Saturday, November 22, 2008

Controlling Assets

Some people think that I should not worry about the bank recording my deposit as an asset on their balance sheet. They do not under the nature of modern banking law. When a person deposits money in a bank, they change from being an owner of an asset into a creditor of the bank. They give up a property right in exchange for a contractual right. They swap the ownership of an asset for a promise to receive repayment on demand.

Owning an asset is generally better than being a creditor. If I get a 3 year loan of $30,000 from General Motors, I can buy a new truck. My balance sheet looks like this.

Liabilities
Loan 30,000
Total 30,000
Assets
Truck 30,000
Total 30,000

Before making the sale, the truck was on the General Motors balance sheet, as part of its inventory. Once they have sold the truck to me, it becomes my asset. I can drive wherever I like in the truck. I can paint it bright blue, if I choose. General Motors have lost control of the truck. They cannot control its use it any more.

General Motors has swapped the truck for a credit contract for the money that I have borrowed. They cannot demand it back until the three years are complete. A contractual right is less certain than a property right. When they owned the truck they knew exactly what they had. The credit contract is more risky, because they cannot be certain that they will get their money back when it is due. I may get into financial trouble and be unable to repay the loan. The bank has the uncertainty of a credit contract, whereas I have a property right in the truck. The one holding the property right is in a better position than the one holding the credit contract.

In the same way, holding cash provides more security than holding a credit contract. Being a creditor of the bank is not the same as being the owner of cash. If I demand repayment and the bank fails to pay me, I cannot charge it with theft. All I can do is sue the bank for breach of contract and demand payment of damages. If the bank defaults, my contract right is converted into a claim in bankruptcy. I have to line up with other creditors and take my chances.

All that a bank depositor “owns” is the right to enforce the bank to keep its promise. I believe that most people want better security for their money. We need banks that offer a different option.

2 comments:

Anonymous said...

If there were enough demand for a bank like you describe, then the free market would produce them. Look at all of the financial products that have been produced in the last 20 years.

The reason they don't exist (except as safe deposit boxes) is a lack of demand. People do not want to pay the fees it would take to run a checking account when they can have the same services for free simply by letting the bank have use of the money.

The market has decided it is worth the risk under fractional reserve banking for the benefits attained, however you are free to start a bank of the kind you describe if you can find the capital for it.

The focus should be on fiat currency. That is where the fraud is occurring. That is where the thieving is going on. Let's rally to the real battle.

Ron McK said...

It is not quite true that the market has decided. The reality is that people have not thought about the issue, because they just trust the government guarantee. I want people to be clear about the risks they are running, when they make their choice.

The banks are not very forthcoming about what they are doing. The small print is there, but most people do not know where to find it. The banks know that if they put the truth in their televison adverts, they would spook their customers. The images on bank adverts all convey an image of total safety and reliability. That is dishonest.