Fractional Reserve Banking should be illegal.

==Framework and Definitions==Con has accepted the BOP and resolution analysis I have offered, as well as my definitions, so extend those. ==Background==I provided a definition in the last round, but I feel the need to briefly explain mathematically what fractional reserve banking is. Say that you deposit $100 in a local bank. The bank is required by law to hold 10% of that deposit as reserves. Anything it holds in excess of 10%, or $10 in this case, is known as excess reserves. Deposits are aggregated and then lent out to consumers. So, let's review multiple deposit expanasion with numbers. Let's assume that $100 is the aggregation of deposits and that people opt not to hold currency and banks opt not to hold excess reserves. As I will explain later, this is actually quite a horrid assumption, but I will take this simplistic model first just to illustrate the process. Person A deposits $100 in his local bank His local bank holds $10 as required reserves and has $90 in excess reserves The bank loans out $90 to Person B Person B deposits $90 in Bank B Bank B holds $9 as required reserves and loans out $81 to Person C Person C deposits $81 in Bank C Bank C holds $8.1 as required reserves and loans out $72.9 to Person D And the process, essentially, continues. The crux of this is that the initial deposit of $100 is continously expanded such that the money supply increases. We can quantify this in our simplistic model with the formula of I * (1/rr). In other words, the initial deposit ($100) multiplied by (1 divided by the required reserve ratio). The result, $1000, is the amount of money spawned from the initial $100. If we had a reserve requirement ratio of, say, 20%, our result would be $500, and so on. There are several important benefits to this system, aside from the fact that it's the status quo. In spite of the fact that, as Pro acknowledges, he has the BOP because he is arguing from a deviation from the present, I too acknowledge that it is a fallacy to say that "X is the status quo, and therefore we should have X." I want to evaluate the system as a whole; if it has no benefits, why have it? Indeed, that may not justify illegality, but it would weaken my case severely if I didn't provide any benefits. Benefit 1: Efficient way for the money supply to grow A common view of the Great Depression is that, as the money stock contracted from 1929-1933, G.D.P. subsequently fell. The view is consistent with localized accounts of the era, and even with the recent crisis; via Sumner, the money supply contracted significantly in October 2008. Unemployment didn't spark immediately following the onset of the financial calamity, so there is reason to think that money supply growth that is predictble, transparent, and reasonable ought to be lauded. Moreover, this is frankly the ONLY way, under the current system, that the money supply could grow save for drastic Fed action, e.g., OMO purchases that expand the monetary base but may not lead to a subsequent rise in M1 due to banks holding excess reserves -- there are a few reasons for that which I will get to later -- and the public holding currency. Under normal times, the Fed balance is around $800 billion, contrary to its current size of $4.4 trillion. Indeed, inflation has been essentially flat for years, in spite of recent indicators suggesting upward pressure amid an improving economy. However, under normal circumstances, QE would be highly expansionary. If my opponent is worried about inflation, as I trust he is, he wouldn't want the money supply to grow in tandem with OMO or discount-rate lending. Benefit 2: Business Loans Most businesses, particularly very small businesses and start-ups (and note that most jobs actually come from start-ups), are net borrowers. This is to say that those businesses borrow more than they have saved. In the case of start-ups, this is common. Without fractional reserve banking, how would these businesses be able to acquire loans to make investment and hiring decisions, which are essential to economic activity? If we began with, say, $100 and the bank could only lend out $90 once, how would businesses expand? This would be the view of the banking system as a de-facto lock box. If that were the case, not only would bank profits plummet and would there be more volatility in the markets -- scarcer capital means higher interest rates, which also would make it harder for people to take out loans, and would in fact disincentivize entrepreneurship -- but there would be significantly greater scrutiny as to who in fact receives those loans. That is to say that already established companies with significant balance sheets would be much more likely than start-ups to receive loans. That means fewer start-ups, less investment, fewer jobs, less economic activity, and more hierarchy. Benefit 3: Signals via Interest RatesBanks are eclectic creatures in that their policies often signal the condition of the broader