II. HISTORICAL CONTEXT AND WRITINGS

In the mid-nineteenth century, the European financial system underwent major changes in its structure and regulations, which gave rise to intense debates on the appropriate limits to be set on the sector. In Spain, until 1844 there was only one bank of issue, the Bank of San Fernando, a private bank founded in Madrid in 1829 as the successor to the Bank of San Carlos, which had operated since 1782. In 1844, two more banks with the right to issue banknotes were founded, the Bank of Isabel II in Madrid and the Bank of Barcelona (another was founded in Cádiz two years later). The crisis of 1847–48 forced the two Madrid banks to merge into the Bank of San Fernando and led to the enactment of the Mon’s Act in 1849, the first specific legislation on banking companies in Spain. This restrictive Act prohibited the establishment of new banks of issue. Prohibition was lifted when the Bruil’s Act of 1856 authorized the creation of new institutions, establishing a system of provincial chartered monopolies of issue. In those provinces where there was still no bank of issue (all except those already mentioned), the government could grant authorization for the creation of one upon request. A total of eighteen new banks of issue were founded under this regulation between 1856 and 1864. It also changed the name of the Bank of San Fernando to the Bank of Spain, which retained its private nature and continued to confine its operations to Madrid.Footnote ⁷ In 1874, José Echegaray put a permanent end to this limited plurality of issue by granting the Bank of Spain the nationwide monopoly.Footnote ⁸

Therefore, the work of Luis María Pastor should be understood within the context of the early stages of the Spanish banking system. Pastor first addressed the banking question in the late 1840s, when he published La Bolsa y el Crédito (The stock exchange and credit) in 1848. In this book he sought to explain the causes and remedies for the financial and speculative crisis of 1847, which was exacerbated by the political crisis of 1848. Two years later, in 1850, he published Filosofía del Crédito (The philosophy of credit), the only one of his books to have a second edition.Footnote ⁹ In this publication he addressed the debate over the settlement of public debt, which was finally enacted in 1851 by Juan Bravo Murillo. The book devoted just over 40 of its more than 330 pages to banking organization. However, this work is key to understanding the development of ideas in favor of free banking in Spain because it shows the intellectual influence of Charles Coquelin (Reference Coquelin1848), whom Pastor explicitly cited and whose ideas he introduced to Spain. A book by Andrés Campo and Félix Bona (Reference Campo and Bona1847) had already argued for free banking, but in practice, Coquelin became the most important reference for its supporters in Spain.Footnote ¹⁰ Moreover, Pastor (Reference Pastor1850, pp. 59, 239) was the first to refer to the American economist Henry Charles Carey in a doctrinal book published in Spain (Martín-Rodríguez Reference Martín-Rodríguez2024, p. 7). He became acquainted with Carey’s work through Coquelin, who translated various passages from Carey’s book into French.

In 1857, Pastor published “Aumento de la producción del oro” (The increase in gold production), in which he reflected on the rise in interest rates despite the increase in gold production. Four years later, in 1861, he wrote “Cambio de billetes del Banco de España” (Exchange of banknotes at the Bank of Spain) and “Reforma monetaria” (Monetary reform) in response to the monetary crisis and the difficulty faced by the Bank of Spain to convert its banknotes into specie. He concluded by criticizing the Spanish monetary legislation of the time.

Following the major economic depression that began in 1863 and reached its most critical moment in 1866,Footnote ¹¹ Pastor published La libertad de bancos y cola del de España (The freedom of banks and the queue at the Bank of Spain) in 1865,Footnote ¹² his most important work in this field and the key to understanding his thinking. It was only in this year that Pastor fully formed his ideas, staunchly defending free banking and emphasizing the importance of issuing establishments holding sufficiently liquid resources to meet their obligations.

