I’ve been thinking about the claims that fractional reserve banking constitutes fraud. Particularly that, “its fraud because the bank may not be able pay all depositors on demand.” (due to all depositors showing up at once). If you honestly believe this is fraud do you also consider insurance to be a form of fraud, as its possible that a large number of people could be harmed, so many that the insurance company couldn’t pay up?
Could someone explain the difference?
Clearly fraud.
I guess insurance should be outlawed.
Immediately.
Do we agree that in the event of a catastrophe, and in the event that the insurance company cannot fulfill the contracts they signed based on their accumulated profits, then they should fulfill the contracts based on their assets? In other words, that they should be held responsible for their “miscalculation” (or bad luck).
This, admittedly, does not directly respond to your question. In other words, fractional reserve banking may not constitute fraud, but in the event of a bank failure we agree that the bank should still be responsible for the contracts it signed, correct?
Insurers can miscalculate the likelihood of an event, which is why they need to be properly capitalized against loss. Would you buy insurance from someone with no money of his own?
Since the probability of a total loss of deposits (bank run) under FRB is 100%, then the bank needs to have 100% capital to prepare, i.e. full reserves.
I think the way Angurse has approached the problem can lead to confusion. I think that the debate that may unfold in this thread will be identical to the debate which already took place in the fractional-reserve banking thread. I don’t think that Angurse is arguing whether or not fractional-reserve banking will lead to failure (he may not agree that it does, but that is not the point that he is trying to make). That’s why I asked my question; it would make Angurse’s point much clearer. Of course, I may be completely off base in my interpretation of Angurse’s question.
Yes.
Yes.
Warehousing vs. gambling… That’s the best I’ve got. Either way there is a contract to pay out.
This q really got me thinking. You could also put it another way, what is the difference between insurance and FRB and gambling in Vegas?
I think that FRB is not fraud if it is clearly understood by all parties that the money they deposit actually disappears and is lent to someone else, and that the promise to pay on demand is provisional on there actually being cash on hand to hand over. How can it be fraud if all the facts are clearly stated in advance and both parties voluntarily agree? I think it was only called fraud in the olden days when it happened behind people’s backs. They deposited money and thought it was just sitting there safely.
Of course one can argue that since the bank promises to return the depositor’s money on demand, then they they are lying. Well, yes and no. Everyone knows that the bank means “on demand if we have it, and if not we owe it to you, because we are lending out your money to someone else.” You know it, I know it, does anyone not know it?
And if that’s the only problem, that some people don’t know it, why it’s easily remedied. All the bank has to do is put in yet another line of fine print spelling it out. Maybe they already do. Has anyone ever read what they have hidden in those tiny letters?
Just for the record, here’s a definition of fraud from dictionary.com: Deceit, trickery, sharp practice, or breach of confidence, perpetrated for profit or to gain some unfair or dishonest advantage.
So if it’s all spelled out it’s not fraud. No one is being deceived or tricked.
“Calculating the likelihood” isn’t a guarantee. An unexpected disaster could occur.
If the bank calculates it to be less than 100% are they no longer committing fraud (assuming it would be fraud at all).
The claim that you would not buy insurance from someone with no money to pay his claims is different from the claim that it should (somehow) be illegal to take such insurance. Selling insurance you’re likely not to be able to cover might be a bad business model, and might only be able to sell to stupid people, but is it fraud?
Furthermore, in the insurance case, would you require that all the assets be held in cash? I’d be comfortable buying insurance knowing he has buildings and so on. Banks have buildings.
Well, insurance in an uninsurable risk is usually referred to as “gambling” but that isn’t all that helpful, given that casinos are full of insurable risk. The basic idea is that a risk is insurable just in case the odds are calculated only over a group and nothing more is known about the individual. So my house burning down accidentally is an insurable risk, whereas me burning my house down is not an insurable risk, since I as the individual control it. Indeed, this is why fire insurance doesn’t include arson. You might think an insurance company could, if it chose, offer a policy that applies to everything, including arson, and just charge a higher premium for the increased exposure to risk. In fact, though, this wouldn’t be insurance, it would be gambling.
Similarly, this is why the talk about “preexisting conditions” is too stupid to bother answering. If I insure a group of healthy people, and then give the same policy (same risk pool) to someone with advanced heart disease, I am not in the insurance business anymore, I am gambling, and gamblers eventually lose. The only way I can cover this person is to stratify risk, that is, to have a different policy and risk pool for people with heart disease - then, in that group, there is again a known risk over the group but unknown over the individual.
No, because the true risk (in fact no risk at all, more than a certainty) is 100%.
Imagine an insurer that takes money to insure people from floods and then spends all the money on sports cars and casino romps. When the flood comes, can they say “sorry, I can’t pay you back right now, my luck is down”? No, they have defrauded the people who bought insurance from them. All of their wealth must be seized to make their victims whole.
This is what fractional reserve banks do, they take money that people deposited with them and spend them on things that their depositors did not agree to.
Insurance is just a form of voluntary socialism and as such it’s not a very good system. But comparing it to fraudulent reserve banking is yet another example of confused thinking (on your part).
Failures in business calculation are not fraud. Fractional-reserve banking is not necessarily fraudulent … it depends on how the account contract is worded. If the bank merely “promises to repay” the amount which the customer has in his account, fractional reserves are not fraud. However, if the account contract specifies that the bank will safekeep the money until it is withdrawn, fractional reserves are fraud. In a free banking system, there is no reason to believe that customers would freely choose the weasel-worded contract when they can walk across the street and get the real deal. In other words, customers would freely choose banks which commit themselves to full reserves over those which try to inflate their ledgers and banknotes.
Clayton -
I agree with the last sentence, just apply it to a fractional reserve bank and the problem is solved. The assets of the banks should be sold to pay back all the depositors.
Please explain why.
Insurance is just voluntary pooling property in order to cover a very limited amount of unforeseen accidents. Insurance doesn’t solve any real problem, it just lets some people pay other people’s bills.
But…that has nothing to do with FRB.
The point of insurance is irrelevant. Whats the difference between a bank not being able to pay all depositors say, during a bank run, on demand and an insurance company, say, after a disaster?