Free banking had several important features: it took minimal capital and red tape to set up a bank, in contrast to the earlier chartering process; free banks could issue notes backed by the security of state bonds (some states stipulated the bonds valued as at par and some at market value); the notes were to be immediately redeemable on demand in specie; and the banks were regulated and supervised by state authorities. Bank notes circulated at various discounts reflecting the quality of the bond backing, the soundness of the bank, the quality of the state regulations and supervision, and the distance of the note from the issuing bank. Other well-known flaws of the national banking system were: the inverted pyramid of credit (most of the nation’s bank reserves were concentrated in New York City and invested in the call loan market, thereby linking stock market crashes to banking panics); and the absence of a mechanism to stabilize seasonal shocks.
Author: December 9, 2025
Published at: 2025-12-09 00:00:00
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