The crisis of the mid-1860s greatly influenced Pastor’s thinking, and his work is inseparable from the Spanish context.Footnote ¹³ The very title of his book when referring to the queue at the entrance of the Bank of Spain is proof of this influence. Given the difficulties the Bank of Spain was experiencing in converting its banknotes into specie, numerous holders of banknotes lined up to demand convertibility. As we will show, the Bank of Spain’s liquidity problems led Pastor to argue for a discretionary bank policy aimed at avoiding a maturity mismatch between assets and liabilities. Only liquidity monitoring, which had not been emphasized in his earlier works, could ensure that the system operated in accordance with sound principles if free banking were established.

By free banking, Pastor meant a system with no legal restrictions on the establishment of banks of issue and no legal limits imposed on the issue of banknotes. His defense of free banking was based on a series of arguments, influenced mainly by his French liberal contemporaries, as we will see below when examining his stance on free banking. With some nuances, they defended radical liberalism and private property as just and efficient, and rejected State intervention in the economy. This group of economists, considered a liberal lobby (Le Van-Lemesle Reference Le Van-Lemesle2004), dominated the main publications and professional institutions of mid-nineteenth-century France. Within this group, there were important figures such as Charles Coquelin, Joseph Garnier, Frédéric Bastiat, Jean Gustave Courcelle-Seneuil, Gustave du Puynode, Henri Baudrillart, and Gustave de Molinari, a Belgian economist who was also very active in France.Footnote ¹⁴

In 1866, Pastor published Estudios sobre la crisis económica (Studies on the economic crisis), which sought to warn about the situation of the Spanish economy. Unlike in 1865, he no longer spoke of recession but rather of a decline (Pastor Reference Pastor1866, p. 167). The banking question was again addressed in his Lecciones de economía política (Lectures on political economy) and in the Bank entry of the Diccionario general de política y administración (General dictionary of politics and administration), both published in 1868. Neither in 1866 nor in 1868 did he propose any new ideas.Footnote ¹⁵

Apart from academic influences, two other aspects are important for understanding Pastor’s banking stance: his vocation as a historian and his own biographical experience. Pastor studied the financial history of Great Britain and France (Pastor Reference Pastor1850, pp. 21–86),Footnote ¹⁶ and analyzed the main international crises in order to identify their causes and remedies (Pastor Reference Pastor1858, pp. 215–234; 1865, pp. 34–53). In his opinion, the most important crises were: the crisis of John Law’s speculative system through the Indies Company in France at the beginning of the eighteenth century;Footnote ¹⁷ the crisis in England in the late eighteenth and early nineteenth centuries, during which the convertibility of banknotes into gold was suspended;Footnote ¹⁸ the banking crisis that occurred in the United States in 1836–37;Footnote ¹⁹ and the aforementioned Spanish crisis of 1847–48.

Two aspects of his own experience are worth highlighting. First, Pastor knew the banking business first-hand, as he was actively involved in the founding of the Bank of Isabel II and, from August 1846, also served on its board of directors.Footnote ²⁰ And, second, Pastor had significant private businesses, among which the insurance company La Española was particularly important. He was appointed its general manager in 1850 and became its owner in 1854. Similarly to the banking sector, matching the inflow of funds with the payment of obligations is a fundamental aspect of the sound management of an insurance company, so this experience must also have influenced the development of his ideas. This practical side of Pastor was a common feature of other leading monetary economists of the time, such as Samuel J. Loyd, John Fullarton, and James W. Gilbart, who were all bankers (Schumpeter [1954] Reference Schumpeter1981, pp. 657, 694).

III. MONEY AND CREDIT, CURRENCY AND BANKNOTES

According to Pastor (Reference Pastor1865, p. 5), the basis of all banking thought was the distinction between currency (money) and banknotes (a credit operation). This difference is fundamental to understanding Spanish banking thought at the time. In Great Britain, there was no consensus between the Currency School and the Banking School. The former differentiated banknotes from other credit instruments and regarded them as paper money or mere gold certificates, whereas the latter considered banknotes as a credit operation and not money, unlike metallic currency. In Spain, the difference between currency and banknotes was not disputed, and the latter were treated like any other credit operation. A similar view prevailed in France, where very few economists considered banknotes as money (Numa Reference Numa2017, p. 246). According to Rist ([1938] Reference Rist1966, p. 201), many of the differences between British and continental thought are based on this distinction.

