Deposits, Loans and Banking: Clarifying the Debate

By Philipp Bagus, David Howden and Walter Block

Abstract:
The relationship between banking deposits and loans remains a contentious topic. While the defense
of a 100 percent reserve clause to eliminate fractional reserves has commonly been asserted on
economic and ethical grounds, new legal arguments found in Jesús Huerta de Soto (2006) remain
largely ignored. We address Michael S. Rozeff’s (2010) recent article as a case in point of this
ignorance. Contrary to supporters of fractional reserve demand deposits, we show that such a
contract – one treating a loan and a deposit interchangeably – is impermissible due to both
established and a priori legal principles. At best, a fractional reserve demand deposit contract may
be considered an aleatory contract. Based on an uncertain future event, we find this type of contract
wholly incompatible with the reason individuals hold money – the mitigation of uncertainty.
Despite what defenders of fractional reserve banking claim, deposit and loan contracts are distinct,
and may not be contractually melded together.

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