Has Fractional-Reserve Banking Really Passed the Market Test?

Tyler Durden's picture

Submitted by World Dollar

Has Fractional-Reserve Banking Really Passed the Market Test?

In 2003, Jörg Guido Hülsmann, a senior fellow of the Mises Institute, published the essay “Has Fractional-Reserve Banking Really Passed the Market Test?” in a Winter edition of The Independent Review. The key conclusion drawn was that it is the obfuscation of the difference between fractional-reserve IOUs and genuine money titles which preserves the the practice of fractional-reserve banking.

It is the belief of this author that this essay has not received the acclaim that it so richly deserves. Indeed, its implications for the future of money and banking are monumentous. If those who advance the Austrian School of economics, the Mises Institute and Zero Hedge most prominently among them, were to grant its ideas a great renaissance, the worldwide return to sound money may happen far sooner than most could have believed possible.

J.G. Hülsmann
explains why “in a free market with proper product differentiation, fractional-reserve banking would play virtually no monetary role” (p.403). The incisive reason given is that genuine money titles are valued at par with money proper, while fractional-reserve IOUs + RP (Redemption Promise) would be valued below par, due to default risk.

Here is the deductive argument being made:

1.    Debt (IOUs + RP) is promised money.
2.    A promise has the risk of not being kept (default risk).
3.    Therefore, promised money, debt (IOUs + RP), is less valuable than genuine money titles (/money proper).

J.G. Hülsmann goes on to explain why the mispricing of fractional-reserve debt (IOUs + RP) persists. The reasons given include the outlawing of genuine money titles and deceptive language (“deposits”).  This author would like to add one more reason, namely the myth that the government could actually “guarantee” deposits in the event of a systemic run. Systemic runs mean, by definition, most if not all money proper exiting the fractional reserve banking system, meaning the money proper with which the “guarantees” could be fulfilled doesn’t exist, short of unprecedented levels of new money printing and financial repression. This point is acknowledged on p.22 of the otherwise unexceptional “The Chicago Plan Revisited” by Jaromir Benes and Michael Kumhof.

The history of fractional reserve banking is, then, defined by informational inefficiency. Market participants have failed to reflect the price differential between fractional reserve debt (IOUs + RP) and genuine money titles.

Let us now extend the deductive argument:

4.    Therefore, an arbitrage opportunity exists. All holders of Debt (IOUs + RP) have an economic incentive to make the redemption request for genuine money titles (/money proper).

Mervyn King, ex-governor of the Bank of England, once claimed that it is irrational to start a bank run, but rational to participate in one once it has started. While the second part of the claim is correct, the first is not. It is irrational not to start a bank run, due to the arbitrage opportunity that exists.

This, of course, holds the assumption that the market will become informationally efficient, and will therefore capitalise on the mispricing. But the holding of this assumption is only credible if this idea is spread. We live in a time with an unprecedented level of competing voices wanting to be heard, the unfortunate consequence of which is that we drown out the voices that are truly exceptional. It is no exaggeration to say that “Has Fractional-Reserve Banking Really Passed the Market Test?” may prove to be the most revolutionary essay in the history of monetary economics and banking, if only it  receives the level of appraisal and promotion it deserves.

On this matter, the reasons given for the persistence of the mispricing of fractional-reserve debt (IOUs + RP) are unsustainable in the long run. The lack of legal protection for genuine money titles is no more than a technicality, for there is nothing in practice that can sustainably prevent the existence of full reserve banks. Awareness that “deposits” are not actually money being held for safekeeping is a matter of educating the public, as is awareness that government’s deposit “guarantees” are not actually credible in the event of a systemic run. 

If we assume, then, that fractional-reserve banking will come to its logical ending, there is good reason to believe that the shock will herald the endgame for fiat money. It is in fact the case that all fiat money is the liability of the central bank, which also carries the risk of non-repayment (default risk). This, again, means an arbitrage opportunity for market participants to withdraw the fiat money from the fiat money banking system. This confirms that the original basis for fiat money is destroyed, for its repayment to the central bank is not credible.

Finally, at long last, we have a worldwide return to sound money. Will there be a new 21st century Gold Standard? Will we recourse to cryptocurrencies such as Bitcoin? Will we see the rise of the Equal Opportunity Standard, with everyone in the world being issued once with an equal amount of World dollars? Or will there be another innovation to come? What we must defend, as proud advocates of freedom, is that the free market will decide. That governments finally learn to stop their oppressive, damaging interference with the monetary system.

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Yen Cross's picture

   My rectal cavity is leaking obunga care.  As Fonz says.  Ouch my balls<>

  Has "Frictonal reserve" currency failed to start a FIRE?

Jackagain's picture

We should have one of Obama's experts check on that for you...


Yen Cross's picture

 I'm sure you're right on that inclination/

  After the top off, POP tripple latte'?

  Less than %5 percent of the )whole( signup program is validated!

 I've got friends in the insurance industry that are " Intentionally" messing with OTOOL<>CARE.

  The Military is FED> UP!

NoDebt's picture

Fractional reserve banking was inveted when currency was backed by a hard asset (gold, etc.).  It's purpose to was to multiply the currency beyond the fixed 1:1 money:currency ratio.  

