Bank insolvency danger WAS: New draft: "Great Housing Crash"
- Edward Dodson said the following on 03/02/2008 01:49:
> Mark Porthouse wrote:That has nothing to do with what I'm talking about.
> So what happens when banks go insolvent? Governments have to raise taxes
> to ensure that they have sufficient funds to lose through extinguishing
> the money that was lent into existence by those banks. The alternative
> is currency debasement via inflation as money that is lent into
> existence, if not extinguished later, is a permanent addition to the
> money supply that does not reflect increased goods in the market that
> the increased money supply was intended to match.
> Ed Dodson here:
> As a former bank lending officer I struggle with your analysis Mark. The
> U.S. banking system may be somewhat different from that of the U.K. Here,
> the banks are required by law to pay insurance premiums into a fund that
> protects depositors up to $100,000 in any given bank (one reason why
> wealthier individuals will spread their financial reserves around).
> Banks that are either nationally chartered or voluntarily become members ofYep.
> the Federal Reserve System also must keep a stated level of reserves with
> the Fed. This is one source of currency the Fed can then loan to the U.S.
> government in exchange for government debt instruments (which the Fed then
> markets to investors in order replenish its cash reserves).
> When the big savings & loan crisis hit here, the big problem was that theWhat I'm talking about has nothing to do with bailing out depositors.
> fund of premiums held by the FSLIC (Federal Savings & Loan Insurance Corp.)
> was too little to bail out depositors because of the high number of S&Ls and
> savings banks that become insolvent. The Federal government had to create an
> entity called the Resolution Trust Corp. to take temporary ownership of the
> assets of these failed institutions and gradually try to recoup -- in a very
> down market -- the amount depositors were paid out of general tax revenue.
> This was, to a large extent, people of modest means being taxed to protect
> the assets of people of greater means; however, that was the law as written.
Sure, in the UK there is a supposed depositor protection, but ultimately
if all the banks went down at about the same time none of the depositors
would get anything meaningful - but that is a side issue and doesn't
relate greatly to the topic.
> One other comment is that, from my perspective, the repayment of principalSure Merchant Banks can only lend cash that they have on deposit, but if
> by a borrower does not extinguish the currency values in circulation. The
> bank debits cash and credits loans receivable. The cash is immediately
> available to be loaned out to another borrower or used to purchase shares of
> stock or a bond or T-bill, or some income-producing asset.
you are a bank that is enabled to hold reserves with the central bank
then you are also a bank that is *allowed* to create money from nothing
based on the amount of reserves you have at the central bank. Loans of
money that was created from nothing based on your central bank reserves
have to be extinguished when they are paid back.
> If a borrower defaults on a loan, and I am forced to take the loan off myYes, but I'm talking about insolvent banks. When the amounts the bank
> books (i.e., record a loss), this is an expense item. I debit an account
> such as "loan loss expense" and credit the loan receivable. The currency
> balance that was extended to the borrower has likely been used by the
> borrower to purchase some asset. If the loan was a mortgage loan, the bank's
> servicing group proceeds to foreclose on the property that served as
> collateral for the loan and tries to sell the property to recover as much of
> the loan loss as possible. So, some cash comes back to the bank, although
> not from the original borrower, but from whatever party purchases the
> property from the bank (or, sometimes, outbids the bank at foreclosure, at
> which time the bank is potentially made whole).
receives back at foreclosure is not enough. With a Merchant Bank this
isn't a problem as the money was originally someone's and that someone
simply/merely loses that money. When money is created from nothing, to
have to delete it later is a liability (whereas when the loan was
looking like it may return a profit it was an asset).
> Monetary inflation occurs, I argue, only when the Fed decides to issue newMonetary inflation (not price inflation) is an expansion in the money
> federal reserve notes in exchange for U.S. government securities (crediting
> the U.S. Treasury with the nominal dollar amount), then selling those
> securities but not destroying the federal reserve notes it obtains from such
> sales. This produces a permanent increase in the money supply, although
> technically carried on the Fed's balance sheet as uncirculated reserves.
supply. One way of increasing money supply is to lend it into existence.
This is why the Fed (or the Bank of England) control their base rates as
those base rates *tend* to effect the ability of the banks to lend
(because holding reserves at your central bank costs you - the bank -
money determined by the base rate) (but at the moment the credit crunch
is rather altering these normal mechanisms and base rate changes are
having little effect on bank lending).