Content: Page 19, Becoming Your Own Banker Fifth Edition

As in the grocery business that we discussed earlier, you must first study the banking business so that you have a firm grip on what it is all about and feel that you can run such a business. Without this confidence you are fighting a losing battle. This, too, is a very competitive business.

Next, you must come up with some capital – money. In today’s world it should be in the order of $20 million or more and it must be on deposit at some other bank in a very liquid form — i.e. earning a very low interest rate while you are trying to get the Banking Commissioner in your state to issue you a charter. This is not all that easy to do. The odds of your getting a charter at this point are less that 100 to 1. There are a lot of other folks in your state wanting to get into the banking business too, and you must wait your turn. This could easily take 10 years!

A lot of what is going on at this stage is unseen. Whenever I hear the word “commissioner” it reminds me of an iceberg — only 10% of it appears above the water! Surely, you have had some experience with bureaucracy, so use your imagination as to what I’m describing. The bottom line is that you are going to spend a lot of time and money in this phase of creating your own bank. Years are likely to have passed before you finally win the coveted charter. In the meantime, you have probably gone through the part about a good location and an attractive building – all at considerable expense.

Now you are finally in the banking business! You must make your bank known by lots of advertising and trying to induce other people to deposit money in your bank. This is going to cost you a lot of money. Banks are in the business of lending money. Adam Smith, in his book, Paper Money, says, “A banker cannot make a loan unless he has a deposit. It seems a little silly to state that so baldly, but if three college educated Americans in ten don’t know we have to import oil, I don’t feel so bad about saying something bald. Banks do not lend their money. They lend the money someone else left there.” He goes on to say, “When you start up a bank, you have to put in some capital. Then you get some deposits, and then you lend the deposits. In a proper bank these three items bear a prudent relation to one another. If you are a little country bank with a capital of $100,000 it would be imprudent of you to loan Brazil $50 million. So, you want a prudent relationship between the capital and the assets, which is to say the loans on the books, and between the loans and the deposits. In the Western countries the financial agents of the government are there with a definition of prudence.”

Even with such government oversight banks can, and do, still fail. There were massive failures in the 1980s. A case comes to mind. In September 1983 the First National Bank of Midland, TX (the richest city in America per capita at that time) had a loan portfolio of $1.5 billion. And 26% of the loans were non-performing, i.e., they were not getting the money back. When this happens in a bank someone must support the situation, and this is normally the function of the stockholders. Because of the losses the stockholders’ equity lost 87% of its value down to $12 million. This is in relation to a $1.5 billion loan portfolio! That’s a shaky bank! Guess what happened when the depositors learned of this? Right! They withdrew $500 million! Remember, this is what bankers lend, the deposits.

This sounds ominous, but you haven’t seen anything yet! You must add the “multiplier effect” of bank lending practices. Practically no one knows that when one makes a deposit of $1,000 at a bank, the bank can now lend out $10,000. Where did the other $9,000 come from? They are creating money out of thin air! It is called the “fractional reserve lending system.” I call it the world’s largest “con game.” It is all predicated on the theory that “everyone is not going to withdraw their money at the same time.” For a complete understanding of all this, read The Creature from Jekyll Island by G. Edward Griffin, and also, The Case Against the Fed by Murray Rothbard.

So, First National hired a new CEO to come in and “put out the fire,” but it was too late. Two months later they were out of business. More under-standing of what really happened appeared in the December issue of a drilling magazine. Reading “between the lines,” it was pretty evident that a lot of those non-performing loans were made to the members of the board of directors.

Does this remind you of the grocery store example that we studied earlier? If the owner and his family go out the back door without paying for them, he will probably go bankrupt. The same think happens in the banking business!

Remember this, because in the banking system I am going to tell you about, you can also destroy it by not obeying the basic rules of banking. Loans have to be paid back or you can kill the best business in the world. It is all up to you, but don’t try to blame others when it happens. We will continue this in lesson 10. I’ll see you then.