Since currency is no longer backed by a hard assets, and is fiat, printed in whatever quantity is needed, what purpose does fractional reserve banking serve?  What purpose is there in a "money multiplier" when the base money itself can be instantly expanded to fill whatever currecy needs exist?

(Hint:  there is no reason beyond being closest to the monetary spigot, siphoning off an arbitrage fee as base money is turned into currency.  It's the ultimate front-running.  Get paid in higher value dollars before creating lower value dollars from them.)

Stackers's picture

Fixing the banking system would be easy


1. Set-up depositor banks. 100% funded these would basically just hold peoples deposits and act as clearing houses and charge people 0.25% per year as a handling fee. Very boring business

2. Set-up credit lending banks, deposits are held in CD's with the express understanding that they will fund consumer loans and are at risk of losing the capital if the loans go bad. The banks would get to charge a 1-2% difference between rate they give on the CD's and the rate they charge on the loans. Again 100% backed. Different banks could market different CD's with varying rates depending on the level of risk the loans it is backing are making. This would provide "junk" bond return rates and allow sub-prime loans as well.

Elvis the Pelvis's picture

Fractional reserve banking?  The very idea makes my nuts itch.  Bitchez. 

Caggge's picture

It's not Fractional reserve banking. It's Fictional reserve banking.

Jadr's picture

New name, same old shitty blog.  Stop pimping your garbage, tool.

Radical Marijuana's picture

"Justice is a kind of mean, but not in the same way as the other virtues, but because it relates to an intermediate amount, while injustice relates to the extremes."

Justice has no meaning outside of the concept of the conservation of energy, through which it actually exists, and has its ideal fulfillment. The only relatively justice is expressed as the dynamic equilibria between different systems of organized lies, operating robberies (as outlined in my comment below.) The "intermediate amount" is the dynamic equilibria there.

Dr. Hackenbush, do you not consider it to be somewhat bizarre that science has progressed in profound ways since the days of Aristotle, and yet, you are still promoting the same old-fashioned impossible ideals that he explained ??? Well, I expect you do not, since, when it comes to anything to do with human beings, those who promote old-fashioned ideas are quite proud of doing that, despite that is based on deliberately ignoring all of the progress in understanding general energy systems better with respect to everything else, EXCEPT with regard to human beings, because there is found the most thoroughly BIZARRE backwardness!

IF civilization is going to survive, it is going to have to go through some profound paradigm shifts in the basic ways that people think, which are going to make all previous paradigm shifts in the history of science look like child's play by comparison.

Atomizer's picture

Yen Cross, Jackagain is a good person. We go back to the days of lehmann brothers, Bear Sterns, and AIG.

We where a soundboard of Market Watch. I could of shown you IRS, FBI, and SEC. Market Watch internal posted exchanges between me and the agency. All of that has been purged. Lifeboatwithductape became extinct. 


Treat Jack well. As you know, it takes big balls to participate in the fight club. 

garypaul's picture

Another bullshit ZH article. That 'collapse of fiat' link sounds like crap to me. How can there be a shortage of cash when the powers-that-be can print (like with ink and paper).

Of course there are flaws with the fiat money system but running out of trees isn't one of them.

World Dollar's picture

Our debt-based monetary system is not simply "printing money". As explained in the article, all fiat money is the liability of the central bank. The eventual repayment of the fiat money must be credible in order for it to come into existence in the first place. This is an important reason for why the "lender of last resort" function of central banks is designed to be strictly limited. 

Imagine now that the systemic runs on fractional reserve banks have happened. Could the monetary authorities step in and "bail-out" all who had not reacted quickly enough to get the fiat money out of the banks? This action would be fraught with difficulties in terms of monetary economics and legal considerations. 

But, for the sake of argument, let's assume that this is possible. There is still a fundamental problem. The basis for the value of our fiat money is its eventual repayment to the central bank. By logical deduction, this repayment is not credible. Market participants have an economic incentive to withdraw the money permanently from the fiat banking system. The original basis for fiat money's value is destroyed. We will return to a system of sound money, with the free market deciding what it wishes to use as money, provided that governments allow it to. 

In short, it is not just fractional reserve banking, but our entire monetary system, that is based on logical fallacy. It would have been wise to have heeded the words of Charles Holt Carroll, 1860: "a promise is a debt, and the attempt to make debt serve the purpose of money always has been and always will be a failure". Unfortunately, he is another exceptional economist whose words have been drowned out. 


Wahooo's picture

The only way you will have a run on the Fed is if a nation with a military might larger than that of the U.S. demands payment for the debt that the U.S. cannot meet. Until that time, the digital trees will be chopped down and fed into the printing presses.

gnaritas's picture

Really, which military would that be?

logicalman's picture

The death of the Petro Dollar will mean the US military being paid in worthless paper currency (it's worthless now, but don't say it too loud) and would be unable to purchase anything from other countries or effectively buy other governments. The size of the US military will be reduced greatly at that point. Even if they still have the largest military on a country/country basis, they've pissed off enough countries that could become a coalition with a bigger combined military.

