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Invisible Sun's avatar

Mish Shedlock calls for Full Reserve banking

https://mishtalk.com/economics/the-perfect-solution-to-the-banking-crisis-is-to-make-a-truly-safe-bank

"How many times do we have to go down the duration mismatch road with fractional reserve lending and nearly $9 trillion of Fed QE to prove the current banking doesn't work?"

Then Mish points out that the Fed would not do this because the Fed / government prefers inflation and the control it gets from "fixing" the crisis it creates.

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Christopher B's avatar

I will continue to argue that to be effective in addressing these issues we need to first disentangle the reasons people put money in banks.

People put money in banks because of the facilities banks provide for accepting and disbursing funds. It is very convenient for me to have a middle man who will hold the money my employer gives me as salary, and disburse it in a safe and secure fashion to the people I designate. Even better that now this can all be done electronically. I, and most people, would be willing to pay for this convenience, and we do pay in an opaque fashion in terms of fees charged to sellers by payment processors and bank accounts that get very low to no interest.

People, sometimes the same people, also put money in banks because banks pay for the privilege of accepting funds they can aggregate into larger, hopefully more profitable, investments. In this case I may even accept significant limitations on my ability to withdraw those funds.

For the payment processing function it makes a lot of sense to backstop all or nearly all the funds because they are intended to be liquid, even to the point of accepting a slight negative interest rate on the balances since the funds will be turning over rapidly.

For the investment function however, backstopping all or nearly all of my deposits very definitely creates a moral hazard that I will simply seek out the highest yield offered with little or no regard to how risky the firm is. This behavior then redoubles as it encourages the management of banks that are in trouble to offer higher returns, and thus make even riskier investments to support them.

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