Geor^^e Davidso 
 1325-1911 
 
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V 
 
 CHAPTERS 
 
 ON 
 
 BANKING 
 
 BY 
 CHARLES F. DUNBAR. 
 
 CAMBRIDGE : 
 
 1885. 
 
COPYRIGHT, iSSs- 
 
 ISIS - 131/ 
 
^^I^^(. 
 35^ 
 
 PREFATORY NOTE. 
 
 Of the eight chapters here published, the first four were 
 written three years ago, and have been used since as the basis 
 of a short course of lectures on banking, given annually to 
 classes in the elements of political economy. These chapters 
 are now printed, with a slight revision, in the belief that they 
 can be made to answer their purpose best in this form. 
 
 The four chapters describing the national banking system 
 of the United States and the banks of England, France, and 
 Germany, were written and are now added to the others, partly 
 for illustration of the general theory of banking and partly 
 to give to the student in convenient form a certain body of 
 information likely to be of use. 
 
CHAPTERS ON BANKING. 
 
 CHAPTER I. 
 
 DISCOUNT, DEPOSIT AND ISSUE. 
 
 1. A BANK may be described in general terms as an estab- 
 lishment, which makes to individuals such advances of the 
 means of payment as may be required and safely made, and 
 to which individuals entrust money, or the means of payment, 
 whenjTotjrj3^jTed-J:^y^-tb^m for direot-ase. In other words, 
 the business of a bank is said to be to lend or discount, and to 
 hold deposits. To these two functions is often added a third, 
 that of issuing banknotes, or the bank's own promises to pay, 
 for use in general circulation as a substitute for money. 
 
 The object of the present chapter is to inquire into the real 
 nature of the operations thus roughly classified and usually 
 described by the terms Discount, Deposit, and Issue ; and for 
 this purpose we shall analyze the transactions attending the 
 ordinary and simple case of a loan made by a bank to one of 
 its customers. 
 
 2. The borrower who procures a loan from a bank does so 
 in order to provide himself with the means, either of making 
 some purchase, or of paying some debt. He seeks, therefore, 
 to obtain, notjtiecessai^ily money, but a c ert ain amount of_ pur- 
 chasing power in some available form, or of whatever may be 
 tKe usuaTsolvent of debT^lneasured m terms of money. If we 
 suppose him toTelTraerchant, buying and selling goods upon 
 credit in the regular course of his business, he is likely at any 
 given time to have in his hands a greater or less number of 
 ndtes, not yet due, signed by the purchasers to whom he has 
 
6 CHAPTERS ON BANKING. 
 
 heretofore made siiles ; and it is by a loan upon the basis of 
 one or more of these notes, giving him immediate command 
 of a payment due to him in the future, that he will procure 
 from a bank what he needs. ThisJoan_jwill_j2r9^]?lXj'^^® 
 jbheJ!arm-Q£ wh at is-tfirmed_a dis^xuint. The rate at which the 
 discount shall be made having been settled by agreement, 
 the borrower is entitled to receive from the bank, in exchange 
 for a note due' at a future time, the amount promised in the 
 note, less the intere st on that amount comp ute d at the agre ed^ 
 rate for the time which the note has still to mn .* 
 
 The note itself becom es then the proijerty oi-the baiik, to- 
 which the promisor is henceforward bound to make the pay- 
 ment a LinaAuxity^-xtnd thej3aynie.nt thus made restores to the 
 bank the amount advanced by it hi exchange for the note, 
 togetEjjr-wit h the^uTterest which^jvvas the^jnHucement for 
 making the exchange. It is now clear, however, that the 
 operation which we have described, although spoken of as a 
 loan by the bank to a borrower, is not a loan in fact. The 
 l^otejdien given was evi dence that^its holder^ owned the right 
 to rece ive at ajix ed date a certain sum qf_money^nd7this 
 right j the so-ca lled, borrower ha s sold to the bank. Passing 
 over for the present all question as to what he has received 
 in exchange, his cession of property by sale is as distinct and 
 complete as if he had sold a bale of cotton to another merchant, 
 instead of selling to a bank his right to receive money in the 
 
 * If e. g-.j the note discounted promises to pay $2,500, has 87 days 
 to run and the agreed rate is 6 per cent., then the interest to be de- 
 ducted is $36.25 and the proceeds received by the borrower are 
 $2,463.75. But although this process is commonly known as discount, 
 it gives a result somewhat different from that of discount in the strict 
 sense of the term. Real discount consists in finding that sum which, 
 if put on interest for 87 days at 6 per cent, will then amount to $2,500, 
 or, in other words, in finding the present worth of $2,500 due under the 
 conditions stated. As this present worth is $2,464.27, the established 
 practice gives to the lender a slight profit in addition to that afforded 
 by true discount. 
 
DISCOUNT, DEPOSIT AND ISSUE. 7 
 
 future. It is true that in parting with the note he probably- 
 endorsed it, and thus bound himself to make good its amount 
 in case the promisor should fail to do so, but he might equally 
 bind himself by some warranty given to the purchaser, 
 when selling any other description of property. The note has 
 ceased to be his and now takes its place among the investments 
 or securities of the bank, although custom may lead to its 
 classification as a " loan orjiis4tauj it." * 
 
 The operation which we have here presented in its simplest 
 form may easily change its shape according to circumstances. 
 Thus__imii merchmi t, instead of offerij2gjor_diEect-ildiaciiunt" 
 ^e notes of his customers, may offer his o wn note for the^ sum 
 whic h he wishes to obtain, and attaah_JoJlt,,a^^^ecurity; for jts 
 p ayment a t matui'ityj^one or more of:thfijiates_iiLLhisL.caistoiimrs* 
 In this case the principal note, his own, becomes the property 
 of the bank, and the right to receive from him at its maturity 
 the sum promised in it is the re al object of sale; while the 
 attached notes, formerly given to him for merchandise and 
 now pledged to the bank as collateral security for the perform- 
 ance of his contract, continue to be his property, subject to 
 the right of the bank to be indemnified therefrom in case of 
 his failure. And^.so, too, the so-cadled _borrow^r_maj gffer_his 
 own note , secu red by t he pledge of Jbonda^-Stocks, or jxLher y al- 
 uable property,_the ownership of. whjch _he does not p art with, 
 while at _ the sanie_timej_he^^ells as effectu aIlyLa&-in t he firs t 
 case_the rightto receive fro m hiii L ^ fiftrtain sum at ajfi j^ed 
 date. Indeed, ifwe~conside7 any of the forms in which a bank 
 may make "advamiesL" or J^loansJljve shall find that^_every 
 ease a right to dem an d an d r e ceiv e^ a jcert ain sum o f mon ey has 
 been^cquired by th^e^ ban]^for ^consideratJp_n,_aad^ 
 transaction was, therefore^n_fixchBJige. 
 
 * In an account of the Bank of England, the note supposed, if taken , 
 would have to be classified under "Other Securities," together with 
 bonds or stocks owned by the Bank. 
 
8 CHAPTERS ON BANKING. 
 
 3. We now have to consider what it is that the bank gives 
 in exchange for the right to demand and receive money at a 
 future time, acquired by it under these circumstances. To 
 return to our first and simplest case of so-called discount; the 
 proceeds of the note, or its nominal amount less the interest 
 for the time for which it is to run, are in the first instance 
 placed to the credit of the merchant, to be drawn out by him 
 at once or at different times, as convenience or necessity may 
 dictate. In thus crediting him with the proceeds, the bank 
 plainly gives to him simply the right to call upon it at pleasure 
 for that sum of money. Whether this right is exercised at 
 once by demanding and receiving the money, or whether the 
 exercise of it is postponed as regards the whole or a part of 
 the amount, in either case the right to demand, or to "draw," 
 is the equivalent received by the merchant in exchange for the 
 right sold by him to the bank, of which the note discounted 
 was the evidence. And the_gumjwh ich h e i s thus at j .ny time 
 _^ntitlfid-i;o call for, sxLlong as it stand jjto. h is credit, is sai djo 
 be depos ited i n the bank, or briefly to b e a deposit, st anding in- 
 jiis naia e^— Soj^tpo^ in other cases of so-called *%ans" or 
 "discounts^" i n whatever form and whatever the collateral se- 
 ^urity hfild t)j^ the bank may be ; the operation is always essen- 
 tially^3i._fixchange.,o£2gttSiIw5ere]^ bank acquires the 
 right t ojieceiye money, or the legal tender of the country, at 
 8mn£.Jiiture-ti®e, and the individual acquires the right to call 
 for mo ney or lega^Jtender at pleasure. The result is to give 
 the latter that immediate command of purchasing power or of 
 the solvent for debt which, as we have said, is the real object 
 sought by him ; but this result is secured at the outset and the 
 relations of the bank and the "borrower" are settled without 
 the intervention of money, by the sale of one right for another. 
 
 But the deposit may owe its origin to a different operation 
 from that which has just been examined. It happens every 
 day that the merchant, having cash in hand, sees fit not to hold 
 
DISCOUNT, DEPOSIT AND ISSUE. 9 
 
 it in his possession until it is required for use, but prefers to 
 "deposit" it with the bank where he usually transacts his busi- 
 ness, until he needs to use it. In this case, when he makes his 
 deposit, the property in the money or substitutes for money 
 actually paid in by him passes to the bank and he receives in 
 exchange the right to demand and receive at pleasure, not 
 that which he paid in, but an equivalent amount."* Here then, 
 as in the former case, the transaction is in effect a sale, 
 although the use of the word "deposit" seems at first to justify 
 an entirely different idea of its character. 
 
 4. The other leading operations of banks when analyzed, 
 can also be resolved into cases of the exchange of rights against 
 rights, or of rights against money. As, for example, when the 
 bank, for the convenience of its customer or depositor, under- 
 takes to collect a note due to him by some third party and, the 
 promisor having paid in the amount in money to the bank, it 
 is passed to the credit of the promisee as a deposit. Here the 
 bank has received money for the account of the depositor, and 
 has given to him in exchange a right to draw at pleasure for 
 the amount or any part thereof, the property in the money 
 actually paid having passed absolutely to the bank in exchange 
 for the right to draw. And again, when the bank buys from 
 a merchant a bill of exchange, or when it sells a bill of 
 exchange drawn by itself on some correspondent, it effects an 
 exchange of money against a right, or of a right against money, 
 strongly resembling those already considered. And so, too, 
 if in any of these cases any substitute or equivalent for money 
 is used, instead of money itself, the transaction is still an 
 
 * It is true that money may be left as a "special deposit" with a 
 bank, just as plate, jewels, or other valuables may be, in which case, 
 the identical money deposited is to be returned and the bank conse- 
 quently does not acquire the property in the thing deposited, but is 
 merely entrusted with its temporary custody. This, however, is not a 
 banking operation, and the deposit in this case is made with the bank, 
 not because it is a bank, but because it owns a strong vault. 
 
10 CHAPTERS ON BANKING. 
 
 exchange af a right on the one side, and some means of pay- 
 ment on the other, the latter becoming the property of the bank. 
 
 We have thus far, for the sake of simplicity, spoken only of 
 the "rights to receive" money, bought by the bank in one class 
 of cases, and sold by it in another. But where there is a right 
 to receive on the part of tlie creditor, there is a corresponding 
 duty to pay on the part of the debtor; and these rights or 
 credits, when viewed from the other side, are, therefore, debts 
 or liabilities. It follows then that, as any addition to the 
 loans of a bank is an increase of its investments or resources, 
 so any addition to its deposits is an increase of its debts or lia- 
 bilities. The deposit which is credited in making a loan 
 is a liability to pay on demand, assumed by the bank in 
 exchange for a security promising a payment to the bank in 
 the future ; and the deposit credited upon the receipt of cash 
 from the depositor m a similar liability, assumed in exchange 
 for so much money or so much of its substitutes. 
 
 5. A little consideration of the manner in which notes are 
 issued by banks will show that in the banknote we have only 
 another form of liability, differing in appearjtii£ia_but_not_in 
 substance, from the liability^^or^eposits. I ^e ba nkn ote is the 
 d uly certified pro miaB-a£-th ^bank to pay on demand^ adapt ed 
 Sr _convenie nii-4^irru1atit^T) «« a substitute for the money whicj b 
 it promise^ . It is issued, by the bank, and can be issued, only 
 to such persons as are willing to receive the engagement of the 
 bank in this form instead of receiving money, or instead of 
 being credited with a deposit. Thus the so-called borrower, 
 who in the first instance has been credited with a deposit and 
 to whom the bank is therefore to this extent liable, may 
 prefer to draw the amount in notes of the bank and to use 
 them in making his payments. But, in this case, it is plain the 
 liability of the bank is changed only in form ; it is still a lia- 
 bility to pay a certain sum of money on demand. And so if 
 the depositor deposits money and receives notes, or receives 
 notes in satisfaction of a demand of any kind against the bank, 
 
DISCOUNT, DEPOSIT AND ISSUE. 11 
 
 he, in fact, foregoes the use of th« money itself and consents 
 to receive in its stead a promise to pay upon demand, and 
 to receive the evidence of that promise in the form of notes 
 rather than in another. The question, in whicli form he shall 
 liold his right of demand against the bank, is one to be decided 
 by the nature of his business or by his present convenience, but 
 plainly the decision of the question in no way affects the relation 
 between himself or any transferee of his right and the bank. 
 The notes issued by a bank are thus a liability distinguishable 
 in form only from its liability for deposits. 
 
 6. In the operations which have now been considered the 
 subject-matter involved is in every case either money or con- 
 tracts for the payment thereof. No form of dealing in 
 meTOhandize or real property comes properly within the 
 province of banking. And, inasmuch as a contract for the 
 payment of money may be viewed either as a credit or as a 
 debt, according as it is looked at from the one side or the 
 other, banking is sometimes described as the business of deal- 
 ing in credits and sometimes as that of dealing in debts. For 
 the transaction of this business in the modern world both of 
 the functions "discount" and "deposit" are indispensable. In 
 order to be a bank, that is to say, an establishment must carry 
 on the purchase of rights to demand money in the future, or 
 securities; and it must also use in some form or other its own 
 engagements for the payment of money upon demand.* If it 
 practices the former only, it is simply an investor of its own 
 money, as any private individual may be ; if it practises the 
 latter only, it may indeed be said to be a bank of the obsolete 
 type of the Bank of Amsterdam, but it would then cease to 
 answer the chief purpose of a bank of the present age, viz., 
 that of enabling individuals to convert into immediate pur- 
 chasing power the debts which are due to them in the future. 
 
 * See in Bagehot's Lombard Street^ p. 212, a remark that the Roth- 
 schilds are great capitalists, but are not bankers. 
 
12 CHAPTERS ON BANKING. 
 
 The use of the third function, however, that of issue, is not 
 indispensable to the existence of a bank, for, as has been shown, 
 issue is but a modification of deposit, and is made for con- 
 venience and not from necessity. There are conditions under 
 which the liability of the bank in the form of notes is desired 
 for use, and there are also conditions under which the liability 
 in the form of deposits better serves the convenience of indi- 
 viduals or of the community. Many banks, therefore, carry on 
 a large and successful business without making any issue of 
 notes whatever.* 
 
 It must be added that incorporation by law is not a neces- 
 sary condition of the existence of a bank.f Discount and deposit, 
 and if no legal prohibition exists, issue also, may be carried 
 on by individuals and firms as well as by incorporated com- 
 panies. It is true that in discussions of banking it is usual to 
 give almost exclusive attention to incorporated banks, partly 
 because they usually hold a more conspicuous position and 
 partly because their affairs are in some degree open to official 
 inspection, so that the details of their business are known, 
 at least in part, whereas the transactions of private banks are 
 known only to the persons concerned. It is none the less true, 
 however, that in the economic effects of their transactions the 
 two kinds of banks do not differ, and that neither can be 
 neglected in an examination of the economic problems pre- 
 sented by any community in which it is found to exist. 
 
 *In November, 1882, the banks in operation in the United States, 
 excluding savings banks, were classified as follows : — 
 
 Number. Capital, 
 
 State Banks and Trust Companies, 1,061 $123.1 millions. 
 
 Private Bankers' 3»4i2 105.3 " 
 
 National Banks 2,308 484.9 " 
 
 Total 6,781 $713.3 
 
 See Comptroller's Report, 1884, p. 8. Of these banks the national 
 banks alone are authorized by law to issue notes, 
 t See the preceding note. 
 
CHAPTER II. 
 
 BANKING OPERATIONS AND ACCOUNTS. 
 
 1. Having thus taken a general view of the nature of bank- 
 ing operations, it is now necessary that we should enter upon 
 the consideration of some of their details. 
 
 For a bank, as well as for any other considerable establish- 
 ment, it is requisite that a capital should be provided at the 
 outset. There can be no constant proportion between the 
 amount of this capital and the extent of the business which 
 may be built up by its means. We can only say that, other 
 things being equal, the larger the business that can be carried 
 on with safety with a given capital, the larger will be the field 
 from which profits can be earned and the higher the propor- 
 tion which the profits will bear to the original outlay ; but the 
 point at which the extension of the business passes the line of 
 safety, must be determined by the circumstances of the par- 
 ticular bank, by the kind of business carried on by those deal- 
 ing with it, and by the condition of the community in which it 
 is established. The attempt has sometimes been made to 
 limit by law for incorporated banks the proportion of transac- 
 tions for a given amount of capital,* but no such provision has 
 any foundation except a conjectured average, too rough to be 
 of service in any individual case. In this respect, as in so 
 many others, the judgment of the persons most interested, 
 acting under the law of self-preservation, is far more trust- 
 worthy than any legislative decision. 
 
 The capital thus to be provided at the outset is, of course, in 
 
 *E. g.^ the law in Massachusetts formerly limited loans to double 
 the amount of the capital. See Revised Statutes of i860, c. 57, § 25. 
 
14 CHAPTERS ON BANKING. 
 
 the case of a private bank, the contribution of the partners, as 
 in any other undertaking. In tlie case of an incorporated 
 bank the capital is divided by law into equal shares or units of 
 fixed amount, as e. g.^ under the law of the United States, a 
 capital of $100,000 into 1,000 shares of $100 each; and of these 
 shares the individual shareholders contribute in such propor- 
 tion as they please. The law may as a matter of public policy 
 limit the proportion of capital stock to be owned by any one 
 individual or firm, and it may also limit the liability of share- 
 holders for debts due by the bank, in case of its failure ; but, it 
 may be said in general that in the absence of special provisions 
 to the contrary, the powers, rights and liabilities of each share- 
 holder are now usually determined by the number of shares 
 of the stock contributed or owned by him. In the election of 
 directors and of other officers for the immediate management 
 of the business, each share usually entitles its owner to cast 
 one vote ; the dividend of profit is divided in the ratio of 
 shares owned, and contributions to meet losses, if required by 
 law, are called for in the same ratio. 
 
 The capital which has been subscribed by the intending 
 shareholders must necessarily be paid in in money or in the legal 
 tender of the country. It is not necessary that the whole 
 should be paid in at the outset, but the payment of the whole 
 usually precedes the full establishment of the business; and, in 
 the case of incorporated banks, the law is apt to require that 
 some definite proportion, as e. ^., one-half, shall be paid in 
 before the opening of business, in order to insure good faith 
 and a solid basis for the business undertaken.* 
 
 * The English Joint Stock Banks present some remarkable cases of 
 partially paid capital. Thus the largest, the London and Westminster. 
 has £20 in the £100 paid up on its shares, and the London Joint Stock 
 has £15. In these cases, the business having been fully established by 
 means of a part only of the nominal capital, the liability of the share- 
 holders to contribute the remainder in case of need constitutes a species 
 of guaranty fund of immense amount. 
 
BANKING OPERATIONS AND ACCOUNTS. 15 
 
 If, now, we undertake to represent by a brief statement of 
 account the condition of a bank having a capital of $100,000 
 paid in, on the morning when it o-pens its doors far business, 
 we shall have the following: 
 
 Liabilities, Resources. 
 
 Capital . . . $100,000. Specie . . . $ioo,ooOi 
 
 It may at first sight appear to be a contradiction in terms, 
 that the capital should be set down as a liability and not as a 
 resource. But we must here distinguish between the financial 
 liability for what has been received from the shareholders and 
 the right of property in the thing received. The bank has be- 
 come accountable to its shareholders for the amounts paid in 
 by them respectively, but the money actually paid has become 
 the property of the bank ; or, in the language of accountants, 
 the bank has become liable for its capital, and the money in 
 hand is for the present its resource for meeting this liability, or 
 for explaining the disposition made of what has been received. 
 
 As the bank requires banking rooms and a certain supply 
 of furniture and fixtures for the convenient transaction of its 
 business, we may suppose it to expend $5,000 of its cash in 
 providing this "plant." The property thus procured, with the 
 remaining 195,000 in cash will then be the aggregate resources 
 by means of which the capital is to be accounted for, and the 
 account will stand as follows: 
 
 Liabilities. Resources. 
 
 Capital . . . $100,000 Real estate, furniture, 
 
 fixtures, etc. . $5,000 
 Specie .... 95,000 
 
 $100,000 $100,000 
 
16 CHAPTERS ON BANKING. 
 
 2. The bank, however, cannot answer the pui'poses of its 
 existence, or earn a profit for its shareholders, until its idle 
 cash is converted into some kind of interest-bearing security. 
 Nor is it enough that a permanent investment of the ordinary 
 kind should be made, as by the simple exchange of its cash 
 for government bonds or railway securities. It is the chief 
 business of tlie bank to afford to purchasers and dealers the 
 means of using, by anticipation, funds which are receivable by 
 them in the future, and this implies both the purchase of private 
 securities or "business papei*" to a considerable extent and also 
 frequent change and renewal of purchases. Moreover, while 
 the private capitalist finds it advantageous 1 o make simple in- 
 vestments of a permanent sort, this would plainly be unprofit- 
 able for the shareholders of a bank, who have to pay from its 
 profits some serious expenses of management, and need, 
 therefore, a larger field for earnings than the ordinary returns 
 on their capital alone. The bank is obliged then to use its 
 credit in some way for the extension of its operations. It is 
 in fact, by such a use of its credit, that it becomes in reality a 
 bank. 
 
 Most of the conditions of the case are best answered by the 
 "discount" of commercial paper as above described. The time 
 for which such obligations have to run varies with the custom of 
 the trade which gives rise to them, but is in most cases suffi- 
 ciently short so that the re-payment to the bank is early. And 
 even where custom gives the paper longer time, if the paper 
 itself is used only as a collateral security, the note which is 
 the actual object of negotiation with the bank is by preference 
 usually made not to exceed four months. It is easy then to 
 arrange the purchases of paper with reference to the times of 
 maturity, so as to provide for a steady succession of payments 
 to the bank, and thus facilitate the reduction of the business 
 if necessary, or its direction into new channels, as prudence or 
 good policy may require. The certainty of prompt payment 
 
BANKING OPERATIONS AND DEPOSITS. 17 
 
 at maturity, needed for this end, is presented in a high 
 degree by the paper created in the ordinary course of business. * 
 Independently of the collateral security wliich the bank may 
 hold, the written promise of the merchant or manufacturer to 
 pay on a fixed day is an engagement which involves the credit 
 of the promisor so far, that failure is an act both of legal insol- 
 vency and of commercial dishonor. Selected with judgment 
 then, such paper is not only the investment which most com- 
 pletely answers the purposes of the bank's existence, but is 
 probably as safe as any investment which could be found. 
 
