The current banking system has a reputation for being somewhat corrupt and unable to manage the money deposited in its banks. A poorly functioning banking system invariably affects the entire economic system of a country. In this conference, Lawrence H. White explains how the free banking system works: what the role of banks is and how the public’s money is managed profitably. In other words, how freedom enables institutions to succeed. White explains that banks maintain reserves in their vaults to create confidence in their users. He also describes what happens when financial institutions fail to have sufficient reserves to liquidate the notes they have issued. Two contrasting views are presented to explain this scenario: free banking and central banking. Finally, White comments on the principal arguments against free banking. He explains the risks of bank runs, explaining why they occur and what banks can do to avoid them.
Lawrence H. White
Lawrence H. White is an expert in banking and monetary policy. He is professor of economics at George Mason University and the F. A. Hayek Professor of Economic History in the department of economics at University of Missouri – St. Louis. His teaching and research areas include economic history, monetary theory, money and banking, and history of economic thought. White holds a PhD and a MA in economics from University of California at Los Angeles; he also received his AB in the same area from Harvard University. He is visiting professor at Universidad Francisco Marroquín.
Business School Building, EN-601 Universidad Francisco Marroquín Guatemala, June 24, 2009
A New Media - UFM production. Guatemala, June 2009 Camera: Manuel Alvarez, Jorge Samayoa; digital editing: Luis Barrueto; index and synopsis: Sergio Bustamante; content revisers: Daphne Ortiz, Jennifer Keller; publication: Mario Pivaral / Carlos Petz
This work is licensed under a Creative Commons 3.0 License Este trabajo ha sido registrado con una licencia Creative Commons 3.0
Slides
Content
Initial credits
Introduction
Money issued by the banks in the monetary system
Money multiplier
Required reserve ratio
Money issued and bank reserves
Free banking versus central banking
Inside money is redeemable for some basic reserve money
Banks have no monopoly power in the markets
Banks practice par acceptance
Purchasing power money (ppm) in a small banking system
Bank balance sheet
Assets
Risk-return tradeoff in reserve holding
Liabilities and equity
Notes in circulation
Deposits
Neil Wallace
Keeping notes in circulation
Balance sheet constraint
Bank profit function
Expected liquidity cost
Choices
Distribution of reserve gains and losses
Profit maximization
Marginal benefits to lending equals holding reserves
Marginal benefits to lending equals marginal cost of financing
Via note-issue
Via deposits
Managing a bank of issue
Holding a bank's currency
Attracting more depositors
Anti-counterfeiting measures
Non-price competition
Correcting overissue
Overissue defined
Public's reaction
Interbank clearing system
Reserve gains and losses
Reserve losses and adverse clearings
Competition versus a single monopoly issuer
Bank-issued money and nominal income stability
Leading argument against free banking
Bank runs and panics
Lender of last resort
Legal restrictions on banks
Positive aspects of bank runs
Insolvent banks
Threats of runs
Offshore banking market
Solvent banks
Runs on insolvent banks
Forbearance
Run-prone banking
"Fire sale" problem
"Me first" problem
"Sunspot" or "bubble" theory
A good theory of bank runs?
Weak banking systems
"Bad news" theory
What makes a bank contract run-prone?
Fragile contracts
Contracts that are not run-prone
Equity claims
Conditional redeemability
Solvency assurances
Adequate capital
Safer portfolios
Certification by a bank clearing house
Extended liability
Historical evidence on inherent fragility
Question and answer period
Why isn’t counterfeiting a big problem in a free banking system? Similarly, the Internet can be used to provoke a run on a solvent bank.
Should conditions of entry for new issuers be regulated?
Would you comment on the incentives in a free banking system for banks to act responsibly.
What is the purpose of intermediary institutions and banking supervision?
Final words
Final credits
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Universidad Francisco Marroquín
6 Calle final, zona 10
Edificio de la Escuela de Negocios
Oficina EN-103
Guatemala, Guatemala 01010
Teléfono (+502) 2338-7700 ext. 7876
Slides
