Skip to comments.Anatomy of the Bank Run
Posted on 03/25/2013 4:50:44 PM PDT by BfloGuy
It was a scene familiar to any nostalgia buff: all-night lines waiting for the banks (first in Ohio, then in Maryland) to open; pompous but mendacious assurances by the bankers that all is well and that the people should go home; a stubborn insistence by depositors to get their money out; and the consequent closing of the banks by government, while at the same time the banks were permitted to stay in existence and collect the debts due them by their borrowers.
In other words, instead of government protecting private property and enforcing voluntary contracts, it deliberately violated the property of the depositors by barring them from retrieving their own money from the banks.
All this was, of course, a replay of the early 1930s: the last era of massive runs on banks. On the surface the weakness was the fact that the failed banks were insured by private or state deposit insurance agencies, whereas the banks that easily withstood the storm were insured by the federal government (FDIC for commercial banks; FSLIC for savings and loan banks).
But why? What is the magic elixir possessed by the federal government that neither private firms nor states can muster? The defenders of the private insurance agencies noted that they were technically in better financial shape than FSLIC or FDIC, since they had greater reserves per deposit dollar insured. How is it that private firms, so far superior to government in all other operations, should be so defective in this one area? Is there something unique about money that requires federal control?
The answer to this puzzle lies in the anguished statements of the savings and loan banks in Ohio and in Maryland, after the first of their number went under because of spectacularly unsound loans. "What a pity," they in effect complained, "that the failure of this one unsound bank should drag the sound banks down with them!"
But in what sense is a bank "sound" when one whisper of doom, one faltering of public confidence, should quickly bring the bank down? In what other industry does a mere rumor or hint of doubt swiftly bring down a mighty and seemingly solid firm? What is there about banking that public confidence should play such a decisive and overwhelmingly important role?
The answer lies in the nature of our banking system, in the fact that both commercial banks and thrift banks (mutual-savings and savings-and-loan) have been systematically engaging in fractional-reserve banking: that is, they have far less cash on hand than there are demand claims to cash outstanding. For commercial banks, the reserve fraction is now about 10 percent; for the thrifts it is far less.
This means that the depositor who thinks he has $10,000 in a bank is misled; in a proportionate sense, there is only, say, $1,000 or less there. And yet, both the checking depositor and the savings depositor think that they can withdraw their money at any time on demand. Obviously, such a system, which is considered fraud when practiced by other businesses, rests on a confidence trick: that is, it can only work so long as the bulk of depositors do not catch on to the scare and try to get their money out. The confidence is essential, and also misguided. That is why once the public catches on, and bank runs begin, they are irresistible and cannot be stopped.
We now see why private enterprise works so badly in the deposit insurance business. For private enterprise only works in a business that is legitimate and useful, where needs are being fulfilled. It is impossible to "insure" a firm, even less so an industry, that is inherently insolvent. Fractional reserve banks, being inherently insolvent, are uninsurable.
What, then, is the magic potion of the federal government? Why does everyone trust the FDIC and FSLIC even though their reserve ratios are lower than private agencies, and though they too have only a very small fraction of total insured deposits in cash to stem any bank run? The answer is really quite simple: because everyone realizes, and realizes correctly, that only the federal government--and not the states or private firms--can print legal tender dollars. Everyone knows that, in case of a bank run, the U.S. Treasury would simply order the Fed to print enough cash to bail out any depositors who want it. The Fed has the unlimited power to print dollars, and it is this unlimited power to inflate that stands behind the current fractional reserve banking system.
Yes, the FDIC and FSLIC "work," but only because the unlimited monopoly power to print money can "work" to bail out any firm or person on earth. For it was precisely bank runs, as severe as they were that, before 1933, kept the banking system under check, and prevented any substantial amount of inflation.
But now bank runs--at least for the overwhelming majority of banks under federal deposit insurance--are over, and we have been paying and will continue to pay the horrendous price of saving the banks: chronic and unlimited inflation.
Putting an end to inflation requires not only the abolition of the Fed but also the abolition of the FDIC and FSLIC. At long last, banks would be treated like any firm in any other industry. In short, if they can't meet their contractual obligations they will be required to go under and liquidate. It would be instructive to see how many banks would survive if the massive governmental props were finally taken away.
