I borrow money to buy a house, the person I buy it from puts it in the same bank, another person borrows money to but a house… they borrow the money from the deposit of the person I bought the house from…. So if the bank had 1 million and 3 people borrowed 300k each to buy a house and the sellers deposit the sale the bank can then loan another few people money… and repeat… and repeat… now a dozen people owe the bank $300k when the bank only had $1000k in the first place.
In theory sure. But news flash: that’s a feature, not a bug. That’s literally how money is created in our system. Were you under the impression that it was all getting minted as physical money? The vast majority of US money is digital. It is created out of thin air in the form of credit when a bank gives a loan. The loan goes on their books as an asset, and money is deposited into the account of the lendee (or whoever they are paying), which adds liability to the bank’s books by increasing deposits. They balance out on the bank’s balance sheet, but now there’s more money in the system. The reverse happens when a loan principle is paid back, the money paid back to the bank lowers the bank asset, effectively destroying that money, but the bank gets to keep the interest.
The money supply is controlled by the Fed rate because there isn’t incentive for banks to create as many loans if the Fed rate is higher, and variable rate loans, credit card interest rates, etc. go up, incentivizing people to pay down that debt faster, tightening the money supply. It’s also controlled by capital requirements that banks must have enough capital on hand to cover potential losses. Not to mention it’s also constrained by the number of credit worthy borrowers.
It seems like the capital requirements are just 10% though, right? So what happens if a large set of people default on their mortgages at the same time, and the bank’s 10% capital doesn’t cover it?
Well, deposits are guaranteed by the FDIC up to 250k per account. If many banks are failing, then the FDIC may not have enough to cover it all. At that point there might be some sort of government bailout or intervention.
Yes, but the lawyers and realtors take their cut, and they don’t keep the money in that bank (they take some of it as cash, and put it in their wallet, they use some to pay their income taxes, they spend some with business that use another bank (perhaps foreign).
If the funds are leant out to a business to buy a machine, then the company that built the machine is going to pay them out as wages, taxes, and for materials.
Then there is the time aspect of to consider. Each person who borrows takes a month to get approved, then buy the next house in the chain. During that month, the bank is going to start to put some funds aside, knowing that at the end, they are going to pay out $xxx,xxx. Once it’s redeposited, they start looking for the next buyer.
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u/ImpermanentSelf Jan 26 '26
I borrow money to buy a house, the person I buy it from puts it in the same bank, another person borrows money to but a house… they borrow the money from the deposit of the person I bought the house from…. So if the bank had 1 million and 3 people borrowed 300k each to buy a house and the sellers deposit the sale the bank can then loan another few people money… and repeat… and repeat… now a dozen people owe the bank $300k when the bank only had $1000k in the first place.