If any of the following confuses you, please read, or re-read, Private Enterprise Money until the following makes sense to you.
A little further along in the story, I Want The Earth Plus 5%, we find the following words:
One day, a large loan was requested. Fabian suggested, "Instead of carrying all these coins we can make a deposit in your name, and then I shall give you several receipts to the value of the coins." The borrower agreed, and off he went with a bunch of receipts. He had obtained a loan, yet the gold remained in the strong-room. After the client left, Fabian smiled. He could have his cake and eat it too. He could "lend" gold and still keep it in his possession.
Friends, strangers, and even enemies needed funds to carry out their businesses - and so long as they could produce security, they could borrow as much as they needed. By simply writing out receipts Fabian was able to "lend" money to several times the value of gold in his strong-room, and he was not even the owner of it. Everything was safe so long as the real owners didn't call for their gold and the confidence of the people was maintained.
Here's how the scam works. (In today's world, gold coins are replaced by Federal Reserve Notes (FRNs). The principle is the same.)
Let's say you need a loan to purchase a new home. You go to the bank and request the loan. Due to the rules of fractional-reserve banking, the bank is allowed to loan out up to ninety-percent of its assets (mostly the amounts in the depositors accounts), keeping ten percent in reserve for those depositors who actually demand cash from their accounts. (Remember this technique from the story?) The bank okays the loan provided that you pledge to give your new home to the bank if you fail to repay the loan. (This is the first part of the scam. Since there's not enough money being issued to pay the interest on every loan, some of the loans are guaranteed to default.)
Once your loan has been approved, the bank doesn't pay you the amount of the loan in cash. In fact, you wouldn't want it in cash since that would make you a prime robbery target. So you agree to leave the cash in your account in the bank. The bank then debits your account with the amount of the loan and debits its accounts receivable account with the amount of the loan plus the interest. (The interest is actually added over time as it accumulates.) You now have the money you need to purchase your new home and the bank has increased its assets by the same amount. Notice that the bank's assets have increased by the amount of your loan. The bank can now loan out more money since it now has more assets. Your loan has resulted in a large debt for you and a large increase in assets for the bank. Pretty good deal for the bank, if you ask me. This process can be continued, loaning out ninety-percent of the increased assets due to previous loans, until the bank has loaned out nine times the amount of the assets of the bank before the first loan was made. This is the way that Fabian was able to charge 45% interest on the original deposit of $100 (5% on $900) for which he was paying 3%. This same thing happens in today's banking system except that the percentages are much higher.
So the fourth mistake the people in the story made was agreeing to let bankers issue book-entry money when, in fact, it is the people themselves, acting individually, that actually create legitimate money.
Copyright at Common Law, West El Paso Information Network, 1998