Why Do Banks Want Our Deposits? Hint: It’s Not to Make Loans.

Many authorities have said it: banks do not lend their deposits. They create the money they lend on their books.

Robert B. Anderson, Treasury Secretary under Eisenhower, said it in 1959:

When a bank makes a loan, it simply adds to the borrower’s deposit account in the bank by the amount of the loan. The money is not taken from anyone else’s deposits; it was not previously paid in to the bank by anyone. It’s new money, created by the bank for the use of the borrower.

The Bank of England said it in the spring of 2014, writing in its quarterly bulletin:

The reality of how money is created today differs from the description found in some economics textbooks: Rather than banks receiving deposits when households save and then lending them out, bank lending creates deposits.

. . . Whenever a bank makes a loan, it simultaneously creates a matching deposit in the borrower’s bank account, thereby creating new money.

All of which leaves us to wonder: If banks do not lend their depositors’ money, why are they always scrambling to get it? Banks advertise to attract depositors, and they pay interest on the funds. What good are our deposits to the bank?

The answer is that while banks do not need the deposits to create loans, they do need to balance their books; and attracting customer deposits is usually the cheapest way to do it.

Reckoning with the Fed

Ever since the Federal Reserve Act was passed in 1913, banks have been required to clear their outgoing checks through the Fed or another clearinghouse. Banks keep reserves in reserve accounts at the Fed for this purpose, and they usually hold the minimum required reserve. When the loan of Bank A becomes a check that goes into Bank B, the Federal Reserve debits Bank A’s reserve account and credits Bank B’s. If Bank A’s account goes in the red at the end of the day, the Fed automatically treats this as an overdraft and lends the bank the money. Bank A then must clear the overdraft.

Attracting customer deposits, called “retail deposits,” is a cheap way to do it. But if the bank lacks retail deposits, it can borrow in the money markets, typically the Fed funds market where banks sell their “excess reserves” to other banks. These purchased deposits are called “wholesale deposits.”

Note that excess reserves will always be available somewhere, since the reserves that just left Bank A will have gone into some other bank. The exception is when customers withdraw cash, but that happens only rarely as compared to all the electronic money flying back and forth every day in the banking system.

Borrowing from the Fed funds market is pretty inexpensive – a mere 0.25% interest yearly for overnight loans. But it’s still more expensive than borrowing from the bank’s own depositors.

Squeezing Smaller Banks: Controversy Over Wholesale Deposits

That is one reason banks try to attract depositors, but there is another, more controversial reason. In response to the 2008 credit crisis, the Bank for International Settlements (Basel III), the Dodd-Frank Act, and the Federal Reserve have limited the amount of wholesale deposits banks can borrow.

The theory is that retail deposits are less likely to flee the bank, since they come from the bank’s own loyal customers. But as observed by Warren Mosler (founder of Modern Monetary Theory and the owner of a bank himself), the premise is not only unfounded but is quite harmful as applied to smaller community banks. A ten-year CD (certificate of deposit) bought through a broker (a wholesale deposit) is far more “stable” than money market deposits from local depositors that can leave the next day. The rule not only imposes unnecessary hardship on the smaller banks but has seriously limited their lending. And it is these banks that make most of the loans to small and medium-sized businesses, which create most of the nation’s new jobs. Mosler writes:

The current problem with small banks is that their cost of funds is too high. Currently the true marginal cost of funds for small banks is probably at least 2% over the fed funds rate that large ‘too big to fail’ banks are paying for their funding. This is keeping the minimum lending rates of small banks at least that much higher, which also works to exclude borrowers because of the cost.

The primary reason for the high cost of funds is the requirement for funding to be a percentage of the ‘retail deposits’. This causes all the banks to compete for these types of deposits. While, operationally, loans create deposits and there are always exactly enough deposits to fund all loans, there are some leakages. These leakages include cash in circulation, the fact that some banks, particularly large money center banks, have excess retail deposits, and a few other ‘operating factors.’ This causes small banks to bid up the price of retail deposits in the broker CD markets and raise the cost of funds for all of them, with any bank considered even remotely ‘weak’ paying even higher rates, even though its deposits are fully FDIC insured.

