That seems to be what John Cochrane is advocating.
In the 19th century, private banks issued currency. A few crises later, we stopped that and gave the federal government a monopoly on currency issue. Now that short-term debt is our money, we should treat it the same way, and for exactly the same reasons.
Read the whole thing. He argues against the conventional approach to financial regulation, which is to allow banks to issue risk-free liabilities with an explicit or implicit government guarantee and try to regulate their risk-taking on the asset side.
While I agree with those who favor a financial system with more equity and less debt, I would prefer a different approach to getting from here to there. I would like to phase out the subsidies to debt finance. These subsidies include deposit insurance, too-big-to-fail, and the favorable tax treatment of debt. All of these ideas are fairly drastic relative to current policy, but they are less drastic than outlawing outright the contracts that create short-term debt.
Consider this recent paper by Harry DeAngelo and Rene M. Stulz.
Debt and equity are not equally attractive sources of bank capital. Debt has a strict advantage because it has the informational insensitivity property – immediacy, safety, and ease of valuation – desired by those seeking liquidity. High bank leverage is accordingly optimal when the MM model is modified to include a price premium to induce (socially valuable) liquidity production.
Or, in my terms, the nonfinancial sector wants to issue risky liabilities and hold safe assets, and the financial sector accommodates this by doing the reverse.
Another recent essay, Taming the Megabanks, comes from James Pethokoukis.
I have to wonder if Cochrane is familiar at all with the literature on historical examples of free banking, especially the Scottish or Canadian systems; or with Friedman & Schwartz’s study of banking crises under the national banking system, which argued that financial crises were due to changes in the currency / deposit ratio and its effect on the money multiplier; or with the 19th century or modern theoretical arguments of free banking advocates. He seems to take the conventional (US- and England-centric) story of central bank origins at face value when there’s quite a bit of reason to question it.
What is a demand deposit to a bank if not short term debt.
I posted before reading the linked article, he is calling for 100% backing of demand deposits and an end to “transform maturity”! I think that might work but better IMO would be to let free banking take hold and evolve. I think that we would end up with competitive bank currency backed only with bank assets.
Cochrane doesn’t want to outlaw short-term debt, he says it should be regulated so that banks can only buy safe assets with it. I was pleasantly surprised to read him talking about the problems with bank runs and short-term debt, both issues I’ve been talking about as the real causes of the crisis. Add the bit about buying coffee with a piece of your ETF, an idea similar to digital barter, which I’ve been talking about also, and I was impressed with all the good ideas he has in there. I’m tempted to think he’s been reading my comments, but it’s more likely the old aphorism about great minds. 😉
That said, like Jon and Floccina here, I disagree with him about the need for regulation. If short-term debt is so bad, I see no reason why the dumb govt regulators have now figured this out, but banks and their customers have not. If reverse repos are so bad, and I think they are, I don’t see why the banks and those who give them money have to be made to stay out of it. Surely they have learned that lesson from this crisis? But one wonders why those lending money to those banks ever allowed such risky behavior to happen in the first place.