How do Banks Make so Much Money, Anyway?

CBC journalist Andrew Chang is known for his unique ability to break down complex topics, for his ‘About That’ program. He has recently posted an outstanding segment on how Canada’s big banks make so much money. Centre for Future Work Director Jim Stanford was one of the experts interviewed for the show.

The segment explains that a widening gap between the interest rates bank pay on money deposited in banks, and the interest they charge for mortgages and other loans, was a big driver of record profits. This year, however, an even bigger factor was income on investment banking, wealth management, and other financialized activities – in essence, capturing some of the cream from the current AI stock bubble.

One nuance that is hard to explain in a short segment is that the banks’ “net interest margin” is not solely the difference between what banks pay on Canadians’ savings accounts (currently almost nothing), and what they charge for loans. In Canada’s endogenous credit monetary system, banks don’t actually need your savings to lend out in the first place.

Issuing new loans comes first, with new credit money created by a simple computer entry. Personal deposits are handy for the banks (and cheaper for them than other forms of liquidity, like borrowing on wholesale credit markets), but not necessary. As new credit is spent, it flows through the banking system, creating deposits in all banks. Banks can easily settle overnight cash balances with other banks, or when needed by borrowing from the Bank of Canada.

Banks literally have a license to create money out of thin air. No wonder they’re profitable! It’s generally beneficial for an economy to have strong, stable banks, and that’s why some calls to break up bank into smaller, more scrappy competitors may not actually be sensible (those small, scrappy banks are more likely to engage in riskier activity, and more likely to face instability in the event of an economic downturn). Credit unions are a good, democratic alternative to commercial banks for personal and small business banking. And private banks should be more accountable for how they use their unique (and profitable) power: including through better regulations on fees and access to credit, requirements to fund domestic investments (including affordable housing or environmental projects) …and they should certainly pay higher taxes on their profits.