When Silicon Valley Bank and other banks failed earlier this year, the debate over the sustainability of fractional reserve banking resurfaced. Under fractional reserve banking, banks keep only a fraction of customers’ deposits in reserve. The difference is bank credit, such as government debt, mortgages, business loans, and many other kinds of loans. This practice leaves the bank open to a run, in which panicky depositors attempt to withdraw their funds from the bank en masse but the bank doesn’t have the cash on hand. The following FRED graph gives an idea of the extent of the mismatch between deposits and reserves.
But we shouldn’t worry about bank runs because the government is here to help. In the US, the Federal Deposit Insurance Corporation (FDIC) insures checking accounts up to $250,000, and the banking system is regulated by a host of agencies, including the Federal Reserve, which also acts as a lender of last resort. These measures are intended to prevent and mitigate bank runs for the benefit of both the banks and their depositors. Though it should be obvious that they only conceal the fundamental problem and disperse the costs.
Read more: Is the Money in Your Checking Account Yours or the Bank’s?
