Fractional reserve banking--some questions??? : LUSENET : TimeBomb 2000 (Y2000) : One Thread

I've heard a lot about the fractional reserve banking system being a huge house of cards just waiting to topple. It's the reason less than 2% of all bank deposits are actually at the bank in the form of cash. Can anybody offer a succict explanation of how this system is set up? What are the rules and ratios for deposits vs. amounts a bank can loan out? I've heard 5 times deposits, and also 9 times deposits. Also, any links would be appreciated. -BD

-- bill dunn (, December 03, 1998


This link is pretty clear and well-written:

-- Runway Cat (, December 03, 1998.

Thre was a thread I started a while back "The fractional reserve banking system - read rip-off - explained". Don't know where it went.


-- Andy (, December 03, 1998.

Andy: The thread is in the uncategorized section of the archives.

-- Rob Michaels (, December 03, 1998.

Here's the thread The fractional reserve system-read rip-off-explaned

-- Chris (, December 03, 1998.

Read the story at this link.

The banking system is well aware of the cash withdrawal threat. They're making contingency plans now.

-- Kevin (, December 03, 1998.

Bill: If it's short and sweet you want... well ... a picture is worth 1000 words. The chart shows totals for $ in circulation, deposit obligations, and actual cash reserves. This one chart has been responsible for turning several forget its and don't wanna get its into starting to prepare get its! The link is


-- Rob Michaels (, December 03, 1998.

OK, just what would be the implications of a system of banking where no fractional reserve was permitted. The guys who are against the fractional reserve imply that conditions would be 'better' somehow - but they never discuss the implications of just what that 'better' would consist of. Lets do a little scenario --

Basis - no bank can lend money without keeping full amounts of cash on hand to match deposits. Only excess cash and bank capitol can be used to make loans. Gee whiz -- guess what!!!!!!! If no bank can make fractional reserve loans - then no loans can be made except from capitol - there is no such thing as 'excess' cash. So lets look at what that implies - a little story:

A bank in an old western town. The widder Douglas goes in to borrow money for seed. Asks the banker for a loan. He says - "sorry mam - we have only enough on hand to cover deposits.". " But why banker - the man who just came in deposited $100,000 in gold". "Doesn't matter widow - he might draw it all out this evening - we have to keep it all in the vault". "But no one expects to draw out all their money - how do you make money to stay in business?" "We charge a monthly fee to keep money in our vault - also we have made loans from our initial capitol investment - but that was only $10000 and was gone in a week". "You charge to keep peoples money"? "Yes, sort of negative interest on checking accounts". "What about savings accounts - that should be money you can lend". "Can't do that widder - we have to have 100% reserves". "So you have to charge for savings accounts"? "Yes, for the space in the vault".

And so it goes. Negative interest on savings and checking - no circulation of money - the guys who bitch never want to consider the implications of a 100% full reserve system. There are other things - such as rampant deflation - most of these guys also support a 100% gold backed dollar. If we went to 100% banking reserves and a 100% gold backed dollar - a single penny would be worth about what a five dollar bill would be worth today - and increasing in value each day. How the devil do you make change when the smallest item is worth $5? One way the old timers did it was to cut up their money with a knife or an axe - I have had coins that had change taken out this way.

The Romans had similar problems for a while - until the Caesars went crazy and ran the empire broke - but they increased the currency in circulation by watering it down - many later Roman coins are debased with iron and other base metals.

The current system has flaws - I am very willing to admit THAT. But I sure don't support replacing it with a system that is far worse. The old system died through exactly these problems killing the economy - why return to something that simply quit working due to the complexity of modern society.

And BTW - the full fractional reserve system would breed loan sharks like maggots on a dead cow - due to the tremendous hunger for loans that would be unsatisfied by the banking system. If nothing else - that alone would be enough to condemn the idea of 100% reserves.

-- Paul Davis (, December 04, 1998.

Thanks Paul. Your comments are well written.

Three or Four times in the last few months, in threads where someone was trashing the fractional reserve system, I asked a simple question:

What alternative do you suggest to a fractional reserve system, how would it work, and how do we get there from here?

Of course, every time, no answer was forthcoming.

I agree, the system certainly has problems. However, as of yet, no one has been able or willing to give me credible alternatives that would work in today's world.

-- Craig (, December 04, 1998.

