Zero Reserve Fractional Banking

on Monday, October 3, 2011

Some countries, like Canada and Australia, have a fractional reserve banking system with a zero reserve requirement. The fact that inflation does not run rampant in these countries is evidence that the traditional view of FRB is flawed; the reserve requirement is not a the limiting factor stopping banks from infinitely multiplying the money supply. Collateral is the limiting factor.

When banks make new loans, they are not re-lending money that is supposed to be sitting in individual accounts, as is commonly understood. They are creating brand new money. Period. Full stop.

New money is traded for collateral. There is no theoretical reason that a bank should not have a negative reserve; a bank could begin operation with no reserves whatsoever, no deposits at all. It could print new money and exchange it for collateral without limit, and without detrimentally affecting the value of dollars. Inflation would only occur if banks issued unsecured loans.

The purpose of reserve requirements is not to throttle the money supply, per se. Its true purpose is to regulate the amount of business each bank is permitted to do -- the biggest banks, with the most depositors, will be permitted to issue the most loans. Reserve ratios are the way the banking cartel divides business amongst its members.