Fed response to fractional reserves Q

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Over the years I have heard mention the potential problem with fractional reserves - that only 1 to 5% were backed by assets. I mentioned this to a friend and his response was incredulous, he didn't believe the system was so highly leveraged. I took it as fact so when he questioned it, I emailed the Chicago Federal Reserve office. Their answer: "Thank you for contacting the Federal Reserve Bank of Chicago. Your question cannot be answered with yes or no. It is a complicated one. Yes, we do use a fractional banking system in the U.S. as does most of the world. Banks have to hold approximately 10% of their transaction accounts (our check book money) in reserve, which cannot be loaned or earn interest. The remaining 90% is loaned and earns interest for the bank. This is a major way in which banks make money. Required reserves held by banks may be cash they keep in their vaults, in addition to what their customers' need, or kept as a credit on their account at the Federal Reserve. You mentioned another concern, currency. We tend to think of money as currency and that isn't the case. Currency makes up 10-20% of our money supply. Most of our money is held in our checking, savings, and money market accounts. $100 cash is $100 cash. Cash is cash. I think your question refers to the fact that for every loan a bank grants, it is backed by 10% of the amount of the loan, i.e. fractional banking."

Posted for those of you interested in this aspect of our financial system, not to defend or criticise.

-- Rod Beary (rbeary2327@aol.com), October 28, 1999


What the correspondence just told is that all of that stuff in money market accounts, checks books etc. was created out of thin air. Nothing but computer entries. Cash is only 10 - 20%. Further banks SO NOT loan anything. It is against Fed policy. When you sign a promissory note they create the money right then and there. Or should I say that you loaned yourself your own money and the banks got the collateral for free plus int

-- Jhock (jhock34981@erols.com), October 28, 1999.

Being confused by the foregoing, I went looking for something I could understand. I found this essay. It's long, but comprehensible.


Further search on "Edwin Vieira" make it clear that his views are on the Libertarian side of the fence. Rebuttals to his arguments must exist. What are they?

Are we having fun yet?

-- Tom Carey (tomcarey@mindspring.com), October 28, 1999.

Don't worry... Mr. Decker says it's all hooey, and he's an economist, don't you know...

-- Patrick (pmchenry@gradall.com), October 28, 1999.

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