In his analysis of money, Pastor favored monometallism. Money had to consist of a commodity whose source of exchange value or purchasing power was the value of the commodity itself, independent of its monetary role (Schumpeter [1954] Reference Schumpeter1981, p. 274). The first condition of currency was that it should be made of a precious metal of universally recognized value, i.e., gold or silver. In other words, money was more than a simple means of exchange or unit of account. It had to be a commodity with its own value, equivalent to that of the goods for which it was exchanged. Coinage did not increase that value; it merely certified it, hence the importance of its function as a store of value (Pastor Reference Pastor1865, pp. 8, 9),Footnote ²¹

However, only one of the two metals should be fixed as the monetary unit, with the other serving as an auxiliary in circulation. Pastor used what is known as “Gresham’s law” to criticize the establishment of any fixed relationship of value between the two metals, since the currency with the highest intrinsic value would disappear from circulation.Footnote ²² For Pastor, the problem of silver exports in Spain and other bimetallic countries, caused by the rise in its price (an increase linked to the discovery of gold mines in California and Australia in the late 1840s and to the increased demand for silver in Asian markets), was a clear example of the need to fix a single metal as the monetary unit (Pastor Reference Pastor1861a, pp. 342–344).Footnote ²³

Nevertheless, credit was defined in terms of money. The banknote had no value of its own but was a promise of payment that differed from other credit instruments, such as the bill of exchange, in its term and specific conditions. The banknote, unlike currency, did not cancel an obligation but exchanged one debt for another and could be voluntarily rejected (Pastor Reference Pastor1865, pp. 10, 11). In this way, Pastor defended what the literature has called the “monetary theory of credit,” as opposed to the “credit theory of money,” the latter based on a clearing system that cancels claims and debts and carries forward the differences, so money payments come in only as a special case (Schumpeter [1954] Reference Schumpeter1981, p. 686). Furthermore, in line with the monetary theory of credit, Pastor (Reference Pastor1861a, p. 339) stated that all exchanges ultimately had to be settled in currency and that, although the introduction of supplementary credit instruments accelerated transactions, these had to be backed by a large metallic reserve. Therefore, although credit enabled money to circulate faster, money remained the basis of the system.

In Great Britain, the Currency School defended the monetary theory of credit, and the Banking School defended the credit theory of money (Skaggs Reference Skaggs1991, pp. 460, 461). In France, the first theory was supported by Joseph Garnier, among others (Société d’Économie Politique 1863, p. 324), and, according to Guy Numa (Reference Numa2017, p. 241), the second was supported by Coquelin. However, in certain passages he seems to be aligned with the monetary theory of credit (Coquelin Reference Coquelin1848, p. 49).

In summary, Pastor developed a line of thought that incorporated elements of both the British Banking School and the Currency School. He defended the distinction between currency and banknotes, in line with the Banking School, and endorsed the monetary theory of credit, associated with the Currency School. Both ideas, together with his emphasis on the store of value as the main function of money, bring Pastor’s thought close to some of the ideas that would later be developed further by Charles Rist in his History of Monetary and Credit Theory: From John Law to the Present Day. Both the difference between money and banknotes and the concept of the store of value as the most important function of money are two core ideas in Rist’s book. Rist also explains that “the bank-note too is only a means of making real money circulate, real money alone finally discharging indebtedness and being an object of desire for its own sake,” a view consistent with the monetary theory of credit (Rist [1938] Reference Rist1966, pp. 34–43, 325).

