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« Even a Blind Squirrel Occasionally Finds a Nut | Main | My Final Word on Mises and Free Banking »


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There is no conflict between free banking and 100% reserves. In free banking, there would be competition among all kinds of different banking models, including 100 and less than 100% reserves, and the consumers' preferences would win out.

But all of this is a distraction from the main issue: should the monetary dictator we're stuck with at the moment increase or not increase the money supply, and, secondarily, how would Mises have felt about it. While Horwitz is for the increase, Mises, like Rothbard, would clearly have been against it.

And I haven't seen anything from Horwitz contradicting the reasons of Mises and Rothbard for opposing the increase.

assuming the ideal case,with free banking and no govt monopoly over money - what kind of banks would win?.or would people with different risk appetites prefer different banks ranging from 100% reserves to modern day banks.also,which kind of bank is liable to pay more interest?

what were mises' view on velocity and its apparent constant value.

In many ways, a free banking system depends on the secondary market for bills and the market for deposit insurance. A 100% reserve bank with decent security would likely need to pay only a minimum on insurance and could probably survive. Similarly, riskier banks (in terms of both % reserves and types of loans made) would have to pay higher costs in insurance. I'm pretty sure this is how it is now (to some extent), but it would be much more diverse on the market. Ratings agencies could perform the job of bank examiners and then insurance companies would be relieved of some of the responsibility of performing independent audits. With independent verficiation from well-known sources, it would be easy for banks to then market themselves as a AAA (or 5 star or whatever) institution. AAA would be confusing since AAA debt carries a particular connotation, but you get the idea.

I'm also sure that some creative bank managers could find ways to offset much of the cost of warehousing money.


If I may be permitted, in my article "Ludwig von Mises and the Gold Standard," which first appeared in 1985 in "The Gold Standard: An Austrian Perspective" ed. by Lew Rockwell, and which is reprinted in my book, "Austrian Economics and the Political Economy of Freedom" (Edward Elgar, 2003) pp. 136-158, I make very clear (along the same lines as yourself) that in advocating 100 percent reserves, Mises was making a proposal for a "first stage" of a program for monetary reform.

In this first stage the task is to prohibit the government from using the central bank to print up money to finance budget deficits or to generate credit expansions based on fiduciary media (i.e., any further banknote or demand deposit expansion not backed fully by new inflow of specie).

Mises is clear, as you say, that he views this as applying a more complete version of Peel's Bank Act to prevent monetary expansion in the 20th century.

But, it is also clear that he considers this as an institutional means to control the handle of the money-creating printing press in an institutional setting in which a central bank still exists.

When, at some point, central banking has been abolished (the final stage of comprehensive monetary and banking reform in Mises' view) the financial system would function on the basis of free, competitive private banking.

In every instance in which Mises discusses the workings of a future free banking system he never advocates 100 percent reserve requirements. He presumes that in what will be a free banking setting banks would have the liberty to operate on the basis of fractional reserve banking.

But he also explains that in such a setting the ability of depositors to withdraw their accounts from any bank or banks, and the clearing house mechanism between banks and other financial institutions would generate the self-interested incentives for those owning and managing such banks to be "conservative" in their issuance of uncovered notes and deposit accounts. (And in "Human Action" he makes clear that part of the incentives and signals on limiting any such privately issued fiduciary media would be depositors' demand to hold money-substitutes.)

My discussion of the stages of Mises' reform agenda, as I summarize it in my book, appear on pages 149-152.

I point out near the beginning of this section of the article that:

"Read in isolation, his [Mises'] contributions on the subject could suggest that at various times his views on monetary reform changed significantly. When studied in conjunction with each other, however, the various arguments and proposals not only show themselves to be consistent with each other, but represent what Mises saw as, ideally, a step-by-step programme for reform with the final goal being complete liberation of money from the political arena."

Richard Ebeling

Notice also Mises writes: "The main thing is that the government should no longer be in a position to increase the quantity of money in circulation and the amount of checkbook money not fully — that is, 100 percent — covered by deposits paid in by the public."

This isn't a 100 percent reserve requirement on all deposits. It's a 100 percent reserve requirement on changes in deposits. The delta must be 100 percent backed by gold. I think that could only be a temporary strategy.

I'm not sure I fully agree with Steve Horowitz and Richard Ebeling that Mises was always consistent on this subject. However, he is certainly a consistent monetary equilibrium proponent in TTOMAC. I read the whole book last month and it's quite clear.

Part of the problem here is Mises prose style. Hayek writes like a german, enormous sentences with verbs in odd places. I think a lot of folks who read Austrian Economics have got used to that. The last paragraph of Steve Horowitz's post is a single sentence for example.

Mises though writes more like English speaking writers do, using more shorter sentences. Hayek tends to encapsulate everything in a paragraph, you could almost never misrepresent him by presenting one of his paragraphs alone. Mises is different, many of his sentences represent simplifications that he further elaborates on. He builds up the context then presents his ideas within that context.

Thanks Richard. I forgot about that piece of yours!

Steve and others, I have some questions of clarification.

Would free banking raise transaction costs of customers? For example, suppose up here the one grocer within 50 miles only accepts ACME bank while the clothing outlet, again the only one within, say, 75 miles only accepts JPDP notes for the time being, each of the notes being rated the same by two different private rating agencis?

Does the clearing-house bank (in this case, a rather small one) serve to not only reduce transaction costs between banks, but also the customers as well? But suppose that one is 100 miles away in a more populated era?

Would all this be resolved by electronic banking? Probably.

But I guess the real question is : how much time (an empirical question now) would you expect that to develop? Could the costs be high in the transfer from a central monopoly bank to the emergence of the free banks?

I am always inclined to accept Ebeling's authority on what Mises had in mind. When reading Steve's post here and the quotes of Mises, what I saw was a proposal that the Fed and govenment operate on a 100% gold reserve basis. The commercial banking system operates as it sees fit, with liabilities redeemable in the government money. In privatized monetary order based upon gold and free banking, the privae monetary liabilities are soley tied to gold--private gold coin or bullion.

