Shay, I think that if you were a debtor of the bank, instead of a creditor, you should also consider the possibility to accumulate them up to the amount due to the bank, instead of getting rid of the ones that you already have, particulary if for any reason whatever, they are losing value relatively to the silver coins.

Comparing the appraisal of equity for a fractional-reserve bank is NOT the same
as it would be for a corporation like IBM, for the simple fact that, as already
pointed out, such banks can influence demand for their product in a way that
non-banking businesses cannot (simply through the will of the banks to inflate),
and consequently falsely boost the price (and apparent market value) of their
equity.  (Since again, market prices are determined by BOTH money and money
substitutes.)

I hope Santa Claus brings the RBD’ers a clue this year, but their reasoning
indicates they’ve been very, very bad boys and girls, so I’m not hopeful.

Gerry Flaychy:

You don’t need a public balance sheet to lend gold. You just need gold. But you do need a public balance sheet to issue your own IOU’s and have people place a positive value on them. That is what most bankers do, so they need public balance sheets.

Naturally, the general public doesn’t read balance sheets. They just trust that bank examiners have done it for them. If they don’t trust a bank they invest their money elsewhere.

I have mostly just been following this now as an interested spectator. I just wanted to welcome Buzungulus back under his new pseudonym of “Beefcake the Mighty”. He reveals himself not only by his particular brand of incivility but also by his laughably consistent misspelling of the word “collateral”.

Troll.

Anyway Gerry, I do agree that depositors pay little attention to bank balance sheets. Government guarantees lull them to sleep on the matter. However, those guarantees only mask the underlying economics. In my opinion, they play an important role in the boom-bust cycle. While banks are publicly displaying their balance sheets (they must by regulation), depositors are rarely, if ever, challenging the values that they claim. It takes external shocks to reveal differences in stated balance sheet values and in values that could actually be obtained on the market.

Keep in mind, too, that market values are highly fluid. As long as relatively few assets are placed for sale, the market value of such assets will remain relatively high. If many of the assets are placed for sale en-mass, their value will drop as expected by elementary supply and demand principles. Conversely, the value of money will increase. This is just what is expressed by deflation.

In the extreme, cash (or money proper, if you prefer – thus allowing for analysis in a commodity money framework) could theoretically become the only good demanded. In this instance, the market values of all other goods would drop to zero. In practice, of course, this extreme would not be reached as money would be exchanged for at least the basic necessities of life.

The relevant question to me is what drives the relative demands expressed for money and goods. And what is the source of demand shocks?

It seems axiomatic that the value of money will tend to adjust to the actual structure of supply and demand. This adjustment is complicated by the dynamic nature of the market. As taught by Mises, there is no one magical eliquibrium level to work toward (we seem to be discussing here, at times, in a sort of evenly rotating economy construct – thinking beyond that conception introduces some insights into the matter, I think). Therefore, market expectations complicate this process. The process is further complicated (to absurd points, at times) by political interventions that often are intended to attempt to oppose the adjustment.

I contend that, absent corrupt political interventions, money will more quickly adjust to values that are in line with actual economic realities and that it will tend to do so with fewer global shocks.

Joe Stoutenboob,

Better a troll than a crank. And better to understand what colatteral is than to spell it properly on a blog.

Gerry:

I’ll have to take your word on banking practices during “free banking” periods. That may very well be true that they didn’t publish their balance sheets. But then again, bank runs were a more imminent threat. Depositors didn’t need to understand the details of a bank’s balance sheet. Indeed, most people, if shown financial statements would not have been qualified to construct an informed opinion. But if there were the least rumor that a bank’s notes could not be fully redeemed, they could run to the bank for withdrawal. If the bank’s balance sheet were sound, then there would have been no harm, no foul. All notes would be redeemed, the bank’s reputation defended and (hopefully for the bank) depositors would return again.

Even nowadays, with all the governmental bank supervisors, we cannot know for sure what the real financial situations of the banks are. And it seems that even the bankers don’t know it !

Going back to my statement about dynamic markets, no one can ever know their real financial situation. The value of a bank’s assets is influenced by the demand for the base money in its vaults. An increased demand for base money directly coincides with a decreased demand for other goods, some of which may, in some way, be represented as assets on the bank’s balance sheet. In other words, the bank run, in addition to revealing any potential pre-existing defects in the bank’s balance sheet, actually may worsen it.