IV. IN DEFENSE OF FREE BANKING

In England, the Peel’s Bank Charter Act of 1844 consolidated, in practice, the Bank of England’s monopoly of issue by setting an upper limit on the banknote issuance of other banks of issue and prohibiting the creation of new ones. Interestingly, the Bank of England’s monopoly of issue, whose notes became legal tender in 1833, was not disputed by either the Currency School or the Banking School (Rist [1938] Reference Rist1966, pp. 225–229).Footnote ²⁴ The Bank of France became the sole nationwide bank of issue after absorbing all other local issuing banks in 1848. In contrast to Britain, although advocates of free banking were dominant, the topic of whether the Bank of France should have a monopoly of issue was at the center of heated banking debates (Schumpeter [1954] Reference Schumpeter1981, p. 695; Numa Reference Numa2017, p. 241). In turn, some leading advocates of a single bank of issue argued that the Bank of France’s notes should be legal tender (Wolowski Reference Wolowski1864, pp. 275–279), but there was no consensus, as other proponents of the monopoly rejected this idea (Coullet Reference Coullet1865, p. 295).Footnote ²⁵

In the mid-nineteenth century, the situation in Spain regarding the monopoly topic was not so clearly defined as in England or France. As already noted, the Spanish Bruil’s Act of 1856 allowed the foundation of a bank of issue in those provinces where none existed; that is, the Act established a system of provincial chartered monopolies of issue. Although this new framework liberalized the system in place since Mon’s Act of 1849, according to Sudrià (Reference Sudrià, Tedde and Marichal1994, p. 90), it cannot be strictly described as free banking since there was no free entry into the sector. This might explain the intensity of confrontation between the supporters and non-supporters of free banking in the epoch.

In Spain, as in France, the question of free banking versus monopoly banking dominated the debates. The defense of free banking was led by the Economist School. Prominent supporters included Laureano Figuerola in 1864 (Real Academia de Ciencias Morales y Políticas Reference Serrano-Sanz2002), Mariano Carreras (Reference Carreras1865), Gabriel Rodríguez (Reference Rodríguez1866), Manuel Colmeiro (Reference Colmeiro1873), and Santiago Diego Madrazo (Reference Madrazo1875). Among proponents of a single bank of issue, typically the Bank of Spain, Pedro Salaverría (Reference Salaverría1864), Vicente Vázquez-Queipo ([1866] Reference Vázquez-Queipo1978), Andrés Borrego (Reference Borrego1877), and, especially, Ramón Santillán ([1865] Reference Santillán1982) stand out.Footnote ²⁶ Some authors in this second group argued that establishing the Bank of Spain as a monopoly of issue should be accompanied by granting legal-tender status to its banknotes (Borrego Reference Borrego1877, pp. 24–26). However, this question was not particularly salient in the debate.Footnote ²⁷

In practice, the situation in Spain differed from British and French arrangements in that no final decision on the monopoly had yet been taken. Nevertheless, Spain fell far short of the free banking advocated by Pastor, because legal restrictions on the establishment of banks of issue remained in place and, particularly, due to the Bank of Spain’s privilege in Madrid. The bank, although a private institution, was supervised and even directed by the government. In his view, if its issue privilege were abolished, free banking could readily be established in Spain (Pastor Reference Pastor1865, pp. 2, 3).Footnote ²⁸

Pastor’s defense of free banking began by distinguishing between currency and banknotes. In his view, currency should be exclusively coined by the government to ensure that its face value coincided with its intrinsic metallic value. However, banknotes, as a purely private commercial operation, should be issued under free competition (Pastor Reference Pastor1865, pp. 5–7, 55, 56).Footnote ²⁹ A second argument in favor of free banking concerned the moral hazard inherent in the monopoly of issue: A single bank knew that, whatever it did, it would be protected by the government (to which it was often linked) and therefore had no incentive to behave in a prudent and far-sighted manner (Pastor Reference Pastor1865, p. 124).

The rest of Pastor’s (Reference Pastor1865, pp. 129–133) arguments in support of free banking were not grounded in monetary analysis but rather in the belief that a free-banking system worked better than any other alternative. Here, the direct influence of his French liberal contemporaries on his thought becomes clear. Drawing on Coquelin (Reference Coquelin1848, pp. 251–253), he defended free banking on the grounds that competition would regulate note issue by increasing or reducing the number of banks according to the needs of trade. Moreover, in the absence of barriers to entry into the banking sector, if a bank earned high profits, depositors could themselves establish new banks, thereby directing capital toward more productive uses.

