements that’s obviously true.
Banks are not forced to loan out as much as they could, they have a choice. And because the system is not working at “full capacity” the central bank cannot control the money supply adjusting the minimal reserve requirements. They use other mechanism like short term rates (including through the interest the Fed pays on reserves since 2008).
“Loans create deposits” is of course true in the standard description as well. If banks create money (by lending out, if they want, excess reserves) that necesarily means that the total amount of deposits increases. Because the total amount of deposits (plus the relatively less important amount of physical money in circulation) is what we call money!
Right; the hard limitation on money creation is that banks exist in order to earn profits for shareholders, and there is only a finite pool of profitable lending opportunities at any given time. With no reserve requirement a bank could theoretically create unlimited amounts of money but it would eventually go bankrupt as it would take massive losses on bad loans.
> Money creation in practice differs from some popular misconceptions — banks do not act simply
as intermediaries, lending out deposits that savers place with them, and nor do they ‘multiply up’
central bank money to create new loans and deposits.
> The reality of how money is created today differs from the
description found in some economics textbooks:
> • Rather than banks receiving deposits when households
save and then lending them out, bank lending creates
deposits.
> • In normal times, the central bank does not fix the amount
of money in circulation, nor is central bank money
‘multiplied up’ into more loans and deposits.
> In fact, when households choose to save more money in bank
accounts, those deposits come simply at the expense of
deposits that would have otherwise gone to companies in
payment for goods and services. Saving does not by itself
increase the deposits or ‘funds available’ for banks to lend.
Indeed, viewing banks simply as intermediaries ignores the fact
that, in reality in the modern economy, commercial banks are
the creators of deposit money
> Another common misconception is that the central bank
determines the quantity of loans and deposits in the
economy by controlling the quantity of central bank money
— the so-called ‘money multiplier’ approach.
> ...
> While the money multiplier theory can be a useful way of
introducing money and banking in economic textbooks, it is
not an accurate description of how money is created in reality
> In reality, neither are reserves a binding constraint on lending,
nor does the central bank fix the amount of reserves that are
available.
"Money is created when money is loaned out against collateral. Money is destroyed when the loan is repaid and the collateral returned. It's a natural process."
But there is nothing natural about it - the limit on money supply is how easy it is to get a loan. Bank could give out mortgages with 0% deposit, they could give out loans equal to 120% of the house value, and they indeed have done so.
What regulates the money supply is not 'natural process' but the rules set by the regylator on minimum reguirements. Is having no rules free market? But then it will be creating 2008 style event every tuesday.
Furthermore, this whole thing only creates money in our current floating-money system, right?
If you have medieval-style economy where you count literal gold coins, you can not create money, you would just be loaning out other people's deposits. The amount of money in the system would stay fixed, right?
So then the only 'natural' money supply is your ability to mine gold?
> Far from it. They are not deposit constrained, no matter how much mainstream economics likes to think so.
But there are important constraints - from the overview in the article you linked to:
"Although commercial banks create money through lending,
they cannot do so freely without limit. Banks are limited in how much they can lend if they are to remain profitable in a competitive banking system. Prudential regulation also acts as a constraint on banks’ activities in order to maintain the resilience of the financial system. "
The main constraint is called Capital Adequacy, and is based on the requirement for a bank to hold some of its own money in reserve compared to the amount of loans it issues. And importantly this money held in reserve must be money that is not pledged to anyone or anything else - i.e. cannot be money from depositors or from issued loans. The banks cannot easily increase this amount of unpledged money (which is called Tier 1 Capital) and hence it acts as a real limit on the amount they can lend.
I mean generally. This is a pervasively common myth (the Talk section of the wiki article alludes to this). Read about the money multiplier myth, or, a direct source from a central bank about how loans are created by creating new deposits at the point of loan creation: https://www.bankofengland.co.uk/explainers/how-is-money-crea...
There is a concept of reserve in the system. That is: banks must keep a reserve with the central bank relative to the amount of new money they are creating through loans. At the moment though, that reserve ratio is 0 (zero) for the UK and the US, rendering it meaningless.
zhte415 comment covers two cases: lending out no gold and lending out one unit of gold. I don't see it supporting your argument that a bank can loan out more gold than it has borrowed.
The reason I welcome zhte415's comment is that thinking in terms of balance sheets usually clarifies things (as noted in the comment).
For example, the top 5 biggest retail banks in the US hold between 20%-40% more in deposits than they have issued loans individually as well as in aggregate. Don't you think that if retail banks worked in the way you are claiming - i.e. raising $X in deposits but issuing >$X in loans that there would be some example of this happening? For at least one bank in the US? It just doesn't happen.
