how bank loans work, page-10

Hi CountryWriter,

Banks create deposits "out of nothing" when they make a loan. The deposit is a liability to them, and is only worth doing if it is less than the predicted value of the offsetting asset, which is the incoming-earning loan.

It is true that the bank must have the cash on hand to transfer to another bank when the cheque for the goods purchased with the deposit arrives.

But that cash comes out of customer deposits and offshore money markets - short term liabilities that do not match the duration of the long term loan they made. Hence the need for a "license to be insolvent".

So it is a myth that banks can just create money of nothing for themselves - but they can create unlimited liabilities for themselves - but that would be daft. Like me creating "deposits" in HippoBank for all of you reading this. I can never make good on those deposits, because I don't have the cash - you can't get rich creating liabilities for yourself without matching assets.

So banking is hard work but somewhat parasitic because it tends to inflate and deflate asset prices in cycles, transferring wealth without productive activity, advantaging those who are prepared to take the biggest risk on asset values rather than those who save the fruits of productive activities.

The ability to mismatch maturities enables banks to expand lending and exacerbate bubbles beyond what is economically justified.