Best of the Week
Most Popular
1. Stock Markets and the History Chart of the End of the World (With Presidential Cycles) - 28th Aug 20
2.Google, Apple, Amazon, Facebook... AI Tech Stocks Buying Levels and Valuations Q3 2020 - 31st Aug 20
3.The Inflation Mega-trend is Going Hyper! - 11th Sep 20
4.Is this the End of Capitalism? - 13th Sep 20
5.What's Driving Gold, Silver and What's Next? - 3rd Sep 20
6.QE4EVER! - 9th Sep 20
7.Gold Price Trend Forecast Analysis - Part1 - 7th Sep 20
8.The Fed May “Cause” The Next Stock Market Crash - 3rd Sep 20
9.Bitcoin Price Crash - You Will be Suprised What Happens Next - 7th Sep 20
10.NVIDIA Stock Price Soars on RTX 3000 Cornering the GPU Market for next 2 years! - 3rd Sep 20
Last 7 days
The Copper/Gold Ratio Would Change the Macro - 21st Oct 20
Are We Entering Stagflation That Will Boost Gold Price - 21st Oct 20
Crude Oil Price Stalls In Resistance Zone - 21st Oct 20
High-Profile Billionaire Gives Urgent Message to Stock Investors - 21st Oct 20
What's it Like to be a Budgie - Unique in a Cage 4K VR 360 - 21st Oct 20
Auto Trading: A Beginner Guide to Automation in Forex - 21st Oct 20
Gold Price Trend Forecast into 2021, Is Intel Dying?, Can Trump Win 2020? - 20th Oct 20
Gold Asks Where Is The Inflation - 20th Oct 20
Last Chance for this FREE Online Trading Course Worth $129 value - 20th Oct 20
More Short-term Stock Market Weakness Ahead - 20th Oct 20
Dell S3220DGF 32 Inch Curved Gaming Monitor Unboxing and Stand Assembly and Range of Movement - 20th Oct 20
Best Retail POS Software In Australia - 20th Oct 20
From Recession to an Ever-Deeper One - 19th Oct 20
Wales Closes Border With England, Stranded Motorists on Severn Bridge? Covid-19 Police Road Blocks - 19th Oct 20
Commodity Bull Market Cycle Starts with Euro and Dollar Trend Changes - 19th Oct 20
Stock Market Melt-Up Triggered a Short Squeeze In The NASDAQ and a Utilities Breakout - 19th Oct 20
Silver is Like Gold on Steroids - 19th Oct 20
Countdown to Election Mediocrity: Why Gold and Silver Can Protect Your Wealth - 19th Oct 20
“Hypergrowth” Is Spilling Into the Stock Market Like Never Before - 19th Oct 20
Is Oculus Quest 2 Good Upgrade for Samsung Gear VR Users? - 19th Oct 20
Low US Dollar Risky for Gold - 17th Oct 20
US 2020 Election: Are American's ready for Trump 2nd Term Twilight Zone Presidency? - 17th Oct 20
Custom Ryzen 5950x, 5900x, 5800x , RTX 3080, 3070 64gb DDR4 Gaming PC System Build Specs - 17th Oct 20
Gold Jumps above $1,900 Again - 16th Oct 20
US Economic Recovery Is in Need of Some Rescue - 16th Oct 20
Why You Should Focus on Growth Stocks Today - 16th Oct 20
Why Now is BEST Time to Upgrade Your PC System for Years - Ryzen 5000 CPUs, Nvidia RTX 3000 GPU's - 16th Oct 20
Beware of Trump’s October (November?) Election Surprise - 15th Oct 20
Stock Market SPY Retesting Critical Resistance From Fibonacci Price Amplitude Arc - 15th Oct 20
Fed Chairman Begs Congress to Stimulate Beleaguered US Economy - 15th Oct 20
Is Gold Market Going Back Into the 1970s? - 15th Oct 20
Things you Should know before Trade Cryptos - 15th Oct 20
Gold and Silver Price Ready For Another Rally Attempt - 14th Oct 20
Do Low Interest Rates Mean Higher Stocks? Not so Fast… - 14th Oct 20
US Debt Is Going Up but Leaving GDP Behind - 14th Oct 20
Dell S3220DGF 31.5 Inch VA Gaming Monitor Amazon Prime Day Bargain Price! But WIll it Get Delivered? - 14th Oct 20
Karcher K7 Pressure Washer Amazon Prime Day Bargain 51% Discount! - 14th Oct 20
Top Strategies Day Traders Adopt - 14th Oct 20
AMD is KILLING Intel as Ryzen Zen 3 Takes Gaming Crown, AMD Set to Achieve CPU Market Dominance - 13th Oct 20
Amazon Prime Day Real or Fake Sales to Get Rid of Dead Stock? - 13th Oct 20
Stock Market Short-term Top Expected - 13th Oct 20
Fun Stuff to Do with a Budgie or Parakeet, a Child's Best Pet Bird Friend - 13th Oct 20
Who Will Win the Race to Open a Casino in Japan? - 13th Oct 20
Fear Grips Stock Market Short-Sellers -- What to Make of It - 12th Oct 20
For Some Remote Workers, It Pays to Stay Home… If Home Stays Local - 12th Oct 20
A Big Move In Silver: Watch The Currency Markets - 12th Oct 20
Precious Metals and Commodities Comprehensive - 11th Oct 20
The Election Does Not Matter, Stick With Stock Winners Like Clean Energy - 11th Oct 20
Gold Stocks Are Cheap, But Not for Long - 11th Oct 20
Gold Miners Ready to Fall Further - 10th Oct 29
What Happens When the Stumble-Through Economy Stalls - 10th Oct 29
This Is What The Stock Market Is Saying About Trump’s Re-Election - 10th Oct 29
Here Is Everything You Must Know About Insolvency - 10th Oct 29
Sheffield Coronavirus Warning - UK Heading for Higher Covid-19 Infections than April Peak! - 10th Oct 29
Q2 Was Disastrous. But What’s Next for the US Economy – and Gold? - 9th Oct 20
Q4 Market Forecast: How to Invest in a World Awash in Debt - 9th Oct 20
A complete paradigm shift will make gold the generational trade - 9th Oct 20
Why You Should Look for Stocks Climbing Out of a “Big Base” - 9th Oct 20
UK Coronavirus Pandemic Wave 2 - Daily Covid-19 Positive Test Cases Forecast - 9th Oct 20
Ryzen ZEN 3: The Final Nail in Intel's Coffin! Cinebench Scores 5300x, 5600x, 5800x, 5900x 5950x - 9th Oct 20

