Blame the Fed for Reagan's Spending

by Bradley Jansen April 24th, 2014 5:11 pm

A nice debate has started brewing about the records of Presidents Jimmy Carter versus Ronald Reagan on spending--thanks to US Sen. Rand Paul who again seems to be setting the terms of the debate.

Mother Jones has published a video of Rand taking issue of spending rising faster under Reagan that it did under Carter.

MSNBC has publicized the video through an interesting story here saying, in part:

It’s worth emphasizing, in case details like these make a difference, that Paul’s criticism of Reagan’s fiscal record happened to be accurate. The budget deficits were smaller under Carter than Reagan. Federal spending grew slower under Carter than Reagan, too.
But to put it mildly, Republicans don’t want to hear any of this, and they tend to be thoroughly unhappy when anyone compares Reagan unfavorably to Carter, even when the analysis is true.
before adding:
After Corn’s piece ran, Paul’s office issued a statement to Mother Jones, noting, “I have always been and continue to be a great supporter of Ronald Reagan’s tax cuts and the millions of jobs they created.”
Reason has now got into the act with a story here.  They basically confirm that Rand's facts are right before concluding, "The short version: Reagan spent like a drunken sailor and skipped out on the bill."
They even include a handy chart from Veronique de Rugy at Mercatus from here report here
Reason sums up Veronique de Rugy's (in full disclosure, she is part of the Board of the think tank that runs this blog) numbers:
As de Rugy does the math, Carter increased real spending 17 percent over the last budget of his predecessor, Gerald Ford. Over two terms, Reagan increased spending by 22 percent over Carter's final budget. On an annualized basis, then, Carter grew spending by 4.25 precent a year, while Reagan grew it by 2.75 percent. However, when expressed as a percentage of GDP, spending under Carter averaged 20.6 percent per year while Reagan averaged 21.6 percent. Spending typically really gears up in a second-term president's final years, so it's plausible to theorize that had Carter managed to stick around for eight years, he might have equaled or surpassed what the real-world Reagan managed.

For those still reading along, thanks, and you might be asking, what if anything does this have to do with free banking?  Well, I would like to posit that it is at least tangentially related in that from what I remember from the early days of the Reagan Administration, he cut a deal with Congress  on spending that would have had nominal growth but real cuts based on then projected inflation.  The blame then goes to Federal Reserve Chairman Volcker for slaying the inflation dragon much faster than anticipated so that the projected real spending cuts became real spending increases.

The St. Louis Fed published a paper by Keith W. Carlson in January/February 1989 entitled "Federal Budget Trends and the 1981 Reagan Economic Plan" (pdf) explaining that "prices were generally increasing at double digit rates."  The paper goes on to illuminate my point:

The 1981 administration forecast for inflation for the 1980—86 period was a 7.1 per-cent annual rate; the actual inflation rate during this period was 5.1 percent.

So, in conclusion, yes, Rand Paul is right to raise spending as an important economic issue and take sacred cows out for fair examination--but let's not forget that the Federal Reserve deserves its share of blame both for confusing economic planners as well as monetizing budget deficits.


Is it a currency board or a central bank? (guest post by Mike Sproul)

by Kurt Schuler April 21st, 2014 9:21 pm

(Mike Sproul responds to this post, part of a back and forth we have been having. Readers will pardon my inexpert formatting.)

A currency board gives a convenient way to explain the backing theory of money. In line (1) of Table 1, a currency board receives $100 of Federal Reserve Notes (FRN’s) on deposit, and it issues 100 of its own newly-printed paper pesos in exchange. By its nature, a currency board stands ready to redeem the pesos it has issued for the dollars it has on deposit, just as it stands ready to create and issue more paper pesos (line (2)) to anyone who deposits more dollars. It is clear from the table that whether there are 100 pesos backed by $100, or 300 pesos backed by $300, 1 peso will always be worth $1. This is an essential point of the backing theory: As we triple the quantity of pesos, we also triple the assets backing those pesos, so the peso holds its value as the quantity of pesos rises and falls. The quantity theory of money would imply that an increase in the quantity of pesos would reduce the value of the peso, because there are more pesos chasing the same amount of goods. But the quantity theory does not apply to this case, since the currency board is always able to maintain convertibility at the rate of 1 peso=$1. This idealized currency board thus gives the backing theory a foot in the door. Even someone who thinks that the quantity theory is correct for modern government-issued paper money must admit that the backing theory is correct in the case of a currency board.

Table 1


1)   $100 FRN’s………………………………..100 paper pesos

2) +$200 FRN’s……………………………...+200 paper pesos

The obvious problem of the currency board in Table 1 is that it earns no interest, and thus cannot pay its operating costs. This problem is solved in line (3) of Table 2, where the currency board prints 300 new pesos and uses them to buy a $300, 1-year US government bond. (Table 2 duplicates Table 1, except for line (3).)

Table 2


1)   $100 FRN’s………………………………..100 paper pesos

2) +$200 FRN’s……………………………...+200 paper pesos

3) +$300 bond……………………………….+300 paper pesos

With the purchase of such a bond, many of us would no longer call this institution a currency board. Currency boards are not supposed to make loans, but the purchase of a US government bond is a loan to the US government. Also, currency boards are supposed to offer immediate convertibility of pesos into US dollars. But if customers wanted to redeem all 600 of the pesos held by the public, they would have to wait for the bond either to mature, or to be sold for paper dollars. But perhaps this definition of a currency board is too literal. Currency boards often hold bonds, and they suspend convertibility every night and every weekend, and we still call them currency boards. So someone might still call our institution a currency board, even though it now looks more like a bank.