I would note that the quote about checking account money requiring "deposits" didn't specify what would be deposited. From a monetary equilibrium perspective, bank credit should be matched by the amount of deposits people want to hold. The quanttity of that sort of money is matched by the demand, and saving by means of holding bank deposits is being matched by whatever investment is funded by the bank loans.


If we imagine a fragmented unit banking system, with 7000 small banks, and all of them issue their own currency, then transactions costs are higher for customers. I realize that what is odd about free banking to most people is the private hand to hand currency, but it is important not to identify money with the hand to hand currency. Don't make too much of that.


Once we move into the realm of free competition, 100% reserve banking is a nonstarter. That is why the advocates either explicity propose regulation to impose it because of supposed social costs of fractional reserve banking, or else grasp at straws to suggest it must be fraud.

Paying to store gold is bad enough. Trying to use hand-to-hand paper currency that requires periodic storage payments is worse.

Fractional Reserve banking doesn't depend on deposit insurance. It has existed in many places and times without it. The notion that people only will hold risk free assets--well, that is disconnected from reality. All of these arguments that 100% reserve banking will result from market forces are grasping at straws.


Do you have any trouble using your local bank debit card both in Marquette and in DC or wherever? Isn't it in the interests of merchants to accept a wide variety of "brands" of money so as to expand their potential customer base?

Since debit cards are, effectively, private-produced money, though still connected with a specific account unlike banknotes, I think the analogy would probably hold. I think the evolutionary process you point to would be VERY quick, as moving to free banking today would just be applying to currency production the same basic rules as deposits. (Yes, I recognize all the other ways gov't is involved and would have to get out.)

My point is simply that the inter-bank infrastructure is already there, as is the model for how to accept other banks' notes. One could even imagine inter-bank cooperatives (modeled off Visa or the ATM networks?) that smooth the process.

All that said, Bill's point about the small role played by hand to hand currency is well taken, as is the point that a free banking system is more likely to have a smaller number of larger banks than we do now. How many of those banks would produce currency? My guess is not a lot - folks at smaller banks would just use the larger bank's notes, much as my Visa card is from a much larger bank than my checking account. Again, that's a guess on my part.

Dear Steve,

I don't think that Mises was confused. At least, that does not follow from the citations you provided in this and previous post. As I said in my comment on previous thread, what citations you gave tell us is that Mises considered free banking system as less inflationary than central banking system, not that he prefered it vis a vis 100% reserve system. Quotation from Human Action I provided directly and undeniably confirms that. And that is not controversial finding at all. No Austrian economist, at my best knowledge, would disagree that theoretically free banking system is far less prone to credit inflation than central banking. There are disagreements about historical evidence and about whether free banking system with fractional reserves can be stable in the long run, or as by the rule would lead to central banking cartelization, but first theoretical point nobody would question. In that regard your emphasizing of Mises' iteration of that consensual point is a kind of straw man argument – you seem to insinuate that only Selgin, Horwitz or White agree with Mises in that regard, while in reality pretty much everybody in Austrian “camp” agrees. If you read for example De Soto's great book you will be surprised to discover that he does not dispute that point either.

As I said, in order to make of Mises a free banker you should have to prove not (only) that he considered free banking to be a lesser evil than central banking, but that he believed at the same time that fractional reserve system with fiduciary media is SUPERIOR to 100% gold reserve. THAT is specific theoretical underpinning of free banking theory, not trivial assertion that FB is less iflationary than CB. I hope you would agree that those are very, very different things. And I am confident that you (or anybody else) cannot provide evidence for such a thesis, because it is contradicted by Mises's explicit statements I cited..

As for Mises' alleged limiting 100% reserve system to central bank regime as a way of limiting power of the state, while reserving fractional reserve free banking for free society, you made a major interpretative mistake here. Paragraph you quote from Human Action, actually is confined to critique of Irwing Fisher's 100% reserve system with central bank, and not to critique of “Rothbardian” pure 100% system as you wrongly suggest. Mises says that 100% reserve system is not enough, and that central bank must be abolished as well, and all banks placed under the general laws. And that laws certainly in Mises' view would not allow emission of fiduciary media, because his main objection to Fisher's plan was exactly that it would not be a sufficient guarantee for abolishing of fiduciary media!

Mises: “If banks are preserved as privileged establishments subject to special legislative provisions, the tool remains that governments can use for fiscal purposes. Then every restriction imposed upon the issuance of fiduciary media depends upon the government’s and the parliament’s good intentions. They may limit the issuance for periods which are called normal. The restriction will be withdrawn whenever a government deems that an emergency justifies resorting to extraordinary measures. If an administration and the party backing it want to increase expenditure without jeopardizing their popularity through the imposition of higher taxes, they will always be ready to call their
impasse an emergency (p. 443)

So, as you can see, what Mises actually says here is that under Fisher's variant of 100% supreme goal of suppression of fiduciary media would depend upon government good will, and not legislative ban! Obviously, Mises here does not object to 100% reserve system as ideal, but at the contrary to compromising of that system by keeping central bank in place, that allows to government, under various excuses, to inflate, i.e. to emit fiduciary media. So, in complete contrast with your assertion, Mises again defends damned “Rothbardian” 100 % system as ideal one.

Further, I am afraid that you are pretty much alone in Austrian camp in asserting that Msies was genuine fractional reserve free banker. Conventional interpretation of his position to which all major scholars in contemporary Austrian economics who wrote about these problems (De Soto, Selgin, Hoppe, Salerno...), according to which he adopted free banking only as a way to achieve 100% reserve system, is much more plausible to me, because it is in accordance with logic.

So, Mises was not confused but consistent in advocating 100% reserve system. Your case for Mises free banker rests, in my opinion, on one non sequitur (from saying that FB is lesser evil than CB does not follow that FB is better than 100%), and one misrepresentation of Mises' text (target was Irwing Fisher, not “Rothbard”). Eliminate those two mistakes and any “confusion” disappears. Actually your own interpretation would portray Mises as inconsistent and confused , because he should at the same time to advocate both “suppressing all emission of fiduciary media”, and the very system in which further emission of fiduciary media is required as a regular feature.


I don't know about page 443 of "Human Action", I haven't read that recently. However I have read TTOMAC 2nd edition recently, in that book Mises clearly calls for a return to the old gold standard, along with it's fractional reserves. So, I don't think Mises was consistent in advocating a 100% reserve system throughout his life.