Market Oracle FREE Newsletter

How to Get Rich Investing in Stocks by Riding the Electron Wave

Fractional-Reserve Banking Is The Elephant In The Room

Interest-Rates / Global Financial System Sep 29, 2020 - 11:07 AM GMT

By: Kelsey_Williams

Interest-Rates

The expression “elephant in the room“…

“…an important or enormous topic, question, or controversial issue that is obvious or that everyone knows about but no one mentions or wants to discuss because it makes at least some of them uncomfortable or is personally, socially, or politically embarrassing, controversial, inflammatory, or dangerous. (source

A wordy definition, yes; but it is applicable to our topic of Fractional-Reserve Banking. After reading the rest of this article, you should be able to see just how important and enormous  Fractional-Reserve Banking is; as well as how dangerous.

Lets’s start with some history.


The following is an excerpt from an earlier article of mine…

The warehouse proprietors (‘bankers’) decided they needed to find a way to increase their profits. Earning fees from their depository and safekeeping services wasn’t enough. Since most of the gold remained in storage and most transactions involved exchange or transfer of paper receipts for the gold on deposit, they decided to issue ‘loans’ of the gold/money to others and charge interest. The cumulative amounts of gold loaned out could not exceed the amount of gold held in storage. And, hopefully, not too many depositors would ask to redeem their physical gold at the same time. 

It seemed to be a workable system. But apparently the ‘bankers’ were not content. They soon started issuing more loans/receipts for gold which did not exist. Of course they saw no need to inform anyone of their actions and the receipts still stated that they were redeemable in fixed amounts of gold. And when someone wanted to take possession of their gold on a physical basis they could still do so. Up to a point. (see History Of Gold As Money)

If any of this sounds familiar to you, it should. Fractional-reserve accounting by warehouses/banks was a starting point for the credit expansion that now funds our world economy.

As we become more dependent on credit, we also become more vulnerable to events similar to that which happened twelve years ago. Another credit collapse isn’t just a possibility, nor is it only highly likely. Rather, it is inevitable.

A PRIMER ON FRACTIONAL-RESERVE BANKING

On a personal, retail level, here is an example of how fractional-reserve banking works today:

Your brother-in-law pays you the thirty thousand dollars that he borrowed three years ago. You decide to put the money in a time deposit (one year CD, etc.) at your bank. At the end of the day when your banker balances his books he finds that deposits at the bank exceed the funds which are currently loaned out/invested by an amount in excess of the ten percent US Federal Reserve requirement. And since that surplus amount is now available for new loans and additional investments, your bank’s loan committee and investment department are busily engaged in efforts to allocate those funds on a – hopefully – profitable basis. After due consideration, it loans twelve thousand dollars to Jane, who wants to buy a car and fifteen thousand dollars to a local entrepreneur.

Jane pays the twelve thousand dollars to Mr. Smith who is selling the car to her (private transaction). Jane drives away in her new car and Mr. Smith deposits the money in his bank which subsequently loans out ten thousand eight hundred dollars to a local dentist who is expanding his practice.

The local entrepreneur deposits the fifteen thousand dollars in his business account which is at the same bank that loaned him the money. Voila! The same bank which made the two loans now has fifteen thousand dollars in ‘new’ deposits of which it can lend out or invest another thirteen thousand five dollars. It promptly does so.

Where are we now? The original deposit of thirty thousand dollars has  grown to $81,300! How? By lending/investing a majority of the same money over and over again.

US Federal Reserve regulations require banks to keep on deposit an amount of money equal to ten percent of the deposits they take in (checking, savings, CDs, etc.). The remaining ninety percent can be loaned out or invested. (There are exceptions, allowances, and variations to the requirements depending on deposit type, amount, etc.  There are also ways to meet the requirement other than just holding cash reserves.)

