Proposals for full reserve banking are regarded as unsound or meaningless by mainstream economists and bankers, and are rarely discussed in mainstream circles. By contrast, within the Austrian school of economics, the relative merits of full reserve and fractional reserve banking are the subject of active debate.
It is said a full-reserve bank would not be able to make any loans because this would cause the reserves to drop below 100%. It would not be what is meant by a bank, because it could not intermediate money between lenders and borrowers. However, there can be other sources of money for lending than the customers deposits. pp 13-14: Financial Intermediation Under 100 Percent Reserve Banking
This would eliminate (or at least greatly reduce) the financial risks associated with bank runs, as the bank would have all the money in reserve needed to pay depositors - regardless whether depositors actually claimed their money.
This form of banking would also greatly reduce the need for a lender of last resort (such as a central bank), which is normally needed to support the banking system in times of systemic risk or financial contagion, as these financial risks would not exist in a full-reserve banking environment.
A bank could engage in full reserve banking by making loans backed completely by a commodity or government created debt-free currency. Banks would not have the power to create "money" as they are able to do within a fractional reserve banking system. The monetary base would remain stable.
This simply requires that the resources available to the banks issuing credit money and demand deposits would be sufficient to convert all currency at once if so required. It was a central component in Social Credit proposals.
Some advocates believe that full-reserve banking should only apply to demand not fixed loan deposits. The distinction that full reservists make is that demand deposits such as checking and some modern savings accounts are available for immediate use by the owner of the account, whereas a traditional savings account is restricted.
A system in which all currency is backed by another asset and commercial banks are required to maintain a 100% cash reserve ratio has never been implemented in any actual economy.
In monetary policy, the closest analogy to a full reserve bank is that of a currency board, in which commercial banks are not required to maintain a 100% cash reserve, but all of the money in circulation is backed by another asset held by the central bank. This system is in use in Hong Kong where the Hong Kong dollar is backed by United States dollars deposited in the Exchange Fund of the currency board. Other independent states such as Lithuania, Estonia and Bosnia have implemented currency board-like systems (local currencies are anchored to the euro). Argentina had a currency board-like system (anchored to the U.S. dollar) up until 2002 (when it broke the link with the U.S. Dollar and devalued the Argentine peso), and many Caribbean states have used this kind of system up until recently.
Pascal Salin, former professor at the Université Paris-Dauphine and former Mont Pelerin Society president, opposes such regulation of banking. He argues that a situation of perfect certainty doesn't exist even in a full-reserve banking system. He also argues that in a perfectly free banking system any customer must be free to choose the kind of notes and the system of payments for services he prefers since optimality cannot be defined independent of the wants of the individual.
Advocates of full-reserve banking do not necessarily advocate that the government lay down regulations stipulating such a system. In fact, some economists, such as Murray Rothbard (of the Austrian School) believe that government has everything to do with the pervasiveness of fractional-reserve banking, as governments have essentially formalized the process by making it legal and supporting through the creation of central banks; and, in doing this, they have prevented the natural checks that would likely otherwise be placed on banks, by astute customers, anti-fractional-reserve consumer groups, and other such organizations. Rothbard has written extensively on what he sees as the inherent instability of fractional reserve banking, and its role in causing inflation and volatile business cycles. Rothbard expresses these concerns, and argues the case for 100% gold or silver-backed money, in his book What Has Government Done to Our Money?.
Many monetary reform groups focus on the perceived inequities and dysfunctional effects of fractional-reserve banking as a target for reform. Monetary reformers such as Joseph Huber and James Robertson both support full-reserve banking as part of a comprehensive review of monetary policy in the information age. They argue for one major monetary reform: the reappropriation by governments of the right of seigniorage now possessed by private banks. Almost all new money currently issued takes the form of loans made by private banks to borrowers. Huber and Robertson want to make this method of privatised money creation illegal. The creation of new money, both cash and non-cash, should be the exclusive prerogative of the central bank, according to these writers. The government-owned central bank should determine how much money creates in the light of the objectives chosen for the country's monetary policy and long-term (sustainable) wellbeing, and credit the new money to the government, at no cost. This interest-free credit will then put it into circulation by the central government simply spending it..
Michael Rowbotham has also advocated a very similar policy of monetary reform.
Another full-reserve proposal is put forward by the "American Monetary Institute" AMI: "The Federal Reserve banks would be nationalized, but not the individual member banks. The power to create money was to be removed from private banks by abolishing fractional reserves – the mechanism through which the banking system creates money. So the plan called for 100% reserves on checking accounts which simply meant banks would be warehousing and transferring the money and charging fees for their services."
Jimmy Stewart is Dead: Ending the World's Ongoing Financial Plague with Limited Purpose Banking.(Book review)
Jan 01, 2011; By Laurence Kotlikoff. 2010. New York: John Wiley and Sons. Pp. 241, $27.95 hardcover. Business Economics (2011) 46, 56-57. doi:...