Banks Borrow Money Into Existence, But Not At 0% Interest

[the_austrian]

Consider three individuals A, B and C. A has £100 (had to use $ for the image), B has nothing and C has a Car (but no money). A deposits the money in the Bank. The Bank then lends £100 to B. But now A decides he/she would like to buy the Car. The Bank is not able to lend the money to B and give it back to A at the same time so A exchanges his/her "bank account money" with the Royal Mint via the Bank. So now the Royal Mint is holding an account at the bank.

When B eventually pays back the Loan (plus interest) the Bank is able to cancel the account with the Royal Mint.

If we exclude A and C from our analysis (because they have only exchanged a Car for £100) we see that in effect the Bank has received an interest-free loan on newly-issued money which it "borrowed" to make the Loan to B.

[crash2006]

Consider three individuals A, B and C. A has £100 (had to use $ for the image), B has nothing and C has a Car (but no money). A deposits the money in the Bank. The Bank then lends £100 to B. But now A decides he/she would like to buy the Car. The Bank is not able to lend the money to B and give it back to A at the same time so A exchanges his/her "bank account money" with the Royal Mint via the Bank. So now the Royal Mint is holding an account at the bank.

When B eventually pays back the Loan (plus interest) the Bank is able to cancel the account with the Royal Mint.

If we exclude A and C from our analysis (because they have only exchanged a Car for £100) we see that in effect the Bank has received an interest-free loan on newly-issued money which it "borrowed" to make the Loan to B.

i'll reply when my head stops banging, nice pic btw

Edited February 24, 2008 by crash2006

[northernbear]

think you need to add in the central bank and the repo rate or 'discount rate window' etc etc and your pretty close

[Bloo Loo]

Consider three individuals A, B and C. A has £100 (had to use $ for the image), B has nothing and C has a Car (but no money). A deposits the money in the Bank. The Bank then lends £100 to B. But now A decides he/she would like to buy the Car. The Bank is not able to lend the money to B and give it back to A at the same time so A exchanges his/her "bank account money" with the Royal Mint via the Bank. So now the Royal Mint is holding an account at the bank.

When B eventually pays back the Loan (plus interest) the Bank is able to cancel the account with the Royal Mint.

If we exclude A and C from our analysis (because they have only exchanged a Car for £100) we see that in effect the Bank has received an interest-free loan on newly-issued money which it "borrowed" to make the Loan to B.

This is a classic run on the bank as all the cash it has is insuficient to pay the demand from depositors.

It is bust. No wait- is it a turd?, is it a pain?, NO, NO its NATIONALISATION MAN,

[Bardon]

Once all the buried bodies have been found and accounted for then maybe a good time to invest in the banks given that model.

[Sinking Feeling]

Consider three individuals A, B and C. A has £100 (had to use $ for the image), B has nothing and C has a Car (but no money). A deposits the money in the Bank. The Bank then lends £100 to B. But now A decides he/she would like to buy the Car. The Bank is not able to lend the money to B and give it back to A at the same time so A exchanges his/her "bank account money" with the Royal Mint via the Bank. So now the Royal Mint is holding an account at the bank.

When B eventually pays back the Loan (plus interest) the Bank is able to cancel the account with the Royal Mint.

If we exclude A and C from our analysis (because they have only exchanged a Car for £100) we see that in effect the Bank has received an interest-free loan on newly-issued money which it "borrowed" to make the Loan to B.

I think it would be easier just to write out a cheque!

[SaintJay]

sh!t car though...

[Guest DissipatedYouthIsValuable]

Poor banks, it's such a difficult business inventing credit out of thin air and expecting it back with interest. I'm surprised banks don't fail all the time in the struggle.

/massive ******ing sarcasm directed at the rapacious pricks

[Ah-so]

The Bank is not able to lend the money to B and give it back to A at the same time so A exchanges his/her "bank account money" with the Royal Mint via the Bank. So now the Royal Mint is holding an account at the bank.

When B eventually pays back the Loan (plus interest) the Bank is able to cancel the account with the Royal Mint.

Sorry, so where does the Royal Mint come into this and why? Are you saying that the Royal Mint has commercial bank accounts equal to all the cash in circulation?

Perhaps I am being a bit slow, but I am not really sure of what is going on or why in your example.