The purchase of the $300 bond doubled the quantity of paper pesos from 300 to 600, but it also doubled the currency board’s assets from $300 to $600, so the currency board is still able to maintain convertibility at 1 peso=$1. The backing theory still applies, and the quantity theory does not.

Table 3


1)   $100 FRN’s………………………………..100 paper pesos

2) +$200 FRN’s……………………………...+200 paper pesos

3) +$300 bond……………………………….+300 paper pesos

4) +600 peso loan……………………………+600 paper pesos

In Table 3, our bank/currency board lends 600 newly-issued paper pesos to a local miller, who intends to buy wheat that he will grind into flour and sell within 30 days, at which point he will repay his loan with interest. If he fails to repay, then 600 pesos worth of his property (plus interest) will be taken from him in court.

With the loan in line 4, nearly everyone would stop calling this institution a currency board and start calling it a bank. It is backing its pesos with a loan, and the loan itself is payable in pesos, rather than dollars. But the backing theory is still just as true of this bank, and the quantity theory just as false, as ever. Even though some of the bank’s assets are now denominated in pesos instead of dollars, and even though the bank has once again doubled the quantity of pesos, the bank still has enough assets to maintain convertibility at $1=1 peso. Even if all 1200 of the pesos issued by this bank were returned to the bank at once by customers demanding payment in dollars, the banker could satisfy his customers with the following steps:

1. Delay redemption of 600 pesos for 30 days until the 600 peso loan is repaid in pesos, then retire those pesos as they are received from the borrower. This reduces the number of returning pesos from 1200 to 600, and the interest on the loan can be used to compensate customers for the 30-day delay.

2. Sell the bond for $300, and use the $300 to buy back another 300 returning pesos.

3. Use the remaining $300 of FRN’s to buy back the last 300 returning pesos.

Let’s take stock of where we are. We all agree that the backing theory is true of a currency board. We have found that the backing theory remains true if that currency board buys bonds and makes loans, even peso-denominated loans. In short, the backing theory remains true as the currency board is transformed into a bank.

Now consider one last change to our bank/currency board: Let it suspend dollar-convertibility. With the peso now floating against the dollar, it might seem that the backing theory has finally been made irrelevant. But suspension of dollar-convertibility is nothing new to this bank. We have already seen that convertibility can be suspended for a weekend or for thirty days, and as long as the bank’s assets remain untouched inside the bank, the peso holds its value at $1=1 peso. Also, we must remember that the peso was initially redeemable at the bank for either dollars, bonds, or loan repayments. The bank has suspended only dollar convertibility, but bond convertibility and loan convertibility remain in force. If the public wanted to return 900 pesos to the bank, the bank could buy back all 900 pesos in exchange for its bond ($300) and its loan (600 pesos), without ever touching its dollar reserves. Dollar convertibility would only matter after the bank had paid out all its non-dollar assets.

With the suspension of dollar convertibility, our currency board now operates like a modern central bank. It never trades its pesos directly for dollars, but it nevertheless uses its bonds and loans to either issue new pesos when the public needs more pesos, or to soak them up when pesos are excessive. The central bank’s assets are crucial to the process, since a bank without assets would have nothing with which to buy back its pesos on the occasions when pesos return to the central bank. Moreover, the central bank’s balance sheet still looks exactly as it looked in Table 3: 1200 pesos are still fully backed by $600 worth of FRN’s and bonds, plus 600 pesos worth of loans. The backing theory is still fully applicable, and the quantity theory is not.

We all agree that when it comes to currency boards, the quantity theory is wrong and the backing theory is right. It’s too obvious to deny. A modern central bank is nothing but a currency board that holds bonds, makes loans, and suspends one kind of convertibility. None of these things affects the validity or relevance of the backing theory, so the backing theory is just as relevant to a central bank as it is to a currency board.


William Jennings Bryan and the Founding of the Fed

by George Selgin April 20th, 2014 8:33 am


If William Jennings Bryan is remembered at all these days, other than as the real-life model for "Matthew Harrison Brady"--the buffoonish Bible-quoting opponent of Darwinism portrayed by Fredric March in the movie version of "Inherit the Wind"-- it is as the three-time populist presidential candidate whose campaign for a revival of bimetallism,  at the long-defunct ratio of 16:1, split the Democratic party in two, and whose "Cross of Gold" speech at the 1896 Democratic Convention gave goose-bumps both to his audience and to Wall Street's plutocrats, albeit for very different reasons.

Bryan's plea for renewed coining of silver ultimately served only to assure William McKinley's victory, and to thereby pave the way for silver's official demonetization with the passage, in 1900, of the Gold Standard Act.  But though the fact is often overlooked, Bryan's influence upon the development of the United State's currency system went far beyond his failed effort to revive bimetallism.  For Bryan also played a crucial part in the paper currency reform movement that was to lead, thanks in no small way to his influence, to the passage of the Federal Reserve Act.

