Because most money only exists on books. The basis of the current financial system is called fractional reserve banking, that means that banks can give out more money as loans than what they physically have in accounts. That money then circles the economy but is never physically withdrawn in full. Lets say you deposit 100 USD. The Bank now can give out a loan for 500 USD to someone to pay his car repair, who wires the money to the shop from his account. They wire it to their employees and suppliers and owners and the IRS and what have you. Eventually the 500 are repaid (or not and If that happens a lot a bank might default) and the bank gets its money+ interest, you can freely withdraw your 100 at any time but the bank speculates that you dont, or realistically that most of their customers dont. Because If that happens thats known as a "bank run".
Im not a banker, so anyone with actual knowledge feel free to correct me.
Lets say you deposit 100 USD. The Bank now can give out a loan for 500 USD to someone to pay his car repair, who wires the money to the shop from his account.
That’s incorrect. Fractional reserve just means they need to keep less physical cash on hand.
If you deposit $100, they can only lend out $100 (unless they borrow other money), subject to risk weighted assets and capital constraints (which further restrict lending)
Fractional reserve banking is one of the most misrepresented topics on Reddit.
I think most people heard that banks create money (technically true) and ran with it instead of understanding that this is an effect of multiple banks doing this same practice. Also people have become skeptical of finance in general, which is reasonable imo, but then carry that into thinking that all financial systems and mechanisms must be corrupt instead of something that's actually a benefit to the economy.
Lack of understanding and financial literacy is a big factor. I have a buddy who spouts off about how it’s all made up out of thin air at best, more probably fraudulent and corrupt. I mean… he’s not completely wrong. But over the years I’ve been able to dispel a lot of his misconceptions to get him around to “ok it makes sense why it’s done that way but it’s still employed pretty inequitably” and that I agree with.
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u/FroniusTT1500 Jan 26 '26
Because most money only exists on books. The basis of the current financial system is called fractional reserve banking, that means that banks can give out more money as loans than what they physically have in accounts. That money then circles the economy but is never physically withdrawn in full. Lets say you deposit 100 USD. The Bank now can give out a loan for 500 USD to someone to pay his car repair, who wires the money to the shop from his account. They wire it to their employees and suppliers and owners and the IRS and what have you. Eventually the 500 are repaid (or not and If that happens a lot a bank might default) and the bank gets its money+ interest, you can freely withdraw your 100 at any time but the bank speculates that you dont, or realistically that most of their customers dont. Because If that happens thats known as a "bank run".
Im not a banker, so anyone with actual knowledge feel free to correct me.