A Thought Experiment in Fractional Reserve Lending:
I see a really nice barbecue I’d like to buy, so, in anticipation of that purchase, I go to the bank to borrow $1,000. They lend me the barbecue money, and promise to charge no interest for six months. Through the miracle of fractional reserve lending here is the balance sheet:
I see a really nice barbecue I’d like to buy, so, in anticipation of that purchase, I go to the bank to borrow $1,000. They lend me the barbecue money, and promise to charge no interest for six months. Through the miracle of fractional reserve lending here is the balance sheet:
Money lent
|
Note (the IOU)
| |
Bank
|
Liability: $1,000 (a checking account)
|
Asset: My $1,000 IOU
|
Me
|
Asset: $1,000 in checking
|
Liability: My $1,000 IOU
|
Notice that the bank and I have, in effect, swapped liabilities. I’ve given them my IOU, and they’ve given me their checking account.
I’ve been waiting for the barbecue to go on sale, but about month three, I change my mind. I write the bank a check for $1,000, satisfying my IOU, and extinguishing my, and the bank’s, liabilities.
The big questions: Where did that $1,000 in my checking account come from, and what happened to the money when I wrote the bank a $1,000 check?
No comments:
Post a Comment
One of the objects if this blog is to elevate civil discourse. Please do your part by presenting arguments rather than attacks or unfounded accusations.