130 replies
16h30m
A corollary to this may be that those who get many chances are more likely to succeed. This is often the case for people that have a safety net of some sort compared to those that don't when it comes to, for example, starting businesses. Those with a safety net can fail and try again and again and eventually tell the story of how 'gumption and spirit' made them a success while those that didn't have a safety net 'just didn't try hard enough'. I know I have been exceptionally lucky in that I have been given many chances to fail, and taken them! Without those opportunities to fail safely I wouldn't have the success I have now.
This is a good argument. In Germany, if you take a loan to open up a business, you can pretty much ruin your whole life and financially never recover if it fails once. It's a little different with tech, as you usually don't have as high costs early on, but still. There is an extremely high risk involved that most people simply can't afford.
What's the alternative tho? If you take a loan, in most countries you're expected to pay it back, no? Do you think people should be able to default without consequence?
In many countries there is the idea of bankrupcy. You make the debtor suffer for a couple of years (to ensure incentive against it) and then wipe the slate.
Bankrupcy is no fun. All your assets are wiped out (house, cars, etc). Sometimes you are excluded from the banking system. So it's not "without consequence".
Lending money is a risky business. That is why you get interest. Getting people off the hook is not ideal, but neither is the inverse. From a societal point of view, this arrangement allows people to take risks that they may not have otherwise. And we're all better off because of it.
Do some countries not have a concept of bankruptcy?
Most of Europe does not have bankruptcy laws comparable to the US. Technically they do exist but the differences in the details are so large they may as well be called two different things.
Also, the reason people go bankrupt in the US are very different than the reasons people go bankrupt in Europe. 2/3 of personal bankruptcy in the US is linked to medical debt somehow. That is not the case in Europe.
Often cited, but wrong. When you dig in, it turns out to be one of those "wet streets cause rain" causal mix-ups:
https://www.ncbi.nlm.nih.gov/pmc/articles/PMC5865642/
While this article points out some potential problems in the methods used to derive that headline political figure, its own methodology seems to have pretty serious flaws. The most I'd take from this is "This is such a bad problem that even when you try pretty hard to look in the wrong place you find it anyway".
This study deliberately does not - just for example - count it as a "medical bankruptcy" if you weren't hospitalized. So magically every person who was bankrupted by the cost of their must-take prescription medicine, they don't count because they need to be admitted to hospital to count for this study.
The thing to take from it is not that the figure the linked study arrives at is "right", but that the cited 2/3 figure is seriously flawed to the point that it shouldn't be cited.
As it is, the 2/3 statistic is mainly used to score political points and indeed one of the authors of the original study that came up with the 60% number is Elizabeth Warren. Now, you could say she participated in her capacity as an academic, but I personally have a hard time believing she would have put her name on the paper if it had found, say, 4% of bankruptcies came from medical debt.
Why not? 4% is also awful. As a politician you'd probably say "One in every 25" rather than 4% if you wanted to emphasise that it's unacceptable.
Yeah I mean you can certainly have the opinion that any amount of medical bankruptcies greater than 0 is unacceptable, but that has nothing to do with my original point that the 2/3 number should not be cited in discussions about bankruptcy.
It's still pretty clearly far less wrong than stating 2/3 of bankruptcies are caused by medical costs.
If people are arguing about whether the Earth is flat or spherical, you cant use the fact that both are "wrong" (as the Earth is closer to an ellipsoid) to say that "flat" is as correct as "spherical".
Why would they exclude elderly from their study? It seems odd to exclude a population with higher rates of health problems. Is there assumption that bankruptcy only matters to those who would otherwise be working?
Because the goal is to discredit the 2/3 number by any means necessary.
Tbf, the authors cite (their own) previous work indicating hospitalizations do not cause bankruptcy in the elderly
Technically true. It's paying the bills on top of the second mortgage after helping your 30 year old grandkids afford college, weddings, and starter homes that leads to bankruptcy. A surprise one-time medical cost is only a minimal contributing factor in the arc of recurring mandatory prescription, insurance, and care costs, at that point. My inner Humean rejoices.
That coupled with private equity's involvement in all late / end of life care ensures no one dies with a penny to their name to pass down.
It still paints a picture of an out of control, over-financialized system that only gets more expensive the more money is put into it.
Ah, there's the old "everyone who disagrees with me is arguing in bad faith" argument the internet loves to make. Wondered how far down I'd have to scroll.
So are you saying that 2/3 of personal bankruptcy cause medical debt?
No I'm saying that the conditions that lead to one declaring bankruptcy can also cause one to rack up medical debt.
Having medical issues and no way to pay for them?
More that bodies respond to stress of all forms and people who have a failing business might push themselves beyond reasonable healthy limits to avoid that outcome, leaving them in a situation where their finances are wrecked just in time for all the chickens they stored up not getting enough sleep, pulling a double shift, working through the pain, etc. to come home to roost.
Ignoring any other issues here let's look at the article:
Ah yes, because there's no other way to get large medical debt. Not like an ambulance and ER stay alone will be high.
Obviously representative of a wider area: the most expensive state in the country and #5 highest median income.
