Suppose that all banks kept 100 percent reserves. Would they still be able to create money? Why or why not?

Question

Suppose that all banks kept 100 percent reserves. Would they still be able to create money? Why or why not?

Answer 1

Banks wouldn't be able to even lend any money except monetary base, so money multiplier will be unity, thus nothing would be multiplied - it means no money-creation.

For instance bank have it's own assets in a form of currency (let's assume purchased from central bank), it lends it out, then some or all of it deposited back by customers, and nothing of it could be lend further (money-creation process stops here - bank lends only it's own money but no customers money).

Answer 2

Without fractional lending, the only way to increase the money supply would be to literally print more money.  Which would permanently dilute the purchasing value of all the money everybody has.

Supposedly fractional lending gets around this problem of permanent dilution of the purchasing value by creating new money during economic growth and destroying a lot of money during economic downturns.

If say for example a bank lends out 10 times the amount of money it has in its reserves.  Then this is equivalent to printing a lot of new money.  But when people repay their debts to the bank with interest, or default on their loans.  Then the bank can book only the interest payments as profit.  While the original loan that was lent out disappears into thin air.  Because this money the bank didn't have in the first place when the loan was originally made.

The only problem with this fractional lending arrangement is that many economists and politicians don't like the natural destruction of money, which they call deflation.  They want moderate inflation to continue indefinitely.  Which means that they want to use fractional lending as a kind of continuous and permanent  printing of new money.