One would imagine someone like Hayek would favor free banking (banking system without a central bank running their own currencies) right from the very beginning. But no. This transition/change of views happened fairly late:
I owe a heckuva lot to Friedrich Hayek. Had it not been for him, I might never have heard of “free banking,” meaning the genuine article rather than the phony antebellum U.S. version. Certainly I would never have found myself writing about it. Nor, perhaps, would any other modern economist.
It was two pamphlets that Hayek published in the 1970s — first, Choice in Currency (1976) and then Denationalisation of Money (1978) — that caused the scales to fall off of my eyes and of those of some other economists, thereby encouraging us to reconsider the merits of private and competitive currency systems. That reconsideration in turn led to a revival of interest in former free banking episodes, including those of Scotland and Canada, which monetary economists had previously neglected or overlooked. In short, were it not for Hayek, there’d be no such thing as a Modern Free Banking School.
Yet Hayek himself was no free banker. For starters, his own vision of “choice in currency” had little if anything in common with historical free banking arrangements. In those arrangements, banks dealt in established, precious-metal monetary units, like the British pound and the American dollar, receiving deposits of metallic money, or claims to such, and offering in place their own readily-redeemable liabilities, including circulating banknotes. In Hayek’s scheme, in contrast, competing firms issue irredeemable paper notes, with each brand representing a distinct monetary unit. Far from resembling ordinary commercial banks, Hayek’s “banks” resemble so many modern central banks in that they issue a sort of “fiat” money. But they differ from actual central banks in enjoying neither monopoly privileges nor the power to compel anyone to accept their products.1
Competition, Hayek claimed, would force private issuers of irredeemable currencies to maintain those currencies’ purchasing power, or else go out of business. An overexpanding free bank, in contrast, is disciplined, not by an eventual loss of reputation, but by the more immediate prospect of running out of cash reserves. Hayek’s claims have always been controversial, even among persons (myself among them) who are inclined to favor competitive currency arrangements over monopolistic ones. It isn’t clear that a Hayekian money issuer would ever manage to get its paper accepted, or that it would resist the temptation to hyperinflate if it did.2
But Hayek didn’t merely differ from free bankers in proposing a form of currency competition distinct from free banking. He expressly opposed free banking. Asked, during a 1945 radio interview, whether he considered the Federal Reserve System a step along “the road to serfdom,” he unhesitatingly replied, “No. That the monetary system must be under central control has never, to my mind, been denied by any sensible person.”3 And although by the 1970s he had come to believe it both possible and desirable to have a currency stock consisting of the irredeemable paper of numerous private firms, he also continued to maintain that, so long as government authorities supplied a nation’s standard money, private firms should not be able to issue circulating paper claims denominated and redeemable in that money.
The real problem has been complete neglect of these ideas while teaching monetary economics. Most econ books talk about freeing markets from govt but why are’t there books which mention freeing banks/currency systems from govt/central bank control as well?