Yes, let's exclude those who tend to have the highest medical bills and lowest incomes.
Yes, let's exclude pregnancies, which can be extremely expensive (thank god medicaid covered ours).
Yes, let's exclude people who have the highest medical debt by virtue of having had multiple hospitalizations.
I would say, most of countries in Europe do not have bankruptcy laws that are lenient like in the US.
I think in US you can declare yourself bankrupt and start over. The only loan that doesn't work like that is a student loan.
Ah that's why they're complaining about the student loans.
In The European countries I have been living in, the concept of personal bankcrupty doesn't exist in the same way, at least. People who get too much loans kind of just hang with them, after 15-20 years they are forgiven AFAIK.
Btw, my suggestion for the US would be to remove that special bankruptcy exception for new student loans.
That's because once you do that, the supply of new student loans would most likely dry up. Thus shutting off the money fountain for the education industry.
Your suggestion wouldn’t work because nearly all student loans (over 90%) are issued by the federal government, which does not (and for political reasons, never will) evaluate credit risk.
An alternative is to tie the federal student loan program to a regulation in school cost. If the school exceeds some threshold, their students are no longer qualify for federally-backed loans. Granted, it creates administrative burden but it’s the only proposal I’ve heard that seems to address the root problem of tuition costs and almost unfettered access to collateral-free loans.
That's unlikely to be accepted for other reasons. Putting a limit means most will approach that limit, and those that exceed the limit will be even more unaffordable. Plus no one will agree on what the limit should be. Which makes them extremely unpopular (except for benefits to individuals which of course should have the lowest limit possible nationwide)
We do this with drug reimbursement costs and construction already and I’m pretty sure those for-profit companies would also disagree on what the limit should be. I also don’t think it needs to be a one-size-fits all threshold; it could be adjusted to COL and/or job prospects that are tied to graduate statistics. IMO that goes a long way to aligning the incentives of the student and the institution.
I’m curious if you have an alternative solution
Yeah, I intentionally didn't say it wouldn't happen, just unlikely :)
Personally I think limits (and significantly higher grants to make student loans unnecessary for a basic post-secondary education) are needed. But I think it's worth recognizing that limits will make what's already a very divisive issue, even more divisive...
I think more thoughtful limits would be a good idea. I also think the reduction of aid money has been part of the problem. I just don't know where the money comes from to shore up that problem.
I have seen other pilot programs. I think it was Purdue who was considering "buying stock" in students, where the student would pay a portion of their income for a certain number of years in exchange for a scholarship.
That would be a good idea.
Just make the college a guarantor for the student loan. That would solve a lot of the issues with higher ed in the US today....
I think that's a potential part, but to play devil's advocate: don't you think this may exacerbate the opportunity gap? I.e., those who are the best bets (in terms of not defaulting) are also those who come from well-off backgrounds?
Germany has Verbraucherinsolvenzverfahren. The individual's credit rating will be negatively affected for several years after the completion of the procedure. The insolvency proceedings are recorded in a public register, which can be accessed by anyone. The process typically lasts for six years, during which the individual must adhere to a strict budget and make payments to creditors. After completing the six-year period, the remaining debts are discharged, provided the individual has adhered to the terms of the insolvency plan.
Step 1 is außergerichtliches Schuldenbereinigungsverfahren where the debtor attempts to reach an out-of-court settlement with creditors. This stage usually lasts up to 6 months.
Then there is Eröffnung des Insolvenzverfahrens where if the out-of-court settlement fails, the debtor files for insolvency with the local court. The court appoints a trustee to manage the debtor's assets and liaise with creditors. This stage typically takes 1-2 months.
Next there is either Regelinsolvenzverfahren or vereinfachtes Insolvenzverfahren. In the latter if the debtor's assets are insufficient to cover the costs of the proceedings, the court may initiate a simplified insolvency process. The debtor proposes an insolvency plan to the creditors, which includes a 6-year repayment period. If the plan is accepted, the court approves it, and the debtor begins making payments.
In the former, if the debtor's assets are sufficient to cover the costs, regular insolvency proceedings take place. The trustee liquidates the debtor's assets and distributes the proceeds among creditors. The debtor proposes an insolvency plan, which typically includes a 6-year repayment period.
After the insolvency plan is approved, the debtor enters a 6-year good conduct phase called Wohlverhaltensperiode. During this period, the debtor must adhere to the repayment plan, maintain gainful employment, and inform the trustee of any changes in their financial situation. The debtor is allowed to keep a portion of their income for living expenses.
If the debtor complies with the terms of the insolvency plan during the good conduct phase, the court grants a discharge of the remaining debts called Restschuldbefreiung. This typically occurs 6 years after the opening of insolvency proceedings.
This is really not that different from bankruptcies in America. I think Europeans are simply unaware of their options.
In the US Chapter 7 bankruptcy will remain on the individual's credit report for up to 10 years, making it difficult to obtain credit, secure housing, or find employment. Chapter 7 bankruptcy is a matter of public record, which can be accessed by anyone. The process is relatively quick, typically lasting 4-6 months. Most unsecured debts, such as credit card balances and medical bills, are discharged upon completion of the process.