[Bloo Loo]

Sorry, so where does the Royal Mint come into this and why? Are you saying that the Royal Mint has commercial bank accounts equal to all the cash in circulation?

Perhaps I am being a bit slow, but I am not really sure of what is going on or why in your example.

and why are the Royal mint issuing dollars?

[gavp]

Except that if the bank borrows from the BoE (which I think is what you mean by the Royal Mint) it pays interest on that borrowing. Well unless the that bank is nationalised and at some point in the future the Government decides to write off interest payments owed, in which case your model becomes accurate retrospectively.

[domo]

total bulls**t

[Optobear]

Consider three individuals A, B and C. A has £100 (had to use $ for the image), B has nothing and C has a Car (but no money). A deposits the money in the Bank. The Bank then lends £100 to B. But now A decides he/she would like to buy the Car. The Bank is not able to lend the money to B and give it back to A at the same time so A exchanges his/her "bank account money" with the Royal Mint via the Bank. So now the Royal Mint is holding an account at the bank.

When B eventually pays back the Loan (plus interest) the Bank is able to cancel the account with the Royal Mint.

If we exclude A and C from our analysis (because they have only exchanged a Car for £100) we see that in effect the Bank has received an interest-free loan on newly-issued money which it "borrowed" to make the Loan to B.

Not sure what you are saying here?

Isn't it, A deposits £100 cash with the bank. The banks lends to B, and has an IOU from B agreeing to repay the £100 in the future plus some interest (say £8 per annum on the £100)

Then the bank securitises the loan to B, and sells it on to a commercial bank, it is also giving up a portion of the interest, say £4 of the interest, and in return the commercial bank gives the original bank £100. (by the way, the £100 came from another depositor - called D).

A withdraws the £100 from their deposit account, and buys the car from C (who does whatever the hell they like with the money).

No one got an interest free loan, no one magicked any money from anywhere, the Royal Mint keep on issuing commemorative coins.

The main problems that can occur are:

1) If A and D chose to withdraw their money at the same time. B would have to repay, and he might not be able to repay quickly - causes a run.

2) If the bank borrows short term from A, and lends to B long term, then the bank is relying on the commercial bank to buy up the loans - that causes a funding problem if the commercial bank won't play. That is what happened to Northern Rock.

3) If the lending to B is secured against a falling asset (like UK house prices at the moment), then B has a lot of misery in store, working to pay off interest and capital on an asset that isn't worth what they paid for it. It is B's problem, they are the ones who took on the 125% loan.

4) The other problem can be that the government doesn't understand case 3) properly (the key part being - it is B's problem). Then all sorts of mess occurs and it takes years for things to get sorted.

Optobear

[Sinking Feeling]

I'm still not sure what this example is about. A deposits £100 with the bank, the bank pays interest on this money, but is then able to create credit up to this amount (providing the organisation as a whole has sufficient capital adequacy) to lend to B - this money is in addition to the £100 deposited i.e there would now be £200 in existence with only £100 of it in cash form. Transactions for large purchases such as cars are usually carried out through a bankers draft, cheque or electronic means. If A withdrew the money the bank would require overnight funds from the BoE and then funds from elsewhere - other depositors or lenders.

[world ir]

only know Japan used to have 0% interest borrowing.... that the reason many hedge funds borrow from Japanese banks and poured into world equity markets

[kilroy]

Consider three individuals A, B and C. A has £100 (had to use $ for the image), B has nothing and C has a Car (but no money). A deposits the money in the Bank. The Bank then lends £100 to B. But now A decides he/she would like to buy the Car. The Bank is not able to lend the money to B and give it back to A at the same time so A exchanges his/her "bank account money" with the Royal Mint via the Bank. So now the Royal Mint is holding an account at the bank.

When B eventually pays back the Loan (plus interest) the Bank is able to cancel the account with the Royal Mint.

If we exclude A and C from our analysis (because they have only exchanged a Car for £100) we see that in effect the Bank has received an interest-free loan on newly-issued money which it "borrowed" to make the Loan to B.

if you add in a central bank, a treasury department and some govvie bond investors, i may read it.....

[A.steve]

The national mint doesn't work like that - it doesn't lend money and couldn't care less what is in individuals' bank accounts. The national mint sells cash for treasury bills.

