Like what drops them from just adding some extra 00 as everything is digital, especially in third World countries?
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No real upside for smaller banks to do it, because it becomes very obvious for governments to figure out what they’re doing and shut them down for currency manipulation, at which point they end up with no money and in prison (or worse).
Central banks absolutely can do it, but it leads to rampant inflation. Glossing over a lot of the finer points; if you multiply the total amount of dollars in circulation by a factor of 100 overnight, you don’t have 100 times more value. Instead, the total value is the same, and now each of your individual dollars is worth 100 times less.
So if you have some money on a bank account, what does it mean really? No the number is not money. It just means bank owes you so much money. Not exactly incentive for the bank to add more zeros there.
It’s all just accounting for debt, who owes how much to whom. If you could go and tweak the number in your creditors and debtors ledgers that would be nice for sure, but tweaking numbers in your own ledger doesn’t really help, other people still know how much you owe them and what they owe you.
Modern bank accounts these days for most immediate purposes are in fact essentially just numbers in a very fancy database that, *in theory*, could have arbitrary amounts added to them at any time.
But the real, actual, physical money and/or other things of value (let’s just call them all “assets”) *are* there. They just can’t move as quickly because, well, they’re real, physical objects. And banks do actually settle up on those assets on a regular basis. Physical dollars or items of value are physically carried and exchanged from vault to vault. They just do it once in a while in bulk movements at predetermined times instead of constantly.
What the fancy database version of accounts allows banks to do is more or less “promise” transfers of these assets in advance of the actual assets moving from place to place. In much the same way that buying stuff with a credit card is you “promising” to pay a bill with some of your actual money, just not right away. That allows transactions to effectively happen *right now*, and let the physical transfer of assets to happen later when it’s more convenient to do so. In the meantime, the bank writes a “this transaction happened” note in a very big logbook of things they’ve done recently. Before they even do that, they also check the logbook to see whether the accounts in question would actually have the necessary assets in them after all the other logbook notes are applied as well, so no one can do things like double-spend money.
When it comes due for one of those asset transfers to happen, the bank will go through its logbook of transactions and figure out what the net movement of all the assets actually is. Extremely simplified example: if Bank A has to pay bank B $1,000, but then later Bank B paid Bank A back $500, then only $500 is going to move from Bank A to Bank B this time. Every bank is doing their own paperwork to make sure everything is correct, and assuming all the paper trails are accurate, everyone should agree on the same numbers. If they don’t, it’s audit time.
If you were a bank that falsified records, the next time you did this process, you would get numbers that don’t match up with anyone else’s. You would very quickly single yourself out as a bank that has falsified records, and you’ll be cast straight into very expensive legal trouble and penalty fines. For most small and regional banks there’s so few ways to hide the fraud, so the risk just isn’t worth it.
There is a text by the Bank of England named “money creation in the modern economy” that describes the topic for the general public. If you want the whole thing explained by actual experts and don’t mind reading a few pages, that’s about the best source you can get.
Essentially, there are two kinds of money: Checkbook money, that you and I have in our bank accounts, and central bank money, that our banks have in their accounts in the central bank. Banks use central bank money to transfer money to each other, just like we do with our checkbook money.
As long as they stay within regulation boundaries, banks can create as much checkbook money as they want. When you take out a loan of $1000, your bank will really just add the number to your account.
Now, you will of course spend the money, and a lot of it will go to accounts in other banks. That means your bank has to use their central bank money to make your payments. To not only stay in business but also turn a profit, it has to make sure you will pay it back. That’s why they check your creditworthiness before creating money for you.
Commercial Banks actually do create money everyday in form of loans.
The bank only has in its possession a fraction of the money it lends out to people. When you get a loan it just sets that balance into your account electronically and the banks only obligation is to have a small fraction of that money on its reserves.
As you pay back the loan the money you pay go out of circulation again until you paid the whole loan back at which point money the money disappears into thin air again and the only thing that’s left is the interest you paid (the extra money the bank charges you beyond the loan amount) and this is what the bank keeps as its profit.
It is a common misconception that banks loan money from deposits. That used to be the case but it’s no longer so. Nowadays banks need to just have a small percentage of the money they loan out.
This has a whole of bad effects on the economy. Since banks have an incentive to lend out as much money as they can they just shower companies and high worth individuals with cheap loans. This money is invested into real estate and drives the cost of homes up with all the negatives that brings for ordinary people.
Prison sentences keep them from doing it. The FEC and other government bodies keep a very close eye on financial institutions, and the minimum sentence for things like that is 30 years in federal prison. It’s not worth it to risk it, especially when the legal means of banking systems ALREADY make them billions, if not trillions of dollars each year.
Banks have a vested interest in keeping each other honest because any bank that could successfully convince other banks that they suddenly have a lot more money can cheat the rest out of their real money before they figure that out, which is also the second part in this problem, the figuring it out part.
