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Comment by kitcar | Hacker News Reader

On a related topic, can anyone point me to articles / research related to how bubbles continue to inflate during recessionary periods? From my uninformed/simplistic viewpoint it seems like the two are opposing concepts (i.e. popped bubbles lead to recession), other then the fact that governments use low interest rates to try and dig themselves out of recessions, and cheap money tend to fuel bubbles. The reason for my interest is this seems to be what is happening in Canada right now ( see http://www.cbc.ca/news/business/canadian-house-prices-35-ove... + http://www.leaderpost.com/business/Johnstone+Canada+recessio... )

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The definition of a recession is tied to changes across the entire economy, which GDP is usually taken to represent.

Housing constitutes only a part of GDP, so it's possible for bubbles to form in housing prices (or indeed any asset category) even though the entire economy might be in recession.

Furthermore, the definition of a bubble is pretty tenuous. Often, a bubble is only known in hindsight. Furthermore, during a recession, certain asset prices (safe haven assets like perhaps gold, government bonds, the strength of the USD) may increase substantially as people seek safety and cash flows into these assets. Does this constitute a "bubble" in these assets?

In fractional reserve systems you create money when you borrow from the bank. So governments will often deliberately (if not openly) stimulate real estate prices in an effort to inflate the money supply and stimulate the economy.

A great many people believe the 2008 US real estate crash can ultimately be traced to the government's inflationary reaction to the bursting of the dotcom bubble in 2000.

In fractional reserve systems you create money when you borrow from the bank

This isn't true. Banks can only loan out money deposited with them.

>Banks can only loan out money deposited with them.

This is emphatically incorrect, and the slightest bit of research would have been enough for you to realize it, too.

When you take out a home loan at the bank the bank doesn't lend you anyone's money. Your promise to repay is assigned a monetary value on one side of the leger, and they cut you a check from the other side.

This video is a bit melodramitic, but it's pretty accurate:

https://www.google.com/url?sa=t&rct=j&q=&esrc=s&source=web&c...

It doesn't do wonders for your credibility when you're both wrong and arrogant about it: https://news.ycombinator.com/item?id=9914210

I'm not wrong. You are. Please. Do a little research.

You have no idea how the system works, and I'm not sure where the certainty is coming from. This is right from the wiki page you refuse to read:

"Because bank deposits are usually considered money in their own right, and because banks hold reserves that are less than their deposit liabilities, fractional-reserve banking permits the money supply to grow beyond the amount of the underlying reserves of base money originally created by the central bank."

That doesn't even remotely contradict my post.

The money multiplier effect you're alluding to means that if I have $1000 in the bank, the bank can lend $750 of it out to you, so between the two of us we have $1750 of liquid assets despite the $1000 of hard cash backing it. If you spend your $750 on a house, and the guy selling the house puts the $750 in his bank account, the bank lends out $562.50 which means that from my $1000 hard cash, there is now $2312.50 of liquid assets floating around. It does not mean that the bank can fiat $4000 into existence the second I deposit that $1000. If that were the case, there wouldn't be such a thing as a bank run, because the bank would still have my $1000. Bank runs are widely acknowledged to be the biggest risk of fractional reserve banking.

From the very Wikipedia article you're citing:

"Fractional-reserve banking is the practice whereby a bank accepts deposits, and holds reserves that are a fraction of the amount of its deposit liabilities"

"The relending model begins when an initial $100 deposit of central bank money is made into Bank A. Bank A takes 20 percent of it, or $20, and sets it aside as reserves, and then can theoretically loan out the remaining 80 percent, or $80. If the bank does in fact issue loan proceeds in the form of $80 in central bank money, the money supply actually totals $180, not $100, because the bank has loaned out $80 of the central bank money, kept $20 of central bank money in reserve (not part of the money supply), and substituted a newly created $100 IOU claim for the depositor that acts equivalently to and can be implicitly redeemed for central bank money (the depositor can transfer it to another account, write a check on it, demand his cash back, etc.)".

(The editors of Wikipedia are evidently fond of their run-on sentences.)

>The money multiplier effect you're alluding to means that if I have $1000 in the bank, the bank can lend $750 of it out to you, so between the two of us we have $1750 of liquid assets despite the $1000 of hard cash backing it.

