The Lender of Last Resort: Alternative Views and Historical Experience

Abstract

Recent liquidity assistance to failing savings and loans and banks (some insolvent and some large) in the U.S. and similar rescues abroad have prompted renewed interest in the topic of the lender of last resort. Under the classical doctrine, the need for a lender of last resort arises in a fractional reserve banking system when a banking panic, defined as a massive scramble for high-powered money, threatens the money stock and, hence, the level of economic activity. The lender of last resort can allay an incipient panic by timely assurance that it will provide whatever high-powered money is required to satisfy the demand, either by offering liberal access to the discount window at a penalty rate or by open market purchases.