What if a bank ignores an account "freeze"?
September 16, 2010 10:19 AM   Subscribe

I read here that Cuba has frozen about $1 billion in foreign businesses' bank accounts and is now offering to dribble the money back to the account holders over five years at a piddling interest rate. But this is all "electronic" money, right (as opposed to physical cash)? What's to stop an account holder and a non-Cuban bank from ignoring the freeze, "transferring" the money electronically, and then simply acting as though the funds were actually transferred?

I know this is a naive question and that there's a good reason this wouldn't work, but I could use an explanation geared toward someone with no understanding of electronic banking.

Suppose my U.S. business had its Cuban bank account frozen. Any conventional attempt to transfer the money electronically is met with a denial due to Cuban government orders.

What prevents me from approaching a U.S. bank and negotiating the following deal: the bank executes a transfer order, ignores the denial it gets from the Cuban bank, writes the transfer into its books as though it did occur, and then conducts itself as though it actually has the money? I would then issue an irrevocable declaration or something similar stating that I have no claim against the Cuban bank because the U.S. bank is now the holder of my accounts, and ignore the Cuban bank from then on.

Bonus question: What if the U.S. government passed a hypothetical "Financial Rescue Act" that compelled banks to respect transactions made in this way? I.e., U.S. banks were compelled to write transfers into their books, ignoring the Cuban banks' denials, and were also compelled to treat these funds, in their own books as well as other banks' books, as legitimate? Does this solve whatever problem prevents a bank and an account holder from doing this privately?
posted by hayvac to Technology (23 answers total) 2 users marked this as a favorite
 
What prevents me from approaching a U.S. bank and negotiating the following deal: the bank executes a transfer order, ignores the denial it gets from the Cuban bank, writes the transfer into its books as though it did occur, and then conducts itself as though it actually has the money? I would then issue an irrevocable declaration or something similar stating that I have no claim against the Cuban bank because the U.S. bank is now the holder of my accounts, and ignore the Cuban bank from then on.

The answer is, as with all things bank, money. Why would your US bank take on the risk of the Cuban government allowing the money to be released? What's to top them from extending the freeze for 10 years, or indefinitely? Why would they allow you to pretend to have money that you don't have?

More to the point, what do you have to make this deal with? Basically, all you have is a promise of some money.

It's the same as me going to them and saying "I have a trust fund that I can't get until I am 50. Please open an account and treat it as if I already have my trust fund (over which I have no control) until it is available to me". In other words, it's a loan with zero collateral, because as you don't have control over the money in the trust fund, you cannot guarantee any tangible asset to cover the loan. In your initial example, the Cuban government has the control, so only they can guarantee that the money will come back to you, not you yourself.

Bonus question: What if the U.S. government passed a hypothetical "Financial Rescue Act" that compelled banks to respect transactions made in this way?

If the US Government were prepared to underwrite the risk, then it's possible the banks would play ball, but they sure as hell won't take that risk on themselves, I'd be prepared to bet.
posted by Brockles at 10:28 AM on September 16, 2010 [2 favorites]


This sounds like it will fail where those fake check scams do: the US bank wants the money before it hands it to you, and Cuba won't hand it over. Plus, even if you could "sell" your interest in that account, it's going to be at a discount, because nobody trusts the regime.

Also, there's a US embargo and I'm not sure how that affects your plan.
posted by pwnguin at 10:31 AM on September 16, 2010


I think you guys are misunderstanding the question. He doesn't care if Cuba ever gives up the funds or not - he's asking, if the money is really just digits in a computer, why can't the US banks just increment their books with the amounts the Cubans refuse to release and cut the Cubans out of the equation altogether...

...I think!
posted by benzo8 at 10:47 AM on September 16, 2010


Response by poster: benzo8 has it right. I'm asking whether a non-Cuban bank and a non-Cuban account holder can ignore the Cuban bank freeze entirely and "shift the digits" themselves.
posted by hayvac at 10:51 AM on September 16, 2010


It seems this question could be rephrased as "Isn't electronic money purely imaginary, and can't we therefore just move it around by agreeing to pretend it's being moved around?" The answer, of course, is that no, we can't do that. Unfortunately I know I'd make a mess of it if I tried to explain why.
posted by jon1270 at 10:56 AM on September 16, 2010


What you're describing is the bank creating money in your account without a guarantee of receiving money - in other words, a loan. This is what banks do when they lend money, they just create it in your account, because the vast majority of money is just not hard currency, just digit in a computer. Theoretically, there's nothing preventing a bank from doing what you describe. There are, however, laws which require banks to hold a certain amount of money in relation to how much they have loaned out, so that they don't go bankrupt if people start defaulting on their loans.

In the scenario you're describing, you seem to be wondering why a bank wouldn't just give you money in exchange for a right to sue a Cuban bank, under Cuban law, for that money. It should be pretty obvious even to someone who doesn't understand electronic transfers why they're not going to do that. If you were a bank, would you go around giving people money today, on the off-chance of getting it back from a Cuban bank in 10 years?
posted by Dasein at 10:58 AM on September 16, 2010


The balance sheet wouldn't balance.

