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Comment by kinkrtyavimoodh | Hacker News Reader

This feels like a bizarre article that seems to be 'fixing' a confusion no one actually has. Also, if the premise of your article is that the 'dictionary is wrong because I feel otherwise and that's why everyone is confused', then you should consider the parsimonious explanation that no one is actually confused, that the dictionary is right, and that it is you has invented a confusion.

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People do have this confusion all the time though: they think the bank lends out the money they put in, when really what’s happening is money creation as described in the article.

Interestingly, money creation is done by making loans. But nobody mentions the converse: money destruction is done by paying off the loans!

Fractional reserve banking is an amazing invention.

I like to use the analogy of malloc() and free() to communicate the concept to programmers. Commercial banks malloc() and free() deposits and the Treasury/Fed tag team malloc() and free() reserves.

To elaborate, it's interesting to observe that a non-zero interest rate effectively creates a resource leak. Since the deposits created are equal to the loan's face value and don't include interest payments, in aggregate there are not enough deposits available for every borrower to pay off their loans with interest. In other words, interest makes a non-zero bankruptcy rate a mathematical certainty.

What? Isn’t the money supply irreversibly expanded when a loan is created?

How does paying of the loan decrease the amount of money there exists?

When I loan 1000 the bank basically just writes a check for 1000 that is not attached to any money what so ever. When I’ve payed off my debt, the bank will have received 1100 and my understanding is not that they will simply delete the original 1000 and keep the change.

Paying off a loan contracts the bank’s balance sheet and the liability side thereof is what most private persons use as money.

They do just delete the original 1000. Otherwise they wouldn't be able to loan it out again, due to the reserve requirement.

But the two are independent ideas. You don't need lending or money creation for a bank to work, though even there the analogy is sound. The bank does lend money out and if a lot of people try to withdraw it at the same time, you get bank runs and collapses.

That being said, in principle, it is possible to have a bank that literally takes the cash you give it and puts it in a giant vault, and when you come to ask for withdraw it, retrieves it and hands it back over. It is literally the idea that the author seems to be railing against. You come with your money (water) and deposit (pour) it into the bank's vault (glass).

What exactly is the confusion?

The confusion is that this isn't how banks work. But most people believe that this is how banks work.

More than that, most people have no idea how lending really works. They believe the bank is literally lending their savings out. So if no one saves, there's no lending.

Even some economists believe a more complex version of this.

https://larspsyll.wordpress.com/2014/09/21/the-loanable-fund...

Well at a micro level, it is still what happens, the bank doesn't make money appear by magic.

The multiplier effect just happens because the original amount of cash has been deposited, then lent, then deposited again. So you have the same amount of cash in the system but two deposits, one backed by a loan, the other by cash, and the deposits are treated as "like cash" whereas they are mere IOUs backed by a financial asset.

A reserve (or government cash deposit) is not technically required for a bank to issue a loan.

Its _risky_, since it could lead to a situation where someone tries to cash out and you have nothing to give them, which would destroy your business and reputation as a banker.

But if you could make perfect loan decisions and no one comes to redeem their deposit, you wouldn’t need to have any reserves at all. Most regulators require a minimum amount of reserves to prevent instability or bank runs (and to control money supply)

That’s the difference, you’re not lending out the original amount of cash, you’re using it as a reserve in case someone asks for their money.

> in principle, it is possible to have a bank that literally takes the cash you give it and puts it in a giant vault, and when you come to ask for withdraw it, retrieves it and hands it back over.

That is indeed how banks originally worked (except gold, not cash). Then banks discovered they could hand out receipts instead of the gold, and people traded the receipts (how "banknotes" came about). Then banks realized they could issue more receipts than they had gold on deposit, and fractional reserve banking was invented.

The confusion is that modern commercial banks don’t work like a giant vault. So applying the analogy you described to, say, Wells Fargo, would mislead you about how Wells Fargo works.

You could have a bank that does what you say, but it wouldn’t be able to survive as a commercial institution.

Well said.

Most regular folks don't think like to think about banking, just like how they don't like to think about how their car engine works.

But if you ask them to describe how banking works, they'll inevitably resort to the some version of the "giant vault" analogy. Of course, that's the wrong way to think about banking. Which the article rightly attempts to dispel.

That's not a confusion but rather an incomplete (but, for most purposes, good enough) understanding of how banks work.

The money is lent out, though, in the specific sense that a bank run during a crash of the economy can† result in the bank not having the cash-on-hand to give back to its depositors.

† Or, at least, this was true in the US until 2007, after which savings banks were legally limited in their ability to leverage their deposits.

