Loans create deposits
When a bank approves a $400,000 mortgage, it does not hand over a box of cash collected from savers. It credits the borrower's account with a new $400,000 deposit — money that did not exist a moment earlier — and books the loan as an asset. The deposit is spendable immediately; the money supply just grew. When the loan is repaid, the process runs in reverse and that money is destroyed. Broad money, in other words, expands when banks lend faster than loans are repaid and contracts when they don't. This is not a fringe view: the Bank of England published a widely cited 2014 paper, "Money Creation in the Modern Economy," stating it plainly, and the mechanics are the same in the United States.
What happened to the money multiplier?
The textbook story runs backward: banks receive reserves, then lend out a multiple of them, with the reserve requirement pinning down the multiplier. In practice banks lend first — to creditworthy borrowers at profitable rates — and obtain reserves afterward, borrowing them in the market or from the Fed as needed. U.S. reserve requirements have been zero since March 2020, yet lending did not explode to infinity, which tells you requirements were not the binding constraint. The multiplier survives in introductory courses because it's easy to teach, not because it describes the modern system.
What actually limits money creation
Three things. Profitability: a loan must be worth making at prevailing interest rates, which is precisely where Fed policy bites — raise the cost of funds and fewer loans clear the bar. Capital: regulation requires banks to fund assets partly with equity, so capital, not reserves, is the quantitative constraint on balance sheet growth. And demand: banks cannot force anyone to borrow, which is why money growth stalls in deleveraging periods no matter how cheap money gets — the post-2008 decade being the canonical example.
Where the government fits in
The Fed creates base money — currency and reserves — and influences the pace of bank money creation through rates and regulation, but it does not create most of the money you use. Fiscal policy is the other channel: when the Treasury runs deficits and the checks land in household accounts, deposits are created directly, which is a large part of why M2 surged in 2020–21 (roughly 50% above its January 2020 level today) while a decade of QE alone had produced nothing similar. The distinction between reserve creation and deposit creation is the single most useful idea for reading money supply data correctly.
Related reading
Quantitative Easing and Tightening, Explained · The Money Aggregates Explained · Does Printing Money Cause Inflation?