Chief Wonder Bread's picture

+1 for partial agreement. The US knows the importance of pegging oil to the dollar and therefore won't allow the Petrodollar to die without a fight, i.e., the world is headed for a big war over energy resources.

zhandax's picture

"the shock will herald the endgame for fiat money"

What has happened to every fiat currency throughout history?  Memories are short, people are stupid, and there is big money to be made in distracting the uneducated.  Rinse and repeat.

BigJim's picture

Look, I'm a hard-money man myself, but the idea that the central bank can't just whip up as much currency as it needs to meet 'depositor' demand in the case of a bank run is just wrongheaded.

I understand that cash is M0 and thus the balance sheets go completely haywire, but they can just suspend the current system, issue the cash, and then re-absorb it once the panic dies down and people want to put their money back into the bank so they don't have to carry aound wads of cash or worry about it getting stolen by burglars.

TPTB can create as many 1's and 0's as required to keep payments operating between the banks within any particular currency zone.

Can they maintain the purchasing power of those currency units in such a scenario? No. But that's a different issue.

A Nanny Moose's picture

As explained in the article, all fiat money is the liability of the central bank. The eventual repayment of the fiat money must be credible in order for it to come into existence in the first place.

Exactly who is liable again? Not the central bank. If the central bank were actually liable, we would not be in this mess. Government has nothing other than the legal monopoly on pointing a gun. Debt money simply defers the pointing of the gun, at those not yet even born, and who cannot even vote.

Notsobadwlad's picture

You are of course correct, even with all of the red votes you have received... but IMO not exactly for the reason many people would expect. If money had anything to do with the creation of a fair means of exchange, then the Mises-ites would be 100% correct in their view of how money "should" work.

However, money is all about control and power and nothing about creating a fair means of exchange. There are really only two classes; those who create money and decide where it goes and those who need money to survive in this world. Those who wish to maintain power over us and keep us as slaves will do everything they can to make sure that their money is the only means to get things. Through force, they will continually decrease our ability to be independent of their money system. This should explain a lot and confirms through actions (and not their words) that their intent is power and slavery, not equity or even fairness.

Given the above, one has to understand that their money system and the division it causes is intentional. People realize that it is a lie and struggle against the chains. However, there are those who knowlingly or unknowlingy serve the masters and have their future and comfort deeply invested in making sure the current system continues. Yes, they are traitors to the human (slave) race, but they would say that they might as well be in comfort while they are here, instead of fighting the system and living a dismal life in poverty .... as all traitors rationalize.

Bollixed's picture

"Those who wish to maintain power over us and keep us as slaves will do everything they can to make sure that their money is the only means to get things"

Right there is the possible rub with the wished for Gold Standard. FDR 2.0...

socalbeach's picture

I was wondering why he got so many down arrows myself, maybe because he said it was another bs ZH article.  But his main point is valid:

In the old gold-backed system, there was X amount of gold, and say 10*X receipts for gold.  If more than 1/10 of the people tried to redeem their receipts for gold, there wouldn't be enough gold to handle the requests.

In the current system, the monetary base (currency, coin, plus reserves on deposit with the Fed) performs the exact same role that gold did in the previous system.  If you want to redeem your checking or savings account money, you can go to the bank and withdraw currency.  If there is not enough currency at the bank (vault cash) to satisfy requests, the bank can request that their bank reserves be converted to currency.  Currently excess reserves on deposit with the Fed are $2.6 trillion.  If more than that amount is requested to be withdrawn, the Fed can just create more monetary base by buying Treasuries or MBS.  M2 (one measure of money held by the non-bank public) is currently $11.2 trillion, but there are more than enough outstanding Treasuries and MBS to monetize. Monetization of course increases the monetary base (buy bonds with newly created bank reserves).  In an extreme case the Fed could start monetizing other forms of debt like municipal bonds.  There could however be a delay before you could withdraw currency or coin, as it would take time for the literal printing press or mint at the Treasury to crank out currency.

So nothwithstanding that currency and bank reserves are liabilities of the central bank, if the Fed is determined they can handle an extreme bank run.  In the old gold backed system that wouldn't have been possible with fractional reserve lending because gold cannot be created at will by the Fed.

Radical Marijuana's picture

CORRECT, Notsobaldwlad!

The article above was another one of the typically silly and superficial appeals to miraculously create a better money system, in ways which deliberately ignore the crucial questions about whatever is going to be the murder system to back that money system up. Fractional reserve banking has ALREADY passed the REAL "market" test, which included the "free market" in murder and fraud, which is what made sovereign states, and enabled the banksters to capture control over those states.

There cannot be any sound and honest monetary system unless there was a sound and honest military system to back that up. However, the real world for thousands of years has been selecting civilizations to develop in the opposite direction, because success in warfare was based on backing up deceits with destruction, and upon that basis was constructed a political economy of enforced frauds. Fractional reserve banking is LEGALIZED FRAUD, ENFORCED BY GOVERNMENTS, because the banksters were the biggest gangsters, that were able to apply the methods of organized crime to dominate the political processes, in order to created the currently established systems of legalized lies, backed by legalized violence, which are mainly present in the forms of the biggest banks, and the corporations that grew up around those banks.

