Is It Time To Allow Large Banks To Issue Private Bank Notes?

Below is a comment I posted on Econlog blog, "Too Small to Succeed?" by David Henderson.

Actually, the failure of rural banks [during the Great Depression] was ironic. In addition to Federal law, most State banking laws also prohibited intra-state and interstate banking. The common belief was that the rural banks would just send the deposits to the cities and there would be insufficient funds for farmers, etc. Laws intended to help rural areas actually hurt them during the Depression.

The decline of the agricultural workforce allowed banks to expand nationally without negative political ramifications.

Eliminating deposit insurance now is politically very difficult and the insurance is often cited as the sole cause of the moral hazard problem. Unfortunately, when federal deposit insurance was passed, private bank notes were also banned.

These private bank notes traded as currency at par or discounts based on the healthiness of the bank issuing them. Their exchange values were probably the foremost indicators of a bank's safety and soundness. The bank notes also stopped moral hazard.

As far as I know, the reintroduction of private bank notes as currency has not be studied or promoted (but my knowledge of this area of research is limited).

Could allowing banks to issue private bank notes remove moral hazard issues? Are private bank notes viable in today's economy? Could the Fed still control the money supply? SEC issuance problems?

Gift and prepaid merchant cards are like private money in many ways since insolvency and bankruptcy leave the cardholder as a general creditor of the firm. I do not know of markets that trade these cards and reflect the viability of the issuing merchant. It may be one reason bank prepaid cards, such as Visa, MasterCard and American Express have gained in popularity over private merchant cards.