Martin
Wolf claims full reserve would mean an end to monetary policy.
He
assumes that full reserve banks would hold only very safe assets like
government debt. That assumption is actually debatable: that is, it can well be
argued that where depositors want 100% safety, the relevant bank should back
that simply with monetary base, not government debt. But there isn’t a huge
difference between debt and base, so let’s run with Wolf’s assumption.
He then
claims that full reserve would “eliminate monetary policy” because “Public debt
held by banks would set the money supply.”
I’m baffled.
The
proportion of public debt held by commercial debt is small (2% in the US and
11% in the UK). So quite why the fact of commercial banks holding a small
proportion of debt would stop a central bank buying or selling debt with a view
to influencing interest rates is a mystery.
My source
of the 2% and 11% figure is here.
Moreover,
even if full reserve DID MEAN an end to monetary policy, that outcome would be
enthusiastically embraced by the authors of at least one of the leading works
advocating full reserve: the submission to Vickers by Richard Werner, Positive
Money and the New Economics Foundation. That submission was very explicit on
the deficiencies of monetary policy and why we should rely on fiscal policy
alone (or to be more accurate, why we should merge monetary and fiscal policy).
Full
reserve would cut funds available to borrowers or investors?
The above is silly criticism because it is so obvious. It’s a bit like telling a bicycle manufacturer that bicycles are inherently unstable, so we’d be better off with tricycles.
Advocates
of full reserve, along with bicycle manufacturers and users, have tumbled to
the above blindingly obvious apparent problems, and have solutions. They’d be
verging on mentally deficiency if they hadn’t noticed those very obvious
apparent problems.
Martin
Wolf makes the above criticism when he says “the supply of funds to riskier,
long-term activities would be greatly reduced if we did adopt narrow banking”.
Wolf
concentrates (to repeat) on what he calls “long-term activities”, while Diamond
and Dybvig (DD) concentrate on shorter term loans (p.65-6). But that difference
is unimportant. The important point is that implementing full reserve would, at
least initially, constrain bank activities and thus reduce lending (probably
both long and short term).
But
that’s no problem because any deflation stemming from such reduced lending can
be countered by having government and central bank create and spend new money
into the economy. And one side effect of that is that everyone would have more
money, thus people and firms would NOT NEED TO borrow so much. I.e. total debts
would decline.
So the
crucial question is: which system gives us an optimum or nearer optimum
allocation of resources: a “high debt, high lending” system under which bank
lending is underwritten by, and thus subsidised by taxpayers, or a lower
lending / lower debt system (full reserve) which requires no subsidy?
Well
that’s an absolute no-brainer for anyone who has got as far as GCSE in
economics. That is, subsidies of so called “commercial” entities are completely
and wholly unjustified. Period. Full stop. End of. Finito.
Forgive
me for flogging a dead horse, but the mere fact that fractional reserve cannot
do without a taxpayer backing means that fractional reserve is kaput. It’s in
check mate. In the words of Monty Python, “Look, matey, I know a dead parrot
when I see one, and I'm looking at one right now.”
Incidentally,
the reason why it’s virtually impossible for a full reserve bank to fail is
that, first, as regards money which depositors want to be 100% save, that is
not invested at all – or is only invested in ultra-safe securities, like
government debt. And second, as to money which depositors want loaned on or
invested, depositors carry most of or all the costs if and when those loans or
investments go wrong.
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