Articles like the one above deliberately ignore the basic facts about how human beings operate as entropic pumps of energy. Furthermore, such an article is light years away from any kind of radical critique of the concept of entropy as that operates through general energy systems. The basic facts are that human beings necessarily operate as robbers in their environment. All human realities are organized lies operating robberies. All private property is based on backing up claims with coercions, and so, money is measurement backed by murder.

The degree to which the biggest bullies were able to dominate human societies, and thereby have their bullshit social stories dominate those societies, is ubiquitously found not only in how the established systems work, but also in how their controlled opposition groups work. FRACTIONAL RESERVE BANKING WORKS, AS AN EXAMPLE OF HOW DISHONESTY BACKED BY VIOLENCE WORK AS THE FUNDAMENTAL WAYS THAT HUMAN SYSTEMS ACTUALLY OPERATE.

Pretty well everyone who gets articles published on Zero Hedge, or make comments upon those, continues to operate using the basic ways that human languages and cultures have developed (as dominated by the biggest bullies' bullshit world view) to provide relatively good analysis based on relative dichotomies, but then tend to collapse back to bullshit "solutions" based on false fundamental dichotomies, and their related impossible ideals, as the recommended ways to resolve those problems better.

Notsobaldwlad, I would qualify your statement that "money is all about control and power and nothing about creating a fair means of exchange," to say that the different systems of organized lies operating robberies can develop dynamic equilibria, which may trend towards "money" becoming a "fair means of exchange," however, that may happen ONLY on the basis of the foundation of the real robberies, that were the mechanisms actually always originally there.

There is no fundamental dichotomy between voluntary contracts versus involuntary contracts. There are no fundamental dichotomies present in the ways that the production of destruction controls production. There can be no actually existing idealized "free market" that does not include a de facto "free market" in fraud and robbery. The real economic systems are due to the real history of warfare, which was organized crime on a larger scale, out of which selection processes emerged the dynamic equilibria of the different systems of organized lies operating robberies.

The rule of law is rife with inherent paradoxes, such as that nobody guards the guardians. The human rule of law IS connected to natural laws through the ability to back up lies with violence. Economics is necessarily a human science like warfare was a human science. Human general energy systems are best described as following the principles and methods of organized crime, because they TAKE ENERGY.

However, our society is so totally dominated by the biggest bullies' bullshit that we live inside of a Bizarro Mirror World where everything appears proportionately backwards. We are taught to understand everything backwards, in profound ways, such as how an arbitrary minus sign was inserted into the entropy equations of thermodynamics and information theory, so that the numbers measuring power and information would end up having positive values, rather than negative values, as the mathematical physics itself said was the case.

We understand the basic concept of SUBTRACTION either backwards, or not at all, which is the most backwards way that we could understand subtraction, as the most basic of all processes. Therefore, we understand the processes of robbery that flow from the original subtraction backwards too. We understand all of our concepts about money and private property backwards. Not only does that facilitate runaway social polarization, but also it facilitates the destruction of the natural world.

We should be developing better human, industrial and natural ecologies. However, in order to do that we would need enough people to understand the degree to which they are currently understanding the world in profoundly backwards ways, as expressed in this article, and over and over again on Zero Hedge, as a leading edge of critical thought about the currently established systems, which do relatively good analysis of the problems, but then collapse back to bullshit solutions at the end.

Human beings, when perceived as separate from their environment, are thereby subtracted from that whole. Thereafter, across those defined boundaries they must TAKE ENERGY, or operate robbery systems. Furthermore, the same applies to the flow of information, as it does to the flow of energy. Human beings are necessarily, when understood properly by themselves, organized lies operating robberies. However, those who were best at doing that have developed their biggest bullies' bullshit language, which has inverted, and thereby perverted, the meaning of everything, to become our current Bizarro Mirror World, where governments are the biggest form of organized crime, controlled by the best organized gangs of criminals, which currently are the banksters, who have been able to control governments to legalize private banks effectively counterfeiting the public "money" supply out of nothing as debts, i.e., fractional reserve banking, as all of the rest of the similar systems whereby the Fraud Kings were able to covertly capture control of the powers of sovereign states assembled by the previous eras of the War Kings.

Those who most benefit from that dominate our society so totally that there appear no practical ways to resist their runaway successes. However, they are now in grave danger from the paradox of final failure from too much success. The excessive degree to which enforced frauds successfully dominate our established political economy includes the degree to which the controlled opposition groups stay within the same frame of reference as the established systems operate out of, as this article again exemplified. Thereby, the monetary system has become like an almost totally metastasized cancer, or a parasite that is killing its host. However, the treatments for those conditions (other than dying from them) would be to develop better dynamic equilibria (in which overall process, the economy dying from diseases like fractional reserve banking may be one of the larger scale cures.) As long as people continue to collapse back to bullshit "solutions" based on false fundamental dichotomies and their related impossible ideals, then no genuinely better resolutions are possible.

