Bank Money Expansion

Economics Economics Questions
1

When I read “Mystery of Banking” I was introduced to the process by which banks expand the money supply. In a nutshell, the banking industry as a whole lends out money to business as a whole; those businesses then put their newly aquired money back into the bank, where it is counted as an increase in reserves and the bank then loans it’s legally allowed portion of it again. This process of loaning the same dollar over and over repeats itself until the money supply equals, roughly the inverse of the reserve requirement. In the US, this is 10x the original bank reserves for a .10 reserve requirement.

Now, the thing that occurred to me is: Why does this require loans on the part of the bank?

A bank, unable to find a good investment in debtors, might choose instead to put it’s reserves into another investment. When the bank exchanges a given number of dollars for this investment item, the money collected by the seller of the investment just goes back in the bank, increasing reserves, and allowing the bank to then re-loan that dollar, as well.

In fact, it wouldn’t even have to be an investment. The bank could spend all it’s reserves on deli sandwiches, for example. This would be followed by the deli owner putting the money back in the bank where it could then be put back into the market somewhere else.

And the difference between investing in debtors and investing in something else is that in the latter case, reserve requirements really wouldn’t apply, so the bank could expand the money supply at an even more accelerated rate.

Thoughts?

The Rev

2

The Glass Steagall act of 1933 prevent commercial banks from offering investment services or from investing as you suggest. This is because the capital these banks have are depositors money. When you invest you always risk the capital. If commercial banks take such risks with depositors money then they are bound to loose some or all of it. Bankers don’t necessarily make good entrepreneurs. Banks are supposed to safeguard depositors money, but really it’s more like they borrow and owe it to the depositors because they lend it out.

Then Tim Geitner and Larry Summers both participated in a 1999 act to strike down the Glass-Steagall act and look at what happened to the commercial banks. Now they’re all broke. These two jewels are in charge to fix a problem they helped create.