Do banks create money?

screamer

Nah I still don’t get it. When the loan is created, and drawn down in cold hard cash to pay the supplier, how does the bank, which cannot print it’s own money, create that money? It creates a loan but the money used to service that loan is and was already there.
It’s similar to a note, I go in and spend my fiver in aldi, someone else gets it in change and spend it in lidl etc and so on. At the end of the day that fiver has collectively bought 20 quids worth of goods, but it’s still just a fiver being flipped through the system multiple times. I see the bank loans in the same way. Banks don’t create money they create financial transactions.

ILoveYourVibes

orli na nh wrote: »

as soon as someone draws down a loan / mortgage, money is created.

Is money ever destroyed? I'm not talking physically, i suppose debt write-off 'destroys' money, but more is created out of nothing to cover that loss....

It depends on what you mean by destroyed.

When things lose value money is destroyed. But those things might go up in value again.

When equity in a bank shrinks money is destroyed.

When loans are repaid money is destroyed. But you could say its not real money.

Deleveraging technically destroys money its not something you should worry about though.As you reduce the size of your liabilities you reduce the size of your assets so on the books money is destroyed.

ILoveYourVibes

screamer wrote: »

Nah I still don’t get it. When the loan is created, and drawn down in cold hard cash to pay the supplier, how does the bank, which cannot print it’s own money, create that money?

It credits the account ...digitally now i guess. Digital deposits i guess.

Its an IOU?? :P

Quantum Erasure

when the 'money' enters your account, electronically, thats 'created' money. when you get cold hard cash, that is other peoples 'deposits' or petty-cash for the bank, that they create, and ask the Central Bank for, to top up their 'petty-cash'

...

ILoveYourVibes

Oh defaulting also destroys money as well as repaying loans.

Only the bank doesn't get to deleverage in that case and reduce its liability. In fact its liability increases. Also if the defaults are really bad it shrinks a banks equity. But to really be worrying it has to happen on a grand scale like the crash.

Banks should cover themselves with enough equity to handle some defaulting.

Also when equity shrinks ..money is also destroyed. Or at least removed from the system. If that has been set up well by a state or a central bank it can mean other assets are released into other parts of the economy though.

Kind of makes you realize how much you dont know. I kind of feel dumb tryin to understand this stuff :P

Geuze

First of all, note that money = cash in circulation + current account balances

To think about, consider the balance sheet of a bank, which must always balance.
ASSETS = LIABILITIES

Their main assets are loans, but banks can also own cash and bonds, and they can place reserve deposits with the central bank.

Their liabilities consist of share capital and deposits.

Let’s start with no banks, and just cash = 100 in the economy.

Let’s say you start a bank, and accept initial deposit of 100. You place 10 on reserve and lend out 90.

So far assets (10 + 90) equal liabilities (deposit of 100).

The loan is borrowed, spent and deposited back into the banking system.

The second bank, or the same first bank, receives 90 deposit, puts 9 on reserve and lends out 81.

So after two rounds, we are here:

ASSETS = loans of 90 + 81, reserves of 10 + 9, total = 190
LIABILITIES = deposits of 100 + 90 = 190

The money supply has increased from the initial 100 cash, and is now 190.

So an extra 90 money has been created, thanks to fractional-reserve banking.

Next, round three. The 81 gets spent and deposited, and then 8.10 goes into reserves, and 72.90 is loaned out.

And so on, and so on.

Franz Von Peppercorn II

screamer wrote: »

Nah I still don’t get it. When the loan is created, and drawn down in cold hard cash to pay the supplier, how does the bank, which cannot print it’s own money, create that money? It creates a loan but the money used to service that loan is and was already there.
It’s similar to a note, I go in and spend my fiver in aldi, someone else gets it in change and spend it in lidl etc and so on. At the end of the day that fiver has collectively bought 20 quids worth of goods, but it’s still just a fiver being flipped through the system multiple times. I see the bank loans in the same way. Banks don’t create money they create financial transactions.

You don’t need cold hard cash to buy stuff. I think people still think it’s the 19C. In my example where Mary had 100K and John 90K in their bank account after John got the loan they have that electronic money to spend via debit card, standing order, direct debit, money transfer and so on. Between them they can spend 190K and no physical cash needs exchanging. That money is basically currency.

