"Assets" [in a bank] are their "products" like in any other business. Products are produced by land, labour and capital like in any other business.
Not so. The (main) economic function of a bank is that it reduces the spread between what the buyer pays and what the seller receives by acting as a clearing house.
If you buy something on credit, the price you see is the full discounted value of the cash flow that you commit to paying the seller. But the price that the seller gets is only the discounted cash flow minus the credit risk that you represent. The bank is, in a functioning monetary system, a smaller credit risk to the seller than you are (because banks don't usually go bust in a well-governed monetary system). And you are a smaller credit risk to the bank than you are to the seller (because you are only a credit risk to the clearing house on your net position, whereas to the seller, you are a credit risk on your gross position).
In principle, the function of clearing house has nothing to do with land, labour and (real) capital - it is a purely monetary construct. In the real world, functioning as a clearing house requires, obviously, organisation, which in turn requires land, labour and capital - but organisation is poorly represented in double-entry bookkeeping.
- Jake If you only spend 20 minutes of the rest of your life on economics, go spend them here.
The bank backs that guarantee with a proprietary pool of capital at a level specified by the BIS.
The Credit Crunch came about because banks outsourced that guarantee (aka credit risk) to investors:
(a) Totally - through securitisation;
(b) Temporarily - through credit default swaps (CDS), which are essentially time limited guarantees;
(c) Partially - through credit insurance by the likes of Ambac; and
(d) toxic cocktails of the above, such as CDOs and CDO squared.
Since these 'shadow bank' investors have withdrawn from the market, and the level of leverage which banks may build on their own capital is also resricted, it follows that the pyramid of credit, and hence the asset prices inflated by that credit, is now drastically reduced for decades to come, if not permanently.
The net 'interest' margin between the interest a bank charges to borrowers and that which it pays to depositors must cover operating costs and default costs, with any surplus being available for distribution to shareholders.
To the extent that operating costs relate to land and labour then they are distinctly 'real world'. "Any economic unit can emit money. The serious problem is to get it accepted" Hyman Minsky
