Fractional banking works as well with bitcoins as with any other asset.

Person A deposits 100 BTC at the bank and gets interest. He can withdraw them at any time.

Person B loans 90 BTC from the bank and pays interest. He have to pay back within a year.

The bank only has 10 BTC but have promised to be able to give A back his full 100 BTC at any time. This makes it a fractional reserv bank with a 10% reserv. If A want to withdraw more than 10 BTC the bank will have to take a loan to cover it, but as it isn't sure the bank can get this loan A can lose his money.

Some argue that the total ammount of BTC in this example is now 190, and that the bank has fraudulently created 90 BTC. If this is the case or not is a matter of definition but as long as the depositer knows about the fractional nature of the bank, I would not call it fraud.