Re: ECON: The Fed's Y2K Recession of 2001

From: Technotranscendence (
Date: Thu Apr 05 2001 - 09:23:07 MDT

On Wednesday, April 04, 2001 9:19 PM wrote:
> >Free market banks would see immediate losses (in reserves
> >or profits) for failures to act or bad actions.
> No; not immediate at all. It typically takes years to recognize a bad
> Because of this, banks don't "count" profits right away either (really,
> don't get the profit till the loans is paid off anyway). There's a huge
> on feedback.

You are only looking one thing: loans. When I parenthetically mentioned
reserves in the quoted statement, I meant it.:) A bank that sets its
interest rates too low would notice a net drain in reserves. If it sets it
too high, it would notice a net inflow of reserves. (This is regardless of
the reserve used.)

> Partly due to this, and partly due to psychology, banks have a nasty "herd
> mentality". If you look at banking, on a gold standard, prior to central
> banks, you still see wild volatility.

Depends on where you look and the mitigating factors. The main historical
example of free banking is Scotland prior to 1844. There are others, but
that's when and where the banking system approached free banking to a high

In American banks, there were certain limits placed on the banks before the
Federal Reserve System. Many of these limits were placed by states and they
included requiring the banks to hold a certain amount of state bonds
(thereby monetizing government debt), branch banking (disallowing banks to
network and spread offices between regions), portfolio requirements (what
banks could invest in), minimum capitalization requirements (how much money
one needs to start a bank), reserve requirements (how much reserves a bank
must have on hand) and limits of interest rates (usury laws; probably didn't
have as big an impact).

Commonsensically, such limits would lead to lower levels of performance.
Limits on branch banking and portfolio requirements alone would lead to a
less robust system because this would fragment the banking system. How so?
The former would make it hard for an experienced, big bank to move into
certain regions, meaning only inexperienced or small banks would be in that
region. Each new market would have to develop its own banks, not leveraging
experience or capitalization from other markets.

Portfolio requirements, especially the holding of state bonds, limit
diversification and directly intrude into business decisions. (In Scottish
free banking period, banks were pretty much the same in relation to the
government as any other business and faced almost no special regulations.)
If a bank was required to have a percentage of its investments in a certain
area -- say, shipbuilding -- and that area was unstable, this would directly
lead to instability in the bank, no?

Reserve requirements would make holding reserves independent of the demand
for money. Banks not allowed to adjust the amount of their money in
circulation and their reserves would find it impossible not to inflate or
deflate. It would be hard to believe a legal requirement, set by a state
legislature would somehow get it right until the next time that body met and
changed the requirement. This would make it harder for banks to be

> It isn't immediately obvious whether
> free-market
> or relatively apolitical central banking will generate the "better"

I guess the Great Depression and the myriad inflations and hyperinflations
are not evidence enough?

The current period is only stable in the sense that banks are very highly
regulated meaning they have little latitude for free action meaning they
pretty much act the same. This is not the kind of flexible, dynamic
stability a free banking system would deliver.

You have not responded to any of the stuff I've cited...


Daniel Ust

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