The Review of Austrian Economics, 14:4, 251–266, 2001.
2001 Kluwer Academic Publishers. Manufactured in The Netherlands.
The Perils of Base Money
LELAND B. YEAGER
Auburn University, Ludwig Von Mises Distinguished Professor Emeritus of Economics, Auburn, Alabama, USA
Abstract. Insecure linkage of ordinary money to fractional reserves of a distinct base money can sometimes
endanger the smooth working of modern monetary systems. This danger applies most obviously to the analogous
insecure pegging of domestic to foreign currency. Worry would better focus, however, not on the size of reserve
ratios but on the very existence of something distinct to which ordinary money is linked.
In the modern world money is a device for monitoring transactions, keeping records, calculating economic bene-
ﬁts and costs, and accomplishing multilateral clearing. Money enables people conveniently to use the entitlements
acquired by delivering goods and services and securities to some trading partners to obtain others of these from
other trading partners. The tickets and memoranda employed in these operations need not take the form of little
disks of precious metal or even of certiﬁcates convertible into them or some other kind of ultimate base money.
It would be economically advantageous and feasible to make all money “inside money” (in the sense of Gurley
and Shaw), with the value of the money unit determined and maintained otherwise than through convertibility into
a distinct base money, which would have been abolished.
JEL classiﬁcation: E4, E5.
Ordinary Money and Base Money
We may relate discussions of distinct monetary reform proposals more closely by focusing
on one thing, base money, that two types of reform would handle in quite opposite ways.
This focus enlists a fairly unfamiliar interpretation of what, after all, is the key function and
nature of money. It also further illuminates the analogy between domestic bank runs and
international currency crises.
Numerous economists have examined these speculative situations. In particular, one wing
of the Austrian School worries about merely fractional reserves held against bank demand
deposits (and banknotes, if any) and calls for 100-percent reserves (Hoppe, H¨ulsmann, and
Block 1998, Huerta de Soto 1998a, 1998b, H¨ulsmann 1996a, 1996b, and numerous writings
by Murray Rothbard and others that these authors cite).
This worry is partly justiﬁed. Insecure linkage of ordinary money to reserve or base
money can indeed impede the smooth working of modern monetary systems. This is most
obviously true of the analogous insecure pegging, in the international context, of domestic
to foreign currency. Such linkages are exposed to cumulative crises of conﬁdence. Worry
might better focus, however, not on the size of reserve ratios but on the very existence of a
distinct reserve or base money to which ordinary money is linked.
This distinction needs spelling out. In a broad sense money is generally accepted media
of exchange, the stuff that routinely changes hands or changes ownership in transactions.
Checking accounts (and banknotes, if any) count as belonging to this broad money supply.