# What does anyone have against fractional-reserve banking? **URL:** \ **Category:** Great Debates\ **Created:** [February 4, 2014, 8:54pm UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516 "2014-02-04T20:54:32Z")\ **Posts on this page:** 20\ **Page:** 2
**Author:** ![BrightNShiny](https://avatars.discourse-cdn.com/v4/letter/b/7bcc69/32.png) [@BrightNShiny](https://boards.straightdope.com/u/BrightNShiny)\ **Post date:** [February 5, 2014, 4:41am UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/21 "2014-02-05T04:41:42Z")
> [@Mosier](#): > > This is the most interesting reply so far, IMO. I’d like to see someone address it. I did address it. You reduce these problems by regulating the risk insured banks are allowed to take and by making sure they pay adequate insurance payments. ---
**Author:** ![BrainGlutton](https://avatars.discourse-cdn.com/v4/letter/b/82dd89/32.png) [@BrainGlutton](https://boards.straightdope.com/u/BrainGlutton)\ **Post date:** [February 5, 2014, 5:09am UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/22 "2014-02-05T05:09:05Z")
> [@iamthewalrus\_3](#): > > The problem with fractional reserve banking is what happens in the inevitable run/crash, and the attendant incentive problems that creates. The overall effect is that you get greater financial efficiency at the cost of stability, and this tends to privatize gains and socialize losses. That’s why the FDIC exists, and its existence or necessity is **not,** in and of itself, an argument against fractional-reserve banking. Practically every economic activity humans have ever invented has fairly required government regulation/insurance in some form or other. ---
**Author:** ![Farin](https://avatars.discourse-cdn.com/v4/letter/f/e79b87/32.png) [@Farin](https://boards.straightdope.com/u/Farin)\ **Post date:** [February 5, 2014, 5:12am UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/23 "2014-02-05T05:12:34Z")
> [@BrainGlutton](#): > > That’s why the FDIC exists, and its existence or necessity is **not,** in and of itself, an argument against fractional-reserve banking. Practically every economic activity humans have ever invented has fairly required government regulation/insurance in some form or other. But doesn’t the FDIC only makes sense if the bank can’t make high risk investments? I ask because I think Glass-Steagall should be reinstated. Investment banks and management companies should be a completely different company, unable to be owned by a “proper” bank. Otherwise, you put a pretty hefty risk on the safety net. ---
**Author:** ![IdahoMauleMan](https://avatars.discourse-cdn.com/v4/letter/i/71c47a/32.png) [@IdahoMauleMan](https://boards.straightdope.com/u/IdahoMauleMan)\ **Post date:** [February 5, 2014, 1:19pm UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/24 "2014-02-05T13:19:19Z")
> [@Human\_Action](#): > > It’s just folk economics, having money listed in a customer’s account when it’s actually been loaned out to someone else just _feels_ shady and weird to people who don’t know any better, so they conclude it must actually be a shady conspiracy that’s ripping them off. > > Just a slightly updated variation on the old world’s contempt for charging interest on loans. Any economic activity that’s not physically tangible runs into these objections. No. The government actually forbids fractional-reserve status for stores of other commodities - grain, for example. A grain elevator owner cannot take 100 units of grain from 10 customers, and then write on little slips of paper “come to me whenever you want and get 50 units of grain”, and hand them out to 1,000 customers. That is called fraud in any other industry other than banking. Only banking is allowed to do that, because the government allows it. Fractional banking is a fraud, unless the depositors willingly enter into an arrangement whereby they know there is (1) risk of loss of all of their assets or (2) there is a predetermined liquidation preference that they agree to, in case of a run. As one poster remarked above, it is a means for the public to socialize their losses. ---
**Author:** ![IdahoMauleMan](https://avatars.discourse-cdn.com/v4/letter/i/71c47a/32.png) [@IdahoMauleMan](https://boards.straightdope.com/u/IdahoMauleMan)\ **Post date:** [February 5, 2014, 1:20pm UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/25 "2014-02-05T13:20:26Z")
> [@iamthewalrus\_3](#): > > The problem with fractional reserve banking is what happens in the inevitable run/crash, and the attendant incentive problems that creates. The overall effect is that you get greater financial efficiency at the cost of stability, and this tends to privatize gains and socialize losses. > > With full reserve banking, there’s no such thing as a run on a bank. If everyone shows up to take their money out, everyone gets their money. > > Fundamentally, fractional reserve banking makes its money by paying less for short-term deposits than it earns for long-term loans. Which is great as long as the supply of the former meets the demand of the latter. When it doesn’t, you get a run on the banks. These days, runs are generally prevented by government insurance, which