The fractional reserve method of banking originated with the goldsmiths—the predecessors of our
present bankers. It is the method of banking in use today. Briefly, it is a system whereby bankers
maintain as reserves only a fraction of the amount needed to meet all the claims against them. (The vast
bulk of the claims against the banks are the deposits you and I hold. These are obligations which the bank
must pay upon our demand.) The goldsmiths struck upon this method by noticing that the people who
deposited gold with them for safekeeping only claimed a small portion of this gold at any one time.
Therefore, the goldsmiths realized that they could lend out a good portion of the gold left with them.
They then made loans, which in fact were not of gold but warehouse receipts for gold. These receipts
circulated as money. Notice, the gold—actually the certificates of ownership—being loaned by the
goldsmith was not his to lend. He did not own it. In other words, the goldsmith wrote receipts to people
who were not depositing gold, i.e., to borrowers. so receipts for more gold than the goldsmith actually
had in his vaults were circulating. The goldsmith had only a fraction of the amount of gold needed to
meet the claims against him. This is the fractional reserve system. When the banks of the United States
kept their reserves in gold, their reserves amounted to only a small fraction of the amount of money they
had issued, all of which was guaranteed to be redeemable in gold.
Thank you for reading.