How would bank loans be possible under 100% reserve banking? Could no loans be made at all?
This question gets asked a lot. The answer is that there is a difference between DEMAND deposits and TIME deposits. It is TIME deposits which get loaned out.
Loaning would be possible regardless of what kind business you have. As long as you have savings, you can loan it.
Banks would loan either as an intermediary service or with stored earnings. Also, in a 100% reserve system, depositors would not make interest and would instead pay for the storage space.
Time deposits - as in CD’s or other money locked in for a specified time period. That gets loaned out. Money in people’s checking accounts that have balances changing daily do not get lent out.
Also, the bank share holders put up their own gold or money and use that to lend out. As in the bank can sell equity shares to the public, who give their money to own shares of the bank. All money raised will go onto the bank’s balance sheet as capital that can be lent out.
Savings is to hold money cash. I think that it is today mostly called “being liquid”. To stuff your matress full of cash. To let the gold coins clash in your pocket. That’s SAVINGS.
Investments is to LEND your money to someone (such as the state), normally through a broker such as a bank, to people who promise to pay back as much as they can once their optimistic ventures have succeeded. That is NOT to save. The borrowers have discretional powers to do (almost) whatever they want with the money you’ve lent them.
Investments is to BUY shares of a company, sometimes in many companies through a stock fund. Then you will earn shares of the dividens, i.e. fractions of profits those companies have earned, in return for you investment. If no company makes any return, you’ll have nothing back. That is NOT to save.
So, what fraction of your fortune do you want to lend, buy stocks with, or save (per definition at 100% reserve)? And what problem do you see with that choice you just made?
Why do you believe that any middle man would be needed in order to save money? Maybe you care for burglary proof installations and security guards? Then there are storage companies ready to provide such services for your savings. But those people are more into the construction and security businesses than the financial dito.
No, it’s not. Holding cash does not represent savings, it represents exactly that. An increase in the demand for money, which is a question distinct from that of increasing the demand for future goods relative to present goods, the latter representing an increase in savings. If an individual chooses to increase their cash balance they can do that by reducing the amount of money they spend and the amount of money they invest in the same proportion. Notice, their cash balance increases and yet the ratio of money spent of goods and investment stays the same, in other words they exercise the same time preference.
Not necessarily, no. Investment could take the form of retained earnings in a corporation as opposed to paying out dividens, for example. Once again, nobody is lending money to anybody else.
This is inaccurate also. Loans must by definition have a specified terms, otherwise they are what is known as an aleatory contract, in contrast to a loan or mutuum contract. Moreover, it is not a matter of paying back “as much as they can”, they pay back the amount defined when the contract is made. It represents saving - deferred consumption.
No middle man is needed to save money. That doesn’t even make sense, a middle man between which two parties? In the case of a true loan, yes, banks may often act as a financial intermediary, but I don’t believe that is what your post concerns since you mentioned theft and security. There are a number of reasons that individuals choose to deposit their money in banks, to begin with it is the responsibility of the bank if the goods are damaged in any way and then there is the access to other services. I don’t really understand what you think a bank would be in a free society.
Yes, and they’d be true loans. Not what exists today in which the bank generates fudiciary media from nowhere. In fact, that is the whole cause of the business cycle, the fact that in most “loan” contracts, there is deferred consumption. Individuals do not refrain from current consumption in order to finance the new extended capital structure.
So the answer to your question is, in a sense, yes, there would be more loans in a free banking (non FRB) system. Loans would merely have to come from savings accumulated by individuals as a result of a drop in time preference.
Certificate of deposits (time deposits) are consistent with full reserve banking, since no credit is created in the process.
I do not claim that you are wrong, GilesStratton, but I must start out by saying that I’m quite amazed by the distance you’ve put between mine and yours definitions of savings, investments and lending. For me, savings are cash and only depend on the future market value of the money/commodity being saved, while lending and investment depend on how the people which you entrusted your money with, will manage it in the future.
But I’d honestly like to learn more about these things, and I truly value your inputs!
I, naively, thought that if I kept what I’ve earned in my matress, then “I save it”. I didn’t know (or cared) that it (also) meant that I increase the demand for cash. I thought that me saving my income today for tomorrow, did indeed mean that my consumption today fell as much as my consumption tomorrow increased. How are those to concepts “distinct” from each other?
