The Experience of Free Banking

Much of what economists tell each other and the public about the nature and necessity of central banking lacks historical grounding. The Experience of Free Banking, just issued in a free, enlarged second edition by the Institute of Economic Affairs in London, discusses the extensive historical experience of monetary systems with competitive provision of currency. Such systems spanned more than 60 countries and hundreds of years up until the mid 20th century. Most were stable and showed no inherent tendency toward or need for establishing a central bank.

The first edition of the book was issued in 1992 by an academic publisher, and was priced accordingly. This expanded edition, in which I have three chapters, will be available in hard copy for those who prefer physical books, and is free in PDF here.

No free banking systems exist today, but the experience of free banking is relevant to today’s debates about privately provided cryptocurrencies, central bank digital currencies, and financial regulation. It presents a challenge both to economic theory and to the way economists and historians have continued to write financial history. They have generally ignored rather than addressed the ideas and facts that research in free banking has raised over the last generation. A notable exception is CFS Advisory Board member Charles Goodhart, whose 1988 book The Evolution of Central Banks remains the most serious and comprehensive answer on the pro-central banking side.

Readers who find want to know more about free banking can start with the bibliography by Elizabeth Qiao, here. The introduction contains a short list of suggested readings. At the time she compiled the bibliography, Qiao was a student of CFS Special Counselor Steve Hanke.

FT: “Learning British Financial Stability Lessons. Seriously!”

Today, the Financial Times‘ Robin Wigglesworth released a well-researched article “Learning British Financial Stability Lessons.  Seriously!” – which covered CFS reports –

CFS will put a finer point on on aspects of the reports in two upcoming events.

Please take a look at this article and our papers, which can be found on CFS’ website-

CFS Releases New Reports on Banking Stress and Monetary Policy

A group of senior advisors to the Center for Financial Stability – Sheila Bair (Chair), Joyce Chang, Charles Goodhart, Lawrence Goodman, Barbara Novick, and Richard Sandor – undertook an assessment of the root causes of recent bank failures.

The work was done with a keen eye on present and future financial system stresses.  For instance, bond market losses continue; bank earnings remain under pressure; cumulative Fed rate hikes are now 525 basis points; the fiscal deficit is now $600 billion deeper in the red than last year; and bank stocks remain at or near post crisis lows.

The group represents a wide array of backgrounds in government, academia, and industry and a full range of policy views. While there were differences of opinions on some specific proposals, there was also strong consensus on the main drivers of the failures and key issues related to proffered reforms.

Later in the week, Randal Quarles (CFS Advisory Board Chair) will lead panel discussions with the authors on the reports’ findings.

We look forward to any comments you might have.

To view
“The Role of Monetary and Fiscal Policies in Recent Bank Failures”

“Supervision and Regulation after Silicon Valley Bank”

Extinguished Consumer Surpluses: CFS money supply measures

Wall Street Journal reporter, Rachel Louise Ensign, wrote a terrific piece on the consumer yesterday – “Americans Finally Start to Feel the Sting from the Fed’s Rate Hikes.”  The story highlights how:

– “Consumers… are discovering that, because of the Federal Reserve’s rate increases, their money gets them a lot less than it would have a few years ago.”

– “Consumers are carrying much higher [credit card] balances than they were two years ago.”

Interestingly, CFS Divisia M2 reveals another core issue regarding the sting from higher rates and tighter policy.  Swollen consumer surpluses in the aftermath of the essential post-Covid fiscal and monetary response are now extinguished.

To view “Extinguished Consumer Saving Balances – CFS Divisia M2, actual and predicted

Note: The CFS Divisia M2 measure of consumer liquidity includes currency, demand deposits, other liquid deposits, and retail money market funds.

The Federal Reserve needs to stay put on rates

Today, the Financial Times published Sheila Bair’s Opinion piece noting that:

– The Fed should feel vindicated in its decision to pause rate rises at its policy-setting meeting last month.  Although it seems poised to raise them again, the Fed should stay put.

– If the Fed does raise rates again, it could temper the impact by only raising rates on bank reserves, while leaving the rate it pays to money market funds and other non-bank financial intermediaries where it is.

We look forward to any comments you might have.

To view the full article:

Sheila Bair is a former chair of the US Federal Deposit Insurance Corporation and a senior fellow and Advisory Board member at the Center for Financial Stability.

A Story of Money, Inflation, and the CFS

At the Center for Financial Stability (CFS), we see the world differently. We see the world through monetary goggles – not at the exclusion of other variables, but from a different perspective.

Since 1) inflation proved to not be transitory after the post-pandemic fiscal and monetary response and 2) inflation remained negligible after the big money supply increases in 2009 to 2010, our perspective is essential for:

  • Officials to strengthen the financial system while more effectively promoting growth and
  • Investors to safeguard assets, manage financial institutions, or seek profits.

We look forward to any comments you might have.

Next week, CFS will release a paper on “Empirical Lessons for the Fed from Banking Instability.”

To view the full article:

US regulators are setting a dangerous precedent on Silicon Valley Bank

Former FDIC Chair and CFS senior fellow Sheila Bair penned “US regulators are setting a dangerous precedent on Silicon Valley Bank” in the Financial Times (FT).  The piece covers:

– Systemic risk determination,
– Use of FDIC insurance,
– Fed policy.

To view the piece:

U.S. Government Announces Uninsured SVB/Signature Depositors to Be Made Whole

In a joint statement, the U.S. Treasury, the FDIC and the Federal Reserve Board announced that all depositors, both insured and uninsured, of Silicon Valley Bank and Signature Bank, would be made whole for their deposits. Each bank had been closed this past Friday, SVB by the FDIC and Signature Bank by the New York State banking authorities.

