Floating a Lifeboat: the Banque de France and the Crisis of 1889

Pierre-Cyrille Hautcœur, Angelo Riva and Eugene White

The mission of lenders of last resort is to contain financial crises without encouraging further risk-taking. After 2008, the rescue of failing financial institutions was criticised on the grounds that it led to moral hazard. Several observers underscored the necessity of a return to the so-called Bagehot rule: in their rôle as lenders of last resort, central banks should demand guarantees sufficient to protect citizens and refuse to help insolvent banks, even if the failure of these institutions has effects on the rest of the financial system (“systemic” banks). After the crisis, new regulations were introduced on both sides of the Atlantic, in order to avoid preventive action by lenders of last resort to rescue failing systemic banks. The cost to the economies concerned could be higher than the cost of the rescue. This consideration leads to the question, under what conditions might preventive rescue action be taken without it leading to moral hazard?
In this article, on the basis of information from previously untapped archives, Hautcoeur, Riva and White discuss the lessons to be drawn from the success of the Banque de France in the management of the 1889 crisis. Recognising its systemic importance, the Banque de France granted an emergency loan to the Comptoir d’Escompte, the second biggest bank in France at the time, which had been rendered insolvent by losses incurred through its financing of speculation in copper. Other institutions of the Paris market were constrained by the Banque de France and by the central state to underwrite the losses that the Banque de France would have incurred on its loan to the Comptoir d’Escompte. The participation of the private banks in that guarantee was thought of as a sanction: as a consequence, the total sums guaranteed related to the degree of the banks’ implication in the copper speculation and not to their capacity to pay. Moreover, the tribunals of the time condemned the individuals recognised as responsible, notably the administrators of the Comptoir d’Escompte, ordering them to reimburse their liquidators and share-holders, and to pay hefty fines. Taken together, these sanctions seem to have reduced the moral hazard that the Banque de France could have created: there was no further banking crisis in France until the First World War.
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Original title of the article : “Floating a Lifeboat: the Banque de France and the Crisis of 1889”
Published in : Journal of Monetary Economics, 65, July 2014, pp. 104-199
Available at : http://hal-pse.archives-ouvertes.fr/halshs-01053389/
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