In the diagram, A - the original depositor - would be repaid in money borrowed from another commercial bank... quite possibly the commercial bank of "C" - whose bank balance is raised by the sale of the car.

That is quite the most misguided exposition of our monetary system I've seen... it almost deserves a prize.

[garybug]

Blimey, A Level Economics questions have really dumbed down since I took them

Still, as you have such a masterful grasp of how banks work, I'd say you're more than qualified to be the next Chancellor.

[PatientlyWaiting]

What about if we obtain ownership of objects that have been created through labour by exchanging them for other objects that can't be created out of thin air and are relatively scarce in relation to the objects we want to obtain ? I wonder if they have ever tried that before

[Injin]

A has £100 in notes. He puts it into the bank. The bank sticks it inot a pile with lots of other people's currency to handle day to day legal tender requirements.

A has £100 on an accounting sheet or bank statement at one bank, which other banks are contractually obligated to treat as the same as £100. He gives it to another bank or a customer in cheque form (or whatever) and the accountancy changes between the two banks. No legal tender changes hands until a withdrawl.

This has nothing to do with making a loan. Nothing.

B wants to take out a car loan. The bank gives him a form to sign, where he promises to pay £100, The bank takes his promisory note to the central bank and accesses his infinite credit there*. Either subsidary bank gives him cash (promisory notes) or it's own accounting slips which most people accept as being the same as legal tender. The banks books are balanced.

Then the bank asks him for "repayment". At this point he can do a few things, one of which is feel guilty for having accessed his infinite cerdit and run around like an idiot making payments to a non existant debt. Another is he doesn't pay, but still thinks it's valid and fails to ask the right questions at the right time or reveal any knowledge and the bankers will make him bankrupt to keep the game going. Very few people ask any questions and fewer still the right ones.

In short, the "borrower" provides both sides of the transaction. It is the borrower who intoduces new credit/money into the system.

*Modern currency are debt notes. Try getting a bank account without being a citizen anywhere.

Edited February 24, 2008 by Injin

[Bloo Loo]

B wants to take out a car loan. The bank gives him a form to sign, where he promises to pay £100, The bank takes his promisory note to the central bank and accesses his infinite credit there*. Either subsidary bank gives him cash (promisory notes) or it's own accounting slips which most people accept as being the same as legal tender. The banks books are balanced.

with a car loan, the bank would not create any money, it would hand B £100 from its own ill gotten stinking stock.

So in effect, B does owe the bank its money back.

[The Spaniard]

What about if we obtain ownership of objects that have been created through labour by exchanging them for other objects that can't be created out of thin air and are relatively scarce in relation to the objects we want to obtain ? I wonder if they have ever tried that before

If we do that to any significant degree the Inland Revenue will lock us up for tax evasion.

We are debt slaves to the monetary system, and this is enforced by law..

[Injin]

with a car loan, the bank would not create any money, it would hand B £100 from its own ill gotten stinking stock.

So in effect, B does owe the bank its money back.

Sure if they did hand over their own money, yes.

They don't. Why would they?

They have just been handed the cash by some stranger, who is going to give them even more for the priviledge of doing so. What would you if you found such a sucker?

Bob gives you something worth £1,000 "to the right people" aka his signature. You sell it on and give him £1,000 as a "loan." Bob thought his signature was worthless and will "pay you back". You now have £2,000 + interest if he does so and £1,000 if he doesn't. Can't lose.

[Bloo Loo]

Sure if they did hand over their own money, yes.

They don't. Why would they?

They have just been handed the cash by some stranger, who is going to give them even more for the priviledge of doing so. What would you if you found such a sucker?

Bob gives you something worth £1,000 "to the right people" aka his signature. You sell it on and give him £1,000 as a "loan." Bob thought his signature was worthless and will "pay you back". You now have £2,000 + interest if he does so and £1,000 if he doesn't. Can't lose.

no, bobs signature has got him some goods or services, valued at £1000.

[Injin]

no, bobs signature has got him some goods or services, valued at £1000.

..because it's worth £1,000

Signature in - Bank adds £1,000.

Payment out - Bank subtracts £1,000

Bank even, Bob even, merchant paid.

Then bank asks Bob for it's £1,000 back. This is double billing, this is fraud.