When you deposit money into a bank, do you know what happens to it? It doesn’t simply sit there. Banks are actually allowed to loan out up to 90% of their deposits. For every $10 that you deposit, only $1 is required to stay put.
This practice is known as fractional reserve banking. Now, it’s fairly rare for a bank to only have 10% in reserves, and the number fluctuates. Since checkable deposits are part of the U.S. money supplies, fractional reserve banking, as you might have guessed, can have a big impact on these supplies.
This is where the money multiplier comes into play. The money multiplier itself is straightforward: it equals 1 divided by the reserve ratio. If reserves are at 10%, the minimum amount required by the Fed, then the money multiplier is 10. So if a bank has $1 million in checkable deposits, it has $10 million to work with for stuff like loans and reserves.
Now, typically, the money multiplier is more like 3, because banks can always hold more in reserves than the minimum 10%. When the money multiplier is higher, like during a boom, this gives the Fed more leverage to move M1 and M2 with a small change in reserves. But when the multiplier is lower, such as during a recession, the Fed has less leverage and must push harder to wield its indirect influence over M1 and M2.
Next up, we’ll take a closer look at how the Fed controls the money supply and how that has changed since the Great Recession.
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Poor explanation choice, yes, but when you spend it, it tends to go into someone else's bank account, so the result is the same.
Technically he's not wrong, as first it gets put into your account, and then gets transferred to another account (which, as explained, doesn't change the big picture).
Remove the names and the result is the same.
Brett Marshall. True Banks expand the money supply when they grant a loan to a customer ex-nihilo. In the case of the USA and EU Euro zone, but not in the case of the UK there is a reserve requirement associated with the aggregate sums of the sight deposit accounts associated with the said bank group. Sight Deposits are a result of loans granted and transfers from other banks and physical deposits of cash If in retrospect the reserve requirement is not satisfied the bank will need to obtain extra reserves. These may come as a result not just from customer deposits of physical cash or wire transfers from other banks, but from borrowing on the financial markets (other banks) or from the central Bank.
Joe Nolan. Customer deposits are a liability of the Bank. An entity cannot lend a liability, only an asset.
+Joe Nolan Check out the websites of the Bank of England & the St Louis Fed. Both clearly explain that the money multiplier is a myth. Banks create money whenever they write loans. They're required to have a percentage of the money they lend out in reserves (deposits at the central bank + vault cash)
Frost qwerty I don't know why people find things they don't know a thing about funny. hypocrisy is the word, I guess
Anyways, people care because that's what makes the system better. If you want no one to think your plans are bs, you'd create a dictatorship. And let me remind you, people overthrew monarchies cause it was bs
And I am developing my own economic model just like everyone in our group; leveraging technology and social psychology to make smaller communities and diversified commerce. We'll publish it and wait for old, crappy people to leave office. Then we present it, discuss, if they're stubborn, well.. that's an insiders secret
It is always quite funny listening to people who say Capitalism is bs. well, maybe it is or maybe not. but the point is if you can not offer a better thing, why do you even care about it? as a "fanboy" of economics, I will be glad to hear a better idea from you. Maybe you will even be rewarded for Nobel prize, who knows...
Consider this, most people deposit cash in their banks sooner or later. First, when you apply for a loan, this loan is credited to your account. You'll have to withdraw it to spend it in the first place
Second, whoever who give your loan cash to, they'll be depositing it again in their bank. So in fact spread your money to end up in banks and create more bank credit. This is primary, secondary credit concept but basically all cash ends up creating new bank credit ( new money ) everytime it is taken from ATM, spent outside and redeposited and lent to another person
This is good for economy cause businesses have better access to money ( cause its created out of thin air ) but this is extremely disastrous for people who do jobs cause their standard incomes are deflated, more money flowing around means the money you hold will lose its value eventually
Imagine it this way, if I had 10 biscuits for my work and the overall number of biscuits in my entire city was 100 I have 10% of total number of biscuits. Now if new biscuits are made, say 200, so total number of biscuits now is 200+100, 300, I'll need 30 biscuits to hold 10% of the total amount. But if I get 10 biscuits and I eat 9 biscuits saving 1 biscuit everytime, I get fewer and fewer % of the total amount even though I'm working just as hard as I did before. This has a real problem with money, cause cost of things is proportional to total amount of money, so more money = stuff costs more, so standard jobs will get deflated, give you less purchasing power over time. And this is where cost of living comes in, it means affordability and ideally public should be able to spend for their needs and save a fraction of that amount with their standard incomes. However, in if you want economy to grow, you need to inflate economy for businesses which actually becomes hell of a problem considering exploitation including low paying jobs that companies offer. This system isn't fair to everyone and needs to be taken down ASAP but the only problem is capitalist fanboys who think they can rule the world but sooner or later hit the rock. This is kinda retarded even when you have a degree in commerce but most humans never developed from apes I guess, so they become capitalists instead
hello there. actually the model which shown in this video is wrong, it has nothing to do with how banks really create money. this model is just taken from economics textbooks(which is wrong). and talking about saving and spending as you ask- you know that when you buy smth in shops or etc by using your bank card, the money which u spend goes to sellers bank account(the same as if he deposited his earned money). and even if u buy by cash, at the end that money will most probably end up in some bank. so just think about it this way. but anyway, the video is completely wrong. good economists are not always good bankers... even professor of Harvard-G. Mankiv, whose economics books are you in most of the countries and universities.
