Here’s a letter of mine that appears in today’s Wall Street Journal:
By portraying central banks as necessary to prevent banking crises, John Steele Gordon misreads banking history ("A Short Banking History of the United States," op-ed, Oct. 10). It’s true that between 1836 and 1914 (when the Federal Reserve was created) the U.S. had no central bank. It’s also true that during those years Americans suffered several banking crises. But the reason had nothing to do with the absence of a central bank and much to do with ill-considered regulations — such as state prohibitions on branch banking, and Uncle Sam’s requirement that national banks hold federal-government securities as reserves.
Canada’s history is instructive. That country allowed branch banking; Canadian banks could issue currency free of regulations common in the U.S.; and, significantly, that country had no central bank until 1935. A happy result of this system of free banking is described by one of the world’s pre-eminent banking historians, George Selgin: "It allowed Canada to avoid the bewildering assortment of bank notes, recurring currency shortages, and waves of bank failures that beset the United States."
Donald J. Boudreaux
George Mason University
Fairfax, Va.
The quotation from George Selgin can be found by going to this page and downloading Selgin’s article.
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A great letter Don. I was shocked by John Gordon Steele's lack of knowledge of the history of U.S. banking and that of its northern neighbor. I haven't read his Empire of Wealth, but I hope it's better in other areas. If it isn't, why bother with it?
What this country needs is a good 5 cent free banking system complete with the rule of law to replace the dodgy (my favorite word from The Economist) central banking-planning soviets cobbled together with a patchwork of state and federal banking and securities regs.
There's a very Austrian book waiting to be written about the Panic of 2007-8. Rothbard could have done the diagnosis, but not the Rx.
Very nicely done!
Don – My friend and I were marveling at your energy and the sheer number of epistles you launch in the war against economic ignorance.
Keep up the good fight.
We figure you must drink a lot of coffee – have another cup. We love it.
Another one in the bullseye.
How about posts with a bit more meat than short letters to the editor? This whole site is a bit of "Ohhhhh snap!" followed by "Oh no she didn't!" when it could be so much more…for Hayek's sake!
I have been a supporter of competing currencies. I must admit that I wasn't quite sure how to address Gordon's article, which was published the same day as a well written article by Paul Volcker, the quintessential central banker. Your response thankfully provides what I was looking for.
Mr. Gordon is a favorite author of mine, but errors such as this are present in his books as well. They're still very good works however, and such sentiments as he expressed in the op-ed piece stand out in contrast as a result.
He's still worth reading in other words. To sit down and speak with him, he'd probably come across as a conservative with many libertarian views, but not quite free from the myth of a benevolent state.
Great letter, unfortunately, you lack the space to mention all of the other non-central bank government interferences with the economy that precipitated economic turmoil. There was the Specie Circular and Andy Jackson’s “pet banks” (following mismanagement and the dissolution of the Second Bank of the United States) which contributed to the hard economic times in 1837. Then, there was “railroad bubble” of the 1850s, made worse by government subsidies to railroads. The massive disruptions caused by the Civil War and the introduction of paper currency fueled crisis in the 1870s. The introduction of silver would do the same later, and then produce extreme deflation in the 1890s when withdrawn. We could, of course, mention all the tariffs imposed from 1824-1912, which reduced economic efficiency, competition, and hindered capital flows. Even when the Republic did have a fairly competently run Central Bank in the form of the First Bank of the United States, the country still experienced a recession in 1807 thanks to the Embargo Acts. Like with our current crisis (thirty years worth of encouraging banks to give mortgages to the uncreditworthy), much of our woe is not so much due to a central bank but other policies. The nation may have not had a central bank for 78 years, but that does not mean Uncle Sam wasn’t messing with things in other ways. I am glad your letter made it into the Journal.
And Mr. Gordon does mention government regulation as a fault in America's past banking woes in his books, but as I said before, then he'll make a statement as Prof. Boudreaux pointed out, and unbalances his overall story.
His book Empire of Wealth is like this. Very good book, and a few statements here and there that show him to be more of a conservative thinker than a libertarian one.
While government intervention in the housing and mortgage markets caused resource dislocations that helped fuel the boom (and so made the inevitable bust worse), the Fed's loose monetary policy has pride of place in launching it and of being the ultimate cause. Indeed, if we imagine a free banking system and no central bank, there can be no boom because the interest rate that clears the market for investible resources also clears the market fcr loanable funds. The calculations of entrepreneurs can't be systematically incorrect and can't lead to a cluster of entrepreneurial errors. They can't malinvest in projects that are eventually revealed to be houses of cards, although on the free market there will always be some losers and bankrupticies.
Now if we imagine interventions in the housing market by the government on behalf of favored home buyers (subsidized mortgages, etc.), there will be dislocations that reverse when the subsidies end, but they won't be fueled and worsened by the banking system. Therefore the "bust" will be much smaller and contained more or less within the building industry (or whatever industry is subsidized) with only homebuilding firms and a few others making losses and taking writeoffs. There's no reason to assume it would extend very far into the banking industry, if it affected any banks or other financial institutions.
Fed policy affects every entrepreneur's calculations (some more than others), which has more "system-wide" distorting effects. This can't happen with subsidies or other fiscal policies.
Canada's history is instructive. That country allowed branch banking…
Lest we forget the number of US bank failures during the Depression: hundreds (800+ I believe). Number in Canada: 0.
The US had many banking restrictions during the Depression (including interstate branch banking prohibitions).
Mesa, I hope you said ten Hail Franklins for your blasphemy. Everyone knows that those banks failed because of the free market-that-has-never-existed. Why, if we hadn't been regulating those imaginary free markets, the bank failures would have surely numbered in the MILLIONS!
To insinuate that St Franklin of Roosevelt did anything imperfect is to insinuate that God is imperfect.
Shame on you, man!
Don, you should really read this paper by Hulsmann:
Has Fractional Reserve Banking Really passed the market test?
http://www.independent.org/pdf/tir/tir_07_3_hulsmann.pdf
I just finished reading it tonight. Absolutely brilliant.