 It may easily happen, however, that the bank may find it 
 desirable to invest a part of its resources in some other form, 
 either because good commercial paper cannot be procured in 
 sufficient amount, or as a matter of policy. In this case it will 
 purchase such other securities as oflTer, not only complete 
 safety of investment, but the possibility of easy conversion into 
 cash in case of need.f In this country United States bonds, 
 and many descriptions of State, municipal and corporation bonds 
 might answer this purpose. Stocks would more rarely answer 
 it, being more liable to the fluctuations in price caused by mis- 
 fortune or the ordinary vicissitudes of business. Mortgages of 
 real estate, however, would not be admissible, except when 
 held as a security collateral to some other more easily con vert- 
 
 * The reports of a large commercial agency show that, for ten jears, 
 1875-84, the number of failures in the United States was a trifle over 
 one per cent, of the whole number of houses reported as in business. 
 For a curious estimate showing that the liabilities of failed firms in 
 1874 amounted to less than one-fourth of one percent, of the total com- 
 mercial liabilities of the country for the year, see Commercial and 
 Financial Chronicle, February, 1875, p. 129. 
 
 t See in the reports of the Comptroller of the Currency, the "United 
 States bonds on hand" and "other stocks and bonds" held by the 
 national banks and amounting to over $109,000,000 in July, 1885. Com- 
 pare also the "government securities" held by the banking department 
 of the Bank of England. 
 
18 CHAPTERS ON BANKING. 
 
 ible, for even when the mortgaged property is so ample and 
 stable as to insure the goodness of the mortgage, the conver- 
 sion of the mortgage into ca&h by sale is not always easy, and 
 is especially difficult at those times when the bank most needs 
 to have all its resources at command. Indeed, the danger to 
 be apprehended from the locking up of resources in securities, 
 which may be solid but are not easily realized, is so great, that it 
 has been said to be the fir&t duty of the banker to learn to dis- 
 tinguish between a note and a mortgage, his business lying 
 with the former. Real estate, of course, cannot be regarded as 
 a banking security, howeyer desirable it may be a& an invest- 
 ment for individuals, for it is not only subject to great fluc- 
 tuations in value, but is at times unsaleable ; and the law of the 
 United States therefore wisely prohibits investments in it by the 
 national banks, except so far as is necessary for the accom- 
 modation of their business.* 
 
 The results of the process of investment in commercial paper 
 and in other securities are best understood when we trace the 
 effect in the accounts of the bank. Taking then the account 
 as it stood on p. 15, let us suppose that the bank buys secu- 
 rities from those dealing with it, or in the common phrase, 
 makes "loans to its customers," to the amount of $90,000, the 
 paper being in many pieces and having various lengths of time 
 to run, but averaging three months. Supposing the interest 
 to be computed at six per cent., we should have the account 
 changed by the operation as follows : 
 
 Liahilities. Resources. 
 
 Capital . . $100,000 Loans $90,000 
 
 Undivided profits . 1,350 Real estate, furniture, 
 Deposits .... 88,650 fixtures, etc. . , . 5,000 
 
 Specie 95.000 
 
 $190,000 $190,000 
 
 ♦ See Revised Statutes, § 5137. 
 
BANKING OPERATIONS AND ACCOUNTS, 
 
 19 
 
 Here we have the securities which certify the right of the 
 bank to demand and receive $90,000 at a future date placed 
 among the resources; the net proceeds of the securities, or the 
 aggregate of the sums which the bank holds itself liable to pay 
 for them on demand, stand among the liabilities as deposits ; 
 and the interest deducted in advance, or the profit on the oper- 
 ation, which the bank must at the proper time account for to 
 its stockholders, also stands as a liability. This, however, is 
 the condition of the account at the moment of making the in- 
 vestment, when the bank has made its purchase of securities 
 by merely creating a liability. As this liability is real and 
 must be met, so far as the depositors who own it see fit to 
 press it, let us suppose that depositors call for cash to the 
 amount of 115,000, and we shall have a further change in the 
 account as follows : 
 
 Liabilities. 
 
 
 Resources, 
 
 
 Capital . . . . 
 
 $100,000 
 
 Loans .... 
 
 $90,000 
 
 Undivided profits . 
 
 1.350 
 
 Real Estate, etc . 
 
 5,000 
 
 Deposits .... 
 
 73.650 
 
 Specie .... 
 
 80,000 
 
 $175,000 
 
 $175,000 
 
 It is clear that unless the enforcement of the liability for 
 deposits and consequent withdrawal of specie goes much 
 farther than this, the bank can safely increase its loans or its 
 purchase of securities, although its method of doing so is by 
 the increase of its liabilities. We will suppose it, therefore, 
 to have expanded its affairs until it has reached something like 
 the average condition in November, 1884, of those banks in the 
 United States, which, being incorporated under the laws of the 
 several states, are not authorized to issue notes. It will then 
 stand thus : 
 
20 
 
 CHAPTERS ON BANKING. 
 
 Liabilities. 
 
 Capital .... $100,000 
 
 Surplus .... 28,000 
 
 Undivided profits . 1 1,000 
 
 Deposits . ... 294,000 
 
 $433,000 
 
 Resourcti 
 
 •. 
 
 Loans .... 
 
 $299,000 
 
 Bonds and stocks 30,000 
 
 Real estate . . 
 
 13.000 
 
 Other assets . . 
 
 15,000 
 
 Expenses . . 
 
 1,000 
 
 Cash items . . 
 
 26,000 
 
 Specie .... 
 
 23,000 
 
 Legal tender notes 26,000 
 
 $433,000 
 
 3. Postponing for the present the consideration of some 
 terras which here occur for the first time, it appears from the 
 above account that purchases of securities have been made to 
 more than three times the amount of the capital, and that this 
 has been effected chiefly by the creation of liabilities in the 
 form of deposits. What determines the limit to which this 
 process can be carried? 
 
 If depositors seldom demanded the payment to which they 
 are entitled, and were contented with the mere transfer of 
 their rights among themselves as a conventional currency, the 
 bank might dispense with holding specie or cash in any form 
 and keep all its resources employed in its productive securities. 
 The expansion of the deposits would then resemble in its 
 effects the expansion of any other currency and might go on 
 until a check should be interposed by the consequent rise of 
 prices and demand for specie for exportation. And it is true, 
 as we shall see, that in communities where banking is largely 
 practised, the use of deposits as currency by transfer from 
 hand to hand is so extensive, that a bank in good credit can 
 rely upon their being withdrawn so slowly, or rather to so 
 small an extent, as to make it unnecessary to have cash in 
 readiness for the payment of more than a small proportion at 
 any given moment. In a period of financial disorder or alarm, 
 withdrawals may be more frequent or more immediate, and a 
 larger provision of cash may be needed for safety, than at other 
 
BANKING OPERATIONS AND ACCOUNTS. 21 
 
 times; the kind of business carried on by depositors may expose 
 one bank, or the banks in one place, to unusually heavy occa- 
 sional demands, or may on the other hand make demands 
 steadier, than is the case elsewhere; a city bank may be more 
 subject to heavy calls from depositors than a country bank ; 
 still, for every bank in its place and under the circumstances 
 of the time there is some line below which its provision of cash, 
 or reserve as it is now called, cannot safely fall. And the 
 necessity of maintaining this minimum reserve fixes a limit 
 to the ability of the bank to increase its securities. For 
 obviously, in the account last given, any increase of securities, 
 that is of loans or bonds, must be effected, either by an increase 
 of deposits, or by an actual expenditure of cash. In the one 
 case the proportion of reserve to demand liabilities would be 
 weakened by the increase of liabilities ; in the other it would 
 be weakened by the decrease of cash. If, then, the reserve 
 were already as low as prudence would allow, or were threat- 
 ened by approaching heavy demands from depositors, no 
 increase of securities could be made without serious risk. 
 
 What proportion the reserve should bear to the liabilities 
 which it is to protect is a question which the law has sometimes 
 attempted to settle, by requiring a certain minimum,* leaving 
 it to every individual bank to determine for itself how much is 
 required in addition to this minimum. And this is no doubt 
 as far as any general rule can go. As has already been sug- 
 gested, the requirements for safety of different banks and of 
 different places must vary, and so must the requirements of 
 the same bank at different times. f It can only be said that 
 
 * The law of the United States, under which the national banks are 
 established, recognises twenty-five per cent, as the minimum reserve 
 for city banks, and fifteen per cent, as the minimum for country banks. 
 Revised Statutes, §5191. 
 
 t The Bank of England may be content with a reserve amounting to 
 33 percent, of its deposits, as in October, 1885, or it may be uneasy 
 with a reserve amounting to 44 per cent, as in August, 1881. 
 
22 CHAPTERS ON BANKING. 
 
 the reserve should be large enough, not only to insure the im- 
 diate payment of any probable demand from depositors, but 
 also to secure the bank from being brought down to the 
 "danger line" by any such demand. If twenty-five per cent, is 
 the minimum consistent with safety, the reserve should be far 
 enough above this to be secure from reduction to a point 
 where any further demand or accident may make the situation 
 hazardous.* 
 
 4. In the arrangement of its reserve the bank itself 
 necessarily feels a strong conflict of interests. On the one 
 hand it is impelled to increase its securities as far as possible, 
 for it is from them that it derives its profits, and the retention 
 of a large amount of idle cash is felt as a loss. On the other 
 hand, the maintenance of a reserve sufficient, not only to con- 
 tinue its payments but to inspire the public with confidence in 
 its ability to do so, is a necessity of its existence, even though 
 a part of its resources do thus appear to be kept permanently 
 idle. As a natural consequence, the actual settlement of the 
 question in favor of a large or of a small reserve in any par- 
 ticular case will depend largely on the temperament of the 
 managers. In every banking community may be found "con- 
 servative" banks, the caution of whose managers forbids them 
 to take risks by extending their business at the expense of an 
 ample reserve; and by their side may be seen the more "active" 
 banks, whose managers habitually spread all possible sail, and 
 provide for the storm only when it comes. 
 
 It is to be observed that the necessity of providing a cash 
 reserve is not met by the excellence of the securities held by the 
 bank. Although the certainty of payment at maturity be abso- 
 lute, still the demands upon the bank are demands for cash, and 
 cannot be answered by the offer of even the best securities. 
 If the depositor or creditor does not receive cash in full for 
 
 * For a discussion of this subject, see Bagehot's Lombard Street^ 
 ch. xii. 
 
BANKING OPERATIONS AND ACCOUNTS. 23 
 
 his demand when it is made, the bank has failed, and any 
 satisfaction of his claim by the delivery of a security is, as it 
 were, only the beginning of a division of the property of the 
 bank among its creditors. Specie, or the paper which is a 
 substitute for it as a legal tender for debts, form the only real 
 banking reserve. The reserve of the bank may, however, be 
 greatly strengthened by a judicious arrangement of its securi- 
 ties. P'or example, if, in the account above given, the "bonds 
 and stocks" are, as they should be, of descriptions which are 
 readily saleable, they afford the means of replenishing the 
 reserve in case of need, without foregoing the enjoyment of 
 an income from this amount of resources for the present. In 
 extreme cases of general financial panic, it is true, even the 
 strongest government securities may find but few purchasers ; * 
 still such a provision is the best support which can be had 
 in the absence of, or as an auxiliary to, a sufficient reserve of 
 actual cash. 
 
 The natural method of securing the proper apportionment 
 of resources between securities and reserve, under ordinai-y 
 circumstances, is by increasing or diminishing the loans, or, 
 in other words, the purchases of securities made from day to 
 day in the regular course of business. That part of the secur- 
 ities which consists of the promises of individuals or firms to 
 pay to the bank at fixed dates, is made up of many such 
 pieces of commercial paper^ maturing, if properly marshalled, 
 in tolerably regular succession. The payment of one of these 
 engagements when it becomes due may be made either in 
 money, or by the surrender to the bank of an equal amount of 
 its own liabilities, as will be shown in the next chapter. In 
 the former case, the payment of the maturing paper to the 
 bank is in fact the conversion of a security into cash, and 
 increases the reserve without change in the liabilities ; in the 
 
 * In the London market in the panic of May, 1866, there was a 
 moment when even "consols were unsaleable." Patterson^ Science of 
 Finance^ 223. 
 
M CHAPTERS ON BANKING. 
 
 latter, the reduction of securities is balanced by a reduction of 
 liabilities which raises the proportion of reserve. If, then, the 
 bank stops its "discounts" or the investments in new securities, 
 or if it even slackens its usual activity in making such invest- 
 ments, the regular succession of maturing paper will grad- 
 ually strengthen its reserve ; if it increases its activity in 
 investment, it will lower or weaken its reserve; and if it adjusts 
 the amount of its new investments to the regular stream of 
 payments made by its debtors, it may keep the strength of its 
 reserve unaltered, until some change in the condition of affairs 
 brings cash to it or takes cash away by some other process. 
 
 This natural dependence of the reserve upon the more or 
 less rapid reinvestment of its resources by the bank is distinct- 
 ly recognized by the law of the United States, which provides 
 that when the reserve of any national bank falls below the 
 legal minimum, such bank "shall not increase its liabilities by 
 making any new loans or discounts," until its reserve has been 
 restored to its required proportion.* By a less harsh applica- 
 tion of the same principle, the Bank of England operates upon 
 its reserve by lowering or raising its rate^f ^discount and thus 
 encouraging or discouraging applications for loans. And it 
 was with a view of facilitating the replenishment of the 
 reserve by the curtailment of loams, that the law of Louisiana 
 formerly provided that the banks established by that State 
 should hold a considerable proportion of ''short bills," or paper 
 maturing within ninety days, so that the constant stream of 
 payments of such paper might always insure the early command 
 of a large part of its resources by the bank.f 
 
 5. To return in conclusion to the account given on p. 20; 
 we have there among the liabilities certain sums classified as 
 "surplus" and as "undivided profits." Taken together these 
 
 ♦ Revised Statutes of the United States, § 5 191. 
 
 t See some remarks on the excellent effects of the Louisiana system 
 by Samuel Hooper, Theory and Effects of La-ws regulating specie in 
 Banks, i860. 
 
BANKING OPERATIONS AND ACCOUNTS. 25 
 
 sums represent profits which have been made, but not divided 
 among the stockholders, and which are therefore to be 
 accounted for by the bank. The surplus is that portion of 
 these profits which as a matter of policy it has been deter- 
 mined not to divide and pay over to the stockholders, but to 
 retain in the business, as in fact, although not in name, an addi- 
 tion to the capital. The remainder, the undivided profits, is 
 the fund from which, after payment of current expenses and 
 of any losses which may occur, the next dividend to the stock- 
 holders will be made. The current expenses are for the present 
 entered on the other side of the account, as they represent a 
 certain amount of cash which has disappeared ; but at the peri- 
 odical settlement of accounts they will be deducted from the 
 undivided profits and will thus drop out from the statement. 
 "Other assets," here set down as an investment, is supposed to 
 cover any form of property held by the bank and not other- 
 wise classified, but especially^doubtful securities, or such prop- 
 erty, not properly dealt in by a bank, as it may have been 
 necessary to take and to hold temporarily, for the purpose of 
 securing some debt not otherwise recoverable. For example, 
 although the bank could not properly invest in a mortgage, it 
 might be wise for it to accept a mortgage in settlement with 
 an embarrassed debtor, and in this case t,he mortgage would 
 stand among the "other assets." And, finally, "cash items" 
 include such demands on individuals or other banks as are to 
 be collected in cash and are therefore deemed the equivalent 
 of cash in hand. In the absence of any legal provision limit- 
 ing the treatment of such demands as reserve by the creditor, 
 they may be regarded as virtually a part of the reserve, which 
 in the case before us may therefore be treated as made up of 
 cash items, specie, and legal tender notes. 
 
 To illustrate what has been said in this chapter we will now 
 suppose the bank, with its affairs standing as on p. 20, to 
 make the following operations : 
 
 a. To add to its securities by discount of three months 
 
26 
 
 CHAPTERS ON BANKING. 
 
 paper 120,000, of which three-fourths are purchased by the 
 creation of liabilities, and one-fourth by the expenditure of 
 cash. The account would then stand as follows : 
 
 Liabilities. 
 
 
 Resources. 
 
 Capital . . . . 
 Surplus . . .- . 
 Undivided profits . 
 Deposits . . . . 
 
 $100,000 
 
 28,000 
 
 11,300 
 
 .. 308,775 
 
 Loans .... $319,000 
 Bonds and stpcks 30,000 
 Real estate . . 13,000 
 Other assets . . 15,000 
 Expenses . ► . 1,000 
 Reserve. . . . 70,075 -f- /'c/ c^ 
 
 $448,075 
 
 $448,075 
 
 h. To retrace its steps by diminishing its "discounts" or 
 holding of securities to the extent of $50^,000, of which four- 
 fifths are paid to it by the surrender of demands for deposits to 
 a like amount and one-fifth in cash ; to pay $1,250 for current 
 expenses; and further to increase its reserve by the sale of bonds 
 and stocks to the amount of $10,000» The following would 
 then be the state of the account : 
 
 Liabilities. 
 Capital . . . . 
 Surplus . . . . 
 Undivided profits 
 Deposits . . * . . 
 
 $IOOjOOO 
 
 28,000 
 11,300 
 
 268,775 
 
 $408,075 
 
 Resources. 
 Loans .... $269,000 
 
 Bonds and stocks 20,000 
 
 Real estate . . 13,000 
 
 Other assets . . 15,000 
 
 Expenses . . . 2,250 
 
 Reserve .... 88,825 
 
 $408,075 
 
 c. To sell $2,000 of its other assets for cash with a loss of 
 $500 ; to make a semi-annual dividend of four per cent., of which 
 one-half is credited to stockholders who happen to be deposi- 
 tors also, and one-half is paid in cash ; and to caiTy ther emain- 
 der of its undivided profits to surplus. The account would 
 then stand at the beginning of the new half year, as follows: 
 
 Liabilities. 
 
 
 Resources. 
 
 Capital .... 
 Surplus . . . . 
 Deposit . . . . 
 
 $100,000 
 
 32,550 
 
 270,775 
 
 Loans .... $269,000 
 Bonds and stocks 20,000 
 Real estate . . 13,000 
 Other assets . . 13,000 
 Reserve. . . . 88,325 
 
 $403,325 
 
 $403,325 
 
CHAPTER HI. 
 
 THE CHECK SYSTEM. 
 
 1. In the preceding chapter reference has been made more 
 than once to the transfer of deposits by one holder to another, 
 and to their consequent use as currency. It is now necessary 
 to examine more closely the simple machinery by which this 
 transfer is effected. The depositor, or the creditor of the bank, 
 having to make a payment to some other person, has his choice 
 between two methods of making it. He may demand money 
 from the bank, in the exercise of his right as a creditor, and 
 deliver this money; or, with the assent of the person to whom 
 he has to make payment, he may give to this person an order 
 on the bank for the money, or what is commonly called a che^k. 
 If he adopts the latter method, a payment for goods or of a 
 debt is effected as between the parties, by the simple transfer 
 of a right to demand money from the bank; and so if the recip- 
 ient of the check gives it in payment to some third person, and 
 he to a fourth, and so on. To this extent the check is plainly 
 made a substitute for the sum of money for which it calls. It 
 represents no particular-jnp ney in eyi stftnf>.p, for, as we have 
 seen, the deposit is likely to have b^^" creat-^d by thft hank in 
 e^U^han ^e for some security bought by it, and is, therefore^ a 
 naked rig ht to demand, and not a clairi f^ t.9 any p artinnlar f>ftsh; 
 and even if the deposit originated in the lodgment of money 
 by the depositor, it has in this case also become a naked right 
 to demand and not a claim to the money actually deposited. 
 But the transfer of this naked right is made by the agreement 
 of the parties to serve the same purpose as the transfer of 
 money, and th^ right thus becomes a substitute for money. 
 
28 CHAPTERS ON BANKING. 
 
 The effectiveness of this substitution, however, is vastly in- 
 creased and the use of the deposit prolonged, where it is the 
 practice for the transferee himself to deposit the check, instead 
 of either making a fresh transfer of it or of demanding its pay- 
 ment by the bank. 
 
 If we suppose all the parties concerned to keep their accounts 
 with a single bank, and suppose a check for |2,000 to have 
 been drawn by A against his deposit in the bank and given by 
 him to B in payment for goods, B may deposit this check to 
 his credit as he would money. The transfer of the right by 
 A to B has now been made complete, for the bank has 
 become a party to it, and has cancelled its liability for $2,000 
 to A by recognizing a liability for a like amount to B. This 
 novation, or change of creditors, has not only secured B 
 against the possibility of finding that, before his own check 
 was presented, A's deposit in the bank had been exhausted 
 by other checks drawn fraudulently or by mistake by A, but 
 it has also made B's right of demand against the bank divisi- 
 ble at pleasure, since this has now become a right to draw his 
 own check or checks to an amount not exceeding $2,000 in 
 all. Checks become, therefore, the instruments by which 
 rights to demand money may be transferred from one individ- 
 ual to another in such amounts as the transactions between 
 them may require ; and when we consider the great security 
 and convenience of transfer by such means as compared with 
 actual payment in money, there is little need of furthur expla- 
 nation of the astonishing extent to which they are now used, 
 especially in English-speaking communities.* 
 
 *It has been found by observation that in New York, at two different 
 dates, 97.7 per cent, of the total receipts of the banks were in checks 
 and similar instruments calling for money at sight. In the United 
 States as a whole the proportion was 94.6 per cent. In London it has 
 been reported as 97.2 per cent. See Comptroller's Report for 1 881, 
 pp. 13-23 for an important investigation of this subject. 
 
THE CHECK SYSTEM. 29 
 
 If, now, we suppose the parties concerned to keep their ac- 
 counts with different banks in the same city, we shall have 
 results a little more complex but not different in kind. In 
 this case we may suppose the check drawn by A upon Bank 
 No. 1 to be deposited by B in Bank No. 2, If the transaction 
 stands alone, the latter bank collects the money called for by 
 the check, and holds itself liable to make payment to B on 
 demand in sums to suit his pleasure. Then has there been a 
 change, not only of creditors, but of debtors, and yet at the 
 close, after the payment by A to B has been completed, we 
 have in existence a bank liability of the same amount as that 
 with which we started. Probably, however, in a community 
 where there were several banks, the transaction would not 
 stand alone. - At the end of a day's business each bank would 
 be likely to have in its possession, received in deposit, checks 
 upon several, and perhaps all, the others; each would then 
 have checks to meet as well as checks to collect; and in this 
 case each would make its settlement with another, not by 
 making mutual demands and mutual payments, but by the off- 
 setting of demands and the payment only of such balance as 
 might then remain due from the one or the other. If, at the 
 end of the day Bank No. 1 had received in deposit checks 
 upon Bank No. 2 to the amount of 125,000, and Bank No. 2 in 
 like manner, checks upon Bank No, 1 amounting to $23,000, 
 the account as between the banks would be settled easily by 
 the payment of |2,000 by Bank No, 2 to Bank No. 1, while 
 Bank No. 1 would have made itself liable to p.iy $25,000 to its 
 depositors upon demand, and Bank No. 2 would ha^ become 
 liable to its depositors for $23,000, And the result is the 
 same if the operation here traced is multiplied by the number 
 of banks carrying on business with each other in a great city. 
 The settlement of accounts by the banks with each other still 
 leaves the banks collectively under the same liability for pay- 
 ment on demand as before. The liability rests upon the banks, 
 
30 CHAPTERS ON BANKING. 
 
 it may be, in different proportions, and is differently distributed 
 among the creditors ; but so long as payments are made by 
 checks and checks deposited, the right to demand from a bank 
 which is called a deposit continues to exist in somebody's pos- 
 session, and is as well fitted to discharge the office of money as 
 when it was first created. 
 