On the liability side they'd have your account; a liability as the bank owes you that money.

On the asset side they would have never received the funds that should balance the liability that is your account.

But by ignoring the failed transfer, and by setting assets equal to liabilities, they'd be falsifying their books under GAPP or IFRS or any rational accounting standards. This is regardless of any possible future actions they might take.

As you withdrew funds the bank would effectively be gifting you money and, as nice as bankers are (I'm one and Mrs Mutant says I'm a sweetie!) it ain't gonna happen.
posted by Mutant at 11:03 AM on September 16, 2010 [4 favorites]


What prevents me from approaching a U.S. bank and negotiating the following deal:

Nothing prevents you from approaching a U.S. bank and attempting to negotiate the deal.

Just like nothing prevents me from approaching you and asking you to treat me as if the money in your bank account belonged to me for no apparent reason.

Surely you can see why a bank would be reluctant to open a bank account in your name and just pretend that it contains money that is not there.
posted by The World Famous at 11:07 AM on September 16, 2010 [1 favorite]


Mutant, if I can ask what might be the next step in the question - since these are all just numbers in a computer, what (apart from the fact that it's illegal) is stopping the bank from creating a record that show it did in fact receive assets from the Cuban bank? If a bank wanted to just, say, make me a billionaire, and assuming that the police had no reason to look into this, what actually stops them from falsifying a digital record of receiving a billion dollars and then crediting my account a billion dollars? So that instead of it being a loan on their books, they just balanced their books and increased the money supply? Is the only problem that it's illegal?
posted by Dasein at 11:12 AM on September 16, 2010


The Cuban banks have plenty of foreign currency to back up the accounts in the banks. So it really is a non-issue. The one thing you have to understand is that Cuban banks are the Cuban government.
posted by JJ86 at 11:15 AM on September 16, 2010


what actually stops them from falsifying a digital record of receiving a billion dollars and then crediting my account a billion dollars?

Among other things, their desire to not give you a billion of their dollars stops them from gratuitously giving you a billion of their dollars.
posted by The World Famous at 11:18 AM on September 16, 2010


To put it more succinctly:

The same thing that keeps you from giving me all of your money right now.
posted by The World Famous at 11:22 AM on September 16, 2010 [1 favorite]


a billion of their dollars

This is the question - I understand why if they just credited my account it would be their money; but why is it their money if they also balance that with a false incoming transfer from another bank? The OP's question seems to be getting at why banks can't just do as they please in an era where money is mostly digital (and not backed by gold reserves or anything). So, what's to stop a bank from falsifying both sides of a ledger? (Look at it this way: you're Lehman Bros, and you don't want to fail; assuming that the authorities are idiots, why can't you just create money in your own account and make it look like it came from elsewhere?)
posted by Dasein at 11:22 AM on September 16, 2010


If the bank were to do this (give you money and pretend they received it from the Cuban bank), then they don't need the Cuban bank at all. You're basically asking "why doesn't the bank just make up some money in their computers and give it to me?" One obvious reason is that it would be the private equivalent of the federal government just running the printing presses to create money--it would lead to massive inflation due to a large increase in the money supply.
posted by fatbird at 11:31 AM on September 16, 2010


Sure, it would be hugely inflationary if banks did it a lot. But could one bank get away with it, or could a bank, theoretically, maintain sufficient reserve levels even if it were creating huge amounts of new money, just by creating new electronic deposits for itself? What I'm trying to get at is that when currency was gold-backed, when a bank received a transfer (as I understand it), a certain amount of gold at the Federal Reserve was recorded as being under that bank's name. (Did the Fed ask for some proof of that transfer?) Now, without gold backing and with most money just being electronic, is there any reason that a bank could not keep itself healthy through fraud? How would that fraud catch up with it (apart from authorities discovering it and bringing charges)?

I'm hope this is a logical outgrowth of the OP's desire to know more about the nature of electronic money, and not a total tangent.
posted by Dasein at 11:52 AM on September 16, 2010


Because, at some point, someone's going to try and withdraw some of that electronic money and use it as paper money.
posted by IanMorr at 11:56 AM on September 16, 2010


Here's the deal: banks are more than "just numbers". Those numbers keep track of the vast array of deals a bank makes. They keep track of how much they owe to depositors, how much they have lent out, and how much is on reserve with a regulatory institution, etc. When the bank has less money (and assets) than it owes to the public, that's like the definition of bankruptcy. It's got the word bank right in it. These numbers sum up the contracts that determine legal consequences, like bankruptcy.

