I have noted that in discussions going about my blog on some fora - including financial and bankers' ones - many confuse a concept of money multiplier with a concept of loan to deposit ratio. For example:
"Comment:
Re Rosie's excellent questions and the subsequent discussion, it's well worth looking at http://gregpytel.blogspot.com/
The author looks at what happens if the Reserve Ratio is allowed to go negative -- i.e. the banks loan out £101 (or more!) for every £100 deposited. Couldn't happen, right? Read for yourself...
RGB
Response:
That would actually be a very prudent reserve ratio...the banks traditionally would lend £900 for every £100 reserve.and that was in the good old days of Capt Mainwaring,in some cases recently that was stretched to a £100 deposit turning into £4900 in loans!(stupid boys)
The Comment clearly refers to loan to deposit ratio whilst the Response is about money multiplier.
Just as example, loan to deposit ratio of 90% - i.e. lending £90 out of every £100 - gives money multiplier 10, whilst loan to deposit ratio of 101% - i.e. lending £101 out of every £100 - gives unbounded money multiplier (i.e. the money multiplier tends to infinity at exponential pace).
Still confused? Then please read: "Computational complexity analysis of Credit Creation".
"Comment:
Re Rosie's excellent questions and the subsequent discussion, it's well worth looking at http://gregpytel.blogspot.com/
The author looks at what happens if the Reserve Ratio is allowed to go negative -- i.e. the banks loan out £101 (or more!) for every £100 deposited. Couldn't happen, right? Read for yourself...
RGB
Response:
That would actually be a very prudent reserve ratio...the banks traditionally would lend £900 for every £100 reserve.and that was in the good old days of Capt Mainwaring,in some cases recently that was stretched to a £100 deposit turning into £4900 in loans!(stupid boys)
The Comment clearly refers to loan to deposit ratio whilst the Response is about money multiplier.
Just as example, loan to deposit ratio of 90% - i.e. lending £90 out of every £100 - gives money multiplier 10, whilst loan to deposit ratio of 101% - i.e. lending £101 out of every £100 - gives unbounded money multiplier (i.e. the money multiplier tends to infinity at exponential pace).
Still confused? Then please read: "Computational complexity analysis of Credit Creation".
As a student of economics in the early 90s, the multiplier effect was discussed. It was never tabled what would happen were the reserve ratio set negative (deposit ratio > 100%).
ReplyDeleteSadly, and to my shame, I have only recently experienced that light-bulb moment of just how cowboy the financial services industry has recently become ... if only we could get the mainstream media to highlight this? Or would that engender a form of financial Armageddon?
The problem is that editors of mainstream media appear to be completely incapable of understanding any mathematical basics of the financial system. So as the politicians. For them economy appears to be only an effect of "will power" and "confidence". Do you know that no member of the British Cabinet is formally trained in a numerical discipline?
ReplyDeleteBTW, the depleting reserve banking (i.e. lending with loan to deposit ratio greater than 100%) is still advocated and practiced by the banks. Effectively this is what makes the financial system a wealth transfer mechanism from the taxpayers (i.e. middle classes) to the superrich.
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