Likewise, under free banking, there were incentives to act in line with sound principles, since business success depended on the competence of bank managers. Competition, in turn, kept banks under close scrutiny. In other words, after an unsuccessful operation, a bank would lose the confidence of its customers, who could move to other institutions. Again, the influence of some of his French liberal contemporaries, such as Baudrillart (Reference Baudrillart1857, p. 285), Courcelle-Seneuil (Reference Courcelle-Seneuil1864, p. 372), and Puynode (Reference Puynode1853, p. 255), can be observed.Footnote ³⁰ In both countries, it was also argued that free banking encouraged banknote circulation and exchange in small towns. By lowering interest rates, it benefited a broader population than the privileged banks did, whose operations were concentrated in large cities (Courcelle-Seneuil Reference Courcelle-Seneuil1864, pp. 214, 356).

The last main argument concerned bankruptcy as a disciplinary mechanism. Unlike supporters of monopoly, who criticized free banking by arguing that competition caused bank failures, Pastor saw this as a key virtue of the system. If a bank did not operate prudently, it had to fail, unlike banks protected by the government, which either did not fail or, if they did, the consequences were catastrophic. The same argument was made by Puynode (Reference Puynode1853, p. 215) and Courcelle-Seneuil (Reference Courcelle-Seneuil and Coquelin1859, p. 32).

To these arguments, Pastor added the favorable experience of countries where free banking had been established. He had already developed this empirical line of argument by 1850, drawing on Coquelin (Reference Coquelin1848), from whom he took the data used; Coquelin, in turn, consulted Carey (Reference Carey1838).Footnote ³¹ Pastor praised the systems in the United States and Scotland, where competition among issuing banks resulted in a multitude of banks meeting the needs of trade, thereby moderating each bank’s note issue. Moreover, in both cases, interest was paid on current accounts, which Pastor considered crucial for managing maturities and the inflow and outflow of funds. In his opinion, the banking organization of the United States, particularly in the Northeast, was the most advanced of its time, and he argued that its prosperity and wealth were directly related to free banking. He praised the Scottish banks as the least prone to crises, albeit with the drawback of unlimited shareholder liability, which discouraged reputable investors from entering such ventures. It should be noted that Pastor (Reference Pastor1850, p. 239) was the first in Spain to cite Carey’s book The Credit System in France, Great Britain and the United States (the only English-language work he refers to in his Filosofía del Crédito of 1850). Thereafter, Carey became one of the leading authorities to whom Spanish supporters of free banking appealed.Footnote ³²

In contrast, Pastor presents the banking system in England as less effective than the American and Scottish systems because of the Bank of England’s monopoly within a sixty-five-mile radius of London, the unlimited liability of shareholders, and the absence of interest on current accounts. Despite these drawbacks, he pointed out, outside this sixty-five-mile radius, conditions of freedom prevailed and many banks emerged, until the Peel’s Act restricted banking freedom in the countryside.

The continental system was described as the most flawed one. This was the case in France and virtually all continental European countries, including Spain. Pastor criticized this system because it not only allowed for a banking monopoly to varying degrees, but it was also subject to government direction through the appointment of governors.

In short, apart from the distinction between currency and banknotes and moral hazard, Pastor’s defense of free banking was based on the belief that this system performed better than any government-regulated alternative, a point on which French influence played a key role. In his view, the experiences of the United States and Scotland provided compelling evidence.

