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A New Explanation for Free Bank Failures

Staff Report 79 | Published November 1, 1982

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photo of Arthur J. Rolnick

Arthur J. Rolnick Senior Vice President and Director of Research, 1985-2010

A New Explanation for Free Bank Failures

Abstract

In this paper we propose and test a new explanation of bank behavior during the Free Banking Era, 1837–63. Arguing against the view that free bank failures were due to fraud, we claim that they were caused by exposure to term structure risk. Testing this new explanation with a new and extensive body of data, we find strong support for it: periods of falling bond prices correspond to the periods with most of the free bank failures. The new data do not support the view that fraud caused the failures.


Published in: _Journal of Monetary Economics_ (Vol. 14, No. 3, November 1984, pp. 267-291) https://doi.org/10.1016/0304-3932(84)90044-8.