Read Richard Ebeling's post above and get back to me.

I don't think Mises was confused. I think he generally thought free banking was the first-best system and that various forms of 100% reserves was the best way to limit government's ability to create fiduciary media - a solution in the world of the second best.

I completely fail to see how the quote about Fisher in any way shows that Mises favors the Rothbard-style system as the ideal. I've read it 5 times and the whole section in HA and find that interpretation utterly mystifying.

If he's implying a legislative ban on fractional reserves there, it's only because it's the only solution GIVEN the privileges banks have from government, including gov't's own role in producing money. I see NO suggestion at all that 100% reserves is the ideal system when there are no special privileges for banks. In fact, I see the oppposite.

You might also consult TTOMAC (438, LP edition) where Mises concludes his section on the problem of the freedom of the banks thusly:

"If the arguments for and against state regulation of the bank-of-issue system and of the whole system of fiduciary media are examined without the etatistic prejudice in favor of rules and prohibitions, they can lead to no other conclusion than that of one of the last defenders of banking freedom [cite to Horn]: 'There is only one danger that is peculiar to the issue of notes; that of its begin released from the common-law obligation under which everybody who enters into a commitment is strictly required to fulfill it at all times and in all places. This danger is infinitely greater and more threatening under a system of monopoly.'"

I submit this quote is completely consistent with the reading Richard and I have provided and shows that Mises simply wanted banks held to the same rules as everyone else, which includes writing fractional reserve contracts that they would be expected to uphold.

And you might wish to withdraw Selgin's name from your list on the question of why Mises advocated free banking. As George wrote in a comment on the prior thread:

"By the way: (1) I never claimed that Mises held the view that free banking would entirely eliminate fiduciary media. Mises did at one point claim that free banking would put strict limits on fiduciary issues, but he never suggested that it would result in 100-percent reserve banking;"

And I guess you better rethink whether MISES held that view as well.

Look, if you think the Rothbardian system is the ideal, that's one thing. But to argue that Mises clearly supported that system is just completely at odds with the texts, from 1912 to 1949 to 1951 and 1952. I'll gladly grant that Mises was ambiguous in places, and I'll argue the case that the preponderance of evidence is clearly on the free banking side. But what I cannot see ANY case for is the fervor with which you and others claim the preponderance of the evidence is on the side of 100% reserves.

I believe I've read just about every word Mises published on monetary theory. And if I haven't, Richard and George have. The three of us are in general agreement here.

It is YOU who are the outlier.

Great post. It makes sense, given the government's forced replacement of commodity base money by fiat currency, that a first step in transition back to laissez-faire would be the curtailment of any additional printing. That step aims at simulating the physical limitation on producers of a commodity money (miners, etc.) by a legal limitation on the producer of fiat currency.

On the other hand, it wouldn't make sense to advocate free banking as a step toward the statutory imposition of 100% reserves.

What concerns me about fiduciary media is the practicality aspect.

Something George Selgin mentioned in the discussion about this a few months ago on is the expertise of those who held banknotes at the time. He said that most of those rich enough to hold banknotes were very knowledgeable about the state of the finances of the banks involved. Ordinary people used coins.

I think the same would happen in any real free-banking scenario in the future. Has anyone on this blog ever tried to understand the financial position of a bank from it's annual report?


Putting aside what Mises thought, it seems to me clear on libertarian principles that as capitalist acts between consenting adults are not aggression and are thus permissible, fractional reserve banking is fine on libertarian grounds so long as there is no fraud. Do you agree with this?

However, given the immense potential for confusion--customers are told they are "depositors" and they often think their money is "in" the bank; while most of it is lent out and thus they get interest--deposit should be distinguished from a loan. The customer should be apprised that he is receiving a credit instrument. Do you agree?

Any claims that he is "guaranteed" to be able to get his money out at any time are also problematic since a run is at least possible. So the "guarantee" language should not be used; this is especially so if the frbnotes contain a suspension clause. Do you agree?

If so, then the only dispute remaining is a purely economic one. You think frbnotes, credit instruments, can circulate as money; some Rothbardians do not (I am not sure). You think it's possible to have a stable freebanking system that is able to arrange its affairs so as to avoid runs; some Rothbardians do not (I do not). You think the ability of freebanks to expand the supply of money in response to increased demand for money is economically useful, for "stickiness" and similar "market failure" [or so I perceive this argument] reasons; Rothbardians do not (I do not; it seems to me that there is no stickiness problem that needs a solution; and that the freebankers implicitly and fallaciously equate fiduciary money created out of thin air with wealth).

Do you agree that the economic issues in the last paragraph are the basic crux of disagreement between freebankers and 100% reservers? It seems to me that in a free society freebankers would be free to try to set this up; and we would see what happens. (Yes, I know some of you think we have historical evidence already; but the point is the libertarians ought to have no real dispute here; and the economists can either debate on apriori grounds, or on empirical ones--on the latter, one approach is to just try it and see what happens.)

By the way I gather at least some of you freebankers would prefer a 100% reserve gold standard to the current federal reserve fiat money fractional reserve system; and I know I would prefer your private freebanking fractional reserve system to the current centralized statist version of fractional reserve system.

Stephan (or is it Stephen? :) ),

Easy part first: I think your summary of the economic issues in the 4th paragraph is pretty much right on. Not sure I'd say "market failure" but I understand what you're getting at (it's only "mf" if one holds perfectly flexible prices as your ideal market, which I would think good Mengerians would not). Those are the crux of it though.

As for the first part: a fractional reserve bank deposit is indeed a loan as well as a deposit. The contract one signs upon getting a checking account should say that (as I believe they generally do). I will note, though, that my own experience with students and friends is that almost everyone understands that not all of their money is literally "in" the bank and that it's being lent out. Even so, the contract should make this clear.

And yes, the contract should make no stronger claims about the bank's obligation to redeem on demand being fulfilled than any other contract should about its terms being fulfilled. If you agree to hire me to perform a task, I can't "guarantee" that I will perform it, I can only promise or agree to. If I break it, then I'm in breach and legal remedies should be applied. Same with demand deposits. If there's a suspension clause, it's gotta be there too.