Notsobaldwlad, your last statement:

"... those who knowingly or unknowingly serve the masters and have their future and comfort deeply invested in making sure the current system continues. Yes, they are traitors to the human (slave) race, but they would say that they might as well be in comfort while they are here, instead of fighting the system and living a dismal life in poverty .... as all traitors rationalize."

Reminded me of this famous quote:

"The few who understand the system, will either be so interested from it's profits or so dependant on it's favors, that there will be no opposition from that class."

-- Rothschild Brothers of London, 1863.

At the present time, only a tiny minority of the people understand the fractional reserve banking system, since the vast majority of them have been conditioned to not want to understand it. Most of the few that do understand that are taking the maximum advantage they personally can from operating inside of those established systems of enforced frauds, which deliver to them the short-term benefits from those systems of organized lies, operating robberies.

MEANWHILE, progress in science and technology continue to advance at an exponential rate, while the powers and capabilities thereby developed are channeled through social pyramid systems of debt slavery backed by wars based on deceits, which have driven that debt slavery to generate numbers which have become debt insanities, which are being pushed and pushed towards provoking death insanities.

Since the debt controls were backed by the death controls, there are no realistically possible better debt controls other than those which would be backed up by better death controls. Of course, the vast majority of people, within both the established systems, and their controlled opposition groups, deliberately deny and ignore that, as they continue to operate those systems through the maximum possible deceits and frauds about what is really happening.

"Traitors to the human (slave) race" are actually also traitors to themselves, and the entire human experiment, based on building brains that could build models of their world, including models of themselves within their models of their world. At the present time in history, the relative degree of progress in doing that, through science and technology, is generating bigger and BIGGER contradictions, such as expressed as globalized electronic fiat money frauds (i.e., globalized fractional reserve banking), backed up with things like weapons of mass destruction and mass surveillance.

Thousands of years of success in warfare based on deceits, followed by hundreds of years of success in finance based on frauds, have accumulated in the systems which exist today, (INCLUDING THEIR CONTROLLED OPPOSITION, WHICH ARE COMPONENTS INTEGRATED INTO THOSE SYSTEMS.)

Good analysis of human realities ALWAYS necessarily reveals organized lies operating robberies. There are NEVER any genuinely better resolutions to those problems which could return to "sound and honest" money which did not simultaneously address the issues of how to operate a "sound and honest" murder system. However, over and over again, the controlled opposition groups to the established systems continue to follow their relatively good analysis of the real problems, with idealized "solutions" which could never actually exist in the real world, because they understand all of the mechanisms backwards!

Only that which actually exists can actually evolve. What actually exists must necessarily be described as organized lies operating robberies. There is no fundamental dichotomy between organized crime versus government. Governments are necessarily the biggest form of organized crime, controlled by the best organized gangs of criminals, which currently happen to be the banksters, that have been able to capture control over governments to legalize the enforced frauds called factional reserve banking, etc. ...

However, there is no way to stop measurements from happening, and there is no way to stop murder from being possible. Therefore, no ways exist to stop money from being measurement backed by murder. (Going backwards to any kind of commodity backed form of money only goes back to the measurements of commodities being backed by murder.) THE PROBLEM is that human beings must necessarily develop systems of artificial selection, which flow from the fact that natural selection always exists. As the human experiment unfolds, human beings must necessarily end up modeling natural selection, as that process internalizes as intelligence, and that intelligence is collectively expressed through groups of human beings. However, at the present time, human artificial selection systems operate through murder systems based on the maximum possible deceits, to back up monetary systems based on the maximum possible frauds, while, at the same time, that was necessarily the way that things developed, because human beings, as entropic pumps of energy, are necessarily always systems of organized lies operating robberies.

MEANWHILE, human beings are continuing to think using dualities, which were practically innate to human abilities to think, as found at the foundation of the development of natural languages. Almost everyone, almost all the time, thinks about everything in profoundly wrong ways. Therefore, of course, they think about political economy problems like that too! As progress in science and technology demolishes one false fundamental dichotomy after another, while understanding general energy systems better and better, the most intense manifestation of that process has been through the human arts and sciences of warfare and economics.

In those domains especially, our civilization is almost totally dominated by the biggest bullies' bullshit, (including throughout the controlled opposition groups). There should be profound paradigm shifts, in the form of intellectual scientific revolutions, to cope with the ways we have globalized electronic frauds, backed by the threat of the force of atomic bombs, that are based on better understanding the ways of thinking that enabled those phenomena of globalized electronics and atomic bombs to be made.

However, as far as I can tell, I continue to waste my time pointing that out, "fighting the system and living a dismal life in poverty," as you suggested, Notsobadwlad. I have been working for several decades against the established monetary systems, and the military systems that back them up, because I have been thinking that those were criminally insane since I learned about them when I was a teenager.

Every single day, my on-going political experiments in the Canadian context, through Electoral District Associations again and again PROVES that 99% of the people want to continue to act like incompetent political idiots, that never participate in funding the political processes, while the 1% that do are almost totally interested in maintaining the established systems that they benefit from, which also includes most of the controlled opposition groups whose bogus "solutions" are recommendations that we should go backwards to some old-fashioned religions or ideologies. My best guesstimate is that, IN FACT, less than 0.000001% of the general population both actually understand the established systems, and are effectively against them in realistic ways.