Chapter 13 bankruptcy will remain on the individual's credit report for up to 7 years, which is less than Chapter 7. Like Chapter 7, Chapter 13 bankruptcy is a matter of public record. The repayment plan typically lasts for 3-5 years, during which the individual must make regular payments to creditors. After completing the repayment plan, the remaining eligible debts are discharged.
Verbraucherinsolvenzverfahren lasts longer (6 years) than both Chapter 7 (4-6 months) and Chapter 13 (3-5 years). Verbraucherinsolvenzverfahren and Chapter 13 involve a repayment plan, while Chapter 7 does not. Chapter 7 has a longer-lasting impact on credit ratings (10 years) compared to Verbraucherinsolvenzverfahren and Chapter 13 (6-7 years).
France has a procedure called "rétablissement personnel," which is similar to Chapter 7 in the US, allowing individuals to liquidate their assets and discharge their debts. In the UK, individuals can file for bankruptcy or enter into an Individual Voluntary Arrangement (IVA), which is similar to Chapter 13 in the US.
Short answer: yes, but.
Without consequence, of course not. But you should be able to 'separate' your professional and personal life, even as an entrepreneur.
I would NEVER found my own business if I knew that going bankrupt would take away my kid's house. This is why instruments such as limited responsibility companies have been invented.
Why? In case of success, you have the personal benefit from it. So why should other people and society take the bill in case of your fail? Or how exactly is this supposed tor work?
If I go to open a restaurant and I can convince a bank to lend me capital to start the business, and then it fails, I can see an argument for why they shouldnt lend me money to open a second restaurant, at least not right away. But why should I be penalized in personal life for a business failing. Should the bank get to take my house if my restaurant fails? Should I be prevented from getting a credit card?
Where is the money coming from? And who should pay the bill you have left, when you fail? It will not disappear, and for the health of the system it can't disappear, so where is it going?
well, thats the risk the bank takes when they lend my business the money, that I might not be able to pay it all back. they eat the loss, minus whatever they can recover from assets left over. and I get a mark that says you should think twice before lending me money for a restaurant again. but my life isnt ruined. i get to keep my house, i can still participate in financial society. the alternative is, as someone else pointed out, only those with lots of resources can afford to try to create new businesses. the US policy is that its worth it to have a more lenient bankruptcy process, with more bankruptcies that are less ruinous, since it leads to more risk taking (ie new business formation).
In Germany, your life is not ruined if you go bankrupt and have to pay for the fail you created. Society still gives you shelter, food, healthcare, even if you have lost your luxury. So there is no reason to make wasting resources and harming society simple.
Germany has limited companies - it's what GmbH's and AG's are for.
I'm not aware of any jurisdiction where "wasting resources and harming society" by having a company with limited liability go bankrupt isn't fairly simple.
Germany, like some other companies in Europe has fairly "high" requirements of share capital, but it's still only 25k Euro.
well, its not harming society, its harming the lender. we obviously want to have protections against people taking advantage, but ultimately its up to the lender to make sure that the borrower has a realistic plan to pay back the loan, at least within whatever risk parameters they are willing to accept. In the end, its a tradeoff, the US has higher new business formation, especially from less well-off members of society, but more of those businesses fail.
The party lending the money is knowingly taking the risk, and they get compensated for that risk by charging an interest rate that both sides agree to. There is nothing inherently nefarious about business loans. Some loans work out, others don't, and a competent lender will usually come out ahead in the long run.
This is pretty much exactly the point of limited companies: You can tell that you're dealing with a limited company because of the name suffix, and you know (or should know) that if that company fails, you risk losing anything they owe you and there's very low chance of going after the proprietors.
Knew a guy who tried to outsmart tax rules and founded the company as his wife's. Also had a big mortgage on their house. She fell in love with the local butcher (no joke) and one afternoon they emptied the bank account and flew to Goa. That guy lost his wife, his company and his house in one afternoon and went straight to ER with a heart attack.
And his butcher.
You declare bankruptcy and walk away, more or less without serious consequences so long as you were not deliberately fraudulent. You may have trouble getting another loan or conversely you may find it easier now that you have relatively more experience than before.
Germany in particular takes a moralistic approach to finances that IMO harms the economy quite a bit and constrains entrepreneurship to the well connected and already established. You are only supposed to start businesses that succeed.
In reality money is not a real thing, money is numbers in a computer database that we collectively signal and coordinate the economic activity and utilization of the resources that hold the real value. As such a certain amount of default well above zero is optimal to maximize the amount of real world value being generated.
It's more pragmatic, than moralistic. Germany aims for high quality in business and workers, the whole system is based around this. USA seems more aiming for quantity. Just throw money at it, and see what sticks. But the difference is, USA is very big and wealthy in resources and manpower, so it can afford this. Germany, like other European countries, is rather small and lives from connecting with others. So efficiency is very important.