means that in good times, bankers make a bunch of money, and in bad times, the government takes a loss. Privatizing gains and socializing losses. > > Once you establish the idea that the government will step in to protect banks from runs, you get moral hazard in banks (and in bank employees) who are encouraged to take larger risks. If they win, they get the money, and if they lose, the government takes the fall. See the recent global financial upset for an example. > > Now, you can make a good argument that the added efficiency in the financial sector makes up for that, that we are all made better off by a system where credit is available, and the fact that the administrators of that credit make out like bandits is a small price to pay on a societal level. But it’s not a given. Nicely put. I would challenge that there is no “added efficiency” created by allowing this form of fraud to continue. ---
**Author:** ![IdahoMauleMan](https://avatars.discourse-cdn.com/v4/letter/i/71c47a/32.png) [@IdahoMauleMan](https://boards.straightdope.com/u/IdahoMauleMan)\ **Post date:** [February 5, 2014, 1:22pm UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/26 "2014-02-05T13:22:42Z")
> [@BrightNShiny](#): > > You can head off some of these problems by limiting the risk Federally-insured banks engage in, and by making them pay adequate insurance premiums. You can’t eliminate Federal losses over the long run entirely, since there’s always the risk of some catastrophic shock which takes down the entire banking system. But we managed pretty well from the period between the end of WWII and the late sixties/early seventies. “Catastrophic shocks” could only be 1. War 2. Distortions created by arbitrary use of force (e.g. extracting wealth from the citizenry to build X, or Y, or Z when such things are not needed) 3. Collapse of confidence due to fractional-reserve banking and fiat currency ---
**Author:** ![Hellestal](https://avatars.discourse-cdn.com/v4/letter/h/3ab097/32.png) [@Hellestal](https://boards.straightdope.com/u/Hellestal)\ **Post date:** [February 5, 2014, 2:40pm UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/27 "2014-02-05T14:40:31Z")
> [@IdahoMauleMan](#): > > No. > > The government actually forbids fractional-reserve status for stores of other commodities - grain, for example. > > A grain elevator owner cannot take 100 units of grain from 10 customers, and then write on little slips of paper “come to me whenever you want and get 50 units of grain”, and hand them out to 1,000 customers. > > That is called fraud in any other industry other than banking. Who calls it a fraud in any other industry? It doesn’t meet the dictionary definition because there’s no deception involved. Anyone can educate themselves on what happens inside a bank. People might not bother learning, but there is still no deception. I also doubt the law calls it fraud, unless you’ve got a specific cite saying otherwise. This from the Virginia code [outlines that grain banking is against the law](http://vacode.org/3.2-4763/), but the f-word doesn’t show up. Just because it’s regulated out of existence doesn’t make it fraud. I’m not allowed into the business of thermonuclear arms dealer, but not because of fraud. > [@IdahoMauleMan](#): > > Fractional banking is a fraud, unless the depositors willingly enter into an arrangement whereby they know there is (1) risk of loss of all of their assets or (2) there is a predetermined liquidation preference that they agree to, in case of a run. Do you apply this definition to any other form of debt? Is every accounts payable for every business “fraud” in your estimation unless it meets your criteria? Because again, I doubt the law uses the same terminology. Some contracts which both parties would otherwise voluntarily agree to are verboten for reasons entirely removed from any notion of deception. > [@iamthewalrus\_3](#): > > The problem with fractional reserve banking is what happens in the inevitable run/crash, and the attendant incentive problems that creates. The overall effect is that you get greater financial efficiency at the cost of stability, and this tends to privatize gains and socialize losses. This isn’t just about a single run, though. I’m sure you realize this but it’s not enough to look at an incident in isolation. It’s about the banking system as a whole, including the regulatory apparatus. We’ve got to look at the whole picture, and the results can be counter-intuitive. Canada, for instance, has extremely strong banks. They also have very few banks. It’s a very consolidated sector. We might think that would cause more systemic risk, but at least on first glance, it gives the appearance that the extra rents they receive from the lack of competition allows them to be much more cautious with their positions. I’m no expert on regulation and I’m not married to this explanation, but at least some seemingly sensible banking reforms in the US would quite possibly lead to a similar consolidation. It’s just that there are podunk banks in every Congressional district, so there’s no way that such a thing would ever pass. Of course, the big US firms compete internationally so this might not match other examples, but at the very least, we have to acknowledge that there are systems out there that seem to deliver the very stability that people claim to want. The consequence would be a bigger industry shakeup than is politically possible. It’s not necessarily “fractional-reserve banking” that’s the problem, but the entire market and regulatory structure. ---