To appreciate Bryan's role, one must recall the circumstances that lead, during the last decades of the 19th century, to widespread pleas for the reform of the existing U.S. currency arrangement.   During the Civil War the Union, seeking to replenish its depleted coffers, passed the National Banking Acts.  Those acts provided for the establishment of federally (as opposed to state) chartered banks, subject to the requirement that any notes issued by the new banks be fully, or (at $110 nominal backing for every $100 of notes outstanding) more than fully, secured by U.S. government bonds.  

When the number of applications for national bank charters (and associated bond sales) proved disappointing, chiefly because state banks were not tempted to convert to them, the authorities responded by subjecting outstanding state bank notes to a 10% tax.  The prohibitive tax forced most state banks to either secure federal charters or go out of business altogether, with only a relatively small number managing to survive despite no longer being able to issue their own currency.  Thus by the war's end, or not long thereafter (for the implementation of the 10% tax was eventually delayed until August 1866), national banks had become the country's only suppliers of banknotes, which, together with U.S. Treasury notes ("greenbacks") also authorized during the war, made up the total stock of United States paper currency.

Because the stock of greenbacks was itself legislatively fixed, with the intention of eventually withdrawing them altogether, national banknotes were the only component of the paper currency stock that might conceivably expand, once a ceiling on their quantity was lifted in 1875, to accommodate either temporary or permanent growth in the demand for currency.  However, that capacity was undermined by the bond-security provision, which linked the total potential stock of national banknotes to the extent of the federal governments' indebtedness, and, particularly, to the outstanding quantity of those particular government bonds that had been deemed eligible for securing such notes.   Because the Treasury enjoyed surpluses for most of the years between 1879 (when gold payments were resumed) and 1893, and took advantage of them to reduce the federal debt, national banks, rather than finding it profitable to supply more currency as the nation grew, supplied less.   Total national banknote circulation, which stood at over $300 million around 1880, had fallen to less than half that amount a decade later. 

What's more, because acquiring and holding the necessary securities, with their increasingly high market prices and correspondingly low yields, was so costly, national banks were not at all inclined to acquire them just for the sake of providing for temporary spikes in the demand for currency, such as occurred every "crop moving" season.  Consequently every autumn witnessed some tightening in the money market, as farmers came to withdraw currency from rural banks, and those banks were compelled, by the high cost of bond collateral, to draw instead on their cash reserves.   Because national banking laws allowed country banks to reckon as part of their legal reserves deposits lodged with "reserve city" correspondents, while those bankers were  in turn allowed to treat their own correspondent balances in New York (the "central reserve city") as cash, Wall Street tended to bear the brunt of this tightening, which on several occasions, and most notoriously in 1893 and 1907, manifested itself in full-fledged financial panics.

The troubles stemming from our "inelastic" currency arrangements had a straightforward solution.  That solution was not, as so many monetary economists today assume (knowing as they do the solution that was actually settled upon, but lacking understanding of the  roots of the problem), a central bank.  It was simply to free national banks, and perhaps state banks as well, from the Civil-War era shackles that, owing to long-obsolete fiscal considerations, were preventing them from supplying notes on the same terms as those governing their ability to create demand deposits.   Once allowed to back their notes with their general assets, national banks could swap notes for deposits, either permanently or temporarily, without limit, thereby conserving both their own cash reserves and those of their city correspondents.   State banks, once freed from the obnoxious 10% tax, might do likewise.   Reform, in other words, was a simple matter of leaving bankers equally free to supply customers with either paper or ledger-entry promises, according to the customers' needs.

That that is precisely what the banks would have done, had they been permitted, and that it could have worked, were far from being untested conjectures.  For proof one had only to look north.  For Canada's currency exhibited precisely the sort of elasticity that it's U.S. counterpart lacked, growing steadily while the stock of national bank notes shrank, and rising and falling with the coming and going of the harvest season.   How come?  Central banking had nothing to do with it.    Instead, Canada's paper currency stock, like the U.S. stock, consisted mainly of commercial banknotes.  The key difference was that Canadian banks, unlike the national banks, could issue notes based on  assets of their own choosing.

Canada's system differed as well in other crucial respects, though ones that did not bear so directly upon it's currency's elasticity.  Chief among these was the fact that Canadian banks were able to establish nationwide branch networks, and the fact that entry into the industry was very strictly limited.  Canadian banks therefore tended to be much larger, much more diversified, and much less prone to fail than their U.S. counterparts.  An important, though often overlooked, connection exists between banks' freedom  to issue notes and their ability to establish branch networks, in that the cost of keeping additional cash reserves is among the more important costs connected to the establishment of branches.  To the extent that banks are free to issue their own notes, the need for cash reserves, whether at branches or at the home office, is greatly reduced.  Consequently, the fact that Canada's banks enjoyed a relatively high degree of freedom of note issue meant that they were also better able to exploit gains from branching.  Well developed branch networks, in turn, indirectly contributed to the elasticity of Canada's currency stock, by allowing for local clearings that substantially reduced the cost of mopping-up surplus notes.

That numerous attempts should have been made to reshape the U.S. system along Canadian lines, especially by allowing national (and perhaps also state) banks to issue "asset currency," but also by allowing for unlimited branching, shouldn't be surprising.  What is (or ought to be) surprising is the fact that none of these eminently sensible plans succeeded.  Instead, every one--including the Baltimore, Indianapolis Monetary Commission, Gage, Carlisle, and Fowler plans--was either voted down by Congress, or scuttled in committee.

