# Banking School >[!Ref] Lexicon > > > ># Banking School > This group was opposed by the Currency School (q.v.) in the nineteenth century controversy over the laws which should govern the Bank of England and form the basis of the British monetary system. Drawing on the writings of Adam Smith (1723-1790), the Banking School espoused what has become known as the "Banking Principle" or "Principle of Fullarton." This principle holds that as long as a bank maintains the convertibility of its banknotes into specie (gold), for which it should keep "adequate" reserves, it is impossible for it to overissue its banknotes against sound commercial paper with fixed short term (90 days or less) maturities. > The Banking School reasoned that under these conditions, the issuance of such banknotes was helpful to business activity, did not raise [prices](https://www.freemarketcenter.com/lexicon/index.html#price), and the quantity issuable would be independently determined and limited by the needs of trade (business) rather than the desires of the issuing bank. They claimed that note-holders would promptly present for redemption all banknotes issued in excess of the needs of trade (business) under the so-called "law of reflux." Some held that the "banking principle" was valid even if convertibility was not maintained. > The Banking School adherents failed to realize that the banks were free to increase the demand for their fiduciary banknotes by reducing the interest rate charged on bank loans. The British Bank (Peels) Act of 1844 prohibited the issuance of further banknotes by the Bank of England against anything except 100% gold reserves. However, the Act did permit the expansion of demand deposits subject to transfer or withdrawal by check against short term commercial paper of the type approved by the "banking principle." This paved the way for currently popular banking theories based on fractional reserves, "elastic currency," circulation credit and credit expansion (q.v.). For the consequences, see "Monetary theory of the trade cycle." > Because no short definition can be fully satisfactory, the reader is urged to read the references. > [[Human Action - Mises (HA)]]439-441, 444, 571; [[Theory of Money and Credit (M.)]] 305-12, 343-45, 368-70; also [[Understanding the Dollar Crisis (PLG.)]] 175-93. See also J. Laurence Laughlin's The Principles of Money (N.Y.: Chas. Scribner's Sons, 1903/1926), pp. 238-81; and Lloyd W. Mints' A History of Banking Theory, in Great Britain and the United States (Univ. of Chicago Press, 1945), pp. 74-124. > --- --- # References [[Principle of Fullarton]]