Is it true that Banks have been endowed with the unique ability to create wealth?
No. Banks create
money, not wealth. Money is a
record of wealth, in most cases
surplus wealth (wealth which does not need to be more-or-less immediately spent on the production or consumption of necessities) or, as it's more commonly called,
capital.
Society gives them the right to issue credit, in the form of a loan, which when paid back, creates new wealth as part of the interest repayment. I'm still unclear about that. I know banks issue loans worth much more than the amount of deposits they have and I am pretty sure only banks can do this. Is that correct?
You're talking about the
multiplier effect, but you've got it a bit muddled.
When you, and everyone else in your community, deposit your money in a bank, everyone knows that you're not going to walk back in a day later and withdraw it, or write checks equal to the total you deposited. This illustrates how money is, indeed, a record of
surplus wealth, because if it was not surplus you wouldn't be able to leave it in the bank for more than a very short time until you needed to spend it on something you need for day-to-day life.
Therefore, the bank only needs to keep a fraction of their total deposits on hand as coins and bills. The government (in the USA the Federal Reserve) decides how big that fraction has to be. It's been decades since I got my degree in accounting so I don't know what the fraction is today, but let's say 20%. So let's say your bank has $10,000,000 in the accounts of you and your neighbors and the other people in your town. They only have to keep $2,000,000 of that money on hand in case several of you run in tomorrow and want to buy Lamborghinis to impress your girlfriends. What are they going to do with the $8,000,000 that they're not required to keep on hand?
Well hey, they're a bank, so they're probably going to lend it out to other customers. Some of your neighbors want to buy houses, some want to start businesses, some want to send their kids to college, and some just want to spend six months in Honolulu. They come in and fill out the loan applications, and the bank deposits the $8,000,000 in their accounts and starts sending them bills every month to pay back the money slowly.
But wait! Now the bank has total deposits of $18,000,000. They only need to keep $3,600,000 on hand for withdrawal, but they've got $9,000,000. They've still got $5,400,000 that they don't need to keep handy.
So they loan that money out to another bunch of nice people who want to build movie theaters and factories. They go through the same process again, and again and again. After an infinite series of iterations of this process, eventually they end up with $10,000,000 on hand, and $50,000,000 in deposits. Even if they don't go all the way to infinity, they'll end up with pretty close to that amount.
So that ten million dollars ended up being
multiplied to fifty million. But this is only the
money that's been multiplied. The
wealth that that money is a record of was created by all the people in your community. It's the businesses and educations and factories and movie theaters and the mai tais in Hawaii, and even the Lamborghinis. The bank didn't create that wealth; you did. Well you and the bartender in Hawaii and the Lamborghini factory anyway.
Banks don't create wealth. They create the money which you use to create the wealth.
Or anyone can do this? It seems that if anyone was going to give a loan out, then they'd be doing so with their own cash. As in, they'd have to have the amount of money they loaning out (which I just did a few weeks ago, I loaned out $2000 of my own money).
You can't do it because you don't have any
deposits. There's no multiplier effect when you loan somebody your own money. You've just reduced your own purchasing power and increased theirs. You don't have any
deposits. That's where the multiplication comes in. The multiplier effect occurs when you are loaning
Mister A's money to Mister B.
If it's true that banks do not have to have the amount that they loan.
That depends on what you call "money." If you mean currency and coins, then the answer is yes. But currency and coins are only one kind of money. Remember that money is a
record, and there are other kinds of records besides currency and coins. The passbook for your savings account is a printout from a computer file; that computer file is also money: a record of your capital.
This seems like they have a special privilege. They create the credit out of thin air?
You're getting tangled up in the terminology. They create the
money from the deposits they have, and then they create the credit out of that.
Also, we the Citizens back their loans don't we? I mean, we insure their bank accounts up to $250K yes?
Not exactly. The Federal Deposit Insurance Corp. insures those deposits from the Bank Insurance Fund. The Bank Insurance Fund consists of money that has been paid by the banks themselves. The Comptroller of the Currency, for example, supervises all the examiners that go into all the banks on a recurring schedule and investigate their records to make sure that all their financial activities are both legal and properly performed, and the banks pay a fee for this service. Those fees pay the salaries of the examiners, but they also support the Bank Insurance Fund. (I once worked on a software project for the Comptroller of the Currency so I got to learn about all this stuff--and any errors in my explanation are entirely my own.)
This particular little corner of the United States government, to my knowledge, is the only one that is completely paid for by the organizations that utilize its services. No tax money is used at all. This is why your statement is not correct. It is not we, the citizens, who insure the banks. The banks, in aggregate, insure themselves.
Then surely they (the banks) must act morally when they do give a loan?
They must act legally and they must act prudently, for example by not loaning money to people who will obviously not be able to pay it back. But "morally"? If you live in Nevada where prostitution is legal and you go to your local bank to borrow money to open a brothel, they will look at your financial records and make sure you have not spent any time in prison, but they won't judge the morality of your enterprise.
With this in mind, would anyone think it moral for a banker to give a high school kid a $100,000 loan for a new Ferrari? Some kid with no job. That'd be crazy. . . . . So then, why do so many of us accept it as moral to encumber fresh out of high school 17-18 year old kids with loans of up to $100,000+ to attend University?
Because there is a huge difference. To spend the money on a Ferrari is
consumption. It's dissipation of capital, by exchanging surplus wealth for a product that wears out and will eventually have zero value.
Spending money on an
education is not consumption. The whole purpose of education is to increase the student's earning power. In normal times (and I'll be the first to stipulate that we are not living in normal times right now) if a student borrows $100K to get a master's degree in chemical engineering from a university well-known for the high quality of its chemistry and engineering departments, in the first four or five years after graduation he will earn $100K more than he would have earned in that same time with a high school diploma. So it is a reasonable
investment for the bank to loan him the money. They have created surplus wealth or
capital by increasing the productivity of the student. Instead of making hamburgers, he's now designing the molecules that make the hamburgers smell better so people will buy more of them. (A little levity here for entertainment.)
Why is this moral? It doesn't seem moral to me.
I've already dismissed your concerns with morality. The economy does not deal in morality. We have other institutions for that. Churches don't give loans and banks don't bitch at us about sinning.
Many of these degrees are nearly worthless.
Yes, the American educational system has become just a teeny bit dysfunctional, but that's not a problem that the banks can solve. There are more people with degrees than there are jobs that require them. The last statistics I saw said that something like 60% of Americans with degrees are doing jobs that don't really require them, but the employers ask for them because they know they can get them. Not only that, but something like 20% of Americans with degrees are unemployed and sleeping on their parents' sofa.
This of course is as much a manifestation of the particularly weak economy we're going through, as well as a statement of the motivation, work ethic, and sense of responsibility some of these new graduates have or don't have, as much as it is a reflection on the quality of education.
The emphasis on degrees has perturbed the job market and the way young people see it. Many of the trades offer very good incomes. Plumbers, for example, make a bloody fortune, and once they complete their apprenticeship they've got apprentices of their own to do all the hard work. They're the only people who get away with charging their customers for their driving time; even lawyers can't do that!
) The up side is that these creditors are generally not very aggressive with their collection tactics if you fall behind. They will send you a lot of scary mail and they will phone you at inconvenient hours, but they won't kidnap your dog.