After one of the previous banking videos, I got a
comment: "If everyone puts gold in the banks, what can
they used to transact, or to buy food, or to pay for
services, et cetera?" And that is an excellent segue into the
notion of a bank note.
You've probably heard the word before, maybe in some you
Charles Dickens novel or something, but we're going to
find out in this video it's actually a much more familiar
concept than you ever realized, and you probably
have some of these bank notes in your wallet as we speak.
Let's go back to our example.
I have the Bank of Sal.
I use 100 gold pieces.
That's my equity.
Let me draw that.
And I use that to build a building.
So the 100 gold pieces actually go to the builders
and they're from out of town, so they're not going to
deposit it back with me.
So that's my building.
I don't know if you can see that.
It's a little picture of a building.
And all of the villagers in my city, they come and deposit
their gold with me, because my building looks
very solid and safe.
It's safer than their mattresses, so they then
deposit 1,000 gold pieces with me.
For the liability side of my balance sheet, I could say
1,000 gold pieces.
And on my asset side, I actually get the gold pieces.
I should have done that in yellow.
So it's actually sitting in my vaults.
Now the question was, if all of the villagers put all of
their gold into my vaults, what can they use to
transact every day?
The way I do it right now-- this side is my assets and
these are my liabilities, right?
I owe them 1,000 gold pieces that they can come and get at
any moment.
And this could kind of be viewed as a checking deposit.
I'll go into that in a second.
I'll probably go into that in the next video.
But if all of their 1,000 gold pieces are sitting right here
on the asset side, or at least in my vault, what can they use
to transact?
Well, the solution is, I say, hey, instead of taking some of
your gold out and using that as essentially money, why
don't I give you a note, a note that says you put X
amount of gold into my vault.
So, for example, for each one gold piece, I will
issue a bank note.
So let's say I'll say one gold piece bank note outstanding.
And then I hand you a slip of paper, and that slip of
paper-- and this might start to look a little familiar to
you-- says it looks about this shape.
It has a nice picture of Sal in the middle, because it's
the Bank of Sal, and it is denominated as one gold piece.
And now you gave me that gold piece and you get this green
piece of paper that only I can print and no one else has the
sophistication to do something this fancy.
Maybe I use some colors here and I sign it Sal and I do all
sorts of stuff that makes it really hard to forge so that
no one else can-- I put some holograms on it.
Who knows what I do to it, but no one else can forge it.
So this is essentially a piece of paper that I hand you that
says, you know what?
Anyone who holds this piece of paper can go back to the Bank
of Sal and get back a gold piece.
Then since everyone in the village, they trust that the
Bank of Sal will always be willing to exchange one of
these slips of paper for a gold piece, instead of using a
gold piece to buy something, why don't you just use this
slip of paper?
And even more, for one gold piece, you don't want to just
have a stack of one gold piece pieces of paper around.
Maybe if you gave me five gold pieces-- I'll do that in
another color-- that rectangle is much larger than it should
be relative to 1,000, but I think you get the point-- then
I'll have a liability here that says five gold pieces
bank note outstanding.
I'll call it b-note outstanding.
And I'll issue a-- I think you have guessed it.
Maybe I'll do it in different colors to show you that these
bank notes can come in different colors, but once
again, I'll put a famous person there maybe, and I'll
make it really hard to forge, and I'll put holograms on it,
but it'll be denominated as a five gold-piece bank note.
And now, if you were one of the villagers, you gave me
your gold pieces, now not only is your gold safe, you have
these pieces of paper that are very hard to forge, and that's
a key issue there, because if they were easy to forge, then
someone maybe completely unaffiliated with this
trustworthy bank, completely unaffiliated with Sal, could
go out and print these things.
So you don't want that to happen.
So we're assuming that you can't forge this thing.
And now not only is your gold safe, but you have something
that you can transact with that's frankly a
lot easier than gold.
I mean, I could even have a denomination that's-- it could
be a 500 gold piece.
So if someone gave me 500 gold pieces, I could give a 500
gold-piece bank note out.
That'd be my liability, right?
Because I know that at some point, someone might give me
back that 500 gold-piece bank note, and I'll have to give
them 500 pieces of gold, so that's why it's a liability.
And maybe that piece of currency is orange.
And now this is super useful.
Now my bank-- we've done all of the other things, how the
bank increases the money supply, and fractional
lending, and how the money supply adjusts for the total
production and wealth creation in the economy, but now we've
found another useful thing that a bank can do, is that
besides securing your gold, it's actually providing a unit
of exchange that's frankly a lot easier to
deal with than gold.
I mean, could you imagine lugging around and counting
and verifying 500 gold pieces every time you
had to spend it?
Or everyone would have to have scales, et cetera.
Now people can just count there, and as you see, this is
money or this is cash.
You might be experiencing some form of dissonance in your
head because right when I drew that, you were like, wait,
Sal, that looks a lot like a dollar bill.
And that's true because a dollar bill is a Federal
Reserve bank note.
It is a bank notes from the U.S. that-- there was a time,
and this was a time before central banks and especially
if you think about colonial times, you had banks all over
the colonies, and they would actually issue their own bank
note, so you didn't have one uniform currency.
So one bank note might look like that and
have Bank of Sal.
Another bank note might have Bank of-- I don't know-- Bank
of George Bush or something, and people would kind of have
to have exchanges between them to realize which banks are
good for what.
Now we're not as familiar with the term bank note because we
only see one type, or at least one type per country.
We only see bank notes from one bank, or at least one bank
has the right to issue them within the United States and
that's the Federal Reserve Bank.
And it's not backed by gold.
It's actually backed by U.S. Treasuries, and I'll go into
that a little later on.
Actually, that's a whole fascinating realm of thought.
But I just wanted to get this point home, that all you
have-- that this bank actually has this other service of
issuing these bank notes that are different than the
checking deposits, which I will cover in the next video.
And then I will use both of those concepts to redo that
lending that we did with the irrigation ditches and the
factory to show you that the gold actually never even has
to leave the bank.
The gold just sits in the bank the whole time and the bank
can just use its bank notes and checks to actually conduct
all of the transactions.
See you in the next video.