Additionally, small banks are driven to open expensive branches that can add over 1% to a bank’s true marginal cost of funds, to attempt to attract retail deposits. So by driving small banks to compete for a relatively difficult to access source of funding, the regulators have effectively raised their cost of funds.

Mosler’s solution is for the Fed to lend unsecured and in unlimited quantities to all member banks at its target interest rate, and for regulators to drop all requirements that a percentage of bank funding be retail deposits.

The Public Bank Solution

If the Fed won’t act, however, there is another possible solution – one that state and local governments can embark upon themselves. They can open their own publicly-owned banks, on the model of the Bank of North Dakota (BND). These banks would have no shortage of retail deposits, since they would be the depository for the local government’s own revenues. In North Dakota, all of the state’s revenues are deposited in the BND by law. The BND then partners with local community banks, sharing in loans, providing liquidity and capitalization, and buying down interest rates.

Largely as a result, North Dakota now has more banks per capita than any other state. According to a May 2011 report by the Institute for Local Self-Reliance:

Thanks in large part to BND, community banks are much more robust in North Dakota than in other states. . . . While locally owned small and mid-sized banks (under $10 billion in assets) account for only 30 percent of deposits nationally, in North Dakota they have 72 percent of the market. . . .

One of the chief ways BND strengthens these institutions is by participating in loans originated by local banks and credit unions.  This expands the lending capacity of local banks. . . .

BND also provides a secondary market for loans originated by local banks. . . .

Although municipal and county governments can deposit their funds with BND, the bank encourages them to establish accounts with local community banks instead.  BND facilitates this by providing local banks with letters of credit for public funds.  In other states, banks must meet fairly onerous collateral requirements in order to accept public deposits, which can make taking public funds more costly than it’s worth.   But in North Dakota, those collateral requirements are waived by a letter of credit from BND. . . .

Over the last ten years, the amount of lending per capita by small community banks (those under $1 billion in assets) in North Dakota has averaged about $12,000, compared to $9,000 in South Dakota and $3,000 nationally.  The gap is even greater for small business lending.  North Dakota community banks averaged 49 percent more lending for small businesses over the last decade than those in South Dakota and 434 percent more than the national average.

In other states, increased regulatory compliance costs are putting small banks out of business. The number of small banks in the US has shrunk by 9.5% just since the Dodd-Frank Act was passed in 2010, and their share of US banking assets has shrunk by 18.6%. But that is not the case in North Dakota, which has 35 percent more banks per capita than its nearest neighbor South Dakota, and four times as many as the national average. The resilience of North Dakota’s local banks is largely due to their amicable partnership with the innovative state-owned Bank of North Dakota.


Ellen Brown is an attorney, founder of the Public Banking Institute, and author of twelve books, including the best-selling Web of Debt. In The Public Bank Solution, her latest book, she explores successful public banking models historically and globally. Her 200+ blog articles are at EllenBrown.com.

32 Responses

  1. […] Ellen Brown Web of Debt […]

  2. Reblogged this on Audacity and Supposition.

  3. This has been a big question in the back of my mind for ages. When I asked my credit union why they paid such lousy interest on savings accounts, they said they were equal to the rest.not an answer. Right after the Guy Fawkes MOVE YOUR MONEY event a few years ago, $5 billion got moved out of banks and into credit unions or small banks. My credit union told me that money COST them money??? not according to this article.

    Isn’t the larger goal Ellen, to get everyones’ money into the stock market?

    When I asked why they pushed loans with higher interest (before I connected to Strike Debt), they said they are saving members money because their loans have lower interest. not an answer.

    Your article below is illuminating even if I can’t follow everything in your quotes.

    Locally the long time small Mechanics Bank is being taken over by Ford Financial. Apparently not the motor company but a wealthy individual. I closed my account there and expect many many people in E. Bay will do the same. sad.