The full formula for the money multiplier is 1/(reserve ratio) x 100 otherwise 1/10 would be 0.1 and that is NOT the multiplier as stated in your video - would be great if you made this clear other people might find it confusing
so what ?!!? the multiplier still applies .... that's how the system operates .... around the globe ! It is up to banks to decide what amount of money they will loan out .... every banks decides for itself .... learn sdometing about finance for crise sake ....
You borrow the money and buy a car from me, then I deposit the money. My money is used to give loan to Sam, who uses the loan money to buy a laptop from Rajesh, who deposits the money in the bank. Rajesh's money is used to give loan to Lee, who uses the money to buy a machine from Ali, who deposits the money, which is used to give loan to Jacob, and he ........ I hope you understand the game now
Oh No!. Not the money multiplier myth again.
If you really want to understand how modern banks work and prepared to make the effort then I suggest the following :-
The Bank of England - They should know as they run the show in the UK. As part of their Quarterly Bulletin for Q1 2014 they published :-
"Money creation in the modern economy" ref
The Federal Bank of Chicago - Published back in the 60's and unfortunately no longer available from their web site entitled :
"Modern Money Mechanics" A Workbook on Bank Reserves and Deposit Expansion available from http://www.rayservers.com/images/ModernMoneyMechanics.pdf
The UK based campaign group positive money have a good series of video's explaining things although not always perfectly.
Also worth a read from the BOE :-
and from CNBC an article Entitled "Basics of Banking: Loans Create a Lot More Then Deposits"
Happy reading and eventually you may see the light, its not complicated at all when you realise how it works in real world terms and it all makes Logical sense.
When customer takes out a loan from a Bank, the customer will be required to sign the loan document specifying repayment of the principal at some future date plus interest. This loan document is legally enforceable and is deemed to have value equivalent to the principal and as a financial instrument can be sold to a third party if required. The Bank retains the Loan document and records the loan as an asset on its books and in return increments the balance in the customers account by the value of the loan merely by typing it in. The balance of customers account is a liability of the Bank. The Banks balance sheet has expanded by the equal increase in assets and liabilities, but the value of the Bank (Shareholder Equity = Assets - liabilities) doesn't change. At this point the "Money Supply" has increased by the principal amount created by the Bank ex nihilo (This is new money, nothing has been taken from anywhere else).
The loan principal in the customers account results in a new reserve requirement and the Loan itself results in a new capital requirement. Basel, Tier One and Tier Two and all that.
Note When the Loan is re-payed the Money Supply shrinks by the principal amount reversing the banks ex nihilo creation of it. The Bank doesn't get to keep the repaid principal.
From my original post the CNBC article Entitled "Basics of Banking: Loans Create a Lot More Then Deposits" contains a an example of an imaginary bank (Scratch Bank) starting from nothing (no assets, no reserves - would never happen in practice of course) and how it could create a loan by charging an arrangement fee, no deposit necessary.
PS Banks don't act as an intermediary passing on customer deposits as loans to customers and neither do they lend out reserves, excess or otherwise to their customers. Banks do however lend excess reserves to other Banks.
True, with a 10% reserve requirement a Bank can support 10 x (reserves) of sight deposit liabliities to its customers. Its the explanation that goes with it that is in my view flawed.
See 3.54 mins in Money Multiplier.
BOE Money creation in the modern economy - Quarterly Bulletin article
what myth are you talking about ?!!? of course there is a multiplier ! that's exactly how the system works ....when you deposit money in a bank it has the legal right to multiply the money by at least 10 % .....sometimes even more ....if Minimal reserve requirement set by the CB is less than 10 % it means the banks can lend even more money making the multiplyer higher... that's exactly how the system works but 95 % of worlds population don't understand anything about banks and financial systems ! even after watching the video they still can't figure it out ! the professsor is absolutely right .....
There is no such thing as the "money multiplier", it's a moronic fiction that has been debunked countless times. When you deposit cash money into a bank, it does indeed stay in the bank as reserves, and only leaves the bank as withdrawals. Banks do not loan out their reserves, they do not loan money, period. Banks generate credit as deposits and call that a 'loan'.
this comment is not an angry ideological rambling at all , a blog post is much more credible than virtually every credible macroecon text book ever, everything is a neoclassical conspiracy ,9/11 was a part time job , trust this guy hes woke
Bank no longer create money in this manner. This is outdated information. What banks do is to have the customers seeking loans sign promissory notes. The bank take these promissory notes and deposit them in a transaction account. The bank then converts this promissory note into endogenous money which is then used to create a check, or exchange for cash. THE MONEY DID NOT COME FROM ANY EXISTING DEPOSIT. It was created based on a signature. Once the promissory note is paid off the promissory note is void, and the money supply shrink accordingly.