 2. This medium of payment acquires great perfection 
 wherever the Clearing House system is adopted. Under this 
 system a daily meeting takes place, at which all the banks 
 carrying on business at any common centre are represented. 
 Each bank turns in at the central office all the checks and cash 
 demands which it holds against the others and is credited 
 therewith; the checks and demands which have thus been 
 brought together against each are then summed up and 
 charged against it; and the balance found to be due from each 
 bank or to it is then paid to or from the central office in money. 
 By this means a great mass of transactions, which would other- 
 wise require a series of demands by each bank upon every other, 
 are settled at once and the transportation of large sums in 
 cash from one bank to another is to a great extent dispensed 
 with.* 
 
 Under this arrangement the bank deposit, circulated by 
 means of checks, becomes the most convenient means of pay- 
 
 * For a further notice of the Clearing House systerh, see Note on p. 
 37- The transportation of cash referred to in the text is reduced to its 
 minimum by the practice sometimes adopted of using "Clearing House 
 certificates" instead of money or legal tender notes. These certificates 
 represent %ioney or notes deposited with the Clearing House, or with 
 some bank which is its representative for this purpose, and are payable 
 on demand; being made in convenient denominations they are used in 
 payments between the banks, and for the purposes of reserve are rec- 
 ognized by the law of the United States as the equivalent of the cash 
 which they represent. Revised Statutes, § 5192. The same object is 
 secured in London, where banks and bankers keep their cash balances 
 at the Bank of England, by transfers at that Bank. 
 
THE CHECK SYSTEM. 61 
 
 ment yet devised. A stroke of the pen transfers it in whatever 
 amount is needed for the largest transaction, and this transfer 
 instantly becomes the basis for fresh operations, with security 
 against accidental loss as complete as can be imagined. In the 
 strict economic sense this medium, no doubt, has rapidity of 
 circulation in a high degree, while in the sense of actual 
 activity of movement in a given time it far outstrips money or 
 notes, and has been well said to be the most v^atil^'of all the 
 mediums of exchange. Of the entire circulating medium of 
 this country it forms incomparably the greatest, although the 
 least considered, part. Depending for its efficiency solely 
 upon convention and issued as well by private firms as by in- 
 corporated banks,* it for the most part eludes tbat regulation 
 which legislatures so industriously enforce upon the other con- 
 stituents of the currency. Indeed, beyond the requirement of 
 a minimum reserve to be held by incorporated banks, as for 
 example in the United States, we may say that the subject is 
 not touched by legislation. The necessity for payment in 
 specie upon demand, which is the most important safeguard 
 of value, is the result of the general provision for the payment 
 of debts of any kind. And the chief assurance against exces- 
 sive expansion on the part of any single establishment is given 
 by the certain demand for prompt and frequent settlement, 
 occasioned by the voluntary establishment of the Clearing 
 House, or by the habits of the community, but not by law. 
 
 3. What natural limit is to be found then to the continued, 
 circulation of a liability for deposit when once it is created 
 and set in motion by the process of "discount?" 
 
 Plainly, if at any stage the holder of a check, instead of de- 
 positing it, demands its payment in money by the bank on 
 
 * Of the twenty-seven members of the London Clearing House, 
 twelve are private banking houses. "The joint-stock banks were not 
 admitted until 1854, nor the Bank of England until ten years later." 
 Gilbart, Prtnctj>les and Practice 0/ Banking (edition of 1873), 452. 
 
32 CHAPTERS ON BANKING. 
 
 which it is drawn, the payment to that extent extinguishes 
 the liability. It is quite possible that the money, after a brief 
 circulation, may find its way back, in the deposits of cash made 
 by one or more individuals, and so a new liability similar to 
 the old one may come into existence; but, nevertheless, we 
 may fairly say that the use of the deposit as a substitute for 
 money came to a natural close with th« payment of the check* 
 Except, however, in the eases where money is required for 
 some special purpose, as to be sent abroad or to some other 
 part of the country, or for the increase of the stock in the 
 hands of the public,, this limit to the circulation of deposits is 
 not of great importance. For^as the withdrawal of specie 
 under ordinary circumstances is merely the exchange of one 
 medium of payment for another, any withdrawal on a large 
 scale would imply such a change in the habits and preferences 
 of the public as is not often or easily made. 
 
 A most important limit is found, however, in the use of de- 
 posits for the payment of debta due to the bank. That the 
 depositor can, to the extent of his deposit, pay a debt due from 
 himself to the bank by the relinquishment of the bank^s debt 
 to him, needs no explanation. In practice he draws his own^ 
 check in favor of the bank and exchanges it for the obligation 
 held against him by the bank, this mutual release being for 
 each side as effectual a discharge of liability as a payment in 
 money could have been. The payment in this manner of the 
 debt due by the depositor and standing among the securities 
 or loans of the bank, finally cancels a liability of the bank, 
 equal in amount to that which was created when the loan was 
 raade.* It matters little by what process the deposit, or right 
 of demand, finally used by the depositor in payment came into 
 his possession. If he is a merchant he has probably collected 
 smaller sums which were due to him, for the purpose of his 
 payment to the bank, and these smaller sums are likely to have 
 
 ♦ Compare the statement of account for operation b. on p. 26. 
 
THE CHECK SYSTEM. 33 
 
 come to his hands to a great extent in the shape of checks, 
 which, as we have seen, were the instruments for transferring 
 to him the rights of demand which others held against the 
 bank. If he borrowed the means of payment, he in all prob- 
 ability received the amount in a check. Nor is the case differ- 
 ent when there are several banks, and the depositor has 
 received his collections in checks drawn upon other banks than 
 his own. As was seen when we were considering the payment 
 by check in § 1, the deposit of these checks to his credit 
 effected a transfer of the liability from the other banks to his 
 own ; and here also this liability is finally extinguished when 
 he uses it in payment of his debt to the bank. 
 
 It is possible, indeed, that the payment should be made by 
 the debtor to the bank in money, or by a check drawn against 
 a fresh deposit of money, and in this case there is either no 
 extinguishment of bank liability by the payment, or only the 
 new liability created by the fresh deposit is extinguished. 
 But in a community where banking is firmly and widely es- 
 tablished, the great payments of commerce and of general 
 business are certain to be made, for the most part, in the medi- 
 um which is most accessible and most convenient for use in 
 large sums, and this medium is undoubtedly that which is com- 
 monly termed bank deposits. 
 
 It appears then that deposits are created by the act of the 
 bank, when loans are increased, and that they are cancelled 
 when loans are paid.* There is, therefore, a rough correspon- 
 dence between the movements of loans and of deposits. This 
 correspondence may be weakened by the actual flow of money 
 to or from the bank, but in the ordinary movements of busi- 
 ness it is tolerably close, .and where it fails the apparent excep- 
 tion will be found to be explained by some special condition of 
 
 ♦ For some striking remarks on this subject, see Hamilton's report 
 on a National Bank, Works, III. 109. 
 
34 CHAPTERS ON BANKING. 
 
 the case.* It will be found in general that, at times when 
 banks are increasing their operations, their deposits swell, and 
 that when they are contracting, their deposits fall. The true 
 connection between these movements is often forgotten, but 
 its nature cannot be mistaken by anybody who will observe 
 the steps by which an ordinary "discount" is placed at the 
 command of the borrower. 
 
 4. It has already been suggested that the use of deposits 
 and checks is most highly developed among the English-speak- 
 ing peoples. That the scattered branches of the English race 
 should in this respect have followed the example of the mother 
 country is not surprising; but the reasons for the difference in 
 practice between England and the Continent are not so clear.f 
 The difference itself, however, is strongly marked. The Amer- 
 ican or Englishman who is in the habit of receiving and niak- 
 
 * The weekly statement of the New York banks which is at hand as 
 
 the above is revised, is a good illustration of the effect of such special 
 
 conditions as are referred to above. 
 
 _, . ., Specie and 
 
 Deposits. L,/ai Tender. 
 
 • • S87.3 . . • 137- 
 - . 387-8 . . . 133-5 
 
 . . 385.2 . . . 127.3 
 • - 384-5 - • - 124.5 
 
 It appears from other evidence that during these three weeks $6.7 
 millions were withdrawn and paid into the United States Treasury and 
 $3.6 millions sent to the interior. These withdrawals go far towards 
 accounting for the reversed movement of deposits. See Commercial 
 and Financial Chronicle. 
 
 t Mr. Bagehot plausibly conjectures that the immunity of England 
 from foreign invasion and domestic revolution has made the growth of 
 confidence possible, in a degree not permitted by the disturbed condi- 
 tion of the Continent for generations past. Lombard Street, p. 90. 
 But this explanation appears unsatisfactory, in view of the frequently- 
 robust faith of continental traders and speculators, and of the ease with 
 which English-speaking people establish deposit banks under the 
 most untoward circumstances. 
 
 1885. 
 
 Loans. 
 
 October 10 . 
 
 • 331-9 
 
 '* 17 - 
 
 - 335-5 
 
 24 . 
 
 • 340-2 
 
 " 31 . 
 
 - 344-4 
 
THE CHECK SYSTEM. 35 
 
 ing frequent payments avoids the keeping of cash in hand, 
 deposits his receipts and pays nil except the smallest sums by- 
 checks. As a consequence the establishment of a bank is an 
 early symptom of the growth of trade in a small community 
 of English blood. But even in large cities the French or 
 German trader adheres to the old practice of keeping his own 
 strong box; even large establishments arlopt but slowly the 
 habit of depositing. And in Italy, where banks of deposit 
 flourished long before their introduction into England, they 
 are sparingly used and make their way with some difficulty 
 against a settled national habit. In these cases the silent 
 choice of <}u^om, which leads one people to prefer coin and 
 another notes and a third to prefer a mixed currency, also leads 
 to the personal custody and direct delivery of cash. The 
 effect is to be seen, not only in the distribution of banking 
 institutions, as to which the difference between the countries 
 named is extreme, but also in the proportion which the deposits 
 of the great banks in those countries respectively bear to their 
 loans or private securities,* Upon th« continent there is a 
 marked preference for holding the engagement of the bank in 
 the form of a note, rather than in that of a deposit, but in 
 England or America, where the note is used for anything 
 beyond the small purchases of everyday life, it is usually from 
 necessity rather than choice. 
 
 * The published accounts of several great banks, at nearly the same 
 time in October, 1885, afford the following comparative statement, the 
 several currencies being reduced to dollars, at the rate of £1 or 25 
 francs for $5, and the amounts given in millions and tenths of millions : 
 
 
 Loans. 
 
 Deposits. 
 
 Notes. 
 
 Bank of England, 
 
 III. 4 
 
 148.3 
 
 128.5 
 
 " " France, 
 
 187.8 
 
 67.4 
 
 561.3 
 
 " " Belgium, 
 
 57-5 
 
 12.7 
 
 67.8 
 
 " " Netherlands, 
 
 34-2 
 
 5-9 
 
 79-9 
 
 Imp. Bank of Germany, 
 
 117. 4 
 
 5^-5 
 
 240.8 
 
 Nat. " '^ Italy, 
 
 83.1 
 
 22.5 
 
 109.3 
 
 Banks of New York, 
 
 331-9 
 
 387-3 
 
 9.9 
 
36 CHAPTERS ON BANKING. 
 
 Peculiarities of national character are not the only condi- 
 tions, however, which affect the use of deposits as currency in 
 a given country. The extended use of a deposit and check 
 system necessarily implies convenient access to banks and also 
 a certain extended scale of operations. Ceteris paribus^ then, 
 the system will naturally be stronger where population is dense 
 or communication easy, than in a sparsely settled country or 
 where intercourse is difficult; manufactures, commerce, and 
 general trade will afford it a better field than agriculture ; and, 
 comparing one period with another, its development in a coun- 
 try with increasing population and capital, and with diversified 
 pursuits will be progressive and rapid. Accordingly we 
 find that in the United States the city banks have extended 
 the deposit system much farther than the country banks ;* 
 that in 1885 the system is developed much farther than in 
 1875; and that, to compare the banking of half a century ago 
 with that of to-day, the United Statues Bank at the height of 
 its prosperity was in this respect in as marked contrast with 
 the national banks of to-day, as are the banks on the continent 
 of Europe.! The full extent to which this development has 
 now gone is seen, not in the mere amount to which bank de- 
 posits have risen on the average, but in the vast aggregate of 
 transactions effected by this rapidly circulating medium, as 
 
 * The reports of the national banks for July i, 1885, show the com- 
 parative standing of the city banks and of the country banks to have 
 been as follows, taking equal amounts of capital, represented in each 
 case by 100 : 
 
 City. Country. 
 
 Capital 100 100 
 
 Loans 315 199 
 
 Individual deposits . . 319 157 
 
 Notes 36 59 
 
 t A comparison of the second United States Bank, at the height of its 
 expansion in 1832, with the average condition of the city national banks 
 
THE CHECK SYSTEM. 
 
 a? 
 
 shown in the reports of the Clearing House. These reports 
 contain the record of a mass of business, inconceivable in its 
 amount and complexity, such as, it is certain, could not have 
 come into existence without the aid of this powerful agent. 
 
 NOTE. 
 
 To illustrate the working of the Clearing House system, we will sup- 
 pose the case of six banks carrying on business in the same town. On 
 a given morning we will suppose the messengers of these banks to 
 meet at the Clearing House, each bringing the checks received by his 
 bank in deposit on the previous day, as follows : 
 
 No. I , checks on 
 
 No. 
 
 2, 
 
 $6,500 
 
 No. 4, 
 
 checks on 
 
 No. 
 
 I, 
 
 $8,750 
 
 (( (.(■ 
 
 il 
 
 3' 
 
 9,200 
 
 u 
 
 (( 
 
 <( 
 
 2, 
 
 4.700 
 
 u a 
 
 K 
 
 4. 
 
 7,100 
 
 it 
 
 (< 
 
 (( 
 
 3. 
 
 6,740 
 
 il il ' 
 
 11 
 
 5. 
 
 6,250 
 
 *' 
 
 it 
 
 ic 
 
 5. 
 
 5,820 
 
 (( a 
 
 il 
 
 6, 
 
 4>5oo 
 
 tt 
 
 
 « 
 
 6, 
 
 5.140 
 
 
 $33,550 
 
 $31,150 
 
 No. 2, checks on 
 
 No. 
 
 I, 
 
 $7,800 
 
 No. 5, 
 
 checks on 
 
 No. 
 
 I. 
 
 $8,740 
 
 (( u 
 
 " 
 
 3. 
 
 4,100 
 
 (( 
 
 (( 
 
 u 
 
 2, 
 
 4,620 
 
 iX il 
 
 il 
 
 4> 
 
 5.760 
 
 " 
 
 " 
 
 li 
 
 3. 
 
 9^250 
 
 tl li 
 
 li 
 
 5. 
 
 6,340 
 
 (( 
 
 ti 
 
 (1. 
 
 4. 
 
 7,680 
 
 Xi n 
 
 
 6, 
 
 5.870 
 $29,870 
 
 <( 
 
 11 
 
 <( 
 
 6, 
 
 5.940 
 
 
 $36,230 
 
 No. 3, checks on 
 
 No 
 
 I, 
 
 $6,750 
 
 No. 6, 
 
 checks on 
 
 No. 
 
 I, 
 
 $3,700 
 
 (( It 
 
 It 
 
 2, 
 
 4,270 
 
 <; 
 
 (( 
 
 (( 
 
 2, 
 
 4,100 
 
 il a 
 
 K 
 
 4, 
 
 5.900 
 
 il 
 
 (( 
 
 (( 
 
 3. 
 
 6,740 
 
 it 11 
 
 " 
 
 5= 
 
 6,400 
 
 a 
 
 *' 
 
 " 
 
 4. 
 
 9,250 
 
 xt n 
 
 t^l 
 
 6, 
 
 5.940 
 $29,260 
 
 it 
 
 li 
 
 (( 
 
 5. 
 
 7.850 
 $31,640 
 
 in July, 1885, taking the proportions for an equal amount of capital, 
 
 shows the following contrast : 
 
 1832. f88s. 
 
 Capital, 35 millions. 35 millions. 
 
 Loans, 70 " no " 
 
 Individual deposits, 9 '* H2 " 
 
 Notes, 36 " 13 " 
 
38 CHAPTERS ON BANKING. 
 
 The sum of all the checks present is $191,700. If, now, we credit 
 each bank with the checks which it presents against the others, and 
 charge it with the checks presented by them against it, we shall find 
 that No. I is charged with $35,740 and credited with $33,550, that No. 
 2 is charged with $24,190 and credited with $29,870, and so for the 
 others, and, therefore, that, 
 
 No. 
 
 I owes a 
 
 balance of 
 
 $2,190 
 
 
 No. 
 
 2 IS owed 
 
 
 
 $5,680 
 
 No. 
 
 3 owes 
 
 
 6,770 
 
 
 No. 
 
 4 
 
 
 4.540 
 
 
 No. 
 
 5 is owed 
 
 
 
 3>57« 
 
 No. 
 
 6 is owed 
 
 
 
 4.250 
 
 $13,500 $13,500 
 
 If, then, the debtor banks, Nos. i, 3, and 4, pay into the Clearing 
 House the sums due from them amounting to $13,500 and the Clearing 
 House pays out to the creditor banks, Nos. 2, 5, and 6, the sums due 
 to them, of like amount, the result will be that t\&ry bank will, in effect, 
 have collected payment of all the checks which it had received, and 
 will have made payment of all the checks drawn against it. This set- 
 tlement of checks amounting in all to $191,700 will have been made by 
 the payment of $13,500, and transactions apparently involving thirty 
 separate demands, each bank being the creditor of five others, will 
 have been settled by a series of additions made at a central office fol- 
 lowed by three payments to and three payments from a common fund. 
 
 An account of the transactions of the New York Clearing House, 
 now by far the largest in existence, is given in the Comptroller's Re- 
 port/or 1884, p. 51. In 1884 that Clearing House settled the balances 
 of sixty-one banks, and of the Assistant Treasurer of the United States. 
 In 1881, the year of largest business, the average daily exchanges were 
 $159,232,191, the transactions on some days approaching $300,000,000; 
 and these exchanges were settled by the payment of balances averaging 
 daily only $5,823,010. Since the foundation of the establishment in 
 1853, the balances actually paid have amounted on the average to only 
 4.4 per cent, of the exchanges effected. For the details of the process 
 of clearing, see Bolles, fraclical Banking; for the c\ed.ring houses of 
 the United States ; and Gilbart^ Principles and Practice of Banking, for 
 the London Clearinsr House. 
 
CHAPTER IV. 
 
 BANKNOTES. 
 
 1. It has already been said that the notes of a bank are a 
 liability distinguishable in form, but not in substance, from its 
 deposits. The creditor of a bank of issue has his choice be- 
 tween taking the evidence of his right in the form of a note, 
 and taking it in the form of a bank account. For his use the 
 one form may be preferable to the other ; if he desires to make 
 payment in small sums, as for wages, he may prefer to take 
 notes ; if he is to make larger payments, or expects a little delay 
 in the use of his funds, he is quite certain to prefer being cred- 
 ited with a deposit. But whatever his choice, the liability of 
 the bank to make payment in money on demand is the same, 
 and it is under the same necessity of providing itself with a 
 reserve sufficient to meet any demand, which experience shows 
 to be probable. To illustrate this part of the subject we will 
 take again the account given on p. 26 and suppose the deposi- 
 tors to have drawn one-third of their deposits in notes of the 
 bank, which have thus been thrown into circulation : 
 
 Liabilities. 
 
 
 Resources. 
 
 
 Capital . . . . 
 
 $100,000 
 
 Loans .... 
 
 $269,000 
 
 Surplus . . . . 
 
 32,550 
 
 Bonds and stocks 
 
 20,000 
 
 Deposits .... 
 
 180,516 
 
 Real Estate . . 
 
 13,000 
 
 Notes 
 
 90.259 
 
 Other assets . . 
 
 13,000 
 
 
 
 Reserve . . • 
 
 88,325 
 
 $403,325 
 
 $403,325 
 
 It is obvious from inspection that any demand upon the 
 bank which weakens its reserve, whether the demand is from 
 
40 CHAPTERS ON BANKING. 
 
 depositors or noteholders, produces the same effect; the secu- 
 rity of the remaining liabilities, of whatever kind, is impaired 
 and the same precautionary measures for rej^lenishment will 
 have to be taken. And so, if fresh loans are made, the relation 
 of reserve to demand liabilities is altered, whether the loans 
 are effected by an increase of deposits or of notes. The law 
 does not always recognize this precise similarity of the two 
 kinds of liability. It has sometimes required a reserve for the 
 protection of notes alone, under the apparent impression that 
 this must secure the solvency of the bank, and it sometimes 
 makes a provision for a reserve of different amount for the 
 notes, as in the national bank system of the United States, 
 having in view the different degrees of strength of the prob- 
 able demand for payment of notes and of deposits.* Aj^art, 
 however, from considerations like the last, the two forms of 
 liability seem to stand upon the same footing. The bank 
 itself finds the same advantage in the one as in the other. Its 
 profit is made from the securities which it holds, and whatever 
 profit it makes beyond the mere interest on the investment of 
 its capital, results from the holding of securities purchased by 
 means of its credit; but the rate of this profit is in no way 
 dependent upon the form in which that credit is transferred 
 from one creditor to another. 
 
 The bank, in short, is interested simply in providing that 
 form of credit which is most convenient for the use of the 
 community on which it depends, for it is by that means that 
 the greatest amount of securities can be held. Hence we see 
 a remarkable difference in the issues of city and of country 
 banks, carried on under the same system and with the same 
 
 * The national banks are now required by the Act of 1874, to have 
 only a reserve of five per cent, for the protection of their notes, which 
 is held by the Treasury as the central redeeming agency. 18 Statutes 
 at Large^ 123. The bonds deposited to secure the circulation against 
 insolvency, it is to be noticed, are in no sense a reserve and are not so 
 described by the law. 
 
BANKNOTES. 41 
 
 privileges.* The deposit, transferred by check, is more conven- 
 ient for large transactions than the note, being more expedi- 
 tious and safer ;t it is in the cities that transactions occur 
 on the largest scale, as well as in the largest number; and it 
 is in the cities, therefore, that the strongest need is felt of the 
 medium of exchange best adapted for the transfer of great 
 sums. It is in the cities, moreover, that the condition of con- 
 venient access to banks, needed for the full development of the 
 deposit and check system, is realized in its highest degree. 
 City banks, therefore, on the whole, use their right of circulat- 
 ing notes but sparingly as compared with country banks, and 
 in some cases forego its use altogether, while their deposits 
 attain an enormous expansion. Country banks, on the other 
 hand, dealing on a smaller scale and in communities which 
 have more need of a medium transferrible without recourse to 
 the bank, find the expansion of their deposits much restricted 
 in comparison with the circulation of their notes. It is for the 
 same reason that, as time goes on, the relative importance of 
 the banknote tends generally to diminish in comparison with 
 
 * See p. 36, note, A striking illustration of the same point is to be 
 found in the condition of the national banks of New York city, com- 
 pared with those of Massachusetts, outside of Boston, the amounts of 
 capital being nearly the same. The figures here given only in millions, 
 are for September 30, 1884. See Comptroller's Report^ 18S4. 
 
 New York. Massachusetts. 
 
 Capital ..... $46.2 $45.7 
 
 Loans and securities 239 128.6 
 
 Notes 13.2 35.8 
 
 Individual deposits . 184.6 45.4 
 
 t The safety of the deposit is due to the fact that the check, being 
 usually payable "to order," especially when the amount is considerable, 
 cannot be drawn or credited to its holder unless endorsed by the 
 payee. If lost or stolen, therefore, it cannot be paid unless the bank 
 is deceived by a forged endorsement, in which case the loss falls upon 
 the bank itself. Banknotes, however, being payable to bearer, are 
 nearly as difficult to trace as money. 
 