    Hope the vultures are not circling the Public Bank of ND–they seem like a powerful model to knock the too big guys….who don’t like being knocked. fyi–at the last Strike Debt meeting, I mentioned that you had left the board of PBI. Sandra

    Date: Sun, 26 Oct 2014 15:20:48 +0000 To: revdecker@msn.com

  4. Thank you, Ellen:

    Why Do Banks Want Our Deposits? Hint: Its Not to Make Loans

    Why Do Banks Want Our Deposits? Hint: Its Not to Make… Ellen Brown: The answer is that while banks do not need the deposits to create loans, they do need to balance their books; and attracting customer deposits is usual… View on http://www.laprogressive... Preview by Yahoo Dick Price LA Progressive Hollywood Progressive

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  5. Banking is a public utility and should be operated solely by the government on the municipal, state and Federal levels. Mosler’s plan will never get a chance because the Fed’s control of the Federal Government is absolute. Public banking is the only realistic grassroots solution to national and global economic iniquity.

    Private banking is inherently a criminal enterprise since it requires usury to operate. And as such I wouldn’t mind if private banking was eliminated entirely or prohibited by law.

    • Absolutely Wrong!! Public or “govt” banking is the death of honesty! With a private bank you must/will know all about who you are banking with and how “SOUND” that bank is! Which is what ALL banking is about for crying out loud!! When found untrustworthy, the word will get out and you and everyone else who will pay attention and keep track of their money and financial affairs as they should/must, will no longer do business with THAT bank and it’s reputation is ruined and it will die, as it SHOULD! But the HONEST decent fair banks will thrive! Trusting some idiotic potential bought off regulator or govt. shill is NOT EVER to be trusted! Take a look at JP Morgan, Goldman and ALL the rest of the other favored rotten, corrupt, thieving banks “overseen” by govt. regulators with their blessings and tell me that what they oversee is good! You can’t, can you? Private local honest banks are the ONLY way out of this mess!!

      • private banks are fine with me as long as they don’t get to create money. Let them lend out their depositors money; if managements screws up, then the depositors lose but if the management is good, then the depositors make a high interest rate.

        Public banks would run in parallel, lending out money for infrastructure, houses, and education at a small interest rate.

      • What private bank could compete with a Public bank? Who would be willing to pay interest on loans when that isn’t necessary? Who would trust the due diligence of private banks with such an chronically abysmal record (note also, derivatives, LIBOR, CDOs, MERS, interest rate swaps, ect). http://www.youtube.com/watch?v=J8CqaHTygSc http://www.youtube.com/watch?v=ClfBxWPkBKU No one of course.

        Public banking is reviled because it is inherently honest. It doesn’t engage in sterile activity of making money from money, or place an unearned rent on every service, good or labor transaction (usury). Interest free loans enable to people to keep the fruits of their labors and consistently raise the standard of living for all — not merely the banking & finance oligarchs.

      • All banks are overseen by government regulators. Where would you rather have your public funds, with JPMorganChase, which has been caught in over a dozen major frauds and would be behind bars if corporations really were people, or the Bank of North Dakota, which has done marvelous things for its state? I rest my case.

      • Unfortunately I haven’t found a well informed post on this message board so far and it’s unfortunate that the author of this book is publishing misleading information about what banks actually do.

        The only bank that can create money in the United States is the Central Bank (The Federal Reserve). Private banks do not “create money”, they take loans the same way you or I would to finance additional lending. Deposits are just one source of funding and yes they are usually the cheapest.

        An informed person

  6. […] by Ellen Brown EllenBrown.com […]

  7. […] Squeezing Smaller Banks: Controversy Over Wholesale Deposits Finish reading […]

  8. […] what role do customer deposits play if not to create loans? According to Ellen Brown, “while banks do not need the deposits to create loans, they do need to balance their books; […]

