[Yobbo]

What is the distinction between money and credit? I've been told that banks create credit not money.

But when I borrow $10,000 from the bank, I withdraw the credit as cash and spend it just like normal money. What's the economic difference?

Does credit have to do with the value of money?

[Saf]

I go to the bank and put $10,000 dollars into it.
The bank loans you $10,000.
The money supply has just increased because they made that money. I own the same $10,000 dollars as you do. The trick is that I don't need it right now, so you can spend it while I also have it at the same time. When I need it, someone else's $10,000 dollars will come to me.

[Yobbo]

Thank you, Saf.

[Cap]

Another thing to ponder about this... you pay interest on your loan, the cost of borrowing, while he would get interest on his savings, the return on his investment. Of course, the banks always make more money than they pay out, charging a commission for their services.

[Leopard]

Sorry, Saf is incorrect. The money deposited in the bank is NOT the money which is loaned out, at least, it is a very small part of the total. The real process is two-fold as to where the money comes from to be able to be available to be loaned out. Both methods involve a multiplying effect called fractional reserve banking.

A bank is allowed to actually create money through credit. They must keep on hand 10% of the money they loan out in reserves. This means if someone deposits $100 into the bank, the bank is allowed to 'create' $900 and make a loan to someone else for $1000. This created money is destroyed (wiped from the books when the loan is repayed. Even with this multiplier effect occurring, the banks still desire even more money to lend out on which they can make money on. They do this by taking loans from the Federal Reserve, the interest rate of these loans is called the Fed Discount Rate and is the same rate which is reported on the news whenever the Feds raise or lower it. So, the bank borrows $1000 from the Feds, and since they only are required to maintain a 10% reserve, they are able to loan out $10,000 because of this loan from the Fed. This process is referred to as credit generation and is what you are talking about in your question, Yobbo.

The method that Saf is referring to is the tried and true free market method when we didn't have the Federal Reserve. That is the method most people 'believe' currently exists, but, the truth is much MUCH scarier. Our financial system is a house of cards and it allows a select few to parasitically live off the sweat of the average joe.

michael