Money, Bank Credit, and Economic Cycles - The Ludwig von Mises ...

252 Money, Bank Credit, and Economic CyclesThat is, the bank will have the capacity to create 1,097,560m.u. in the form of unbacked bills. One by one we couldduplicate for banknotes all of the results we obtained for bankdeposits, which shows that there is no economic differencebetween the issuance of unbacked bills and the ex nihiloexpansion of bank-credit backed by deposits generated fromnothing. The only substantial difference is of a legal nature,since according to universal legal principles, the issuance ofunbacked bills implies counterfeiting and the crime of fraud,while the monetary bank-deposit contract only involves misappropriation.Nonetheless there are some differences regarding the waythe operation is carried out. Banknotes take the form of bearerbonds and each has a particular face value, allowing the notesto be transferred from one person to another without it beingnecessary for the bank to make any accounting entry in itsbooks (and as a result the cost of bank transactions decreases).In contrast deposits offer customers the advantage of beingable to write an exact figure on a check without needing tohand over a specific number of bills of a set value. Howeverthe fact that the banker must follow the transactions conductedand record them in his books constitutes a disadvantage.Still, apart from these legal differences and differences inform, from an economic standpoint the two operations areessentially identical and produce the same effects. As we willsee later, however, when the theory of money was first beingdeveloped, theorists only recognized the immorality of the creationof unbacked banknotes and the serious harm it causes.They did not initially realize nor respond to the fact that theexpansive creation of loans backed by deposits generated fromnothing has exactly the same effects. This explains why thePeel Act of July 19, 1844, the foundation of all modern bankingsystems, prohibited the issuance of unbacked bills yet failedmiserably to achieve its objectives of monetary stability and anadequate definition and defense of citizens’ property rightswith respect to banking. Its failure was due to legislators’inability to comprehend that bank deposits with a fractionalreserve have exactly the same nature and economic effects