For that reason they invest a huge amount of resources in making sure that does not happen and for the most part it works. You have to also consider that second part I mentioned. Let’s say you have fake money. What do you do with it and what happens when at some point others realise you’ve paid them in fake non existent money. Other banks will surely realise sooner or later and giving lay people fake money has no particular benefit. Any bank that pulls such a stunt will soon find itself being fined into oblivion and shutting up shop really quick.
The alternative is to just print more real money which is indeed what third world countries do but that does little other than just devaluing their currency.
Let’s see if I can actually do an ELI5 for this.
The US has a fiat currency, instead of a commodity currency. The different between the two is that commodity systems are based on a treasury of a commodity such as gold or silver. All of the money in circulation can be traded in for an equal ratio of that commodity. For example, if there are $100 dollars in circulation and 100 ounces of gold in the treasury, you could get one ounce of gold for $1 from the treasury. However, if the government prints $1 without getting an ounce of gold, that ratio changes and suddenly your $1 is worth less because there $101 needs to be spread out against 100 ounces of gold. This is called inflation.
A fiat currency system isn’t backed by anything in theory; however a value is still estimated against the GDP of a country. For instance, if you can get a standard sandwich in the US for $5 but that same sandwich would cost 20 dollars in your country, the ratio of value would be 5:20 or 1:4. Some argue that fiat currency is “imaginary,” but literally all currency is imaginary.
So the government prints money to operate. It prints money to pay for all the wages, contracts, infrastructure plans, operation expenses, emergency responses, etc. That money is then circulated in the economy. But if the government just left that money out there floating around and kept printing more, that money would become worthless as people tried to get more and more as more and more flooded the market until money was cheaper than toilet paper and began being used as such. To combat this, the government implements taxation. Ideally, with this system, you should tax the people who have the most of it because they’re not circulating it, they’re clearly just sitting on it; you can tell because they have the most of it. And this can work to “control” inflation, but it also creates a power discrepency as they create an artificial scarcity of money in the market, which makes people do more for less of it, artificially inflating the purchasing power of their hoarded money as they try to reclaim more.
In the US, the federal government, essentially, burns your tax dollars because it’s cheaper than calculating income, dispersing it, and plotting a budget against revenue and expenses, while effectively distributing it. Your state and cities, however, do not have this ability and have to function on their own revenue, which is why states can’t respond to crises as effectively as the federal government (and you definitely don’t want them to).
But the government also has another incredibly good way to distribute money while controlling inflation, and that’s through federal loans to banks. You’ve heard about interest raising or falling and stimulating the economy. The bank takes a loan out from the federal reserve for you. The federal reserve implements an interest rate on that loan to reclaim money and take it out of circulation. The interest rate changes based mostly on how much money is in circulation (more complicated like ‘how much is doing “work,'” or “how much is currently in default, etc). But it will also change if suspected shakiness of the economy is coming. This is to discourage growth which is necessary for a lot of reasons.
The bank, then, wants to make money as the middle man between you and the federal government, so they charge you a higher interest rate than the Federal Reserve. And while the bank takes some risk on loans, it’s not as much as people think. But because of that mitigated risk, banks are required to keep incredibly complicated ledgers as well as thorough records of transactions, and cooperate fully with recognized law enforcement and government institutions. And that is an incredibly complex system, which is why your high paying bankers make so much money and many jobs in the federal reserve are held by bankers and finance lawyers. That’s literally a job for people who understand economics better than nearly anyone – and economics is NOT as understood as people on Reddit and Facebook think it is. You don’t just shout “supply and demand” and win your argument in a bank or with the Federal Reserve. They literally hire the best of the best who freely admit they have no really fucking idea how anything works, they just try to respond as effectively as possible because people are going to be greedy and counterproductive when money is involved.
Laws, in general, but banks do actually do this. In fact, it’s one of the reasons banks and “paper money” was invented. It’s called “fractional reserve banking”: a bank gives out more money than it actually has, in physical assets, with the idea that not everyone is going to try to withdraw all that money at once. They only keep a fraction of the money they “pretend” to have in reserve, and the size of this reserve is regulated by some law.
When everyone does try to withdraw their money at once, that’s called a “bank run”, and it was a major problem when banks and paper money were first introduced. It’s bad for everyone, the bank collapses and all the people that still had money in there lose it. Nowadays, there are a bunch of sophisticated legal and societal safeguards in place to prevent this from happening.
Nothing can stop them from doing it, other than it being a very serious financial crime.
Banks have to report their accounts to central banks, so a wild 0 appearing out of thin air would get caught in no time. Numbers have to match exactly, so even a 1 cent drift will cause some red light to light up somewhere.
Printing money causes inflation and third world countries tend to already have rampant inflation as it is so governments will not shrug it off either.
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