It’s within the terms of the contract. I agree with everything you said above. The problem is that you left out the fact that in a demand deposit (and even modern “savings” accounts) the contract states that the depositor has the right to withdraw the money on demand. If the money is being loaned out, then obviously the bank cannot fulfill this end of the contract. In a demand deposit you are not loaning out your money; you are not offering the bank money for a specific period of time. You are depositing your money with the intention of demanding it so you can use it to spend.
This seems to contradict what you wrote above it. You agree, then, that loaning out a demand deposit is wrong, and therefore the demand deposit is not a loan. The act of loaning out money deposited in a time deposit is not the same as depositing money on demand in a bank.
To be honest, I very much like Rothbard and appreciate the work he has put forth.
Rothbards model of banking is actually quite similar to the free banking model put forth by White, Selgin, and Sechrest, but it is really a “solution to a nonexistent problem.” Free banking (with Fractional Reserves) is simply superior. His model wastes resources by demanding that 100 percent specie reserve. If money supply is incapable of growing our contracting in response to conditions (such as consumer demand) then monetary equilibrium cannot be maintained.
Now we’re getting somewhere. The fog is lifting for me! We both have the same dim view of FRBs but have different approaches for attacking the problem:
ME: Banks claim to have ready cash on hand to pay back depositors on demand. They don’t actually have the cash. Therefore, let’s expose this fraud by shocking the public: NEWSFLASH: your deposits are actually loans to banks (technically true - just look at any bank’s balance sheet)…and they don’t have anywhere near the cash on hand to pay you back on demand as they promise (again, check out that balance sheet). Tell your children that deposits are loans. Tell them the truth! Terrify your family and neighbors with the ugly truth about banks today. Deposits are really loans!! RESULT: FRBs will crumble as people withdraw their money…Mobs with pitchforks will confront Bernake and any Fed supporters and end the Fed. Hurray!
YOU: Banks claim to have ready cash on hand to pay back depositors on demand. They don’t actually have the cash. Therefore, let’s expose this fraud by insisting on the ideal that deposits are really deposits, ie. funds kept on your behalf by the banks to spend as you direct them to (online bill paying, tuition checks, cash withdrawals for an unexpected Vegas trip). NEWSFLASH: Deposits should be treated as Honorable Deposits. Banks must follow the terms of their contracts and truly have cash on hand to pay back your demand deposit whenever you show up. RESULT: FRBs will crumble as they are shamed into keeping higher reserve ratios and being more conservative.
Am I close? Or was it just wishful thinking that I thought my fog was lifting. We both want FRBs to wither away, don’t we? I think my strategy is better!
I did provide an actual argument, that you simply have decided not to respond to. In the short-run it proves true that a bank can fulfill a limited amount of demands for money. Banks operate under this assumption (that depositors will only demand a certain amount of their money at any given time). However, when the malinvestments produced by credit expansion (resulting from fractional-reserve banking) is finally revealed, historically banks have not been able to meet these demands (i.e. bank runs).
I’m sorry? Checks, like debit, are immediately withdrawn from your account. It is the same as using cash. It is not synonymous with credit, which is debt (even the “credit card” attached to my checking account operates as a debit, it just withdraws the money after three days, instead of doing the transaction immediately).
I think what you’re saying is that you prefer that fractional-reserve banking be exposed emperically versus theoretically. The former is a natural outcome of its usage, but I’m not sure what damage exposing it theoretically/intellectually does.
Yes, yes. We’ve had this discussion before Mises’ views on FRB and feduciary media aren’t clear and apparently change over time. This debate has been done many times.
“Therefore the dangers of credit expansion were not very great as long as the credit expansion was the business of private banks and private businesses subject to commercial laws. As long as the surplus banknote could be returned to the bank of issue for redemption, there was a check on credit expansion, and there couldn’t be credit expansion of any considerable extent”
Fair enough. I disagree heavily the it necessarily produces malinvestment.
If the transfer is to an account at the same the reserves play no role in it, there would not have to be any so far. On the other hand, with an interbank transfer reserves will have to be eventually moved to the other bank through the clearings system. But then still only the account differences will have to be settled, not the total amount of transactions, at the end of the day or any clearing period. This is the source of its great efficiency.
