This article is an attempt to encourage people to move away from making empirical assertions without any empirical evidence - to actually look at literature that banks provide for customers to see whether or not they mislead them.
There's been a lot of debate about the Carswell Banking Reform Bill (also see here for an introduction), and thus far I've not contributed too much. If you've missed it, I'm referring to comments at the Coordination Problem blog (here and here, but you might also find the comments following an interview with Steve Horwitz at The Daily Bell amusing).
My understanding of the bill (and I keep stressing that until it's been made public we all need to keep an open mind) is that people like myself - who understand and are happy with fractional reserve demand deposit accounts - would need to replace any existing accounts with new ones. Therefore my position is akin to George Selgin's:
the question is whether your solution of making all "demand accounts" into bailments (even though people already can chose a safety deposit option) is an appropriate solution to that problem. I don't think so, first of all, because it punished those intelligent enough to know what a demand deposit really means, and to appreciate the advantages of such deposits (please let's set guanatees aside for the sake of this point), and, second, because if ignorance is the problem the straightforward solution is to hand every depositor sign a document declaring "I understand that my "demand deposit" is actually a debt contract and not a bailment, and that the banker is therefore under no obligation to hold cash reserves fully backing it" or whatever. For good measure the banks could also be required to hand their customers dictionaries for the purpose of looking up fancy words like "debt."
But seriously: there is already too much legislation designed to protect the ignorant at the expense of the less ignorant. Let's by all means help the former--but not at the latter's expense.
The really exiting facet of the bill is that it attempts to eradicate deposit insurance by providing a safety net of custodial banking. Given that deposit insurance is one of the key problems identified by fractional reserve free bankers and 100% reservers alike, this could so easily be grounds for consensus - indeed no "free bankers" I know have any problem with the provision of custodial banking. Indeed during the financial crisis deposit insurance in the UK rose from £30,000 to £50,000 as an "emergency measure". It should be obvious that anyone stupid enough to have more than 50k in a single current account probably deserves to lose their money, but at some point the public debate should come around to how to get rid of these emergency measures. I see a real opportunity for Doug Carswell and Steve Baker to say "as part of our efforts to reduce these emergency provisions we will facilitate the adoption of custodial accounts".
My disagreement with their proposal centres on what we define as the status quo, and whether fractional reserve accounts should be opt in or opt out. It seems wrong to me to convert existing current accounts to custodial ones, and force people to then set up new ones to perform the same function as the old ones. It seems far simpler (and indeed politically feasible) to mandate that banks offer custodial accounts so that customers concerned about the elimination of deposit insurance can move some of their money into them.
Indeed compared to my own proposal, "2 Days, 2 Weeks, 2 Months" the difference with the Carswell/Baker bill boils down to framing effects and the status quo.
Therefore the only real argument that would convince me to support the Carswell/Baker proposal for transition is if I believed that current banking contracts are fraudulent, and thus should not be allowed to stand. However this poses several tricky issues. Firstly, it's abundently clear that in UK law demand deposit accounts treat deposits as loans to the bank. As Current has alluded to, if the Cobden Centre simply took out full page adverts in the national newspapers and various billboards that say:
Your current account is an IOU not a receipt - it is *not* being stored for you in a vault, it is being lent out.
possibly with the following...
In the event of a bank run you will not be able to redeem it immediately, but the interest we pay compensates you against this risk.
...maybe even ending with
If you don't like this by all means put your money in a safety box. No one is forcing you to give it to us
... then us Austrian school economists would have nothing left to quibble about! The law is clear - the problem is the public understanding of the law. But since this issue rests on public ignorance, there's a few problems:
- Let's say a judge finds that banks have indeed misled their customers, and therefore those contracts are not valid. What would the response be? Have the account holders been harmed by the fact that they've been holding debt contracts and not bailments? No! They've probably benefitted from receiving a positive interest rate! So should the depositors have to pay back money to the bank?!
- People probably spend more time researching where to go on holiday than what bank to put their money in - should our aim be to insulate them against getting this decision wrong, or trying to encourage them to actively confront this decision? I'm for raising the costs of stupidity, not subsiding it!