Hence, there is nothing which can be done but to wait and watch as the enforced frauds, based on the FACTS that primarily "money is all about control and power and nothing about creating a fair means of exchange" drive its internal contradictions towards even worse runaway social polarization and destruction of the natural world. The grand paradox of "control and power" based on backing up lies with violence is that works all too well in the shorter term, while less and less well in the longer term ... As every regular reader of Zero Hedge is well aware, and speculates about all the time, we are rushing towards the tipping, turning points, where debt slavery systems generate numbers of such astronomically sized debt insanities, that the entire superstructure of those enforced frauds could crash itself into collapsing into chaos. Thousands and thousands of years of civilizations being dominated by the biggest bullies and their bullshit social stories has resulted in a civilization powered up by exponentially advancing science and technology to become runaway MAD criminal insanities!

Fractional reserve banking was the MADness of Money As Debt, which was backed up by the power of the state to demand taxes be paid in that form of legal tender, which power of the state was backed up by a military power which had become MAD Mutual Assured Destruction. However, those established systems can count on 99% of the population continuing to want to act like incompetent political idiots, or Zombie Sheeple, being routinely fleeced by those debt slavery systems, that they do not want to understand, while almost the rest of the 1% who personally participate more directly in the political processes want to keep those established systems doing, despite that those have already become criminally insane levels of debt insanities, on the verge of provoking death insanities, as the consequences of their collapsing into chaos.

Theoretically speaking, one would like to think that more people would want to understand those problems better, so that there could theoretically be some better resolutions of those runaway problems. However, everything I have learned continued to convince me that that percentage of the population actually interested in that is something less than 0.000001%.


The percentage of the population that can understand this level of obfuscation by central planning banksters will always be low. Educating

the worker bees is futile if they are preprogrammed to genetically follow their queen bee wherever she flys. Even if colony collapse disorder occurs the worker bees will follow the queen bee to their deaths. Like Lemmings and Americans they fall off of cliffs whether fiscal or real because they are programmed to follow and not lead.

Look at the choices for the upcoming USA election and ask yourself where the leaders are? The USA is about to choose either a Clinton or another Bush. Is that leadership or programming?

oudinot's picture

You are correct, there cannot be a shortage of cash but there certainly can be a shortage of confidence in cash or a lack of confidence in the institution,bank that holds the cash.

That's what starts bank runs

nasdaq99's picture

What happens when money loses value.  I think this is Somalia:



rubiconsolutions's picture

Stop calling it "fractional reserve banking". It's counterfeiting. Period. If people keep applying some benign language to what is otherwise a crime than it will continue to be tolerated. It's akin to calling rape an "unsolicited sexual interlude".

A Nanny Moose's picture

Bingo! Grammar, Logic, Rhetoric.

The first step toward regognizing evil, is to start referring to things by their true name (a.k.a. using the proper grammar.)

kita27's picture

No I disagree, it IS irrational to start a central bank run because the profit in sound money arbitrage does not outweigh the devastation of a collapsing society.

Jackagain's picture

Economically speaking, fractional reserve banking works something like this...


lasvegaspersona's picture

This seems kind of silly. Why not define 'money titles' to begin with. Do you mean this as a cute way to say gold?

Fiat currency is currently defended in the Forex market by buying back your own currency with other currencies. The central bank intevenes to keep the currency's value in a desired range compared to other currencies. There is no real need for a cenral bank to prepare to satisfy all holders of the currency. It must simply keep the currency valuable so that it is still used.

One of the big spit fights we get into begins by using the term 'money'. In reality we should define which monetary function we mean. Fiat currency, properly managed works fine as a medium of exchange. In the longer term it always fails as a store of value. I have no issue with 'money' but articles that just blurt out the term and don't define the meaning are like reading the rules to World of Warcraft...terribly important I'm sure but of no interest to me.

TheReplacement's picture

Money is money.  Money can be used as currency.

Fiat currency represents money or "faith".  Fiat currency is not money.

It seems pretty clear doesn't it?

disabledvet's picture

Actually his is a good point...one totally ignored by the article...namely "who has title to a property?"

His was the whole problem with the CDS market and "mortgage backed securities" (and all the other securitized CRAP)...namely, the whole was backed by....as it turned out...Bailout Nation.

Well..."where is my reserve in the fraction" assholes!

One answer OBVIOUSLY is GOLD.

The other however is in WHO HAS TITLE (the "lienholder") to a piece of property? When it came the ENTIRE MBS market (over a trillion dollars per annum at peak!) "this was indeterminate"!!!

I'm sorry? What is your collateral again?

And as Detroit found out..."the collateral was Detroit!"

Well...what about say...Michigan or Rhode Island then?

I say "die for Allah" bitch.

You choir boys wanna die of the Eastern Front...well, it ain't for lack of action over there.

World Dollar's picture

The typical definition for money is that it is a medium of exchange, store of value, and unit of account. 

