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There are lots of contradictions in the world of finance and economics about “free market capitalism” and the persistent attacks against “banksters”. But there are a few simple truths that we should all agree on before we go railing against the system as it presently exists:

1) Our monetary system is designed primarily around private banks who distribute money within a market based system. Banks create loans which create deposits (money) when creditworthy customers have demand for loans.

2) Our government has outsourced control of the money supply to the private banking system. The government doesn’t actually create much of the money at all. The banking system handles most of that. The government mostly just regulates and facilitates the smooth functioning of the money system.

3) Private banks don’t work for the government. They work for their shareholders just as all privately owned companies do. In doing so, they are under pressure to maximize profits and at times, take big risks to expand their businesses and meet the growing needs of their shareholders.

4) Just like any other capitalist entity, there is an inherent instability in the model that is private banking. That is, banks are susceptible to irrational and even ignorant business transactions which result in volatility in their businesses as they pursue profit maximization. In other words, banks are not immune to the business cycle.

5) Banks, however, are unique, in that their failures can have massively damaging impacts on the economy since banks dominate the payment system which greases the wheels that keeps the economy running smoothly. So, when the wheels fall off the banking system, there are times when it needs exogenous support or it risks unnecessarily bring down the rest of the economy.

6) That exogenous support comes from the government who has the incredibly powerful tool of taxation.

7) Banks are constantly receiving massive government support (via the Fed or the government) via massive fiscal transfers that amount to trillions in government subsidies. The banking system is so crucial to the health of the economy that it can really be no other way. And yes, we’ve tried rogue capitalist banking before where there was no government support. It didn’t work out all that well as we discovered during the many panics of the late 1800′s and early 1900′s. Depressions sound cool until you spend half your life in one….To a pure capitalist, this free market system is better than just having the government issue all the money. To a pure statist, the capitalists abuse this system and should be stripped of their power to issue money.

Of course, we could qualify all of this by going all Rothbardian on the banks and stating that they should be allowed to fail just like any other entity, but that’s not always a realistic outcome. For instance, it’s now clear that the bank bailouts in 2008 actually stabilized the economy to a large degree. Had we not done that, we likely would have seen an economic downturn that much more closely related to the Great Depression. In other words, all of us would have been sucked into a depression that was largely the result of a weaker banking system. Would that have been necessary? I say no. And yes, I know that some will claim that would have been a “cleansing” of some sort, but that doesn’t mean the downturn wouldn’t have been much longer and deeper (or unnecessary). Depressions are nice in theory, but it’s easy for us to all claim they’re good for the economy in the long-run until we’ve lived through one in the short-run….

In other words, if you support private banking and the system we have then you support bank bailouts at times. Is that a good thing or a bad thing? Is private banking better than public banking? I am not here to play judge and jury, but only to describe what is. What’s your opinion?

Source: If You Support Private Banking, You Support Government Subsidized Banking