The Constitution of a Financial System

Abstract

We extend the literature on ‘monetary constitutions’ by arguing that binding rules must go beyond specifying the behavior of the monetary authority. Instead, a genuine monetary constitution must also be a financial constitution: it must take into account the natural and evolved links between money and banking, treating them as a single institution. We present a unified conception of money and banking, show how modern monetary institutions have severed the traditional links between money and banking, and discuss how macroeconomic stability is an unintended result of a self-enforcing constitution for the money-and-banking system. Finally, we conclude by discussing the implications of our argument for re-orienting the conversation on post-financial crisis stability towards genuinely institutional solutions.