I object to 100% reservers claiming "fraud" for what is really "breach of contract" given that checking account agreements do provide the requisite information.

In short: the notion that fractional reserves are fraudulent has always been absurd to me. Demand deposit contracts should (and do) spell out the terms clearly. If we agree on the "capitalist acts" point, then the dispute is indeed an economic one over the issues you raise.

I still don't understand the economic argument in favor of 100% reserves. How are loans made? Through CDs and mutual funds? If this is the case, what is preventing the titles to these accounts from trading on the market for goods (therefore serving a function as money). It seems to me that in a system without modern checking accounts, banks would compete to provide liquidity from these accounts and we would be back at FRB.

What am I not getting?

Thanks for clearing that up for me Bill and Steve.

Prof. Horwitz,

I think I agree with everything you have been saying on this thread, but am not too sure, given the abbreviations, such as MET, that I don't understand. Also, I'm still not too sure whether you think Mises thought, and whether you yourself think, that increasing the supply of money, apart from specie, whether to be permitted or not, could ever be beneficial.


Your contributions, right or wrong, are terrific, but sometimes a bit hard to follow, given your fractured syntax.

Prof. Ebeling,

Thanx for a great review.


I have been wondering the same since I read your posts over at the forums.

On the differences, it seems to me that less investment would take place in a 100% reserve system. Given historical precedent, a 10% reserve ratio would be high for a free bank, but I doubt most people would be willing to invest 90% of their 100% reserve deposits. On average, investing 90% of deposits would be fine, but for any individual it may be too much (perhaps they need immediate access to their deposits in an emergency). Who knows what the future holds? I think people would invest significantly less, but in an FRB system the risks are pooled among all "depositors," and a higher rate of investment would be preferred. The principle seems similar to how insurance companies pool risks.

The additional savings in a 100% reserve system would push down prices more, but the additional savings would not be especially directed toward investment. So, on this matter, it seems a FRB system would be superior.

But I am just making this up as I go. Hopefully someone here who is better informed can answer your question.

One more thing, Steve: I now realize you've argued this point for years. See p. 146, n. 43 in Horwitz's MEFB&EO. Thanks again.

Geez Dave, you know Horwitz better than I do - I'd totally forgotten about that footnote. :)

Lesvic asks:

"Also, I'm still not too sure whether you think Mises thought, and whether you yourself think, that increasing the supply of money, apart from specie, whether to be permitted or not, could ever be beneficial."

I believe, and I believe Mises believed, that increasing the supply of money apart from specie (fiduciary media) was beneficial (or at least "warranted") when the demand to hold cash balances increased *in a system free of government intervention and special privileges for banks*. That is, I believe, and I believe he believed, that a free banking system should and would respond to deviations between desired and actual money holdings by changing the money supply to match desired holdings.

As to whether increasing the supply of fiduciary media is ever warranted in the current world in which we live, I believe the answer is yes, for those same reasons. Whether Mises believed that as well is less clear. I do not know for sure what Mises would have said the Fed should have done last fall.

The quotes from Nikolaj certainly suggest he thought we should have been shackling the Fed, though whether he would have accepted that even in a time of increasing money demand is not clear. If Mises were serious about his definitions of inflation and deflation and if he believed the demand for money was growing substantially last fall and he believed that deflations (of the monetary sort) were bad, then I think he'd have to come to the conclusion that even under central banking an expansion of the money supply was in order. I think he would have accepted all of my "if"s but I don't have any textual evidence to support that he would have accepted the conclusion explicitly - my argument is circumstantial as above.

So we can debate all day about whether Mises would have agreed with my view that some expansion of the monetary base was in order last fall. What I think is hard to maintain is the claim that Mises would object to the expansion of the quantity of fiduciary media under any and all circumstances.

Steve, here is my response to the part of your comment concerning George Selgin, which is posted on previous threat also. I'll try later to address other points you made in your comment:


you said in previous comment:

“I never claimed that Mises held the view that free banking would entirely eliminate fiduciary media. Mises did at one point claim that free banking would put strict limits on fiduciary issues, but he never suggested that it would result in 100-percent reserve banking;”

In “The theory of free banking” (p. 62) you said:

“ Mises’s support for free banking is based in part on his agreement with Cernuschi, who (along with Modeste) believed that freedom of note issue would automatically lead to 100 percent reserve banking;”

So, I would appreciate if you would be so kind to correct publicly here the incorrect information you provided in previous comment about this, and to explain to Steve that my referencing your work as support for my claim that Mises believed that free banking would automatically lead to 100% reserve banking, was correct and justified.


"Not sure I'd say "market failure" but I understand what you're getting at"

Right. I am critical of the freebankers' very view that there is a problem that needs a solution; akin to the false problem of "market failure" that many statists point to. (On this see Salerno's comments ( ) about "sticky" prices, arguing that this notion is an illusion and can't be invoked as an argument for adjusting the supply of money to variations in its demand.)

"As for the first part: a fractional reserve bank deposit is indeed a loan as well as a deposit."

? Do you mean the reserve part is a deposit? I suppose so but the problem is that in a straight deposit, the funds of depositors would be pooled as an "irregular deposit" (see Huerta de Soto on this, p. 4 ). But in this case the sum of things depositied is sufficient to cover the entire total of deposits, since it stays in the vault. So as a customer I am indifferent to having, say, ownership of 1 oz coil in a safety deposit box, or 1% ownership of a 100 oz. fungible sum--except that the cost of the former is higher.

But in your case if you say there is a 10% reserve ratio, then 10% of the money handed over is kept in an irregular deposit, but my 1% interst in it is not worth 1 oz. but only 1/10 oz. I mean I am not indifferent, as I would be in the case above. Unless you say the part that is a deposit is only for the 10% of my account value. But the problem with this is if I ask for all of my money you will use the gold to satisfy it. So it's very confusing to regard it as part deposit. I think it is not part deposit. It's misleading to say so.

"The contract one signs upon getting a checking account should say that (as I believe they generally do). I will note, though, that my own experience with students and friends is that almost everyone understands that not all of their money is literally "in" the bank and that it's being lent out. Even so, the contract should make this clear."

