When a bank lends, it creates new liquidity for the borrower, accepting in return an illiquid asset such as real estate or an intangible asset such as a credit score. This process of making illiquid things liquid is what we mean when we say “banks create deposits when they lend”.
The deposit created as a result of lending is real money as far as the borrower is concerned: it can be drawn in the form of banknotes, transferred to another account, or paid out in return for goods and services. It is indistinguishable from money the borrower deposits in their account.
But as far as the bank is concerned, deposits are merely an accounting record, not a means of settlement. Banks create deposits, but they can’t create the liquidity needed to enable those deposits to be drawn.
So when a bank whose liabilities consist mainly of deposits withdrawable on demand suffers a bank run, it can literally run out of money. Its ability to “create money” doesn’t help it. It can’t bootstrap its own liquidity.
This is what happened to Signature Bank NY. On Friday 10th March, $18.6 billion in deposits fled from the bank
Coppola Comment 9 May 2023
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