Deposit and lending real money

Question

It is universal that banks use deposits for lending and make money in the form of interests.

My query is if bank utilising the deposit for lending,why it isn't reflected in depositors account? Say for example there are ten accounts with balance of ten dollars each and bank lends fifty dollars loan, it is as good as saying it is transferring five dollars each from account holders to the borrower. But reality is account holders when they check their balance amount it would still be ten dollars available for withdrawal for all accounts.Isn't it something abnormal?

Most of last minute bank collapse happens wherein account holders think their money is safe but on one fine day bank block the withdrawals.

If bank account reflect real share of money available with bank for withdrawal, account holders can understand real position of bank to honour the withdrawals at any given time.

Edit: “The banking industry is the circulatory system of the economy,” Mr Gordon says. “It’s analogous to the heart. Breaking your arm is unpleasant – it takes awhile to recover but eventually you’re as good as new. If your heart fails, you’re in trouble.” from History: Banks are at the heart of capitalism https://www.ft.com/content/63e4d792-f111-11df-bb17-00144feab49a

But the fact is money that goes out of the system can be analogous to blood donated by the person.It must be the person's choice to donate if he wants to donate instead of forced blood donation.

Answer 1

No one would use banks under those conditions, because they would never know from day to day how much of their money they had access to. Fundamentally, the business that banks are in is maturity transformation. They turn short-term deposits into long-term loans, because depositors need to be short-term and borrowers need to be long-term. And yes, that’s an inherently risky business, but it’s unavoidable because it’s why people use banks in the first place.

Answer 2

It is universal that banks use deposits for lending and make money in the form of interests.

Strictly speaking, no. Because Islamic banks are not allowed to charge interest. Instead, they charge fees to borrowers (that aren't calculated as a percentage of the amount borrowed), and use a profit sharing system to pay savers.

My query is if bank utilising the deposit for lending,why it isn't reflected in depositors account? Say for example there are ten accounts with balance of ten dollars each and bank lends fifty dollars loan, it is as good as saying it is transferring five dollars each from account holders to the borrower. But reality is account holders when they check their balance amount it would still be ten dollars available for withdrawal for all accounts.Isn't it something abnormal?

All the money that's saved in the bank goes into a big pool of money. The bank's computers keep track of who has deposited what.

If the bank lends out money, it comes out of that pool. It's not any specific proportion of your money. You can still go to the bank and withdraw all your money if you want.

But it all goes wrong if the borrowers can't replay the money they borrowed, and the savers start demanding all their money back. The pool runs out of money, and either the bank goes bankrupt, or a regulator steps in to save them.

Many countries have a rescue scheme to pay out savers so that they won't lose out. These schemes actually make the system more stable, as savers no longer think they have to rush down to the bank to withdraw all their money before everybody else does.

Most of last minute bank collapse happens wherein account holders think their money is safe but on one fine day bank block the withdrawals.

If bank account reflect real share of money available with bank for withdrawal, account holders can understand real position of bank to honour the withdrawals at any given time.

If they did that, then nobody would put their money into banks. How would you feel if you deposited $100 in the bank, but your statements said that you only had $10 to withdraw, because the bank has lent out the rest of it?

Answer 3

My query is if bank utilising the deposit for lending, why it isn't reflected in depositors account? Say for example there are ten accounts with balance of ten dollars each and bank lends fifty dollars loan, it is as good as saying it is transferring five dollars each from account holders to the borrower. But reality is account holders when they check their balance amount it would still be ten dollars available for withdrawal for all accounts. Isn't it something abnormal?

Because deposits are money loaned to the bank. What you get in exchange is a statement that the bank owes you money.

If you loan money to the bank, until you request repayment, that is the bank's money to do with as it pleases. The only obligation the bank has to you is to find money for you from somewhere to pay you when you want your money back.

The more obligations the bank has to you regarding your funds, the less those funds are worth to the bank. If banks had to do more than they currently do, they would have to pay their customers less interest. They might even have to charge their customers a "holding fee".

The thing is, the bank could still lose your money even with more transparency. If the bank makes enough bad loans, they will become insolvent and they eventually won't be able to pay everybody back. Only insurance or not lending out any of your money and purely charging you for storage eliminates this risk.

I think virtually everyone knows that banks don't just keep all the money in the safe. So there isn't an issue with people not knowing what's happening with their money.

Answer 4

In many countries the bank is required to have insurance to protect most depositors. In the United States this is FDIC insurance. There are banking regulations which limit the ability to lend money based on the type of deposits. The percentage that can be lent differs between money in checking accounts and money in Certificates of Deposit.