**Author:** ![WillFarnaby](https://sea3.discourse-cdn.com/straightdope/user_avatar/boards.straightdope.com/willfarnaby/32/514_2.png) [@WillFarnaby](https://boards.straightdope.com/u/WillFarnaby)\ **Post date:** [February 5, 2014, 3:11pm UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/28 "2014-02-05T15:11:20Z")
> [@Hellestal](#): > > This isn’t just about a single run, though. I’m sure you realize this but it’s not enough to look at an incident in isolation. It’s about the banking system as a whole, including the regulatory apparatus. We’ve got to look at the whole picture, and the results can be counter-intuitive. Canada, for instance, has extremely strong banks. They also have very few banks. It’s a very consolidated sector. We might think that would cause more systemic risk, but at least on first glance, it gives the appearance that the extra rents they receive from the lack of competition allows them to be much more cautious with their positions. > > I’m no expert on regulation and I’m not married to this explanation, but at least some seemingly sensible banking reforms in the US would quite possibly lead to a similar consolidation. It’s just that there are podunk banks in every Congressional district, so there’s no way that such a thing would ever pass. Of course, the big US firms compete internationally so this might not match other examples, but at the very least, we have to acknowledge that there are systems out there that seem to deliver the very stability that people claim to want. The consequence would be a bigger industry shakeup than is politically possible. It’s not necessarily “fractional-reserve banking” that’s the problem, but the entire market and regulatory structure. Well if you choose to blame it on the failures of regulators that’s an ideological choice for you. The simple fact is that the banks experience runs because they don’t have the funds to cover all deposits. Fractional reserves create the instability. You’re blaming government for not fixing a problem government created in the first place. ---
**Author:** ![LinusK](https://avatars.discourse-cdn.com/v4/letter/l/258eb7/32.png) [@LinusK](https://boards.straightdope.com/u/LinusK)\ **Post date:** [February 5, 2014, 3:29pm UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/29 "2014-02-05T15:29:53Z")
> [@BrainGlutton](#): > > I have heard some people rail against [fractional-reserve banking](http://en.wikipedia.org/wiki/Fractional_reserve) (or, simply, “banking,” I know of no other kind) on occasion, but don’t understand their objections. They seem to think it’s some kind of evil conspiracy, or a way for bankers to coin money out of nothing, or something. But how could industrial capitalism be possible without it? Banking is a way of making money out of nothing, but where else is money supposed to come from? Gold? We could hire people to bury barrels full of money in the ground, and then pay them to dig it up again, and it would be the same level of stupidity. All those diggers could be doing something useful instead, like building houses, or making iPads. The problem with relying on commercial bankers alone is the constant boom/bust cycle it produces. Which is why we need more aggressive fiscal policies to prevent the pointless recessions/depressions that commercial banking alone creates. ---
**Author:** ![Tom\_Tildrum](https://avatars.discourse-cdn.com/v4/letter/t/e95f7d/32.png) [@Tom\_Tildrum](https://boards.straightdope.com/u/Tom_Tildrum)\ **Post date:** [February 5, 2014, 3:53pm UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/30 "2014-02-05T15:53:33Z")
> [@iamthewalrus\_3](#): > > These days, runs are generally prevented by government insurance, which means that in good times, bankers make a bunch of money, and in bad times, the government takes a loss. Privatizing gains and socializing losses. Deposit insurance doesn’t cover a bank’s shareholders. If a bank fails, the depositors are paid off, and the shareholders lose their equity. Moreover, there isn’t really any sense in which deposit insurance socializes losses, because the government never takes a loss. Banks pay for deposit insurance, which in turn means that depositors pay for it, by receiving marginally less interest on their money. Bank failures are paid for out of the fund created the banks’ insurance premiums. The FDIC receives no appropriated (i.e., taxpayer) funding. ---
**Author:** ![BrainGlutton](https://avatars.discourse-cdn.com/v4/letter/b/82dd89/32.png) [@BrainGlutton](https://boards.straightdope.com/u/BrainGlutton)\ **Post date:** [February 5, 2014, 4:03pm UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/31 "2014-02-05T16:03:20Z")
> [@Tom\_Tildrum](#): > > Moreover, there isn’t really any sense in which deposit insurance socializes losses, because the government never takes a loss. Didn’t it take a loss in the savings-and-loan crisis? ---
