Creator: Smith, Bruce D. (Bruce David), 1954-2002 Series: Working paper (Federal Reserve Bank of Minneapolis. Research Department) Number: 228 Abstract:
"Summary of Recommendations: . . . Repeal present control by the System over interest rates that member banks may pay on time deposits and present prohibition of interest payments by member banks on demand deposits." Milton Friedman (1960, p. 100) "I conclude that the over-all monetary effects of ceiling regulations are small and easy to neutralize by traditional monetary controls. The allocative and distributive effects are, however, unfortunate. The root of the policy was an exaggerated and largely unnecessary concern for the technical solvency of savings and loan associations." James Tobin (1970, p. 5) The regulation of deposit interest rates has received little support from economists. The same is true for the original rationale for such regulation: that bank competition for deposits generates inherent "instability" in the banking system. This paper develops an "adverse selection" model of banking in which this rationale is correct. Moreover, in this model instability in the banking system can arise despite the presence of a "lender of last resort," and despite the absence of any need for "deposit insurance." However, in the world described, the regulation of deposit interest rates is shown to be an appropriate response to "instability" in the banking system. Finally, it is argued that "adverse selection" models of deposit interest rate determination can confront a number of observed phenomena that are not readily explained in other contexts.
Keyword: Risk, Banking panics, Unregulated banks, Banking Act of 1935, Instability, Bank regulation, Banking Act of 1933, and Banking Act Subject (JEL): D82 - Asymmetric and Private Information; Mechanism Design, G21 - Banks; Depository Institutions; Micro Finance Institutions; Mortgages, G11 - Portfolio Choice; Investment Decisions, and E42 - Monetary Systems; Standards; Regimes; Government and the Monetary System; Payment Systems
Creator: Smith, Bruce D. (Bruce David), 1954-2002 Series: Working paper (Federal Reserve Bank of Minneapolis. Research Department) Number: 234 Abstract:
Current approaches to monetary theory and policy owe much to the "quantity theory of money." However, recent theoretical developments suggest that the manner in which money is introduced is more important, even for price level movements, than the quantity of money. Colonial American experience provides a laboratory for discriminating between these views. It is shown here that the nature of backing, rather than the quantity of money, determined its value. Large secular inflations were ended by changing the nature of backing despite the continuance of large note issues (and despite the absence of a metallic standard). Extremely large note issues and note withdrawals are shown not to have produced inflation (currency depreciation) or deflation (currency appreciation).
Keyword: Fiat money, Quantity theory, Currency, and Colonial America Subject (JEL): N11 - Economic History: Macroeconomics and Monetary Economics; Industrial Structure; Growth; Fluctuations: U.S.; Canada: Pre-1913, E52 - Monetary Policy, and E42 - Monetary Systems; Standards; Regimes; Government and the Monetary System; Payment Systems