[stephen_g]

That’s not actually how real banks work though - “fractional reserve” is only an economic textbook model.

Most countries don’t, and have never had reserve requirements. The limits to lending are firstly capital (share capital, retained earnings etc.), which banking regulations allow banks to lever up to a certain level, and secondarily liquidity, which they need to be able to pay out withdrawals, transfers etc. Deposits don’t come into it apart from that they are a certain kind of cheap liquidity for inter-bank transfers.

Deposits themselves are a liability of the bank, and since lending creates new deposits on the balance sheet, “lending from deposits” would create more liabilities from existing liabilities, which doesn’t really work with the accounting.

[lowkey]

I’ll admit my Google Foo is currently failing me but when last I checked fractional reserve requirements were a very real requirement up until the last couple of years.

Do you have a source to support your claim that they only apply in economic textbook theory and not in reality.

Could you perhaps help explain, ideally with a numerical example, how it currently works in practice?

[stephen_g]

A great resource is from the Bank of England (UK central bank) themselves: https://www.bankofengland.co.uk/quarterly-bulletin/2014/q1/m... (click through to the main PDF).

Key quote:

> "Money creation in practice differs from some popular misconceptions — banks do not act simply as intermediaries, lending out deposits that savers place with them, and nor do they ‘multiply up’ central bank money to create new loans and deposits."

Here's a rundown of what it means by economist Steve Keen who specialises in this kind of stuff: https://www.quora.com/What-is-fractional-reserve-lending/ans...

As Keen explains from accounting first principles, fractional reserve could work if banks gave out loans in cash, but not how modern banks work today.

What I'm referring to about capital is formalised in the Basel III regulations - see https://en.wikipedia.org/wiki/Basel_III - since we've established that banks don't lend out of deposits, they actually have to cover any delinquent loans from their tier-1 capital (shareholder's equity) - that's what they're leveraging when they lend, not deposits. I can attest to this myself - I've never heard of any bank saying "oh sorry, we couldn't make any more loans because we needed to wait for some more people to make deposits", but as a bank shareholder I have more than once had a letter saying "we need to raise more capital through a new share offering tranche or else our lending projections show we may not be able to meet our capital adequacy ratios" (especially around the time when things were transitioning from Basel II to Basel III because the ratios increased).

[eru]

> I’ll admit my Google Foo is currently failing me [...]

See https://en.wikipedia.org/wiki/Reserve_requirement#Countries_...

> [...] reserve requirements were a very real requirement up until the last couple of years.

Mostly only in the US.

The whole Wikipedia entry is worth a look.

If you want to read more than you ever wanted to know, check out the works of George Selgin.

[lowkey]

Notably all other countries have a similar fractional reserve banking model even if the details may vary. Specifically, the money loaned out by the bank is created out of thin air in the form of bank credit and does not come out of any account. The banks in every country have no cost of goods for the money they lend out. They are authorized by government charter to create this money out of thin air. This is true whether they have reserve requirements or not.

[eru]

I am afraid you are misunderstanding the situation.

First, government authorisation is irrelevant. Shadow banking has the same effects. See https://en.wikipedia.org/wiki/Shadow_banking_system And so do grey or black market operations. Or offshore banks (that don't fall under the local government's authorisation.)

Second, even in the absence of any minimum legal reserve requirements, why do banks need reserves at all? Among other uses, banks need reserves for two main reasons:

* Cash withdrawals

* Net settling of money transfers with other banks

Now you are right that a bank can in principle create a loan/deposit pair out of thin air: they just adjust their ledger that you have now have 100$ dollars in your current account, but also that you owe them a 100$. Voila: money from nothing.

Now here's the problem: debtors are seldom content to let the loaned funds gather dust in their accounts. Typically, they spend them. Either by withdrawing cash or by transferring the money to some other person's account.

Chances are that the other person's account is with a different bank.

Both the withdrawal and the transfer diminish the reserves of our bank.

(On the flip side: both cash deposits and your customers receiving a money transfer into their account, increases your bank's reserves.)

In summary: yes, in the instant of creation, loans create money out of thin air. But as soon as the debtor spends the loaned funds, reserves (and thus deposits) are required.

And that's why even in the absence of legal reserve requirements, banks have to attract deposits.

Does this make sense?

See also https://www.alt-m.org/2017/09/06/the-bagging-rule-or-why-we-...