Good. But I do not think most people understand exactly what is going on. They seem to want to have it both ways (no offense, freebankers :)--they want it to be "in" the bank and to get interest too.

"And yes, the contract should make no stronger claims about the bank's obligation to redeem on demand being fulfilled than any other contract should about its terms being fulfilled. If you agree to hire me to perform a task, I can't "guarantee" that I will perform it, I can only promise or agree to."

I agree with this, unless by your choice of words you mean to imply that even a depositary can't "guarantee" it either. I mean I agree with you, so long as you recognize the categorical distinction between the ability of the depositary-custodian in the case of an irregular deposit, to repay, and the ability to guarantee it in the case of fractional reserves. They are similar only in that in both cases it's possible for the bank to be unable to meet its promise--but in the case of the irregular deposit this can happen only if there is a violation of the depositary contract (embezzlement), or some kind of random accident (fire) that could be insured against.

"I object to 100% reservers claiming "fraud" for what is really "breach of contract" given that checking account agreements do provide the requisite information."

Well in my view the 100% reservers have a point given their (in my view justified) view that the origins of fractional reserve are mired in fraud and confusion (I think Huerta de Soto is good on this), and also, based on their economic view of the futility and indeed instability of freebanking, in their suspicion that it's highly prone to fraud. But I do agree with you that so long as the nature of the arrangement is spelled out, there is no fraud. But I will say that I have sensed many times in the people on your side of this debate a reluctance to agree to the freebanks giving complete and clear disclosure, as if you guys are afraid that too much disclosure will make it impossible for the FRB to get off the ground. I coudl be wrong about this, but I have sensed it and think I could dig up quotes ... but anyway, glad you don't object to this and would be willing to put your system to the test of full disclosure.

"In short: the notion that fractional reserves are fraudulent has always been absurd to me."

It's not so absurd if you understand the opponents view of the history of it, the state's involvement with banking and the origins of frb plus its current involvement with centralized state-run frb; and with their view that freebanking is so inherently unstable and rickety that for it to ever exist there pretty much had to be fraud involved somewhere--I don't agree with this compeltely, but their reasoning is sufficient to give cause for suspicion and hard scrutiny of the potentially fraudulent nature of this arrangement. But in the end, just as I do not think a ponzi scheme is fraudulent, I do not think FRB (inherently) is.

Further, on the face of it, there is a colorable charge of fraud: you are calling something a "deposit" that is NOT a deposit.


"I still don't understand the economic argument in favor of 100% reserves. How are loans made? Through CDs and mutual funds?"

Basically, through a promissory note. A mutual fund is more like an irregular deposit: you own a pro-rata share of the assets of the fund, which include securities such as stocks and bonds. I don't think anyone thinks you can't have loans without fractional reserve banking. The libertarian question is whether handing out frbnotes in exchange for "deposits," and loaning out 90% of this money, and the customers then circulating these notes "as money" is unlibertarian; it is not, in my view. The economic question is whether this system addresses a real problem, or whether it's nothing but an unstable shell game.

Whatever George might say about his own work, that citation of Cernushi in Human Action does NOT indicate support for 100% reserve banking, as I said earlier. Cernuschi refers ONLY to banknotes; neither he nor Mises says anything about deposits or fractional reserves in that passage.

In fact, on the next page, he has a nice explanation of why fractional reserve banknotes can't be overexpanded even by a cartel. (HA, 446-7)

If there is no fraud, there is no point to it.


I'm not going to debate the legal questions with you because I think DeSoto has it all messed up as George notes in the other thread and as Larry has argued in his review of the book (and his wonderful FEE lecture this summer). His language is all question-begging and ahistorical (in my view), so what we'll end up doing is arguing over definitions, which will get us nowhere.

Rather than do that, let's just agree that the crux of the debate is over the economic issues you noted in your first comment. And, to be honest, I'm really burned out on debating those issues after doing so for much of my week at FEE this summer, not to mention on the blogs over the last few months.

Your summary of the issues at stake is good enough for me and now I'm happy to turn the debate over to others for awhile - if for no other reason than I'm headed out for a departmental party in about an hour.

Steve, sounds good--but don't be bummed. Look on the bright side--people who care about truth and ideas things this stuff is important enough to debate in peaceful fashion.

As for de Soto, I haven't read the whole book, and from what I gather, I would not agree w/ some of his conclusions (if he has the per-se fraud view) but I do think some of his legal classifications and history of how the legal classifications changed or were manipulated over time, are useful. But I agree we should not debate by semantics, a tactic that drives me bonkers.

Let's just agree for now that I am magnanimous enough to let you try to be a ponzi-scheming huxter in our free market, and will even try to help you out when your burned customers try to tar and feather you. :)


Thanks for the response but it was more of a rhetorical question. My point is that I see the causality in regard to the evolution of FRB in a different way than Rothbard does. In Rothbard's account, as you know, banking was originally just a money warehouse business. Only later did banks realize they could loan out their deposits and earn a return for both themselves and the depositors.

The way I see it, it is the opposite. Anyone can store their own money but not everyone can make loans by themselves. Banking may have begun in some cases as a way for individuals to make collective loans. In this view, it is demand deposits (modern checking accounts for example) that come later when banks compete to provide liquidity to their depositors. I don't have any historical evidence for this and I don't know if it is a widespread view but if it is true it would seem to invalidate the case for 100% reserve banking.

In your example of promissory notes, the notes themselves could begin circulating like money and then the system would be no different from FRB. I don't see any reform, other than a strict ban on the circulation of these types of instruments, that could prevent this.


My apparent contradiction re: Cernuschi goes away as soon as you recognize that Cernuschi's quote was intentional (and obvious) hyperbole. Nether he nor Mises believed that FB would literally eliminate all banknotes or fiduciary media.

What is that we're discussing here?

Is is how to run a free banking system bank, or a politically restricted banking system's central bank?

If we agree that there shouldn't be politically restricted central banking, but only a completely free market, free banking system, why should I care what would work best in it? Wouldn't the free market itself sort all that out, regardless of what I thought.

