Banking reflux: the giant GAP in GAAP !

The Bank Reflux as a Systemic Phenomenon

by Pierre Parisien

http://www.geocities.ws/pierre_parisien_cea/pp_eng.htm

Even if every loan-created reserve left the lending bank as cheques drawn by borrowers are deposited in other banks, these assets would not leave the private commercial banking system: they would simply keep shifting from bank to bank. Some days, Bank A would lose reserves in the game and, some days, it would gain; but in the medium or long run all banks would share in the growth of assets.

If we mentally consolidate all the private commercial banks as though they were one Big Bank, the bank reflux becomes simple and easy to understand:

1.  Changes in liabilities and changes in assets must always mirror each other in quality (increase or decrease) and quantity. Borrowing form Albert Einstein we may call this the principle of equivalence.

2.  Whenever liabilities are subtracted from the Big Bank through payments by cheques, credit cards or debit cards, an equivalent amount of assets must leave the system.

3.  This can be effectuated in one of three ways:

    a) The subsidiary branches of the Big Bank (the Bank of Montreal, Scotiabank, etc.) use their virtual eraser and erase the equivalent sum from their reserves. (If a sum of money can be created by writing a number with a plus sign in front, it can be destroyed by writing the same number with a minus sign in front. BUT YOU’VE GOT TO DO IT!)

    b) The bank of Canada, our central bank, uses its big virtual eraser and erases the equivalent amount from the reserves that every commercial bank must keep in their account at the central bank. This is an extremely simple thing to do: most of the required numbers are calculated daily by our clearing house, the Canadian Payments Association.

    c) The central bank takes the equivalent sum from the account of the concerned bank and passes it on to the treasury who uses it to pay for government expenses, thus considerably reducing the tax bite (Economists call this profit from the creation of money seigniorage).

But, do the above institutions really erase the equivalent reserves every time they erase a liability?
The burden of proof is on those institutions. Some public supervising authority, such as the Office of the Superintendent of Financial Institutions, must check the books of the banks to make sure that the subtractions are done. This information should be included in the banks’ annual reports. Outside auditors should be mandated to include this dimension in their audits. The banks must not be allowed to use the tradition of bank secrecy to hide this information.

Although the present paper makes reference only to the Canadian banking system, there is little doubt that the same mutilation of double-entry bookkeeping is prevalent in all the banking systems of the developed world. If banking is thusly corrupted, then the economic system of which it is such an important and basic element must also be unsound.
Clearly, something fundamental is missing in "generally accepted accounting principles."

PERSONAL NOTE:
For four years, off and on, I’ve been pursuing this investigative line. Not being an academically trained economist, and having never worked in the banking sector, I have been aware of my limitations and I have kept in mind the old saw that "The Devil is in the details."
Therefore, seeking confirmation or infirmation, I have sent dozens of letters and e-mails, and made many phone calls to the accounting and economics departments of banks, to the Bank of Canada, to the Office of the Superintendent of Financial Institutions, to the Canadian Bankers’ Association, to the Ordre des comptables agrées du Québec, to some professors and textbook writers, and to a few chartered accountants in private practice. Throughout I have asked to be proven wrong: if I’m barking up the wrong tree, I want to be taken out of my misery and saved embarrassment! Many have asserted that I must be wrong – somehow – but all have failed to identify what actual book entries or accounting algorithms would effectively erase the matching assets when liabilities are erased.

My challenge to the above institutions and individuals is thus: "Show me the money!" Or rather, show me the book entries – the actual book entries that kill the ghost money that banks create for themselves when they create or accept a liability.