42 CHAPTERS ON BANKING. 
 
 that of deposits. The swift development of modern commerce 
 is expanding in liigh proportion the field for the most conven- 
 ient and efficient medium, while the small transactions, in 
 which notes find their use, are growing in slower ratio. It 
 becomes more and more the business of banks, therefore, to 
 extend the use of their credit in the form of deposits, the in- 
 crease in their issue of notes being, in the most progressive 
 communities, no longer a matter of great concern.* 
 
 2. That governments have so frequently felt it their duty 
 to take measures for the protection of the holders of bank- 
 notes against the insolvency of the bank, but have so seldom 
 legislated for the protection of depositors, is probably due 
 to several reasons. Legislators have generally failed to per- 
 ceive the similarity of the two kinds of liability; moreover, 
 the appropriate measures for the protection of the noteholders 
 are more obvious and of easier application ; and it is doubtless 
 true also that depositors, as a class, are better informed and 
 can more easily protect themselves, and so have less claim upon 
 the sympathy and guardianship of the legislature. At all 
 events, provision for the safety of notes is not infrequently 
 made by law, and when made is apt to consist either of the 
 easily understood requirement of a certain reserve of cash for 
 the payment of the notes, or of a preferential claim to some 
 portion of the assets^ allowed to the holders of notes in case a 
 bank becomes insolvent. 
 
 The effect of provisions for giving holders of notes a pre- 
 ferred claim may be illustrated easily, if we take the statement 
 of account last given, and, without any change of liabilities, 
 suppose the bank to have been led to make a change of invest- 
 ments and to diminish its other assets and its reserve, until 
 the account stands as follows: 
 
 * Compare the condition of the State banks from 1834 to 1863 with 
 that of the national banks in recent years. Comptroller's Report for 
 1876, p. 94. See especially the remarkable development of the New 
 York banks during the former period. Ibid^ p. 102. 
 
Liabilities. 
 
 Capital . 
 Surplus . 
 Deposits . 
 
 BANKNOTES. 
 
 T^f 
 
 
 Resourcts 
 
 
 $IOO,OCX) 
 
 Loans .... 
 
 $217,000 
 
 32,550 
 
 Bond and stocks 
 
 101,000 
 
 180,516 
 
 Real estate . . 
 
 13,000 
 
 90,259 
 
 Other assets . . 
 
 4,000 
 
 
 Reserve .... 
 
 68,325 
 
 $403,325 $403,325 
 
 The liabilities of the bank are plainly of two classes; the 
 liability to stockholders for capital and surplus, and the liabil- 
 ity to outside creditors for deposits and notes. If the affairs 
 of the bank were to be wound up, by reason of losses or for 
 any other reason, it is clear that in case of any deficiency of 
 resources, the outside creditors should be paid in full first, and 
 that only the residue after such payment can be said to be the 
 property of the stockholders and so divisible among them. If, 
 for example, it proved that by reason of failures and losses, 
 the loans, bonds, real estate and other assets, instead of being 
 worth $335,000, which was their cost, were worth only 
 $225,000; we should then have a total of resources amounting 
 to $293,325, leaving, after the payment of deposits and notes, 
 only $22,550 to be divided among the stockholders, the disas- 
 ter having swept away their supposed surplus, and about three- 
 quarters of their capital. We may go further and suppose 
 the depreciation to have reduced the value of the total re- 
 sources to $250,000, in which case the creditors must be satis- 
 fied with a dividend of a fraction more than 92 per cent.* 
 and the stockholders are seen to have lost all that they had 
 -embarked in the business. 
 
 * If we suppose the law to make the stockholders liable as individuals 
 for the debts of the bank, thej would under these circumstances be sub- 
 ject to an assessment, in order to make full payment to the depositors 
 and noteholders. For the liability of stockholders under the national 
 bank system of the United States, see Revised Statutes, § 5151. See 
 also Comptroller's Report^ 1884, 44- 
 
44 CHAPTERS ON BANKING. 
 
 In these cases the depositors, holders of notes and other 
 outside creditors, all, in short, who can properly be regarded 
 as creditors in the settlement, stand upon the same footing, 
 one with another, and have similar rights, neither class hav- 
 ing any preference unless some special legislative provision 
 intervenes to that end. We maynow suppose that the legisla- 
 ture, for the protection of the holders of notes, had given them 
 a right to be paid in full in preference to other creditors, if the 
 assets of a bank in liquidation should fall short.* In that case, 
 from the total resources amounting to $250,000, we should 
 first have the notes paid in full, amounting to $90,'259; and 
 then the remaining $159,741 would be divided among the de- 
 positors, giving them a dividend of a little more than 88 per 
 cent* 
 
 A provision of law, then, giving the holders of notes a pre- 
 ferred claim to the assets of the bank would be a natural and 
 easy method of insuring this class of creditors, except in case 
 of a very large issue or a very bad failure. But we may 
 suppose the legislature to wish to go farther than this and to 
 give the noteholders, not a general claim in preference to 
 others, but a claim to specific property of the bank, supposed 
 to be of solid value and suflicient to insure payment of the 
 notes in any case. Thus, to return to the account on page 43, 
 it appears that the bank holds bonds and stocks to the amount 
 of $101,000 as a part of its securities. Suppose, then, that the 
 law requires the bank to hold these bonds and stocks pledged 
 to secure the ultimate payment of its $90,259 of notes. Under 
 such an arrangement, the securities would not cease to be the 
 property of the bank and the earnings of the securities would 
 remain, as before, a part of the profits of the bank. The 
 pledged property would be enjoyed, however, subject to the 
 provision that in case of the failure ol the bank, the proceeds 
 of the securities should be applied first to tlie payment of the 
 
 * E. g. see New Hampshire Compiled Statutes of 1853, ch. 148 § 30. 
 
BANKNOTES. 45 
 
 outstanding notes. If the law should go farther and provide 
 that only certain approved classes of securities should be used 
 for this purpose, and that the securities pledged should be 
 lodged for safe-keeping in the hands of some public officer, the 
 tsubstance of the transaction would still be unchanged. It 
 would still remain a simple case of the specific appropriation of 
 a certain part of the property of the bank to the payment of a 
 particular class of its liabilities in a given contingency. The 
 essential structure of the bank would be unchanged and the 
 sources of its profits would be neither more nor fewer than 
 they were in the absence of this pledge of securities. 
 
 The method just described, of protecting the issue of notes 
 by a deposit of securities in the hands of some public officer, 
 is that which was adopted by the state of New York in 1838, 
 and was long known as the "free banking" system. Many other 
 States followed the example of New York, and finally in 1863 
 the New York plan was adopted by Congress as the basis for 
 the national banking system.''^ 
 
 If, now, we vary our suppositions so far as to imagine the 
 property pledged for the protection of the notes to consist, not 
 wholly of securities, but of securities to a certain amount and 
 of specie for all notes issued in excess thereof, we shall have 
 in substance the provision made by law in 1844 for the pro- 
 tection of the notes of the Bank of England. 
 
 3. Beside other reasons already adverted to, for seeking 
 legislative protection for banknotes, the belief has been com- 
 mon that banks are under a special and dangerous temptation 
 to overissue notes, thus causing their depreciation with loss to 
 the public. The question whether really convertible notes 
 can be issued in excess has been the subject of much wearisome 
 
 * For an account of the New York {system and its adoption by other 
 «tates, see Comptroller's Report for 1876, 23-36. 
 
46 CHAPTERS ON BANKING. 
 
 and futile discussion,* tending to secure for the notes far more 
 than their proper share of attention. It has already been 
 shown, however, that the question whether notes shall be 
 issued or not, is one which in modern banking is not settled 
 affirmatively by the bank, but by the creditor, who determines 
 for himself and with an eye to his own convenience, whether 
 to hold his right, as against the bank, in the form of a note or 
 of a deposit. If he and creditors generally prefer the lutter, 
 the bank cannot force its notes into circulation. The really 
 serious question would be whether the bank can extend the 
 use of its credit, by deposits as well as by notes, in excess. 
 This is as much as to ask whether the bank can go too far in 
 the purchase of securities, or in other words, unduly stimulate 
 borrowers, the making of loans being the purpose for which 
 the bank extends its credit. But this question cannot be 
 answered without qualification. If we observe any period of 
 ten years, we shall find some years in which banks have found 
 the public depressed and spii'itless, to such a degree that, with 
 every motive for increasing their business, it has been found 
 impossible to find sound commercial paper in sufficient amount. 
 So far from being able to extend their credit in excess, banks 
 have at such times often reduced their capital because employ- 
 ment for it could not be found. Other years we shall find in 
 which the public spirit was buoyant and adventurous, and in 
 which the banks have fostered and increased the general 
 tendency to speculation, by the facility with which they have 
 given the use of their credit. It is true then that banks can- 
 not extend their liabilities of either sort except in response to 
 a demand from the public ; it is also true that in certain states 
 of business this demand may be unduly stimulated by their 
 action, and that issues made in response to such a factitious 
 
 * For convenient citations on this subject, see Walker on Money, ch. 
 xix. 
 
BANKNOTES. 47 
 
 demand may be said to be in excess of the proper needs of the 
 community. In any such expansion of bank credit, however, 
 banknotes play the least important part.* 
 
 NOTE. 
 
 Of the writers on banking, McLeod, Theory and Practice of Bank- 
 ings has made the most careful analysis of the exchange which under- 
 lies every banking operation. Notwithstanding eccentricities of 
 method and style, his exposition of the real meaning of "loans" and 
 the ambiguities incident to our use of that term, the origin and pur- 
 port of bank liabilities and the substantial identity of the liabilities for 
 deposits and notes, is clear and important, and might be cited in con- 
 firmation at many points in these pages. Reference may also be made 
 with advantage to McLeod's smaller work, Elements of Banking. 
 
 Among earlier discussions attention is specially called to a striking 
 letter by James Pennington, Tooke's History of Prices, II. 369, in 
 which the strong analogy between the deposit accounts of the London 
 private bankers and the notes of the country bankers is forcibly stated 
 and explained. 
 
 * The condition of the national banks in December, 1878, was one 
 of great depression and may be compared with their expanded state in 
 October, 1881. 
 
 December 6, 1878. October /, i88j. 
 
 Capital $464.9 $463.8 
 
 Loans 826 ii73'8 
 
 Deposits. .... 598.8 ....... 1071. 
 
 Notes 303.3 320.2 
 
CHAPTER V. 
 
 THE NATIONAL BANKS OF THE UNITED STATES. 
 
 1. The national banking system of the United States owes 
 its existence to the civil war. Although in the majority 
 of the States the banks incorporated under State authority 
 were badly organized and insecure, and altliough even such as 
 were on a solid foundation could enjoy only a restricted local 
 credit, the current of opinion before the war was by no means 
 favorable to any consolidation of banking interests. Discontent 
 with existing systems more frequently took the form of opposi- 
 tion to the existence of any banks of issue at all ; the party then 
 apparently holding permanent control of the administration 
 cherished with pride the traditions of its victorious struggle 
 with the United States bank, and of its devotion to a gold cur- 
 rency; and probably neither the friends nor the o})ponents of 
 banking would have thought at that time of finding in the gov- 
 ernment of the United States a power able to reorganize upon 
 a common plan the note issues of all the States. 
 
 The imperious necessity of finding a market for United 
 States bonds for the supply of a Treasury drained by war was 
 the favoring condition needed for such a reorganization, and 
 the assumption of unusual powers by the United States govern- 
 ment, which had become habitual under the pressure of a 
 struggle for existence, made the resort to federal authority 
 practicable. In 1860 a majority of the people would have 
 thought the establishment of a third United States bank dan- 
 gerous and of doubtful constitutionality. In 1863 a system of 
 national banks, indefinitely more powerful than the bank which 
 
NATIONAL BANKS OF THE UNITED STATES. 49 
 
 waged an almost equal war with Jackson, was established with 
 widespread, although not unanimous, consent, and without 
 solid opposition except that of some existing interests threat- 
 ened or alarmed by the change. It was, indeed, urged by 
 some that, as the wants of the Treasury were the real control- 
 ling motive in the establishment of the new system, it would 
 be better for the government to issue its own notes to the ex- 
 tent of the proposed bank circulation, and to occupy the whole 
 of the field, of which it had already taken a part, and so enjoy 
 the full advantage of a non-interest-bearing debt. Fortunately 
 these views gained little support, and the dangerous expedient 
 of relying solely upon the issue of government notes was not 
 pushed beyond the limit of possible return to specie payment.* 
 2. The adoption of a system of Tiational banks, having 
 their notes secured by the deposit of United States bonds, had 
 been proposed by the Secretary of the Treasury in 1861, and 
 strongly urged by him in 1862. An act for the purpose was 
 passed in February, 1863,t but in many points of detail this 
 proved to be so unsatisfactory and incomplete, that only 134 
 banks were organized under it in the next nine months and the 
 number had risen to less than 450 in sixteen months. A re- 
 vised act, making important changes, was therefore passed in 
 June, 1864,$ and ample provision having been made, under 
 which banks chartered by the States could be reorganized as 
 national banks, the extension of the new system went on 
 rapidly. Its adoption was further stimulated by an act laying 
 a tax of ten per cent, on all notes of State banks paid out by 
 any bank after July 1, 1866; || and at that date the number 
 
 * See Report on the National Bank Currency Act, written by the 
 late John E. Williams, and made to the New York Clearing House 
 banks, November 28, 1863. 
 
 t 12 Statutes at Large, 665. » 1 SSH 
 
 X 13 Statutes at Large, 99. 
 
 II 13 Statutes at Large, 469. 
 
50 CHAPTERS ON BANKING. 
 
 of national banks, then 16S4, easily reached the level at which 
 it stood for several years.* 
 
 The general provisions of the national bank systeraf restrict 
 the right of issuing notes to the national banks, but do not in- 
 terfere with the performance of any of the other functions of 
 banking by banks chartered by State authority, or by private 
 banks. The issue of notes is to be secured by a deposit of reg- 
 istered bonds of the United States, the bonds being transferred 
 to and held by the Treasurer at Washington, but the interest 
 thereon collected by the banks, whose property the bonds 
 continue to be. The deposit of bonds under these provisions 
 entitles the bank making such deposit to receive from the 
 Comptroller of the Currency, who has the general charge of 
 the system, notes to the amount of ninety per cent, of the 
 market value of the bonds deposited, but not exceeding ninety 
 per cent, of their par value. These notes when received are 
 in blank, certifying only the fact that the security for them is 
 in the hands of the government; but when signed by the 
 proper officers of the bank, they become its promises to pay 
 upon demand, and can then be issued for circulation. They 
 are, of course, to be paid by the issuing bank whenever pre- 
 sented, are also to be received in payment by all other national 
 banks, and can be paid to or be used in payments by the gov- 
 ernment in all cases where specie is not required by law; but 
 they have never been a legal tender as between individuals. 
 
 * A summary statement of the number and condition of the national 
 banks, at four or five dates in every year, and for every year since the 
 adoption of the system, is given annually in the Comp^roHer^s Reports 
 
 t The legislation on this subject down to 1873 is embodied in §§ 5133- 
 5243 of the Revised Statutes of 1878. The subsequent acts of impor- 
 tance are the Compromise Act of 1874, \^ Statutes at Large, 123; the 
 Resumption Act of 1875, ^^^di 296 ; the act of 1880 concerning gold 
 banks, 21 Id. 66; and the act of 1882 extending the existence of the 
 banks, 22 Id. 162. 
 
NATIONAL BANKS OF THE UNITED STATES. 51 
 
 These provisions have secured for the notes a uniform value 
 and give to the notes of every bank an unimpeded circulation 
 in every part of the Union, If, indeed, the law, as in the act 
 ■of 1863, still made no further provision for redemption than 
 tto require every bank to redeem its own notes when presented 
 at its own counter, the return of notes for payment and their 
 substantial convertibility would be nearly destroyed. But the 
 law of 1864 made jjro vision for redemption by all banks at 
 -agencies in the principal cities, and this arrangement continued 
 in force until June, 1874,* when the present system was 
 adopted, making the Treasury of the United States the sole 
 redeeming agency for all of the national banks, and requiring 
 every bank to keep in the Treasury, to be used in redemp- ^ 
 tion of its notes, a reserve equal to five per cent, of its circula- 
 tion. The chief effect of the present system of redemption, 
 however, is the easy removal from circulation of notes which 
 are worn, soiled, or otherwise unfit for use,t For the establish- 
 ment of a system which should test effectively and continuously 
 the power of every bank to convert its notes into specie on 
 demand, it would probably be necessary to require that no 
 national bank should pay out any notes except its own.J For 
 the general purpose of maintaining the convertibility of the 
 aggi-egate note issue of the banks and its ready diminution 
 
 * i8 Statutes at Large, 123. 
 
 t During the 3'ear ending with October, 1884, the notes received at 
 the redemption agency amounted to $136,577,732 ; of them $33,080,300, 
 an unusual proportion, were returned to the banks as "fit for circula- 
 tion." Comptroller's Report for 1884, p. 71- 
 
 X Such a prohibition was the basis on which the '"Suffolk bank 
 system" of New England rested, from 1819 to 1866, and maintained at 
 par a note circulation which had otherwise but slender provision for 
 convertibility. Massachusetts General Statutes oi i860, ch. 57, § 55; 
 but compare also § 124. And see D. R. Whitney, The Suffolk Bank. 
 
52 CHAPTERS ON BANKING. 
 
 when requirecl by tlie condition of business, the present arrange- 
 ment is well devised. 
 
 The national banknote when issued is the promise of the 
 issuing bank, and must be punctually met by it, as any other 
 liability must be. The note, however, carries with it certain 
 engagements binding upon the government of the United 
 States. The provision for redemption at the Treasury binds 
 the government to pay on demand all notes when presented in 
 due form, and not merely notes to the extent of the reserve. 
 And in case of the failure of a bank, the law provides for the 
 immediate redemption of all its notes at the Treasury. The 
 government has thus made itself fully liable in any event for the 
 whole amount of the notes. On the other hand, it has taken 
 ample security for its reimbursement, by requiring the de- 
 posit of bonds as above stated, by requiring that this deposit 
 shall be increased if the value of the bonds declines, by the 
 provision for a reserve of cash to be held by the Treasury, and 
 also by taking for itself a first lien upon all the assets of a bank 
 for the purpose of making good any possible deficiency in the 
 security already provided. An ingenious provision in the act 
 of 1882 also secures for the government any gain that may 
 ultimately accrue from the destruction of notes while out- 
 standing, or the failure for any reason to call for their redemp- 
 tion. And finally, although the expenses of printing the notes 
 (but not of engraving the plates) of superintending the system, 
 and of providing for the safe-keeping of the bonds deposited, 
 are paid by the government, these charges are offset by a tax 
 of one per cent, per annum on the average amount of notes in 
 circulation. On the whole, therefore, whatever may be gained 
 by the banks from this system, it cannot be said that the liabil- 
 ity of the government is onerous. 
 
 3. Although in its general theory the national banking sys- 
 tem is one of "free banking," under which the business of 
 banking in all its branches shall be open to all persons who 
 comply with the formalities provided by the law, it was never- 
 
NATIONAL BANKS OF THE UNITED STATES. 53 
 
 theless felt to be dangerous to allow the issue of an unlimited 
 circulation so long as the currency remained irredeemable. 
 The attempt to restrict what was in theory free led, therefore, 
 to a series of contradictory and in some respects remarkable 
 provisions. 
 
 Without restricting the establishment of banks, the acts of 
 1863 and 1864 limited the aggregate amount of notes to 
 f 300,000,000 ; and while no bank was allowed to issue notes 
 exceeding in amount its capital stock, every bank was required 
 to deposit bonds amounting to at least one-third of its capital. 
 Apprehending that the rapid reorganization of the numerous 
 State banks in the Eastern and Middle States might fill up the 
 prescribed aggregate of circulation, before the West should 
 be able to organize a due proportion of banking capital, the 
 act of 1863 also required one-half of the total circulation 
 to be apportioned among the States according to their repre- 
 sentative population, and one-half "having due regard to 
 the existing bank-capital and resources." The reluctance of the 
 banks to reorganize as national banks, however, caused the 
 omission of this provision in the act of 1864; but Congress 
 in 1865, while encouraging the immediate reorganization of 
 existing banks, revived the provisions for apportioning the 
 aggregate circulation and fixed a narrower limit for that of 
 banks of the larger -class. 
 
 As early as November, 1868, notes bad been issued to nearly 
 *he amount allowed by law, and the West and South soon 
 began to complain of the difficulty of organizing banks, without 
 the right of issue; in sparsely settled States. In 1870 a chance 
 was offered for the increase of banknotes without increase of 
 the aggregate paper currency of the country, by the contem- 
 plated payment of certain obligations of the Treasury hitherto 
 used by the banks as a part of their reserves, for which legal 
 tender notes would now have to be substituted and thus with- 
 drawn from circulation. Congress therefore seized the oppor- 
 tunity of extending the aggregate limit of notes for circulation 
 
54 CHAPTERS ON BANKING. 
 
 by 854,000,000, to be apportioned among States having less 
 than their due proportion, and further required that, after this 
 increase of note circulation should have been made, a redistri- 
 bution of the right of issue should be made by the withdrawal 
 to the extent of $25,000,000, from States having more than 
 their due proportion, and the apportionment of the same among 
 States having less. The limit for each bank thereafter organ- 
 ized was reduced to half a million dollars, and provision was 
 even made for allowing the removal of existing banks to States 
 having less than their due proportion of note circulation. 
 
 By the end of 1873 the new limit of $354,000,000 was nearly 
 filled and finding itself impelled to legislate upon the cur- 
 rency by the financial revulsion of that year, Congress after 
 painful debate elaborated the Compromise Act of June, 1874, 
 in which provision was made for the immediate withdrawal of 
 circulation from States having an excess and its distribution 
 among banks in States having a deficiency, as fast as application 
 should be made by the latter, to the extent of $55,000,000, in- 
 cluding the $25,000,000 already provided for. Arrangements 
 for carrying this act into execution, however, had hardly been 
 made, when this series of crude and futile measures was 
 brought to an abrupt close, by the hasty passage of the act of 
 January, 1875, for the resumption of specie payments. This 
 act fortunately swept away all the provisions limiting and ap- 
 portioning the aggregate amount of banknotes to be authorized, 
 as w^ll as those calling for the withdrawal and redistribution 
 of issues already authorized, and thus established the national 
 banks for the first time on the basis of freedom, required by 
 the theory of the original measure. No change was needed 
 to adapt the system to a resumption of specie payments, its 
 details having been arranged at the outset so as to admit of 
 easy translation into terms of specie. 
 
 4. In its regulation of the discount and deposit business of 
 the national banks, the law does not follow the example of 
 
NATIONAL BANKS OF THE UNITED STATES. 55 
 
 some previous legislation, by fixing a limit to the amount of 
 securities to be held by any bank,* but simply prescribes a 
 minimum reserve to be held for the protection of the liability 
 for deposits. For banks in sixteen "reserve cities," named in 
 the act of Congress,! the reserve must be twenty-five per cent, 
 of the deposits; for all other banks, fifteen per cent. The pro- 
 visions for determining what shall be counted as reserve are, 
 however, less simple. The general requirement is that it shall 
 be "lawful money," or in other words specie or legal tender 
 notes of the United States, so long as a^aper legaf tender 
 exists. But Clearing House certificates, which represent 
 lawful money specially deposited for the purposes of the Clear- 
 ing House association, of which the bank owning them may be 
 a member, and the cash reserve of five per cent, of its circula- 
 tion, which every bank is required to keep in the Treasury, 
 are also to be counted as a part of the reserve against deposits. 
 And it is further provided that, for any bank in a redemption 
 city one-half of its reserve may consist of cash J[eppsits in the 
 city of New York, and for any bank outside of the redemption 
 cities three-fifths of its reserve may in like manner consist of 
 deposits with banks in those cities. 
 