Deposit insurance is a fraud, too. When you lend your money to a bank [and that's what you are doing], there is a risk involved. The government has tried really, really hard since FDR to convince us that saving money in a bank is a riskless endeavor.
They tried the same thing in Cyprus, too. But since Cyprus can't print money, it must skim part of the bail-out from the depositors. It's really as it should be. Otherwise, the taxpayers of other countries must foot the bill.
In the US, of course, we'd all pay for the bailout through dollars that buy less.
And we're fixin' to get a lot more "less."
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I hate banks. I’ve always hated banks. I will always hate banks.
It's not like the old days is it Butch?
It’s not the banks,it’s the bankers.The bankers in Cyprus will need to keep an eye out for eastern European guys with umbrellas.I would suggest that they hire someone to start their cars for them too.
What, then, is the magic potion of the federal government? Why does everyone trust the FDIC and FSLIC even though their reserve ratios are lower than private agencies, and though they too have only a very small fraction of total insured deposits in cash to stem any bank run? The answer is really quite simple: because everyone realizes, and realizes correctly, that only the federal government—and not the states or private firms—can print legal tender dollars. Everyone knows that, in case of a bank run, the U.S. Treasury would simply order the Fed to print enough cash to bail out any depositors who want it. The Fed has the unlimited power to print dollars, and it is this unlimited power to inflate that stands behind the current fractional reserve banking system.
This is correct up to a certain point.
Eventually there will come a time when no other nation wants our dollar and at that point, even though the fed prints enough money to pay off bank depositors, it will do the depositor no good because no one will want his money either.
So tell me, when you go to purchase food or oil to heat your house, which is worse...to have no money at all or to have a pickup truck load of green paper that no one wants?
In either case, the financial system is ruined and barter is the only way out.
That is my theory.
You are welcome to proceed on the basis of yours.
It was a small bank owned by a small family, employed nearly 300 people and was closed for no good reason. Every employee laid off and indentured for the next 90 days.
Armed U.S. Marshals, State Police, etc. showed up on a Friday afternoon the 3rd week of January, 2010.
The armament was not to deter the run, but to detain and retain the employees.
The ones not escorted out of the buildings wound up being indentured servants of the FDIC until 4/30/10.
After all was said and done, the bank turned a $30 million profit in 2009, but was collapsed and sold off piecemeal over the next year or so.
I was given a 20-minute warning, told my boss I didn't want to be a part of that and left. He called me back 20 minutes later and asked me to return. Worst decision I ever made was to go back in there. Of course, if I had not, I would to this day be hunted and haunted.
Worst 90 days of my life, all for no good reason.
Our money is worth no more today than confederate money was worth in 1865.
The only thing making it worth anything is that it is accepted. When it stops being accepted it will be worth nothing, same as the Confederate dollar.
Why do Keynesians operate under the assumption that people are stupid?
If I know that next Thursday the government is going to confiscate 10% of my saving’s deposit, I’m going to start taking as much money I can out of the bank.
And the economist are always shocked that people behave this way.
A question for you.
How do you know that the bank will not take 10% out of your account next Thursday?
I think it’s a bit more serious than umbrellas, and there is no reason in the world that Russian oligarchs need to have “plausible deniability”.
In other words, they would send some real brutal muscle to Cyprus, with orders to squeeze these bankers until they kick down at least that oligarchs money. All of it. Like a really nasty loan shark, they wouldn’t care *where* the bankers got the money, just as long as they got it.
One of their last sentences is intriguing, but unfinished:
“Putting an end to inflation requires not only the abolition of the Fed but also the abolition of the FDIC and FSLIC. At long last, banks would be treated like any firm in any other industry.”
The the question becomes, “and then what happens?”
I think I have an answer for that, based on how Weimar Germany (with advice from the US), got out from its horrible hyperinflation of its fiat currency, the Papiermark.
The first thing they did was to create a new, gold backed, “bank and government currency”, that did not circulate, but because it was very stable, did not inflate either. It was called the Rentenmark, as normalized the German economy, while erasing “bubble debts” and taking possession of forfeited assets.
