A critical analysis of central banks and fractional-reserve free banking from the Austrian school perspective
- Jesús Huerta de Soto
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Jesús Huerta de Soto is professor of economics and politics at Universidad Complutense de Madrid, Spain. He dedicates this article to James M. Buchanan, in gratitude for his having publicly defended and supported the author when he put forward the most important ideas contained herein at the last regional meeting of the Mont Pèlerin Society, which took place in Rio de Janeiro, September 1993. The author would also especially like to give his thanks to the late Professor Murray N. Rothbard who took great trouble to make the exposition more readable, as well as to two anonymous referees, for their detailed and constructive remarks.
- F. A. Hayek,The Fatal Conceit: The Errors of Socialism (Chicago: University of Chicago Press, 1989), pp. 102–4.
- Vera C. Smith,The Rationale of Central Banking and the Free Banking Alternative (Indianapolis, Ind.: Liberty Press, 1990), chap. 12, p. 169.
- Israel M. Kirzner,Discovery and the Capitalist Process (Chicago: University of Chicago, 1985), p. 168.
- F. A. Hayek,Denationalization of Money: The Argument Refined, 2nd ed. (London: Institute of Economic Affairs, 1978), pp. 119–20. Hayek concludes, “I expect that it will soon be discovered that the business of creating money does not go along well with the control of large investment portfolios or even control of large parts of industry.” I am afraid, however, that Hayek gives insufficient recognition of the fact—central to Mises's theory of money—that free market money must be acommodity money, and that competing kinds of money are dysfunctional of the very purpose of a medium of exchange, as the free market always generates a tendency of the convergence towardone, universally employed commodity money.
- Before Mises, the most distinguished author who defended the one hundred percent reserve requirement was David Hume in his essay “Of Money” (1752), where he states that “no bank could be more advantageous, than such a one as locked up all the money it received, and never augmented the circulating coin, as is usual, by returning part of its treasure into commerce.” David Hume,Essays: Moral Political and Literary (Indianapolis, Ind.: LibertyClassics, 1985), pp. 284–85.
- On juridical considerations of the traditional legal principle in question, see not only all Title 3, Book 16 of the Digest, especially sections 7 and 8 on the bankcuptcy of bankers (El Digesto de Justiniano 1 : 606–17, esp. 112, [Spanish edition published by Aranzadi, Pamplona], but also the fine argument by the Spanish Jesuit Luis de Molina, for whom the banker with a fractional reserve “sins by endangering his own capacity to meet his debts, even if in the long run he suffers no legal difficulties because his speculations with the clients' funds turned out well (quoted fromDe Iustitia et Iure, Maguntiae , in Alejandro Chafuen,Christians for Freedom: Late Scholastic Economics [San Francisco: Ignatius Press, 1986], p. 146 n. 1–7). See also the refined conclusions of Pasquale Coppa-Zuccari included in his definitive workIl Deposito Irregolare (Modena 1901), quoted by, among others, Joaquín Garrigues in hisContratos Bancarios, 2nd ed. (Madrid, 1975), p. 365. All these considerations are also applicable to so-called financial operations with repurchase agreements at any moment and at face value (and not at a fluctuating secondary market price), since they disguise, by fraudulently using the law for a purpose for which it was not intended, what are really deposit contracts.
- Ibid., pp. 367–68.
- With regard to the class probability (objective), which is insurable, and the single event probability, influenced and determined by human action (not insurable), see Ludwig von Mises,Human Action: A Treatise on Economics, 3rd rev. ed. (Chicago: Henry Regnery, 1966), pp. 106–15; and also Jesús Huerta de Soto,Socialismo, Cálculo Económico y Función Empresarial (Madrid: Unión Editorial, 1992), pp. 46–48.
- Sir. James Steuart,An Inquiry into the Principles of Political Economy: Being an Essay on the Science of Domestic Policy in Free Nations (London: A. Millar and T. Caddell in the Strand, 1767), vol. 2, p. 301.
- David Hume, “On Money,” p. 284.
- “The Bank of Amsterdam professes to lend out no part of what is deposited with it, but for every gilder which it gives credit in its books, to keep in its repositories the value of a gilder, either in money or bullion” (Adam Smith,The Wealth of Nations [London: W. Strahan and T. Caddell in the Strand, 1776], vol. 2, bk. 4, chap. 3, p. 72).
- It is curious to observe how the bankers used all their influence and social power (enormous, in view of the large numbers of the public who received loans from them or were their shareholders) to impede and discourage the depositors from withdrawing their deposits, in the vain hope of avoiding the crisis. Thus, State Senator Condy Raguet of Pennsylvania, concluded that the pressure was almost irresistible and that “an independent man, who was neither a stockholder nor a debtor, who would have ventured to compel the banks to do justice, would have been persecuted as an enemy of society.” Letter from Raguet to Ricardo dated April 18, 1821, published in David Ricardo,Minor Papers on the Currency Question 1805–1823, Jacob Hollander, ed. (Baltimore, Maryland: The Johns Hopkins University Press, 1932), pp. 199–201); quoted in Murray N. Rothbard,The Panic of 1819: Reactions and Policies (New York: Columbia University Press, 1962), pp. 10–11.
