Ok folks. I admit it: I am a bit confused with the idea of money destruction (but I am still new to all this so cut me some slack heheh).
The money multiplier (in regards to fractional reserve banking) shows us that at a 10 percent reserve requirement, the amount of money that can be created is 10 times whatever the initial deposit was. Where I am confused is, though this seems to show a high degree of inflationary troubles, wikipedia states that money destruction also exists and can exist during these FRB transactions. Can someone help me with this dilemma so I can sleep in peace haha? When does money destruction come into play and why doesn’t Rothbard talk about this?
Obviously I am at least in favor of only allowing banks to engage in FRB if they disclose to depositors that that is exactly what they are doing. With that being said, it seems like the only ethical way this can be accepted is if their is no state force on people to accept one money over another. So if you don’t like FRB or holding dollars, you can get out of all of it, and store your money (gold, silver, whatever) where you deem it to be safe ie. warehouse.
Do you mean when FRB loans are paid back and not replaced with additional loans (banks increase their prudence and customers are reluctant to take on more credit)? That tends to cause a reduction in the money supply…
Money destruction refers to a shrinkage of the money supply which can be caused by people withdrawing cash from a bank which lowers its reserve potential, by the treasury destroying more old coins and notes than it produces, and by the Federal reserve practicing quantitative tightening.
Rothbard probably didn’t mention it because it rarely happens to any significant degree?
Thanks very much for the quick replies. I am going to have to let this sink in a bit.
But here is where this was discussed: www.wikipedia.org/wiki/Money_creation and what was said was just above the Lending Cycle chart: “When a loan is supplied with central bank money, new commercial bank money is created. As a loan is paid back, the commercial bank money disappears from existence.”
I must be confused but it makes it seem like once the loans are repaid, the commercial bank money is destroyed…
Realize that most of the money in circulation does not exist in paper or coin but in virtual debits and credits, so the money isn’t ussually destroyed in the conventional sense of burning bills or melting coins, rather it is just wiped off the electronic ledger.
When the loans are repaid to the Fed, the bank’s fractional reserve lending (money creation) potential is reduced.
Hmm ok. Can someone create a scenario of lending taking place within a fractional reserve system? And show how money is created to supply new loans (while the old deposit is still capable of being used) and how the new money supply is then destroyed. And if all the new inflationary money is destroyed how is the process in the end an inflationary one?
Now $8889 of that is electronic and when the loan is paid back it is wiped of the ledger (allegedly) so the bank is left with the original $1111 and the interest paid on $10k over time, some portion of that (Average is a low %) is credited to the original depositer in an interest gaining savings account, the rest is the banks money, this is how the bank makes money. The issue is, and I could be wrong, and would like someone to CORRECT ME IF I AM, that $1111 is split into two piles (90% and 10 %), the 90% is deposited into the loan takers bank and does the same thing, this goes on to the tune of $100k of electronic money being supported by $1111. The problem with this is, a) Loans take time to repay, b) some loans are defaulted, c) it relies on there being NO BANK RUNS…
So the inflationary money is there as long as the loan is being paid, not until the entire loan is paid off, and if it is defaulted, I believe it is never destroyed, if there is a bank run, well we know what happens then…
Interesting. So since most of the time loans are paid off, why does Rothbard always harp on how inflationary deposit banking can be? I sure wish I could get a better grasp of this. It seems like the electronic money wouldn’t add all that much to the money supply (at least not nearly to the extent that the common but apparently inaccurate understanding that banks through FRB create massive new amounts of money)
Luckily I may find some more answers to this as Rothbard’s Man, Economy and State is in transit to my house heheh.
The problem is when the loan is deposited in the bank by Recipient A (the person recieving the loan money from the lendee), it is then lent out again, so on and so forth, the real funny thing is, the last physical money report had the total money in the “system” to be 5% physical cash and 95% electronic credit…
Perhaps libertarians and/or austrian economists should aspire to the banking businesses?
I’d imagine quite a massive money destruction event would occur when bank managers send their customers forewarning on the economic atmosphere & inspire massive amounts of money being withdrawn from circulation…
Hmm yea. So in your estimation, what causes more inflation- the commercial banks under FRB or The Federal Reserve through its Open Market Operations, quantitative easing etc?
And in FRB, it appears that the only time the bank’s new credit is ended is when the checking account money is pulled out of the bank’s deposits or when the Federal Reserve tries to soak up the new money. Is this accurate?
I’m pretty certain they have laws against such actions?
A far as which is more inflationary, FRB or Fed antics, I couldn’t say without crunching many numbers. I’d imagine FRB by itself is relatively harmless when practiced by independant banks dealing in competing currencies but as it became the formal standard operating procedure utilizing a single legal tender and sustained by a central bank it is certainly a major monkey on our back.
These are realistically the same, because all the commercial banks under FRB are part of the FRS in the US…
I believe the commercial bank has to report the loan paid, then the “credit” is destroyed, but this requires to see the actual conracts between the FR and the Bank, which I am not sure we can have legal access to…
I agree, that if the massive centralization were not a factor, FRB would not be so much an issue, though I admit that most banks would either shy away from the practice, their “fraction” would be a lot lower or their interest on deposits would be higher to encourage keeping your money in their bank longer…
as you pay back the loan to a particular bank, that bank, to keep its deposit/reserve ratio constant, will be making loans to other people.
i.e. as long as there is a constant seed money from which the money supply can be money multiplied through FRB , (assuming a stable reserve ratio, and no bank run) the total money will be roughly constant as any ‘destroyed’ money from old agreements is offset by ‘created’ money from new agreements.
(also assuming no explicit quantitive easing or print new money central bank policy)
Well I still fairly unqualified to speak of the exact inflationary effects of FRB but even he says that FRB creates a one time inflation of prices (provided there is no central bank). And to me that in itself is enough to say it should be illicit in a libertarian setting (unless people are willing and knowledgeable participants in this enterprise. They also must be willing and knowledgeable that they are laying claim to money that all parties cannot use at the same time (which means there is a problem with the rights of that property).
At present, what I would say is: no type of money should be forced or enforced on anyone. People using any system of money that are participating in FRB should be told what is really happening to their money. And the type of money that is being ‘created’ can only be allowed if it is being conducted by one bank only. For if there was a group of banks where some were practicing FRB and some were practicing full reserve banking, then all customer’s purchasing power would be reduced and the non FRB customers would be cheated without their knowledge.
Damn I wish Murray Rothbard was around to debate and explain this. Has anyone here read Man, Economy and State? Does Murray deal a lot with this very complicated FRB question?