 The permission thus given, to count certain demands for cash 
 as cash itself, has a marked effect upon the composition of the 
 reserve held by the banks as an aggregate, and therefore upon 
 the strength of the whole mass of banks at any given moment. 
 If we take the returns of the national banks for October 1, 
 1883, we find their deposits amounting in the aggregate to 
 
 * See e. g. Massachusetts General Statutes of i860, c. 57, § 25; New 
 York Revised Statutes of 1859, H- 5^8; Maine Revised Statutes of 1857 
 ch. 47, § 19. 
 
 f The reserve cities are Boston, Albany, New York, Philadelphia, 
 Pittsburgh, Baltimore, Washington, New Orleans, Louisville, Cincin- 
 nati, Cleveland, Detroit, Chicago, Milwaukee, St. Louis, and San Fran- 
 cisco. The list included Leavenworth, until the passage of the act of 
 March 1,1872. 
 
56 
 
 CHAPTERS ON BANKING. 
 
 1168.7 millions of dollars, requiring a reserve of 234.4 millions. 
 They are returned as holding 328.9 millions of reserve in all, 
 and were therefore, on the average, far above the legal minimum. 
 But this great apparent reserve was composed as follows: 
 
 Specie 
 
 Other lawful money . 
 Redemption fund . . 
 Due from reserve cities 
 
 107.8 millions. 
 
 80.6 
 
 15.6 " 
 124.9 
 
 Total $328.9 
 
 Of actual cash, then, the banks of the country at this date 
 held but 204 millions, much less than the amount of reserve 
 required for their liabilities, — the remaining sum, which appar^ 
 ently made their condition remarkably strong, consisting 
 merely of debts due from one bank to another. The ability of 
 the mass of banks, therefore, to meet the pressure of a financial 
 crisis was dependent on the ability of the debtor banks to pay 
 upon demand the suma deposited with them and relied upon 
 by the others as a part of their reserve, or in other words on 
 the ability of the banks of New York city to meet their liabil- 
 ities.* The reserve of those banks, however, on which all the 
 
 * The reserve October 1, 1881, was divided between city and coun4:ry, 
 and classified as follows : 
 
 Classification of Reserve. 
 
 Reserve Reserve «;_-,^-- Legal Ten- 5p'rc't Due from 
 required. held. ^pccic- der etc. fund. banks. 
 
 New York City, 67.2m. 62.5 m. 50.6m. 10.9 m. i.om. 
 Other Res. cities, 83.9 100.8 34.6 21.9 3.7 / 40.6 
 
 Country 76.1 158.4 27.5 27.1 11.4 \92 
 
 i\] 
 
 Totals, 227.2 
 
 321.7 
 
 12.7 
 
 59-9 
 
 16.1 
 
 I33 0- 
 
 The published reports make it probable, althougii not certain, that in 
 the middle of October, 1873, when the reserves of the New York banks 
 had fallen to less than eleven per cent, of their liabilities and payments 
 had been generally suspended, the reserves of the rest of the country 
 were above the line required by law. 
 
NATIONAL BANKS OF THE UNITED STATES. 57 
 
 others rested, was but little above the legal minimum at the 
 
 date named, and sometimes under similar conditions has been 
 
 below that point, so that with an apparently high reserve for 
 
 the country at large, there was such weakness at the central WV S 
 
 and most exposed ^Qinjt. as to seriously impair the value of this 
 
 precaution. 
 
 The relation of the New York banks to the other banks of 
 the country, as the depository of their reserves, is plainly quite 
 analogous to that of the Bank of England as the depository of 
 the joint stock and private banks of London, and the effects 
 seen in the w^eakening of reserves and the concentration of 
 risks is the same in both cases.* As regards the national 
 banks the tendency to centralize the reserves, favored by the 
 law, is heightened by the practice, long established among the 
 New York banks and also existing elsewhere, of inviting de- 
 posits by country banks by the payment of interest.f The 
 opportunity of converting a barren reserve into an interest- 
 bearing resource, and yet counting it as reserve, has always 
 been attractive and has caused an habitual transfer from the 
 country banks to those of New York, sometimes estimated at 
 not far from 180,000,000. The employment given to the 
 funds thus held subject to call is a topic of serious interest on 
 which it is impossible to enter now. 
 
 5. For the enforcement of the provision as to reserve, the 
 law provides that whenever the reserve of any bank falls below 
 the prescribed limit, the bank shall neither "increase its liabil- 
 ities by making any new loans or discounts," otherwise than 
 by the purchase of sight bills of exchange, nor shall it make 
 
 * See Bagehot's Lombard Street, 160-173; Dun's British Banking 
 Statistics, 129. 
 
 t This practice was condemned by resolution by the banks of the 
 New York Clearing House in 1857, 1873, and 1884. See Banker's Mag- 
 azine, April, 1858, p. 322; Commercial and Financial Chronicle, ^o- 
 vember, 1873, P- ^S^ > Banker's Magazine, August, 1884, p. 129. 
 
 Resolutions alone, however, have never proved to be a cure. 
 
58 CHAPTERS ON BANKING. 
 
 any dividend, until the reserve has been restored to its due 
 proportion. The Comptroller of the Currency is also author- 
 ized to notify any bank whose reserve is insufficient that it 
 must be made good, and in case of failure to comply within 
 thirty days, he may, with the concurrence of the Secretary of 
 the Treasury, appoint a receiver to wind up the business of the 
 bank. Although the ample discretion thus given to the Comp- 
 troller has been used with great moderation,* the prohibition 
 of further discounts, when the reserve falls below a given pointy 
 makes a hard and fast line, the approach to which never fails 
 to cause uneasiness and in some conditions of affairs is viewed 
 with serious alarm. In any actual crisis, the declaration that 
 in a given contingency like this the usual accommodation of 
 the public must stop and liquidation must begin, is the surest 
 means of increasing the pressure for loans and of thus convert- 
 ing a cri&is into a panic. For ease in operation and greater 
 safety, some more elastic provision is needed, which shall insure 
 a sufficiently high average of reserve and yet make no harsh 
 break in operations at a given point. The Bank of England 
 has in its hands a superior instrument for this purpose in the 
 slidin^scale of discount, by which it can encourage or dis- 
 courage borrowers and thus deplete or replenish its reserve^ 
 without ceasing its operations altogether at any point yet 
 reached. This expedient, however, is inapplicable in the 
 United States, partly because of the traditional prejudice 
 against the adjustment of rates of discount by the demand in the 
 market, widely prevalent among our people, and partly be- 
 cause Congress has been obliged by probable lack of authority 
 to forego the establishment of a general law respecting interest, 
 and to recognize in each State the rates there prescribed by 
 the local legislature. A suggestion of an elastic limit is con- 
 tained in certain provisions of the German bank law which, 
 
 * See the course pursued in September and October, 1873, when the 
 reserve of the banks of New York were far below the line and both city 
 and country banks had suspended payment. 
 
NATIONAL BANKS OF THE UNITED STATES. 59 
 
 after a prescribed line, tax the operations without, however, 
 prohibiting them; but this expedient, devised long after the 
 establishment of the national banking system by Congress, has 
 not yet had such trial as to thoroughly test its capabilities. 
 
 6. Much controversy has been excited by the question as to 
 the rate of profits Avhich the national banks have obtained from 
 their right of issuing notes secured by a deposit of bonds. It 
 has already been shown that their case is in no respect differ- 
 ent as regards profits from that of banks which use their 
 credit in the form of deposits, in order to make investments 
 in interest-bearing securities. The notion often entertained, 
 that the national banks have some peculiar opportunity of mak- 
 ing a double profit, "by receiving both interest earned by 
 "their bonds, and interest earned by the loan of the notes 
 "issued upon'the bonds," overlooks the fact that every bank 
 uses, as its means for obtaining securities, its cajntal and what- 
 ever credit it can employ in addition.* The conclusive prac- 
 tical answer to the idea of a supposed double profit is to be found, 
 however, in the conduct of the banks themselves, especially 
 since the passage of the act of 1874, already referred to. 
 That act, recognizing the desire of many banks to reduce their 
 circulation and secure possession of their bonds, provided that 
 any bank might deposit "lawful money" with the Treasurer of 
 the United States to enable him to redeem its notes, and 
 thereupon withdraw pro tanto the bonds deposited, provided the 
 amount of its bonds left in deposit were not reduced below 
 $50,000.t Several important national banks had never chosen 
 
 * The actual profit earned by the banks from their right of circulation 
 ■was estimated by the Comptroller of the Currency in 1883 not to exceed 
 $46 on $90,000 of notes. See Comptroller's Report, 1883, 13. 
 
 tFor an objection made at the Treasury to the working of this pro- 
 vision, see Finance Report, 1880, 331 ; 1881, 221. For the connection 
 Ijetween this provision and the "bank panic" of March, 1881, see 
 Comptroller's Report for 1881, p. 39; Atlantic Monthly, February, 
 1882, p. 195. 
 
60 CHAPTERS ON BANKING. 
 
 to issue notes, although required by the law to maintain a de- 
 posit of bonds ; under this provision a considerable number 
 reduced their notes to the $45,000 which the required minimum 
 deposit of bonds would support. The withdrawals of notes 
 continued for several years, and although new banks were 
 formed and the note circulation increased in some sections, 
 under the authority for free banking given by the resumption 
 act, the total banking capital and note circulation alike declined, 
 until the summer of 1878. Both increased after the resump- 
 tion of specie payments, but the circulation of bank notes, 
 although open to all banks, and to any amount, never reached 
 its old point. This course of things was entirely inconsistent 
 with the existence of large profits arising from the issue of 
 notes under the national system. It is impossible to believe 
 that, if such profits were reaped, existing banks would have 
 neglected or renounced the opportunity of making them, or 
 that the multitude of private bankers, and of State banks 
 would have failed to seize upon an opportunity which was free 
 to all,* by organizing under the national system. 
 
 That a good rate of profit has been made by the national 
 banks upon their general business is no doubt true. Especially 
 during the period of irredeemable paper their harvest was 
 lai'ge, as is usually the case with the dealers in money and 
 credit during a period of non-payment and of fluctuation. 
 The law has from the first required of every bank that a part 
 of its profits should be reserved, until an surplus amounting 
 to one-fifth of the capital should be accumulated. A solid 
 foundation was laid for their surplus in many cases, by the 
 sale at a high premium of the gold held by State banks before 
 their reorganization, and retained by them until the adoption 
 of the paper system had plainly become definitive. The banks 
 
 * Until the spring of i88i, two-thirds of the bonds held by the banks 
 to secure their circulation bore interest at not less five per cent, and a 
 considerable amount at six. 
 
NATIONAL BANKS OF THE UNITED STATES. 61 
 
 had thus on the average accumulated the surplus required by 
 law before the end of 1869, since which time their accumula- 
 tion has increased or diminished as the times were prosperous, 
 or the reverse, their surplus varying from 26.6 per cent, of the 
 capital in October, 1875, to 25 per cent, in December, 1878, 
 and again to 28.3 per cent, in December, 1883.=* The annual 
 dividends paid from earnings after the reservation for sur- 
 plus, also stood at their highest point during the period of 
 most rapid accumulation, and have varied from a maximum of 
 10.58 per cent, of the capital to a minimum of 7.59 per cent. 
 Without doubt this rate of dividends shows a prosperous busi- 
 ness, but how far the prosperity is due to privileges enjoyed 
 under the national system may be judged, from the near ap- 
 proach which State banks make to national banks in their 
 earning capacity.f 
 
 7. There is no doubt that, in adopting the national banking 
 system the majority of Congress understood themselves to be 
 establishing the agency by which the sole paper currency of 
 the country should be issued in the future. The legal tender 
 issues were still regarded as a temporary expedient, resting upon 
 
 * For many years the largest surplus held has belonged to a bank 
 which issues no notes, but has accumulated many times the amount of its 
 capital. It is true in general that the banks of largest surplus have not 
 owed it to their issue of notes. 
 
 t In New York, where there are nearly loo banks organized under the 
 laws of the State, the percentage of surplus and undivided profits to 
 capital under the two systems respectively was in September, 1879, 1882, 
 and 1884 as follows : 
 
 National hanks. State banks. 
 
 September, 1879 45 37 
 
 1882 58 52 
 
 1884 57 54 
 
 See Report of State Banking Department for 1884, and Comp. 
 iroller's Report. 
 
62 CHAPTERS ON BANKING. 
 
 the overwhelming exigency of the moment for their justifica- 
 tion; the bank act is entitled "An act to provide a national 
 currency," emphasizing by its title the permanence of the sub- 
 stitute which was to fill the place left vacant by the legal ten- 
 der notes when paid ; and the text of the act plainly looks 
 forward to the return of specie payment, which should leave 
 specie the only tender for debt.* Establishing a ])ermanent 
 system of banks Congress undertook to surround them by the 
 ordinary safeguards needful to give them full credit, providing 
 minutely for their organization and superintendence, and for 
 the publication of their accounts at rather short intervals, and 
 laying down rules, wholesome so far as they go, restricting the 
 kinds of business in which the banks should engage. It was 
 provided also that the diareholders should be responsible ra- 
 tably for the debts of the banks, each to the amount of his 
 stock in addition to the capital actually invested by him.f 
 A system of banks thus guarded and under the charge of 
 
 ♦In 1870 when the return to specie payments finally seemed to have 
 been postponed indefinitely, an act was passed authorizing the estab- 
 lishment of gold banks, issuing notes redeemable in gold coin, and 
 secured by the deposit of " United States bonds bearing interest pay- 
 able in gold " with the treasurer of the United States. The notes were 
 not to exceed eighty per cent, of the value of the bonds, and were not to 
 be subject to those provisions of law which then limited the aggregate 
 circulation of bank notes. Several gold banks were organized, chiefly 
 in the Pacific States ; but after the return to specie payments the dis- 
 tinction between them and other banks ceasing to be of importance, 
 provision was made by the act of 1880 for their conversion into national 
 banks of the usual type. 21 Statutes at Large, 66. 
 
 t From this liability to contribution beyond the amount invested, the 
 law made an exception in favor of the stockholders of any existing State 
 bank, having a capital of not less than five millions and a surplus of 
 twenty per cent., in case of its reorganization as a national bank. This 
 exception was made in order to secure the adhesion of the Bank of 
 Commerce of New York city, — the only bank in the United States 
 which could meet these conditions. 
 
NATIONAL BANKS OF THE UNITED STATES. 63 
 
 the government itself could hardly be treated by Congress as 
 unworthy of being entrusted with the public funds, as the 
 State banks had been under the independent treasury act of 
 1846, and provision was therefore made for designating banks 
 as depositories of public money when occasion should require, 
 and for their employment as financial agents of the govern- 
 ment, upon their giving satisfactory security, by the deposit of 
 United States bonds and otherwise, for the faithful discharge 
 of these functions. The framers of the measure no doubt 
 looked forward at one time to a more consolidated system of 
 banks, and to a closer intimacy with the government than 
 was in fact established; but their action as it stands marks an 
 extraordinary change of policy, made under the pressure of 
 war, by a government which, hardly more than two years be- 
 fore, trusted no agency whatever with the custody of its funds, 
 recognized no>medium of payment except specie, and carefully 
 disclaimed all connection with, or responsibility for, any possi- 
 ble system of banks. 
 
CHAPTER VI, 
 
 THE BANK OF ENGLAND. 
 
 1. The Bank of England owes its origin to the financial 
 straits to which the government of William and Mary found 
 itself reduced in carrying on its war with Louis the Fourteenth. 
 The revenues of the kingdom were small, the public credit 
 weak, and the very title of the dynasty unsettled. The gr ow- 
 iBg_:we«lth nnd bufiinnnn Sii ih^ fionntry_hnrl caused pvivntp 
 bankingJmusesjto^^ng np> The paper given by those houses 
 to their creditors had acquired a circulation, limited indeed^ 
 but sufficient to show its convenience, and projects for the es- 
 tablishment of a public institution ^n tha--jS.cal%_ iJLjiot ojijthe 
 model, of the, great j£OBtinentaIJiaakSa_had^beenjiscussed for 
 m any yea rs>^ Under these circumstances, as an expedient for 
 raising a million sterling, for which no other resource could be 
 found, the government in ^69^ adopted the scheme proposed 
 by William Patterson, a Scotch adventurer, and proposed to 
 Parliament that a loan should be offered for public subscription 
 and made attractive by a grant of incorporation with banking 
 privileges, to be enjoyed by the subscribers and their suc- 
 cessors- The measure seems to liave been contested chiefly, 
 although not wholly, on party grounds, and was passed after a 
 
 * McLeod, Theory and Practice of Banking, I, 210, prints a "gold- 
 smith's note" which is still preserved, dated 1684. And s,ee Macaulay's 
 History, VII, 134. The plan of establishing a national bank had been 
 agitated as far back as 1660. 
 
THE BANK OF ENGLAND. 65 
 
 severe stiuggle, and thus the Bank of England came into exis- 
 tence as a Whig corporation * 
 
 The act of 1694 provided for a loan to the government of 
 £1,200,000, bearing interest at eight per cent., and incorporated 
 the subscribers, with this amount of nominal capital, as the 
 Governor and Company of the Bank of England, — a title 
 which has never been changed. The_j2fiiq^oration__was__e3ii- 
 p_OLB:er£d-Jia_daaLin coin, b^niQIL _and exchange, and to lend 
 upon security, but was forbidden to deal in merchandise in a ny 
 form. It could no t borrow nor give security by bill, bond or 
 agreement, for an amount exceeding its capital ; no p rovisi on 
 
 was made tor the transfer of its bills, "oblig atory or of credit'* 
 
 ■ — f ■ 
 
 e xcept by indorsement ; nor was any monopoly created in its 
 favor. In this form the charter of the Bank gave little promi se 
 of its future importanc e. Three years later, however, the nec- 
 essities of the government and the embarrassments of the Bank, 
 which had been obliged to suspend payment in 1696, led to a 
 revision of the charter, in which the outlines of the great struct- 
 ure appear.f The issue of n o tes payable to bearer on de mand 
 wasjiuthorizedj thus laying the found ation for n, trne hanlcm^tp 
 circulation, $ th e monopoly of corporate orga nization was 
 grante d^by provid ing tha t, during the continnnnce o£ the 
 
 * The fiscal character of the measure is very well shown by its title. 
 "An Act for granting to their Majesties several duties upon tonnage of 
 Ships and Vessels, and upon Beer, Ale and other Liquors, for securing 
 certain Recompenses and Advantages in the said Act mentioned, to 
 such Persons as shall voluntarily advance the sum of fifteen hundred 
 thousand Pounds towards carrying on the War against France. 5 Wil- 
 liam and Mary, ck. 20. 
 
 For the political relations of the Bank of England, at and after its es- 
 tablishment, see Macaulafs History, VII, 147. 
 
 t 8 and 9 William III. ch. 20, 
 
 X The notes issued under the act of 1794 appear to have borne inter- 
 est, and being made to order, could have had but a limited circulation 
 No notes of less than £20 were issued until the act of 1759 authorized 
 the issue of notes for £15 and £10. 
 
66 CHAPTERS ON BANKING. 
 
 f'.|if ^rt,prj no other h^nV nr pnrpnrati^^p in tlip. nature of a ban k> 
 s hould be allowed in the kingdom j and o n the othe rJiaflj(L-the 
 capital was d oubled by a fresli, advance fron^ the stor-kholfjer!-; 
 "to the governmen t, and the interest payable by the latter w as 
 reduced to siv per pent. 
 
 From this jjoint the growth of the Bank and the increase of 
 its influence were rapid. The corporation became the chief 
 depository of the goyernment moneys, and the agent of the 
 Treasury in many financial operations. In 1720 J t carried on 
 a mad struggle with the South Seii n^^mpnny for the control 
 of the business of refunding the national debt, and managed, 
 although with difficulty, to save its own credit in the crisis 
 which destroyed its rival. Further loans to the government 
 and additions to the capital of the Bank were made in quick 
 succession. In 1722 its capital stood at nearly nine millions, 
 and it was also able to establish from its profits the surplus 
 fund now called "the Rest," and thus to save its dividends 
 from great fluctuation. In 1782 the capital had risen to more 
 than eleven millions and a half, and in 1816 it had risen to 
 £14,553,000, at which figure it has stood ever since. Of the 
 loan to the goyernment, which had risen in nearly the same 
 proportion as the capital, one-fourth was repaid in 1834, re- 
 ducing it to £11,015,100, which is its present amount. By the 
 year 1750 the government had succeeded in reducing the in- 
 terest on most of its debt to the Bank to three per cent., and 
 it has since used the opportunity afforded by the periodical 
 necessity for a renewal of the charter, to lessen still more the 
 burden of its interest, by requiring from the Bank an annual 
 bonus and other pecuniary concessions, in consideration of the 
 extension of its monopoly. 
 
 2. This monopoly, dating, as has just been said, from the 
 act of 1697, and confirmed by the act of 1709, was further de- 
 fined by the act of 1742* as the right of "exclusive banking," 
 
 ♦ i6 Anne, ch 22 ; 15 George II, ch. 13. 
 
THE BANK OF ENGLAND. 67 
 
 the true intent being, as is declared in the latter year, that 
 *' no other Bank shall be erected, established or allowed by 
 "Parliame nt, and that it shall not be lawful for nny Rndy 
 " Politick or Corporate -whatsoever, erected or to be prpptprlj 
 " or for any other Persons whatsoever, united or to be united , 
 "in Covenants or Partnership^ exceeding the number of six 
 " Persons, in that Part of Great Britain called England, t o 
 " borrow, owe, or take up, any Sum orSuiP s pf Mr>Tif>y on tlii^ir 
 "Rills or "N'/^tes^ pa yable at Demand^ or a^ anjMe ss Time th^ fi 
 "six Months from the borro yyir^o;- tlifrpof^ du rino; the Continu- 
 " ance of such said Privileg-e to the said (rovernor and Co m - 
 "pany. " Qt is clear from this language that Parliament 
 understood by "banking" only the issue of notesj and that the 
 exclusive privilege of the Bank did not prevent the issue of 
 such notes by partnerships having only six partners or less, 
 nor the performance of the other banking functions by com- 
 panies or partnerships of a greater number of partners. Xotes 
 were accordingly issued by the London private banking houses, 
 some of which were of longer standing than the Bank of Eng- 
 land itself, and by country bankers, of whom the number in- 
 creased rapidly in the second half of the eighteenth century.* 
 The London bankers, it is true, began not far from the year 
 1772 to discontinue the issue of notes, finding the check 
 system identical in its advantages and more convenient in prac- 
 tice ; but their right of issue was merely in abeyance, until it 
 was formally taken away in 1844. The country bankers, 
 however, with many vicissitudes of fortune, have continued 
 the issue of notes to this day, subject to the restrictions con- 
 tained in the Bank Charter Act of 1844, presently to be 
 described. 
 
 That the Bank monopoly in its strict interpretation also 
 permitted the exercise of all banking functions, except issu g<^*A 
 
 * McLeod's Dictionary of Political Economy, p. 89. In his Theory 
 and Practice of Banking, I, 211, Mr. McLeod says that the latest Lon- 
 don banker's note preserved is dated 1793. 
 