My experience is incomplete I will admit and possibly outdated besides, however I speak German, regularly consume a fair about of German news, and I spent a few months living in Munich. The attitude I've observed, especially among older Germans, is that buying with credit is a moral shortcoming while paying with cash is virtuous. High interest rates are considered good because they reward savers, conversely people complain about low interest rates as an injustice.
Also, Germany has the 3rd largest economy in the world, so not as large as the US or China, but I wouldn't exactly call them "small" economically.
Someone who had worked in banking once told me they adjust lending standards to maximize profit. I was shocked that this meant about a 6-7 percent default rate on the mortgage loans. If you are too stringent you won't lend any money and if you let it flow freely you'll fail under all the defaults, so yes there is an optimal amount of failure even for the lender.
If a large corporation takes out a loan, even a substantial one, and fails, the corporation can just go bust and the people behind it have no responsibility.
A new business generally requires a director's guarantee to get a loan, completely defeating the point of a limited company.
But that's the norm almost everywhere. Try going into a regular US bank and ask for a loan for an LLC. Almost everywhere will expect collateral and/or a business plan and/or personal guarantees if the business is new. Some countries have more risk-averse banks than others, but it's a matter of degree not a fundamental difference, and generally reflected in interest. And it then just changes the calculus of when you look for investors rather than lenders.
A new business hasn't proven itself viable therefore it's a huge risk to a bank.
Between personally guaranteeing a loan and not having the funding available at all, I'd take the former.
Once the business has been trading for a while and shows it has a working model, it shouldn't have any problem financing without a personal guarantee.
Either way, limited liability remains crucial. You're still in control of how much personal risk you're accepting, putting a backstop on any loss.
Il am not sure I think that, but as a matter of fact successful people tend to be bankrolled by either friends, family, or some kind of extended network that allows them to fail several times. I think it is unfair, and I find it really obnoxious when they lecture us about grit and bootstraps instead of being grateful for their network or luck, but it is what it is.
Yes, exactly this. A second chance is a safety net, available mostly to those with the circumstances or resources to deploy it. One helpful circumstance being youth (plenty of time), while an obvious resource is personal or, more likely for the younger, parental wealth.
Attitudes to risk taking are similar, e.g. your fear of high wire walking depends hugely on whether you have a safety line or not. Wealthy kids might pride them themselves on taking chances where the reality is that in their whole existence they have never been exposed to the possibility of paying the price for failure.
equity financing rather than debt
Bankruptcy in the US for example, is way more straightforward for businesses compared to individuals. Its not nearly as frowned upon for businesses. Take for instance:
In Silicon Valley for instance, many founders of successful businesses had multiple failures founding other startups first, it seemingly is part of the Silicon Valley ethos, almost looked at with a badge of honor.
The alternative is VC / investors. They don't get their money back if your buisness fails, but you have given away much of your equity if you succeed.
Generally a much better deal for first time founders.
"In Germany, if you take a loan to open up a business, you can pretty much ruin your whole life"
So instead you ruin other people's lives?
The bank? The ones whose job is literally to turn risk into premium on loans?
Yes, exactly. It's amazing how people don't see that the _whole_ point of banks is to aggregate defaulting risks across a very large number of loans to power the economy.
Banks have more than one point and function.
Eg they also provide 'checking' accounts. There's no conceptual reason why that function needs to be bundled with the 'aggregating default risk' function; but it happens to be so in many countries.
To illustrate, on the one hand, think of an institution that takes deposits and lets you transfer money to pay your rent etc, but doesn't make any 'real' investments: all they do is park the deposits in government loans.
On the other hand, think of exchange traded funds that invest in a wide array of bonds (or even equities). They diversify defaulting risk across the economy, without taking deposits, like your typical bank does.
The ability to provide loans from nothing is the special feature of a bank, which is why they are so heavily regulated. The deposits are just the opposite half of the loan creation. No bank invest deposits - they're a liability to the bank.
A bank can just magic up an account with $1M in your name, sure, but when you show up to withdraw the money they have to source that currency from somewhere— Their loans won’t be held in very high regard if you can’t then use the loaned money to, for example, pay for all of the various labor and materials you need to build your new house.
That somewhere is the bank’s depositors.
Except that they don't have to source that currency from somewhere - it really is literally magicked up out of thin air! When you come to spend it, that amount is transferred to another bank, that they can then offset against their own magic money.
The only relationship with deposits (which are actually liabilities) and assets is that enforced by regulators.
This is how money creation works in the modern economy - so the money supply can grow as economic activity increases, all guided by central banks / governments with levers such as interest rates, open market activities (QE), and regulations.
Again - banks really do create money from nothing, all day, every day.
Citation needed. I do not believe this for even a single moment.
The only institution that can "create" money from thin air is the government. And even that is a polite fiction when you realize that "printing more money" also inherently devalues the money already in the system.
You can only really hold the "printing more money" analogy in your head, if you are prepared to balance your thinking and accept that taxation and loan repayment "shred money" and that financial savings is "putting money in a drawer".
At which point you will realise there can be no devaluation since money is destroyed as it moves around, and money in drawers may as well not be there.
I do not personally see money in those terms.
