Do banks really create money (credit) out of "thin air"?
There's much debate and confusion surrounding the idea that private banks can create money (credit) out of "thin air".
"...contrary to what people might think, a bank doesn't make loans, by taking the deposits of a client and then lending those deposits out. Instead, the bank creates money out of thin air."
While Krugman says:
"I often see the view that banks can create credit out of thin air...This is all wrong...Bank loan officers can’t just issue checks out of thin air."
I've spent several hours trying to find a definitive answer to this question but have yet to find one. Can you please help?
(Note: I think we need to be carefully stepped through an example to see how exactly this "thin air" idea comes about. Also this issue is sometimes conflated with the idea of fractional reserve banking but that's a separate non-controversial issue as far as I'm concerned. Also, to be clear, I'm not referring to the Fed being able to create money out of thin air--I'm referring here to private banks.)
Those who claim banks do create money out of thin air expalin as follows:
Let’s look at what typically happens, in double entry bookkeeping terms, when a bank issues a loan for 300k. Initially, it creates a asset liability pair of 300k in its own accounts. (300k,300k) (assets liability) The customer receives the 300k but also has a liability of 300k to repay the bank. The bank acquires an asset of 300k in the form of a loan but still retains 300k in liabilities in terms of its own issued IOUs.
So the bank still have (300k,300k), the borrower has (300k,300k).
This all nets to zero and, as can be seen there is no new equity created from the bank lending, but the borrower does have 300k of available liquidity. ...