(You are right to think that the amount of cash the bank can issue is limited though. It’s limited to the bank reserves).

ILoveYourVibes

The more equity very liability the bank has the more equity people wanna give em ..always the way ..partic when every other bank is ****ed.

Its why the germans did so well out of the crash.

Franz Von Peppercorn II

Geuze wrote: »

First of all, note that money = cash in circulation + current account balances

To think about, consider the balance sheet of a bank, which must always balance.
ASSETS = LIABILITIES

Their main assets are loans, but banks can also own cash and bonds, and they can place reserve deposits with the central bank.

Their liabilities consist of share capital and deposits.

Let’s start with no banks, and just cash = 100 in the economy.

Let’s say you start a bank, and accept initial deposit of 100. You place 10 on reserve and lend out 90.

So far assets (10 + 90) equal liabilities (deposit of 100).

The loan is borrowed, spent and deposited back into the banking system.

The second bank, or the same first bank, receives 90 deposit, puts 9 on reserve and lends out 81.

So after two rounds, we are here:

ASSETS = loans of 90 + 81, reserves of 10 + 9, total = 190
LIABILITIES = deposits of 100 + 90 = 190

The money supply has increased from the initial 100 cash, and is now 190.

So an extra 90 money has been created, thanks to fractional-reserve banking.

Next, round three. The 81 gets spent and deposited, and then 8.10 goes into reserves, and 72.90 is loaned out.

And so on, and so on.

That’s wrong because deposits are not reserves. The banks need their own reserves to pay out money not a percentage of the deposits.

(The only exception is if the money was paid in in cash.)

Most people are thinking like it’s the 19C, but it isn’t. Most deposits made with a bank would be electronic transfers. This has no effect on the banks reserves but it increases their liabilities.

Geuze

screamer wrote: »

Nah I still don’t get it. When the loan is created, and drawn down in cold hard cash to pay the supplier, how does the bank, which cannot print it’s own money, create that money? It creates a loan but the money used to service that loan is and was already there.
It’s similar to a note, I go in and spend my fiver in aldi, someone else gets it in change and spend it in lidl etc and so on. At the end of the day that fiver has collectively bought 20 quids worth of goods, but it’s still just a fiver being flipped through the system multiple times. I see the bank loans in the same way. Banks don’t create money they create financial transactions.

The loan is matched by a customer's deposit, or other bank liability.

Example:

You set up a bank, inject 100 capital, borrow 100 in bonds, accept 100 in deposits.

Your bank now has 300 in liabilities, and of course 300 in assets.

You keep 30 in reserve, by placing it on deposit with the CB, then you lend out the 270.

ILoveYourVibes

Franz Von Peppercorn II wrote: »

That’s wrong because deposits are not reserves. The banks need their own reserves to pay out money not a percentage of the deposits.

(The only exception is if the money was paid in in cash.)

Most people are thinking like it’s the 19C, but it isn’t.

Their equity is their reserve.

Sometimes state bodies help such as quantitative easing.

Also the difference between capital/assets/equity and liability depends on a countries regulations. But often its common sense tbh unless you are shifty which will be obvious to all around.

Its pretty obvious when a country is trying to use its liabilities as its assets and thus equity. Everything is really expensive and people are cash poor but its still somehow flying everywhere.

KyussB

sbsquarepants wrote: »

I can never wrap my head around this stuff.

The bank can't create money for itself, but it can to lend to someone else?

So in theory, bank A wants money, it approaches bank B and says "giz a lend of a tenner till payday". Bank B says i don't have it, so bank A creates the tenner, lends it to B who owes them 11 now, B lends back ten and A now owes B 11 too.

The debts cancel each other out but A now has a tenner?

Fúcking sweet

There's no legal way to do that, even though it is technically possible - I believe that banks in Greece were caught doing something much like that, to shore up their balance sheets, and were done for fraud.

Geuze

Franz Von Peppercorn II wrote: »

That’s wrong because deposits are not reserves. The banks need their own reserves to pay out money not a percentage of the deposits.

(The only exception is if the money was paid in in cash.)

Most people are thinking like it’s the 19C, but it isn’t. Most deposits made with a bank would be electronic transfers. This has no effect on the banks reserves but it increases their liabilities.

The initial deposit was in cash in my example.