Which was my entire point, that when I take out a loan the bank is creating money. I have the $750 I borrowed, the bank has $250 and also a document (my promise to repay) that's worth about $750.

If a bank starts with $1000 in assets, loans me $750 and still retains $1000 in assets, how can it be said the bank can't loan money it doesn't have?

EDIT: In the real world what happens is the banker charges you loan fees (like "points" on a mortgage), and reserve ratios are more like 10% than 25%. Theoretically, if the banker can get you to pay 10% in loan origination fees (and assuming nobody defaults), he can loan as much money as he can find people willing to borrow.

And where does the money for those fees come from? At that point they're still just a promise.

Money owed to the bank is still the bank's asset. It's simple accounting:

I deposit $1000 in the bank. The bank has an asset of $1000 cash and a liability of $1000 deposit payable to me.

The bank loans $900 to Jimmy. The bank has an asset of $100 cash and another asset of $900 of Jimmy's debt, payable to the bank. The bank has a liability of $1000 payable to me.

The bank profits from fees we pay to the bank and from interest on loans from the bank, but they have to have the money before loaning it out in the first place. They can't just loan you money out of nothing. If Jimmy shows up at the bank before I do, and Jimmy and I are the first two customers, the bank has no money to loan Jimmy and has to turn him down. They don't get to print it, which is what it sounded like you were saying. If that was a misunderstanding, I apologize; I've just run into a lot of misinformed and deluded goldbugs on HN before.

Really, what's going on is more of a double booking. Like on airlines, where they sell more tickets than they have seats based on the assumption that not everyone will show up, banks get to say my $900 belongs to me and Jimmy at the same time, and depend on having enough customers that we don't all ask for it at once, or else if there is a run on the bank, they've bought an insurance policy from the FDIC to cover that eventuality, and can borrow their own money from the FED as well.

Also, I'd be really surprised if anyone paid loan fees in the neighborhood of 10%. People these days can't be bothered to put down a 20% down payment for a house and you think they pay 10% in fees for a loan from the bank? Even if you could pull off that scheme, I'm pretty sure that's not how the reserve ratio works. The reserve ratio has to do with what percentage of a bank's deposits must be held in cash; it has nothing to do with money loaned by the bank, and it doesn't mean the bank can loan money it doesn't even have.

>The bank profits from fees we pay to the bank and from interest on loans from the bank, but they have to have the money before loaning it out in the first place. They can't just loan you money out of nothing.

Oh, I agree they have rules they need to follow. The way modern lending works is the bank makes you a loan and then goes looking for funds to cover its reserves by borrowing against your loan document. I'm sure they like to lend out depositors' money because it's cheaper, but they certainly don't need it.

They borrow from other banks if they can, but if not they borrow straight from the Fed at the "discount window". And when the Fed lends money it is literally created by changing a number in a computer somewhere. So ultimately that $1000 has been injected into the economy though the creation of money (which will get destroyed slowly as the loan is paid off).

The point, way back in the beginning, was that the money supply is really only constrained by the amount credit-worthy borrowers are willing to borrow at a profit to the banks. That's why the Fed discount rate has such a big effect on the money supply - by raising it they make unprofitable some portion of loans that would have been profitable at the lower rate.

I'm not sure if the central bank is technically part of the fractional reserve system. But is there fractional reserve system currency issuer without a central bank? I'm not aware of one.

Let me apologize for my tone as well.

Yes, it does sound like we're violently agreeing. Thanks for the informed discussion; I am so used to arguing with goldbugs and nutjobs, even on HN, that I was unprepared for an informed discussion.

http://www.bankofengland.co.uk/publications/Documents/quarte...