The problem with this fudging the numbers practice, then, is that there's no contract to back them up. And presumably, the person wanting to exit Cuba wants the legal right to withdraw money. As soon as you attempt to withdraw a billion fake Cuban deposit dollars, the bank that "ignored the freeze" has a problem. It has a billion dollar deposit but no billion dollar asset behind it. And that's the situation in which Lehman failed, and in which Bear failed. A bunch of people wanted their money out of Lehman, instead of rolling it over the next night, and their assets were not capable of being sold to cover it (which is why people wanted their money out).
posted by pwnguin at 12:03 PM on September 16, 2010


Try this. Go into your Quicken, or MS Money file, or log into Mint.com, or take out your old paper ledger, and make an entry for an imaginary deposit into your checking account. Imagine yourself a $50K windfall. Now, go and write a check for $50K as payment for a new sports car. Since your credit is good, the dealer probably lets you take the car, and everything is great... for a day or so. The check bounces, of course, and the car is quickly repossessed and your credit is ruined.

Imaginary money is fine as long as it sits there in your head or your ledger or your computer. It's just a game, Monopoly money. But but the moment you spend it or invest it -- the moment you use that money to accomplish something that's not confined to your head or your own computer -- you create very real liabilities that are backed by totally imaginary assets, just as if you'd driven away from the dealership in a sports car paid for with a bad check.
posted by jon1270 at 12:08 PM on September 16, 2010


Way off topic, but I'll answer this then bow out. Perhaps another question could be crafted to address this (very valid but very broad) query: "or could a bank, theoretically, maintain sufficient reserve levels even if it were creating huge amounts of new money, just by creating new electronic deposits for itself? What I'm trying to get at is that when currency was gold-backed, when a bank received a transfer (as I understand it), a certain amount of gold at the Federal Reserve was recorded as being under that bank's name. (Did the Fed ask for some proof of that transfer?) Now, without gold backing and with most money just being electronic, is there any reason that a bank could not keep itself healthy through fraud?"

Banks and regulated financial institutions are required to maintain reserves - regulatory capital - that are a function of their liabilities. There are two main types, Tier 1 and Tier 2, the differences are pretty much summed up as equity (Tier 1) vs. debt (Tier 2).

Now in your model the liability side is increasing without a commensurate increase in the asset side. What happens to regulatory capital, the funds that are intended to protect the institution against collapse? As the liabilities increase so does the regulatory capital. Where would this come from?

That seems to be the open question here; at the end of the day, someone has got to pay. Pay the individual who is withdrawing phantom deposits, and pay the regulators who will shut the institutions down if they blow regulatory capital (you seriously don't want to do that).

Who would step up? That taxpayer? I don't know where the money would come from. But if an institution blows it's regulatory capital the FDIC, for starters, steps in. These days the FDIC is nervous and pre-emptive. Don't even THINK of violating capital adequacy!

Finally, at the risk of this question drifting way off topic, gold was by no means a stable backing for currency. The US, for example reduced the amount of gold backing the dollar when it suited them. Bits or bullion, it makes no difference what backs your currency if the will for a strong, stable monetary unit isn't there.
posted by Mutant at 1:57 PM on September 16, 2010 [1 favorite]


Yes, those bits of "imaginary" money actually represent "real" money, somewhere, somehow.

What is happening at the Cuban end is that Havana is, without so much as a how-do-you-do, borrowing money from you and promising a small return on your "investment" in Cuba. This means that it is no longer a liquid asset.

It's a little like when you deposit a big check and your bank puts a hold on it until it actually receives the funds from the source bank. They could give you the money now, and many banks actually will give you some of the money now, but it's essentially a loan -- part of the same mechanism as an overdraft line of credit. Sure, you've been a good customer all these years, and they know next week you should get a paycheck, but when they let you write that rent check over your balance they have just given you a loan.

You may well find a bank that will have a similar policy with regards to these Cuban funds. But it is still a loan and should come to you with some strings attached -- for instance, if the Cuban government defaults, then you're on the hook for the money you spent.
posted by dhartung at 3:00 PM on September 16, 2010 [1 favorite]


One word: Auditors.

No banks exist in a vacuum. They get the money from somewhere (the treasury) and send it somewhere. It would quickly fall apart if the money can't be traced back to its source, and verified by a debit on one party's books, and a credit on another's.
posted by blue_beetle at 3:10 PM on September 16, 2010 [2 favorites]


...Imaginary money is fine as long as it sits there in your head or your ledger or your computer. It's just a game, Monopoly money. But but the moment you spend it or invest it -- the moment you use that money to accomplish something that's not confined to your head or your own computer -- you create very real liabilities that are backed by totally imaginary assets, just as if you'd driven away from the dealership in a sports car paid for with a bad check.

Somebody please explain this concept to the U.S. Federal Reserve Bank. They seem to be able to use imaginary money to buy U.S. Treasury debt without any immediate repercussions...
posted by de void at 7:58 AM on September 17, 2010


Somebody please explain this concept to the U.S. Federal Reserve Bank. They seem to be able to use imaginary money to buy U.S. Treasury debt without any immediate repercussions...

Well, first, there are immediate and long-term repercussions to the creation of new currency by the Federal Reserve, which they acknowledge and fret over openly. Second, that's actually part of their official role, so it's really not the same as a bank cooking its books.
posted by The World Famous at 9:05 AM on September 17, 2010


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