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Wednesday 13 January 2016

Sound Money: an Austrian proposal for free banking

The Bank of England should abandon its Monetary Policy Committee, target nominal GDP and adopt the 'Free Banking' systems of 19th Century Austria, Switzerland and Scotland, says ESCP Europe professor Dr Anthony J Evans in a new research report for the Adam Smith Institute.

The report - 'Sound Money: an Austrian proposal for free banking, NGDP targets, and OMO reforms' - is a comprehensive critique of the flaws in the way the Bank of England currently does monetary policy, and offers a superior means of achieving their goals of macroeconomic stability.

Dr Evans states that the Bank of England has failed to stabilise the economy over the last century. He recommends that they abolish the Monetary Policy Committee, use Quantitative Easing instead of interest rates to conduct normal monetary policy, and switch from an inflation target to targeting the total amount of nominal spending in the economy (nominal GDP).
He also suggests a move towards a rules-based system for monetary policy, rather than the discretionary system it currently uses; but, he argues, it should look ultimately toward ending monetary intervention altogether. The UK's monetary regime should eventually aim towards the 'free banking' systems that brought financial stability to 18th and 19th century Scotland and elsewhere.

Since the financial crisis, The Bank of England has made important changes to how they conduct monetary policy – such as the introduction of Quantitative Easing and Forward Guidance – and the Government have made bold interventions into the banking system. However, these drastic measures have failed to identify the root cause of the problem: the monetary regime.

Dr Evans said: "Whilst inflation targeting has been discredited, and all but abandoned, it has not been replaced by a coherent and consistent strategy. This paper not only provides constructive advice on how to reform current policy, it places this in the context of a more comprehensive programme for sound money.

"If you're going to engage in QE, make it adhere to Bagehot's law. If you're going to target a macroeconomic indicator, target NGDP. But if you want to stop central banks from introducing monetary distortions in the first place, move to free banking."
According to the report, quantitative easing should be extended to the market generally rather than being an interaction with a few preferred dealers, so as to minimise distortions caused by buying from select financial institutions. It should be made open-ended, with the purpose of stabilising the growth path of nominal GDP—the total amount of spending in the economy—letting the market determine how much of that nominal GDP is real output and how much is inflation.
As well as the free banking systems of 19th century Austria, Switzerland and Scotland, the paper takes inspiration from the monetary economics and Nobel Prize winners Milton Friedman and Friedrich Hayek, who both argued that central bank discretion tends to push the economy away from rather than towards stabilisation.
The idea is to set monetary policy by replacing the discretion of policy makers and their two per cent inflation target with a system of rules. Private banks should eventually be handed powers to issue currency instead. Prof Evans said: "After a century of failure, it may even be time to strip central banks of their powers over monetary policy entirely, and let private banks issue their own notes."

About Dr Anthony J Evans

Dr Evans teaches Economics at undergraduate and masters degree level at ESCP Europe's campus in London, including the Executive MBA. He is the former Director of the Master in European Business programme.  His book 'Markets for Managers' (Wiley 2014) was widely acclaimed as an accessible text for both managers and students.

From the foreword to the report: "The author, Dr Anthony Evans, is ideally suited to make such a challenge. Anthony is, without a doubt, one of the best of the up-an-dcoming generation of free market economists: a highly original and much regarded thinker with an remarkably wide range of interests, including money and banking, political economy, managerial and cultural economics, and much else besides. He is a faculty member of ESCP Europe Business School and a member of the Shadow Monetary Policy Committee run by the Institute of Economic Affairs."

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