Banks don't have to have the money before loaning it out

"the relationship between reserves and loans typically operates in the reverse way to that described in some economics textbooks. Banks first decide how much to lend depending on the profitable lending opportunities available to them ...It is these lending decisions that determine how many bank deposits are created by the banking system. The amount of bank deposits in turn influences how much central bank money banks want to hold in reserve (to meet withdrawals by the public, make payments to other banks, or meet regulatory liquidity requirements), which is then, in normal times, supplied on demand"

Link above is specific to UK but it's similar in most countries

"When an institution fails to satisfy its reserve requirements, it can make up its deficiency with reserves borrowed either from a Federal Reserve Bank"

in other words... banks lend first and account later, if there's a shortfall at the end of the day they basically get an automatic loan from the central bank

> If a bank starts with $1000 in assets, loans me $750 and still retains $1000 in assets, how can it be said the bank can't loan money it doesn't have?

Because the bank has to transfer the money.

Let's assume a 2 bank world: Bank A and Bank B

I apply for a loan for a house of $100, ignoring future value and default probabilities.

I get given the loan and need to send the money to the house owner. The Bank A marks in its books that I have a $100 loan and transfers the money from its assets to Bank B. Bank A's assets have not changed, but its capital-asset ratio has (as it now has less assets to back its capital).

Bank A transfers $100 to Bank B but doesn't want to pay out assets, so it goes into the interbank market and borrows $100 from another bank at the same time, increasing its assets by $100 and also increasing its liabilities by $100.

The home owner that receives the money in their bank, Bank B.

Bank B's assets have increased by $100 and liabilities have increased by $100 (as it will, in the future, need to pay out the cash to the home owner). This is where the money multiplies happens.

Finding itself sitting on deposits not doing anything, it is likely Bank B will go into the interbank market and lend out some money to Bank A who seems better at finding customers.

You are confused about the economic definition of money.

Credit in your checking account is defined to be money under the usual definition. The process of depositing and loaning money at commerical banks creates additional credit that wasn't there before. If a bank accepts $1000 and loans $900, there is now $1900 of money. By definition.

It's entirely true, it's even in the name.

In a "Fractional Reserve" System banks only have to maintain a fraction of what they lend out in reserve.

When you borrow money from a bank you are literally creating new money. But don't believe me, Wikipedia is your friend.

You're thinking fractional reserve means, for a 1/4 fraction, I put $1000 in my savings account and the bank can lend you $4000. That's not true. In reality, I put $1000 in my bank account. But the bank only needs $250 cash in reserve backing that account, and can lend out the other $750. Of the bank's $1000 in assets, 1/4 must be hard cash and the rest can be debts payable to the bank. The bank charges interest to borrowers, and pays interest to depositors, and makes its profit off the margin.

It seems this is not how it really works.

http://www.economonitor.com/lrwray/2013/08/15/banks-dont-len...

This is one of these things that made me think what else of what I believe is not true.

The link you posted seems to fundamentally fail to contradict the OP. The link states "banks do not lend out their reserves" - which is true. They lend from their deposits, which is exactly what the OP was saying.

If that's not it, then someone needs to explain it more clearly.

Banks don't lean from deposits even in the "official" narrative.

A bank that needs to lend money that doesn’t have it's going to use the interbank system in order to get "reserves" from others banks.

The idea is that the causality is inverted. Banks lend and then search for reserves. If you see it this way, you realize that there is not constrains in how much money they can lend (except how expensive is to find reserves).

Try this (maybe more clear than the other): http://bilbo.economicoutlook.net/blog/?p=14620

I suspect tsotha is thinking of deposit multiplication, which is often considered to be "money creation" because demand deposits are considered part of some definitions of "money supply" (particularly M1 in the United States).

During a general recession, there are fewer attractive investment opportunities. However, investment funds still exist and need to be put somewhere. It's easy for a bubble to form when too much money goes into one particular sector, but the bubble then only makes it more attractive for investment.

Housing is a traditionally safe, stable investment, and (at least in the US) large funds have been buying up homes at a huge scale for investment purposes.

I'd be glad to speculate further, but that's all it is. I can't point you to any articles on the subject.

"Housing is a traditionally safe, stable investment, and (at least in the US) large funds have been buying up homes at a huge scale for investment purposes."

Personally, I look at a house-- like I do food. It's a necessity. I don't feel large entities should be able to buy up large units of housing, and dole them out when the market suits their greed. Even for personal realestate speculation, I don't think anyone should be able to own more than 5 homes.(I just picked that number out of the air). In other words, I'm not a huge fan of realestate speculation, and whenever I hear about corporations buying up huge swaths of homes, I think about Gordon Gekko, 'Greed is good!', and my blood pressure rises.

