Do we need a central bank?

We might want to conclude from U.K. and U.S. monetary history that financial crises are inevitable, and that central banking is a necessary component of a financial system, in part because it can mitigate or eliminate panics. But, if we do, it is possible we are ignoring something important: the Canadian counterexample.

A theme of the last four chapters of this volume –with the last two chapters dedicated in particular to the work of the influential Canadian macroeconomic historian Michael Bordo –is that studying Canadian monetary and banking history can be particularly illuminating for a student of …financial crises and central banking. In its entire history, Canada has been essentially free of widespread banking panics. During the twentieth century, there were three failures of chartered banks in Canada –a failure of a smaller bank in 1923, and two small regional bank failures in 1985. There were no chartered bank failures in Canada during the Great Depression, or during the recent Great Recession.

What may seem even more surprising is that Canada had no central bank before 1935, when there was a safe and well-functioning system of private currency issue maintained by chartered banks. So, apparently central banking, with a central bank monopoly on currency issue, is by no means a necessary condition for …financial stability. Further, if we were convinced from standard theories of banking panics (e.g. Diamond and Dybvig 1983), that banking systems are inherently unstable, the Canadian experience might give us pause. [Link]

That was from a brilliant and eye-opening review essay by Stephen Williamson of the Federal Reserve Bank of St. Louis of the edited volume, ‘Current Federal Reserve Policy Under the Lens of Economic History, edited by Owen Humpage and published in 2015.

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