jancivil wrote:Even though I don't mean much to my bank with 5 dollars in savings, they still make money off of being a bank, you know, investing other people's money.
Those who havent heard of Fractional-Reserve Banking
yet might want to check out what this is. And when you do, dont forget to read the main article on the Money Multiplier
too. (One of the greatest schemes of all times.)
As a sort of TLDR, heres a short excerpt from a Learning Markets Article
which describes the whole thing in a nutshell:
How Fractional Reserve Banking Works
When you put your money into a bank, the bank is required to keep a certain percentage, a fraction, of that money on reserve at the bank, but the bank can lend the rest out. For instance, if you deposit $100,000 at the bank and the bank has a reserve requirement of 10 percent, the bank must keep $10,000 of your money on reserve and can lend out the $90,000.
In essence, the bank has taken $100,000 and has turned it into $190,000 by giving you a $100,000 credit on your deposits and then lending the additional $90,000 out to someone else.
Now, if you take this out a little further, you will see that your original $100,000 can become $ by the time it is all over. Here’s how:
– You deposit...............$100,000.....Your bank loans someone else....$90,000
– That person deposits...$90,000......Their bank loans someone else....$81,000
– That person deposits...$81,000......Their bank loans someone else....$72,900
– That person deposits...$72,900......Their bank loans someone else....$65,610
– That person deposits...$65,610......Their bank loans someone else....$59,049
– That person deposits...$59,049......Their bank loans someone else....$53,144
– That person deposits...$53,144......Their bank loans someone else....$47,829
– And so on
Ultimately, your initial $100,000 can grow into $1,000,000 with a 10 percent reserve requirement.
To find out exactly how much money the fractional reserve banking system can theoretically create with your initial deposit, you can use the Money Multiplier equation:
Total Money Created = Initial Deposit x (1 / Reserve Requirement)
For example, with the numbers we have used above, you equation would look like this:
$1,000,000 = $100,000 x (1 / 0.10)
Dont think this needs further commenting, they can literally create money out of thin air.