“Banish Fractional Reserve Banking for Real Reform”

. . . says Thomas Mayer, a former IMF economist and former Chief Economist of Deutsche Bank Group and Head of DB Research, and now a Deutcshe Bank Senior Advisor. In a letter today to the Financial Times, Mayer writes:

But no reform can make banking really safe as long as the industry operates within a fractional reserve system, where banks create “inside” money (for example sight deposits) by extending credit and promise to exchange this against “outside” money at any time on demand.

Mayer goes on to cite Austrian monetary and business-cycle theorist Jesus Huerta de Soto on the causal connection between fractional reserves and banking crises throughout history. He points out: “Since there is no single state in the eurozone able to bail out banks in a systemic crisis, a banking regime without state backing is needed.” He concludes his letter with a four-step plan for “comprehensive” banking reform that would implement just such a regime:

First, define as safe an asset that can be converted any time and under any circumstances at face value into legal tender. Second, create safe (“insured”) deposits by requiring banks to back them fully with reserves at the central bank. Third, create a cascade of loss-absorbing bank liabilities, starting starting with bank equity and ending with investor deposits (not subject to the 100 percent reserve holding). Fourth, make banks treat eurozone government bonds as assets that can default and help them to reduce their holding of these bonds.

Mayer discusses his proposal for 100 percent reserves in more detail in a policy paper published by the Centre for European Policies Studies.

HT to Toby Baxendale.

Comments

  1. So if I choose to put my money in a fractional reserve bank, in the interest of getting higher interest and having greater assurance that the bank will not lose its assets in a robbery, then the libertarians here at mises.org will step in to protect me from myself. Hmmmm.

    • No, but this bank simply cannot issue banknotes/create deposits disguised as money proper so to not dupe other market participants into taking them on face value. Currently fiduciary media issued by banks are made money with government fiat and legal tender laws to be accepted at their face value. This is simply dishonest.

    • Who said anything about protecting you from yourself? The point is to protect the rest of the world from being swindled when the bank simultaneously allows both you and some third-party borrower to spend the same unit of money.

      • If I deposit 100 oz of silver in the bank, and the bank issues 1 oz paper IOU’s to me, then the paper IOU’s are fully backed by the 100 oz. of silver. If the bank then lends 80 oz to a borrower, then the bank will place a lien on (at least) 80 oz worth of the borrower’s property. The first 100 oz of IOU’s are backed by the 100 oz of silver, and the next 80 oz of IOU’s are backed by the borrower’s property, just as if 80 oz of the borrower’s property had been coined into money.

        Each IOU is backed by 1 oz worth of stuff, and so will remain worth 1 oz, even as the money supply increases. Thus, nobody is swindled.

        • Correction: The bank doesn’t issue the second 80 oz of IOU’s, but instead releases 80 oz of silver to the public. So in total, the bank has 20 oz of silver plus 80 oz of the borrower’s property as backing for 100 oz of IOU’s. Each IOU is backed by 1 oz worth of stuff.

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