Well, yes, such as the borrower having funds enough to pay back the debt as it was once agreed upon. Lending isn’t risk free.
I frequently encounter this question while promoting 100% reserve.
It is most important to point out first that there are two different kinds of banking. Demand banking and Loan banking. In a 100% reserve world, commercial banks will most likely offer both types of banking, but the two types of banking would be strictly firewalled. A small percentage of banks would operate as demand only banks, but would only serve other commercial banks, acting as specie clearinghouses.
I will deal quickly with the demand side. The demand bank would accept deposits of specie and would either issue warehouse receipts in return or they would enter the deposit on a ledger. The actual specie on deposit would be considered a bailment, could not be loaned out by the bank and would be redeemable on demand.
Now we go to the loan side of the bank. You would make your savings or other timed deposits to this side of the bank. These deposits could NOT be redeemed on demand, but according to your agreement with the bank. The bank can and would loan these deposits out. The bank would be limited to loaning out the amount of money deposited on the loan side of the bank. If savings fell, the bank would have to tighten up credit. If savings rise, the bank can increase lending.
Credit would be strictly tied to savings, thus eliminating the business cycle for good.
Two main points you have to understand. Two types of banking exist. 100% reserve only applies on the demand side.
Well, I believe the idea you gave of cash holdings constituting savings were also ideas of Keynes, as such they’ve lead to some fallacious thinking.
What do you mean? Savings are not really cash anyway, saving actually refers mostly to the real goods in question. Moreover, I do not see how savings can be determined by the unknown future value of money. I could imagine that future events that can be foreseen might impact on the level of saving but beyond that I do not really see what your point, or at least I don’t understand it. By way, the market value for money is determined wholly by individuals preferences regarding their cash holdings, which is an entirely different issue than that of saving. Saving, and the interest rate, refer to the exchange of present goods for future goods.
Yes, saving your income is saving (perhaps I could have worded that differently to make it sound less obvious). But I don’t think that’s the point you originally made. The point you made is that putting cash under your mattress is saving, which it is not. That is increasing your demand for cash. It is hypothetically possible for ones saving to increase whilst reducing the amount of cash one has “under ones bed” so to speak. For example if I were to invest money, by loaning it, I would be increasing my savings, if I then increased my consumption (but proportionally less than I did my savings) my demand for cash will decline however my saving rate will increase.
Thank you, that was a great reply.
So, is the “Loan Banking” that you refer to the same as the current prevailing form of fractional reserve banking except for the fact that Loan Banking depositors agree to a certain lengthed time frame for eventual withdrawl to prevent potential bank runs?
I would assume that Loan Banking depositors would be paid interest after the set time had expired while Demand Banking depositors would pay a fee for the service of safely storing their savings. Would this be correct?
“Savings are not really cash anyway, saving actually refers mostly to the real goods in question. Moreover, I do not see how savings can be determined by the unknown future value of money.”
if someone took their specie money from wages and purchased a small grove of timber…how can that be considered savings? an exchange was made a purchase, right?
if i put a way a portion specie money from from 3 wage cycles until my 4th wage payment and then on the 4th payment of my wages i bought a large timber grove…what do you call the act of setting aside specie money for 3 wage cycles to purchse the large timber grove?
putting away? hoarding?
couldnt the future value of timber fluctutate as well?
Do I understand it correctly that there is no essential difference between “saving” money cash (commodities) in a storage, “lending” to borrowers or “investing” in shares in companies? Savings, lendings and investments are just different ways of transforming “what-you-have-produced-yesterday” into “what-you-might-consume-tomorrow”? And that even the use of a free market money commodity such as gold doesn’t change that from our fiat currency of today?
“Saving” or “lending” or “investing” then, is to do anything but to “consume”?
Instead of consuming ( = increasing demand for consumer goods) one could:
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save ( = increase the demand for cash money), or
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lend ( = increase supply of credits), or
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invest in corporate share ( = increase demand for shares).
You really make me feel that I need to read up a bit. Damn you [;)]
Consumer banking in a 100% reserve system would be somewhat different, both from the banks perspective and from the perspective of the consumer.
What would it mean for you and me as consumers???
