Wednesday, Jul 29, 2009
100% deposit ratio
Grepytel: Largest heist in History
This article is a bit old so maybe you read already. But anyway explains the current crisis in terms of basically fraud centered on the loan deposit ratio, aka credit creation, and explains the difference between the finite amount of money created with 100%. Proposes that because the banks are irretrievably(as in cannot be rescued) bust, we should be looking to liquidate and recover fake money from the fraudsters as the only way out. The only bank that had a deposit ratio of
Posted by stillthinking @ 10:45 AM (577 views) Add Comment
12 Comments
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1. Gregpytel said...
The reader of my blog should reflect upon the difference between "fractional-reserve banking" - i.e. lending with loan to deposit ratio below 100%, and "depleting reserves banking", i.e. lending with loan to deposit ratio above 100%. Whilst the former one carries risks but it is a ligitimate method of banking, the latter one is pretty crude old pyramid scheme known for centuries.
2. mountain goat said...
ST - I liked the article but still doubt if we would have been better off letting banks fail, as you have advocated a few times recently. Reading the article brought back images of Ewan McGregor playing Nick Leeson in Rogue Trader, where he works in a vault in Singapore sorting, valuing and bundling paper contracts. Just propping up banks to carry on their suicidal path is no good. But propping them up enough so they sort out solvent from insolvent loans seems valuable. Not everyone with a mortgage is in negative equity. Letting the banking system fail last year would have led to a lot of unnecessary suffering of these solvent borrowers and led to destructive knock-on effects to the economy. Ideally we should not have allowed these pyramid schemes to form. The causes are many, some were well intentioned emergency solutions to financial crises in the distant past.
3. Gregpytel said...
mountain goat: thanks for reading my article but you clearly did not understand the concept of letting banks fail. The government must have let the failing banks go bust but at the same time DIRECTLY providing safety net against the problems you mentioned. It would have been far cheaper than doing the same indirectly by proping up the banks with huge money (guess, where most of this government injected cash is going to end up :-)
4. andrew said...
The main drive of the article is that this process will repeat and repeat until it is stopped.
The only difference being that each time around, larger sums of money are required. Governments were being funded by the banks so they turned a blind eye.
We are right at the bottom of a huge food chain, nobody cares about house prices or homes for us, all the individuals care about is lording over ever increasing mountains of cash. The only conclusion is that this continues for a long time because all the powers that be are behind it and we really are in the sh1t.
5. stillthinking said...
mg,
But if the failure of the banks is inevitable... then what advantage is gained from taxpayer losses?
I think also his point is that there isn't sufficient money to support asset prices, and asset prices are still falling, so maybe not everybody is in negative equity at the moment, but who knows. On his example page for the two banks;
"Both decide to lend with loan to deposit ratio (L/D) 130%."
"Having started with $271.29 reserves (Bank A $104.91 plus Bank B $166.38) and $100 initial deposit, the Banks A and B have no cash any more. If someone who is paid with the last loan of $371.29 keeps it as cash, he can start cherry picking the assets. They all cost $1,175.60 to buy. As, apart from his $371.29, there is no liquidity on the market, he can drive the price of the assets down (making them crash) and drive banks into bankruptcy (unless a government bails them out :-)"
Our government cannot bail out the banks much further, they don't have the funds. So that option is closed. 130% doesn't even come close to Northern Rock. Maybe -at the moment- there are not so many people in negative equity, but if you take the view that the banks have no more capital to lend, then UK prices are going to be determined by cash buyers. In which case there is going to be a huge monstrous collapse in property like Japan, 80% down a decade on! Of course banks can lend, but what can they lend for a normal transaction volume and probably the answer is very little.
Allowing a bank to fail certainly does harm innocents which is why compensation should be determined by government, not allowing a bank to fail harms the taxpayer. So either way somebody gets the stick.
6. mrmickey said...
It does appear that the western economies have become like giant casinos with the end winners being the super banks like Goldman. Unless stopped they will totally control the polital system and warp it to their own ends.
7. mountain goat said...
ST - "Our government cannot bail out the banks much further, they don't have the funds."
But surely the events of 2008 have made it clear that all toxic loans will be accepted as collateral by the BoE and the money printed? The bailouts and can continue endlessly, that is the advantage of currency by fiat. If it is true that the bailouts so far only cover 10% of the problems then that means the bailouts have only just begun.
I am not defending this. I simply am noticing it and the commitment of the UK and US governments to print money to match the bad loans. In their defence it is giving time to adjust, always better to slow a speeding train down slowly than slam on brakes and cause it to derail. The decision to have a currency by fiat, not limited by gold or USD reserves etc was not taken recently. But once the decision was taken it was clear that deflation need not happen ever again. But whether this will have a happy ending is another matter entirely!
8. stillthinking said...
Maybe, who knows what was the best path to take. I am a bit pissed now so I will guard my words, but I feel very bitter about the way things have gone and personally I would have let the banks fail and just have done with it.
9. mountain goat said...
ST - hope I haven't pissed you off! Just trying to explore views on this.
10. mountain goat said...
Gregpytel - shame your comments did not come through earlier (you have to be registered for them to come up immediately). You are right I don't really understand what happens if a bank fails. Although smaller ones seem to be failing all the time without too much disturbance, last year we were faced with the whole lot of them going down at once! Like ST and many others I was angry at the time that these idiots got saved, but on reflection I do think losing them all at once last year would have had destructive knock-on effects for the economy. So maybe the decision was right. On the other hand I am open to the possibility that they can't be saved and now we have risked the country's finances even more by trying to save them.
Just to clarify your point @1 because not sure if I have missunderstood. "lending with loan to deposit ratio above 100%." is the same as fractional reserve banking isnt it? As long as the loan can be paid back it doesnt harm the bank, so not sure why it is "depleting reserves banking".
11. Gregpytel said...
To mountain goat: lending with loan to deposit ratio below 100% is NOT the same as fractional reserve banking. If you lend with L/D below 100% you always generate finite amount of money in circulation from the initial deposit. If you lend with L/D above 100%you generate unlimited amount of money in circulation. I cannot really explain it better than I have already done on my blog. I invite you to read:
http://gregpytel.blogspot.com/2009/04/exampleexercise-how-does-it-work.html
http://gregpytel.blogspot.com/2009/07/on-capital-requirement-v-loan-to.html (on this one, compare the graphs)
12. Gregpytel said...
CORRECTION: I wrote in the previous post: "lending with loan to deposit ratio below 100% is NOT the same as fractional reserve banking." it should be: "lending with loan to deposit ratio (L/D) above 100% is NOT the same as fractional reserve banking."
Apologies for this mistake