I had long supposed that opposition to unit banking, from "Main Street" unit banks naturally, but also from "Wall Street" banks that profited from the correspondent business that unit banking brought, was responsible for the failure of these attempts.  But that explanation isn't entirely satisfactory, because at least some asset currency plans didn't call for branch banking.  Something else was to blame for the utter failure of the asset currency movement.  And that something else turns out to have been...William Jennings Bryan.  For if Bryan was a tireless champion of silver, he was no less unremitting in his violent opposition to any sort of bank-issued currency, and to asset currency especially.

As a Democratic congressman (1891-95), Bryan fought not only against opposition measures calling either for asset currency or for a repeal of the 10% tax on state bank notes, but also against those sponsored by the Cleveland administration itself. So far as he was concerned, state banking was just another name for "wildcat" banking; and the Constitution's clause declaring that "No state shall...emit bills of credit" meant that allowing banks of any sort to issue notes was tantamount to surrendering a sovereign power of Congress to private corporations.(1) When, in the wake of Panic of 1893, Cleveland again called for a repeal of 10% tax, Bryan

delivered an impassioned speech in which he blamed the "crime of demonetization" [of silver] for the deflation of agricultural prices following 1873 and asserted that the federal government alone should issue paper money.  He would make all government money legal tender and prohibit, as the New Deal did, the writing of contracts calling for payment in any particular kind of money.  Furthermore, he would retire national bank notes in favor of government money.(2)

Though beaten in the 1896 presidential election, and again in his 1900 bid, Bryan retained control of the progressive minority within the Democratic party, which he employed skillfully and effectively in "waging incessant war against asset currency"(3), especially by putting paid to attempts to include any sort of currency reform allowing for such currency in the Democratic platform. "If you said anything against Bryan," a representative of long standing recalled many years later, "you got knocked over, that is all."(3)

The Panic of 1907, far from causing Bryan to modify his blanket opposition to any relaxation of existing currency laws, only made his opposition to asset currency more resolute than ever, by convincing him that bankers would stoop to anything to retain control over the nation's money. Replying, in the midst of the panic, to "editorials in the city dailies, demanding an asset currency," Bryan claimed that "The big financiers have either brought on the present stringency to compel the government to authorize an asset currency or they have promptly taken advantage of the panic to urge the scheme which they have had in mind for years."(4) Democrats, Bryan continued, "are duty bound to...oppose asset currency in whatever form it may appear" as "a part of the plutocracy's plan to increase its hold upon the government":

The democrats should be on their guard and resist this concerted demand for an asset currency.  It would simply increase Wall Street's control over the nation's finances, and that control is tyrannical enough now.  Such elasticity as is necessary should be controlled by the government and not by the banks.(5)

As if not content to assail a good idea using bad arguments, Bryan went on to endorse a genuinely rotten alternative: nationwide deposit insurance:

What we need just now is not an emergency currency but greater security for depositors. ...All bank depositors should be made to feel secure, and they could be made to feel secure by a guarantee fund raised by a small tax on deposits. What depositors feel sure of their money they will not care to withdraw it.(6)

During the 1908 presidential campaign, his third and last bid for the presidency, Bryan, in deference to the party's divided opinion on the subject, downplayed the currency question, but lost to Taft anyway. Four years later, however, he was instrumental in securing Wilson's nomination, which he favored in part because Wilson seemed to echo his own beliefs in declaring, in a 1911 speech, that "The greatest monopoly is the money monopoly." When further examined by Bryan, Wilson passed with flying colors by again stating that he would oppose any currency plan "which concentrates control in the hands of the banks"(7). Wilson was thus able to secure the democratic nomination, for which he thanked Bryan by making him his Secretary of State.

By the time of Wilson's election, former advocates of asset currency had for some years given up any hope of achieving their preferred reforms, and had instead turned their attention to the alternative of establishing a "central reserve" bank, charged with supplying currency to supplement, and perhaps replace, the limited quantities forthcoming from the national banks. But here again they encountered opposition from progressives, including Bryan, who was no less opposed to reforms that smacked of European-style (or, for that matter, Bank of the United States-style) central banking than he had been to asset currency itself. The Aldrich plan, ostensibly the fruit of the National Monetary Commission's extensive deliberations, but really a scheme secretly cobbled together by Aldrich and his banker friends at Jekyll Island, was (according to Paolo Coletta) "particularly anathema to Bryan...because it called for a single, privately controlled central bank located in New York."(8) Bryan also believed--correctly--that "big financiers" were behind Aldrich's "scheme."(9)

Though he also wished to steer clear of a European-type central bank Wilson thought the Aldrich plan "about sixty or seventy per cent correct," and so had Carter Glass come up with an alternative that differed chiefly in proposing numerous regional reserve banks governed by a Federal Reserve Board. But because the proposed Board was mainly to consist of bankers, and so left them in charge of the nation's currency, Glass's plan also dissatisfied Bryan, who "was exceedingly disturbed at those provisions of the [bill] contemplating currency in the form of bank notes rather than greenbacks" (10), and who, as the most prominent member of Wilson's cabinet, was capable of killing Glass's bill, just as he'd killed previous asset currency measures. When Robert Owen, an old associate who was now chairman of Senate Banking and Currency Committee, drafted an alternative calling instead for new Treasury issues to replace existing national banknotes, Bryan naturally preferred it, placing the Glass plan, which was already encountering stiff opposition from bankers, in still greater jeopardy.