- A brief explanation of the Austrian theory of economic cycles, together with the most significant bibliography on the topic, may be found in my article “The Austrian Theory of Economic Cycles,” originally published inMoneda y Crédito, no. 152 (Madrid, March 1980), and republished in volume 1 of myLecturas de Economía Poliítica (Madrid: Unión Editorial, 1986), pp. 241–56.
- See her article “The Theory of Free Banking,” presented at the regional meeting of the Mont Pèlerin Society in Rio de Janeiro from September 1993, especially page 5.
- Mises,Human Action, pp. 648–88.
- Ludwig von Mises,The Theory of Money and Credit (Indianapolis, Ind.: Liberty Press, 1980), p. 447.
- Ludwig von Mises, “Monetary Stabilization and Cyclical Policy,” inOn the Manipulation of Money and Credit (Irvington-on-Hudson, N.Y.: Free Market Books, 1978), pp. 167–68.
- Mises,The Theory of Money and Credit, p. 481.
- F. A. Hayek,Monetary Nationalism and International Stability (New York: Augustus M. Kelley, 1971), pp. 81–84.
- F. A. Hayek,Denationalization of Money, pp. 119–20.
- See particularly Murray N. Rothbard's booksThe Case for a One Hundred Percent Gold Dollar, 2nd ed. (Auburn, Ala.: Ludgwig von Mises Institute, 1991) andThe Mystery of Banking (New York: Richardson & Synder, 1983); and his articles “The Myth of Free Banking in Scotland,”Review of Austrian Economics 2 (1988): 229–45 and “Aurophobia: or, Free Banking on What Standard?”Review of Austrian Economics 6, no. 1 (1992): 99–108.
- Maurice Allais, “Le retour à L'État du privilège exclusif de la creation monétaire” inL'Impôt sur le capital et la réforme monétaire (Paris: Hermann Editeurs, 1985), pp. 200–10, and also his most recent article “Les conditions monétaires d'une économie de marchés: des ensignements du passé aux réformes de demain,”Revue d'économie politique, 3 (May/June 1993): 319–67.
- This tradition was initiated by an anonymous 26-page pamphlet on “Banking and Currency Reform,” circulated in 1933 by Henry C. Simons, Aaron Director, Frank H. Knight, Henry Schultz, Paul H. Douglas, A. G. Hart and others and subsequently articulated by Henry C. Simons, “Rulesversus Authorities in Monetary Policy,”Journal of Political Economy XLIV, no. 1 (February 1936): 1–30; Albert G. Hart “The ‘Chicago Plan’ of Banking Reform,”Review of Economic Studies 2 (1935): 104–16; and Irving Fisher100 Percent Money (New York: Aldelphi, 1936) culminating in 1959 with the publication of Milton Friedman's bookA Program for Monetary Stability (New York: Fordham University Press, 1960).
- Mises,Human Action, p. 443. In short, according to Mises, it is a question of replacing the current tangle of administrative banking legislation by clear and simple articles in the commercial and criminal codes.
- Thus, for example, see the works of Lawrence H. White,Free Banking in Britain: Theory, Experience and Debate, 1800–1845 (Cambridge: Cambridge University Press, 1984) andCompetition and Currency: Essays on Free Banking and Money (New York: New York University Press, 1989); those of George A. Selgin,The Theory of Free Banking: Money Supply under Competitive Note Issue (Totowa, N. J.: Rowman and Littlefield, 1988) andThe Experience of Free Banking, George A. Selgin and Kevin Dowd, eds. (London: Routledge, 1992); and those of Kevin Dowd,The State and the Monetary System (New York: St. Martin's Press, 1989) andLaissez Faire Banking (London: Routledge, 1993).
- Quoted by Mises inHuman Action, p. 446.
- Only in the sense of indirectly getting closer to the ideal should we understand Cernuschi's position, mentioned by Mises (inHuman Action, p. 446), when in 1865, he said, “I believe that what is called freedom of banking would result in a total suppression of banknotes in France. I want to give everybody the right to issue banknotes so that nobody should take banknotes any longer.”
- The practical problems posed by thetransition from the current monetary and banking system to a system in which, at last, the creation of money and the banking business were completely separated from the State have been theoretically analyzed and solved by, among others, Murray N. Rothbard in hisMystery of Banking, pp. 249–69.
- A critical analysis of central banks and fractional-reserve free banking from the Austrian school perspective
The Review of Austrian Economics
Volume 8, Issue 2 , pp 25-38
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