The Political Economy of Private Paper Money: Institutional Development in Europe Up to 1800
43 Pages Posted: 22 Aug 2013 Last revised: 24 Sep 2013
Date Written: June 24, 2002
In this paper I consider how the systems of private money in Venice, Amsterdam and England dealt with financial crises and raise the possibility that the institutional structure of the banking system that developed in 18th century England was particularly well adapted to addressing system-wide crises that threatened the whole financial network. In all three cases, banks extended the supply of commodity money by issuing convertible claims while operating on the basis of partial reserves, thereby creating the possibility that a bank could face an unusually high demand for deposits which its reserves could not cover. From a theoretical point of view we can consider this the problem of individual uncertainty, abstracting from the issue of aggregate uncertainty. However, a partial reserve banking system where deposits are convertible into a real good is subject also to the possibility that all banks simultaneously will face an unanticipated demand for deposits which the system as a whole is unable to meet. This is the problem of aggregate uncertainty. I investigate how each of the three systems addressed the situation of an individual bank at risk and the situation of a system-wide threat to the financial network.
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