economy. Commercal lending, for instance, just expanded at the fastest rate than it ever has since before the crisis; this suggests to us that the economy is in fact improving, and means that investors and consumers are going to respond in tandem. These confidence effects, or "animal spirits," as John Maynard Keynes called them, are crucial. The economy today operates off assymetries of information, but it's almost impossible to run a business -- particularly a small one that doesn't have access to other financial intermediaries -- without going throw a bank. ==Rebuttals==I. Fraudalent Pro first claims that this system is fraudalent. He remarks that "any person who withdraws a greater percentage than the reserve ratio must necessarly withdraw from someone else's account." I will prove to you mathematically why this is wrong. Let's go back to our earlier example: the aggregation of deposits is $100 and the reserve requirement ratio is 10%, where it has remained since 1992. Note that 90% of this deposit or $90 was kept as excess reserves and available for loan or withdrawal, so it is simply wrong to suggest that wanting to withdraw a greater percentage of the initial or aggregation of deposits than the required reserve ratio would even dip into someone else's account. Pro then brings up bank runs. Indeed there are scenarios in which confidence falls to such a degree that people DO withdraw their money at the same time, which leads to a self-reinforcing bankruptchy. However, Pro has in no established that the practice of FRB is ipso facto fraud; fraud means, according to Merriam Webster, "the crime of using dishonest methods to take something valuable from another person." That wasn't the case at all. Consumers knew full well the ramifications of deposting their money in a bank knowing that it would go bust which is why, as Pro points out, there are systems in place to prevent this from happening: Fed action, deposit insurance, macroprudential legislation, e.g., capital requirements, etc. Note, also, that Pro is attacking the wrong person or item. The reason we had a bank run in the 1930s was because the money stock FELL. Milton Friedman was a prolific advocate of such a view. It was a failure of monetary policy from the standpoint that banks were (1) underegulated (this pre-dated Glass-Steagall) and (2) monetary policy was poor and in fact contractionary even during the crisis. For instance, money aggregates fell amid the Depression, reserve requirements were more than doubled from 1936-37, the Fed constantly would expand and then almost immediately contract the money supply, etc. The recent crisis provides a better image: indeed, the Fed was late to the party, only expanding its balance sheet as of October 2008, prior to that offsetting expansionary policy with OMO sales. However, had the Fed not intervened, we would've seen a calamity on par with the Depression. Pro cannot possibly pin the blame for bank runs on FRB, especially when the real culprit is exogenous or real shocks -- in the case of the Depression, it was a bank in central Europe that ws "too-big-to-fail" collapsing -- and overly tight monetary policy. Moreover, he speaks of a loss to the middleman. This is simply false because the Fed does not operate on U.S. tax dollars; in fact, it turns over its profits to Treasury each year. When it buys up toxic MBS, it incurs the losses itself, but this is utterly irrelevant because it can literally loan money to itself to prevent itself from ever going insolvent. II. InflationPro oversimplifies the money multiplier. The example I provided earlier and explicitly stated was overly simplistic does not take into account the public holding currency or banks holding excess reserves. In the case of now as well as the Depression, both of these were the case. In the 30s, people withdrew their money en masse to avoid incurring losses amid bank runs. Recently, banks have been holding record amounts of excess reserves -- about $2.5 trillion relative to the typical $200 billion -- and corporations have been holding onto record amounts of cash. Therefore, not only have the monetary base and M1 not moved in tandem, but a 300% increase in the monetary base led to a flat-line in inflation. Why? Because IOR > FFR > other short-term rates, so banks had an incentive to hold reserves rather than lend out those dollars. III. MalinvestmentAs I already pointed out, banks are NOT giving out loans at this point in time and are in fact holding ER. Indeed, the banks were responsible for fraudalent activity including predator lending et al. However, fractional reserve banking itself is hardly to blame for any of that. Rather, it was lack of macroprudential oversight. To provide an example: Glass-Steaggall, passed in 1933, prevent banking panics for 50 years. In the 1800s and early 1900s we had panics every 20 years. Lack of macroprudential oversight and fraudalent financial ACTORS, not FRB, is to blame, not the practice of fractional reserve banking.