Checking accounts. If you had a checking account, that would happen on the “demand” side of the commercial bank. A check is essentially an order to transfer funds to another account. You would have your specie on deposit at the demand bank, with it recorded in ledger form. The checking account must be on the demand side since a check constitutes a “demand” for specie. The bank would then transfer title of the specie to the bearer of the check. Interbank transfers would be facilited by the fact that banks would either hold specie accounts with each other or at a clearinghouse demand bank. This would minimize the need to physically move specie between banks. There would be no such thing as “interest bearing checking accounts.” Those would not exist in a 100% reserve world. Instead, a modest fee would likely be assessed on checking accounts.
Demand depositers, whether they have specie on deposit via ledger or via banknotes, would, on physical redemption of such specie, pay a redemption fee. Check writers would NOT pay such a fee on each check, since they are merely transferring title to specie, not redeeming it.
Savings accounts. You would still have general savings accounts, plus a wide assortment of CD’s and other savings options. What you would likely notice most as a saver is a MUCH higher interest rate. At the same time, it would be somewhat a slower task of redeeming savings from a general savings account. Banks could and would put limits on daily redemption. Remember that total loans cannot exceed total savings so any reduction in savings must first be covered by a tightening of loans. If you wanted ready cash, it would definitely need to be on the “demand” side.
But you are correct on your first question. Loan depositers would clearly be limited on their ability to withdraw savings. On the other hand, demand depositers could physically redeem their entire holding immediately on demand.
In a free society, there would very likely be interest bearing checking accounts. There is no requirement that banks accept checks as on demand instruments. Unlike you I am in favor of letting the market decide.
More speculation, quite possible that banks will offer free services to attract customers. Again, try letting the market decide.
If the bank is refusing to pay your CD on the due date then the bank is insolvent.
More baseless speculation, it can be easily demonstrated where loan depositors could in most cases withdraw without limitations and where depositors could earn interest.
Typical Austrian banking nonsense. You have it about half right.
In a 100% reserve bank (which is what’s being talked about) the bank would have to put limitations on what loan depositers could withdraw, since assets would be directly linked to their accounts.
Actually, I am totally interested in letting the free market decide, within the context of 100% reserve. A check is by definition a demand instrument. The simple logistics of a loan bank would make checking on the loan side very dicey. Checks must be processed immediately. Large amounts of checks come in every day. A loan bank must commit as much of its deposited savings to loans as possible. Obviously a certain amount must be held back for payment of expenses and for redemptions from savings accounts. To efficiently operate checking from the loan side would require the bank to withhold a considerably larger amount of savings deposits from being loaned out. This represents interest that cannot be earned. Why the hell would any sane bank manager pay out interest on accounts on which he has no hope of ever seeing any incoming interest. If a bank was stupid enough to offer interest on checking accounts under such conditions, they would be free to go for it. But under the natural constraints of 100% reserve, it would be a foolish business decision.
As above, I am fully interested in the free market deciding. Yes, banks could make offers. I am not saying they couldn’t or wouldn’t. Just laying out the most likely operating scenario. In a short post, I cannot lay out every operating scenario that might occur. Just laying out the average scenario.
I fully agree that CD’s should be paid in full on the specified redemption date. But suppose you have $20,000 in general savings. The money is just sitting there with no specified term, earning interest. The bank might have a policy that such accounts can only be redeemed at $2,000 per day. Or $5,000. Or $10,000. Or maybe even the full $20,000. Or redemption may be allowed upon payment of fees. Each bank would post its particular savings redemption policies when you go to establish your initial account.
Interest would be impossible on the deposit side of the bank. The specie is sitting in a vault and CANNOT be loaned out by the bank, according to the principles of 100% reserve. I seriously doubt any bank manager would be loopy enough to pay interest under such conditions. Loan depositers could withdraw, under conditions set by the bank.
But within the context of 100% reserve, I am placing absolutely no constraints on the free market. Banks would operate as competitively as they could, within the constraints of 100% reserve.
There are absolutely no constraints on current US markets. Firm can operate as competitively as they can, within the constraints of acts of Congress.
We could get into a 100% reserve versus free banking free for all, but since the original post of the thread was asking about lending in a 100% reserve world, I will refrain from going into the merits of 100% reserve versus free banking.