V. LIQUIDITY AT THE HEART OF BANK MANAGEMENT POLICY

After the European crisis of 1848, the Mon’s Act came into force in 1849. This law set a maximum limit on the issue of banknotes at half the capital paid up by the bank’s shareholders, and required a metallic reserve of one third of the banknotes in circulation. Therefore, the reserve requirement was far from that established in the Currency Principle, that is, a 100% metallic reserve requirement, which ensured that the fluctuations of the issued banknotes were exactly as they would have been if the circulation had been wholly metallic (Robbins Reference Robbins1958, p. 100). This is the principle, supported by the Currency School, that influenced the British Peel’s Bank Charter Act of 1844. In France, with a few exceptions, the Currency Principle was rarely defended,Footnote ³³ while in Spain no economist supported such a rigid rule. However, as Minister of Finance Alejandro Mon himself acknowledged,Footnote ³⁴ the Peel’s Act influenced the division of the Bank of San Fernando into two departments—an issue department and a banking department—in the same way as the Bank of England five years earlier. The 1851 Bravo Murillo–Santillán’s Act abolished this division of the bank.

Pastor (Reference Pastor1865, pp. 102–105, 120) criticized the Peel’s Act because, beyond the established limit (fourteen million pounds), every banknote issued had to be covered by an equivalent amount of gold held in the Bank of England’s vaults, thereby preventing circulation from adjusting to the needs of trade. He rejected any fixed rule imposed on the issue of banknotes, whether tied to the bank’s capital or its metallic reserve. In his opinion, the issue of banknotes should be completely determined by the changing needs of the market, hence the importance of discretionary policy in the conduct of banking operations, according to the circumstances prevailing at any given time. Furthermore, the Peel’s Act failed to consider deposits and current accounts, through which circulation could also be altered. In Pastor’s view, the suspensions of the Act in 1847 and 1857 (a third would occur in 1866) reflected its ineffectiveness.Footnote ³⁵ In his criticism of the Act, he aligned with the views of many French liberal economists.Footnote ³⁶

Pastor (Reference Pastor1865, pp. 81–83, 96, 97) regarded the situation of the Bank of Spain in the mid-1860s as clear evidence of the ineffectiveness of imposing any fixed rule. Although the issue of banknotes was then within the limits established with respect to its capital and metallic reserve,Footnote ³⁷ the bank had encountered serious difficulties in meeting its most urgent obligation, the convertibility of its banknotes into specie. In his view, the problem lay in the bank’s portfolio and, more specifically, in the mismatch of maturities between its assets and liabilities. The bank had lent large sums to the government by discounting sale receipts of the public properties (disentailment), which took a long time to be realized.Footnote ³⁸ This was not a problem of junk assets that could lead to a problem of insolvency. In Pastor’s opinion, this type of asset could be a good investment for an agent using its own funds but not for a bank of issue operating with depositors’ short-term funds. The core problem of the Bank of Spain stemmed from a balance sheet composed of long-term assets and short-term liabilities, which resulted in a lack of liquidity.Footnote ³⁹

In light of the Bank of Spain’s problems, Pastor advocated a discretionary policy adapted to particular circumstances. The aim of discretionary bank management was not to establish a variable rule limiting the maximum number of banknotes issued at any given time but rather to ensure the control of bank liquidity. According to Pastor, bank liquidity risk was related not to the quantity of credit, as the Currency School believed, but to its quality, in line with the position defended by the Banking School. He argued that the basis of a good bank management policy was the so-called real bills doctrine, present in the works of the Banking School.Footnote ⁴⁰ According to Thomas Tooke (Reference Tooke1848, p. 193), the advances made by banks should be for periods short enough, and on securities solid and convertible enough, to ensure the return of the money advanced in time to meet their engagements.Footnote ⁴¹ In Pastor’s (Reference Pastor1865, p. 58) words:

Pastor (Reference Pastor1865, pp. 96, 97) also set out the following example. The Bank of Spain had 62.5 million pesetas of banknotes in circulation in August 1864. The bank could have faced the same problems even if it had issued, for instance, only 37.5 million in exchange for long-term securities. By contrast, if the bank’s policy had been based on the real bills doctrine, even with an issue of 125 million, it would have been able to meet its commitments. The fulfillment of the real bills doctrine ensured that the discounted credit was of good quality (bona fide) and, therefore, that there was no maturity mismatch between the bank’s assets and liabilities.