Not exactly, because bankers aren't required to have monetary reserves equal to their loan amount. So a bank can "loan" an entrepreneur $1B of which the bank only physically possesses, say, $100 million. This is what is meant by banks "creating" money -- the bank just created $900 million.
> Is it possible for a regular bank to lend money it does not have?
Banks create money from nothing to lend out:
> Therefore, if you borrow £100 from the bank, and it credits your account with the amount, ‘new money’ has been created. It didn’t exist until it was credited to your account.
> This also means as you pay off the loan, the electronic money your bank created is ‘deleted’ – it no longer exists. You haven’t got richer or poorer. You might have less money in your bank account but your debts have gone down too. So essentially, banks create money, not wealth.
> This article explains how the majority of money in the modern economy is created by commercial banks making loans. Money creation in practice differs from some popular misconceptions — banks do not act simply as intermediaries, lending out deposits that savers place with them, and nor do they ‘multiply up’ central bank money to create new loans and deposits. The amount of money created in the economy ultimately depends on the monetary policy of the central bank. In normal times, this is carried out by setting interest rates. The central bank can also affect the amount of money directly through purchasing assets or ‘quantitative easing’.
Money is a psychological construct of humans to facilitate trade and the exchange of goods and services. Some societies don't (didn't) even have money/currency: everyone kept a mental 'tally' of who gave or took things, and there were social expectations of giving "gifts" for repayment. Physical tokens (bones, shells, gold, paper, etc) came later.
What do you have to say about the empirical evidence that the total amount of deposits and the total amount of loans in the system is of the same order of magnitude? This clearly contradicts the typical money multiplier story of "X amount of deposits creates X/reserve requirement amount of loans" you have posted.
Furthermore, check out countries without reserve requirements. Do they have an infinite amount of money in circulation?
Yes, banks create new money through credit. However, this is not limited by reserve requirements (if the empirical evidence still doesn't convince you, please read up on how the central bank will always lend the required central bank money to banks when they need it, i.e. the lender of last resort function of central banks). You have to look at capital requirements and general borrower demand and quality to understand what's going on.
This is simply incorrect. Banks can and do create money when they give out loans. Unfortunately, our everyday vocabulary doesn't contain the terminology to describe this properly, and this is how people end up confused.
The crux is that there are really (at least) two types of money: Central bank money, and money used by "the public". They live in two different "monetary circuits", and while those circuits are not entirely unrelated, they are completely isolated from each other; money cannot go from one circuit to the other.
Ignoring cash for simplicity (and it is little volume anyway), central bank money is only the electronic currency on accounts at the central bank, and it only moves between banks and other financial institutions.
Money used by the public is cash in circulation as well as money on checking accounts and so on.
Banks cannot create central bank money, but they can and do create money in the other "monetary circuit". It is true that the amount of money in the public monetary circuit must be less than the amount of central bank money times a factor (the inverse of the reserve ratio).
However, in practice, this limit works the other way around: When the amount of money in public use grows "too large", central bank money is automatically created by the central bank (this has nothing to do with quantitative easing; it is part of the normal market operations that the central bank always performs to achieve its interest rate target). Because of this, the reserve ratio does not limit the creation of money by banks.
> While money is essential to facilitating purchases and sales of real resources outside the banking system, it is not itself a physical resource, and can be created at near zero cost.
> The fact that banks technically face no limits to instantaneously increasing the stocks of loans and deposits does not, of course, mean that they do not face other limits to doing so. But the most important limit, especially during the boom periods of financial cycles when all banks simultaneously decide to lend more, is their own assessment of the implications of new lending for their profitability and solvency. By contrast, and contrary to the deposit multiplier view of banking, the availability of central bank reserves does not constitute a limit to lending and deposit creation. This, again, has been repeatedly stated in publications of the world’s leading central banks.
The current model of understanding is broken. To issue money nothing has to be created, therefore if one issues money whilst wealth creation stands still one appropriates some of the total wealth through inflation.
Before if you wanted more money you had to have more gold reserves, or the govt/central bank had to lower the exchange rate.
> http://www.econlib.org/library/Enc/GoldStandard.html
Because new production of gold would add only a small fraction to the accumulated stock, and because the authorities guaranteed free convertibility of gold into nongold money, the gold standard ensured that the money supply, and hence the price level, would not vary much.
http://www.shadowstats.com/imgs/charts/m1.gif
Again the boe blog from above:
> the availability of central bank reserves does not constitute a limit to lending and deposit creation
Private banks decide how much land costs. And they always lend as much as they can, so land will always be as much as people can possibly pay. This means that no amount of efficiency gains will ever improve life. All you will see is inflation and people who bought just before the jump have a gain, but again the next batch are pushed into servitude. Because we haven't had a big step-change in efficiency for a couple of decades (and in part because it's not passed on due to globalisation / migration) it's misery all round, unless you are a usurer.
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