Monday, 30 May 2016

Our bank system is subsidised in three ways.

The existing bank system (sometimes called “fractional reserve banking”) is subsidised in three ways, as follows.

1. Unlike private insurance companies which do not provide a 100% guarantee that claims will be met (because those companies can go bust), STATE backed (i.e. taxpayer backed) deposit insurance CAN provide a 100% sure guarantee because almost any amount of money can be grabbed off taxpayers to back the guarantee. Alternatively, the state can get its central bank to print  near limitless amounts of money to rescue banks and depositors: exactly what happened in the recent crisis. That’s a subsidy – never mind the fact that loans to banks in trouble were made at near zero rates of interest, rather than Walter Bagehot’s “penalty” rate.

2. A popular argument for deposit insurance is that it means more deposits & thus more lending and investment and hence, allegedly, more growth. But exactly the same argument applies to ALL OTHER forms of loan: e.g. bonds issued by corporations (bank and non-bank corporations, and indeed cities – you name it). Thus deposit insurance constitutes preferential treatment for (i.e. a subsidy of) a PARTICULAR form of lending: lending done via bank deposits.

3.  Any expansion in the fractional reserve bank system (i.e. increased loans made by such banks) boosts demand. Assuming the economy is at capacity, that extra demand is not allowable because it would cause excess inflation, thus the state has to compensate by imposing some sort of deflationary measure. The latter invariably amounts to confiscating financial assets from the private sector. To take a simple example, one form of deflationary measure is to increase taxes and “unprint” the money collected (i.e. a negative helicopter drop). That confiscation amounts to a subsidy of fractional reserve banking funded by the “confiscatees”.


  1. Let us be clear regarding the definition of a "subsidy" in ordinary language and also as used in economics.
    A subsidy is financial assistance given by a government to an industry, business, group or person.

    There are indeed 3 types of subsidy with our (UK) banking system.
    (a) Deposit insurance provided by the state.
    This is a type of subsidy because the Government makes payments to depositors in failed banks.
    (b) "Lender of Last Resort" facilities provided to commercial banks.
    This is type of subsidy because financial assistance is given by the Government at below market rates of interest when banks are short of liquidity.
    (c) "Bailouts" of "Too Big to Fail" banks during financial crises.
    This is a type of subsidy because various types of equity, loan and other financial assistance is given to banks at below market rates to prevent their failure.

    Ralph mentions (a), (b) and (c) in his item 1.
    Ralph's item 2 mentions (a) again, but does not provide a distinct further type of subsidy.

    Ralph's item 3 does not mention any further type of subsidy.
    Raising taxes to manage the economy is not a subsidy to anybody. [Indeed, raising taxes is the opposite of subsidy since subsidies are logically negative taxes.]
    Thus Ralph's item 3 is completely irrelevant to the issue of subsidies. Moreover the macroeconomic theories propounded are dubious.

    1. “Ralph's item 2 mentions (a) again, but does not provide a distinct further type of subsidy.” Hmmm. Bit semantic this, but I’m sticking to my claim that there are two different subsidies there. To illustrate, if government guranteed ALL FORMS of loan, that would be a subsidy of all forms of loan. In practice, government guarantees just ONE FORM of loan, i.e. loans made by banks using depositors’ money. That constitutes, as I said above, PREFERENTIAL treatment for banks and depositors, which I claim is a separate subsidy. But as I say, that’s a bit semantic.

      Re 3, raising taxes certainly IS A SUBSIDY in some cases, e.g. where taxes are used to fund activities that a free market would not provide, e.g. imposing law and order, and educating kids. But we all accept that various subsidies of that sort are desirable, so no problem there.

      However, when it comes to private banks’ “print money and lend it out” operations, I’m saying that that has a stimulatory / inflationary effect, which governments have to counter by confiscating base money from taxpayer / citizens. That constitutes a subsidy of private banks paid for by taxpayer / citizens.

      Exactly the same point applies to back street counterfeiters. Instead of doing what private banks do, i.e. “print and lend”, counterfeiters “print and spend”. That activity again is paid for or subsidised by taxpayer / citizens.

      Re that point being “dubious”, I agree that my point is novel, and I look forward to debating it with anyone, with a view to determining whether the point really is watertight or not. I set out my point in more detail in the paper at the top of the left hand column (which I’m re-writing).


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