While I'm at it--what's up with letting foreigners buy our land, before they become citizens? As it stands now, it looks like pretty much anyone, from every country, can pick up the phone, and buy American realestate? We have a hell of a time buying property in other countries? What am I missing? And then letting the house sit empty? I know it's legal--it just doesn't seem right?

I don't want to argue with anyone, I'm a nobody, and no expert. I'm not financially sophisticated. I just know if I had a lot of money, I wouldn't buy up all the orange juice concentrate, and keep it frozen tell the price skyrocketed; then and only then, sell it to the peons, and make a killing. I just could morally do it. Maybe that's why I'm broke? Furthermore, I couldn't imagine being a landlord these days. "Hay Joy, I see your daughter is going 1st grade next year? That's great! Hope she's making friends? I know how tough the move, and divorce has been on her. By the way, I need to increase your rent next month by $500. Have a good day! I'm off to the gym! See ya!"

Went way of topic--sorry. Just tired of feeling so close to being homeless; I'm dusting off my camping equipment. I guess living in the Bay Area is skewing my view of the morality of realestate speculation? I now feel sick? I need to take a walk. Happy Sunday people!

>>>While I'm at it--what's up with letting foreigners buy our land, before they become citizens? As it stands now, it looks like pretty much anyone, from every country, can pick up the phone, and buy American realestate?

This happens in London a lot too. Entire blocks of flats are marketed at and sold directly to Asia. Interestingly I read that in Singapore they do not allow you to buy real estate until you have lived there several year.

Question: Let's say the USA and China get in a spat and things escalate to a trade war or a shooting war (unlikely, outside of Tom Clancy (RIP) novels). What happens to the huge amounts of property owned by Chinese nationals? Is there some precedent for seizing it?

I would guess that the historical examples would be WW2. Which is problematic, because we put people of Japanese descent in concentration camps, as opposed to nothing for German/Italian immigrants...

Roosevelt seized Japanese assets and most Allies did the same.

http://www.history.com/this-day-in-history/united-states-fre...

You can't seriously compare the size of Singapore and the U.S.

Foreigners buy London/NYC/SF because the price was inflated in the first place( its really hard to build stuff in these regulated cities)

Average house prices are going up due to Vancouver and Toronto, but house market values are set based upon a small number of sales. In other words, it's not like 30 million houses were sold this year to establish the upward trend. It's really a tiny fraction of them that are on the market and when it comes to VC/TO those sale prices are largely dictated by foreign investment. In VC there are entire neighbourhoods where 30% of condo units are empty all year round. The point is that the average market values going up does not represent a bubble forming that will someday cause bloodshed due to the Canadian economy going into a recession. The house prices in those areas are more detached or rather relative (i.e. when a foreigner invests in a property in Canada it's to protect that wealth from losing value relative to other places and even when Canada is in a recession the debt burden of the country is much less than other places).

Poloz is not lowing the rate to help out the Canadian debtors make payments on those over inflated houses, after all unemployment is 6.8 percent and even the banks decided people didn't need it so they only passed on a fraction of the lowering [1]. No, he's intentionally lowing the currency value in an attempt to kickstart a new manufacturing investment wave that would normally come back to Canada given the oil prices collapse [2].

1. http://t.thestar.com/#/article/business/2015/07/16/major-ban...

2. https://en.m.wikipedia.org/wiki/Dutch_disease

In the mid-2000s a phrase kept getting banded around in investment management "The search for yield." As interest rates were so low, as were credit spreads, there was a big demand for anything that gave some kind of yield.

That proceeded to drive down credit spreads further.

And more and more.

Which meant basically free capital for investments which were inherently risky, with credit lenders (banks and non-banks) getting money thrown at them for yield, just some yield.

Then they get really clover and making synthetic yield.

And then we had the recent financial crisis, caused by these low rates themselves as a result of the dot-com bubble.

For reading, Shiller's Irrational Exuberance is always fresh (data-based); and stuff by Michael Lewis is good too (narrative).

https://en.m.wikipedia.org/wiki/Stagflation

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