Loans would cost more under full reserve banking?

 

A popular argument against full reserve banking is that funding bank loans via equity rather than deposits (which is what full reserve involves) would raise interest rates too much because equity holders charge for the risk carried, whereas depositors do not. That sort of argument was put by the UK’s “Independent Commission on Banking” para 3.21 and by Frances Coppola in her article “Full Reserve Banking, the largest bank bail out in history” (2012).

The first flaw in that argument is that where depositors fund loans, there is still a charge for risk: it’s just that the government’s deposit insurance system carries the risk and charges for it (or at least it s*dding well should do – though given the revolving door that exists between banksters and politicians, it is clear that politicians have offered banks sweetheart rates on deposit insurance premiums in the past). Indeed, if the latter equity holders and deposit insurance system gauge the risk correctly, then in theory they’ll charge the same amount!

Second, the latter “charge the same amount” conclusion is backed by empirical evidence. That is, there is a ready market for mortgage backed securities, particularly in the US, and those securities amount to funding loans (to mortgagors) via equity! So both the theory and evidence support full reserve.

As for Frances Coppola’s idea that full reserve is a bank bailout, that’s a bit rich given that she made that claim four years after the biggest bank bailout in history: just after the 2007/8 bank crisis. And that bailout was a bailout of the FRACTIONAL RESERVE system, not a FULL RESERVE system. Indeed, there is no reason for a full reserve bank system EVER to be bailed out, and for the simple reason that banks cannot fail under full reserve.