Whether a deposit arrives in cash or electronically - both increase the bank's liabilities, and in both cases the bank must then hold more reserves at the CB.

Min reserve requirements are a % of deposits, AFAIK.

https://www.ecb.europa.eu/stats/policy_and_exchange_rates/minimum_reserves/html/index.en.html

Geuze

Whether money is created from deposits or loans is not a useful debate IMHO.

The process of deposit-taking and loan-making by commercial banks leads to money creation, i.e. increases in the money supply.

Geuze

ILoveYourVibes wrote: »

Their equity is their reserve.

Sometimes state bodies help such as quantitative easing.

Also the difference between capital/assets/equity and liability depends on a countries regulations. But often its common sense tbh unless you are shifty which will be obvious to all around.

Be careful with language here.

Bank reserves at the CB are not the same as bank capital.

ILoveYourVibes

Geuze wrote: »

The loan is matched by a customer's deposit, or other bank liability.

No its not.

Bank loans far outweigh customer deposits. Even sound banks. It doesn't work like that.

Banks extend credit in reality.

Also there is a tendency for banks to lend then look for equity or reserves later. Ireland is just **** at looking for equity.

ILoveYourVibes

Geuze wrote: »

Be careful with language here.

Bank reserves at the CB are not the same as bank capital.

At times they are...

TheChizler

ILoveYourVibes wrote: »

No its not.

Bank loans far outweigh customer deposits. Even sound banks. It doesn't work like that.

Banks extend credit in reality.

Source? I've read that a loan to deposit ratio of 80-90% is the norm.

ILoveYourVibes

KyussB wrote: »

There's no legal way to do that, even though it is technically possible - I believe that banks in Greece were caught doing something much like that, to shore up their balance sheets, and were done for fraud.

Wasnt that the libor scandal in the UK too? Or they were inflating their trades with each other and they all knew about it or something?

ILoveYourVibes

TheChizler wrote: »

Source? I've read that a loan to deposit ratio of 80-90% is the norm.

That figure would mean the loans do out weight the deposits.

Also that might be the textbook ideal..actually i would argue its not ideal at all.

Its not reality though. I don't even think its ideal in reality.

I don't think banks should rely on deposits for equity. That would worry me.

KyussB

Geuze wrote: »

First of all, note that money = cash in circulation + current account balances

To think about, consider the balance sheet of a bank, which must always balance.
ASSETS = LIABILITIES

Their main assets are loans, but banks can also own cash and bonds, and they can place reserve deposits with the central bank.

Their liabilities consist of share capital and deposits.

Let’s start with no banks, and just cash = 100 in the economy.

Let’s say you start a bank, and accept initial deposit of 100. You place 10 on reserve and lend out 90.

So far assets (10 + 90) equal liabilities (deposit of 100).

The loan is borrowed, spent and deposited back into the banking system.

The second bank, or the same first bank, receives 90 deposit, puts 9 on reserve and lends out 81.

So after two rounds, we are here:

ASSETS = loans of 90 + 81, reserves of 10 + 9, total = 190
LIABILITIES = deposits of 100 + 90 = 190

The money supply has increased from the initial 100 cash, and is now 190.

So an extra 90 money has been created, thanks to fractional-reserve banking.

Next, round three. The 81 gets spent and deposited, and then 8.10 goes into reserves, and 72.90 is loaned out.

And so on, and so on.

The added trick though, is that banks lend out money first, then shore up their reserves later on the interbank market - if banks can't shore up their reserves on the interbank market, the central bank is the lender of last resort - and the central bank will never refuse to shore up a banks reserves.

In effect, this means banks don't operate based on fractional reserve - because the central bank can be relied upon to always step in - the real restriction is based on collateral requirements.

Geuze

ILoveYourVibes wrote: »

No its not.

Bank loans far outweigh customer deposits. Even sound banks. It doesn't work like that.

Banks extend credit in reality.

Also there is a tendency for banks to lend then look for equity or reserves later. Ireland is just **** at looking for equity.

OK, in reality banks have other assets than just loans.

And other liabilities than just customer deposits.