Jake: "In your example of promissory notes, the notes themselves could begin circulating like money and then the system would be no different from FRB. I don't see any reform, other than a strict ban on the circulation of these types of instruments, that could prevent this."

I don't think anything could or should prevent it other than economic reality. In my view the notes could not serve as money or money substitutes, and if there was a fractional reserve aspect to them then the system would be prone to runs. But who knows.

Check out this:

Larry White - "Gold and Free Market Banking" - 1983

I don't see any reason why they could not serve as money substitutes. Promissory notes are banned in some areas precisely because they were used in that way.

In regard to the possibility of bank runs, runs would be possible even if the notes did not circulate because there would still be more future claims to money than present money. Maybe runs would not be as decremental but they could still happen.


It seems to me that you're spot on.

In a 100% reserve system, there would be two kinds of money circulating. One would be redeemable on demand, and the other on some specified date. Meanwhile, in an sub-100% reserve system, there would be one kind of money serving both purposes, and it would be up to the bank to figure out what proportion of their notes are being held for the future or current consumption.

In the final analysis, however, there wouldn't be all that much difference between the two with regard to changes in the supply of money.

Am I correctly understanding you?


your argument is that Mises reserved 100% system only for central bank regime, allowing fractional reserve with fiduciary media in free banking. But this is quite illogical. If Mises held emission of fiduciary media above the available gold reserves to be a cause credit cycle (as he did), what does it change whether government or private banks emit it? Sure, under free banking, at least theoretically, emission would probably be less pervasive, but nonetheless it would be emission still. Mises's monetary ideal was not (only) to eliminate government influence from monetary system, but to eliminate credit cycle induced by fiduciary media. In that, most fundamental theoretical regard, he is completely in disagreement with FRB. You don't think fiduciary media should be eliminated. Mises do.

Mises 1: “ it is obvious that the only way of eliminating human influence on the credit system is to suppress all further issue of fiduciary media. The basic conception of Peel’s Act ought to be restated and more completely implemented than it was in the England of his time by including the issue of credit in the form of bank balances within the legislative prohibition.”

What here is not clear? He says clearly as a day, that only way of eliminating HUMAN INFLUENCE on credit system is to suppress FM. So, not to eliminate government influence, but human influence whatsoever. No matter whether we talk about central bank or free banking system. FM always sets in motion credit cycle. So, supressing Fm is not a part of partial reform within CB monetary system, but universal proposition how to avoid human influence on credit system.

Mises 2 “It would be a mistake to assume that the modern organization of exchange is bound to continue to exist. It carries within itself the germ of its own destruction; the development of the fiduciary medium must necessarily lead to its breakdown”

Once, more...Not development of central banking, but of fiduciary medium is a main problem.

Mises 3: “It is characteristic of the gold standard that the banks are not allowed to increase the amount of notes and bank balances without a gold backing, beyond the total which was in circulation at the time the system was introduced. Peel’s Bank Act of 1844, and the various banking laws which are more
or less based on it, represent attempts to create a pure gold standard of this kind. The attempt was incomplete because its restrictions on circulation included only banknotes, leaving out of account bank balances on which cheques could be drawn."

Note the concept that banks in gold standard “are not allowed to to increase amount of notes and bank balances without a gold backing, beyond the total which was in circulation at the time the system was introduced”. This is clear statement that FRB is incompatible with gold standard. Banks are not allowed to “duplicate” parts of money supply by issuing fiduciary media without gold backing. Peel's Act failed because it exempted banks from 100% reserve requirements.

Your thesis that Mises's support for 100% reserve system applies only for reform within the central bank system is directly contradicted by what he says. His main objection to Fisher, and to Simons and all others who actually proposed such a reform was that that would not be sufficient to avoid further emission of FM! Truth is exactly the opposite of what you are suggesting. Mises actually explicitly denies the very possibility of 100% system within central banking regime, what you ascribe to him as his alleged “reform program”.

So, for your, to borrow your own phrase, “convoluted” interpretation of Mises exist no real evidence. 1) He never was fractional reserve banker, but always strong supporter of 100% reserve system, 2) He considered 100% system as first-best, and FM as cause of credit cycle, which would not be eliminated until emission of FM is not eliminated. According to Mises, abolishing FM is not only the way to get government out of business, but the only way to eliminate all human influence on credit cycle.


That's exactly right. If you look at it this way, the economic differences between the two systems fade away.

Mario Rizzo, taking note of these discussions from the safey of his isolation at ThinkMarkets, expresses the hope that we will "move the discussion out of what Mises meant and into the analytical merits of arguments – and, I hope, into empirical work."

Which does he want, analysis or empirical work?

He also has a piece asking if deflation could be avoided without bank bail-outs?

Why should we avoid the deflation?

It's the curative process.

Stephan, Lee, Jake

I noticed you guys discussing loans under a 100% reserve system, promissory notes and the possibility of an emergence of some fractional-reserve like character into such a system.

Over at the forums I made many posts on this topic and I would like to add to the discussion and consolidate (correct, and in some cases go completely back on) my own thoughts on the matter here. I have a firm belief that there are many similarities between promissory notes (or time deposits if you will) in the institutional context of a 100% reserve system as imposed by law and bank notes under a Fractional Reserve Banking system with gold as base money, both in terms of fractional character, and in terms of being money substitutes or fiduciary media.

Firstly, both bank notes and promissory notes can be viewed as claims to future base money (hereafter assumed to be gold). Depositing some amount of gold in a bank operating under a Fractional Reserve system gives to the lender a receipt or bank note as a claim to that money, and usually promises to pay some amount of interest into the account of the depositor during the time the bank still holds the base money. This bank note is essentially a claim to some amount of physical gold at some indefinite point in the future (this point in the future being whenever the holder of the note comes to demand base money). Similarly, if one were to lend to a bank operating under 100% reserves, the depositor would receive a receipt or promissory note (certificate of deposit) entitling him to claim his deposit, plus some accrued interest, at a definite point in the future (this point in the future being a mutually beneficial date agreed upon by both the bank and its customer). Furthermore, even under a system of 100% reserves, the bank and the customer would be free to negotiate an early withdrawal of the gold. In both instances while the bank holds the gold, they are free to loan this gold out to some other customer or party.

