Why does confidence in banks matter?
That's a serious question. Confidence shouldn't matter, but it does, and until we fix that, we'll just get more failures. You can take that to the bank.
Have you ever wondered why our banks constantly face shortfalls in cash and confidence? How can banks, which ostensibly are in the easiest business ever — they literally create money from nothing — become bankrupt of both cash and trust? For most Americans, the answer is as scary as it is enlightening. Here’s the difficult truth: Our modern banking system is not just a house of cards, but a tower of cards built on a foundation of lies.
Surely I’m overstating it for effect, you say. I’m not. The financial sleight-of-hand our system is built on starts first and foremost with self-deception. Anyone who understands how bank finance works has to view it through a lens that is not unlike the suspended disbelief we have when we go into a movie. We all know the superhero or villain isn’t really throwing cars. But we willingly believe what’s on the screen for the sake of our own entertainment. Similarly, we all know our money isn’t really there when we deposit it at a bank, but as long as the legalized accounting fraud wizardry of fractional reserve banking does its magick and our ATM card works, we push that nagging doubt aside.
This is why our banking system requires confidence in order to function. If a castle is built on rock, would anyone living in it be in fear of what other people THINK about the integrity of the foundation? Of course not. It’s built on rock. It would be stable whether people believed it was or not.
But consider the fractional reserve banking system we’ve inherited. We’re constantly told how crucial it is for our very survival that we have confidence in the banks. Why? Because lack of confidence will induce a run on the banks, of course, and then they wouldn’t be able to give everyone their own money.
If telling the truth could create systemic bank failures, it’s proof the system is built on a lie.
Now exit the financial movie theater and drop your suspended disbelief for a moment. It’s not just difficult for a bank to return everyone’s money if the public loses confidence; it’s impossible. Returning the money can’t happen because money was created out of thin air through the magick of fractional reserve banking. The only way to make the bank solvent in that event is to create more money out of thin air on someone else’s books — usually the Federal Reserve’s — and that is exactly what is happening right now.
The only way early depositors can be paid back in this situation is with money from new depositors. This truth alone makes it clear that the fractional reserve banking system is nothing more than a legalized Ponzi scheme.
“Every debt is ultimately paid, if not by the debtor, then eventually by the creditor.”
~James Grant
Here’s another way of putting it. If telling the truth about the fragility of our banking system could create systemic bank failures and induce a national security emergency, then you know the system is built on a lie. It should never be a problem to tell the American people the truth.
I’m not trying to frighten anyone or create a bank run. I don’t want a financial meltdown, and I hope it doesn’t happen. But we can’t wish away difficult facts just because we don’t like them.
We have to start telling the truth about the fragility of our banking system. At least then we can have an honest discussion about what to do about it. The political class might very well kick the can of insolvency down the road for our kids and grandkids to deal with, as they’ve repeatedly done. But the question is, how much road do we have left?
Recommended reading:
Economics In One Lesson, by Henry Hazlitt
The Case Against The Fed, by Murray Rothbard