I see money as units of resource allocation. There are only so many available resources at any given moment. More units of allocation means less resources allocated per unit.
I'm also not an economist. :)
Money is the oil in the engine not the petrol.
There isn't and never has been a one-to-one relationship between money and stuff. At best it is inductive.
Just as with electrical engineering, the real world requires a reactive supply, which is what allows electrical innovation beyond direct resistive loads.
Electrical supply engineers hate reactive power, but without it we don't get iPhones.
The power triangle gives the best engineering analogy to the way the monetary system works.
Clearly that's not true as the bank note analogy shows. If you print trillions of £50 pound notes and stuff them into an empty coal mine guarded by many competent people with guns, that's not going to have any impact on prices whatsoever.
That sounds like 'modern monetary theory', which is neither modern nor monetary.
But it is both novel and correct. As in it has both novel and correct parts.
What he wrote is a popular myth that originated in a misunderstanding how fractional reserve works, it just means they have long term assets to cover short term liabilities. There's a lot of this stuff on youtube.
If it was true no banks would ever fail, qed.
Ultimately being fundamentally wrong in how the financial system works is extremely unlikely to impact anyone's daily life.
https://www.bankofengland.co.uk/-/media/boe/files/quarterly-...
This topic and thread is a great example that HN'rs often have very little understanding of certain subjects that get posted here.
If it is VC or SF Tech related, I usually learn something. Anything around Banking, Finance, Trading, Crypto etc... not so much.
And as usual, 'modern monetary theory' rears its ugly head, too.
https://www.bankofengland.co.uk/quarterly-bulletin/2014/q1/m...
I only skimmed this briefly (no time), but things operating as suggested (eg the banks loaning money they do not have) would fall into the category of fraud IMO.
Whether that's currently legal or not is another matter that I cannot comment on.
That document is published by the Bank of England. I'm not sure what higher authority would convince you.
I never said it was false; only that it suggests fraud.
Fractional reserve banking. https://en.m.wikipedia.org/wiki/Fractional-reserve_banking
Fractional reserve banking does not work like this.
You still need assets in fractional reserve banking. Those assets just don't need to be reserves.
Ie 90% of your assets could be diamonds in the vault, and 10% could be reserve cash in the vault. That would be fractional reserve banking, but you still have 100% assets. (In practice, you have more than 100% assets. The excess is your equity cushion.)
If your liabilities outstrip your assets, that's when you are bankrupt. Fractional reserve banking doesn't help you there.
While I disagree with somewhereoutth and mostly agree with you, it is true that banks can create money.
However banks don't create money out of thin air. However they can create it out of assets.
As a silly thought experiment: if your bank has a vault full of valuable assets, like diamonds and deeds to houses in prime real estate, stocks etc, they can in principle create loan/deposit pairs (ie make loans and credit the borrowed funds to the borrower account).
When people make withdrawals, especially when they make more withdrawals than the bank has reserves, they just sell some of their assets to cover the difference. That's all pretty normal and boring.
Customers think of their deposits of 100% like money and economically behave as if that was true, but in practice they are backed by 10% money, ie reserves, and 90% other assets.
(The percentages are for illustration only.
Also we ignore minimum reserve requirements and other laws here. Many countries don't have minimum reserve requirements anyway.)
No they don't, banks have accounts with the central bank. They also have their assets and liabilities. They have to manage the system so that they can manage external withdrawals. When assets outweigh liabilities it's a bankruptcy. When current demand for withdrawals exceeds short term liquid reserves it's a liquidity issue. At no point do banks create base money. A balance in a bank is just an iou for base (central bank's) money.
The only entity that creates money is the central bank. They may even accept mortgages from banks as collateral (including repurchase agreements) to inject new money into the system.
Regulations are supposed to prevent bankruptcy and liquidity issues, but even without any regulations regarding asset ratios, banks can go bankrupt or illiquid.
I suggest taking a look at what an actual central bank, The Bank of England, have to say on this rather than a lot of stuff on YouTube: https://www.bankofengland.co.uk/quarterly-bulletin/2014/q1/m...
That document completely agrees with ‘nootropicat, except for a difference in terminology— What ‘nootropicat calls “money” the BoE calls “base money.”
(And, for the record, this is also what I’ve been meaning by “currency”)
So if someone pays you using a credit card, or using money they derived from a bank loan, presumably you don't accept that money because it's not a loan from the central bank - it's not "base money"?
Incidentally, the only claim you as a lowly individual ever have on central bank money in most (all?) current currency areas is as physical currency, and even then for the most part you only ever get to exchange it for commercial bank money. For the purposes of this discussion, all digital money between most normal entities is commercial bank money. Commercial bank money _is_ money.
I trust that my bank is well-enough managed to provide me with physical currency up to the amount of my account balance, so I’m happy to accept any form of payment that results in an appropriate increase in that number— Just because I draw a distinction between currency and commercial money doesn’t mean that I don’t believe that the latter is money.
And I rarely exchange physical currency for digital money these days— Usually I’m exchanging it for food instead.
It must be peculiar living in such a backward nation that still relies on physical currency to buy food.
