How to make modern capitalism work
If you had some cash and you decided to deposit it somewhere, we can think of four broad things you might want whoever held your deposit to do for you. First, you might want them to store it, to keep it safe. You could keep it in a strong-box under your bed, or in a treasure chest in your spare room with a couple of armed guards, but these kinds of things are expensive and unreliable, and other people might be better at it than you and able, by collecting deposits from lots of people, to gain economies of scale (i.e. it might be cheaper to have one system to protect 100 sets of people’s savings together than to have 100 separate systems each protecting one person’s savings). Thus, storage is the first function a depositor might want.
Second, you might want a way to add money to your pile or to spend money from it that didn’t require you to carry wads of cash around. Maybe you’d like to add your salary in and pay your mortgage out electronically or some other automatic way that didn’t require you to carry anything or even sign any forms every month. Thus, payments (in and out) is the second function a depositor might want.
Third, you might want your money invested so as to secure some kind of return. You may not have the time or the expertise to manage such investing yourself, so instead you’d like to turn over your money to someone else to do that on your behalf. Furthermore, if that other person had lots of people like you giving them their money to invest, there might be economies of scale or the possibility of investing in certain projects or in certain ways that wouldn’t be possible for you acting alone. Thus, investment management is the third function a depositor might want.
Fourth, instead of storing your money or turning it over to someone else to manage on your behalf, you might lend that other person the money, in exchange for interest. Thus, the fourth function a deposit-taker might perform is the receiving of loans in exchange for interest.
Modern banks work mainly through a combination of the second and fourth functions. Depositors lend money to the bank (a “bank deposit” is a loan) and the bank offers a system of payments management for it to receive further such loans (more money “deposited”) and to redeem loans previously made (“withdrawals”). Banks may also offer some wealth management services, particularly to richer clients, but these are not treated as deposits. Some banks may also have safety deposit boxes, where clients can keep jewels or papers or indeed bank notes if that’s what they want. But such storage facilities are, again, not part of what are normally termed “bank deposits”.
Mainstream banks do not provide a service combining storage with payments. But why not? Surely some people who deposit money in a bank do not want the bank to be investing on their behalf and they don’t want to loan the bank money so it can do who-knows-what? and possibly end up unable to repay the loan. They just want somewhere safe to store their money and a convenient electronic means to make payments.
Obviously if you ask people if they’d rather a) have their money completely safe and receive zero interest (or perhaps even pay something) or b) be absolutely certain to be able to withdraw their money and get 5 per cent interest, they’ll take option (b). So if bank deposits are guaranteed by the state, either through explicit deposit insurance or via implicit bank bailout promises or just a general political climate that makes it inconceivable that depositors could be allowed to lose money on the loans they make to banks, everyone will prefer to lend money to a bank to storing it in a bank. (If inflation is really high, so money stored in a bank will rapidly lose its value, again many people will prefer to make loans, since interest on a loan is likely to offer at least some inflation compensation. But let’s assume we’re all agreed we should keep inflation low, and so set that case aside for now.)
It does not follow from the fact people will take free money if they can get it that there is not at least a significant portion of bank deposits that are mainly there for storage purposes. Indeed, arguably it is precisely because a large portion of bank deposits are really just there for storage, rather than investment management or as a loan, that there is such public resistance to the idea of bank depositors losing money. Few people think those that put money into the stock market shouldn’t be allowed to lose their money. Neither do they think that if you lent money to a non-bank business (e.g. a chip shop) and it defaulted, you shouldn’t be allowed to lose out.
No. What makes losing money on bank deposits seem problematic is the money that might just be stored there, such as if someone has just sold one house and is about to buy another, or if some aged person had their life savings on deposit, or if a business had just put money into the account so as to have it there to pay its staff’s wages.
Until the 1970s, depositing money just for storage used to be possible. There were institutions called “savings banks”, which were subject to rules they meant they kept depositors’ money completely safe — they weren’t allowed to lend it out for mortgages or personal loans or business loans or to buy derivatives or anything of the sort normal for modern banks. The rate of interest was very low, but the money was safe.
If we want to make it credible that bank depositors (who are, by their nature, making loans to banks which are in principle just like loans to a chip shop, and if the system is to work must be just as much able to be lost if the business lent to goes bust) can lose money (and capitalism cannot work properly otherwise), we need a way to allow people who just want to store money and make convenient payments to do so.
Here’s how. We could say that every bank licensed to accept retail deposits has to have legally nested inside it a “savings bank”. In order to make an ordinary bank deposit (i.e. a loan to the bank), a depositor would have to turn down makings a (completely safe) savings deposit instead and be told, before the deposit was accepted, that she was making a loan to the bank, that that loan was not insured, and that if the bank were to fail that loan might be repaid in full.
That way, no-one who had lent a bank money (i.e. made an ordinary deposit) could claim she had not had any other option or didn’t realise she was taking a risk. Anyone who wanted simply to store money and manage payments could do so with no risk. And those who had chosen to store money instead of securing higher interest by making a loan to the bank (i.e. a bank deposit) would be likely to rightly resent demands for bailouts and deposit insurance from those that had chosen to take more risks.
Capitalism cannot function properly until we have banks where depositors who have loaned the bank money can lose out. It is unlikely to be credible that depositors can lose money if a large portion of those depositors only ever wanted to store their money but had no option but to make loans to the bank. So if we want capitalism to function properly, we need to re-configure the banking system so as to force all banks licensed to accept retail deposits to offer storage deposit facilities. That will work.