Yet Wilson managed, by means of some very clever politicking, to rescue Glass's Federal Reserve plan. To scare the bankers into supporting it he had William McAdoo, his Treasury Secretary, offer (to Glass's considerable dismay) a "compromise" that would have replaced banknotes, not with redeemable Treasury notes (as contemplated by Owen's plan), but with legal-tender notes resembling the Civil War-era greenbacks.(11) To win Bryan over, he had Glass revise his bill by making Federal Reserve Notes obligations "of the United States" as well as of the Federal Reserve banks themselves, and by excluding banker representation from the Federal Reserve Board.(12) When Glass's bill, having made it through the House Banking Committee, was attacked by Bryanite Democrats at the party caucus, Glass stunned and silenced them by brandishing Bryan's letter calling for his supporters "to stand by the president and assist him in securing the passage of this bill at the earliest possible moment" (13). Thanks to Bryan's support, the Federal Reserve Act became law just two days shy of Christmas, 1913.

And so it happened that, through his unrelenting efforts over the course of more than two decades, William Jennings Bryan, the most stalwart enemy of both private currency and currency monopoly since Andrew Jackson, helped to create a currency monopoly far more powerful than any that Jackson could ever have envisaged, and far more capable of gratifying Wall Street, at the expense of the rest of the nation, than Wall Street alone, left perfectly free from government controls, could ever have devised.

(1) Paolo E. Coletta, "William Jennings Bryan and Currency and Banking Reform," Nebraska History 45 (1964), p. 33.

(2) Ibid., p. 35.

(3) Gerald D. Dunne, A Christmas Present for the President, Federal Reserve Bank of St. Louis, p. 9.

(4) William Jennings Bryan, "The Asset Currency Scheme," The Commoner 7 (43) (November 8, 1907).

(5) Ibid.

(6) Ibid. Besides overlooking the moral hazard problem, Bryan's argument neglects the fact, crucial to a proper appreciation of the advantage of asset currency, that bank customers often wish to convert deposits into currency for reasons, like paying itinerant workers, having nothing to do with doubts concerning the safety of bank deposits.

(7) Colette, p. 41

(8) Ibid., p. 42.

(9) James Neal Primm, A Foregone Conclusion: The Founding of the Federal Reserve Bank of St. Louis, St. Louis: Federal Reserve Bank of St. Louis, 2001.

(10) Dunne, p. 11.

(11) Ibid., p. 13.

(12) Glass went along with this plan only owing to his understanding, the correctness of which Wilson readily affirmed, that the supposed obligation "would be a mere pretense," the government's obligation being "so remote that that it could never be discerned" (Colette, pp. 48-9).

(13) Dunne, p. 19.


Mises, Rothbard, and others in French

by Kurt Schuler April 17th, 2014 10:06 am

Nearly two years ago I mentioned the French economist Philippe Nataf and his small but active publishing house, Editions Charles Coquelin. Its namesake Charles Coquelin was a 19th-century French classical liberal who wrote on banking and business cycles, among other topics. The publishing house issues works by French and other thinkers in the classical liberal tradition to the present. I recently saw Philippe again, and he informed me that Editions Charles Coquelin has now published translations of Ludwig von Mises's Theory of Money and Credit and part of Murray Rothbard's Man, Economy and State, with more to come. Among the older works of the publishing house is a 2005 biography of Jean-Baptiste Say. Readers interested in ordering these works can do so through the site of Editions Charles Coquelin or, for at least some books, Amazon France.

While I am on the subject of books translated into French, it is worth mentioning that George Selgin's Theory of Free Banking was translated and published by Les Belles Lettres in 1991. It is now out of print, but used copies are available, though at high prices. Perhaps the publisher can at least bring it back as an e-book? Those who cannot read French but are interested in the French classical liberals should be aware of the 2012 book French Liberalism in the 19th Century: An Anthology, edited by Robert Leroux and David M. Hart. Here is Hart's Web page on the book.  As usual, if you want the book, do not order it directly from the publisher; you will find lower though still quite elevated prices here and here.


Free banking conference announcement

by Kurt Schuler April 16th, 2014 7:49 pm

Call for papers:
Conference: Free Banking systems: diversity in financial and economic growth
Lund University School of Economics and Management, September 4 – 5, 2014

Department of Economic History, Lund University, Sweden
For more info on the venue please see: http://www.ekh.lu.se/en

Travelling: Most conveniently to Copenhagen Airport (Kastrup)
There are frequent trains from Copenhagen Airport (Kastrup) to the city of Lund. Travelling time is approximately 35 minutes and the cost for a single journey is around 12 Euros. For more info on travelling please see: http://www.lunduniversity.lu.se/o.o.i.s/24936

Paper proposal deadline: April 30, 2014
We invite all scholars interested in participating to submit an abstract of approximately 400 words and a short bio to the main organizer Anders Ögren on e-mail: anders.ogren@ekh.lu.se

Notification of acceptance: May 30, 2014

Paper deadline: August 15, 2014
Note that as this is a pre-conference to the session S10133 at the WEHC in Kyoto August 3 – 7, 2015 papers can be preliminary at this point in time.

