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exploitations of banks

exploitations of banks

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Published by abdakbar

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Published by: abdakbar on May 28, 2009
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Banking System
is afinancial institutionthat acts as a payment agent for customers,and borrows and lends money. In some countries such asGermanyandJapanbanks are the primary owners of industrial corporations while in other countries such as theUnitedStatesbanks are prohibited from owning non-financial companies. Citing chequesdeposited to customers' current accounts. Banks also enable customer payments via other  payment methods such astelegraphic transfer ,EFTPOS,andATM. Banks borrow money by accepting funds deposited on current account, accepting termdeposits and by issuing debt securities such asbanknotesandbonds.Banks lend money  by making advances to customers on current account, by making installment loans, and by investing in marketable debt securities and other forms of lending.Banks provide almost all payment services, and a bank account is consideredindispensable by most businesses, individuals and governments. Non-banks that provide payment services such as remittance companies are not normally considered an adequatesubstitute for having a bank account.Banks borrow most funds borrowed from households and non-financial businesses, andlend most funds lent to households and non-financial businesses, but non-bank lenders provide a significant and in many cases adequate substitute for bank loans, and moneymarket funds, cash management trusts and other non-bank financial institutions in manycases provide an adequate substitute to banks for lending savings to.
Are banks exploiting the poor?
The banks have been charged with exploiting the poor with usurious interest rates andthreatening the borrowers by forced loan recovery, practices, the combined effect of which forced the debt-ridden poor to suicide. banks were turning out to be worse thanmoneylenders by charging interest rates in excess of 20%.Till recently, micro-credit had the determined support of the government and donors. Asunbelievable amounts of cash flowed to the rural poor, the eradication of poverty seemednot too far away. In reality, however, such incredible cash mobilization has meant little interms of average savings per member, which stood at a meager Rs 377.Micro-credit has been designed to keep savings low, such that the credit cycle can moveuninterrupted. The self-help groups are known to charge interest in excess of 24% tosustain group profitability. This has been possible through a bank linkage that provides bank loans to these groups at around 11% interest.At a prime lending rate of around 11%, providing financial services to SHGs is otherwiseunviable for most commercial banks. No wonder, despite its claims, micro-creditconstitutes less than 15% of all commercial bank lending in the country, So by default, banks have gained a client base of over 200 million rural families. Enjoying political
 patronage on the one hand and poor enforcement of regulations on the other, banks hashad the best of both in exploiting the poor.But proponents of micro-credit hold that banks are indeed serving the poor. Banks further contend that just because the prime lending rate is currently around 11% why should ahigher rate of interest be considered `exploitative?? The higher rate of interest is justifiedkeeping in mind the scale of providing services to rural areas.It is evident that when it comes to economics, banks keep their interests up-front. Poverty by all means makes good business sense to them. Otherwise how could these MFIs becharging interest in excess of 20%, knowing well that no business can generate profits atsuch rates of interest on the capital? Clearly, the strategy has been to keep the poor andthe vulnerable in the perpetuity of debt-credit-debt cycles.Since higher interest rates on micro-credit do not provide scope for savings as also for investing in insurance, the dominant risk-covering factors for the poor, micro-credit trapsthe poor into a debt-cycle. NSS (National Sample Survey) data reveals that ruralhouseholds account for 63% of the country’s overall aggregate outstanding debt of Rs177,000 crore. Thanks to the micro-credit revolution, the incidence of indebtednessamongst rural households is 27%.The crucial question remains: did the government not know the modus operandi of MFIs?Isn’t it an open secret that micro-credit loans earn interest in excess of 20%? Hasn’t theincidence of borrower harassment been on the rise in both rural as well as urban areas?Having been in the business of creating self-help groups and promoting micro-financeinstitutions, the government cannot absolve itself from responsibility for this mess.It must surprise many that micro-finance was presented as an alternative to liberate therural poor from the clutches of traditional moneylenders, not knowing that one day thesemicro-finance institutions would put their predecessors to shame in exploiting the poor. Itis time to re-examine micro-finance from the perspective of protecting poor ruralhouseholds.
Why fractional reserve banks, by their very nature, are always tempted to expandcredit. And why fractional reserve banks in a free banking system are underimmense pressure to introduce a central bank?
The problem of the tragedy of the common people always appears when property rightsare defined improperly. In the case of fractional reserve banking, bankers can infringe on property rights because it is not clearly defined who owns the deposit.When customers make their deposits, the promise is that the deposit is always availablefor withdrawal. However, the deposits, by the very definition of fractional reserve banking, are never completely available to all customers at one time. This is because banks will take a part of these deposits and loan them out to other customers. In other 
words, they issue fiduciary media. By issuing more property titles than property entrustedto them, the banks violate the traditional property rights of their customers.Banks that infringe upon and abuse the property rights of their clients can make verygood profits. The temptation to expand credit is almost irresistible. Moreover, they willtry to expand credit and issue fiduciary media as much as they can possibly get awaywith.This credit expansion brings about another typical feature found in the tragedy of thecommons—external costs. In this case,
everyone in society
is harmed by the pricechanges induced by the issue of fiduciary media. These external costs are not taken intoconsideration by the banks that try to exploit the profit opportunities, because the property rights are not properly defined and defended by the legal system.Exploitation and external costs are similar. Yet there is one important difference betweenthe two. There is virtually no limit in the exploitation of the "un owned," i.e.,environmental properties without clearly defined ownership. However, for the fractionalreserve banks, there is an important limit in the issuing of fiduciary media at the cost of the bank clients. This limit is set by the behavior of the other banks and their clients in afree banking system. More specifically, the credit expansion is limited since banks, viathe clearing system, can force each other into bankruptcy.Let us imagine a simple example. There are two banks: bank A and bank B. Bank Aexpands credit while bank B does not. Money titles issued by bank A are exchanged between clients of bank A and clients of bank B. At some point, the clients of bank B or  bank B will demand redemption for the money titles from bank A. Hence, bank A willlose some of its reserves, for instance, gold. As is every fractional reserve bank, bank A isinherently bankrupt; it cannot redeem all the money titles it has issued. Therefore, if bank B and its clients are demanding that bank A redeem the money titles to a degree which itcannot fulfill, Bank A must declare its bankruptcy.Therefore, the clearing system and the clients of other banks demanding redemption setnarrow limits to the issuing of fiduciary media. Banks have a certain incentive to restrictexpansion of fiduciary media to a greater extent than their rival banks, with the final aimto force their competitors into bankruptcy and remain alone in the market. In other words,these banks naturally want to exploit the great profit opportunities offered by theimproperly defined property rights, but they can only expand credit to the extent that therisk of bankruptcy is reasonably avoided. Competition forces them to check their creditexpansion.The question now concerns how the banks can increase the profits from credit expansionwhile keeping the risk of bankruptcy low. The solution, obviously, is to form agreementswith each other in order to avoid the negative consequences of an independent anduncoordinated credit expansion. As a result, the banks set a combined policy of simultaneous credit expansion. These policies permit them to keep their solvency, tomaintain their reserves in relation to one another, and to make huge profits.

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