How Banks Actually Create Money

Loans Create Deposits

When a bank approves a loan, it creates a matching deposit. No prior reserves are needed; reserves are managed after to settle payments.

🧮 Core Mechanism

Loan Approval

Creates new deposit

Creation

No Reserve Constraint

Reserves found later

Money Enters M2

Spendable by public

Repayment Destroys

Loan principal repaid

🏛️ Constraints

Capital Ratios

Risk-weighted assets

Credit Demand

Willing/qualified borrowers

Interest Rates

Price of credit

Risk Management

Underwriting standards

🔁 QE/QT Context

QE Swaps Assets

Bonds → reserves

QT Reverses

Reserves decline

Portfolio Effects

Yields, risk appetite

Rates Still Key

Policy rate dominates

🧭 Practical Takeaways

Watch Credit Growth

Lending drives cycles

Important

Follow Standards

Tightening vs loosening

Sector Rotation

Credit-sensitive assets

Balance Sheets

Bank health matters

T-Account Walkthrough

Loan: + $100k loan asset, +$ 100k deposit liability
Spending: reserves move to other banks to settle payments
Repayment: - $100k deposit, -$ 100k loan asset (money destroyed)
Interest: bank income; does not destroy money

What To Track

Bank credit growth (H.8 report)
Senior Loan Officer Opinion Survey (SLOOS)
Housing credit, auto, small business trends