My query is if bank utilising the deposit for lending,why it isn't reflected in depositors account? Say for example there are ten accounts with balance of ten dollars each and bank lends fifty dollars loan, it is as good as saying it is transferring five dollars each from account holders to the borrower. But reality is account holders when they check their balance amount it would still be ten dollars available for withdrawal for all accounts.Isn't it something abnormal?

You are only seeing part of the picture. You are not at looking at the total financial picture. When you see it in that form you will see all the money listed as being deposited in the bank appears as a liability, because they have to pay it back. You see all the money borrowed as assets because that this the stuff that is generating the income that pays the salaries, benefits, expenses, and hopefully generates profits.

Most of last minute bank collapse happens wherein account holders think their money is safe but on one fine day bank block the withdrawals.

That is why their are bank regulators, who are required to make sure the banks are following the rules. In the last US bank crisis in 2008 money in the banks and credit unions was safe, even if lenders had made too many risky loans. Yes many borrowers ran into trouble, home prices dropped, and people were unable to sell their house to pay the entire loan balance; but the money in the bank was safe.

here is one of your comments from another answer:

I would really like to save my money in the bank which acts as a locker to convert real money to digital money and charge me for the service instead of risking my deposits by lending it to needy on its own discretion.

That is what a bank does. The cash to cover the deposits doesn't exist. If you gathered all the US currency it would not cover all the balances in bank accounts. All your money in a US bank is essentially digits stored in a computer system. when you write a check is moves the digits to another bank/bank account. When you go to the credit card site and pull money from your bank account it is moving digits. If you go to the bank website and pay your bills you are pushing digits to another bank. When you go to an ATM or a bank teller you are turning digits into paper money. In many cases the money in your bank account never existed in paper form: you pay check was either a check or digits sent to the bank.

Now if you want to turn your paper money, or official digital currency into a cryptocurrency that rises and falls quickly and randomly and that has no deposit insurance there are other ways to do that but they aren't federally insured banks.

Answer 5

In the U.S. financial system, banks are allowed to lend a multiple of their capital reserves (another term for savings and deposits from account holders). In other words, a bank might be allowed to loan out 20 times its capital reserves (a technique called "leveraging"), so a bank with a capital reserve of $100 million might be able to make $2 billion in loans. A bank's capital reserve, being VERY simplistic about it, is the total of all deposits minus non-performing assets (loans which have gone bad that the bank still holds on its books). The government determines what a bank's ability to leverage is, based on how it does under government-administered "stress tests" (a new feature following the 2008 financial crisis).
What does that mean? Well, simply, just because 2 banks have the same net capital reserve doesn't mean they can leverage at the same rate. One bank might be able to leverage 20 times its capital reserve while the other bank can only leverage 15 times its reserves.
THIS is why banks pay account holders interest, as an incentive to keep money in the bank so that the bank can then loan it out to other people. Think of it like this: a bank that can leverage 20 times its capital reserves can, in essence, re-loan the same dollar 20 times. Hope this helps.

As to what the other poster said about Islamic banks, I'm not familiar with their banking regulations, so I can't speak to his answer, but it sounds like a good explanation to me.

Good luck!

Answer 6

This is only a partial answer, but. . .

If bank account reflect real share of money available with bank for withdrawal, account holders can understand real position of bank to honour the withdrawals at any given time.

The thing is that, for the most part, no one cares. As long as each individual is able, at any given time, to withdraw the amount of money they need to for their ordinary activities, it doesn't much matter how much they could have withdrawn. In many cases (e.g., savings accounts) most of the time an individual doesn't need to withdraw anything at all.

Say for example there are ten accounts with balance of ten dollars each and bank lends fifty dollars loan, it is as good as saying it is transferring five dollars each from account holders to the borrower.

It is equally as good as saying it is transferring the whole ten dollars from five accounts to the borrower. It doesn't matter which account you consider the money to be taken from until someone actually tries to make a withdrawal. In other words, the banks can quite comfortably handle anyone wanting to withdraw as much as they want almost all the time. It only fails if everyone tries to withdraw everything at the same time, but that is rare. So for practical purposes, I can always withdraw as much as I want from my account, and you can always withdraw as much as you want from your account. There's no reason to scare depositors by making it seem like they can't take out their money when in fact they can.

Note that there's nothing particularly unusual about the idea of a system that works as expected under normal conditions, but can't handle the "theoretical maximum" case of everyone placing as much demand as possible on the system at the same time. If everyone in town flushed their toilets at the same time there would be problems. If everyone went to the grocery store at the same time there would be problems. Similarly, if everyone tried to take all their money out of the bank at the same time there would be problems, but (as in the other examples) there are not usually problems because such things generally don't happen without some kind of specific and unusual cause.