100% reserve banking
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I should have added Steve Baker to the list of currency cranks in parliament. He supports the US Tea Party and wants to abolish the Federal Reserve and, presumably, the Bank of England:https://www.youtube.com/watch?v=HXnavnAvMVMhttp://www.stevebaker.info/2014/11/understanding-the-money-creation-and-society-debate/He runs the Cobden Centre and is an admirer of Baron Ludwig von Mises.And of course there's Caroline Lucas and the Green Party.
Just read through the whole debate. It was obviously made for MPs with odd ideas on money.Here's Douglas Carswell, once again committing himself (and now UKIP?) to supporting "free market capitalism":
Quote:Douglas Carswell (Clacton) (UKIP): I congratulate the hon. Gentleman on bringing this important subject to the attention of the House. Does he agree that, far from shoring up free market capitalism, the candy floss credit system the state is presiding over replaces it with a system of crony corporatism that gives capitalism a bad name and undermines its very foundations?And Austen Mitchell (Labour):
Quote:I speak as a renegade social creditor who is still influenced by social credit thinking; I do not pledge total allegiance to Major Douglas, but I am still influenced by him.( …) Some argue—Major Douglas would have argued this—that credit should therefore be issued only by the stateIn fact, there was a disagreement amongst the Monetary Reformers as to what precise reform was needed, with those on the left like Mitchell and Michael Meacher advocating that the State should issue all money and those on the right like Baker and Carswell arguing that the state should not interfere.The only person to give anything like a realist picture of how banks operate was Andrea Leadsom, the Economic Secretary to the Treasury (presumably on the basis of what her officials wrote for her):
Quote:Whenever a bank makes a loan, it credits the borrower’s bank account with a new deposit and that creates “new money”. However, there are limits to how much new money is created at any point in time. When a bank makes a loan, it does so in the expectation that the loan will be repaid in the future—households repay their mortgages out of their salaries; businesses repay their loans out of income from their investments.In other words, banks will not create new money unless they think that new value will also in due course be created, enabling that loan to be paid back.I thought this article on the banking crisis quite readable.http://truth-out.org/news/item/27584-the-history-of-a-dangerous-idea-mark-blyth-talks-austerity-greece-and-the-global-economic-crisis
I came across this PDF article which i thought was quite educational if a bit long on the role of the Fed Reserve as a faciltator for the economy, the role of money as a store of value (productivity…or as we would say …labour). Restores a bit of perspective to use against the anti-Fed conspiracists. file:///C:/Users/AP-Lenovo/Downloads/SSRN-id1905625.pdfIt describes the role of banking in terms of inside Money, outside Money and "moneyness" and describes the creation of credit in a way i have read before…putting the cart before the horse process (my words).. but in their own words-
Quote:In the loan creation process, banks will make loans first (resulting in new deposits) and will find necessary reserves after the fact (either in the overnight market or via the Fed). Understanding the business of banking is rather simple. It’s best to think of banks as running a payments system that helps us all to transact within the economy. In addition to helping manage this payments system they issue money in the form of loans. Banks earn a profit in the means of transacting business when their assets are less expensive than their liabilities. In other words, banks need to source their ability to run this payments system smoothly, but will seek to do so in a manner that doesn’t reduce their profitability. Banks don’t use their deposits or reserves to create loans, however. Banks make loans and find reserves after the fact if needed. But since banking is a spread business (having assets that are less expensive than liabilities) the banks will always seek the cheapest source of funds for managing their payment system. That just so happens to generally be bank deposits. This gives the appearance that banks “fund” their loan book by obtaining deposits, but this is not necessarily the case. It is better to think of banking as a spread business where the bank simply acquires the cheapest liabilities to sustain its payment system and maximize profits.Quote:To illustrate this point let’s briefly review the change in balance sheet composition between banks and households before and after a loan is made. Since banks are not constrained by their reserves the banks do not need to have X amount of reserves on hand to create new loans. But banks must have ample capital in order to be able to operate and meet regulatory requirements. Reserves make up one component of the bank balance sheet so it’s better to think of banks as being capital constrained and not reserve constrained. In this example banks begin with $120 in assets and liabilities comprised of currency, reserves, equity and deposits. Of this, households hold $80 in deposits which are assets for the households and liabilities for the banking system. That is, the bank owes you your deposit on demand. Our banking system has reserves already, but this is not necessary for the bank to issue a loan. It must simply remain solvent within its regulatory requirements. But if our households want to take out a new loan to purchase a new home for $50 the bank simply credits the household’s account. When the new loan is made household deposits increase to $130. Household loans increase by $50. Bank assets increase by $50 (the loan) and bank liabilities increase by $50 (the deposit). If the bank needs reserves to help settle payments or meet reserve requirements it can always borrow from another bank in the interbank market or if it must, it can borrow from the Federal Reserve Discount Window.I'm probably wrong but it seems a bit like what i think Steve Keen says…make the loan first and then find the cash…otherwise…or else…CRASHAnyways the article then concludes with a whole lot of algebra equations and i said before economics simply becomes a blur to me at that stage.
