The Free Banking Era, noted for numerous bank failures and large creditor losses, has been traditionally viewed as the experiment in laissez-faire banking that failed. Current researchers have found evidence suggesting that bank failures and creditor losses were limited to selected states and have linked the cause of bank failures to periods of falling asset prices. Free banks were required to hold long-term assets as primary reserves for short-term liabilities. Current banking theory suggests that the maturity imbalance between assets and liabilities increases the free bank's exposure to interest rate risk. Some states imposed a secondary reserve, the specie reserve requirement, that partially corrected the imbalance.
This paper proposes that the link between bank failures and falling asset prices can be explained in part by one of the regulations imposed on the free banks. Six free banking states were selected to test the hypothesis that the secondary reserve requirement reduced bank failures. The evidence indicates that high-specie-reserve states experienced fewer bank failures than low-specie-reserve states.
Economopoulos, Andrew J., "The Impact of Reserve Requirements on Free Bank Failures" (1986). Business and Economics Faculty Publications. 22.