Sustainability and the Governance of the Financial System: What role for full reserve banking?

The financial crisis demonstrated the importance of money and finance for the key concerns of ecological economics: inequality, wellbeing and the conditions for sustainability transitions. To cope with the combined challenge of economic and environmental crises, one of the most popular governance proposals within the ecological economics community is to introduce full reserve banking, where retail banks are required to fully back demand deposits with reserves of government-issued money. Banks can have separate investment activities where they lend funds from time deposits and equity capital, but they are no longer allowed to create new money. In principle, money creation is left to the state and the central bank. Proponents argue that such a system would increase economic stability, remove the undue profits that banks earn due to money creation and make this money available for social purposes instead. However, the idea has met substantial criticism from Post-Keynesians, who are seen as natural allies of ecological economics. The purpose of this paper is to explore the usefulness of the proposal as a response to the combined challenge of governing economic and environmental crises. First, the roots of the present economic crisis are sketched out, and the key ecological economic concerns related to the crisis are outlined. Then, the main arguments in the debate on full reserve banking are explored, concluding that an intermediate position that combines tough restrictions on finance with increased public money creation is a better option. Finally, the discussion is put into a broader perspective.