It got the Papiermark back under control, at least enough so that when a third currency, a circulating currency, also gold backed, the Reichsmark, was introduced, it was also very stable. So stable that it even survived World War II.
Unfortunately, there is not enough gold (and silver, combined) in the world today to back a major currency. But this problem can be alleviated by including other non-renewable commodities: aluminum, copper, iron, other metals and mined chemicals, and even processed steel.
The US most certainly could create a “bank and government”, non-circulating currency, that officially would be “specie backed”, but unofficially would be “specie plus”.
The guy who got stuck with a ricin pellet from the end of an umbrella probably thought it was pretty serious,but you’re right it’s going to be a bloodbath this time.
“Its not the banks,its the bankers.The bankers in Cyprus will need to keep an eye out for eastern European guys with umbrellas.I would suggest that they hire someone to start their cars for them too.”
Actually, I’d be in favor of some Cypriot “banksters” being “offed” by the Ruskies.
Maybe the fear that they can be “disposed of,” will put some fear into all of them.
Maryland Savings and Loan “Freak State” PING!
Back in those days every Friday was edgy. No one knew if they were next on the list. Crazy Days.
I intend to rout you out and by the Eternal God I will rout you out. If the people only understood the rank injustice of our money and banking system, there would be a revolution before morning. Andrew Jackson,
Here's a question that's been bothering me. I bought a residence in 2009 for essentially nothing down and a 30 year fixed mortgage at under 5%. What happens when inflation takes off - I think it already has begun - and then the bank is left with me paying off the loan for what increasingly looks like Monopoly Money. Will the Spirit of Cyprus play out here as a unilateral re-writing of the loan agreement to keep payments up with inflation? It's hard to imagine that the banks will stand by as I begin to pay them confetti. Am I wrong?
Unless the laws are changed, you have a contract which they can enforce, but so can you.
Just hope there is no small print that gives them options that would be unacceptable to you, like an adjustable rate.
Inflation is to your advantage, so long as you have the income to make payments, and that is why we have it for the same inflation that works for you works for the government when they are paying off their loans.
Inflation also puts you in a higher bracket, so they get more of your money. Adjustments the IRS makes are behind the curve, so you can’t stay even.
This is the enviable situation to be in, loads of assets bought with fixed-rate credit.
The only problem is, that when money fails, governments go after other assets as well.
Under the Weimar Republic, landlords gave away the keys to property to tenants as property taxes soared to untenable levels, anyone with any kind of property that could be seized or taxed could lose it - including real estate.
It is difficult to predict how this will play out.
That, or inflation adjusted dollars. I'd read somewhere, a while back, that some newer contracts had tricky wording inserted regarding future repayment. Not sure if it's true, though.
That's already happened. We know they're not gonna let the other side win.
And the sides really are now "Main Street" versus "Wall Street." Wall Street will do whatever is necessary to prevent Main Street from winning, at least if it means their being wiped out.
Frankly, I really don't know how to play it. Part of me says to get another house right away while sale prices are still low and interest rates are ridiculously low. But the other part of me says no, invest in an Airstream Trailer with a Ford 350 and hit the road. They'd have to find me first before they confiscate my stuff.
Hmmmm . . .
Me too, I don’t know what the best course of action is. We see the old system crumbling around us, the sheeple see the stock market going up and think, “WOW! The economy is fixed!”, when in fact, it’s hot money from the fed pumping up stock prices in the first bout of inflation.
Another way the little people got screwed was with this whole MF Global theft and Corzine skated. People had ownership certificates for bullion with serial numbers - that is a warehouse receipt. This property was stolen.
During the Weimar collapse, even real estate was not safe. All property was subject to excess taxation and/or outright confiscation.
During Weimar, property owners gave the keys to tenants so as not to be robbed of their entire fortunes via confiscatory taxation.
I’ve been directing people to a great book I read on the Weimar collapse, “When Money Dies”. Check my back posts where I posted a link that you could download it for free.
You are in luck... it appears that you can still read it or download it for free online here and only here:
This book was out of print for a while, but now is being reissued. If you are interested, I suggest you grab the free e-book above while it lasts, as it will likely soon disappear since the book has gone back into print.
