Posted: Mar 30, 2013 7:05 am
Panderos wrote:
So you're saying the bank has to pay back the central bank come the morning? Can they not just renew the loan indefinitely?
Yes of course they can. They can roll over the deposit indefinitely but they will only ever earn the overnight interest rate, which is paltry. If a bank knew that it was going to put money on deposit for a longer term, it would choose a different form of deposit.
Panderos wrote:Ok. On it's own I'd say this is not a good answer, since why even bother with depositors when you can borrow from the central bank cheaper. But if you're saying they can't continuously borrow from the central bank, then that would make sense.
Banks can borrow from the central bank, or other banks or indeed from the capital markets generally. But deposits are almost always the cheapest from the bank's point of view and they do not have a finite repayment date, which is useful in the bank's asset/liability management process.
Panderos wrote:But couldn't you just create one account, type some numbers in, transfer the money to another account (still at your bank) and then transfer from there to another commercial bank?
No. If you "create" an account, i.e. a deposit, the money that goes into that deposit has to come from somewhere outside the bank (if it's a genuine deposit). This can be either in paper money or by a transfer from another bank via cheque or electronic settlement. Banks keep accounts between themselves so when a bank transfers money to another bank, The sending bank will debit the receiving bank's account held at the sending bank. These accounts are regularly reconciled to match against all the inter-bank payments and receipts to ensure that the system remains in balance overall.
And for a bank to be able to transfer money to another bank, that money also as to come from somewhere external to the sending bank itself. This can be only one of two places (I simplify again). Either it comes from the account that the sending bank holds with the receiving bank or it comes from an account that the sending bank holds with a third party (e.e. the central bank).
If your question is, can a bank fraudulently create a deposit, the answer is yes. But why? A deposit is a liability of a bank. In order to keep its books balanced a bank has to have an asset to match that liability. If no actual money has been received into the bank (see my explanation above) then no asset can be created and there will be an imbalance which the banks internal accountants and auditors should spot pretty quickly. OK, for argument's sake could a fictitious asset also be created? Yes. Then you have both sides of the bank's balance sheet being falsely inflated.But no money has moved in our out of the bank via the settlements system. Therefore, the bank's false activity has no effect on the money supply.
Panderos wrote:With regard to the central bank, how do you 'put money in' to an account with a central bank? Can that only be done by transferring money into that account from another person's account at the central bank? So that the total money in central bank accounts is fixed (ignoring QE)?
As above. The central bank is just another bank for these purposes. You can transfer money to it by asking a third party bank to take money from your account with it and to credit the central bank. Another way to put money in to the central bank is to buy government securities from the central bank. A security is simply an IOU from its issuer, like a bank deposit.
Panderos wrote:I guess what I'm after here is an understanding of how all the different 'accounts' work and how people are prevented from just typing in zeros. Because if you just created a simple bank that wasn't connected to other banks, there'd be absolutely nothing stopping you from doing this.
Correct. But then you would not be able to affect the money supply, either.