There is no alternative but to end the fractional reserve banking system and make credit an essential public service, argues Juan Torres Lopez
Private banks enjoy an extraordinary privilege: whenever a loan is granted they create money. Not coins or notes, which is what ordinary people think is money, but bank money, ie, payment through their accounts.
When they receive deposits from customers banks do not hold them fully in reserve to meet withdrawals requested by them, but instead hold a fraction and use the rest to make loans (that’s why it is said to be a fractional reserve banking system).
The phenomenon is easy to understand: Peter has 100 euros, the only 100 euros in the economy, and deposits them in a bank. With a debit card or cheque he can make payments worth 100 euros. If the bank makes a loan of 20 euros to Paul by simple book entry, he may spend those 20 euros, so that from that moment there are now 120 euros in payment. The bank has created 20 euros of deposit money.
By doing this again and again, without cease, banks “multiply” the means of payment while at the same time creating more debt. As Nobel Prize winning economist Maurice Allais said, this means that banks create money ex nihilo, from nothing.
In Europe, the proportion of deposits that banks are required to keep in reserve today is 1%, in the case of deposits of less than two years or those that can be removed without notice, and 0% in other cases. This implies that, if we assume that customers do not use notes and coins (which today is almost always the case thanks to bank cards), a bank can create out of nothing 100 euros each time a customer deposits 1 euro (less two years deposit) and much as its likes in the other cases.
Creating money out of thin air
That’s the business that gives profits to banks: creating money out of thin air, endlessly generating debt.
Logically, banks have never missed that opportunity and are dedicated to impose conditions requiring that businesses, families or governments have to continually borrow. For example, encouraging home ownership rather than renting, cutting wages, allowing mortgages in excess of the value of the house, artificially raising the price of housing, tax exempting interest so that it is more profitable to borrow than to self-finance, etc.
This is the cause – and no other – of the steady expansion in debt. And also that banks have crises every few minutes, because the rise in debt means a widening gap between the credit provided and their deposits and capital in general.
Last June data was published that allowed us to check the relationship between capital and assets of the 50 largest banks in the world. While the data is not actually on deposits and loans, the relationship reflects how the banking business has expanded, and the reason for its continued instability.
These 50 largest banks have a total capital of 772 billion dollars but their assets are 87.6 times bigger (67.6 trillion dollars).
Among them are some truly astounding cases. The record is held by Wells Fargo Bank of America with assets 2,647 times greater than its capital. Another US bank, Citibank, has a capital to asset ratio of 1:1794, while Holland’s ING has 1,500 in assets for every dollar of capital. In the ranking are also Spain’s biggest bank, Banco Santander, ranked 15th with a ratio of 197 in assets for every dollar of capital (the full list can be seen in the Bankers Almanac).
Castles in the air
The fractional reserve system results in these financial monsters that are like castles in the air, and it is just impossible that they will remain standing without falling at some point. As history has shown dozens of times.
But while the system is extremely dangerous, it has amassed huge political power, which has reached into every crack and crevice of society and allows it to force citizens to bear the colossal costs whenever the system falls.
We live, therefore, in a system that has handed over the key to create wealth, employment and human satisfaction, that is to create money, which is to the economy like blood to the human body, to a privileged social group. An elite that uses this power in the most wasteful and expensive manner, creating growing debt that stifles economic life.
Whichever way you look at it, there is no alternative but to end the fractional reserve system and to consider credit as an essential public service, forcing banks, whether privately or publicly owned, to be governed, without exception, according to that principle.
That not only would avoid the hell that occurs in every crisis repeatedly caused by the current banking system, but would allow use the money, that is a common good, to provide finance to businesses and consumers, with the interest (which may be minimal or only used as a tool for stabilization) reverting to the State, cutting a huge part of the current tax burden.
Translation/edit by Revolting Europe