Secondly, both bank notes under an FRB system and promissory notes under a 100% reserves can lead to multiple future claims to the same base money. In the case of Fractional Reserve Banking, once the bank has some amount of gold in its vault it can simply issue receipts to a borrower thus making more than one claim to the same gold. This process, however is more subtle under 100% reserves. Once the bank has borrowed money from a customer (call him A) and given him a certificate of deposit or promissory note the bank can then loan out the gold to someone else. For the simplicity of narrative assume the bank loans the full amount out. The borrower B would then trade this gold (again assume entire amount) for a good or service from yet another market participant C. Now this Mr. C can go to the bank and deposit the gold himself in exchange for a promissory note. Both A and C now own claims to the same physical gold in the present, at times in the future. Thus, at least in this fictional illustration, it is clear that multiple claims to some amount of gold may arise under the institution of 100% reserves through promissory notes.

This, I believe, entails the "fractional" nature of promissory notes in the context of 100% reserve banking and also FRB banking.

The next part of my argument is to do with the monetization of promissory notes under a law enforced 100% reserve system. It does NOT contribute anything to the debate whether, assuming free banking, an institution of 100% reserves or Fractional Reserve Banking would arise on the market or whether the multiplier will decrease. It merely makes an amateur argument through a comparative institutions analysis on why promissory notes could turn into money and thus be inflationary given 100% reserve banking enforced by law.


Now, because there can very well be multiple future claims to the same present gold under 100% reserves, all that is left for 100% reserves to become inflationary to some degree is for the promissory notes to become money substitutes.

What must be understood at the outset is the nature of promissory notes as future money in the context of individual time preference scales. As we know promissory notes have a future value attached to them of some amount of money added the interest earned on the note at the date of maturity. Now any given economic actor will value this future amount of money discounted back to the present by his own individual time preference rate of interest. The market clearing price these notes would tend to on any given day would be the future value discounted by the prevailing consumer loan rate. So on the day of issue these notes would trade approximately equal to the amount deposited and more thereafter. It is also reasonable to assume (and even observe today) that some actors will accept promissory notes in an exchange as the equivalent market clearing price in money. That is to say some people are likely to accept these notes as money substitutes in some exchanges.

Now, the same advantages which lead bank notes to become money substitutes (and indeed any light weight material when money proper is cumbersome) under a fractional reserve system (reducing transaction and storage costs) would also apply to promissory notes under a 100% reserve system should they ever become widely circulated. However as Professor Hoppe points out in his article "How is fiat money possible" bank notes and bank receipts suffer from a huge set back in the institutional framework of 100% reserves. Namely, some people would wind up receiving receipts or bank notes with an overdue storage fee. This would, indeed make widespread use of such notes unlikely. However, promissory notes come with no such disadvantage. Rather, promissory notes grow in value as time passes by till maturity date, and banks could very well, even likely to, make the agreement that for everyday past redemption date the holder of the note does not withdraw the gold he receives some smaller (or perhaps even larger) amount of interest than previously.

Thus, because promissory notes can be exchanged, and because they provide all the advantages of bank notes under a fractional reserve system and none of the disadvantages of bank notes under a 100% reserve system, they are likely to start circulating to some extent. One can imagine that retail stores in order to attract customers, and not particularly distressed by not being able to hold any more physical gold this particular year (maybe even reluctant to), would entice customers by accepting promissory notes. It can from here be easily imagined that, in a similar fashion to how bank notes replace gold for some (not insignificant) amount of transactions in a fractional reserve system, promissory notes could indeed be seen as a substitute for gold in a 100% reserve system.

However there are some unique disadvantages promissory notes have when compared to bank notes as money substitutes. Namely promissory notes are for large amounts. However this poses no real obstacle. There was a time when bank receipts were also only for relatively large amounts, this does not mean that banks did not eventually break these down into smaller constituents. Indeed it is likely if promissory notes become money that they would also become standardized and come in regular denominations (or "change" if you will) such as 10 grams in two years or 20 grams in two years and so on.

Another complication that would arise if promissory notes were ever used as money in a law imposed 100% reserve world is constant calculation. It would be bothersome and confusing, even with up to the minute exchange rates (in this case gold against standardized promissory notes) to have so many different valued notes floating around. However, it is unlikely that this would lead to the notes falling out of public favor when it comes to widespread exchange. Instead it is likely that this would lead to further standardization of notes. For example it might become a custom that all banks create and sell one year notes of standardized amounts at the beginning of each month, and that one year notes are the common money substitute.

Due to the technological advancements in banking that have arrived with the advent of electronic banking, the internet, and online banking the complications stated above become even more minor. For example to ease the disutility of calculation a certain person's bank account would include any gold he has deposited with the bank as a demand deposit plus the market value of the gold he has deposited as a time deposit (or what would have been the market value of the promissory notes he would have received if he opted not to keep them there electronically). The value of just the time deposit part of this account alone would, in fact, tend to equal the exact value of a demand deposit account under a system of fractional reserve banking.

This last insight reveals that, once the coping costs of promissory notes as money substitutes under a law imposed 100% reserve system, are minimized, promissory notes effectively become bank notes.

A final note must be made on the extent to which banks would issue promissory notes given their fractional nature. The amount (and in this case value) of notes circulating divide by the amount of base money is called the multiplier. To put it simply, banks will issue as many such notes until the added risk of them not being able to meet the obligations falling on a given date exceeds the benefit of issuing another note. Because of this it is likely that banks would offer rewards to customers who delay claiming their notes. It is also likely that due to the time rigidity of promissory notes and a certain elimination of uncertainty, ceteris paribus, banks would have a higher liability to capital ratio than they would under the more uncertain system of Fractional Reserve Banking.