Q8 CHAPTERS ON BANKING. 
 
 by joint stock banks and companies of more than six persons, 
 had indeed been noticed, but seems to have been little con- 
 sidered, until the discussions of 1826, renewed upon the revi- 
 sion of the charter in 1833. The growing demands of the 
 country for banking facilities and the slowness with which the 
 Bank of England responded to these demands by the estab- 
 lishment of branches, caused much unsound banking by private 
 firms, while a lingering doubt as to the meaning of the mo- 
 nopoly prevented the foundation of joint-stock banks with 
 large capital. Lord Liverpool is reported as declaring in 1826, 
 that the effect of the law "is to permit every description of 
 banking, except that which is solid and secure." The result of 
 this state of things was that, notwithstanding the resistance 
 of the Bank of England, an important exception was made to 
 the monopoly enjoyed by the Bank. An act passed in 18g 6, 
 g^ave to— companies of m ore than six person s the righL of 
 TRsning Tint pa, when established at a greater di sta nce th an 
 sixty-five miles from London j_ and t he act of 1833 for renew - 
 m g the cj i arter, expressly declared tha t comp anies and pa rt- 
 nerships, althoug h composed of more than six persons^ might 
 c^rry on the bu sines s of banking in London^ or within the 
 radiiia_Qi_sixly=five Tnjlpg^rovidpd t.hpy Rhnnlfl ifi«ne no rn-c,"- 
 Jating notpjj* 
 
 This legislation was followed by a great extension of joint- 
 stock banking. The London and Westminster Joint-Stock 
 Bank, now the largest bank of deposit in existence, was es- 
 tablished the next year,t and many banks of issue began 
 business outside the geographical limit. The extension, 
 however, was too rapid to be sound ; the disturbed condition 
 
 * 7 George IV., ch. 46; 3 and /^ William IV., ch. 98. 
 
 t The London and Westminster was for many years under the man- 
 agement of James W. Gilbart, author of several works on banking, 
 and owes its existence largely to his sagacity. For a short account of 
 its early struggles, see Gilbart, Principles and Practice of Banking, 
 462. 
 
THE BANK OF ENGLAND. 69 
 
 of business affairs for a large part of the next decade stim- 
 ulated agitation ; and the general opinion found in a vicious 
 note circulation the cause of the repeated commercial crises. 
 The necessity for a renewal of the charter of the Bank of 
 England in 1844 gave to the government of Sir Robert 
 Peel an opportunity both for revising the orgnnization of the 
 Bank, and for putting an end to the increase of their issues by 
 the joint-stock banks, and the result was the passage of the 
 measure known as the " Bank Charter Act of 1844," or " Peel's 
 Act," in which are embodied the leading provisions by which 
 the bank-note circulation of England and Wales is now regu- 
 lated.* By this act. Parliament undertook to make the notes 
 of the Bank of England secure, and to limit the issue of bank- 
 notes of all other kinds in England and Wale; 
 
 3. To accomplish the first of these objects the act provided 
 for the division of the Bank into two departments, the Issue 
 Departme nt and t he Banking Departmen t. The former was 
 charged exclusively with the issue and redemption of notes ; 
 the latter was restricted to the ordinary business of discount and 
 deposit; and in all dealings with each other the two depart- 
 ments were made as independent as if they belonged to distinct 
 corporations. For all notes issued by it the Issue Departme nt 
 w as required to hold e ither government securities , or coin or 
 bullion ; and the amount of securities which it could hold bein g 
 limited by the o_r i ginal pro vision f.n £14,000,000, it fo llow ed 
 that jor all notes outs t anding in excess of that amount it mus t 
 have an equivalent in the prppinna ^y^^^t^^^it -^s experience 
 
 * 7 and 8 Victoria, ch. 32. For abstracts of this important act, see 
 McCulloch, Commercial Dictionary (edition of 1857), 84: Gilbart, 
 Principles and Practice of Banking, 428; Fenn, Compendium of the 
 Fuftds, (ed. 1883) 77. 
 
 t The act provides that of the cofn and bullion held hy the Issue 
 Department one-fifth may be silver. For the reason for this provision 
 see Hansard's Debates, May 20, 1844, p. 1334- The bank ceased to hold 
 silver for this purpose in September, 1853. 
 
70 CHAPTERS ON BANKING. 
 
 had shown that the ordinary uses of the country never failed 
 to require an amount of notes higher than £14,000,000, this 
 provision insured the presence of coin or bullion for the 
 redemption of all notes whose presentation for payment could 
 be deemed morally possible, and made it unnecessary to fix 
 any limit to the issue. The ordinary business of the Issue 
 Department was then reduced to the automatic function of 
 giving out notes for coin, or coin for notes,* as the public 
 might demand. 
 
 Under this arran g ement the Banking Department carri es on 
 its business of buying securities and using its cr^ <lit. in^thp 
 form of deposits, on the same general principles on whiclL -ajiy 
 bank of deposit and discount. i^ conduct ed. It is bound to 
 meet all its demand liabilities in cash, and for this purpose it 
 habitually maintains a reserve, consisting either of specie or of 
 notes convertible into specie by the Issue Department. It is 
 bound to make its payments in gold, if so required, like other 
 banks; but it may make payment in notes with the consent of 
 the payee; and if, for the convenience of its customers, it 
 finds occasion to pay out a greater amount of notes than it 
 receives in payments made to it, or in deposits, it must pro- 
 cure such notes, as any other bank or any private person must, 
 by taking an equivalent amount of gold to the Issue Depart- 
 ment and procuring notes therefor. Indeed, so completely is 
 the Banking Department deprived of all special facilities or 
 privileges in dealing with the Issue Department, that it has 
 often been said that for all practical purposes the notes might 
 
 * The Issue Department is also made an intermediary between the 
 public and the Mint, being required to buj all gold bullion offered at 
 77s. 9d. per standard ounce. The ounce is coined into 77s. lo^d., the 
 difference being the estimated equivalent for a loss of interest, caused 
 bj the delay incident to the actyal coining at the Mint. Hankey on 
 Bankings 98. 
 
THE BANK OF ENGLAND. 71 
 
 as well be issued by a public office at Westminster as by a 
 department of the Bank itself.* 
 
 The second purpose of Peel's Act is accomplished by a 
 series of provisions which prevent any increase of the note 
 issues of joint-stock and private banks beyond the average at 
 which they stood for the twelve weeks preceding April 27, 
 1844. No bank not then engaged in the issue of notes is al- 
 lowed to issue them, and no bank then existing can carry its issue 
 beyond the limit thus fixed for it. It is provided, however, 
 that if any bank issuing notes at the time when the act was 
 passed, shall close its business, or become bankrupt, or discon- 
 tinue its issues by agreement with the Bank of England or 
 otherwise, then the latter may add to the amount of securities 
 held in its Issue Department, or in other words to the amount 
 of notes for which it holds securities and not coin, to the 
 extent of two-thirds of the amount of joint-stock or private 
 banknotes thus w^ithdrawn from circulation. The act then 
 plainly looks, forward to the complete withdrawal of all 
 other notes than those of the Bank of England, and to the 
 filling of the vacant place by the latter, in a certain measure. 
 No new issues being permitted, every change, however 
 brought about, diminishes the amount of country banknotes 
 left in use. The progress towards extinction is probably 
 slower than was expected. Still, since 1844 the authorized 
 country bank issue has been reduced, by the winding up of 
 
 * In Ricardo's pamphlet, A Plan for a National Bank, Works, 499, 
 it is pi'oposed that the notes should be issued to the Bank bj public com- 
 missioners, holding securities and gold substantially as at present. 
 This pamphlet, left in MS. at Ricardo's death and first published in 
 1824, is the first distinct proposition which we now recollect for the 
 separation of the issue and banking departments. Public discussion 
 of the subject seems to have begun as early as 1837. The suggestion 
 that the separation was suggested by the New York free banking sys- 
 tem is certainly without foundation. Old and Ne-w, VIII. 590. 
 
72 CHAPTERS ON BANKING. 
 
 banks or by the surrender of the right, from £8,648,853 to 
 £5,854,602, and the Bank of England has added, under the 
 authority of the act, to its own issues covered by securities 
 only, until the limit has risen to £15,750,000. But it is plainly 
 not the policy of this legislation that there should ever be a 
 large circulation of banknotes. The smallest note issued by 
 the Bank, indeed the smallest lawfully issued by any authority 
 since 1829, is for £5, a denomination too large to make its way 
 far from cities and large towns, and of but limited use even in 
 those places."* A large circulation of sovereigns, affording a 
 solid basis of specie in the hands of the people, with a small 
 amount of convertible notes for convenient use in some large 
 transactions, is the ideal condition towards which the uniform 
 current of English law has now pointed for nearly fifty years. 
 4. To illustrate more clearly the operation of the act 
 we will take the account of the Bank as it stood September 7, 
 1844, being the account on which the act first took effect. 
 The situation of the Bank at that date was as follows : — 
 
 Liabilities. 
 
 
 Resources. 
 
 
 Capital .... 
 
 £14.6 
 
 Government Debt . . 
 
 £11. 
 
 Rest 
 
 3-6 
 
 *' Securities 
 
 17.6 
 
 Public Deposits . 
 
 3.6 
 
 Other Securities . . . 
 
 7.8 
 
 Other 
 
 8.6 
 
 Coin and Bullion . . 
 
 15.2 
 
 Seven-day bills . 
 
 I. 
 
 
 
 Notes . . . . 
 
 20.2 
 
 
 
 
 • 51.6 
 
 
 51.6 
 
 * The Bank of England issued no notes so sntall as £5 until 1759. See 
 atite p. 65. In 1797, after the suspension of specie payment it was author- 
 ized to issue notes as small as £1, but withdrew them after the return 
 to specie payments. It made a temporary issue of them at the end of 
 1825 and in 1826, but these also were withdrawn before 1829, in confor- 
 mity with an act passed in 1826. The issue of £1 notes by country 
 bankers was forbidden as early as 1777, but was permitted from 1797 to 
 1829. 
 
THE BANK OF ENGLAND. 73 
 
 As no attempt was made by law to protect by preference 
 any special class of liabilities, before the passage of Peel's 
 Act, it follows that the resources set down in this statement* 
 were held equally for notes and deposits ; and it is at least 
 conceivable that there might be so strong a demand for coin 
 by depositors as to exhaust the reserve, while a large issue of 
 notes was still outstanding, in which case payment of the 
 notes must be suspended. Thus in the frightful panic of 
 December, 1825, the coin and bullion of the Bank was reduced 
 to £1,027,000 and suspension was imminent, while notes were 
 still outstanding to the amount of £23,359,840. Such a possi- 
 bility became still more serious after the act of 1833 declared 
 that the notes of the bank, so long as they continued to be re- 
 deemed on presentation, should be a legal tender in England 
 and Wales in all payments except those at the Bank itself. It 
 was, therefore, an important object, in separating the depart- 
 ments, to insure the payment of the notes in any event, by 
 pledging for that purpose a sufficient amount of securities and 
 of specie.f How this result was accomplished is easily seen in 
 
 ♦ In the Bank of England statements, Rest (/. e. the balance of the 
 account) means the net profits on hand; other deposits is synonymous 
 with individual deposits and deposits by banks ; Seven-day bills are 
 past-notes, still issued to a small amount; Government Debt is the loan 
 made by the Bank to the government, in order to secure its charter; 
 and other securities includes loans and advances to customers upon 
 security. 
 
 t Whether in case of the insolvency of the Bank the securities and 
 specie in the issue department would be held for the preferred claim of 
 the notes, or would become a part of the general assets, to be divided 
 among all the creditors, is not explicitly declared by the act and has 
 been doubted. But it has no doubt been the common understanding 
 from the first that the devotion of the resources of the Issue Depart- 
 ment to the payment of its notes is indefeasible. See Parliamentary 
 Documents^ iS^y-^S^ V. 427. 
 
74 CHAPTERS ON BANKING. 
 
 the form of statement of the Bank account, adopted upon the 
 passage of the act, and ever since adhered to : 
 
 Issue Department. 
 
 Notes . . . £20.2 Government debt . . . £11. 
 
 Other government securities 3. 
 Coin and bullion . . . 6.2 
 
 £20.2 £20.2 
 
 Banking Department. 
 
 Capital . . . . 
 
 14.6 
 
 Government securities 
 
 14.6 
 
 Rest 
 
 3-6 
 
 Other securities . . . 
 
 7.8 
 
 Public deposits . 
 
 3-6 
 
 Notes* ...... 
 
 
 Other 
 
 8.6 
 
 Coin and bullion . . . 
 
 9- 
 
 Seven-day bills . 
 
 I. 
 
 
 
 31-4 314 
 
 The thoroughness of the provision here made for the 
 security of the banknote is attested by the fact that since the 
 passage of the act there has never been a moment when the con- 
 vertibility of the note has even been open to doubt. The lowest 
 point to which the notes outstanding have ever been reduced 
 was a little below £17,000,000 in December, 1848, and this left in 
 the vaults of the Issue Department nearly £14,000,000 in specie,, 
 with no demand for it on the part of the public. Indeed, the 
 Bank of England note, under the act of 1844, has become little 
 more than a warrant entitling the holder to so much gold actu- 
 ally lying inthe Bank vaults, and thus the whole question as to 
 
 ♦ The above shows the effect of the separation of accounts taken by 
 itself. For convenience the Banking Department also transferred 8.2 
 millions of coin and bullion to the Issue Department and received 
 notes therefor, so that in the published accounts the banking reserve 
 was 8.2 millions ofnotes and .8 millions of coin, and both the notes 
 and the coin and bullion in the accounts of the Issue Department were 
 raised by 8.2 millions. 
 
THE BANK OF ENGLAND. 75 
 
 the solvency of the paper currency has been removed from the 
 field of debate where it had been agitated for so many years. 
 The Issue Department gains nothing from an increase of the 
 circulation, and can lose nothing by its diminution. The 
 whole problem as to the banknote is reduced to a mere inquiry 
 as to the preference of the public for coin or for a certificate 
 calling for coin. 
 
 It is evident also that to the Banking Department it is of no 
 consequence, except as regards convenience, whether it uses 
 notes or gold in its business. If it prefers gold it has only to 
 send in for redemption such notes as it holds or receives in the 
 course of its business ; if it prefers notes it has only to send in 
 its gold for exchange. Its reserve is in fact composed like 
 that of any other bank, of gold or of notes which are good for 
 gold, or of both; and this reserve it must procure in the first 
 instance, must maintain, and in case of need must replenish, as 
 any other bank must, by properly adjusting its purchases of 
 securities. Its profits would obviously be the same as now if 
 it discontinued the use of the notes altogether, except so far 
 as they might be affected by the mere inconvenience of dealing, 
 already referred to. Indeed, nearly the whole income of the 
 Bank of England, beyond the simple return on the investment 
 of its capital, is derived from the use of its credit in the form 
 of deposits in the Banking Department. So far as concerns 
 the other form of demand liability, the notes, the only profit 
 possible under the act of 1844 is limited to the interest received 
 on the £16,750,000 of securities. This interest is now offset 
 by payments to the government and other charges to such an 
 extent that the question has been raised seriously, whether it 
 would not be for the advantage of the stockholders if the Bank 
 w^ere relieved from all connection with the issue of notes.* 
 
 * The annual profit on the issue of notes is estimated by Mr. Hankey 
 at less than £100,000. Hankey on Banking (3rd ed.) p. 63. 
 
76 CHAPTERS ON BANKING. 
 
 5. Complete as is the separation between the departments 
 in theory, and generally even in fact, it has nevertheless hap- 
 pened several times, under the exceptional conditions of a 
 financial crisis, that the embarrassments of the Banking Depart- 
 ment have affected the issue of notes in a manner not originally 
 contemplated by the framers of the act. On three occasions 
 it has been found necessary to disregard that provision which 
 limits the securities held by the Issue Department, and more 
 than once this extreme measure has been only narrowly es- 
 caped.* In order to understand the real significance of these 
 occurrences, it is necessary to take into consideration the cir- 
 cumstances under which the Bank of England holds its bank- 
 ing reserve. 
 
 The most striking fact in the situation of the Bank of Eng- 
 land is that the Bank is the centre of a great system of joint 
 stock and private banks, whose business and whose liabilities 
 are many times greater than its own, and that to this system 
 of banks are confided the financial affairs of the city which 
 may almost be said to be the Clearing House of the world. It 
 is at all events true that many of the largest trades in the 
 world make their settlement in London, and that especially 
 the world's supply of gold there finds its natural point of dis- 
 tribution. From this it would follow, even if England were 
 not herself a great lender of capital, that many of the opera- 
 tions of lending and paying undertaken by others must be 
 carried on through London. The banks through which a 
 cosmopolitan business of this kind passes must at times 
 find themselves subject to great and sudden demands. The 
 nature of their liabilities is not constant ; it varies with every 
 
 * The limiting clause of the act of 1844 was disregarded, or, as is 
 commonly said, "suspended," October 25, 1847, November 12, 1857, 
 and May 12, 1866. In February, 1861, and in May and September, 
 1864, the condition of things was critical; and in November, 1873, the 
 suspension of the act appeared for some days not improbable. 
 
THE BANK OF ENGLAND. 77 
 
 change in the condition of any foreign country of importance, 
 and is at one time steady, and at another time uncertain. The 
 reserves, therefore, which are at one time adequate for the 
 protection of these liabilities, are at another time too small. 
 These reserves, however, which belong to the individual mem- 
 bers of the great system of banks, are not held in practice by 
 the banks themselves. The London banks, from long habit, 
 keep their chief reserves as private persons might, deposited 
 in the Bank of England, retaining in their own hands only 
 such small amounts as are needed for the demands of the mo- 
 ment, and drawing upon the Bank for more important sums. 
 Of the "other deposits" of the Bank Of England a large part 
 represents the liability of the Bank to its neighbors incurred 
 in this manner."* 
 
 The position of the Bank of England, then, is not simply that 
 of a bank whose deposits are liable to serious fluctuations of a 
 peculiar nature; it is also a position of great responsibility. 
 Whether by its own action or by the force of circumstances 
 the Bank holds in its charge that on which the solvency of the 
 banks in general, the safety of the commercial public, and the 
 credit of England alike depend. Its managershave sometimes 
 proposed to regard it as simply a bank carried on for the profit 
 of its own stockholders ; but so long as it holds the banking 
 deposits it has in its hands the financial safety of the whole 
 community, the real leadership of the money-market, and can- 
 not escape its accountability for the manner in which it 
 performs the duties of its position. As regards the issue of 
 notes its duties are too plain and even mechanical to throw 
 upon it any serious burden of this kind, but as the depository 
 of the other banks it is in effect charged with the duty of pro- 
 viding for all. 
 
 * Dun, British Banking Statistics. 124; Bagehot, Lombard Street^ 
 307. In 1877 the bankers' deposits in the Bank of England were report- 
 ed as varying for £13.3 millions in January to £8 millions in May. 
 Parliamentary Documents, 1878, XL VI. 
 
78 CHAPTERS ON BANKING. 
 
 In this respect, as holding a reserve wherewith to repay the 
 borrowed reserves of others, the Bank of England, as has been 
 said, holds a position remarkably similar to that of the banks 
 of iN'ew York city, with the difference, however, that its re- 
 sponsibility for prudent management is undivided and, there- 
 fore, inevitable. Of course, the position would be one of 
 perfect safety if the Banking Department regularly held cash 
 for all its banking liabilities, — that is, either coin or notes re- 
 deemable in coin by the Issue Department. Its sources of 
 profit being the same, however, as those of other banks, the 
 Banking Department finds its interest as they do, in the con- 
 version of idle cash into* interest-bearing securities, so far as 
 possible, and in holding, therefore, no larger cash reserve than 
 is required for safety. Acting on its reserve by raising or 
 lowering its rate of discount,* it is under a great temptation to 
 defer as long as possible the diminution of its business by the 
 i*aising of its rate, and may thus be led to keep itself weak 
 down to the moment when it needs to be strong. And it may 
 happen, moreover, that the reserve, being suddenly reduced by 
 causes not to be foreseen, cannot be raised by the slow action 
 of the rate of discount in time to escape all the consequences 
 of such a misfortune. In every case of remarkable pressure 
 which has occurred since the separation of the two depart- 
 ments, and in most of those which happened before, the real 
 difficulty presented will be found to have been that of meeting 
 liabilities for deposits with a reserve which had become insuffi- 
 cient, either from continued negligence in the past, or from 
 sudden demands on a great scale.f Of these cases we will take 
 
 ♦ Until 1833 the usury laws had led the Bank to adhere to a unifoiTn 
 rate of discount. The present system of a sliding scale was not fairly 
 adopted before 1839. 
 
 t That the Bank, as an important and usually well informed leader, 
 may lead the market, but cannot control it at pleasure by changes of 
 rate, see Bagehot's Lombard Street^ 114. 
 
THE BANK OF ENGLAND. 79 
 
 for examination, as an illustration of the present topic, the 
 narrow escape of the Bank in the great commercial crisis of N^o- 
 vember, 1857, a case which may fairly be regarded as typical. 
 6. There is no doubt that in England the materials for this 
 crisis had been long in preparation. Rapid commercial expan- 
 sion and a great extension of credit had brought the usual 
 results in the form of unsound business, of speculative prices 
 and of extreme sensitiveness to any threatening influence. If 
 no sudden pressure had occurred all might have passed off in 
 a mere subsidence of activity and in general depression ; but 
 the sudden occurrence of a disastrous revulsion in the United 
 States, bringing ruin to some and carrying apprehension to 
 all, developed a panic which took the whole community by 
 surprise. In August the state of things was reputed to be 
 "not unsatisfactory" ; no fear seems to have been felt until 
 the middle of September, when heavy failures in New York, 
 beginning with that of the Ohio Life Insurance and Trust Com- 
 pany on the 24th of August, became known in London. Still, 
 although gold began to leave England for the continent, and 
 the pressure in New York had caused the cessation of specie 
 exports to England, the directors of the Bank of England 
 seem not to have thought the difficulty serious. It was not 
 until October 8th, when the news of the suspension of pay- 
 ments by the banks of Philadelphia and Baltimore proved that 
 something more than an ordinary embarrassment existed, that 
 they determined to raise their rate of discount, from the point 
 at which it had stood since July 16, to six per cent. At this 
 point the condition of the Bank was disquieting. In the 
 course of three weeks it had materially increased its loans, but 
 was losing seriously from its reserve, so that the proportion of 
 reserve to liabilities had changed much for the worse, at a time 
 when general uneasiness was beginning to make the commer- 
 cial public more than ever anxious to borrow, as a prudent 
 provision for the uncertainties of the immediate future. It 
 
80 CHAPTERS ON BANKING. 
 
 may fairly be said then, we believe, that a singular tardiness 
 of action on the part of the Bank was the immediate cause 
 of much that ensued. 
 
 Without following the steps by which the crisis from this 
 point was converted into panic, we will take the state of things 
 existing in the early days of November, when the Bank rate 
 stood at eight per cent. At this juncture the alarm caused by 
 the failure of several large firms and of one or two provincial 
 banks of some importance had intensified the demand for 
 loans, both upon the Bank of England and the other banks in 
 the city. The increasing disposition of the latter to strengthen 
 their own position, in view of the possible heavy demands to 
 which their great liabilities exposed them, not only threw much 
 of the increased pressure for loans upon the Bank of Englancly 
 but also led to a marked increase in the bankers' balances, 
 that is in the deposits of reserve by other banks. At the 
 same time with this serious change in the amount and charac- 
 ter of the liabilities, the cash resources of the Bank were fall- 
 ing. An active export of specie to the United States had 
 taken a considerable amount from the reserve, the rise of rates 
 on the continent of Europe had made it impossible to draw 
 specie from that quarter, while the apprehension of banks in 
 the interior led to a serious absorption of cash by them. Id 
 short, at a time when it was called upon to extend its use of 
 its own credit, the Bank found itself acted upon by what has 
 been called an internal drain as well as an external one. 
 