Third party guarantees, of course, push potential losses to the guarantor party. Individual depositors will not waste their time examining balance sheets. Nor will they often run on a bank since the FDIC will make good on any losses up to limits far exceeding most deposits. Unfortunately, few people closely consider the political reasons for bank examiners to paper over (pun recognized but not intended) problems in the banks.

I think that we both agree that political interventions exacerbate the situation. Our difference (though not recently voiced – correct me, if I’m wrong) is in whether anything less than 100% base money reserve is fraudulent. I think that some bank reserving practices are fraudulent – certainly many contemporary practices. However, I believe that some bank failures are entrepreneurial error.

Gerry:

Yourself wrote ‘ But then again, bank runs were a more imminent threat.’. Don’t you think that if they publicise that they have only a reserve of 10%, the bank run will happened more faster? Think too of the competitors who were just waiting for a weakness in another bank to put it out of business !

Discerning depositors, given the choice between a bank publishing a strong balance sheet and another refusing to publish a balance, will go with the strong balance sheet.

Gerry:

Agreed. We’re talking now about competitive market forces. There is no suggestion of fraud in either of our recent statements. In my opinion, the second bank may have committed fraud. Or it may simply have suffered from entrepreneurial error.

It will only be guilty of fraud in the future (assuming that its failure to disclose a balance sheet is to hide its deficiency) only if it is in violation of contractual obligations to reveal its condition. It is certainly true that regulators have a long history of allowing banks to get out of such obligations. Indeed, it is today institutionalized under such actions as the suspension of mark-to-market. But those are quite distinct problems, in my opinion, from the potentially legitimate workings of credit markets.

Do you agree?

RBD
At the heart of RBD is the assertion that if credit expansion is backed by adequate collateral for the new loans, then the money, or money substitutes, thus created have real value, and therefore will not cause inflation or lead to the business cycle as described in ABCT. The money, or money substitutes, have value because the collateral used to guarantee the loans has value.
Some of the less sophisticated proponents of RBD assert that when the new money, or money substitutes, are created then an equivalent value assett is also created, namely the loan itself, which can be traded at the push of a button. That loans are traded this way is irrelevant however; the critical point is, was a new assett actually created? When a loan is made, say on a home, the homeowner gives up part of their claim to the property in exchange for present money, the loan represents the claim they surrendered to the bank. Instead of a new assett coming into being, what has actually happened is that an existing assett has been divided between two entities. To argue otherwise would amount to asserting the right of homeowners to take out a loan on their home and still be able to use the equity thus encumbered as they please. They could sell it and pocket the money, they could take out as many loans as they wanted against that same equity, there would be no limit to their claim to the collateral. That is clearly not the case.
RBD proponents are offended when it is claimed that the credit expansion that occurs under their system results in “money being created out of thin air”. People who make this claim point to the fact that after the credit expansion occurs the only new assets (please see previous paragraph) are the new money or money substitutes. RBD hinges on the claim that the value of the collateral creates the value of the money, or money substitutes, that come into existence with the credit expansion.
Their are two basic divisions in the discussion of value, there is the objective theory of value and the subjective theory of value. The objective theory of value asserts that objects have intrinsic value apart from the opinions of humans and that it should be possible to measure objectively this ‘value’. There are many different schools of objective value theory, even though not one of them has ever successfully been able to measure ‘value’. The subjective theory of value, the one at the core of Austrian economics, holds that value is determined differently by every individual and that no object has an intrinsic ‘value’ apart from the opinions of individuals.
RBD proponents must explain their assertion that the value of the money, or money substitutes, created under their system derives from the value of the collateral behind the loans, using one of these two basic philosophies of ‘value’. If they choose the objective theory of value they should be able to define the value of the collateral without reference to money, after all, the value of the money comes from the collateral, it is a derivative of the value of the collateral. They should also be able to explain what constant unit of measure is appropriate to ‘value’.
More often RBD proponents follow somewhat of a subjective theory of value, but there is a serious problem with this approach. They use the term ‘value’ extensively, but, when pressed, they admit that what they really mean is the money price of the collateral behind the credit expansion that creates the new money, or money substitutes. So the ‘value’ that establishes the ‘value’ of the money, or money substitutes, is in fact the money price of the collateral. But the money price of the collateral would depend entirely on the ‘value’ of the money, and the ‘value’ (or money price) of the collateral is what establishes the ‘value’ of the money. It is an endless circular argument.
What one is left with is the Austrian explanation of prices and their function in the free market. The ‘value’ of money, or money substitutes, adjust, along with every other item in the market, in order to clear the market. Clearly the abundance of any item in this world will be reflected in its ‘value’, including money.

Ha