Conference rationale

In 1992 Kevin Dowd edited the important book “The Experience of Free Banking” gathering several historical episodes of Free Banking in a “historical laboratory”. This collective volume aimed at evaluating Free Banking as a way of achieving both banking stability as well as monetary stability. It was found that the problems usually attached to Free Banking, such as rapid inflation and banking instability, in fact were not at all the consequence of Free Banking, underlining instead that these results questioned the idea that the Central Bank’s monopoly on currency issuance is a natural monopoly. In a way this book was a continuation of the theoretical development on Free Banking made in influential works such as Smith’s “The Rationale of Central Banking” (1936), Hayek’s “Denationalization of Money” (1978), White’s “Free banking in Britain” (1984) and Selgin’s “The Theory of Free Banking” (1988) (to name a few).

As a result of the recent crisis Free banking as a way of achieving both banking stability as well as monetary stability is back on the agenda for scholarly debates. Again there are those who argue that Free Banking systems are more prone to banking instability and banking failures with less positive impact on growth than banking systems operating under a state sponsored Central Bank. But to the contrary there are those that argue that banking and monetary instability and slumps in growth due to crises are results of the increased importance of central banks.

Supporters and skeptics of Free Banking alike are using historical episodes as laboratories for empirical testing of their ideas. But to what extent are the features of the alleged Free Banking episodes comparable, not only between different historical episodes but also in relation to theory or in relation to Central Bank based banking systems. Historically many varieties of banking exists between what would be the theoretically pure Free banking system and a Central bank based system. All these varieties provides essential information about how a banking system works and why it obtains certain results in terms of banking and monetary stability and in extension in growth. Thus comparing the diversity of the development of Free Banking systems allows us to understand their different impact on economic growth.

Thus the idea with this conference is to continue the work to make historical cross country comparisons on Free Banking episodes and theories – aiming at understanding what features that are required for different stages of free or central banking and to disentangle the impact of these different variables on banking and monetary stability. We welcome scholars working on empirical cases of what is suggested to be Free Banking – whether their results seem to support Free Banking or Central Banking or a hybrid between the two.

This conference is an open pre-conference to the session S10133 at the WEHC in Kyoto August 3 – 7, 2015. Due to time constraints participation in this conference does not necessarily imply participation at this session at the WEHC conference.


Anders Ögren
Lund University
E-mail: anders.ogren@ekh.lu.se

Andres Alvarez
Universidad de los Andes

Masato Shizume

[Thanks to Lars Jonung for notification about the conference]


Why don't we have that for free banking?

by Kurt Schuler April 12th, 2014 5:49 am

In the 1990s I wrote extensively on currency boards with Steve H. Hanke of Johns Hopkins University. The subject had a vogue among economists for several years, but faded after the crash of Argentina's "convertibility" system in late 2001 and early 2002 (which I analyzed here).  Steve and I remain interested in currency boards. With Nicholas Krus, at the time an undergraduate at Johns Hopkins, we conceived the idea of a Digital Archive on Currency Boards. Nick did the most work to make it a reality, spending many hours photographing source material in libraries in Washington DC, London, and even in Canberra during a semester as an exchange student there. A number of Steve's other students also worked on the archive, for which I thank them.

The archive collects the annual reports of currency boards, financial statements in government gazettes, and other important historical sources of material. There is also a companion working paper series, not limited to currency boards, from the Institute for Applied Economics, Global Health, and the Study of Business Enterprise at Johns Hopkins. (The institute's mouthful of a name reflects that it ranges over the interests of its founders Hanke and Louis Galambos, a professor of history at Johns Hopkins who has written on everything from the Eisenhower presidency to the drug company Merck.) One of the working papers is a guide to the archive that catalogs its contents and documents the applicable copyright law in the countries of publication. Another is a study I did with a former Johns Hopkins undergraduate, Charles Weinberg, on the Paper Currency Department of the Indian government, which existed from 1862-1935 and operated as a quasi currency board for part of that period. Charlie digitized the data from source material that Nick Krus had collected and wrote an analysis. I contributed a history of legislative developments. A forthcoming issue of the Indian Journal of Economics and Business will carry an article that is a shorter version of the working paper. Other working papers have likewise made some digitized data available, and later this year far more digitized data will be released.

It would be desirable to have an analogous  archive on free banking. The task of gathering the source material would be different, because there was no single issuer of currency as there was in most currency board systems. (In a few currency board systems, currency boards issued notes alongside banks. Bank notes were sometimes restricted to larger denominations, giving the currency boards a monopoly of small denominations. The Digital Archive on Currency Boards does not cover the banks in such cases.) Annual reports of banks, financial statements published in government gazettes or commercial newspapers, reports of government bank inspectors, and other sources exist in great quantity, waiting to be collected and organized. As with the material on currency boards, most of it is out of copyright and therefore could be posted on the Internet. Material remaining under copyright could still be collected for individual use, then posted as copyright expires. This site would be one possibility for the location of the archive. I lack the time to  undertake such a task, which I think would need to be a cooperative undertaking among widely scattered scholars rather than a project that owes most of its content to just one person. A spontaneous order awaits a catalyst. Is somebody out there equal to the challenge?