**Author:** ![BrainGlutton](https://avatars.discourse-cdn.com/v4/letter/b/82dd89/32.png) [@BrainGlutton](https://boards.straightdope.com/u/BrainGlutton)\ **Post date:** [February 5, 2014, 4:04pm UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/32 "2014-02-05T16:04:35Z")
> [@LinusK](#): > > The problem with relying on commercial bankers alone . . . As opposed to whom else? ---
**Author:** ![BrainGlutton](https://avatars.discourse-cdn.com/v4/letter/b/82dd89/32.png) [@BrainGlutton](https://boards.straightdope.com/u/BrainGlutton)\ **Post date:** [February 5, 2014, 4:08pm UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/33 "2014-02-05T16:08:33Z")
> [@IdahoMauleMan](#): > > Fractional banking is a fraud . . . Since we all know what it is and what its terms are, whom does it defraud? ---
**Author:** ![Hellestal](https://avatars.discourse-cdn.com/v4/letter/h/3ab097/32.png) [@Hellestal](https://boards.straightdope.com/u/Hellestal)\ **Post date:** [February 5, 2014, 4:12pm UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/34 "2014-02-05T16:12:50Z")
> [@WillFarnaby](#): > > The simple fact is that the banks experience runs because they don’t have the funds to cover all deposits. Fractional reserves create the instability. This is only true if all such systems are unstable. Yet in the very post you responded to, I pointed out a fractional-reserve system that has been stable. And no, it’s not a simple fact that banks experience runs because they lack the funds. That’s a necessary but not a sufficient condition. There are stable systems that lack the funds to pay off all depositors simultaneously, but which don’t suffer the kinds of runs that the US has experienced lately. So what’s up with those? It’s worth investigating why some fractional-reserve system are wobbly, and others aren’t. > [@WillFarnaby](#): > > You’re blaming government for not fixing a problem government created in the first place. No, I’m not. I’m open to the possibility that a free banking system like Scotland had in the 18th century, or Canada had in the 19th century, would work better than our present system. This kind of structure worked significantly better than the faux-free system the US was using in the 19th century. Such a change is not politically possible, but I’m willing to entertain the notion. That’s hardly a sign of ideological inflexibility. > [@Tom\_Tildrum](#): > > Deposit insurance doesn’t cover a bank’s shareholders. If a bank fails, the depositors are paid off, and the shareholders lose their equity. > > Moreover, there isn’t really any sense in which deposit insurance socializes losses, because the government never takes a loss. Banks pay for deposit insurance, which in turn means that depositors pay for it, by receiving marginally less interest on their money. Bank failures are paid for out of the fund created the banks’ insurance premiums. The FDIC receives no appropriated (i.e., taxpayer) funding. Given a large enough crisis, there’s the possibility that a tsunami of failures would wipe out that fund. There’s not really any doubt what the government would do in that case. ---
**Author:** ![BrainGlutton](https://avatars.discourse-cdn.com/v4/letter/b/82dd89/32.png) [@BrainGlutton](https://boards.straightdope.com/u/BrainGlutton)\ **Post date:** [February 5, 2014, 4:35pm UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/35 "2014-02-05T16:35:16Z")
> [@Simplicio](#): > > It’s called “full-reserve banking”. Its kind of a thing (your link mentions a few examples), but pretty uncommon. Basically they take depositor money and charge fees instead of loaning out cash to make a profit. So, you’re just using the bank as a place to store your money. You can do that now; rent a safe-deposit box. ---
**Author:** ![Tom\_Tildrum](https://avatars.discourse-cdn.com/v4/letter/t/e95f7d/32.png) [@Tom\_Tildrum](https://boards.straightdope.com/u/Tom_Tildrum)\ **Post date:** [February 5, 2014, 5:10pm UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/36 "2014-02-05T17:10:51Z")
> [@Hellestal](#): > > Given a large enough crisis, there’s the possibility that a tsunami of failures would wipe out that fund. > > There’s not really any doubt what the government would do in that case. That’s true absent deposit insurance, though, too, and deposit insurance arguably reduces the likelihood of such a cascade. I.e., it reduces the possibility of having to socialize losses. > [@BrainGlutton](#): > > Didn’t it take a loss in the savings-and-loan crisis? True. However, I would contend (somewhat mischievously, to be sure) that the S&L industry as originally designed represented an attempt to socialize gains by ensuring access to inexpensive home loans, and that the sharp changes in the regulatory environment of that sector (from restrictions that made them unable to compete to throwing open the doors to criminals) made it a unique case – perhaps more a matter of paying the piper than socializing losses. ---