 The bank met this dilemma by raising its rate of discount 
 on the 5th to nine per cent., in the hope of repelling the least 
 necessitous borrowers, and by making in the course of the 
 next week an increase of loans to the amount of three millions- 
 and a half. Before the end of the week, however, the state 
 of affairs had become desperate. The general alarm had deep- 
 ened with the rapid succession of failures in the commer- 
 cial world and the suspension of the great Western Bank 
 
THE BANK OF ENGLAND. 81 
 
 of Scotland* ; the moderate increase of loans by the Bank 
 of England had done nothing towards quieting the public; 
 some sales of securities had been effected by the Bank, 
 but the drain upon its reserve as well as the increasing lia- 
 bility for bankers' deposits continued. The rate of discount 
 was raised on the 9th to ten per cent, but without avail. The 
 joint-stock banks and private bankers had finally ceased dis- 
 counting, so that from Monday, the 9th, the whole demand for 
 loans was thrown upon the Bank of England, whose reserve on 
 the 11th had fallen to little more than one-tenth of its "other 
 deposits." On that day came the suspension of the City of 
 Glasgow Bank,t caused by the general alarm created by the 
 failure of the Western Bank; other banks called for assistance ; 
 and a great discounting firm in the city failed on the same day. 
 In four days, beginning with the 9th, the Bank advanced to 
 the public over five millions sterling, but without the effect of 
 subduing the panic or stopping the drain of its reserve, and 
 on the evening of the 12th it found itself with a liability for 
 deposits amounting to thirteen millions, and a reserve of cash 
 in its banking department of only £581,000,$ an amount which 
 the single check of more than one depositor might exhaust. 
 Unless some change beyond all hope should occur, this feeble 
 reserve might be expected to disappear long before the close 
 of the next day. 
 
 In all this there had been nothing resembling a run upon 
 the Issue Department. Gold required for export or for the 
 interior was indeed drawn ultimately from that department, 
 for it was provided by those who were directly or indirectly 
 
 * The ruin of this bank, which in 1857 discounted to the amount of 
 i£2o,ooo,ooo and had deposits of £6,500,000, was precipitated by losses 
 in America, although not strictly caused by them. 
 
 t The final and disastrous failure of this bank in October, 1878, will 
 long be remembered. 
 
 X Of this only £384,000 was in London, the remainder being held by 
 the branches of the Bank. 
 
82 CHAPTERS ON BANKING. 
 
 creditors of the Banking Department, who drew therefore 
 from the banking reserve and thus caused notes held in that 
 reserve to be presented to the Issue Department for redemp- 
 tion. But the gold was not obtained by the presentation of 
 notes hitherto in circulation or held outside of the Bank, for 
 from the 10th of October to the 11th of November, the 
 amount of notes thus in the hands of the public is shown by 
 the account to have been almost without change. What had 
 occurred was that the Banking Department had been caught 
 at the beginning of a severe pressure with an insufficient bank- 
 ing reserve and had been slow in taking measures for escape. 
 The position of the Bank was such as that of the London and 
 Westminster Bank might have been, had its reserve of cash 
 run down while its liability was large, except that the latter 
 had no chain of dependent banks. It was a case of near 
 approach to failure, as simple in its essentials as that of 
 any private banker who is unable to meet his depositors, or any 
 incorporated bank which is not a bank of issue and meets with 
 similar misfortune. 
 
 Under ordinary circumstances a ready means of replenishing 
 the reserve might be found in the sale of securities for cash, 
 and such a course,, it has been suggested, would be taken by 
 the Bank of England in a case like the present. This resource 
 can be used, however, at the height of a crisis, only to a mod- 
 erate extent. Bayei*s, even of the soundest securities, are at 
 such a time few and reluctant, partly because of the universal 
 disposition to keep a firm hold upon cash as the safest pro- 
 vision for an unknown future, and partly because of the pros- 
 pect that low prices may be succeeded by still lower. Moreover 
 it is to be remembered that purchases to any considerable 
 extent would have to be made by those holders of capital who 
 have their funds deposited either with the joint-stock or private 
 banks, or with the Bank of England itself; and in either case 
 the check given in payment for securities would finally be a 
 
THE BANK OF ENGLAND. 83 
 
 demand upon the Bank of England itself by one of its deposi- 
 tors. The sale of securities would then serve to extinguish 
 a part of the liabilities, and to that extent would improve 
 the condition of the Bank, but it would bring in no cash to 
 meet the steady drain upon the reserve.* 
 
 7. The Bank, then, on the 12th of November, reached the end 
 of its tether. Following the precedent of the year 1847, there- 
 fore, the management informed the government of the critical 
 condition in which they stood, and received in return a virtual 
 authority for the issue by the Issue Department of a further 
 amount of notes secured by government securities.! Thus 
 empowered, the Banking Department transferred to the Issue 
 Department securities to the amount of two millions, and in 
 exchange therefor received notes which were placed in the re- 
 serve. The operation was in effect a sale of securities to the 
 Issue Department, in default of other purchasers, and the receipt 
 of payment in notes, redeemable on presentation. The effect 
 on the Issue Department was to increase the absolute amount as 
 well as the proportion of the notes issued by it upon securi- 
 ties instead of coin or bullion, but the notes did not for that 
 reason cease to be redeemable or to be redeemed in the regular 
 course of daily business. Carried to a great extent the opera- 
 tion might plainly have weakened the notes by endangering 
 their convertibility. Restricted as it was, however, it cannot 
 
 * On the possibility of a sale of securities on a large scale during a 
 panic, see Bagehot's Lombard Street, 190. 
 
 t This practical setting aside of an act of Parliament was in the form 
 of an assurance that, if the Bank found it necessary to take the step 
 proposed, the ministry would ask Parliament to indemnify them for 
 any consequences of such illegal action. Besides the publication of 
 the entire correspondence in the Parliamentary documents, which has 
 been made on every occasion of the suspension of the Bank Act, the 
 "government letter" is given by the Economist of November 14, 1857, 
 and all the correspondence for 1866 in the Annual Register of that 
 year, p. 305. 
 
84 CHAPTERS ON BANKING. 
 
 be said to have had any real influence on the strength of the 
 note issue, the credit of which remained unimpaired from the 
 beginning to the end of the crisis. The effect on the Banking 
 Department was to give it an immediate accession of means 
 to the amount of two millions, with the assurance that more 
 could be had if needed, the only discernible limit to the relief 
 being the conceivable inability of the Issue Department to con- 
 tinue the redemption of an indefinitely enlarged issue of notes, 
 — a theoretical limit too distant to have any practical bearing. 
 K The assistance given to the Banking Department did not 
 jconsist so much in the actual addition of cash to its resources, 
 fas in the quieting effect of the measure on the public mind. In 
 every such state of affairs it is a factor of prime consequence 
 that much of the public excitement is pure panic, — an un- 
 reasoning terror, which multiplies danger by destroying pres- 
 ence of mind. For the easy movement of business under 
 the credit system confidence in each other an,d in the future is 
 necessary. The producer or merchant, using borrowed capital, 
 relies upon the sale of goods and upon fresh loans for the 
 means of repaying former advances, and if the current is 
 interrupted, if doubt on the part of buyers prevents sales, or 
 embarrassment of lenders prevents or diminishes loans, the 
 fears of debtors, to whom the failure to obtain the means of 
 making their payments when due means bankruptcy and ruin, 
 become at times ungovernable. No man is any longer sure of 
 anything except his own indebtedness and its near maturity ; 
 there is a universal pressure to borrow, even beyond the real 
 needs of the moment, lest borrowing should presently become 
 impossible ; and there is a universal tightening of tlie grasp 
 on all ready means by such as are so fortunate as to have 
 them. The sauve qui pent of merchants, become desperate 
 as to their means of payment, is as mutually destructive and 
 as fatal to their hopes of escape, as is the crush of a panic- 
 stricken audience, blocking the exit from a burning building. 
 
THE BANK OF ENGLAND. 85 
 
 To a community thus dominated by universal terror, the Bank 
 of England was able to say that its potential reserve now fixed 
 no limit to its ability to extend its loans and meet all conse- 
 quent liabilities. The effect of this assurance in allaying the 
 panic was instantaneous. Men ceased to press for what might 
 not be needed after all, and the other banks in the city, no lon- 
 ger dreading demands from their own depositors, resumed 
 their operations. Confidence had indeed suffered too severe a 
 shock to recover without that process of liquidation which is 
 called a revulsion of business ; but the liquidation, instead of 
 being immediate, could now be gradual enough to enable 
 debtors to collect and realize upon their resources with some 
 deliberation. 
 
 It was not then so much the four millions which the Bank 
 felt safe in adding to its securities in a week after the suspen- 
 sion of the act of 1844, as the moral relief given to the pub- 
 lic, which constituted the real remedy by which the crisis was 
 ended. As for the change in the amount of the note issues 
 of the Bank, we may fairly deny that in itself it had any influ- 
 -ence whatever, so trifling was its amount. The notes issued 
 in excess of the statutory limit, and actually in the hands of 
 the public, stood at their highest point on the 2€th of Novem- 
 ber, when they amounted to £928,000, and by the end of the 
 month the Issue Department had returned to its normal con- 
 dition.* Indeed the difference between the minimum and 
 maximum of the outstanding notes for the month was only 
 £1,300,000. 
 
 8. The conditions on which this singular abandonment of 
 the terms of the Bank charter has been allowed are jealously 
 
 * This opinion that the relief given by the suspension of the limit 
 fixed by the act is a moral relief and is not to be found in the actual 
 issue of notes, is confirmed by the fact that neither in October, 1847, 
 nor in Maj, 1866, was the issue of notes upon securities increased atall, 
 — the mere announcement that such issue would be made, if needed 
 for the reserve, being sufficient to quell the panic. 
 
86 CHAPTERS ON BANKING. 
 
 guarded. The Bank has been required to pay over to the 
 government all profits made by it from any increase of issues 
 above the statutory limit, and both in 1857 and 1866 it was 
 required to maintain its rate of discount at ten per cent., so 
 long as it should use the permission given to it. As this rate 
 would have for its effect to drive away business from the Bank 
 as soon as the rate in the general market should fall, the condi- 
 tion insures as speedy a return to the legal limit of the issue 
 as is practicable. 
 
 Whatever the conditions, however, the repeated resort to 
 this extra-legal measure, and the public confidence that it will 
 always be resorted to in like case, are a remarkable derogation 
 from an elaborate scheme of legislation and the substitution 
 of a roughly improvised expedient, for which it would be difli- 
 cult to find a parallel, even in English administration. And 
 the question has been raised with good reason as to the real 
 value of a legal limit which is to be set aside when it begins to 
 press. Why not, it is said, allow the Issue Department to 
 keep such amount of securities as is found advisable, always 
 holding it to the duty and the test of instant redemption ? 
 No doubt, if the provisions of the act of 1844 were to be 
 defended solely on the grounds on which they were originally 
 urged by Sir Robert Peel, they would have to be condemned. 
 He expected the act to prove a remedy for financial crises; 
 whereas, not only have such crises recurred with the same 
 rough periodicity since the passage of the act as before it, but 
 they are probably sharper in the London market by reason of 
 the very existence of the act which was to cure them. The 
 act has, however, served the purpose of making the legal ten- 
 der paper of England safe and convertible in every contin- 
 gency which is even remotely possible. It has rendered an 
 even greater service, while thus eliminating the question of 
 convertibility, by setting in its true light, as the kernel of 
 all banking problems, the question as to the proper manage- 
 
THE BANK OF ENGLAND. 87 
 
 ment of the banking reserve. 'No such mistakes of manage- 
 ment could now occur as marked the whole course of the history 
 of the Bank in the first half of the century. The Bank was 
 not quick to learn the real risks of its position and its respon- 
 sibilities ; but still it has learned them, and now guards its 
 reserve with vigilance, by appropriate means, and with general 
 success. It takes the alarm sooner than formerly, it sets its 
 customary line of supposed safety higher, and thus in a great 
 catastrophe like that of 1873 it escaped the disaster which 
 befell it, in a condition of affairs not more dangerous, in 
 1857. Whether the provisions of law which have effected 
 these improvements are perfect may be doubted.* Probably an 
 elastic provision like that contained in the German legislation 
 would be easier in operation and equally effectual. But some 
 provision other than that suggested by the temporary policy 
 or interest of the Bank itself the law cannot fail to make, 
 in a system of banking and currency so highly concentrated 
 as that which 'England has long maintained. 
 
 9. From what has been said it will be seen that the Bank 
 of England, although a highly privileged establishment, is not 
 a government institution. It has a partial monopoly of the 
 right of issuing notes, which in theory is destined to become 
 complete; it has the distinction of having its notes the only 
 paper legal tender in the United Kingdom ; it is the chief de- 
 pository of a government which maintains no public Treasury; 
 it is charged with the duty of keeping the registry of the pub- 
 lic debt and of paying the interest thereon; still it is a private 
 corporation of the familiar type, managed by its own officers, 
 in whose selection the government has no share, and whose re- 
 sponsibility is to their own stockholders alone. The Bank 
 has duties thrown upon it, partly by laws and partly by force 
 of circumstances, which make it a highly important member of 
 
 * For Mr. Lowe's bill to authorize the suspension of the limit of 
 1844, under fixed regulations, see Economist for 1873, pp. 741, 748. 
 
88 CHAPTERS ON BANKING. 
 
 the body politic, and yet it is in form a corporation intended 
 to earn dividends for the owners of its stock. For many years 
 after its foundation it was even forbidden by law to lend to 
 the government beyond a certain naiTow limit without the ex- 
 press sanction of Parliament,* and although it lias now for a 
 long time been a trusted agent and has at times compromised 
 its own safety by its financial support of the exchequer, it has 
 never failed in its dealings with the authorities to assert its 
 own essential independence. 
 
 The organization of the Bank is as anomalous as its position. 
 It is governed by twenty-four directors, custom making bank- 
 ers ineligible to that position, and by a Governor and Deputy 
 Governor. The directors are elected annually, and by usage 
 a part of the board is changed every year; but the changes take 
 place among the younger members, so that after some years of 
 possibly intermittent service, the director's tenure of his posi- 
 tion is practically for life. After many years he usually be- 
 comes Deputy Governor for two years, in due rotation, and 
 then Governor for the like term, after which and for the re- 
 mainder of his ofiicial life he is a member af an executive 
 council of directors known as the Committee of Treasury. The 
 director enters upon office, therefore, at an early age and 
 reaches the positions of most active responsibility only after a 
 long training in tht^ Bank itself. Such an organization would 
 hardly be proposed if the case were new, but it is, no doubt^ 
 well fitted, indeed too well fitted, to preserve the traditions of 
 policy and of management which secure the Bank from rapid 
 change.f 
 
 Under a direction thus organized the Bank has now en- 
 joyed a long course of prosperity, seldom interrupted for any 
 length of time. Its imprudent loans to the government early 
 
 * This prohibition continued until the year 1793. 
 
 t On the government of the Bank, see Bagehot, Lombard Streets ch. 
 
THE BANK OF ENGLAND. 89 
 
 in the wars of the French revolution caused its long suspension 
 of specie payment, from February, 1797 to May, 1821, but the 
 Bank reaped a rich harvest from its issue of irredeemable paper.* 
 In the crisis of December, 1825, it was on the point of failure, 
 and in 1838 and 1839 it was forced to obtain material aid from 
 the Bank of France. Still, since 1862, its dividends have 
 never been at a less rate than 8 per cent, for any one year, 
 and have averaged 9f per cent, since 1870. The stock has 
 not been lower in price than 156 per cent, since 1840, has for 
 thirty-five years steadily kept above 200, and for much of the 
 time since the early part of 1883 has stood well above 300. 
 
 * For a statement of the dividends and bonuses received by the stock- 
 holders from 1797 to 1816, together vvrith a searching inquiry into 
 the profits made by the Bank from its relations with the government, 
 see Ricardo's pamphlet, Proposals for an Economical and Secure Cur- 
 rency^ especially the table, Worksy p. 427. 
 
CHAPTER VII. 
 
 THE BANK OF FRANCE. 
 
 1. From 1793 to the latter part of 1796, banking can 
 hardly be said to have existed in France. The government 
 tolerated no issue of paper except its own ; the Caisse d'Es- 
 compte, which appears to have been the only public bank 
 for several years, had been suppressed, and the times were too 
 disturbed for private banking to flourish. With the disappear- 
 ance from circulation of the assignals, and of their successors, 
 the mandats territoriaux, the issue of notes appears to have 
 become again a matter of common right, to be undertaken by 
 anybody who could gain the confidence of the public; and ac- 
 cordingly a bank of issue called the Caisse des Comptes 
 Courants was organized in Paris in the last half of 1796, and 
 began its operations with fair success. Two others of some 
 importance were established by the year 1800, besides some 
 smaller ones of which little is now known ; and in Rouen a bank 
 of discount and issue was in active business as early as 1798. 
 
 The Bank of France was also established in Paris in 1800, 
 under the encouragement of the government and with the 
 First Consul as a stockholder, but upon a footing not essentially 
 different from that of its neighbors. Its capital of 30,000,000 
 francs was the largest yet proposed and the difficulty of raising 
 it led to a fusion with the Caisse des Comptes Courants, but 
 no monopoly was created. One public bureau, holding a large 
 amount of funds, was required to invest them in shares of the 
 new bank, and large deposits were made in it by the govern- 
 
THE BANK OF FRANCE. 91 
 
 ment; still, although favored, the Bank of France stood legally 
 upon an equality with the rest and nothing more.* So far it 
 might be said that the field was open in France for a wide and 
 free diffusion of banking facilities, and that a beginning had 
 been made. 
 
 In 1803, however, Napoleon announced a complete change 
 of policy and the Bank of France was thereupon made the sole 
 bank of issue, its capital was raised to 45,000,000 francs, and 
 its charter extended to 1818,t All other issues of notes were 
 at once withdrawn, one of the rival banks in Paris was absorbed 
 by the rising monopoly, and another assumed for a time the 
 humble place of intermediary between the great bank and its 
 less important customers. No provincial bank could thereafter 
 be established without the authority of the government. Under 
 this arrangement, and notwithstanding the provision that no 
 notes should be issued in Paris for less than 500 francs, the 
 circulation of the Bank rapidly increased with its expanding 
 discounts. It is plain in fact that the strong preference of the 
 public for bank credit in the form of notes left but a narrow 
 field for those banks which could only open deposit accounts, 
 and justified the government in its opinion of the importance 
 then to be attached to the right of emission. And the fact 
 that in the existing state of things, with the existing habits of 
 business, the credit in the form of notes was so strongly pre- 
 ferred, gave to the monopoly of the Bank an influence on the 
 future history of banking in France far beyond that which a 
 
 * Courtois, Histoire des Banques en France^ io8-ii2. The articles 
 of association, containing the statutes of the Bank, adopted by the 
 shareholders at the start, are in the Moniteur, 5 Pluv. VIII., (25 Janu- 
 ary, 1800). 
 
 t The law of 24 Germinal XI. (14 April, 1803) and most of the subse- 
 quent legislation concerning the Bank down to 1857 is given in Wo- 
 lowski, La Question des Banques^ 425. The Statutes of the Bank of 
 1803 are in the Moniteur^ 15 Brumaire, XII. (7 November, 1803). 
 
92 CHAPTERS ON BANKING. 
 
 similar monopoly could have exercised in the same years in 
 England* 
 
 Although the Bank of France still chose its own officers and 
 enjoyed a nominal independence, it was now becoming in- 
 volved in the bold operations of the French Treasury. Com- 
 plications thus arising reduced the cash in the Bank in the 
 latter part of 1805 so far that it was found necessary to limit 
 the redemption of notes to 600,000 francs daily, until such 
 time as specie could be collected in sufficient quantity for com- 
 plete resumption. The result of this crisis, however, was not 
 to separate the Bank from the government, but to connect them 
 still more closely; and in the spring of 1806 a measure was 
 therefore adopted which definitely settled the character of the 
 Bank as a public institution. By the doubling of its capital 
 and the extension of its privileges to 1843,t not only its pre- 
 eminence in the financial world of France, but its absolute im- 
 portance, was assured, so far as it depended on legislation ; and 
 its direction, hitherto confided to a board of regents chosen by 
 the stockholders, was transferred to a governor and two sub- 
 governors, to be nominated by the chief of the State. Under 
 a government not inclined to use power for its own ends, this 
 species of control might for the time become a mere trustee- 
 ship on the part of the State; under an Emperor like Napoleon 
 it made the bank an engine of the State, — a private corporation, 
 indeed, as regards the legal ownership of its property, but a 
 public office as regards the actual employment of the property. 
 Successive governments in France have used this opportunity 
 in diffigrent ways as the case has seemed to require; but such 
 as Napoleon made the Bank in 1806 it has remained ever since, 
 
 * That the government was actively hostile to the other banks of 
 circulation, see Courcelle-Seneuil, Traite dcs Operations de Ba?ique, 
 217. 
 
 t In 1840 the privilege was extended to 1867, and in 1857 was further 
 extended to 1897. 
 
THE BANK OF FRANCE. 93 
 
 an institution subject to the control, and therefore subservient 
 to the needs of the government of the day.* 
 
 2. In the closing years of the Empire the altered constitu- 
 tion of the Bank made itself felt in the great increase of trans- 
 actions with the Treasury, which became more and more 
 compromising and finally far exceeded in amount the advances 
 made to the commercial public. When, therefore, France was 
 invaded by the allies in the winter of 1813-14, a run by the 
 noteholders began, caused, it is probable, chiefly by the fact 
 that the bank appeared to have no independent existence of 
 its own, and it again became necessary for three months to 
 limit the amount of the daily redemption of notes to 500,000 
 francs. Full payment was resumed in April, 1814, but the 
 settlement of the affnirs of the Bank was pushed on both sides, 
 until its loans were reduced to less than 3,000,000 francs, and 
 its circulation had fallen from 95,000,000 francs to 15,700,000.t 
 The enlarged capital of the Bank had been found, even in the 
 latter years of Napoleon's reign, to be larger than could be 
 used with profit, and the Bank had therefore, as early as 1812, 
 made large purchases of its own stock. These were continued 
 in 1816, until the capital was reduced to 67,900 francs, at which 
 point it remained until 1848. Lafitte, who became governor 
 of the Bank under the Restoration, desired to improve the 
 opportunity for general change, by setting the institution free 
 from the control of the government, and bringing it back to 
 
 * The Statutes of the Bank, under the law of April 22, i8o6, were es- 
 tablished by the Emperor, January i6, i8o8. See Wolowski as above, 
 and Moniteiir., January i8, iSoS. In Block's Dictiotinaire de V Admin- 
 istration^ is a detailed account of the organization and operations of 
 the Bank. 
 
 t The ^«9»zVea?' for January 31, 1815, contains a report by Lafitte, then 
 provisional governer of the Bank, giving in some detail the operations 
 for the year 1814. Portables giving the leading figures of the account 
 of the Bank from 1800 to 1879, see Courtois, Histoire, 344, 360. 
 
94 CHAPTERS ON BANKING, 
 
 the safe position of a genuine bank of discount ; but, although 
 his views appear to have been supported by the ministry, no 
 measure for carrying them out could be passed and the impe- 
 rial decree of 1808, strengthened as we shall see by the action 
 of the Republic in 1848, has continued to be the working con- 
 stitution of the Bank, 
 
 The government of the Restoration appears, however, to 
 have adopted the policy of restricting the monopoly of the 
 Bank to the capital. An imperial decree of 1808 had author- 
 ized the Bank to establish branches {comptoirs d^escompte) 
 with the right of issue, subject to governmental approval, 
 plainly with the design of centralizing the banking interests of 
 the empire under the lead of the great Bank in Paris.* Under 
 this decree the establishment of branches in Lyons and Lille 
 was undertaken, although with little success, and one was set 
 in operation at Rouen. The Bourbon government in 1817 and 
 1818 closed these branches and established independent banks 
 at Rouen, Nantes, and Bordeaux, giving to them the right of 
 emission, and thus reversing the policy of Napoleon. The 
 government of July, following a similar course for a time, 
 established independent banks at Lyons, Marseilles, Lille, 
 Havre, Toulouse and Orleans, and also authorized the Bank of 
 France to open branches in fifteen other provincial towns and 
 cities, with the monopoly of issue for every place in which a 
 branch was established. Vigorously pursued, this mixed sys- 
 tem of branches and of independent banks might easily have 
 been made the means of introducing banking facilities through- 
 out the kingdom, to the great advantage of the country, which 
 has never ceased to suffer from the backwardness of its devel- 
 opment in this respect. But no strong policy was adopted ; 
 the government established new banks for a time with reluc- 
 tance and under hard conditions, and after 1838 withheld its 
 
 ♦ Moniteur, 28 May, i8o8. 
 
