Banking crisis: More loans granted than cash deposits received

10. May 2023

Mehr Kredite erteilt als Geldeinlagen erhalten - Bankenkrise
First published on Austrian Institute | by Beat Kappeler

Our credit-based monetary system is a risk to freedom and prosperity

Once again, a banking crisis is raging – in the US, at CS Switzerland – and clients are emptying their accounts. They fled to other banks, or away from banks altogether and into cash. Since banks are lending more money than they have in deposits, they are all poorly financed. An individual bank is a risk, but all banks as a whole are a systemic risk. The flight of customers away from bank accounts clearly demonstrates that.

Digital money for the purpose of controlling citizens

Now, some circles, and some central banks, are not thinking about a reform or an end to the fractional reserve system, where banks lend out more than they have received in deposits. Instead, they’re thinking that the “escape route” of the customers, the citizens, needs to be blocked and cash needs to be restricted.

To that end, a variety of tools and strategies are being tried out. Deposit money, i.e. bank balances, will one day become digital money, only booked electronically and no longer paid out in notes. The central banks themselves are thinking of making such money commercially available. However, they have the problem that direct ownership of this kind of digital money puts citizens in the position of having a direct deposit with the central bank. The banking system would then become redundant. During crises, as we just saw, a run on the banks would be even more likely – in search of ultimate security, customers could just move their money to the central bank at the push of a button. This problem of Central Bank Digital Currencies (CBDC) – that are really nothing more than deposit money – has not been solved.

Vulnerable Deposit Money, Unreliable Central Banks

All the money that is only available in the bank accounts remains a problem even with these measures of additional security and control. There is very little faith that banks will have enough liquidity when mass panic ensues. On the other hand, central banks and governments can block, transfer, or impose “haircuts” on customers’ accounts, as they did repeatedly in the last decade, before our very eyes. So the customer easily gets out of the frying pan and into the fire.

In the Cyprus crisis, triggered by the euro’s Greek crisis, banks found themselves on the brink of bankruptcy. The highest authorities in charge of the European economy, the ECB, the EU Commission, and supervisory authorities decided that all customer deposits had to be converted into shares of the bankrupt Cyprus banks – a blatant expropriation. Only after an international outcry did they desist.

The sanctions against Russia after the Ukraine invasion also showed the vulnerability of bank deposits. The large reserves of the Russian Central Bank lying in Western banks have been blocked, and may be expropriated later for the reconstruction of Ukraine. For these reserves were not in gold bullion, but in bank deposits, credits for oil and gas, i.e. mere claims of Russia on the banks. If digital money became the norm now, such actions would be possible much faster, and more comprehensive, against all, even as a way to collect taxes. After all, negative interest rates have worked in a similar way before.

The state’s war on cash

In addition to deposits, there’s also “real” money in circulation, namely the banknotes of the central banks. That also includes the banks’ sight deposits with central banks. If citizens withdraw money in the form of such notes, they leave the banking system: they become “free electrons”, they become uncontrollable. Therefore, central banks and governments are not at all keen on cash. Its circulation must be restricted.

For example, you are no longer allowed to pay for anything over 10,000 euros in cash in the EU. Even when crossing national borders, you are not allowed to carry higher amounts. The EU, otherwise striving for a barrier-free single market, constantly leveling and harmonizing it, is suddenly re-erecting national borders – against cash. The ECB has also cancelled the 500-euro note.

To justify these actions against cash, the usual arguments have been employed – the fight against money laundering, against tax evasion, against crime. However, this has reversed the burden of proof. Any citizen with cash in hand is now fundamentally suspect and must justify himself. This is an indefensible relegation of all citizens under the rule of law, yet only very hesitant protests tend to arise against it.

Money “by divine right” and out of thin air

If cash, or central bank money, appear as “real money” today, it is only because decades ago, the truly real money, the gold-backed notes and the gold coins, were summarily eliminated by authoritarian pen strokes. Wilhelm, using his “divine right”, and the Reichstag suspended the exchange of notes for gold coins in 1914, and almost all European governments did likewise. Great Britain abandoned the gold standard in 1931 and the U.S. effectively confiscated all private gold in 1934, and devalued the dollar right after that.

Again in 1971, the U.S. eliminated the possibility to convert the dollar into gold, something that other central banks were still entitled to do until then. Yet even paper banknotes, this weak imitation of gold, are not safe from the government’s whim. When central banks and governments get it wrong, a “currency reform” is enacted to compulsorily exchange them for new notes with smaller numbers on them – as happened in 1923, 1948 in Germany, and in many emerging countries.

The International Monetary Fund had its researchers start running a dual rate against deposits and notes. They are working on a digital currency that the central banks could introduce nationally and on the idea that the notes would then be devalued against the digital money. This is the concept of cash as second-class money. The central banks would only accept cash at a discount, and the banks, of course, would follow suit as well.

This is reminiscent of the Roman soldier emperor Maximinus Thrax, who tried to solve his financial problems by excessively minting coins that were more like small tin plates. Major inflation was the easily anticipated result, and then the emperor forbade his tax officials to accept the devalued money and ordered them to only take payment in real goods – metals, grain, oil. The state outlawed its own money. Shortly thereafter, the emperor was stabbed to death (238 AD).

In search of alternatives

The public is naturally looking for alternatives to vulnerable deposits and to cash that’s increasingly under attack. During the recent banking crisis, the price of cryptocurrencies shot up. Cryptocurrencies are not everyone’s cup of tea, but at least Ethereum gives the impression that it could one day be able to overtake banks and stock exchanges – not due to its function as a currency, but due to its blockchain advantages.

Other investors flock to private banks, that do not issue commercial loans, i.e. do not suffer from the deposit problem. They invest customers’ funds directly in securities, outside their own balance sheet and at the investors’ risk. These banks themselves are therefore safe. The industry could still be financed, instead of relying on credit, through loans, promissory notes, bonds, which would be placed in the customer’s accounts.

Other investors turn to real estate. This type of investment, however, is immobile and a “sitting duck”, defenselessly exposed to tax hikes or rent caps, and at the mercy of the planning arbitrariness of the superstate. You could also buy into money market funds, that hold very short-term securities and should survive such panic phases.

A Swiss private banker, on the other hand, has created the “RealUnit,” an investment company that offers a very different currency alternative, backed by mostly real, tangible investments outside the banking system. This “money” is traded on the Bern Stock Exchange on a daily basis, and on the Ethereum blockchain around the clock for free. In the future, it will even be possible to use it with a mobile phone for everyday payments – a glimmer of hope.

And there’s another alternative, albeit with the brakes on for the time being: “The Narrow Bank” in the US. It has applied for a license and it will not issue any loans, will not invest anything, but will instead put the customers’ deposits directly into sight accounts with the Fed, which banks can do. This means that the customers’ money would be safe, would be converted back into central bank money, so to speak, and earn a modest interest rate. None of this is to the Fed’s liking, and its lawyers have been blocking the request for five years now with specious arguments. All central banks are deeply intertwined with the banking system and protect its interests more than those of the average citizen who actually uses their money.

But citizens would do well to stand up and protest against any curtailment of cash and its use, stronger and louder than ever before.



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