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ABSTRACT
The banking industry has been a target of much criticism in recent years and was a particular target of the Occupy Wall Street movement. Financial institutions, such as traditional banks, use large amounts of short-term debt (deposits) to make longer-term investments. Large amounts of debt, or leverage, create a greater likelihood of financial distress, and the mismatch between short-term debt and long-term assets creates the possibility of destabilizing bank runs and financial crises. We respond to recent criticisms of fractional reserve banking from Barnett and Block (2009, 2010), and others and extend the moral questioning to include all banking, as well. We conclude that, even though banking suffers from the "original sin" of having incentives to take on too much risk, the material benefits to society outweigh the material costs from a utilitarian as well as Rawlsian perspective.
Keywords: Banking, fractional reserve banking, financial ethics, usury, financial crisis
INTRODUCTION
The recent financial crisis has called into question the ethical standards of our financial markets. From "Tea Party" activists to the "Occupy Wall Street" factions, there has been a sense of moral disgust at some of the events that have occurred in the financial markets and their impact on workers. The banking system has been accused of a whole list of abusive practices, including predatory lending, abusive credit card marketing practices, excessive debit card fees, faulty foreclosure practices, securities fraud and the list goes on and on. A recent series of articles has called into question the morality of the basis of our modern financial system, so-called fractional reserve banking.1 Is banking as we know it fundamentally unethical? Can it or should it be replaced with other forms of financial intermediation?
Antipathy towards banking practices is not new. The ethics surrounding the basic tool of the industry, the payment and collection of interest, have been controversial for thousands of years. Restrictions on the payment of interest are found in Leviticus (25:35-37) and Exodus (22:25), as well as in the Quran (2:275).
Not only is the payment of interest controversial, but also banking institutions as well. Thomas Jefferson wrote that "...banking establishments are more dangerous than standing armies. ..."2 More recently, "Occupy" protesters quoted Lord Acton as stating, "The issue which has swept down...