Thinking about it, that is where the majority of the disagreement should be. The way I originally posed the concept was that loaning out of a demand deposit was not fraud if the bank could meet the demand for money. I posed this in a blog post, but neither George Selgin or Lawrence White commented on it (or the idea that over the long-run calculating this demand proved impossible; Selgin embarrassed me since I completely misinterpreted something he wrote in a paper on small change (in regards to Gresham’s Law) and White simply tried to disprove me through historical example, to which I replied that there were enough counterexamples to at least cast doubt on this historical evidence, and so the argument should be done from a theoretical standpoint).
One of the comments in the blog post, however, said that fractional-reserve banking was inherently inflationary. Furthermore, on this forum DD5 responded to my “not fraud if demand is met” argument by saying that the third party is defrauded, referring to this idea of inherent inflation. I don’t think I will comment on that.
I’m not sure how this is relevant to what I said, or what the original argument (in that section of the post) was about. I admit that the language is confusing, so maybe I am missing something. The point is that using money from a checking account is akin to demanding money, as it is akin to physically withdrawing money (or money substitutes) and spending it. The transaction is done immediately, and it is taken from your deposit. Credit cards do not fulfill this function. Credit cards are a method by which to accumulate debt you promise to pay within a specified time period (or else you suffer interest).
The account itself, which is basically bank liability, is money. You pay by transferring it to another account. Your point might have been about using cash. But using cheques is different from using cash because it does not directly involve transfer of the bank’s cash reserves to another bank.
I might have misused this terminology. How do you call such instruments with which I can make transfers from my checking account or withdraw cash through an ATM? Debit cards?
Actually they do, and it has become more obvious in the past few months (due to changes in how checks are processed), where money paid through with checks is immediately transferred from the reserves of one bank to the other (or from one account to another, which should be considered one in the same, as it is the only thing that really matters). The difference in the past few months that I speak of is that the transfer used to take a number of days to fulfill, while now it is done immediately and electronically.
That portion hardly differs from the standard banking fare. Within the book Mises clearly explains “credit expansion” as bankers lending out more money than received from depositors (i.e. surplus banknotes or fiduciary media)
He nevertheless makes it clear that fractional-reserve banking is, in general, bad (as he still believes that there should be limits imposed on credit expansion). The language he uses is not very clear, but I think that it still underscores his argument against credit expansion. He says:
As long as the surplus banknote could be returned to the bank of issue for redemption,…
As I said before, I think this is the key portion of the quote. If the money is being lent from demand deposits, then the banknote cannot be redeemed in money or commodity, because there is already an existing claim for said money and/or commodity. This would be a natural check to the expansion of fiduciary media.
I was always under the impression that malinvestments were due to a lack of a price mechanism in the interest rates - a failure of markets to occur, usually due to government action.
I’m uncertain why an increase in the supply for money should cause malinvestments, all things remaining equal.
Mises explains that when banks issue fiduciary media and loan them out to entrepreneurs they cause the market rate of interest to deviate from the rate of originary interest.
I edited my post by adding bolding and underlining, so that you can understand what he does state at the opening of part 6 and therefore understand the context of what he goes onto analyse in greater detail. he is talking about the use of fiduciary media to extend loans to business.
The key to Austrian business cycle theory, I think, is capital theory; that is, that an increase in the money supply will make investment in first-order goods relative to consumer goods look profitable.
Production of first order goods requires long term investment (eg. Intel chip fabrication plant). The net present value cost of that investment will deceptively appear to be low due to lower interest rates caused by the fiat money supply increase. The appearance of saved real resources available to complete the project is what creates the malinvestment: as the project nears completion, the malinvestment becomes obvious as resources start running out. On the contrary, an increase in the money supply as a result of people saving more than consuming creates a non-deceptive lower interest rate. Long-term capital projects that are initiated can actually be completed. Savers indicated their intention to save in the present and spend in the future…in the future the first order good investment will be completed in order to satisfy supplies needed for their future consumer spending. Perfect! Voila, no malinvestment.