The proof of what i am saying is in the empirical data in 2007. Bank reserves were in the tens of billions and consequently if you follow this model it should be in the hundred billion (about 200 billion if you follow this video). But instead we have credit upwards of 7 trillion. BANKS DO NOT LEND FROM DEPOSITS, THEY CREATE THEIR OWN MONEY BASED ON A DEBTORS SIGNATURE.
I've been listening to a guy called Steve Keen and he makes the following criticism of the money multiplier (in my own words) and I hope Mr. Tabarrok or Mr. Cowen can explain where he's wrong.
If a person wants a loan of $X, what's to stop the bank from just marking up their account by $X and looking for reserves later? After all, this does not change the equity of the bank so no foul play. To see how this works, imagine someone were to come to me and ask for a loan for $100. I could just write them an IOU for $100, and they could use that IOU to buy what they need. Reserves are only useful as a guarantee on the value of the IOU—if someone wants to come in and cash in the IOU, I need some cash in reserve. But once a reputation has been established for redeeming IOUs for real cash, people treat the IOU like it's real money and there's little need to cash in the IOU. (For a bank the IOU is the money that appears in your current/chequeing account. And a bank run is what happens when people lose confidence in the redeemability of the IOUs.)
In principle, if people did all transactions in terms of the IOUs and nobody ever wanted to redeem the IOUs, the bank could operate without any reserves at all*. And the bank is free to print as many IOUs as it wants, constrained only by profit maximisation. In this way, banks do not need to look for reserves when someone asks for a loan. So the recursive series of transactions, each subject to a fixed "reserve ratio," doesn't seem to occur. You could always argue it's "as if" these transactions occur, and define the reserve ratio as Base money/Total money, but that turns the money multiplier into a tautology without any empirical content.
When you view banking this way, it's totally predictable that the massive increase in reserves by the Fed didn't lead to hyperinflation. After all, reserves only exist to convince the public of the redeemability of the banks IOUs, to facilitate the occasional withdrawal, and to facilitate transactions between accounts belonging to different banks (see below). Once these functions have been fulfilled, more reserves doesn't lead to more loans.
*This is not quite true since if a person with a Bank A IOU deposits it in Bank B, Bank B will want to redeem this IOU and there will be a transfer of reserves from Bank A to Bank B. Reserves are needed for this situation.
What is COUNTERFEIT?
In criminal law. To forge; to copy or imitate, without authority or right, and with a view to deceive or defraud, by passing the copy or tiling forged for that which is original or genuine. Most commonly applied to the fraudulent and criminal imitation of money. State v. 11c- Kenzie, 42 Me. 302; U. S. v. Barrett (D. C.) Ill Fed. 309; State v. Calvin, It. M. Charlt (Ga.) 159; Mattison v. State, 3 Mo. 421. https://thelawdictionary.org/counterfeit/
Banks are making legitimate and legal loans through deposits (liabilities) and the excess reserves in their vault (assets).
It would be counterfeiting if they kept that money for themselves. But once the loans are payed back, that created money disappears. They only keep the interest, as payment for their work and to compensate for the clients that defaulted on their loans.
The money supply is a breathing entity, that expands and contracts. We learned through many mistakes across time that central manipulation of that flow is very important and necessary.
Bank of England has come out with a paper dispelling fractional reserve. Commercial depository institutes create loans endogenously. The loan become the deposit. Loaning reserves is only bank to bank, and not to customers.
That’s why gold isn’t currency. It’s money. It shackles money manipulators and severely limits inflation which is stealing value from peoples savings. I agree it’s not perfect, not even close, but it’s far better than what we have. Debt is pretty unavoidable but it can be limited.
Emperor Alvis you clearly have not listened to or read the work I mentioned if you think that reply at all relates to what I was saying. Gold and silver coins (or currency redeemable in them) are just as much debt as fiat currency (arguably being fiat in a literal sense themselves) and I'm not saying that currency being debt is a bad thing when properly managed either.
Here's a link to the author giving a talk on it. https://youtu.be/CZIINXhGDcs
Tl;dr: all real currency is a representation of debts paid to those who work in the public sector and has value because it has universal demand due to being accepted as payment for taxes.
The Fed is accountable to the federal government, as it is the federal government that grants the Federal Reserve certain monopoly privileges and powers, and the federal government could take the privileges and powers away from the Fed, if they wanted to. This is little different from any other government-granted monopoly, except that it has to do with our money supply and interest rates. No private bank on a free market would have the exclusive powers that the Fed has.
Wrong. From the Fed's website: "Congress has the power to amend the Federal Reserve Act, which it has done several times over the years." Also, private banks are profit maximizers while the Fed transfers its profits to the Treasury or IOR.
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