Free banking in New Zealand

by Kurt Schuler April 3rd, 2014 9:30 pm

Since the revival of interest in the history of free banking begun by Hugh Rockoff's work in the 1970s on American "free banking" of the early 19th century and Larry White's 1984 book on the far freer Scottish system of the same period, economists have studied a number of other free banking episodes in some depth. New Zealand has not been among them, though it has received passing attention. We are fortunate, then, that Harry D. Bedford's 1916 dissertation "The History and Practice of Banking in New Zealand" is now available online. Until this year only paper copies were available at the University of Otago, where it was submitted for the doctorate, and a few other libraries in New Zealand. The university has digitized the dissertation and readers around the world can now find it here.

Harry Bedford was a lawyer, social scientist, and sometime member of the New Zealand Parliament whose life was cut short when he drowned in 1918 at age 40. This brief biographical sketch makes it apparent that he had abundant physical and intellectual energy that would have led to even more notable things had he lived.

(Thanks to Michael Reddell for the pointer.)


It was 20 years ago today...

by Kurt Schuler April 2nd, 2014 9:57 pm

...not that Sgt. Pepper taught the band to play, but that Lithuania adopted a quasi currency board. Actually, it was 20 years ago yesterday, when I meant to put up this post. The Lithuanians first heard about the currency board idea from George Selgin, Larry White, and me when a delegation of officials made a trip to the United States in 1990. Lithuania was still part of the Soviet Union but like many of the other Soviet republics was chafing at the bit, and Lithuanian officials were thinking about what policies to enact if and when Lithuania regained independence. Two of the places the delegation visited were Hillsdale College in Michigan, where George and Larry were attending a seminar, and George Mason University, where I was a graduate student. It was pure happenstance that George, Larry, and I were among the then very small number of people who knew anything about currency boards. In the fall of that year, George persuaded the George Edward Durrell Foundation to pay for us to visit Lithuania. We talked to the president, prime minister, and other officials, and wrote what I believe was the first detailed proposal about how to establish a currency board in the circumstances of an economy in transition from socialism. (Unknown to us until later, there had been one or two other recent proposals for a currency board in the Soviet Union, but with fewer specifics than we provided.) We visited again in 1991 with George's colleague at the University of Georgia, Joe Sinkey, an expert on banking,  just before the coup that ousted Mikhail Gorbachev and resulted in the collapse of the Soviet Union.

Lithuania did not immediately establish a currency board, opting instead for a conventional central bank. When it did not work as well as hoped, the government took a second look at the currency board idea. Within Lithuania, the Lithuanian Free Market Institute and especially its president Elena Leontjeva had kept the idea in the debate. Outside, Steve Hanke of Johns Hopkins University had become the best known advocate of currency boards and I had written a number of works with him on applying the currency board idea to other countries. Steve was named a state counselor (a position equal to cabinet rank, though unpaid) to the prime minister. Lithuania adopted not the strict currency board George, Steve, and I advocated, but a quasi currency board retaining some discretionary features the central bank already had. The system was much less discretionary than what it replaced, however.

Twenty years later Lithuania has been through more than one storm, but the currency has remained solid. As was the case with the similar system of Estonia, Lithuania's goal is to adopt the euro, which it expects to do in 2015.

George and I considered advocating free banking for Lithuania and made a case that bank regulation should be light. We lacked confidence in the capacity of Lithuanian bankers to achieve rapidly the stability that had made the best free banking systems elsewhere highly reliable, and it turned out that we were correct. It took a number of years for the banks to become stable, during which time most of the local banks failed or were absorbed by foreign banks. In the meantime, the currency gave one element of stability to the financial system. We had hoped that having taken one step away from central banking, the success of the system would lead people to consider that taking another step, to free banking, would likewise be advantageous, but it didn' t happen.

A reminiscence I wrote for the tenth anniversary of the system is here. An interview with Steve Hanke on the 15th anniversary is here.


Vienna musings

by Kurt Schuler March 30th, 2014 11:03 pm

Before I greatly reduce the frequency of my posts sometime in April, I have a backlog of items to unburden myself of. Here's one.

A month ago I visited Vienna briefly to attend a conference. I had a couple of hours free before the conference began, so I walked around the center of the city. I was particularly curious to see two places where Ludwig von Mises had lived, identified in Jörg Guido Hülsmann's sweeping biography. Alas, Mises's boyhood home, Friedrichstrasse 4, is undergoing renovation and has a big protective mesh over it to keep the plaster from falling on pedestrians. His later home, Wollzeile 24, is an undistinguished building that looks more modern than many others around it. I assume that was where Mises wrote The Theory of Money and Credit and Socialism, at least when he wasn't writing at the office. No plaque or other marker denotes the spot.

Ludwig von Mises and his brother Richard (later a renowned mathematician who became a professor at Harvard) attended the Akademische Gymnasium, Vienna's oldest and most famous high school. It is on the Beethovenplatz in a magnificent building. The alumni list includes Franz Schubert, Erwin Schödinger, and Lise Meitner (co-discoverer of nuclear fission, should have received the Nobel Prize in Physics), all of whom are listed on plaques on the front of the building. I didn't see any for the Mises brothers...apparently they were not famous enough to make the cut.