  9. The deposit of loaned money made to the borrower is regarded as “concrete” money. All deposits stimulate the Fractional Reserve System, which uses all deposits to generate the Fiat money that is loaned.
    The Money the Bank loans is Money created out of nothing, but the interest they charge for that loan is not created by the bank.
    To pay the interest on the loan, money must be accessed beyond the amount of the principle, which decreases the amount of money in the economy. The consumer market is relied on to generate enough money for the borrower to pay the interest, which it can, but at the expense of squandering the human and natural resources needed to fuel the commercial-industrial systems, which systems themselves (and national governments), are among borrowers.
    An industry can amass enough profit to become self-financed. As far as I know, that is regulated by the Federal Reserve System through tax legislation that undermines those initiatives.
    Private concentrations of capital debilitate the economy in two ways, 1) the money is not reinvested to provide goods and services in the economy, 2) those deposits automatically accrue interest from all interest paid on loans.
    Commercial-industrial systems are driven by their structural momentum to generate profit and to expand. The tunnel vision of making profit leads to oversight (or criminal negligence), i.e., the Fukushima disaster. Currency exchange is a non-productive method of generating concentrations of exchange-value.
    The economic system is rigged in order to generate concentrations of wealth, exchange-value, at the expense of use-value for the people. An economically stratified society is unnecessary, and it is self-destructive.
    And, although the men who own and manage the positions of control in the financial institutions are often sociopaths, and do what they can to expand their personal power and wealth, it’s not the men, per se, that are at fault. The blame for societal discrepancy rests squarely on its self-destructive, economic model.
    The economic model is designed to generate concentrations of exchange-value among the few at the expense of most, which is the consequence of its structure. The media/‘educational’ system blames societal discrepancy on the poor, and on “immoral” executives; misinformation that serves to occult the fact that the economic system itself is the cause of poverty and war.
    We can’t punch our way out of that “wet paper bag,” rather; the creation of a different socioeconomic system is our best bet for preventing our further descent into the despotic rule of the oligarchy.
    If the shift to the subsequent civilizational level is not made in time to salvage our planet’s life support systems, then, we are most assuredly doomed to suffer the neo-dark age wherein first, our brilliant capacity and our knowledge is lost, and second, we become extinct as a species.

  10. I have recently been getting offers from Chase bank to open a checking/savings account with them. They offer $450 to open a $10,000 account and keep it open for 6 months. That comes out to a 9% annual rate of return.

    This seems like they really want deposits. Why would they offer such a high rate to attract deposits? I would generally never bank with a too big too fail criminal enterprise like Chase, but this is getting tempting.

    • In my 900 year old country, we use to say:
      “When the charity is big, the poor gets suspicious”

  11. […] by Ellen Brown, Web of Debt […]

  12. […] Read more at https://ellenbrown.com/2014/10/26/why-do-banks-want-our-deposits-hint-its-not-to-make-loans/ […]

  13. […] This piece first appeared at Web of Debt. […]

  14. […] Williams, Mineweb PBOC’s Hong Kong Bypass? – Jeffrey Snider, Alhambra Investment Partners Why Do Banks Want Our Deposits? Hint: It’s Not to Make Loans – Ellen Brown This Little Piggy Bent The Market – Grant Williams Black-gold rush? Not really – The Hindu Business […]

  15. […] Source: WoD […]

  16. […] Go to Original – ellenbrown.com […]

  17. […] READ MORE HERE […]

  18. […] “Why Do Banks Want Our Deposits? Hint: It’s Not to Make Loans.“ […]

  19. […] — source ellenbrown.com […]

  20. […] In her latest essay, Ellen Brown* explores the effects of recent banking regulations on bank deposits .. in response to the financial crisis, “the Bank for International Settlements (Basel III), the Dodd-Frank Act, and the Federal Reserve have limited the amount of wholesale deposits banks can borrow” .. the thinking is that retail deposits are less likely to flee the bank, but that premise is unfounded & harmful when applied to smaller community banks .. one suggestion is for regulators to drop all requirements that a percentage of bank funding be retail deposits, another suggestion by Brown is to move to a public banking model.LINK HERE to the essay […]

  21. Thanks for the informative article. I thought banks only exist for loans. Until I got broke and had to consult the law firm of ariano and reppucci

  22. […] is set by the Federal Reserve (Fed), 10% for established banks and less for smaller ones (however, banks get around these limits (23) and will always make credit on terms profitable to the […]

  23. […] Ellen Brown wrote: […]

  24. […] Posted by RET423 Yes, they do; and other investment vehicles as well. No they don't Source #1 Source#2 And #3 from Standard and Poor's First line of the paper (last link) should you decide […]

  25. […] check for yourself….. He believes that banks lend deposits (do you?). I posted several links (HERE, HERE, and HERE) showing that this was a false belief held over from the days when the creation of […]

  26. I’ve been wondering about this frequently lately. Thanks for the illumination.

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