Veblen and Simons on Credit and Monetary Reform

Abstract

There has been renewed interest recently in the reform of the financial system. Conferences sponsored by the Federal Reserve Bank of San Francisco in 1985, and the Federal Reserve Bank of Kansas City in 1986 focused on the stability of the U.S., as well as the global, financial system [3; 4]. The formation of a new group, the Committee on Monetary and Economic Reform (COMER), is also indicative of a resurgence in interest in fundamental financial reform [1]. Even Milton Friedman, who has long argued for a government monopoly in the production of fiat money, in a recent article questions whether the current system of inconvertible paper money has negligible costs when compared with a commodity standard such as gold [6, 644]. The recent discussions on monetary reform have also revived interest in the proposals of Henry Simons for reform of the banking system.' Simons proposed separating the depository and lending functions of financial institutions. Fernandez [5] has analyzed the dynamic implications of the Simons proposal, which most recently has resurfaced in the discussions of Islamic banking [9; 10]. The purpose of this paper is to present a Veblenian model of financial instability and evaluate Simons's proposal for an equity based financial system in the context of that model. The implications for reform of the monetary system are then discussed.