I wrote this post as a response to an article I find much agreement. While not dispelling the comments about Fractional Reserve banking, my attempt is to center the discussion on what banking actually is, a system of liabilities all of which involve the bank, in that in truth they have no assets other than what they can post as true capital.
The sad point Pater is the worse this situation gets, the more actions the governments of the world take to cover up the fraud. I don’t even believe in the term fractional reserve, as it is even more extreme than that. The term is actually deficient, as the reserves in the banking system are nothing but credits of other banks. The cash represented by the Fed balance sheet doesn’t even exist in the banking system, but has already been paid out by the banks and is in hoards around the world. This doesn’t mean it is not available for deposit, but that it doesn’t exist on the balance sheet.
The only way a true run on a bank would be successful is if the runs were universal, thus the money not redeposited somewhere. But, absent a guarantee, anything that had to be cleared through the system likely would be demanded by the receiving bank in cash and the liable bank couldn't pay. Reserves follow credit, not precede it. In fact, as long as there is not a second bank involved, the originating bank can merely shift money from one account to the other as it changes hands between customers. I suspect that within 10 years, only interbank transactions will be allowed and the idea of pay to the order on demand will be lost. Such is the lure and power of a perpetual fraud.
In truth, I don’t believe reserves exceed the capital of a bank. In order for there to be any legitimacy in banking at all, the banker has to have skin in the game. Otherwise, he is merely lending his own IOU’s. I have a document somewhere that was filed in Federal court which lists the court cases in the US that forbade a bank from lending its liabilities. The rulings mentioned on bailment border on absurdity, as the money on deposit at the bank is clearly a liability of the bank and not an asset. The great secret is the entire balance sheet is nothing but liabilities. The bank is liable for its asset in that if they don’t perform, the bank has to perform. They made themselves liable when the created the loan. They are liable for the loan, not the customer. The customer has merely pledged his credit or his collateral.
The banks assets are only good to the extent the borrowers on these loans can acquire the liabilities of the banking system. There is no other species in circulation other than the coin of the United States or whatever other country is involved. If the Fed is creating new deposits by financing the treasury directly, then these are also bank liabilities. This runs a lot deeper than the nonsense that the problem with banks is a mismatch of maturity and runs directly to the solvency of assets on the balance sheet. These assets represent the banks liabilities and if the bank can’t be liable for the losses on the assets, then under any imaginable form of law, they aren’t a legitimate business, but a Ponzi scheme.
The system of credit doesn’t bother me as much as the fraud that is going on about the solvency of the banking system. That any regulated industry that is likely short of capital should be allowed to engage in partial liquidation of its capital positions disturbs me. They call these stock buybacks, but what they are in truth is a liquidation. Lets see what happens when the FDIC serves its purpose of guaranteeing deposits and not the other sources of financing in the banking system when a partial liquidation is undertaken? In a free market, I have to believe that the bond holders of the banks would get nervous. They maybe already have.
The incapacity of the regulators to enforce haircuts in the system, as opposed to bailouts is astonishing to me. For all practical purposes, the 4 or 5 largest banks in the US should have failed. The shareholders should have absolutely no interest in these institutions and the officers of these institutions and their financial practices should have been investigated. The bondholders should have owned the banks in reorganization and in most cases, the deposits wouldn’t have been touched.
I bring this last point up because the only way to have saved this ponzi system was to destroy its components in the short term. The haircuts are not optional and it is clear they are planning on taking the losses out of the side of the depositor and not the banker. The entire rule of law has been stood on its head in this instance, going back to the cases that Rothbard mentioned in his book, the mystery of banking. I need to read the remainder of that book, but then again I have read the modern story too many times.
One more thing. The only truth in the money and banking courses taught in college is that commercial banks create money when they make loans. It absolutely astounds me that the focus of these courses is the nonsense about reserves and the fed doing this nonsense and that nonsense when the only truth that can be gleaned out of this course is that banks create deposits and thus money supply when they make loans. They all get back to what account the bank takes the money from when there isn’t any account. The guy that wrote that rebuttal mentioned above seems to totally miss that idea. Those that talk about fractional reserve miss the point as well. Banks don’t keep reserves, as it is a total nonsense to keep people talking about something. They borrow back what leaves the bank. There are no reserves.