Fractional Reserve Banking is
the Catalyst of the increase in Money supply (and Inflation).
Throughout history, no fiat
money system has stood the test of time. All attempts to substitute paper
money for gold and silver have ended in the total destruction and debasement
of the currency and a collapse of the economy.
Zimbabwe are modern life examples.
Click on the picture left to listen to:
Economic Recessions, Banking Reform and the Future of Capitalism
While bankers do control the issuance
of credit, they cannot control themselves. Bankers are the fatal flaw in
their deviously opaque system that has substituted credit for money and debt
for savings. The bankers have spread their credit-based system across the
world by catering to basic human needs and ambition and greed; and while
human needs can be satisfied, ambition and greed cannot - and the bankers'
least of all. Aug 25, 2008 -
Darryl Robert Schoon
Posted June 27 and updated
August 5, 2008
Those who don’t like reading can watch
this light hearted You-Tube video clip:
Each time bankers have been operating
against the general moral principles, with a fractional reserve ratio, it
brings about a credit expansion, unbacked by real savings that leads to an
artificial, inflationary economic boom, which finally reverts in a crisis and
economic recession in which banks inexorably fail.
To have a better understanding of the
mechanism, one first needs to understand the difference between Loan Contracts
and Deposit Contracts.
In case of a Deposit contract,
as funds are deposited within the banking system the depositor entrusts the
bank to guard the funds and to return these to the depositor at any moment he
should ask for it. The fundamental purpose of this contract is the safekeeping
of the funds. Hence, for this service it is possible that in some cases the
depositor has to pay a fee for the custody. An example is a bank or a broker
holding securities for a customer. For simple deposits of cash money, banks
traditionally do not ask a fee but rather pay a small interest.
A deposit is also an irregular deposit.
In other words, the bank has the obligation to always keep available to the
depositor goods of the same quality and quantity as those received. The logic
behind this is that the safekeeping obligation requires the continuous
availability to the depositor of a 100 % cash reserve.
Important is that the availability of
the goods cannot be transferred and a 100 % cash reserve has to be kept at all
times. In other words, there is no fractional reserve banking possible.
In case of a Loan contract,
funds are deposited within the banking system but can be lend out to a 3rd
entity that has to return the initial deposit and has to pay interest as
agreed between parties. In other words, in this case, the availability of the good is shifted from
the lender to the borrower for the duration of the contract. (ex.
Today as $/€ 100 is deposited into the
banking system and as there is practically no obligation to keep a 100 % of
availability of the funds (Banks have come to a point where they operate with
fresh funds lend to them by the Federal Reserve/National Banks), the cash
reserve is close to *zero and even negative. Hence, the
bankers’ fraudulent activity can be (as long as it is not discovered and banks
do not fail) expanded exponentially. In other words, a bank deposit of $/€ 100
ends up as $/€ 999 of freshly created money. In fact, the present situation
has even become worse since money has become “debt”.
Additionally, both kind of money
contracts (deposits and loans) are used in a similar way to increase the
creation of fresh money.
Federal/National banks or
centralization is something that was already used (and failed) by the
Egyptians. The process has always been the same. After a pronounced
inflationary boom (hyperinflation) there was a confidence crisis, a drop in
the value of money and a failure of banks. This pattern can be seen over and
over again in Egypt, Greece and later in the Roman Empire. In those days,
instead of printing more money, they simply debased the monetary system by
taking more and more gold and/or silver out of the coins in circulation. Each
recession lasted until the supply of cash and credit money approached its
Each time we have the creation of
money/credit that is unbacked by real savings, entrepreneurs receive false
signals, and the so created fresh money is misallocated. In other words, it
is NOT used in those sectors of the economy where it is most needed. We
see Bubbles. A modern example is the Real Estate sector compared to the food commodity sector.