Of course you can always buy a bookshelf copy from Amazon as it's cheap enough.
Rushdoony has a book from the 70s called "Larceny in the Heart." His basic argument is that it's immoral for a Christian to play the "I can beat this inflation thing" game. He says it's a fundamentally immoral thing and that a good man would have nothing to do with it, at least that's how I understand it. He backs it up with lots of Scripture. You can get it cheap on Amazon for kindle.
Here is one more to read that is excellent, but a bit more academic:
This book was written by Harvard Economics Professor Rogoff and is well researched - it goes back some 800 years to crises just like the one we face now and how they always do the same thing... just like they are doing now.
A good 'heads-up' on how this will play out.
Well, yes. That is the end game.
You were on a roll till that statement.
Any amount of gold will serve to back a currency. If the dollar were defined as 1/4 of 1 grain of gold (1/1920 of a troy ounce) and dollar-holders could redeem their dollars at will for that amount; it would suffice to back the currency.
As long as banks are required to part with their gold reserves upon demand of the depositor, they will be careful not to over-extend themselves. Increasing redemption of gold serves as a signal to a bank that customers are losing confidence and the situation should be corrected: loans called in, interest rates on deposits increased, etc..
Redemption is the key to a successful gold standard. The amount of backing must be defined, but the quantity doesn't matter.
You are welcome to proceed on the basis of yours.
Mine is no different from yours. Where did you get that impression?
Seriously, 1/4 of a grain of gold? That is just nonsensical as a means to back a currency. You might as well base it on fairy dust, which probably has a better conversion ratio with the dollar.
You obviously did not read my comment very carefully. The amount of gold backing the currency DOES NOT MATTER.
Why do you consider my suggestion so ridiculous? Please expound. I await your explanation eagerly,.
You answered your own question:
“The amount of gold backing the currency DOES NOT MATTER.”
Priceless is the same as worthless.
Gold only has value to those that value gold. Because there is so little of it in the world, it is no different than baseball trading cards: of great value to those who collect it and trade it, but of no value to those who don’t.
Try this experiment. Go to a grocery store and fill that cart up. Then offer gold as payment to the cashier. Since they have no way of converting it, ask the manager to do so. He will have no way of converting it either.
“Sorry, Mac. Cash, credit, debit or check only.”
“But don’t you *understand*??? This is GOLD!”
“Sorry, Mac. Cash, credit, debit or check only.”
“Yours” was meant to mean anyone and every one reading the thread.
When money is worthless, as it has been in so many countries and is now in quite a few, gold does become desirable.
I am amazed at those who say it has no worth because you can’t eat it when our country required that the currency be coin for many many years.
Since Biblical times, gold has been sought after.
What was the California gold rush all about?
My point is that there is just far too little of it in the world, much less the US, to matter.
In physical ownership, there is only about $250 billion in gold in the US, assuming $1600/ounce. Our daily retail is over $2 trillion.
Ironically, if the US government owned all this gold, it would back about 12.5% of daily retail. Paper money is so rare that there is only enough to back 5% of daily retail.
So, if something went wrong with our virtual money right now, like what is happening in Cyprus, our paper money would be worth more than gold. Assuming, of course, the government had decided to nationalize all gold, again.
That's true, of course. But you miss the point of a properly gold-backed currency. It limits the amount of paper dollars that can be printed.
That's the point.
In practical terms, at least right now, no it doesn’t.
First, distinguish between the hyperinflated virtual dollar that exists only on computer, and the 20 times deflated paper dollar. The government literally cannot print more paper money than it is doing right now. For it to do so, it would have to open at least 18 more high security printing offices, spend billions on the printing presses, which almost have to be built from scratch, and spend more billions on the right kind of ink, paper, and printing plates.
A minimum of ten years, my guess, for them to do this.
The flip side is that the USG could announce tomorrow that the dollar was again backed by gold. With one microgram of gold being worth a dollar (.000047 of a dollar at current prices). And that the public ownership of gold is again forbidden. And that the transfer of gold will only be with banks and foreign governments.
On top of which, based on its current supplies of gold, the USG has $50 trillion in the bank.