Hence, Pastor (Reference Pastor1865, pp. 26, 94) stated that the banking business could be carried out with “very little capital,” since its operations had to be short term and frequently renewed. The fact that the Bank of Spain itself operated with a large amount of capital had not prevented its liquidity problems. In this respect, Pastor moved away from the ideas of Coquelin, his main intellectual source in 1850, providing another example of how the mid-1860s crisis may have influenced his thought. According to Coquelin (Reference Coquelin1848, pp. 221–225), the core problem was that depositors’ funds were used to finance advances to commerce, an activity that required a large amount of the bank’s own capital.Footnote ⁴²

Pastor (Reference Pastor1865, p. 121) also stated that if a bank did not pay interest on current accounts, it should not use them for its operations. The reason was that the money deposited would remain there only for the time needed to find another, more productive placement. This implies that Pastor did not regard depositors as savers, nor did they intend to act as such, so banks were not lending the deposits they held but rather creating credit.Footnote ⁴³

Together with the real bills doctrine, the Banking School complemented its ideas with the law of reflux, according to which any amount of banknotes issued in excess of public needs would return to the bank’s vaults (Tooke Reference Tooke1848, p. 185). This was the key regulating principle of internal monetary circulation (Fullarton Reference Fullarton1844, p. 68). Pastor did not explicitly formulate the law of reflux, but, in line with the free banking analysis, he believed that market discipline would drive any excess of convertible banknotes out of circulation (Le Maux Reference Le Maux2012, p. 613). According to him, freedom was the only means of regulating note issues, because private interest met needs as they arose and encouraged a reduction when they became excessive (Pastor Reference Pastor1865, p. 131).

In short, drawing on the Bank of Spain’s liquidity problems, Pastor developed his ideas on bank management, in which maintaining a sufficiently liquid position to meet the bank’s short-term obligations played a fundamental role. Rather than advocating a fixed rule, Pastor proposed a discretionary policy based on the real bills doctrine to prevent bank liquidity risk.

VI. ECONOMIC CRISES: PRIVILEGED BANKS AND LACK OF LIQUIDITY

According to Joseph Schumpeter ([1954] Reference Schumpeter1981, p. 707), one of the most important achievements between 1790 and 1870 was the discovery of business cycles. Pastor (Reference Pastor1865, pp. 56–66, 96, 97; Reference Pastor1866, p. 233) emphasized the periodicity of crises and developed a theory that focused on their monetary component. He identified certain general features common to all of them: A period of extraordinary prosperity always preceded the catastrophe, and the issue of banknotes steadily increased while metallic reserves steadily declined.Footnote ⁴⁴

There were two main causes of crises, both related to the failure to adhere to the two pillars of his banking thought. First, all crises had been caused by “PRIVILEGED BANKS,”Footnote ⁴⁵ or at least by banks favored by the government. Second, these banks ultimately faced a lack of liquidity, especially in their dealings with the government, due to mistakes in balance sheet management regarding the timing of assets and liabilities. The problem did not lie in discounting a large number of commercial instruments but in discounting long-term and illiquid assets.

Both arguments had already been developed in the 1850s by French liberals. Coquelin (Reference Coquelin, Coquelin and Guillaumin1852, pp. 530–534) established that the main trigger of crises was the existence of privileged banks, while Courcelle-Seneuil (Reference Courcelle-Seneuil1857, pp. 207–209) stated that every crisis was caused by operations based on hopes that failed to materialize, so the mistake lay in the timing of assets and liabilities rather than in the volume of issuance. Frédéric Passy also stated in 1852 that the Treasury did not borrow against short-term, safe, and transferable securities but rather against guarantees unlikely to be realized in the near future (quoted in Baudrillart Reference Baudrillart1857, p. 273).