Once the money is deposited, the process is ongoing and continually adds to the amount of dollars in the system.

TOO MANY BOBS 

Here is a story to help illustrate the risk involved in fractional-reserve banking.

Bob has ten thousand dollars that he doesn’t know what to do with so he gives it to his best friend, Sam, for safekeeping. Bob tells Sam that he does not expect to need the money anytime soon, but he may want to get some of it from time to time. And, of course, if the unexpected happens (it always does) he may need to have access to more – or all – of it.

Since Sam is a specialist in financial matters and has considerable investment expertise he decides to invest four thousand dollars of Bob’s money in US Treasury notes. Sam also loans five thousand dollars to a friend of his who is a homebuilder. Sam will earn interest on the construction loan in addition to a modest return on the US Treasury notes he purchased. Not bad. Especially since he does not have to pay Bob more than a pittance for ‘watching’ his money for him. Maybe Bob should pay Sam something for the good job he is doing (think negative interest rates).

Sam has decided to keep one thousand dollars of Bob’s money available in case it is needed. Good thing, too. After one week, Bob asks Sam for one thousand dollars of his money back in order to take care of some ‘unexpected’ expenses. Sam promptly pays Bob his one thousand dollars.

Sam now feels that the likelihood of Bob needing more of his money anytime soon is a remote possibility. Hence, he pledges the US Treasury notes as collateral and borrows four thousand dollars. He keeps one thousand in cash and loans another three thousand dollars to his friend, the home builder.

Bob sees the success the builder and others are having and decides that he wants to invest his remaining nine thousand dollars in real estate. So he goes to see Sam.

Sam only has one thousand dollars of Bob’s money available and gives it to him right away. He tells Bob that he will have the rest of his money shortly.

Sam calls his builder friend right away. The builder tells Sam that a couple his homes have not sold yet and the money to repay Sam isn’t available until the homes are sold.

Sam could sell the four thousand dollars in US Treasury Notes in order to access part of the money needed to pay Bob. But the proceeds would have to be used first to pay off the loan for which they are pledged as collateral. Since the loan amount is nearly identical to the market value of the US Treasury notes, no additional funds would be available.

Bob, meanwhile, decides that he won’t start investing in real estate as he had planned. Therefore, he won’t need the rest of his money right now.

Except that when his wife gets home from work, he learns that one of their kids needs braces on her teeth. Also, the interest rate reset on their home mortgage has taken effect.  The new monthly payment will increase by several hundred dollars. He decides that he might need to draw from his money (that Sam has charge of) after all.

When he calls on Sam the next day, Bob is shocked to find out that his money is not available. And Sam doesn’t know when it will be available.

Do you see the risk in fractional-reserve banking? If too many Bobs want their money at the same time or can’t make their mortgage payments, what do you think will happen?

CREDIT ADDICTION STARTS WITH US TREASURY

All of the credit expansion explained in the illustrations above is after the fact. The original credit expansion starts with the United States Treasury.

You may have heard the term “robbing Peter to pay Paul”. Among other things, the meaning is “to take from one person or thing to give to another, especially when it results in the elimination of one debt by incurring another. ” (source)

This is how US Treasury debt is paid. New Treasury securities are issued to pay off those that have matured.

The total debt continues to grow because it is never paid off; only replaced with more debt. In addition, new debt offerings must be large enough to pay interest on existing debt and continue to fund day-to-day operations of the government.

Referring to fractional-reserve banking, fund manager and investor Bill Gross said:

“It still mystifies me…how a banking system can create money out of thin air, but it does. By rough estimates, banks and their shadows have turned $3 trillion of “base” credit into $65 trillion + of “unreserved” credit in the United States alone…”  

Mr. Gross’s quote above is from several years ago. The numbers today are so much larger as to be nearly unimaginable. And the risk of systemic financial crisis looms ever greater.

Fractional-reserve banking is ongoing.  It is at the core of the Federal Reserve’s efforts to expand the supply of money and credit. Hence, the number of US dollars continues to increase and their value continues to erode.  Their value at any given time is always suspect.  How can we possibly know what a dollar is worth when there is an unlimited supply and no constancy?

What is truly amazing is the extent to which our banking system can hold itself together.  And, to whatever extent the Fed’s efforts have kept the system from imploding, it is noteworthy that we continue to look to and depend on the perpetrator of the crime to rescue us. Even worse, the solution(s) offered are the very same actions that led to the current predicament.  Spend more and borrow more.

Kelsey Williams is the author of two books: INFLATION, WHAT IT IS, WHAT IT ISN’T, AND WHO’S RESPONSIBLE FOR IT and ALL HAIL THE FED!

By Kelsey Williams

http://www.kelseywilliamsgold.com

Kelsey Williams is a retired financial professional living in Southern Utah.  His website, Kelsey’s Gold Facts, contains self-authored articles written for the purpose of educating others about Gold within an historical context.

© 2020 Copyright Kelsey Williams - All Rights Reserved Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.


© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

6 Critical Money Making Rules