Although there was no real shortage of Real estate, and because interest
rates stayed low for so long, a self feeding price bubble was
initiated. The price of real estate began to rise abnormally because of cheap
credit and more and more funds were allocated to this sector. Other sectors,
like Energy-Oil and food became uninteresting. Oil refineries were not
modernized and no new ones were built. Hence we not only see higher prices as
a result of monetary inflation, but also because of an inequilibrium of supply
As life gets more and more expensive,
more home owners have to foreclosure and more builders go out of business. We
have a Credit Crunch because credits were incorrectly allocated by the
banks. Federal/National banks have to move in to avoid a run on the Banks
(Northern Rock) which would inevitably bring down the whole system. This
action liquefies the bad debt of the banking system as it is taken over in
exchange for fresh money. By doing this, even more monetary inflation
is created. At the same time, because of the credit crunch, less and less
credit is allocated and banks (Fortis) try to increase their capital in order
to regain a positive leverage on their own funds and deposits and in an effort
to dilute the pain over a larger number of shareholders.
the vicious circle has been closed. The banking system has ended between a
rock and a hard plate. Either they stop creating money and interest rates will
jump up today hereby pushing the economy into a depression, or more fiat money
will be created insuring we end up in a hyperinflation cycle. The coming
hyperinflation will then result in a confidence crisis, high interest rates
and a depression and a destruction of the monetary system. This will last
until the supply of cash and credit money approach its pre-crisis level. As
a conclusion, we can say that interest rates are to increase in all cases!
In other words, as the Gold window was
closed in 1971, the worst case scenario is that we could see a Dow Jones level
back as low as 1000! The bright side is that at that time the Dow Jones will
still exist and that bank deposits may be whipped out. This is certainly a
situation Zimbabweans understand.
History shows over and over again that
any lasting economic boom is based on real savings and not on Fiat Money. Only
Real Savings ensure the prices for goods and services are optimized.
The Municipal Bank of Amsterdam(1609-1770)
is the life proof that banking with a 100 % reserve ratio works. When John Law
started his crazy inflationary politics in 1720, the deposits totaled
28,000,000 florins and the stock of cash 27,000,000. Only in 19th
century the bank started to become corrupt.
Thanks to John Law, France is one
of the countries where citizens hold the most Gold. Also, it was after a
request of General de Gaulle , at the time he was president of France, to have
the American debt paid into gold that in 1971 Pres. Nixon closed the gold
The bank’s failure to comply with a 100%
reserve ratio on demand deposits bring about a situation where and
depositors and borrowers simultaneously believe they can use the same
money at the same time. Such a thing is only possible for liquid money.
The fiat money created as a result of
fractional reserve banking is detrimental to third parties, who suffer from
the damage caused by the banker’s activities.
Updated September 13, 2010
"The Fed is in the most unusual position of providing vast amounts of cash to
the banking system - to such an extent that, instead of holding reserves
deposited by member banks, the Fed is now a huge supplier of funds to the
banks! The fractional reserve banking system has been turned upside down!"
With free capital
markets, investment capital flows in increased amounts to the more profitable
industries and producers, and in decreased amount to the less profitable
declining industries and producers. Thereby the unencumbered free market also
regulates the allocation of capital to meet the changing needs of the
In an economy with
fractional reserve banking, where commercial banks are guaranteed against
failure by central banks and receive credit at below market interest rates,
the market restraints are replaced by opposite forces. This theory is exactly
the opposite from the Keynesian monetary one which is followed by most
modern economists and politicians.
The so created new
money goes first to government, then to government employees,
subsidy-beneficiaries (war industry) and suppliers. They are the ones who
benefit from inflation, to virtually else’s detriment. Private enterprises and
savers are the ones most victimized. They pay the highest prices and are the
most damaged by the false signals and distortions caused by inflation.
interest rates motivate businessmen to increase their investments;
simultaneously, they discourage savings on the part of the public. And these
savings are in fact badly needed for a sound economy and healthy financial
system. Additionally, financial (Banks) entrepreneurs manufacture new
leveraged (leverage works in two directions) financial products (CDO’s) to
attract the investors. As long as the boom is in place, all goes well and the
leverage improves the results. However, once the a recession starts, the
leverage works against the financial entrepreneurs (read Hedge funds and
Bankers). We have a CREDIT CRUNCH.
Since December 2006, the legal reserve rate for amounts up to $
8.5 mio is 0 %. Up to $ 45.8 mio it is 3%. The maximum is 10%. Hence the expansion of $
100 is a lot more than 1000!