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Comment by rkagerer | Hacker News Reader

I didn't find this article very enlightening.

It uses too many words to explain a straightforward concept: You hand your cash over to a bank, in exchange they give you an IOU. They give out IOU's far in excess of the amount of cash assets they actually hold.

The concept of "short-term promises in exchange for long-term promises" was a bit more illuminating.

It might also be misleading to say the bank takes ownership of your deposits. More accurate to say they take custody, given the strong fiduciary obligations the transaction imposes on them (at least in developed economies).

The intrusive sign-up-to-subscribe form a mere few paragraphs in doesn't win the author any love from me, and while I don't generally mind mspaint-flavored art I found the annotated illustrations somewhat amateur. The whole article feels like it was written by a youth who just discovered the concept of fractional reserve banking and wants to educate the world.

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Just to be clear, the bank holds more assets than its liabilities, otherwise it would have gone bankrupt. It just happens that a lot of these assets are themselves IOU from private customers, usually backed by a property asset.

Thanks, great point. I updated my remark to say "cash assets" and I'm open to better phrasing.

typo:

s/bankrupt/insolvent/

As you're probably aware, bankrupt is not a relevant concept for banks. Creditors- depositors- do not get a haircut, their deposits are insured.

No, banks can go bankrupt like any other company. I think you are refering to Chapter 11 (in the US), which is true, isn't practical for a bank, because the bank has no other business than being trustworthy to its creditors, so it couldn't really operate under Chapter 11.

The deposit insurance only applies to deposits below a certain threshold and doesn't concern the bank, it just means the state will make the customer good for its loss in a bankruptcy.

Now in practice central banks will do everything they can to avoid getting there, first by forcing banks to hold a lot of capital and liquidity. But it can still happen, and one of the tools available is bail-in, which effectively replicates the effect of a chapter 11 over a week end, outside of courts.

I think in most jurisdictions, wholesale creditors are the most likely to get a haircut in a bail-in, and the insured part of the deposits is explicitely non-bailinable. But any deposit above the insured threshold can in theory be affected by a bail-in and have a haircut applied.

But a lot of fail safe mechanisms will have failed before that happens.

Thanks, yup- to be more precise, a state of insolvency- liabilities > assets at close of business- may result in one or more outcomes, one of which is essentially bankruptcy + bail in, but another might be, eg being absorbed/acquired?

Correct. Though just to be precise, a bailin would happen well ahead of a bankruptcy, the regulator wouldn’t wait for the situation to be that bad to call the bank non viable (except in a jump to default scenario).

Absorbed/acquired: that’s a bailout. Always an option but I think everyone agrees no one wants to see that happen again unless it is a willing private buyer.

It is a linguistic trick. Same as "credit card" (a loan card), credit implies the opposite.

No. Credit, as in implied future payment, literally does mean loan, and another meaning of the word (opposite of debit) is also what happens when you use a credit card - an intermediate credits the merchant account so you don't need a separate line of credit for each one.

You're making the same not-even-faulty assumption as the article author, that a word with several related meanings is somehow wrong or a trick or at all tough for the average person to comprehend.

Sure it does, like many English words that have different meanings. And a marketer will choose the word with the fewest negative connotations.

You can use a credit card as a loan card, sure, by taking cash out an ATM or not paying your entire balance at the end of the month. And yes, loads of people obviously do that, and that's a trick.

But can you really say it's a sleight of hand that soda isn't called 'liquid obesity, period.' by its manufacturers even though that's the result if used to the extent they'd want you to?

No, because soda doesn't have another meaning.

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