The regulators described the protection of the depositors as not requiring funding from taxpayers as the funding would come from a special assessment on banks that will be paid into the Deposit Insurance Fund.

The regulators had previously said that shareholders and other unsecured creditors of the bank would not be protected (and thus could be wiped out) and that management of the two banks had been removed.

President Joseph R. Biden issued a statement to assure depositors and call on Congress and the banking regulators to “strengthen the rules for banks to make it less likely that this kind of bank failure will happen again.” Numerous other statements have been issued (see primary sources below).


First, the statement that none of the bailout will be borne by taxpayers is somewhat misleading. The bailout is not being financed by other banks buying a business that had positive going forward value. Rather, it is being financed by government-imposed regulatory fees that must be passed through and eaten by shareholders or paid by customers in higher fees or lower interest rates on deposits.  

Second, the statement raises many questions. Are all bank deposits from now on implicitly insured? Where will the no-bailout line be drawn in the future? What is the justification? That is not to say that the bailout was not reasonable under the circumstances. Had there not been one, we almost certainly would have seen additional runs on other banks and financial institutions. Depositors were very much poised to move their money from small banks to larger ones. But it will be interesting to see whether depositors begin assessing bank risk more closely going forward, just as institutional investors began to assess broker-dealer risk more carefully after 2008.

Third, the best explanation of the 2008 financial crisis was a 1986 book by Hyman Minsky called “Stabilizing an Unstable Economy.” (See The Future of Financial Regulation.) Minsky argued that periods of financial calm create a lack of focus on real risks, which in turn leads to speculation and thus to instability. The book came briefly into vogue during the 2008 financial crisis, in a period referred to as the “Minsky Moment.” 

One could reasonably argue that that the last few years have seen rampant speculation, but by the regulators, not market participants. Rather than focus on the ordinary risks inherent to our economy – money supply, inflation, price volatility – the financial regulators have become distracted by speculative risks that are of high political import, such as climate change, an issue as to which they have neither sufficient knowledge nor actionable data, nor any meaningful ability to influence events. 

The FSOC’s 2022 Annual Report (see related coverage) makes 16 references to inflation (many of them about global inflation and very little about the impact of inflation and the attempts to control it on bank risk). By contrast, there are 112 references to climate (not historically regarded as a threat to financial stability). The FSOC 2021 Annual Report managed 41 references to inflation versus 86 references to climate, a lack of attention to actual risk in 2021 that only became more pronounced in 2022. (It also is notable that SVB was particularly focused on ESG lending, not limited to climate.)  So while the regulators may have been right that climate risk is a material risk to the financial system, they were likely wrong about the reasons. The risk was that climate change distracted the financial regulators from the relative boring work of financial regulation.  

Financial regulators need to devote their attention to the ordinary and mundane matters of financial risk. Attending to mundane matters does not mean adopting a slew of new and burdensome regulations, imposing new weights on the markets to compensate for past regulatory distractions.  When the next FSOC Annual Report is published, there should be more references to ordinary risks such as inflation, interest rates, maturity mismatches and failures to diversify risk, than there are to references to climate.  

Primary Sources

  1. White House: Remarks by President Biden on Maintaining a Resilient Banking System and Protecting our Historic Economic Recovery
  2. Joint Statement by the Department of the Treasury, Federal Reserve, and FDIC
  3. House Financial Services Committee Press Release: McHenry Statement on Regulator Actions Regarding Silicon Valley Bank
  4. Senate Banking, Housing and Urban Affairs Committee Press Release: Scott Statement on Government Response to Failures of Silicon Valley Bank and Signature Bank
  5. NYS Department of Financial Services: Superintendent Adrienne A. Harris Announces New York Department of Financial Services Takes Possession of Signature Bank
  6. FRB Press Release: Federal Reserve Board announces it will make available additional funding to eligible depository institutions to help assure banks have the ability to meet the needs of all their depositors
  7. Press Release: Joint Statement by Treasury, Federal Reserve, and FDIC
  8. SEC Statement: Chair Gary Gensler on Current Market Events
  9. FDIC Establishes Signature Bridge Bank, N.A., as Successor to Signature Bank, New York, NY
  10. FDIC Acts to Protect All Depositors of the former Silicon Valley Bank, Santa Clara, California
  11. FDIC Creates a Deposit Insurance National Bank of Santa Clara to Protect Insured Depositors of Silicon Valley Bank, Santa Clara, California
  12. Financial Stability Oversight Council Meeting on March 12, 2023
  13. House Financial Services Committee: Ranking Member Waters’ Statement Following the Closure of Silicon Valley Bank

FT: Bair on Volcker and the Fed

Today, the Financial Times published Sheila Bair’s Opinion piece “The Fed must emulate the tactics of Volcker’s fight against inflation.” Sheila notes that:

  • US Federal Reserve chair Jay Powell has expressed deep admiration for the legendary Paul Volcker, yet Powell is deviating from Volcker’s methods.
  • Volcker fought inflation by restraining growth in money supply to keep monetary policy tight through two recessions to finally beat inflation.
  • For many years, the Fed has unwisely paid little attention to the huge volume of money its accommodative polices have created. It now needs to follow Volcker’s example and attack excess money supply head-on.

We look forward to any comments you might have.

To view the full article:

Sheila Bair is a former chair of the US Federal Deposit Insurance Corporation and a senior fellow and Advisory Board member at the Center for Financial Stability.

Barnett on “Why were the Fed’s inflation forecasts so wrong?”

Professor William A. Barnett – CFS director of Advances in Financial and Monetary Measurement (AMFM) – questions “Why were the Fed’s inflation forecasts so wrong?”

He then addresses limitations in the modeling approach at the Federal Reserve and – more importantly – offers ideas for the future.

To view Bill’s opinion piece…