This is a problem of not having enough reserves, and not quite of lending deposits. Banks encourage people to put their money in the bank in exchange for deposits so that they have these reserves.

It’s like the article says: banks give out deposits in exchange for Government Cash, or for Valuable Long Term Promises. A run can kill a bank if they read the market wrong and can’t generate enough government cash to redeem the deposits.

Exactly, this is the perfect response to contrarian articles that insist on using vocabulary in strange ways.

People love feeling smart by reinterpreting normal questions like they are trick questions. There's a market for contrarianism that purports to overturn myths and conventional wisdom, and so people end up reinterpreting reasonable things as 'myths', and 'correcting' them with fun journeys into contrarianism.

I hope we can get to a point where we can recognize these articles as a familiar trope.

Indeed - it's mumbo jumbo.

A deposit in a bank is an asset for the holder of the deposit but a liability for the bank.

From this simple fact, the author ties themselves in linguistic knots of their own confusion.

It's not mumbo jumbo though, it's the minutiae of banking and it's important.

The hypothetical you have posited above doesn't actually reflect how it works. The actual money in the bank is an asset and is owned by the bank. The deposits (claims against that money by it's clients) are the liability. This is the difference, which is important to understanding how banks work, that is misses up thread.

You are not lending your money to the bank to hold. They are selling you a future claim on some amount of money from them, possibly (hopefully?) plus some interest against that claim. You will note that the FDIC, when talking about deposit insurance, uses the terms principal and interest. That's because the thing they are insuring is the loan contract between you and the bank.

You'll want the "How Bank Deposits Work" section of the below investopedia link.

https://www.investopedia.com/terms/b/bank-deposits.asp

https://www.fdic.gov/deposit/deposits/faq.html

It's similar to the confusion people create with the shorthand "I bought a song from iTunes". No, you bought a license to use that song in a specific set of ways.

Are you really claiming that a deposit account is NOT an asset for its owner or that a bank's deposit book is NOT considered a liability? That's what "doesn't actually reflect how it works" is suggesting to me?

Yet to contest these two simple facts makes no sense since they are trivial to verify?

Do you own any deposit accounts? Do you consider the money in them to be counted among your assets?

And if you look at Bank of America's balance sheet (https://finance.yahoo.com/quote/BAC/balance-sheet/), and drill into the liabilities list, you'll find the value of all their deposit accounts.

You should read what I wrote to try and understand it, as opposed to looking for what you expect to see. As I said, from the banks perspective they have an asset (the cash) and an offsetting liability (the deposit account). From the account holders perspective, there is an of course an asset (the title to the account).

It's slightly more complicated, as the bank doesn't actually hold your cash as cash. It deploys it in a variety of financial instruments to make money. Go back and read the assets section of that balance sheet more carefully, and you'll see this.

The point is that deposit is a technical term with a specific meaning. Namely, it is the agreement between the depositor and the bank that the bank now owes the depositor an amount of money which happens to be equal to the amount of principal deposited plus any accrued interest. If you had any deposit accounts and had thought about how they work, I'm sure you would have worked this out.

"The point is that deposit is a technical term with a specific meaning. Namely, it is the agreement between the depositor and the bank that the bank now owes the depositor an amount of money which happens to be equal to the amount of principal deposited plus any accrued interest."

I think my point and that of other commenters is that this is self-evident to almost everyone. It is not a confusion, because people's mental model of a bank (I give them money to hold on my behalf, and I can get that money back from them later, and depending on the situation, maybe a little more called interest) actually does represent this reality. Of course it doesn't represent it using the same terms because the terms are technical terms, but it's not clear how the lay person's mental model is wrong.

If I have understood the article correctly, I’m lead to disagree with what you’ve written. I think “most people” believe they get back the same kind of money they pay in. So, if they paid in state money, they’d get state money back. The article says they get “bank money” back.

If I go to the bank with a hundred dollar bill, 'deposit' it, whereby my account now shows $100 more, and then go to the bank after a year and withdraw $100 from my account, so that I now end up with a different $100 bill, it's not clear to me how the first $100 bill was state money but the second one was bank money.

A deposit is not an asset for the bank - it’s a liability - have you ever even looked at the balance sheet of a bank? I even provided a link which demonstrates that deposit accounts are listed as bank liabilities. is There is simply no question on this fact. So to put it simply you’re just wrong.

You’re confusing the concept of a deposit with the funds used to create the account. People who don’t understand basic double entry accounting or banking operations often make this mistake - like the author of the original piece.

> A deposit is not an asset for the bank - it’s a liability

You are repeating the words and ideas of the person you are responding to, yet claiming they have said the opposite and accusing them of not understanding what they wrote. I don’t understand your contribution.

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