I just wave my phone at a terminal.
This is true, and most of the rest of what you are saying is also true.
This is not true. Banks really can take arbitrary assets and turn them into money. Just not base money!
No. The other banks demand settlement in outside currency. In the olden days, they shipped gold around every so often. Nowadays, in the end you settle in central bank deposits.
Not really. The process is as follows.
You go to a bank with an asset. In this case the new house. The bank then creates a new financial asset called a 'mortgage' that goes on the asset side of their balance sheet. Against that they create a liability called an 'advance' that they give to you.
You then give the advance to the builder in return for the house, where it becomes a deposit of the builder than they can then transfer to anybody else in payment for goods and services.
If any of them happen to be at another bank then all that happens is the deposit is transferred to the bank and it becomes an 'inter bank loan'. The target bank then simply creates another deposit in its books to balance that loan and that is allocated to the customer being paid.
It's all just debits and credits. What limits bank money creation is the assets they are prepared to discount and the creditworthiness of the individuals they choose to advance to and whether the bank believes they can pay the current price of money.
I think you’re glossing over some important details regarding the inter-bank loans. As far as I understand, they are not automatic and must be negotiated in the same way as any other bank loan.
Modulo some amount of transaction batching, when one bank’s customer initiates a payment to an account at another bank, reserves are actually transferred between the two banks (these days, in the form of central bank account transfers).
Each bank’s main concern is managing its daily cashflow— They need to have sufficient reserves each day to cover that day’s net outflow of payments. But holding reserves is expensive; they would much rather use that currency as an advance payment for a new loan if they can, so that somebody else is stuck with the currency.
And here’s where the inter-bank loans come into play: Because most of a bank’s outflows happen on an irregular schedule as directed by their depositors, and they have an incentive to hold as few reserves as possible, they may find themselves in a position where they would need to suspend payments. When this happens, they borrow reserves from another bank in order to continue operating. If the borrowing bank is considered trustworthy by the banking community, they generally have no trouble securing such a loan on standard terms.
Of course, if a bank systematically misjudges the default risk of their borrowers, they may have a bigger problem that their assets (future loan repayments) won’t cover their liabilities (future withdrawals by depositors). If that imbalance isn’t corrected quickly, they will eventually find themselves unable to secure future inter-bank loans because they will have become an unacceptable default risk to the other banks.
"As far as I understand, they are not automatic and must be negotiated in the same way as any other bank loan."
Not in the slightest.
If the bank doesn't take over the deposit in the source bank, then their customer doesn't get paid. At which point they will close their account and move to the source bank. That's a deposit outflow they won't want to have.
Both the source and the destination bank have an interest in ensuring the payment clear. Therefore it does.
Inter bank loan negotiation is about shuffling the risk around for a price afterwards.
"reserves are actually transferred between the two bank"
Reserves don't exist in aggregate. Central banking is a collateral optimisation of correspondent banking.
There was no such thing as reserves in the UK banking system for three hundred years, for example.
Correspondent banking is the base for payments, and is still used for most international currency payments - even with the advent of the CLS central clearing mechanism.
Banks don't create loans from nothing.
(And if banks could create loans from 'nothing', so could any other company that can issues bonds.)
There have been episodes in history with very lightly regulated banks, and they were very stable banking systems by and large. See the 'free banking episodes' in eg Canada, Scotland, Australia and China. There was no 'creating loans from nothing' that needed to be regulated away.
They do.
DR Loan, CR Deposit.
Job done.
No need to issue bonds or do anything. It's just splitting the zero in accounting.
Any operation can do that. Generally there is legislation that then brings these 'deposit holders' under specific requirements.
You can do that, sure. And if that was all there was to banking, it would be a fantastic business to be in.
Alas, the whole point of taking out a loan is to spend the money on something, eg to invest it.
And once the bank's customer withdraws the deposit half of that newly created pair of anti-particles, the situation isn't nearly as symmetrical and neat anymore: the bank better have some money in the vault to be able to satisfy that withdrawal request.
(Slightly less antiquated: the customer will likely spend their borrowed money electronically, but then just means that you need to have the funds available to settle with the bank who runs the account on the receiving end of that transaction.)
Even without legislation or specific requirements, you can't just keep creating these loan/deposit pairs out of thin air. At least not, if your customers are supposed to be able to spend their borrowed funds.
"And once the bank's customer withdraws the deposit"
Withdrawing is always just transferring to another bank - even if that bank is the central bank.
Banks settle with each other by the target bank taking over the deposit in the source bank. That is how correspondent banking has worked for at least four hundred years.
Everything else is a collateral optimisation.
There is never any "money" in a vault. There might be some receipts for money, but that's about it.
If a company issues a bond and I buy it then I have to give my own existing money in exchange.
If a company takes out a loan from the bank, the bank isn’t putting up existing money, it just creates a new asset and starts accounting for it. Hence new money is created from nothing.
What stops the bank from creating too many loans is that the bank would become insolvent and all the workers have to carry their stuff out in cardboard boxes (except the execs they probably have someone to do that for them).