Craig and Paul:

Actually, there are alternatives. The English Tally system, which was in practice , and quite successful for 600 years, is just one. It was introduced by King Henry the First, the fourth son of William the Conqueror. He ascended the throne in 1100. Amazing as it may sound, the tally sticks were square rods of wood, issued by his treasury as the country's medium of exchange. I can almost hear you rofl... but wait. I don't mean to suggest that WE adopt this, only point out this as an alternative that worked once in the past.

Closer to reality, it has been suggested that as an alternative to the present system, we should return the power to control our money and it's supply back to Congress as originally described in the Constitution. President Kennedy tried this when he issued Executive Order 11110, which was part of his attempt to reform our monetary policy. He wanted to return to a Constitutional money system by having the U.S. Treasury issue our currency again, thus circumventing the Fed. This would have facilitated a great reduction (and eventual elimination) of the National Debt, since no interest (usury) would be needed to pay the Fed. He also signed a bill backing the $1 and $2 bills in gold, adding strength to the dollar. James Saxton, his Comptroller of the currency, had been angering the FED by wanting to expand the lending powers of non-Fed members, as well as other things, which would cut into the FED's "profits". Although a number of the new Kennedy Notes were printed and issued, they were quickly withdrawn after he was killed.

Reference: The Secret World of Money by monetary historian Andrew Gause.

May I suggest, if you are interested in this, consider getting the book. I think it's available through

-- Rob Michaels (, December 04, 1998.

You can find Andrew Gause's Secret World of Money and his new Y2K book Y2Kaos at Just put in his name. has the old book but not the new Y2K one.

-- Rob Michaels (, December 04, 1998.

Craig, I believe the fundamental issue is separation of the payment system from the lending system. Access to a checking account requires the depositor to become a lender (with the credit risk mitigated by FDIC). While it can be argued that a safety deposit box provides 100% reserves -- you cannot write a check against these reserves (participate in the payment system) without first depositing them in a demand deposit account (and becoming a "lender"). Again, does an excellent job of presenting this concept.

-- Dave (, December 04, 1998.

Ignoring other problems with the global monetary system, the immediate, critical problem with the fractional reserve system is the size of the "fraction". It's big enough for normal times but totally inadequate for abnormal times. It's highly probable we are entering abnormal times. Unfortunately, it's far too late to meaningfully increase reserve requirements without triggering other nasty, unwanted side effects.

-- Nathan (, December 04, 1998.

I think everyone is missing the point about the fractional reserve banking system and Y2K. It is irrelevant how "good" or "bad" the system is -- the thing to note is that it is a very fragile system. And that Y2K is going to bring it down -- hard. And once it goes down, anything that you have in the bank will be effectively gone. As the saying goes: "Cash is king."

-- Jack (, December 04, 1998.

The fragility of the system isn't so bad - its individual banks that are over exposed to trouble. Part of the bankers creed is supposed to be that you don't make overly risky loans - a part ignored by a lot of banks nowadays.

As for the various systems - most are just variations on a money system 'backed' by something or other. Well - there just flat out is not enough gold in the world to issue enough gold coins in sizes big enough to see (all the gold in the world would about fill a big dairy barn) so you have to consider other options. Silver as a monetary metal? Used to work - but silver has too many industrial uses now to consider using it as money - you would put too many people out of work every time economic policy changed or there was a war. Copper has been used but is just too common - iron was tried by the Spartans (I have always suspected they kept such awful money as a hedge against running short of iron during a war) but is too bulky - grains and such have been tried but they can spoil. About the only alternatives to gold and platinum (and gold debased with silver and copper) are some type of system where the money is worth something because people have faith in the system - and that is what we use right now! Its either that - or just not have enough money to allow for free circulation of the money - skim some of the older books on money written before 1910 - the universal complaint was that money did not circulate.

The current system (as opposed to a bank or group of banks)is exposed to a single risk - that a sufficient number of people will be afraid their bank will fail - and draw out enough money to force the bank to close (note that this might be an otherwise solvent bank). This causes those peoples friends and relatives to draw their money out of THEIR banks - and on it goes until the panic dies down. And that is why the govt. fights bank panics like they were a disease - they are - a disease of the economy.

And I would like to see a better system in place - but I strongly believe such a system would require a complete reworking of the entire free market/capitol system - which is largely based on free circulation of money and the availability of loans.

-- Paul Davis (, December 04, 1998.

Moderation questions? read the FAQ