President Franklin D. Roosevelt took office in March 1933, and one of his immediate goals was to rescue the banking system from the crisis it had been thrown into because of the Great Depression. The Depression caused a number of “bank runs”—periods of panic during which many of a bank’s customers doubt that the bank is a safe place for their money. Because of this doubt, they all want to take their money from that bank and put it somewhere else. But the banking system offers a complication in that, even though your bank account may show you have $1,000,000 in the bank when you look online, the bank may not be able to give it to you in cash when you ask for it at once because the bank doesn’t just let your money sit idle in its vaults. Acting as the guardian of your money, the bank makes loans to other customers like you and to businesses and makes its own investments. Banks do keep some cash on hand—this is called the Reserve Requirement Ratio.
Let’s say there are 10 customers at The First National Bank of Jeff, each of whom (naturally, named Jeff) went to the bank, gave the bank $100,000 to put in savings, and went about their days. The FNBJ bank now has $1 million under its care. The RRR set by the Federal Reserve—which our bank must follow—is 11%. At any time, the FNBJ must have $110,000 (11% of 1 million) on hand. The other $890,000 can be used by the bank to, as mentioned above, make its own investments, be loaned out, and so on.
The problem with the Depression-era runs was that there wasn’t any kind of protection in case a large number of people wanted to make large withdrawals. Our bank would be totally fine with all of its customers withdrawing $11,000 each; the FNBJ has $110,000 in reserve, so 10 withdrawals of $11,000 would be totally doable given the RRR.
But what happens if, like during the Depression, all 10 of the customers of the FNBJ panicked, and decided they didn’t trust the bank anymore, so they wanted to get all their money out? The bank has $1,000,000 of assets under its management, $110,000 of which is in reserve. We don’t know where the other $890,000 is (maybe loaned out to other Jeffs, maybe invested). The bank needs to pay out $1,000,000 to its panicked customers, but it keeps exactly the RRR on hand. This means can’t pay out the $1,000,000—it needs to give each Jeff $100,000, but it can only afford to give each of them $11,000.
This failure to cover what its customers want to withdraw means the bank collapsed.
It’s because of situations like this one that one of FDR’s major actions to stabilize the banks in the spring of 1933 after having taken office was to create the FDIC: the Federal Deposit Insurance Corporation. The FDIC charges banks like ours an insurance premium; like the premium you pay for your health or car insurance, it’s determined by how much risk the insuring party thinks there is that they’ll have to pay to help rescue you. The safer you are, the cheaper your premium. Every commercial bank (the FNBJ included) pays a certain amount in premiums to the FDIC every year. From these premiums, the FDIC will guarantee every cent of the first $250,000 you put into an account if the bank you’re holding the money at collapses, and they can’t give you your money when you want to move it somewhere safer. So in this scenario, since each customer of our bank only gave us $100,000, each Jeff’s of their deposits would be 100% covered by the FDIC if our bank were to fail.
Stocks, mutual funds, and similar products, per se, aren’t covered by the FDIC protection, but this isn’t a recommendation against investing in them because there are other measures you can take to be safe in the market, including investing in index funds to spread the risk to the whole market and not just one or two companies, or, if you invest in individual companies, only doing so with a strong financial base and a long history of sound management and good returns.
This means that a company like Apple, which has been traded since 1977, has decades of profitability behind it, and returns an average of 18.6% each year is a great way to make your money grow by investing in a good business with lots of innovation at its core and sound management is a good idea, but a company like Ensysce Biosciences (one of the biggest losers in point 32, both on that day and overall) which has only been around since 2008 (and has only been publicly traded since 2018, during which it has lost 99.9% or more of its value), has 1/3,000th or less as many employees and has a market capitalization which is 1/785,000th as big as Apple’s is clearly not a sound investment. Investing in that kind of company, and others like it, which make huge gains one day and then suffer huge losses the next day is far too volatile a strategy to produce desirable results consistently and safely.
Finally, this also means that I am, for the moment, until the Fed and other institutions can regulate it more effectively and increase the public trust in it sufficiently, strongly recommending against volatile and unsecured asset classes like Bitcoin, Ethereum, and other cryptocurrencies like it, especially the much smaller (and even more volatile alt-coins)
Let’s say there are 10 customers at The First National Bank of Jeff, each of whom (naturally, named Jeff) went to the bank, gave the bank $100,000 to put in savings, and went about their days. The FNBJ bank now has $1 million under its care. The RRR set by the Federal Reserve—which our bank must follow—is 11%. At any time, the FNBJ must have $110,000 (11% of 1 million) on hand. The other $890,000 can be used by the bank to, as mentioned above, make its own investments, be loaned out, and so on.
The problem with the Depression-era runs was that there wasn’t any kind of protection in case a large number of people wanted to make large withdrawals. Our bank would be totally fine with all of its customers withdrawing $11,000 each; the FNBJ has $110,000 in reserve, so 10 withdrawals of $11,000 would be totally doable given the RRR.
But what happens if, like during the Depression, all 10 of the customers of the FNBJ panicked, and decided they didn’t trust the bank anymore, so they wanted to get all their money out? The bank has $1,000,000 of assets under its management, $110,000 of which is in reserve. We don’t know where the other $890,000 is (maybe loaned out to other Jeffs, maybe invested). The bank needs to pay out $1,000,000 to its panicked customers, but it keeps exactly the RRR on hand. This means can’t pay out the $1,000,000—it needs to give each Jeff $100,000, but it can only afford to give each of them $11,000.
This failure to cover what its customers want to withdraw means the bank collapsed.
It’s because of situations like this one that one of FDR’s major actions to stabilize the banks in the spring of 1933 after having taken office was to create the FDIC: the Federal Deposit Insurance Corporation. The FDIC charges banks like ours an insurance premium; like the premium you pay for your health or car insurance, it’s determined by how much risk the insuring party thinks there is that they’ll have to pay to help rescue you. The safer you are, the cheaper your premium. Every commercial bank (the FNBJ included) pays a certain amount in premiums to the FDIC every year. From these premiums, the FDIC will guarantee every cent of the first $250,000 you put into an account if the bank you’re holding the money at collapses, and they can’t give you your money when you want to move it somewhere safer. So in this scenario, since each customer of our bank only gave us $100,000, each Jeff’s of their deposits would be 100% covered by the FDIC if our bank were to fail.
Stocks, mutual funds, and similar products, per se, aren’t covered by the FDIC protection, but this isn’t a recommendation against investing in them because there are other measures you can take to be safe in the market, including investing in index funds to spread the risk to the whole market and not just one or two companies, or, if you invest in individual companies, only doing so with a strong financial base and a long history of sound management and good returns.
This means that a company like Apple, which has been traded since 1977, has decades of profitability behind it, and returns an average of 18.6% each year is a great way to make your money grow by investing in a good business with lots of innovation at its core and sound management is a good idea, but a company like Ensysce Biosciences (one of the biggest losers in point 32, both on that day and overall) which has only been around since 2008 (and has only been publicly traded since 2018, during which it has lost 99.9% or more of its value), has 1/3,000th or less as many employees and has a market capitalization which is 1/785,000th as big as Apple’s is clearly not a sound investment. Investing in that kind of company, and others like it, which make huge gains one day and then suffer huge losses the next day is far too volatile a strategy to produce desirable results consistently and safely.
Finally, this also means that I am, for the moment, until the Fed and other institutions can regulate it more effectively and increase the public trust in it sufficiently, strongly recommending against volatile and unsecured asset classes like Bitcoin, Ethereum, and other cryptocurrencies like it, especially the much smaller (and even more volatile alt-coins)
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