Is fractional-reserve banking inherently unstable? Over at National Review, Edwin Burton, a visiting economics professor at the University of Virginia, argues that the “mismatch between the maturity of the source of funds and the maturity of the use of funds” creates a run-prone system. His argument, however, overlooks important contributions to monetary economics. Fragile banking systems usually result from political design, rather than economic necessity.
The fractional-reserve fragility hypothesis makes a prediction that is largely falsified by banking history. Inherent fragility implies runs should be largely random. But this isn’t so. Runs usually occur at banks where depositors have a rational basis to question the health of the balance sheet. The most recent round of failures, including Silicon Valley Bank and Signature Bank, didn’t happen at sound institutions beset by bad luck and depositor hysteria. They happened at unsound institutions with foolish capital structures.
