Thursday, 23 September 2021

Fractional reserve banking: the fraud which banksters fooled politicians into supporting.


Fractional reserve banking is fraudulent because it involves banks, 1, accepting deposits, 2, lending out money, and 3, telling or suggesting to depositors that their money is safe, which it clearly isn't because if a bank makes enough silly loans (which any bank is likely to do at some point in its history) it is then unable to repay depositors their money. Or to be more accurate, fractional reserve has certainly been fraudulent for a large majority of its history, i.e. up to the introduction of government run deposit insurance schemes (early 1930s in the US and a few decades later elsewhere).

Of course, given deposit insurance (and bank bail outs) fractional reserve is no longer fraudulent because the promise by banks that depositors' money is safe is an accurate and honest promise since the promise is backed by the full weight of the state and the near infinite amounts of money the state can grab off taxpayers to make good that promise.

But that's simply a way of saying that banksters got politicians to support the fraud in which they specialise.

And if you still aren't persuaded that fractional reserve (absent government support) is fraudulent, consider the fact that mutual funds, unit trusts, private pension funds etc must inform investor / savers loud and clear that their money is at risk, else those responsible for failing to make that clear will be in court accused of fraud. At least that's certainly the law in the UK, and doubtless several other countries.

To summarise, the idea that government should support a type of fraud is just laughable.


Ban the fraud or just curtail it a bit?

And that of course raises an obvious question, namely should that fraud perpetrated by private banks be banned outright, or should the fraud to turned into a non-fraudulent activity by the simple expedient of making banks abide by the same rules as mutual funds, pension funds etc. In other words should a bank be allowed to tell depositors that the bank will make every effort to repay a depositor $X for every $X deposited, but that there is no absolute guarantee it will be able to do that (rather than suggest depositors' money is safe)?

Well that all depends on whether there are significant systemic risks stemming from the latter hypothetical arrangement, doesn't it? Indeed, the latter is very much an example of the principle widely accepted in economics, namely that harmful externalities (e.g. pollution) should not be allowed.

I'm fairly sure that if banks were required to publicise the latter “we'll make every effort but can't guarantee anything” point, then the so called money they create would be reduced to the status of Bitcoin, namely that it would certainly become a TYPE OF money, but only chancers, gamblers and criminals would be interested in it.

In contrast, the bulk of the population and small / medium size firms understand money to be composed of units which are ABSOLUTELY GUARANTEED not to lose value (inflation apart). And what do you know? There's already billions of dollars worth of that sort of money in circulation! That's central bank (CB) issued money (often referred to as “base money”). Thus any deficiency in the amount of money that would result from openly declaring private bank issued money to be only a form of quasi money could easily be made good by expanding the stock of base money.

Does base money circulate?

Now some readers may object to the latter paragraph on the grounds that base money does not get into circulation. Well firstly, PHYSICAL money ($100 bills etc) is a form of base money, and that's very much in circulation.

As to the bulk of base money, which comes in digital form, it certainly might seem it only exists in the accounts of a few privileged private banks – accounts held at the CB. However, that's actually misleading, and for the following reason.

Central banks often have reason to pay money to non bank private sector entities: e.g. if you sell some government debt to the central bank as part of the QE operation, you'll get a cheque from the CB, which you'll deposit with your private / commercial bank, which in turn deposits the money at the CB. But you have complete control over that money! E.g. you can turn it into physical money whenever you want. Thus in effect, your commercial bank simply acts as agent for you when you want to withdraw or transfer some of your stock of base money. Ergo that base money is effectively in general circulation.

Indeed, under full reserve banking as proposed by Positive Money and others, that “agent” arrangement is formalised in the sense that under Positive Money's system, anyone can hold an account at a private bank which is totally safe, NOT BECAUSE government has backed private bank created money, but because money in those accounts is 100% backed by base money held by their commercial bank at the CB.



So to summarise, we need to ban the age old fraud perpetrated by private banks, namely telling depositors their money is safe when it quite clearly isn't. Plus government support for that fraud (in the form of deposit insurance and bank bailouts) should cease.

Instead, private banks (as long as systemic risks do not ensue) should be allowed to revert to SOMETHING LIKE their age old fraud, i.e. telling depositors their money is safe, but with the difference that they make it clear that depositors' money is not in fact totally safe.

That would reduce privately issued money to something like the status of Bitcoin, i.e. it would reduce it to quasi money, which would be of little interest to about 90% of households and small/medium sized firms. And that in turn would require a big expansion in the stock of base money.

And what do you know? The latter arrangement equals full reserve banking, or at least something close to full reserve.


The tired old “privately issued money is stimulatory” canard.

A final and feeble excuse for privately issued and government backed money is that it is stimulatory. Well the simple answer to that is that absent that form of money, stimulus can perfectly well be implemented by issuing more base money: exactly what governments have done over the last ten years on an unprecedented scale in reaction to the GFC and Covid.

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