It is totally true that money, loaned by today’s banks, is constructed from thin air. Deposits are not required – at the point of making the loan – in order for banks to lend money. [Note: that’s not true for credit unions]
However. Banks must find deposits to match loans, eventually. So the bank lends the money first, and then rummages around in the marketplace to find deposits to match the loans they’ve made. And if they keep the loan on the books, they are on the hook for any losses. Banks do have a risk position. In good times, loans are a money-printing machine. During downturns…the bank can go under.
Here are the steps in banking, currently:
Step 1: Make a loan to Sand Puppy for $500k @ 5% to buy a house.
Step 2: Go out and find deposits equal to $500k. Pay the depositor next to nothing (0.01%).
Step 3: Make sure Sand Puppy doesn’t default.
Step 4: Enjoy the spread between 5% and 0.01%.
Step 5 [optional]: If Sand Puppy defaults, bank must sell the house, and then take a hit to earnings equal to the sale price – $500k. If earnings go negative, then bank takes a hit to capital. If there are too many Sand Puppies in step 5, then the bank theoretically goes under.
Banking regulations require Step #2. Bank is generally encouraged to focus on step #3, although that step was routinely ignored 2004-2008. Step #5 is ignored during “extend and pretend” situations, for instance Japan 1992-present, Italy 2008-present.
So the question is, if Switzerland changes the rules to require banks to have deposits BEFORE lending money (i.e. you reverse steps 2 and 1), will that change things?
Maybe. Currently, if there is demand for loans by “the economy” (i.e. borrowers), the money supply grows by itself, endogenously. If you have the central bank in control, the central bankers might not react fast enough; they will be acting as “central planners”, trying to predict how much money people will need. If there isn’t enough money, then interest rates will rise (banks will actually run out of money to lend), and whatever expansion you are in will get choked off by the limits on the amount of money out there. Theoretically anyway.
So instead of the central bank controlling money supply indirectly via rates (slowing down money creation by raising rates, speeding up creation by lowering rates), the central bankers will control it directly by actually printing money (QE and QT) via buying & selling assets.
Operationally, banks will still collect money on the spread. And if a loan wasn’t amortizing, they’d still be able to collect that spread in perpetuity. The only thing this proposal will do is reverse steps #1 and #2.
While it definitely seems unfair for the banks to be able to create money from nothing – and then collect interest on it – if current banking regs require them to acquire deposits to match the loans they create relatively soon after the loan is made, there is little effective difference between what exists today, and what is being proposed in Switzerland.
In some sense, the issue boils down to this: do you think central bankers will “behave better” if they are controlling the money supply directly, or indirectly? That’s the only difference here that I see.