This is the same description of how banks work as in the articles in the Bank of England's Quarterly Review for the first quarter of 2014 mentioned in message #139:http://www.worldsocialism.org/spgb/forum/general-discussion/100-reserve-banking?page=13#comment-12263Positive Money and other currency and banking reforms (they don't like being called cranks) think this backs up their view of how banking works, but it doesn't. It confirms that banks don't and can't "create money from thin air". As the article you quote says, of banks
Quote:In addition to helping manage this payments system they issue money in the form of loans. Banks earn a profit in the means of transacting business when their assets are less expensive than their liabilities. In other words, banks need to source their ability to run this payments system smoothly, but will seek to do so in a manner that doesn’t reduce their profitability.Profitability, that's what places a limit on what they can lend.
Interesting comments in the annual report of the Ecology building society (from 2013) http://www.ecology.co.uk/pdf/about/Ecology-Annual-Report-2013-3.pdf
Quote:Total assets reached a record level at year end of £124.8m, a rise of 13.73% (2012: 6.10%). The growth level would have been higher were it not for measures that we took to restrict inflow of funds, necessary to ensure that the overall financial sustainability of the Society did not suffer. It is necessary to restrict liquidity to ensure that profits can be maintained, these profits being the mainsource of capital available to the Society. Despite the increase in overall lending, we ended the year with higher levels of liquid funds than our preferred level – another reason why we will continue to extend our reachto potential borrowers in 2014.The reason for this wa:
Quote:Over the course of the year, the Society has tried to maintain its rates for existing savers, while recognising that the difficulties at the Co-operative Bank have led new ethical savers to Ecology. The Society has deliberately operated with a very low margin between our saving and borrowing rates, in order to deliver value to both borrowers and savers.So the building society was suffering from people trying to lend it money!
Another quote for the file, from a spokesperson for the British Bankers' Association quoted in an article in the business section of yesterday's i paper:
Quote:Banks make profits by looking after customers' deposits and lending it out to people who want to borrow.They also borrow from institutions to lend out to businesses and governments but the principle is the same.
It's not banker fiddling that determines investment and hence the business cycle – it's the profit outlook.http://www.iea.org.uk/blog/monetary-policy-overrated
Thanks, Stuart. A more detailed summary of this interesting, empirical study here:http://mitsloan.mit.edu/newsroom/2014-corporate-investment.phpThe findings do seem rather obvious to those with a knowledge of how capitalism works, i.e that it is driven by the search for profits and that this explains both "corporate investment behaviour" (and why it leads to booms and slumps).
I think the IEA are making rather the same point from their own (Thatcherite) position – ie, having a pop at central bankers and policy makers for not understanding how capitalism really works! Thanks for the link
This Canadian legal case might be an interesting one to follow. Whether it adds anything of importance to the debate, we shall see.http://www.theepochtimes.com/n3/1290580-bank-of-canada-faces-lawsuit-for-alleged-imf-conspiracy/I think the consensus opinion from the Money Creation folk is now is that banks don't really survive from depositors money and the difference in interest rates of lending and borrowing …but from the difference in the rates they borrow from other banks and lend to other banks… soit is still all dependent upon deposits…even if from other bnks as customers/clients
The report on HBOS may make useful reading being covered by the pressOne explanation for the collapse was the lending/deposit gap. "By 2008 the gap between loans and deposits was a staggering £213bn." http://www.bbc.com/news/business-34859067So much for the credit creation myth.
From the report.http://www.bankofengland.co.uk/pra/Documents/publications/reports/hbos.pdfThose with book-keeping literacy can explain to me better. Skimming this report these stood out regards refuting credit creation myth.
