Home | Finance
Bankers know how to create money out of thin air. In fact, banks are money factories. Banks exist to make money. You might think that banks are in business to provide services such as banking accounts and loans to their customers. It's true that banks provide essential financial services. However, the reason that the banks provide such services is that banks need money to use as raw material to create more money. Where does this money come from? It comes from customer deposits. In other words, it comes from the money you and I deposit into the bank. At this point, the choice of vocabulary is critical. Banks are not just "earning" money. Banks are actually "creating" new money. Here is an example of how banks create money. You deposit $100,000 into a one-year Certificate of Deposit at 5% interest. The bank now can use your money to create loans. Banks must operate under Federal Reserve rules. One rule concerns reserve rates. Banks cannot loan out all of their customers' deposits. They must keep a percentage "on reserve." The reserve rates vary between 3 and 10 percent. With a 3 percent reserve, the bank must keep only 3% of your $100,000 on reserve. It can loan out the remaining 97 percent. With a 10 percent reserve, the bank must keep 10% of your $100,000 on reserve. This means the bank can loan out only 90 percent, or $90,000. To keep the numbers simple, let's assume that the reserve rate is 10 percent. So, the bank makes Loan #1 of $90,000 and keeps $10,000 on reserve. This is the critical point where the bank creates money. According to the bank's balance sheet, the $90,000 loan to the borrower is also a $90,000 asset for the bank. By its own brand of money magic, the bank has created $90,000 out of thin air. It gets even more interesting. The bank does not have to stop with one loan. Since it now has an asset of $90,000, it can make another loan. Again, it must follow the Federal Reserve rules and keep 10% on reserve. This means that bank can make another loan, which is 90% of $90,000. The second loan is $81,000. And once again, the bank has created a new asset. It has created $81,000 in new money. You guessed it. The bank can use this $81,000 asset to make another loan. It keeps 10% on reserve, and makes a loan of $72,900. And once again, the loan to the borrower becomes an asset to the bank. The bank now has another asset, worth $72,900. Federal Reserve rules allow the bank to make five to six loans based on the original $100,000 deposit. Each loan creates an additional asset. We'll stop at three loans, review the process, and add up how much money the bank has created. You deposit $100,000 into a CD. The bank creates three loans based on the original $100,000 deposit. Loan /Asset #1 = $90,000 Loan/Asset #2 = $81,000 Loan/Asset #3 = $72,900. The total = $243,900 in assets for the bank. This is $243,900 in new money. When you cash out your CD, you get your $100,000 deposit back, in addition to the $5,000 interest. Meanwhile, the bank has created $243,900 of new money. After it pays you 5% interest, the bank has made a tidy profit of $238,900. ($243,900 - $5,000 = $238,900.) If the numbers are confusing, go over them again until you see how magical this process is. This is how banks create money. The process is not as linear as my example. Banks don't make a series of separate loans based on an original deposit. When you deposit your money into the bank, your money becomes part of a large pool of money, which the bank can use to make loans. But my oversimplified example shows how banks use customer deposits to make money out of thin air. You deposit money, the bank keeps some on reserve, and uses the rest to make loans. The loans become assets, and the assets become new money. The purpose of this example is to demystify money. You and I cannot do what banks do. We can't make multiple loans based on the same money. The value of seeing how banks use customer deposits to create money is to understand how money is created. The process a bank uses to create money demonstrates that money is not a commodity in limited supply, where there is only so much to go around. Money is not equivalent to currency. Money is created in money-making transactions, which means there is no potential limit to money. The point in all of this is that bankers understand something about money that most of us don't know. Bankers know how to create money. They know that the greatest limit to money is the belief that money is limited. If you want more money, ask how you can create money. The real question is: How can think the way a banker thinks? How can you use someone else's money to create more money?
Article Source: http://www.rightarticle.com
Kalinda Rose Stevenson, Ph.D. Discover the difference between earning money and making money in a real estate investing book, "No Money Limits." Visit www.NoMoneyLimits.com for your Free "52 Heart of Money Insights."
Please Rate this Article
5 out of 54 out of 53 out of 52 out of 51 out of 5
Not yet Rated
Powered by Article Dashboard