- Why is banking any different to other industries? We know that the general public are "confused" about the health benefits of various foods. Are people surprised to learn that a particular Pret a Manger sandwich contains a third of your recommended daily salt intake? Or as their spokesman says, "People know that when they buy an All Day Breakfast sandwich it's not the healthiest option" - if we did a survey that finds most people did think the sandwich was healthy would that be grounds to ban it? Or grounds to force Pret A Manger to offer a healthy range of sandwiches to provide a "choice"? You can see why there's a suspicion that the Carswell bill is merely an example of conservative paternalism
- The specific survey that Carswell uses in his bill is "Public Attitudes to Banking", which is not peer-reviewed and not perfect. Here's my earlier post presenting the findings and responding to criticisms from Steve Horwitz. Aside from reflecting the well-known phenomenon of widespread public ignorance, the key question is "who do you think owns the money in your current account(s)?" The "correct" answer is "the bank does", which only 8% of the people surveyed answered. However as a thorough subjectivist this leaves me uneasy. Is it possible that some of the remaining 12% (acurately believed) "I hold a property right with regards to the money in my account"?. I'm not sure. These are the perils of survey data. Handle with care.
My claim is that these are empirical assertions and to my knowledge neither side has attempted to resolve this by commissioning a study of the general public. Therefore claims about deception are mute until such a study is made
I've tried to take a step forward on this and encourage other people to improve on the questions and gather more data. Let's go beyond pop quizzes in class and get some robust evidence.
Indeed - and this is the point of this article, apologies for taking so long to get here - these debates seem to have generated another set of empirical assertions smilarly devoid of study: the extent to which banks mislead their customers.
I won't provide citations, but anyone familiar with the academic literature (and indeed the resulting internet comments exchanged) will recognise this. It is my intuition that banks are less than open about the products they offer, and my priors are that the general public are understandebly confused. But given etymology is such an important component of 100% reservers arguments, why does no one point out that in the UK at least the phrase "demand deposit" is hardly ever used?
Indeed the last few times I've been in town I've popped into the main high street banks and read their literature on how banking operates. My simple conclusion is this:
Banks aren't clear about how their accounts operate, but I don't see outright falsehoods and this is therefore "merely" a profit opportunity for banks to improve on their customer services
I believe in the power of the consumer to encourage banks to improve the information they provide. My wife was recently talking to the people behind the redesign of the Lloyds TSB website, and passed on my joy that you can now download your statements as a CSV file. Why can't you also use tools to label different items on your balance, so that you can have a breakdown of spending? I don't know, but in the same way that banks now compete over switching costs, let's apply consumer pressure to put:
Your current account is an IOU not a receipt - it is *not* being stored for you in a vault, it is being lent out.
on every website/statement. Yes, as interventions go this wouldn't be a particularly bad one, but let's exhaust voluntary pressure before turning to the state.
That said, let's look at some of the evidence that can be easily found via the internet. Firstly, notice how Santander explain their savings accounts (below): they make a *clear* distinction between "instant access accounts" and "fixed rate savings bonds". No mention of "demand deposit", just a trade off between easy access vs higher interest rates.
My aim here is to concentrate on the public information, so I'll leave it to others to read the small print (although I'm surprised if no one has already done this yet??) but note that the links for the legal documents for Santanders current accounts don't work.
Barclays are similar. As you might expect, they play up the "security" of a fixed rate bond rather than the "insecurity" of an instant access one, but I'd have though most people can tell the difference.
Also see Lloyds - they very clearly label their fixed term savings accounts:
Again, there's little information about how they are able to offer a positive interest rate on their current accounts/instant access savings accounts. But this also brings home the point on deposit insurance. They provide an FAQ on whether savings are "protected":
Of course the debate then becomes whether the FSCS must be "100% reserved"(!) but I'll point out that this is a separate insurance company (not a bank), so at this point the argument that "insurance companies don't need to be 100% reserved because they're not banks" falls down completely.
Also, there's another chance to stray too far into debates about terms - some might argue that "instant access accounts" can't possibly be called "savings". Well if my jar of pennies counts as savings, and my collection of books, so can some callable loans from Lloyds TSB.
Now, I don't want to be dismissed as some dogmatic "free banker" - after all I have modified my opinion on this debate over the last few years and have moved more towards the White/Selgin/Horwitz view because I have recently re read their works and find them more pursuasive than the alternatives. But just to show that I do try to find a middle ground, here's some ammunition for the "current practice is fraud" crowd:
Bank of Scotland L5 note, 1730-65: "one pound sterling on demand, or in the option of the Directors one pound and sixpence sterling at the end of six months after the day of demand."
My fear is that if our goal is to eradicate public ignorance we commit the same errors as the socialists - ignorance is our starting point, a fact of nature. It's the institutions we build to deal with that which are important - eradicating deposit insurance, adopting living wills, removing emergency liquidity support, eradicating moral hazard, keeping banking experiments localised, improving regulation through competition, closing the discount window. We do have a positive program for lassaiz-faire.