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Tuesday, April 29, 2014

'Narrow Banks Won't Stop Bank Runs'

This is from a new blog by Stephen Cecchetti and Kermit Schoenholtz:

Narrow Banks Won't Stop Bank Runs: Every financial crisis leads to a new call to restrict the activities of banks. One frequent response is to call for “narrow banks.” That is, change the legal and regulatory framework in a way that severely limits the assets that traditional deposit-taking banks can hold. One approach would require that all liabilities that are demandable at par be held in the form of deposits at the central bank. That is, accounts that can be withdrawn without notice and have fixed net asset value would face a 100% reserve requirement. The Depression-era “Chicago Plan” had this approach in mind.
In the aftermath of the financial crisis of 2007-09, Lawrence Kotlikoff, Jeremy Bulow and Paul Klemperer, John Kay, and, most recently, John Cochrane, and Martin Wolf have resurrected versions of narrow banking. All of these proposals, both the old and the new, have a common core: banks should be split into two parts, neither of which would supposedly be subject to runs. ...
Naturally, we share the objective of these reformers: preventing bank runs. The key issue is how to do so and at what cost. We suspect that narrow banking would be costly in terms of economic performance, yet unlikely to achieve this goal. ...
We know that a combination of transparency, high capital and liquidity requirements, deposit insurance and a central bank lender of last resort can make a financial system more resilient. We doubt that narrow banking would.

(The original post is much more detailed.)

    Posted by on Tuesday, April 29, 2014 at 08:20 AM in Economics, Financial System, Regulation | Permalink  Comments (22)



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