Pastor first addressed crises in 1858, arguing that their fundamental cause was rooted in a sudden disturbance in the deployment of capital, whatever its origin (Pastor Reference Pastor1858, p. 237).Footnote ⁴⁶ However, he made no reference to either privileged banks or bank liquidity problems. It was not until the first symptoms of the mid-1860s downturn emerged that he emphasized the role of liquidity crises.Footnote ⁴⁷ Although earlier influence from Courcelle-Seneuil is possible, we argue that the Bank of Spain’s liquidity problems in the mid-1860s played a central role in developing his ideas on economic crises. On the one hand, Pastor devoted most of his book to analyzing the Bank of Spain’s difficulties, presenting it as a clear example of an illiquid bank. On the other hand, he placed greater emphasis than Courcelle-Seneuil on problems arising from relations with the government (as was the case in Spain) and on the role of the banking system in the origins of crises.Footnote ⁴⁸

In addition to the bank’s liquidity problems arising from non-compliance with the real bills doctrine, Pastor (Reference Pastor1865, pp. 63, 127) emphasized that specie outflows increased the difficulty of converting banknotes. He argued that the fictitious prosperity created by the expansion of banking operations encouraged imports, unbalanced exchange rates, and, once the gold export point was reached, led to specie outflows. He further maintained that these outflows were reinforced by the artificial expansion of banknote circulation induced by the bank, which made specie no longer necessary in the country.Footnote ⁴⁹

The rising difficulty of converting banknotes increased distrust among banknote holders and shifted their expectations, leading them to prefer specie over paper. This stage of the cycle, when expectations shift, has been popularized in the literature as a “Minsky moment.” In light of the bank’s problems, a queue was formed at the bank, which further heightened distrust and increased the risk of a lack of liquidity. The crisis began when the bank was ultimately unable to meet its obligations.

In response to the crisis, Pastor (Reference Pastor1865, pp. 83, 119) argued that once distrust takes hold, the situation could end only with the withdrawal of artificially issued banknotes from circulation. This argument ran counter to the idea of a lender of last resort. Pastor never referred to a central bank as a lender of last resort,Footnote ⁵⁰ nor did the Bank of Spain act as one. However, if the crisis was not caused by liquidity problems and the bank had adhered to sound principles, so that its portfolio was realizable in the short term, it should have provided the system with the liquidity it needed and thus restored confidence. The problem was not that money had disappeared but that its circulation had slowed down.

VII. CONCLUDING REMARKS

The banking controversy that dominated monetary debates in Great Britain during the second quarter of the nineteenth century exerted a strong influence on other European countries. By examining Pastor’s work and the evolution of his ideas, this paper contributes to these debates on banking in peripheral countries in the nineteenth century. The influence of French liberal economists on Pastor also offers a first indication that British banking debates may have reached Spain indirectly via France, although further research is required in this respect.

In assessing Pastor’s contribution to the banking question in mid-nineteenth-century Spain, the literature has focused on his defense of banking freedom and, consequently, has assimilated his thinking to that of the British Free Banking School. However, important doctrinal nuances remain, especially regarding liquidity problems as triggers of economic crises. This nuance, previously overlooked, can be fully understood only by considering how the Spanish crisis of the mid-1860s and the Bank of Spain’s liquidity problems shaped Pastor’s thought. Moreover, Pastor developed ideas that can be associated with both the Currency and Banking schools. This case provides evidence that economic ideas do not spread uniformly across countries and underscores the role of distinct national economic realities in shaping an author’s economic thought.

It has been argued that Pastor’s importance in the history of Spanish economic thought resides in his defense of the doctrine of banking freedom (Martín and Perdices Reference Martín, Perdices and Fuentes-Quintana2000, p. 502). In our view, his relevance goes beyond this. Drawing on a deep understanding of Spanish economic reality, Pastor developed original ideas about the importance of discretionary bank management in order to avoid liquidity problems,Footnote ⁵¹ and introduced two of the leading foreign proponents of free banking, Carey and Coquelin, to Spain. Taken together, these contributions confirm Luis María Pastor’s place as one of the most important figures in the history of Spanish monetary thought.