By May 2018 the loan-to-deposit ratio was 0.88

https://www.centralbank.ie/docs/default-source/statistics/data-and-analysis/credit-and-banking-statistics/bank-balance-sheets/money-and-banking-statistics-may-2018.pdf?sfvrsn=4

Developments in loans and deposits mean that Irish households continued to be net funders of the Irish banking system. Banks held €12.5 billion more in
household deposits than loans at end-May, with the loan to-deposit ratio standing at 0.88 (Chart 3). This was a series low for this ratio.

Geuze

ILoveYourVibes wrote: »

That figure would mean the loans do out weight the deposits.

Also that might be the textbook ideal..actually i would argue its not ideal at all.

Its not reality though. I don't even think its ideal in reality.

I don't think banks should rely on deposits for equity. That would worry me.

By now, loans are less than deposits in the Irish banking system.

However, ten years ago, banks borrowed from abroad to meet loan demand, as loans exceeded deposits.

ILoveYourVibes

Geuze wrote: »

OK, in reality banks have other assets than just loans.

And other liabilities than just customer deposits.

By May 2018 the loan-to-deposit ratio was 0.88

Exactly.

To be honest it would be difficult to quantify on here with modern international banking what those assets and equities might be. And i have not studied the international banking system well enough tbh.

https://www.centralbank.ie/docs/default-source/statistics/data-and-analysis/credit-and-banking-statistics/bank-balance-sheets/money-and-banking-statistics-may-2018.pdf?sfvrsn=4

Developments in loans and deposits mean that Irish households continued to be net funders of the Irish banking system. Banks held €12.5 billion more in
household deposits than loans at end-May, with the loan to-deposit ratio standing at 0.88 (Chart 3). This was a series low for this ratio.

Exactly. Very strange way to go about modern banking.

Geuze

Banking balance sheets are published:

https://www.centralbank.ie/statistics/data-and-analysis/credit-and-banking-statistics

https://www.centralbank.ie/statistics/data-and-analysis/credit-and-banking-statistics/bank-balance-sheets

ILoveYourVibes

Geuze wrote: »

Banking balance sheets are published:

https://www.centralbank.ie/statistics/data-and-analysis/credit-and-banking-statistics

https://www.centralbank.ie/statistics/data-and-analysis/credit-and-banking-statistics/bank-balance-sheets

I wouldn't go believin dem too much in this country..:pac:

Geuze

ILoveYourVibes wrote: »

I don't think banks should rely on deposits for equity. That would worry me.

Note that customer deposits are different and separate than shareholders equity capital.

In 2018 AIB had 67.7 bn in customer deposits, and 13.9bn in equity.

https://aib.ie/content/dam/aib/investorrelations/docs/resultscentre/resultspresentation/aib-annual-financial-results-2018-presentation.pdf

KyussB

Geuze wrote: »

Whether money is created from deposits or loans is not a useful debate IMHO.

The process of deposit-taking and loan-making by commercial banks leads to money creation, i.e. increases in the money supply.

What's useful about the debate, is that it leads to a lot of open-ended questions, that when followed to their logical conclusions, tear giant gaping holes clean through a lot of the political/economic narratives, over how countries should be run.

Questions like:
Don't public banks run this way, too?
What if a public bank funded government projects?
What if you then cut out the middle man?

There's also the interesting thing, where a lot of economics assumes that Savings (i.e. Deposits) lead to Investments - the heart of the narrative, of the wealthy being the job creators etc..

This debate shows people, that it's actually Investments (Loans) that lead to Savings (Deposits) - the complete reverse...

There are all sorts of things, that this subtle realization, tears a complete hole in - gradually transforming the entire narrative, of most of todays economics.

ILoveYourVibes

Geuze wrote: »

Note that customer deposits are different and separate than shareholders equity capital.

obviously....those aren't the only way banks can raise equity tho

KyussB

ILoveYourVibes wrote: »

Wasnt that the libor scandal in the UK too? Or they were inflating their trades with each other and they all knew about it or something?

Ah that was fixing the foreign exchange estimates, I believe It was to help them shore up reserves at some times (I think...a while ago, now - don't remember how that worked), and at other times (I don't recall fully) it was to manipulate rates to net them gigantic profits on key deals or such.

All of the gains, basically came out of the pockets of people who had e.g. mortgages or other financial instruments, rated based on the LIBOR rate - which considering it affected most governments around the world (who dealt with banks and often were using such instruments), was pretty much every living person on the planet. One of the biggest frauds in history.