It is a fair and indeed popular point to make that fiat currency fails as a store of value in the long term, with reference typically made to how much fiat currencies have fallen in value over time. But the point made by this article, and indeed the essay by Hulsmann in 2003, is rather more nuanced than this. Fiat currency only fulfils this definition of money, as a medium of exchange and store of value, so long as there is informational inefficiency, with market participants failing to reflect price differentials, and therefore capitalise on arbitrage opportunities.

The only way the price differentials will become reflected is if this idea is spread, which, unfortunately, it has not been to this day. As said, it could mean a worldwide return to sound money far sooner than most could have believed possible.


disabledvet's picture

STFU. "This ain't no abstract bullshit game anymore."

You wanna raise your Teutonic horde bitch? Slap your dick on the table and let's see what you've got phucker.

Yen Cross's picture

 You know you've been reading too much Z/H, when your contemplating ?...

whoopsing's picture

Is there such a thing as too much ZH Yen ?

kchrisc's picture

Guillotine the Fed.

ThroxxOfVron's picture

The Money Shot: "It is irrational not to start a bank run, due to the arbitrage opportunity that exists."

Read that a few times slowly and let it sink in.


Bankers know this better than anyone having a fuller understanding of the system that they inhabit than the deluded public.


Bankers start most bank runs with the intention of acquiring real property at discounts against the inflated marks assigned during the fractional/debt instrument pyramiding aka inflaion of the debt/iou supply phase.


Banking is an agricultural derivative: sowing the debts and reaping the inevitable defaults that are mathmatically certain to accrue under a debt-based fiat regime in which the interest payments required to balance the books are simply never created....

Matt's picture

"government’s deposit “guarantees” are not actually credible in the event of a systemic run."

If the government has the power to create money ("dollars"), than it can certainly gaurantee the deposits effectively. It seems odd to me that it is not the Central Bank's duty and obligation to ensure the deposits.

If creating a large amount of paper bills during a credit collapse is, in fact, inflationary, the government/central bank could simply nationalize all the banks, increase the reserve requirements so that the new amount of M1 times leverage is equal to the previous M1 times leverage.

Example, if currently there are 100 Billion dollars in paper and reserve rate is 2 percent, if needed, 400 billion dollars could be printed and stuffed into the banks' accounts at the central bank at a reserve rate of 10 percent and the total amount of money should stay the same. 

Of course, if a country follows Ghana or Estonia and goes to a fully digital currency with checking accounts all being held by the central government, the money can be reserveless. In that case, containing inflation becomes a pure excercise in restraint, which unfortunately always fails. 

ThroxxOfVron's picture

Bankers start most bank runs by tightening credit or raising rates with the explicit intention of acquiring real money and real property at discounts against the inflated marks assigned to real money and real property created during the fractional/debt instrument pyramiding/bubble aka inflaion of the debt/iou supply phase.

The credit supply is constricted creating a panic for payments to avoid insolvency and the true scarcity of actual money that has prevailed previously is revealed.  Debt-based fractonal lending is the basis of the underlying insability.


We have no money.  Nothing can be paid.  The national debt cannot be paid because it is effectively an accounting of the interest payments made on government debts.  Every interest payment ever made can be conceived as the misallocation of prinicipal as no loan ever creates the interest portion associated.

Banking is an agricultural derivative: sowing the debts and reaping the inevitable defaults that are mathematically certain to accrue under a debt-based fiat regime in which the interest payments required to balance the books are simply never created...  As real money and real property is attached as collateral to debts it is effectively consumed by the credit as the non-existant interest payments are leached out of the accountings.

Real money and/or real property must continually be ceded to the debt-based fiat generation of the system collapses.   ALL loans generated in this system are really negative sum gain transactions the repayment of principal and interest of which can only be made by theft or misallocation of the promised payments of other transactions.

This is why the national debt is both perpetual and the basis of Oligarchy/Feudalism: the debt can never be paid off, it can only soak up more and more productivity.   I suspect that the only reason recent western monetary cycles have lasted as long as they have is two fold:

1. much property has been confiscated and re-allocated in and from the 'New World'.

2. cheap petroleum energy sources have satisfied part of the accumulating debts through historically unimaginable 'productivity rates' predicated on the consumption of these limited resources.


"If creating a large amount of paper bills during a credit collapse is, in fact, inflationary, the government/central bank could simply nationalize all the banks, increase the reserve requirements so that the new amount of M1 times leverage is equal to the previous M1 times leverage."

You are missing the point?  The system is extractive by design.  Debt based fiat is a negative sum exorcise.

Collateral must continually be ceded to pay for the interest which is never created along with the principal component of loans.  This is NOT an exchange of debt-money equivalents for debt-money equivalents; principal can be paid with principal; but, interest cannot be paid with principal unless another transaction is defaulted -and the collateral ceded.

ALL fractional debt-based fiat lending is a negative sum game and involves the exchange of real money or real property for the debt-based fiat.

disabledvet's picture




(again for the record I AM NOT FOR GENERAL PLAN OST NOR ITS ANTECEDENTS. However..while we are on the subject...PARDON MY NARRATION!)

ThroxxOfVron's picture


What COLLATERAL is The FED lending to?