Sorry, your analogy doesn't work out, because the roles are reversed.
Look at the situation where a company sells me a bond, to be paid back in ten years. But instead of me handing money over to them, I give them an IOU (or credit line) that they can draw down any time they wish to.
We can create this pair of bond and IOU out of nothing, just like the bank can create deposit-loan pairs out of nothing.
However, just like with the bank, people don't borrow money to let it just sit there. They want to invest.
So they spend their deposit, and draw down their IOU.
And once your customer does that, you better have some money in your 'safe' that you can hand to them.
In the classic case, that money comes from outside deposits.
How would they go insolvent in your model?
I'm sure the executives at Chase or JP Morgan struggle to wipe the tears of loss from their eyes with 100 dollar bills once you default on a loan their underlings made to you.
The very purpose of even smaller banks is to spread risk across multiple loans and investments in such a way that a client's bankruptcy doesn't ruin them at all. Given the interest rates they charge on certain financial services, they seem to have no problem not going under themselves in most cases.
Investors like Y Combinator can pool risk, so even if most of their startups fail they're still net ahead.
Isn't this the same in most countries?
It is, but in Germany your taxes on wage is very high. It's easier to save up a financial safety net in countries with higher wages and less taxes.
Well it's high in Europe in general. And seems quite similar like in the US. That is you can use a rough estimate of 40%, meaning half the time you're working for the state. So the problem is not taxation as much as low wages. Germany has lower wages than US, Romania has lower wages than Germany. State skims half what you make anywhere. It's the absolute amount you are left with that makes the difference and that's why Americans have more money to spend on businesses than Europe and Europe has more than Asia and Asia more than Africa.
I agree, it's difficult in most countries. Germany has tons of additional laws regarding taxation too. I for myself wouldn't even want to try opening up a business solely due to the taxation expertise I'd have to look up into. Don't get me started on international business too... It's just too much. Kudos to whoever manages to get through all that as a one man business owner.
As someone running a business in Germany I think you're overestimating it. I have a steuerberater (accountant/tax-advisor) who is also doing my bookkeeping and he takes care of all that. When my UG was young paying him was a few €100s per year overhead. Today (when my company is turning over several €100Ks per year) it's a couple €1000s per year (so relatively negligible expense for my business).
There's still plenty to complain about regarding bureaucracy and red tape but don't let this alone deter you from running a business (especially not a software startup).
I might do, it's just way more work than in other countries. 90% of which I really don't want to bother with.
No. But it's complicated ... For example, income tax is charged on the employee, after the employer has been charged employer/social fees of 30-40%. And then, sale of most goods are charged ~20% VAT.
The total taxation pressure "per hour worked" is far above 40%.
Total tax wedge (including employer/social fees) for a single person with no children earning 167% of the average worker in Germany was 49.2% in 2023 according to OECD Taxing Wages. Most of the other categories they measure (a matrix of single vs married, no vs 2 children, and 67%, 100% and 167% of average wage for one of the partners w/ the other person at 100%) end up closer to the 40% mark (as low as 28.4%)...
But most people do not count employer contributions, because they are not part of the negotiated salary, and most people don't even know what they are. Yes, they of course affect how high salaries businesses will offer.
In terms of income tax and employee contributions, in the OECD scenarios Germany maxes out at 41.2% (the OECD average is 30%; the US is at 29.1%). As a comparison, Belgium is "always" worst in class on this in Europe, w/47.8%.
Overall Germany is still one of the highest tax countries in Europe, but it also has a higher difference than most countries the highest taxed (high income single earners) and families with children in total effective tax rate - for the later, Germany is much closer to the pack, to the point of being near or below the OECD average for a couple of categories.
VAT in most countries add very little, because most of your gross income does not go towards VAT rates products - for starters you're first paying tax, and then covering housing and most places exclude a number of others things from VAT as well. Depending on country and income level and spending patterns, it does add a few percentage points, but it's rarely significantly skewing the overall taxation level all that much (last time I did the numbers, at a far above average income, VAT increased my total taxation by about 4%)
The US tax levels are lower than Europe, but it mostly events out when you account for health insurance with exception of a few of the highest tax European countries (Belgium always being the extreme outlier, and Germany is usually second, at least of the OECD countries, depending on your specific circumstances)
Does GMbH not afford limited liability for loans?
Bank's tend not go give loans to newly formed GmbH without a real person being on the hook.
I've also heard first hand of banks requiring from business owners to be personally liable for the loans even for well-established, successful businesses. And when you are trying to extend your facilities, the loans are not in the 10k range..
It was mind-boggling..
If the banks gave cheap credit to businesses without any collateral or any real liability, they would quickly go out of business because of people taking advantage of them. Credit without collateral is available (e.g. credit cards), but it’s not cheap, and it’s limited in size.
We are not talking about consumer loans for financially illiterate pigeons ready to be plucked.
As stated, we are talking about established, multi-generational businesses with high-end equipment already in use, that would more than cover the necessary collateral by orders of magnitude.
It does, but it's about 10k€ and you need to meet certain requirements.