Quote:62. The disparity between the amount HBOS lent to its customers and the amount it held in customer deposits was further highlighted by HBOS’s loan-to-deposit ratio, which increased from 143% at the time of the merger to 170% at the end of 2007. While this was below the Bank of Scotland level of 194% immediately before the merger, it was well above the ratios of HBOS’s clearing bank competitors and at the top of the range for UK mortgage banks, with the exception of Northern Rock which failed. By the end of 2008, HBOS’s loan-to-deposit ratio had reached 192%.Quote:155. Further, with household savings ratios declining in a number of countries, including the United Kingdom, banks also had to rely more heavily on wholesale borrowing to expand lending. Securitising packages of loans and selling them on to wholesale investors quickly became an important and cheaper way for banks to raise funds for new lending. It also created new dependencies, however, with securitising vehicles requiring liquidity commitments from their bank sponsors. Securitisations using master trusts also required the originator to be able to replenish or top up the asset pool, meaning the originator had to be capable of continued lending, while strengthening its obligations to the securitisation structure.Quote:160. With a significant proportion of banks’ funding coming from other financial institutions; shadow banks in turn dependent on liquidity support from banks; high system leverage; and chains of interdependencies created by complex financial products; linkages between financial institutions inevitably grew. The opacity of the system also grew and thus the ability of individual institutions and regulators to identify and assess the build-up of risks declined. This increased the risk that problems or concerns in one part of the global financial system could be rapidly transmitted to another part of the system, and then transmitted on again, and again.Quote:234. While the Group found it reasonably easy to grow its assets, it found it much more difficult to increase deposits. As a result, with the exception of a small pick-up in 2004, the Group’s self-funding ratio declined steadily from around 66% in 2001 to 56% in 2007 (Chart 2.22), while the customer funding gap almost trebled from £68 billion to £190 billion.These extracts bring out, once again, the matter-of-fact assumption by practical bankers (as opposed to armchair banking theorists) that banks need 'funding' to make loans and don't just conjure up out of thin air the money they lend..Banks get the money to fund their lending from two main sources: deposits (retail) and short-term borrowing from the money market (wholesale). The loan-to-deposit ratio shows how much lending is funded by deposits compared with borrowing. It is not a measure of how much a bank can lend out of thin air over and above its deposits, as currency cranks misunderstand.The higher this ratio is the more a bank is relying on borrowing. For it to be too high is considered bad practice because funding from borrowing is more risky than from deposits. The risk is that the rate of interest a bank has to pay for this will rise unexpectedly (as happened after the crash of 2008) and squeeze the margin between that rate and the rate of interest on the loans the bank itself makes, the source of a bank's income as a bank. This is what happened to Northern Rock and, apparently, to HBOS too, putting them in dire financial difficulty.It does seem rather unfair for the authorities to single out some bank executives for doing what they were all doing before the crash, taking advantage of the boom conditions to make as much profits for their shareholders as they could. It will happen again in the next boom whatever the regulations now being put in place after the horse has bolted. Making as much profits as you can while the sun shines is in the nature of capitalism.
It should be added that the Report on the failure of HBOS also mentions, in addition to risky funding, ill-judged (with hindsight) lending; which of course is another reason why a bank can fail.In his foreword to the Report Andrew Bailey, who is a Deputy Governor of the Bank of England, writes:
Quote:Both the strategy and operation of HBOS, and its supervision by the FSA, were creatures of the time. The FCA/PRA Report sets out, against the backdrop of almost uninterrupted economic growth over a long period and the rapid development of financial markets, the story of an institution that became unsustainable through its poor risk management, in respect of the credit risk on the assets side of its balance sheet, and on the liabilities side in respect of the vulnerability of its funding. These are, of course, the fundamental building blocks of banking (emphasis added)Note his taking for granted that banks need funding to make loans as one of "the fundamental building blocks of banking". No nonsense here about banks being able to lend without funding by creating the money to lend out of thin air.The Report itself has something to say on economic conditions of the time:
Quote:Halifax and Bank of Scotland merged [in 2001]during a period of heightened corporate activity, in the middle of an economic cycle that had begun in the early 1990s. UK domestic economic growth had been relatively steady since the recession of the early 1990s, resulting in an extraordinarily long period (around 60 quarters) of continuous expansion. The growth in the financial services sector was more than twice as fast as the economy as a whole, averaging 6% per annum in the decade preceding the crisis, and increasing its share of nominal gross domestic product (GDP) to around 10%. Confidence in the future prospects of the economy was reflected in both bank and non-bank equity prices, which rose steadily from the start of 2003 until 2007. As the benign conditions persisted for longer and longer, many perceived that a new paradigm of economic stability had been established.(emphasis added)One of the "many" who (mis)perceived this of course was Gordon Brown, the Chancellor of the Exchequer until 2007 and Prime Minister when HBOS failed in October 2008 and now a discredited and broken man. Like him, those in charge of HBOS assumed that the boom/bust cycle had been broken and that the "new economic paradigm" would continue indefinitely and accordingly pursued a policy of expanding their lending and finding funding for this. Andrew Bailey says that
Quote:The criticism in the Report is not that management failed to predict that there would be a global financial crisis.and then goes on to make such a criticism with a different form of words:
Quote:Rather, they should have put in place strategies that could in combination accommodate and respond to, in a timely way, changes in external circumstances.As if the global financial crisis was not a change in external circumstances.The HBOS management was doing what managers of capitalist firms are supposed to do: trying to maximise profits. They aimed quite high. According to the Report, their stategy included
Quote:a return on equity goal of around 20%.In fact they lost everything for the bank. They do seem to have taken too many risks but isn't risk-taking what apologists claim is a justification for profit?
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