What COLLATERAL are CCards lending to?

How is a depreciating off the lot GM pos COLLATERAL?

What is the COLLATERAL on a student loan?

oudinot's picture

Ok, I borrow $10,000 for my wagon fry business. My wagon and fryer are put up as collateral.  I have to pay 10% interest on the loan.  In a  year I have sales over $90,000 and a $30,000 profit, I pay the bank back its $11,000 ($10,000 principal, $1,000 interest) after  a year.  Transaction finished

I have not ceded any more collateral, I paid interest with my profits.

Please explain with your hypothesis why this is impossible.

ThroxxOfVron's picture

It's NOT impossible because You and your loan are not isolated from the economy.  The money You allocatd to pay off your loan simply indicates that someone(s) else was not able to allocate funds to pay their loan(s).


The only Bank in the World is running the exact collateralized debt-based system we presently have and it makes it's ONLY loan to YOU for $100.  

There are no other loans in existance and there will be no other loans generated over the duration that your loan is outstanding; so there is no money in the system save the money created at origination of your loan.   

The interest rate can be ANY positive rate You choose; anything above zero.

Once You make the first payment of principal and interest CAN a loan be repaid with interest if ALL of the money in the system was created is the principal?


 Why don't YOU try to explain to ME where the 'money' to pay the interest on a loan comes from if You take a case inisolation as I just have.

Matt's picture

You model is based on the money only moving once. It flows.

Government borrows $100 for ten years and will repay $130 at the end of the ten years.

Government spends the $100 dollars, and reclaims $15 at the end of year one in income taxes, assuming the company that the government got the goods or services from does not spend that money within that year.

Year two, Government spends that $15, the company spends the $85, the Government collects another $15 in income taxes.

At the end of the ten years, the Government has cumulatively collected $150 in taxes, even though only $100 physically exists, because the money flows around constantly.

Along the way, it may have paid money back to the lender, and that lender would spend money, and the Government would collect taxes on the incomes of whoever earned that money by selling goods and services to the lender.

The Government, over the ten years, has repaid the $130, has collected an excess of at least $20, and the $100 are still circulating around.

Obviously, people hoarding paper dollars disrupts this system and must be dealt with somehow. Inflation is one way of discouraging hoarding cash, while offering returns on investment is one way of encouraging that money to continue cycling.

oudinot's picture

The money that I collected for my French fries came from many people and I am sure that they didn't pay me to so as to default on their loans.

However, with my  bank now repaid , with interest- they have received $11,000 from me- they can create, issue another $100,000 loans (fractional banking rules) on my repayment to thier lenders.  My transaction will give many people cash to repay their loans somewhere in the system.  Hence, profits, create more money such as to sustain the economy.


That's what you are missing from your hypothesis.


ThroxxOfVron's picture

Nothing is missing from my hypothesis.

You just do not want to admit that much of what is called borrowing is not; -it's counterfeiting and selling of tax receipt warrants.

1. Some of those People will default on their own loans.

2. Some of those people are still rolling over their loans over so that they can retain possession of the collateral ( and buy your french fries ).

3. The government and many the corporations are ONLY rolling over their loan PERPETUALLY. The money created will never be paid back because it isn't really debt in the sense of smething borrowed with the intention to pay back.

Many Governments and Institutions and Corporations have NO intention of ever paying off their 'debt'; their intention is to roll the loans over forever; paying off a loan from Peter with a new loan from Paul if not another loan from Peter.

This is perpetuated by the defacto seliing of Tax Receipt Warrants aka 'full faith and credit of the United States'.


Do You really believe that the People running the United States Government have any intention of PAYING OFF the National Debt and extinguishing ALL outstanding interest bearing Treasury issuance?   

Here are a few clues before You answer:



"2012: average net compensation = $42,498.21

2012: median net compensation = $27,519.10"


"Today’s Federal Debt is about $17,588,746,437,000.

The amount is the gross federal debt issued by the United States Department of the Treasury since 1790. It doesn’t include state and local debt, and it doesn’t include the so-called unfunded liabilities of entitlement programs like Social Security and Medicare.

Federal Debt per person is about $53,904."



"In December, April, and now May, the labor force participation rate has been 62.8 percent."

Roughly $54,000 FEDERAL DEBT PER PERSON on a MEDIAN NET COMPENSATION OF $27,500 and a Labor Participation Rate of 63%.

This would imply that each and every working person in the Untied States owes roughly 100%  of 2+1/2 years of NET to pay off the national Debt TODAY.

Taking the compounding interest into account, it would appear that the entire country couldn't pay the National Debt off even if every single penny earned -100%- was remitted from today until at least March of 2017.

...&, yes this is entirely dismissive of the BOTH entire Congressional Budget and ALL Social Programs including SS & Medicaid & the fact that as the Debt is paid down that Inflation would surge as Trillions in sequestered 'Hot Money' would erupt into the system and search for safety and yield ( which would also impact interest rates, trade, fx cross ) ...



Here's more:










oudinot's picture

I am talking about the micro, and clealy you are incorrect about the use of collateral in that example..

I agree that may corps and govt. will never repay loans but that is a different topic.