The Semantics of Central Banking

Lately a lot of financial journalists have been speculating on whether or not the ECB will become the "lender of last resort" to European governments. Some of these journalists even have the gall to quote the central bankers' Bible - Bagehot's "Lombard Street" - as evidence of the historical precedent for such action (for example - here).

Unfortunately these journalists are just plain wrong in their interpretation of what Bagehot's text. When he said that central banks should act as lenders of last resort, he was referring to extending credit to private banks during liquidity squeezes. For the conspiracy theorists out there, I should further clarify that Bagehot advocated lending to solvent banks during liquidity squeezes, charging a punitive interest rate and demanding high-quality collateral.

Thankfully I am not the only one taking these simpletons to task. Mervyn King - the governor of the Bank of England - has also chimed in on the matter (here):

This phrase 'lender of last resort' has been bandied around by people who, it seems to me, have no idea what lender of last resort actually means, to be perfectly honest. It is very clear from its origin that lender of last resort by a central bank is intended to be lending to individual banking institutions and to institutions that are clearly regarded as solvent. And it is done against good collateral, and at a penalty rate. That's what lender of last resort means.

Couldn't have said it better myself.