Last Updated: Saturday, July 24th, 1999

Banks

Banking Myths

Hypothesis: Through fractional reserve banking and double-entry accounting, banks are able to create new money with the stroke of a pen (or a computer keystroke). The money they lend costs them nothing to produce, yet they charge interest on it.

Facts: The banking system is indeed able to create money with a mere computer keystroke. However, a bank's ability to create money is tied directly to the amount of reserves customers have deposited there. A bank must pay a competitive interest rate on those deposits to keep them from leaving to other banks.

This interest expense alone is a substantial portion of a bank's operating costs and is de facto proof a bank cannot costlessly create money.

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