Tuesday, September 26, 2023

What is Simons Banking? | Another controversial suggestion from Milei

The candidate Javier Milei proposes the introduction of an anti-bank Simons banking system. The instrument is a complement to the dollarization and closure of the central bank, which would leave the banking system without bailout options in the event of a bank run. The experience of convertibility with the confiscation of savings that the Corralito entailed required dealing with possible criticism by reapplying a system that eliminates the lender of last resort. But what is Simons Banking?

Nearly a century ago, Chicago economist Henry Simons proposed a breakup of the banking system. On the one hand, the deposits would have a compulsory reserve of 100 percent, so that they could not be loaned out by the banks. The advantage of this is that there is no possibility of a run as the money you deposit is completely protected at the central bank. The disadvantage is that the deposits do not produce any profits because they are not lent out. Rather, they generate losses because we have to pay for the security that the bank provides by guarding our savings. This system already exists today and is called a bank safe deposit box, a practice that will be expanded to all deposits.

To keep credit from disappearing, Simons suggested that anyone who wants compensation for their savings should risk them directly by financing investment projects. This means that instead of putting the money on a fixed term (which no longer exists) and the bank being responsible for granting the loan, the savers should be the lenders directly. This occurs when an individual purchases stocks, corporate bonds or government bonds, a practice that would be widespread through mutual funds, including short-term consumer or business liquidity loans.

The main disadvantage of Simons Banking is that the investment risk is transferred from the banks to the savers themselves. Protection against runs is a euphemism that sells the existing option of contracting a bank safe deposit box as new. In fact, what is systemically important is that every saver who wants to achieve a financial return on their savings must make financial investments that require a complex risk analysis in view of the elimination of the fixed term. Considering that most savers have very vague financial knowledge, the likelihood of their savings disappearing due to sudden devaluations of financial instruments is very high.

This situation is getting worse with the disappearance of the central bank as part of dollarization. The absence of a lender of last resort weakens the possibility of government intervention to rescue bonds, stocks or other financial instruments that suddenly lose value. This increases the volatility of the already very volatile financial markets, and this extreme risk would no longer weigh on the banks, but directly on the value of the population’s savings.

Nation World News Desk
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