Competition plus central bank backstops drive banks to over-extend credit beyond real savings

Evidence

Writing in the 1920s, Hayek and Mises drew attention to the rather obvious fact that banks make money from the extension of credit. And while each bank may wish to be prudential, each has an incentive to expand credit beyond its base (at that time, gold) reserves to stay in business against more aggressive banks and/or capture market share. Moreover, banks are encouraged to do so by the presence of a central bank that backstops the financial system with liquidity. Both these forces produce an expansion of credit beyond what “real” savings would allow and lower the interest rate on loans. — Mark Blyth, Austerity, 388

Categorization

• XREF: This is the Austrian business-cycle mechanism — the theoretical core that Blyth shows later gets weaponized into austerity discourse. Core precursor to reading Mises/Hayek against Mattei. — connects to: Banks create money out of thin air when granting loans rather than lending savings; Banks create money ex nihilo, so credit not savings finances investment — Fanny Pigeaud_ Ndongo Samba Sylla, Africa’s Last Colonial Currency, 139
• DEFINE: Establishes the Austrian credit-expansion mechanism that the chapter will build the crisis narrative on.

Broader Connections

• Banks create money out of thin air when granting loans rather than lending savings #qualifies (0.80)
• Banks create money ex nihilo, so credit not savings finances investment #qualifies (0.80) — Fanny Pigeaud_ Ndongo Samba Sylla, Africa’s Last Colonial Currency, 139