Recovering from a 10k€ loss will take some time in a country with extremely high taxes.
Then use a "UG (haftungsbeschränkt)"
And there is UG if you have no 10k€
please elaborate how germany is different in structuring risk of business failure
From what I could find it bankruptcy in Germany takes 3 years after a change in 2020, which I find is pretty reasonable and is the same length as in the US...
This was really my takeaway as well.
The finality of decisions is highly situational.
The article doesn’t hold true for me, I have used myriad chances to fail, and have so far lived 3 distinct epochs in my life, each one a life unto itself. I owe this to the simple decision of my father to buy 5 acres of raw land a couple of miles out of town and teach me to use tools.
On the basis of that I have never had to rent, I have had my own shelter (starting with a simple cabin and an outhouse) from the age of 16, and I have never been overly dependent on a job to where I wasn’t willing to walk away.
Having simple shelter made it so I could fuck around and find out until I found something that worked a little, then iterate.
I spent many years of my life intermittently in poverty, getting my food from food banks and buying expired surplus from food thrifts, gardening, etc and relying on social programs for medicine, but I was never at risk of being homeless. Always a place to fall back to.
I have parlayed that into a pretty good life, comfortable, productive, and a small economic engine that provides for several families in the community.
My advice for anyone having children: buy land if you can. Not structures, but land. A few miles out of town is fine, because vehicles and bicycles exist. Teach your kids basic carpentry, electrical, mechanical, and masonry skills. Those are the basis of civilisation.
Move to where you can do this if your local environment is too expensive or restrictive. Move to a new country if needed.
I have done this with my children and because of that, they enjoy the same benefits that I had, and are finding their way having known nothing but self determination as the fundamental principle of their lives.
Debt -Free Land you control without many restrictions, not “real estate” is what makes it possible to live better than most people do while technically being in “poverty” by income. That is what makes it possible to take risks. Risks are what makes it possible to find a working solution.
Of course, if you are born into financial privilege, that’s also a great start, but that wasn’t my case. I often struggled to even pay the (very low) property tax.
Without the freedom and willingness to take risks, and the resilience and willingness to endure hardships, you may have to endure being a servant to someone unless you are very lucky, and luck works better if you can make your own.
This might read like a “pull yourself up by your bootstraps “ rant, but it is not. For most people, they are trapped in a situation designed to keep them in service of some goal not their own. It is very difficult to escape, and impossible without the proper training for self sufficient action and the complete lack of debt (or the willingness to lose anything you owe money on) You also might have to sacrifice your comfort, security, and literally risk your life or health to obtain the foothold from which you can launch a self determined life.
That is a position of extreme privilege, but it is one that can be obtained if you want it bad enough and are willing to roll the dice, and accept the finality of failure if you do not succeed (looping back to the article).
My point is that that kind of privilege is more within reach that most people understand. But you might’ve have to be willing to give up everything at first to use it. Most people are simply not prepared for the hardship and sacrifice that entails.
Land is still cheap all over the world. Unless you live on an island, You can probably get an acre of land for a months wages at a fast food place (in the USA) within a weeks bicycle ride of where you are. But that won’t do you any good unless you know how to turn that into a place to live and work from.
The article doesn't hold true because of the MASSIVE safety net you've had.
Land, house, zero rent for a long ass time. Your ability to fail and come back is high due to that. And family support.
Yeah that’s what I said, basically. I had land. I built a cabin and an outhouse from salvaged lumber. Hauled water in 5 gallon jugs. Built up from there.
You don’t need a lot to have a huge advantage. Just a roof. And that can start with a couple thousand dollars for a chunk of land somewhere with some kind of dirt road to it that is passable at least most of the year. That opportunity still exists for many, many people.
"Move to where you can do this if your local environment is too expensive or restrictive. Move to a new country if needed."
Sounds like typical American arrogance.
Everything you mentioned about building up a piece of land from zero, is predicated on a stable legal and economic framework, that protects and values private property. And every country that has that framework, tends to have high land prices already. Try this in some non-developed country, and you'll soon see why the world is considered unjust.
lol. Sounds like typical developing nation defeatism .
I am doing it right now in a developing nation.
I settled here on Hispaniola in 2007.
I am working and living right now in Haiti and the Dominican Republic. We’re building up new infrastructure in agriculture, education, and startup incubation. We have already launched a couple of successful ventures.
Here are not the least stable places, but they’re hardly the most stable either. But the rewards are huge for those that can stomach the risks.
Anyone who wants to try this needs to watch and internalise the film “empire of dust” (2013). It’s A documentary about how to not succeed in a developing nation.
There’s basically zero competition at the early stages because, like you, no one thinks you can do anything.
My kids have established a beachhead in Mauritius and northern India, and we are looking at Madagascar and some demographically collapsing areas in the eastern United States as a possible next step.
The clown car eventually drives into a gold mine, given enough gas.
This is critical and often overlooked when it comes to fully appreciating socio-economic factors that influence a person's capacity to "succeed". People with the resources are simply allowed to fail and recover more times than those without.
This has nothing at all to do with the article.