Child: Mom how do banks make money
I was so proud of my budding little business woman. Beaming actually because we talk plainly about how money comes to us (mommy working). We talk about the ways you can get more if you work for it, or in some people's unethical case- take it. We even have talked about the unethical portion that it's not just poor people who take money from others, most often in cases like Enron and Bernie Madoff, rich people take from others more readily and more easily. We cover in great detail that for us, resources are limitedly abundant- if we budget and live frugally then there are some things that we get to do but mostly we are blessed to be able to take care of all the things we have to do.
I was delighted this came up, so I dove into this question as I do all of our questions about resources...
Child: What's that
I reached back into the knowledge acquired by my corporate finance graduate course, my econ 1 and 2 courses in undergrad, my student loan experience, my credit cards and the home loan I used to pay... I think I can do this.
Me: Well banks charge you money to hold and use your money... that is how they make money.
Child: Um that makes no sense. Why would you have to pay to use your own money?
Me: I know right, but they manage it and share it with other people and charge like a rent fee to hold it. It's like if I had $10 that I didn't need right now and you had an empty pocket. I asked you to hold that $10 for me but you charged me 3 pennies each time I wanted to take a dollar out of your pocket.
Child: That sounds small.
Me: Yes but 3 pennies for each dollar adds up... $10 = 30 pennies and $100 = 300 pennies $1000 = 3,000 pennies. Now imagine you are holding $10 or more for me and each of your sisters... You could end up making a lot of money.
Child: I see. So then how do banks make more money like make quarters and pennies and dimes?
Me: Well... The banks don't but the Federal Reserve Bank does. It issues permission for every dollar in the entire country. I think the Treasury actually prints our paper money and makes our coins. Money is given to the bank and we go to the bank or our employer to get the money we work for. (Because I'm no economist, please read more here: How Currency Gets into Circulation and also check this out: Banking Information and Regulation)
Child: Sounds like I want to be a bank.
Me: Sounds like you're a smart girl.
I literally wished I had taped this conversation. There were parts that were left out, but I wanted to share because many of us do not know how banks make money and obviously with my small knowledge base, I left out large parts of how money is made by our banking system. But I think my child has the gist of it... which is good enough for now.