Most people believe that money needs to be deposited in order to be leant out.

While that’s kinda true, it’s probably 90% false.

Let me explain…

I thought the following Globe & Mail article does a great job of exposing this myth –

The fractional reserve banking system

To begin to answer that question we need to understand the fractional reserve banking system. As you may know, one of the ways a bank makes money is through the spread between interest charged for lending money to borrowers versus the interest paid on deposits. In theory, if you found one person who had $100,000 to deposit for safe-keeping and on that same day you had one person coming to you to borrow $100,000 you could make money by charging 5 per cent interest to the borrower and paying 2 per cent interest to the depositor. You’re now making $3,000 per year before expenses. But it’s not quite as simple as that in the real world.

Reserve ratio requirements

Fractional reserve system banks have what is called a reserve ratio, which is currently about 10 per cent in the U.S., that dictates what portion of physical deposits must be kept in reserve versus the total amount of money lent out. In this case, if you deposited $1-million physical dollars to your bank, they would keep $100,000 in reserve and be able to issue loans of $900,000. That $900,000 gets spent by the borrower and the recipients may place their $900,000 back into the bank. The bank could then again keep $90,000 (10 per cent) on reserve and re-lend $810,000 to yet another borrower.

The original depositor has $1-million dollars that they have access to at any time, but at the same time we see that $900,000 and $810,000 has been lent out to two different borrowers. Assuming both borrowers spent their loans and the recipients of those payments deposited their money back into a bank, $1-million has been increased to $2,710,000. This re-lending can continue until the original $1-million has spawned another $9-million in money created by the bank. So long as the bank keeps 10 per cent reserves on hand, they should be able to meet the day-to-day cash withdrawal requirements of the depositors.

Now Imagine this on a GRANDER scale.

Can you see why the majority of money floating around, is created out of thin air?

Mark Fidgett, Your Vancouver Mortgage Broker For Life


P.S. Who’s the next person you know who wants to save thousands off their mortgage?
Be sure to give me a call so we can help them!