**Author:** ![LinusK](https://avatars.discourse-cdn.com/v4/letter/l/258eb7/32.png) [@LinusK](https://boards.straightdope.com/u/LinusK)\ **Post date:** [February 5, 2014, 5:15pm UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/37 "2014-02-05T17:15:13Z")
> [@BrainGlutton](#): > > As opposed to whom else? The government. Collectively the Treasury and the Fed have created approximately 17 trillion dollars worth of money and other assets (bonds) which are the basis of our financial system. The money protects the economy, prevents runs on banks, boosts employment, and makes the economy run more efficiently. ---
**Author:** ![leahcim](https://avatars.discourse-cdn.com/v4/letter/l/b4bc9f/32.png) [@leahcim](https://boards.straightdope.com/u/leahcim)\ **Post date:** [February 5, 2014, 5:46pm UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/38 "2014-02-05T17:46:30Z")
> [@IdahoMauleMan](#): > > A grain elevator owner cannot take 100 units of grain from 10 customers, and then write on little slips of paper “come to me whenever you want and get 50 units of grain”, and hand them out to 1,000 customers. But that’s a hair’s breadth away from the current, perfectly legal agricultural commodity futures market, where lots of people contract to provide various things at certain locations and times without any intention of actually doing so. And also lots of people contract to pick up said things at said locations and times without having any intention of actually doing so. And the whole system actually works very well like that. (And as noted, even your grain elevator example is not “fraud” if everyone involved knows what is going on. It may be illegal for other reasons, but fraud ain’t it.) ---
**Author:** ![Lemur866](https://sea3.discourse-cdn.com/straightdope/user_avatar/boards.straightdope.com/lemur866/32/434_2.png) [@Lemur866](https://boards.straightdope.com/u/Lemur866)\ **Post date:** [February 5, 2014, 5:48pm UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/39 "2014-02-05T17:48:53Z")
Fractional reserve banking is another word for “banking”. If banks were required to keep 100% of deposits on hand, they wouldn’t be banks, they’d be safe-deposit boxes. And if you wanted a loan, you wouldn’t go to a bank. You’d have to go to a venture capitalist. And if you were required to keep 100% of all deposits on hand, how could anyone get a loan from anyone? When people get a loan, we write down “I owe Bob 27 drachmas”. Then I take the money from Bob and spend it on food and clothing for my starving family. I don’t have the money anymore, I spent it. If Bob comes to me tomorrow and demands his money, I won’t be able to pay him because I don’t have it, that’s the reason I borrowed it in the first place because I needed money today that I didn’t have. If I were required to keep 100% of the funds I borrowed from Bob on deposit, then why would I have borrowed it, since I couldn’t spend it? Any time a store extends credit, or someone borrows money, we have a simple form of fractional reserve banking. Any time we allow businesses to list “accounts receivable” as assets we are allowing a form of fractional reserve banking. Indeed, extending credit, fractional reserve banking, IOUs, credit card purchases and so on are just ways of creating paper money. Which explains why gold bugs also hate banking, since if we use gold and silver coins as money there is no use for a bank as we know it, merely safe deposit boxes like they have at Gringott’s. Of course I don’t understand how gold bugs could endorse a gold standard currency, since as everyone knows paper money backed by gold magically turns into fiat currency every time a government gets into trouble. When a war starts the first thing the government does is stop redemption of paper money for precious metals. So paper money backed by gold is a fraud, even if the issuer of the paper has 100% of the gold on hand represented by the paper. The only trustworthy money is actual precious metal, not a paper representation of that precious metal, be it a gold certificate or a bank statement that so-and-so has X grams of gold on deposit. And it is curious that under today’s fiat currency system you can go into any pawn shop and exchange your fiat currency for real gold or real silver, whereas in the old days when we were supposedly on the gold standard that was illegal. A fiat currency means a free market for precious metals, a precious metal standard means the government tightly controls every single aspect of the precious metal market. So being for the gold standard is another way of demanding that the government socialize the gold industry. ---
**Author:** ![RickJay](https://avatars.discourse-cdn.com/v4/letter/r/bb73d2/32.png) [@RickJay](https://boards.straightdope.com/u/RickJay)\ **Post date:** [February 5, 2014, 5:51pm UTC](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516/40 "2014-02-05T17:51:50Z")
> [@WillFarnaby](#): > > You’re blaming government for not fixing a problem government created in the first place. Fractional reserve banking was not willed into existence by government, you know. [Previous page](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516.md?page=1) [Next page](https://boards.straightdope.com/t/what-does-anyone-have-against-fractional-reserve-banking/680516.md?page=3)