Thinking about Ludwig von Mises and his work, it occurred to me that he rarely covered the same ground twice. Many of his works had partly overlapping subjects, but if he touched on a subject again it was as part of a different enterprise. After The Theory of Money and Credit he wrote and later discussed monetary issues in monographs, essays, and other works (notably Human Action), but did not publish another full-length book on money.  I don' t know if Mises intended from the start to be a system-builder, but looking back on the books he published during his life makes it apparent that he covered a wide ground at the intersection of economics, political philosophy, and epistemology. It was not just a collection of problems that interested him; it was a group of topics that he considered vital for the future of civilization. Considered in that light, it is not so surprising that he did not publish a second full-length book on money; his time was too precious. As I have commented in a previous post, I do not think that Mises integrated his ideas on socialist calculation and his ideas on monetary theory as well as he could have. That was left to a later generation, starting with Larry White.

While I am on the subject of Vienna, I will mention this passage I recently found in Herbert Simon's book Models of My Life on Karl Menger, the mathematician son of Carl Menger the founder of the Austrian School of economics. Karl had the good sense to leave Europe for the United States in the 1930s. Eventually he ended up as a highly honored professor at the Illinois Institute of Technology (IIT) in Chicago, where Simon taught as a young man.

Toward the end of my career at IIT, I had a luncheon conversation with Karl Menger that I cannot forget. He had started his career, he said, with a deep interest in logic and the foundations of mathematics. The publication of Goedel’s famous Impossibility Theorem (1931) struck him a blow from which he never recovered. If it was impossible, as Goedel had shown, to provide wholly rigorous foundations for mathematics, what was the meaning of mathematical certainty? Menger never again worked on the foundations of mathematics. Even thinking about the subject depressed him, and as he recounted the story, he gradually subsided into a gloomy silence that continued through the lunch. (p. 101)

Aside from the interest the passage has as a record of the encounter of two brilliant minds, it struck me that this passage implies that there may be a couple of as yet unexploited sources of material on Carl Menger. Karl Menger the son had children who are American citizens and may still be alive.  Hülsmann's biography of Mises (pp. 103, 136) cites an unpublished paper by Karl about Carl in the Carl Menger papers at Duke University. Perhaps somebody interested in the history of the Austrian School can get on the telephone and try to find Carl's grandchildren, or great-grandchildren, to ask whether there is any oral history that would add to the written record?


Have we got your back?

by Kurt Schuler March 25th, 2014 10:36 pm

Here is my long promised, though not likely long anticipated, post on the “backing” theory of money.

The modern controversy over "backing" originates from this article by Neil Wallace and Thomas Sargent. In the article they offer “ a simple model that is compatible with the principle of finance theory that assets are valued according to the streams of returns that back them” and appear to endorse that principle as a basis for explaining the value of money.

“Backing” clearly applies to certain cases but to my mind it just as clearly cannot serve as a general explanation of the value of the monetary base without stretching the idea so far as to make it a metaphor so vague as to have little use.

Currency boards are cases where the idea of backing is useful. Currency boards are established to provide credibility for the local currency by backing their notes, coins, and deposit liabilities (if any) 100 percent or slightly more in high-quality foreign assets. In principle, 100 percent foreign reserve backing means that a currency board can liquidate almost immediately and exchange all of its notes, coins and deposits for foreign currency at the fixed exchange rate it maintains.

For central banks, the idea of backing is less useful as an explanation of why the currencies they issue have value. Central banks can become technically insolvent with little effect on the currency, as some in fact have. (For a discussion of central bank insolvency, see this paper by Willem Buiter. Maxwell Fry’s good book Money, Interest and Banking in Economic Development also treats the subject.) As an economist I met years ago said of such cases, “The assets of the central bank are garbage; the liabilities, everyone believes in.”

There are also cases where fiat monies continue to circulate and retain value even in the absence of any politically powerful issue. Such cases happen most often during or just after wartime, when, for instance, an occupying army that has lost the war withdraws and leaves its currency behind. For example, after World War I war ended, German occupation currency continued to circulate in what are now Poland and the Baltic states during a kind of interregnum. In such cases, if the new government does nothing to hinder the currency’s use, the currency can continue to circulate even though the original issuer will not redeem it for anything.

One can reply that in the cases of insolvent central banks, occupation currencies whose occupiers have left the scene, or other examples that may be given, the currency retains value because it is either backed by the assets of the whole of the government, not just the central bank, or that in the case of an occupation currency that people expect it to receive such backing from the new ruling government. To me, that is stretching the metaphor of backing to the point of useless vagueness. A fiat currency accepted by the government in payment of taxes is not “backed” by tax revenues or even by the general assets of the government in the sense that a currency board is backed by its reserves. Holders of the fiat currency cannot necessarily redeem it for any external asset at a set rate upon liquidation.

What is the alternative, then? It is that value is based on acceptability. An unbacked currency can retain its value if people continue, for whatever reason, to accept it in payment and to hold onto it as a store of value. Conversely, a fully backed currency may not be acceptable and may not serve as a true money. As I have mentioned in previous posts, it is legal for U.S. banks to issue notes, but I cannot imagine that a bank note issue denominated in Argentine pesos, fully backed with Argentine government bonds or even with Swiss bonds segregated from the bank’s other assets, would circulate in the United States.

* * * * * * * * *

Mike Sproul has the right of a guest post in reply if he wishes to use it. After that, I may or may not offer a final comment. I am now busy with a book (on currency boards, not free banking) and other projects and will be for many months, so instead of posting approximately weekly, I will be far less frequent. Without intending it I became the most frequent contributor to the blog. The editors have received my ideas for continuing a flow of content, but it is up to them whether to keep up the flow or let the blog peter out.

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