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

392 Money, Bank Credit, and Economic Cyclesabout credit expansion, and therefore banks are unable toeliminate their liabilities at the same rate the value of theirassets drops. An accounting maladjustment ensues, leading tosuspensions of payments and to the bankruptcy of marginallyless solvent banks. If pessimism and the lack of confidencespread, all banks may become insolvent, ending in the disastrousfailure of the banking system and of the monetary systembased on fractional-reserve banking. This instability intrinsicto the fractional-reserve banking system is what makes theexistence of a central bank as lender of last resort inevitable, justas the correct functioning of a system of complete banking freedomrequires a return to traditional legal principles and thus a100-percent reserve requirement.If a monetary bank-deposit contract which allows bankersto neglect their obligation to maintain a 100-percent reserveratio may eventually even lead to the downfall of the bankingsystem (and of many of its customers), how is it possible thathistorically bankers have insisted upon acting in this manner?In the first three chapters we studied the historical factors andcircumstances which gave rise to the bank-deposit contractwith a fractional reserve. There we saw that this contract originatedfrom a privilege governments granted bankers, allowingthem to use in their own interest the money of their depositors,most often in the form of loans given to the very granterof the privilege, i.e., the government or state, continually overwhelmedby financial pressures. If governments had fulfilledtheir essential purpose and had adequately defined anddefended the property rights of depositors, such an anomalousinstitution would never have emerged.Let us now ponder some additional considerations withrespect to the emergence of the monetary bank-deposit contractwith a fractional reserve. One relevant issue is the greattheoretical difficulty which, given the complex, abstractnature of social processes related to credit and money, rendersa great many people, even those most involved in theseprocesses, unable to analyze and comprehend the effectswhich credit expansion ultimately provokes. In fact throughouthistory most people have generally considered the effects ofcredit expansion on the economy positive and have merely