In essence, due to promissory notes in a 100% reserve system and bank notes in a fractional reserve system both being an efficient way to structure money in time, and only having two real differences (The first being that promissory notes are claims to definite points in the future while bank notes are claims to indefinite points in the future and the second difference being that promissory notes themselves increase in value while the deposit account increases in value and not the bank notes) promissory notes lead to very similar economic consequences in a restricted 100% reserve system as do bank notes in a fractional reserve banking system with gold. In such an imaginary law imposed 100% reserve system it would be reasonable to observe standardized promissory notes trading alongside gold coin as petty cash, while bank accounts take into consideration the market equivalent weight in gold of any time deposits the customer may have with the bank. Indeed, the law imposed 100% reserve system that allows the issuing of promissory notes and the creation of time deposits is likely to look a lot like a Fractional Reserve Banking system. There would be an equal or greater multiplier of gold to money substitutes (tending to equal as coping costs drop) and an equal likelihood that a bank cannot meet its obligations on any given day. Albeit the bank, being under no obligation to pay on demand before the time deposit reaches maturity, would not be in threat of a bank run lest many promissory notes are not claimed past maturity date.


Your analysis seemed sound to me. I think you would do better, however, to explicitly consider the impact on the demand for base money. If people prefer to hold these "promissory notes" to gold (including receipts for stored gold,) and someone will supply them, then the demand for gold falls. The purchasing power of gold depends on the supply and demand for gold. Lower demand, lower purchasing power, higher price level.

One reason to hold promissory notes would be to use them for payments. The problem with both appreciating promissary notes and depreciating gold receipts is that you have to have a system of reporting their values and make calculations at the point of transfer. It is really the same issue. I think you assume wrongly that receipts are accepted at par and those receiving them pay the cost. Perhaps, but isn't looking at the date and discounting them by the unpaid balance more sensable? If they are prepaid, then there should be a premium. The promisary notes would, as you say, trade at a premium on the amount lent, though if they are bills, then at a discount from face value.

I think some of your analysis implicity assumes that the alternative is to holding promisary notes is gold. Not necessarily.

While banks can issue time deposits, these are a type of debt instrument similar to commercial paper and other sorts of bonds. And so, thinking solely about banks when promissary notes are at issue seems to be to be a mistake.


Interesting analysis. It matches what I was thinking when writing my previous short comment to Jake, but also expans upon it and notes some things I hadn't thought of. Thanks for sharing!


I think Avram was making some simplifying assumptions to illustrate his point e.g. writing as though only banks issued debt instruments like time deposits.

During a "rush to liquidity," i.e. a sudden and temporary spike in money demand, perhaps due to some financial crisis, a fractional reserve system would automatically respond by expanding the money supply, and saved resources could be quickly redeployed toward new investments (without a prolonged and bumpy fall in prices).

But would this happen in a 100% reserve system? The problem is that banks aren't allowed, by contractual agreement, to just start lending more. Would there be a problem in getting permission from depositors to increase lending in response to increased saving? In other words, would depositors want on-demand banknotes rather than time-specific banknotes? Unless prices across the economy all fell very quickly, this would waste time while saved resources sat idle and depreciated (not to mention the political fallout of high unemployment).

The problem would be that depositors would not be as sensitive to market signals as fractional reserve bank managers; while the manager may know, from activity in the clearing houses, that lending can be increased safely, the depositor is divorced from those market signals and may refrain. I suppose offering a higher interest rates (which could now be satisfied given an increase in future spending) might entice more lending, but would that be enough? Would a 100% reserve system be as sensitive and flexible as a fractional reserve system?

Don't take what I have written above too seriously. I am just trying to work through some thoughts to see where they lead.

"The "rigid 100% reserves" proposal is a proposal about how to check the power of the printing press in the mixed economy, not necessarily what is best in a truly free market."

1951 appendix essay, "The Return to Sound Money,"

No bank must be permitted to expand the total amount of its deposits subject to check or the balance of such deposits of any individual customer, be he a private citizen or the U.S. Treasury, otherwise than by receiving cash deposits in legal-tender banknotes from the public or by receiving a check payable by another domestic bank subject to the same limitations. This means a rigid 100 percent reserve for all future deposits; that is, all deposits not already in existence on the first day of the reform (p. 448)."

If the governments had never interfered for the benefit of special banks, if they had never released some banks from the obligation, incumbent upon all individuals and firms in the market economy, to settle their liabilities in full compliance with the terms of the contract, no bank problem would have come into being. The limits which are drawn to credit expansion would have worked effectively. Considerations of its own solvency would have forced every bank to cautious restraint in issuing fiduciary media..."
"The possibility of causing temporary fluctuations in the exchange ratios between goods of higher and of lower orders by the issue of fiduciary media, and the pernicious consequences connected with a divergence between the natural and money rates of interest, are circumstances leading to the same conclusion. Now it is obvious that the only way of eliminating human influence on the credit system is to suppress all further issue of fiduciary media ..."

i really cant see much of a difference in mises and rothbards views. rothbard seemed to want to have any unbacked liability deemed as fraud and mises seemed to indicate that contract terms didnt cause a problem. but felt that the level of credit expansion would be vastly minimized from what had taken place due to natural cautiousness of banks and depositors. and that 100% reserves tended in that direction. rothbard did advocate free banking.
i dont know if mises would feel quite the same if contracted frb caused the same amount of harm as state priveliged banks. if the contract called backing something that was not actually there and the same problems arose that is. i dont know if either showed examples of such.

getting a million people to sign a note would seem to generate velocity problems.

it seems that the mises all for 100percent reserves was very apparent.

to check the govt privelaged banks he called for (non govt enforced) 100% percent reserves to spring forth from the market from concerned bankers, i assume.

if govt privileged banks werent in operation he seemed to call for free banking and apparently felt that contractual notes and frb would be greatly checked by nervous depositors and bank failure.
i dont know why he called for 100% reserves to check govt privileged banks fractional-lending and not the his free banking scheme to do the same thing.
it leads me to believe that he would prefer 100% reserve banking or as close to it as possible for an ideal banking system

"He is not proposing 100% gold reserves a la Rothbard as the ideal system. Rather he is trying to find a way to limit credit expansion in a world in which central banks already exist. That is a very different question from the usual fractional reserve free banking vs. 100% gold reserves debate."

i dont know if its very differnt or not.

why call for all the trouble of gold backing every note instead of just leapfrogging to an ideal free-banking system (the govt auctioning off their printing presses)- only to have to un-gold shortly afterward to reach a non-govt ideal???

if by ideal all the mises meant was no government...he could have done that in one essay and stated making tarts in the ukraine somewhere.

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