THE BANK OF FRANCE. 95 
 
 encouragement altogether ; and the Bank of France, opening its 
 branches fitfully and with little regard for public needs, seemed 
 to prefer that affairs should drift. 
 
 The revolution of 1848 found in existence, then, the Bank 
 of France with its fifteen branches, and nine independent 
 banks of issue. No sj^stem of exchanges or of redemption 
 at a common centre had been adopted by the latter ; even the 
 branches of the great Bank redeemed each other's notes only 
 at pleasure ; so that France felt all the inconveniences of hav- 
 ing many issues of notes with but local credit. The suspen- 
 sion of specie payment and the legal tender power given to the 
 notes of the Bank of France, and to those of the independent 
 banks alike,* added to the confusion, and in the spring of 1848 
 the provincial government finally cut the knot, by making all 
 the independent banks, branches of the Bank of France. 
 Their shareholders, in exchange for their old stock received 
 shares in the Bank, and the capital of the latter was thus 
 raised to 91,250,000 francs.t This practically reestablished 
 the monopoly in the form in which it had been projected by 
 Napoleon, and although a vigorous discussion of the advan- 
 tages of freedom in banking has been carried on in France, all 
 subsequent legislation has tended to strengthen the existing 
 system. The government of Napoleon III. urged the exten- 
 sion of its branches by the Bank, and in 1857 even called for 
 the establishment of one in every department within ten years. 
 The Bank was reluctant, but before 1869 sixty-five branches 
 had been authorized. The republican government in 1873 
 again applied the spur, and in 1880 all the required branches 
 had been authorized, although a few were not brought into 
 operation until as late as 1882. 
 
 3. Alter all, however, it would seem that the branches thus 
 established can fill but imperfectly the place of local banks. 
 
 ♦ Moniieur, March i6 and 26, 1848. 
 t Moniteur, April 29, 1848. 
 
96 CHAPTEKS ON BANKING. 
 
 A branch of the Bank of France has a capital allotted to it by 
 the Bank and is then required to carry on its business strictly 
 under the supervision of the latter, and without engaging in 
 any operation with other branches, except by special leave, so 
 that its business, even to the rate of discount, is directed by a 
 policy settled at Paris and not with reference to local wants. 
 It has a board of directors selected by the governor of the 
 Bank, from a list of candidates in some cases made up at Paris 
 and in some by local stockholders, where the latter represent 
 half of the capital allotted to the new branch. The real au- 
 thority, however, is exercised by a manager appointed by the 
 government, frequently a stranger, and assisted by subordi- 
 nates sent from the capital. That under such circumstances, 
 more than one-half of the discounts of commercial paper made 
 by the Bank should be made at its branches, as has been the 
 case ever since 1848, is better evidence of the great demand 
 for banking facilities in the provincial towns, than of the suc- 
 cess of the present organization in answering this demand. 
 That the want of such aid from independent banks as a freer 
 system would have given has been seriously felt by the coun- 
 try, appears clear from the measures to which the French 
 government has found itself driven in two periods of political 
 revolution. It has been remarked that from 1814 for many 
 years the Bank of France was the bank of the bankers rather 
 than of the merchants.* The position of intermediary between 
 the bank and the great class of borrowers on a small scale, 
 should have been held by a class of independent banks ; it ap- 
 pears, in fact, to have been held by private bankers, and during 
 the revulsion which accompanied the revolution of July, 1830, 
 this class of establishments either disappeared or became inac- 
 tive, so that a part of the usual machinery of commerce, never 
 adequate, was for a time absolutely wanting, and it seemed 
 impossible for the normal movement to begin again. The 
 
 * Courtois, Histoire p. 156. 
 
THE BANK OF FRANCE. ' 97 
 
 Chambers therefore voted that loans should be granted by the 
 government for the relief of commerce to the extent of sixty 
 millions, one-half to be lent directly by a public commission, 
 and the other to be used in establishing public discount-offices 
 in Paris, and in the departments. The loans were made at four 
 per cent, and upon security, and the business would seem to 
 have been managed with better success than could have been 
 expected ; for of the thirty millions of direct loans, made to 
 industrial establishments and divided between Paris and the 
 departments with tolerable equality, the amount still unpaid in 
 1870, and then set down as either bad or doubtful, was only 
 about 900,000 francs. The discount office in Paris discounted 
 paper to the amount of 20,629,000 francs, the securities aver- 
 aging a little less than 560 francs each, and of this not quite 
 two per cent, was still unpaid in 1841. The operations of the 
 ten or more discount offices opened in the departments are not 
 carefully reported.* 
 
 After the revolution of 1848, which carried down the great 
 discount houses in Paris, France was again found to be practi- 
 cally destitute of any banking system which could reach the 
 smaller commercial interests, and the government again found 
 itself compelled to establish in haste the machinery needed for 
 such a crisis.! By a combination of private capital with pub- 
 lic, discount offices were established, both in Paris and in the 
 departments, with an organization and powers which made 
 them strongly resemble independent banks, in which the State 
 was a shareholder. In sixty-seven cities of France, including 
 Paris, the operations of tliese discount offices in 1848, 1849, and 
 1850 were greater in amount than those of the Bank of France 
 for the same years. A considerable number of these offices 
 
 * See Courtois, Histoire, 13:8, for a valuable notice of these opera- 
 tions. 
 
 ^ Momteur,M.2irch. 8, 1848. Conrtois, Histoire, 178; Dictionnaire 
 de V Economic Palitique^ art. "Comptoirs d'Escompte." 
 
98 CHAPTERS ON BANKING. 
 
 were allowed to continue their business for several years 
 after the revival of affairs under the Second Empire, and some 
 of them were finally reorganized as banks of discount, repay- 
 ing to the State its share of the original capital.* 
 
 At the present day the state of things is so much changed 
 that it is hardly probable that any crisis of affairs would find 
 such a hiatus in the banking organization as existed in 1830 
 and 1848. The number of independent banks of discount has 
 finally been greatly increased, and this not merely in the great 
 cities, and the Bank of France, as we have seen, now has a 
 branch in every department. Embarrassment might still be 
 caused in some eases by the provision in the statutes of the 
 Bank which requires three signatures upon all paper discounted 
 by it, unless accompanied by certain specified collaterals, this 
 provivsion tending to bring in some intermediary party between 
 the actual borrower and the Bank; but the agencies for bank- 
 ing now exist throughout the country, and it would only re- 
 main to provide for the details of access to them. But for the 
 monopoly of issue given to the Bank, these agencies would 
 probably have existed long ago and would have reached a 
 much higher development than they have as yet. Deprived of 
 the use of that form of credit which is chiefly in demand in 
 the more remote districts, banking capital has spread itself but 
 slowly, and the privileged institution has found little occasion 
 to exert itself to supply the want, until stimulated by peremp- 
 tory legislation. 
 
 That the Bank of France itself now meets the public wants 
 much more freely than formerly, is clear from the great dimi- 
 nution in the average importance of the securities discounted 
 by it. Before 1830 these securities were on the average not 
 far from 2,500 francs each in amount ; from that point they 
 
 * One of these became the present Comptoir d'Escompte of Paris, 
 a bank having a capital of 80,000,000 francs. Courcelle-Seneuil, 
 TraiU, 187. 
 
THE BANK OF FRANCE. 99 
 
 have fallen irregularly, but still with a marked general tendency, 
 until the average now appears to have settled permanently at 
 less than 900 francs.* As this cliange has taken place, not- 
 withstanding an immense increase in the aggregate loans of 
 the Bank and a great rise in the scale of financial operations at 
 Paris as well as at other centres of business, we can only con- 
 clude that the Bank now systematically admits to its portfolio, 
 in larger proportion than formerly, the paper coming to it 
 directly or indirectly from traders of the smaller class. 
 
 4. We have already referred to the suspension of specie 
 payment by the Bank of France in March, 1848. The suspen- 
 sion was authorized, the notes made a legal tender, and the 
 issue of notes of 100 francs permitted, on condition that the 
 issues of the Bank, and of all the independent banks soon after 
 consolidated with it, should not exceed 452,000,000 francs. 
 Political and socialist agitation destroyed all commercial con- 
 fidence and a rapid liquidation went on ; the discounts of the 
 Bank fell off, specie flowed in, and in June specie payment was 
 practically resumed, and the legal tender provision might per- 
 haps have been abrogated with safety, had the bank been left 
 to itself. The Treasury, however, was embarrassed, the Bank 
 saw no other means of using its resources profitably, and ad- 
 vances to a considerable amount were therefore made by it to 
 the government. Partly as a consequence of these relations 
 with the government the limit of the note circulation was raised 
 in December, 1849 to 525,000,000 francs,t and the suspension of 
 specie payment was not ended, and the legal tender power of 
 
 * Some of the paper discounted by the Bank of France in consider- 
 able masses for bankers and others is extraordinarily minute. In 1879. 
 out of 3,902,213 pieces discounted at the Bank in Paris, 7,842 were for 
 10 francs or less, 392,845 for from 11 to 50 francs, and 623,232 from 51 
 to 100 francs. Comptroller's Report, 1880, 16. And see in the same 
 place for comparison a statement as to the size of loans in several parts 
 of the United States. 
 
 t Montteur, 23 December, 1849. 
 
100 CHAPTERS ON BANKING. 
 
 the notes destroyed until June, 1850.* By these means, aided 
 by its own great prudence, the Bank not only passed through 
 the gloomy years from 1848 to 1852 without serious loss, but 
 continued when affairs were at their worst to earn a moderate 
 profit for its stockholders-t 
 
 A great expansion of the affairs of the Bank began in 1852. 
 The <ioup c?'e7a^had at all events removed political uncertainty, 
 commercial confidence was revived, the discounts and advances 
 made by the Bank to individuals rapidly increased, and in 
 1853 touched the highest point ever before known. The 
 Crimean war brought no interruption of this rapid gi*owth. 
 The Bank felt its share of the burdens of that period, in the 
 difficulties caused by general financial embarrassments, which 
 forced it to import for its own safety specie to the amount of 
 800,000,000 francs, at a cost varying from 1^ to \\ per cent.;| 
 but it found its compensation in dividends rising in 1856 to 
 27 per cent. In view of the general expansion it is not sur- 
 prising that in 1857 the government determined to double the 
 capital of the Bank, raising it to 182,500,000 francs at which 
 it now stands. It is characteristic, however, of the shifty 
 financial policy of the government of that period, that this 
 increase of capital was used as an opportunity for placing a 
 government loan to which the market happened to be unfav- 
 orable. The Bank upon raising its 91,250,000 francs of fresh 
 capital was required to invest 100,000,000 in new three per 
 
 ♦ Moniteur^ 15 August, 1850. 
 
 t At the end of 1848 the Bank of France held overdue paper amount- 
 ing to 85,000,000 francs. Of this, 76,000,000 were paid in 1849, ^"^ 
 subsequent payments soon reduced the balance so that, it is conjectured, 
 the real loss of the Bank from bad debts during the revolution was not 
 over 500,000 francs, although it charged at the time 4,500,000 to profit 
 and loss. Its dividends during 1848, the worst year, were 75 francs on 
 the share of 1000. Courtois, Histoire^ 186, note. 
 
 \ Courtois, Htstoire, 222; Tooke, History of Prices, VI. 85. 
 
THE BANK OF FRANCE. 101 
 
 cents., issued for the reduction of the floating debt, which had 
 risen to an awkward amount.* The charter was at the same 
 time extended to 1897, authority was given to issue notes as 
 small as 50 francs, and the government was empowered after 
 1867 to require the opening of a branch of the Bank in every 
 department. But perhaps the most important of the new fea- 
 tures of the charter was the provision made as to the rate of 
 discount. For the greater part of its existence the Bank had 
 striven to maintain the uniform rate of four per cent. The 
 statutes of 1808 had fixed the maximum length of the paper to 
 be admitted to discount at three months, but in periods of 
 difficulty the Bank had sometimes lowered this limit to sev- 
 enty-five, sixty and even forty-five days. In 1854, however, it 
 definitely adopted the policy of a variable rate of discount, 
 but then found itself hampered by a law passed in 1807, 
 which made six per cent, the limit of legally chargeable inter- 
 est. The charter of 1857 freed the Bank by special exemption 
 from this restriction, allowing it to charge whatever rate it 
 may find advisable, with the provision, however, that the 
 profits earned by charging a rate above six per cent, shall not 
 be divided but carried to a permanent surplus.f 
 
 5. The years from 1857 to 1870, although marked by great 
 changes, both in the political world and the financial, hardly 
 
 * Moniteur^ ii June, 1857. Under this law a share of new stock was 
 given to the holder of a share of old, upon payment of 1 100 francs, the 
 par being 1000, and this payment, collected upon 91,250 shares, supplied 
 the 100,000,000 francs required by the government. The stockholders, 
 whose shares were worth 4500 francs June i, had the satisfaction of see- 
 ing their stock after doubling quoted at 3050 on June 29. The three 
 per cents, received by the Bank are not to be sold, and now^ appear 
 among its resources as "Rentes immobilis^es (Lov de 9 Juin, 1857) 
 100,000,000 fr." 
 
 t This surplus, which is set down in the published accounts as "Bdn6- 
 fices en addition au capital (art. 7, Loi de 9 Juin, 1857)" has stood at 
 8^002,314 francs since 1874. 
 
102 CHAPTERS ON BANKING. 
 
 witnessed any event in the history of the Bank of France, 
 which needs to be noticed in this sketch,* But with the open- 
 ing of the Franco-German war in July, 1870, the Bank entered 
 upon the most remarkable period of its existence, — that in 
 which its vicissitudes were most startling and critical, its ser- 
 vices to the country most distinguished, and the success of its 
 management most brilliant. 
 
 Three weeks before the breaking out of hostilities the Bank 
 of France had in its vaults an amount of cash nearly equal to 
 its notes, and amounting to nearly two-thirds of all its cash 
 liabilitie8,t The approach of war caused a heavy pressure upon 
 the Bank for loans, and both notes and specie were drawn 
 from it in large amounts, and began to find their way, either 
 
 * Perhaps an exception should be made of the unexpected claim set 
 up by the Bank of Savoy in 1864, which for a moment seemed to 
 threaten the monopoly of the Bank of France. The Bank of Savoy 
 had by its old statutes tlie right to issue notes and to establish branches ; 
 the treaty of annexation saved all existing rights of corporations in the 
 annexed territory; and on this reasoning it was proposed to raise the 
 capital of the Bank of Savoy from 4,000,000 francs to 40,000,000, to 
 open branches and issue notes. The project was favored by many 
 opponents of the monopoly of note issue, and was formidable enough 
 to lead the Bank of France to make the payment of 4,000,000 francs for 
 the surrender of the asserted rights. For notices of this episode see 
 Courtois, Histotre^ 245 ; Economist^ January 16, 1864^ 
 
 t The chief movements in the account of the Bank of France, caused 
 by the war, can be seen in the following table, given in millions and 
 tenths : — 
 
 Notes. Deposits. Cash. DiscH Paper. Public Loans. 
 
 1870 June 23 1374. 431.9 1318.5 558.1 
 
 Aug. II 1583.6 582.2 1028.6 1181.7 
 
 Sept. 8 1745. 441.5 808. 1428.3 
 
 i87ijune29 2213. 524.1 549.8 741.9 1403. 
 
 June 23 was the day when the cash was at its maximum for 1870; 
 August II was the day before the suspension; no account was published 
 from September 8, 1870 to June 29, 1871. 
 
THE BANK OF FRANCE. 103 
 
 into private hoards or into foreign hands. Neither the govern- 
 ment nor the public could see with patience this dispersion of 
 a stock of specie which, it was felt, might be an important 
 resource in the desperate struggle with Germany, and sus- 
 pension of payment as a precautionary step thus became 
 probable early in August. Shortly afterward the government 
 resolved upon the adoption of a measure suspending the col- 
 lection of commercial obligations, and this made the suspen- 
 sion of the Bank a necessity. On the 12th of August, then, 
 four weeks from the beginning of the war, a law was passed, 
 as a government measure and with but one dissenting vote 
 in each house,* authorizing the Bank to refuse payment 
 of its notes in specie, and for the second time in its history 
 making its notes a legal tender for debts public and pri- 
 vate. The issue was at the same time limited to 1,800,- 
 000,000 francs, and authority was given for the emission of 
 notes as small as 25 francs each. On the next day, August 
 13th, was passed the first of the measures which postponed all 
 commercial debts for one month and then, by successive ex- 
 tensions of time, until July, 1871, without other burden to the 
 debtor than liability for interest* until the final payment. f 
 And finally, on the 14th of August, the limit of issues by 
 the Bank was raised to 2,400,000,000 francs, on the ground 
 that for the Bank to continue its discounts it must have a 
 wider margin than was allowed by the law of the 12th. This 
 completed the series of measures under the authority of which 
 the Bank was administered during the war. 
 
 * In the Senate the solitary negative vote was given by Michel 
 Chevalier. For the laws noticed in the text see Journal Officiel, Aug. 
 13, 14, 15, 1870. 
 
 t Under the operation of this law the Bank of France held suspended 
 paper to the amount of nearly 870,000,000 francs. Of this more than 
 two-thirds was paid in before the expiration of the legal term of indul- 
 gence; and of principal and interest less than one per cervt. was still 
 unpaid at the end of 1874. Courtois, Htstoire, 263. 
 
104 CHAPITERS ON BANKING. 
 
 The State had at the outbreak of the war obtained a small 
 advance from the Bank, and called for others soon after the 
 suspension. During the siege the branch of the Bank at 
 Tours became the agency by which considerable advances were 
 made to the provisional government at Tours, while the Bank 
 itself was in like manner aiding the governmen-t in Paris. 
 When the war with the Commune succeeded that with Ger- 
 many, these advances had risen in all to 761,000,000 francs, 
 besides a loan of 210,000,000 francs to the city of Paris. The 
 Bank resisted with great difficulty the efforts of the Commune 
 to use its resources in defence of the city, and for several 
 weeks escape from open pillage, or from demands not to be 
 distinguished from it, seemed hopeless. The prudence of the 
 managers, the devotion of their subordinates, and the steady 
 support of one or two members of the revolutionary body 
 itself, carried the Bank safely through the most dangerous 
 episode of its history, and enabled it once more to give its aid 
 freely to the government.* In July, 1871, the loans thus made 
 to the State amounted in all to 1,425,000,000 francs, and the 
 government now happily found itself in such a position that 
 it could cease drawing frorar this source.f 
 
 6. The brief statement given on p. 102 shows distinctly 
 enough the change which a year of war had wrought in the 
 affairs of the Bank. An enormous loan had been made to the 
 State simultaneously with an increase of discounts for individ- 
 uals, and this had been effected partly by the sacrifice of cash 
 and partly by an increase of notes, the volume of which now 
 stood nearly 800,000,000 francs above the highest point ever 
 
 * For minute details of the history of the Bank under the Commune, 
 and of the means by which it was saved, see Du Camp,Zes Convulsions 
 de Parts, III. ch. ii. 
 
 t In the Bulletin de Statistique et de Legislation Comparde for April 
 and May, i88o, is a careful report upon these loans and upon their sub- 
 sequent payment. 
 
THE BANK OF FEANCE. 105 
 
 before reached. This increase of notes had been managed 
 with great caution, so that while it necessarily expelled from 
 circulation a considerable amount of specie, it had nevertheless 
 brought about but a slight depreciation of the paper;* and 
 with the repayment by the government of the advances made 
 to it by the Bank, the restoration of specie payment promised 
 to be easy. The government, however, was for the time in no 
 condition to undertake the payment of a domestic debt. It 
 had before it the problem of paying to Germany, in the next 
 two or three years, the great indemnity of five thousand mil- 
 lions of francs, to which it was bound by the treaty of peace ; 
 it had yet to learn how far its credit would enable it to make 
 this payment by borrowing in the general market, and the 
 most that could be hoped was that it should not have to call 
 upon the Bank for further aid. The latter could not expect, 
 therefore, for several years to come, to extricate the resources 
 which it had lent to the State. 
 
 But while the Bank thus saw its resources unavailable for a 
 movement towards specie payments, it was also called upon to 
 increase at once the assistance given by it to commerce. It 
 was of paramount necessity that productive industry should 
 resume its activity without delay, for it was after all in the 
 production of wealth and its proper use that France must find 
 the means of escape from the economic misery caused by the 
 war, and it was the prosperity and thrift of individuals that 
 must support the credit on which the government now relied 
 
 * During the war quotations were made of exchange on London and 
 occasionally of gold, indicating in one extraordinary case a premium 
 of four per cent, on specie. After restoration of order gold ceased to be 
 quoted, and the price of exchange on London fell to a level of about 
 I per cent, premium. See the Economist for quotations both in Lon- 
 don and in Paris. Leon Say's Rapport sur le Payement de V Indem- 
 nity de la Guerre gives a chart showing the rates of exchange in 
 Paris on London from June, 1871, to September, 1873. 
 
106 CHAPTERS ON BANKING. 
 
 in making its settlement with Germany. The Bank therefore 
 took the bold course of rapidly enlarging its discounts and ad- 
 vances to individuals; and to make this possible, in a country 
 where deposit accounts and checks are but little used, it was 
 authorized in December, 1871, to increase its issue of notes to 
 not more than 2,800,000,000 francs,* and in July, 1872, the 
 limit was further extended to 3,200,000,000.t Such an in- 
 crease of paper with a forced circulation required, as the con- 
 dition of possible safety from serious depreciation, a further ex-* 
 pulsion of specie from use. The smallest notes thus far issued 
 by the Bank were notes for 20 francs authorized by a law of 
 December, 1870; but the law of December, 1871, raising the 
 limit of the total issue of notes, now authorized the issue of 
 notes as low as 5 francs, and thus facilitated the introduction 
 of the bank paper into all the channels of circulation, small as 
 well as great. 
 
 With these preparations the great scheme for the simulta- 
 neous payment of Germany and revival of France was carried 
 /through. The government borrowed in all the markets of 
 Europe, including that of Germany, but called upon the Bank 
 of France for nothing more than two or three temporary ad- 
 vances, not large in amount and soon repaid. The Bank 
 doubled its discounts of commercial paper for the next three 
 years, and for this purpose increased the note circulation until 
 at its maximum at the end of October, 1873, it nearly reached 
 3,072,000,000 francs. From the data subsequently published 
 by the Bank it appears that the whole of the increase was 
 made by the issue of notes of not above 100 francs, and the 
 
 * Journal Officiel, 1871, p. 5375. 
 
 t Journal Officiel^ ^872, p. 4970. The provision is contained in 
 Article 4 of the law for a national loan of three milliards, and declares 
 that "le chiifre des Amissions des billets .... est ^levdprovisoirement k 
 trois milliards deux cents millions." 
 
THE BANK OF FRANCE. 107 
 
 greater part of it by means of notes of 50 francs and less * The 
 risks of the operation were amply compensated by its gains. 
 Although the government, in view of the valuable privilege 
 enjoyed by the Bank of making a great issue of notes without 
 the obligation of payment, reduced to one per cent, the in- 
 terest on its debt to the Bank, the profits from the immense 
 increase of discounts were heavy. A dividend of 20 per cent, 
 for the second half of 1871, 32 per cent, for 1872, and 35 per 
 cent, for 1873 amply justified the conduct of the management 
 in the eyes of stockholders, and once more proved that in 
 periods of suspension no ti*ade flourishes like that of the dealers 
 in credit. 
 
 7. The government was able in 1872 to begin its payment 
 to the Bank at the rate of 200,000,000 francs per year; the 
 payment of the indemnity to Germany was completed in Au- 
 gust, 1873, and in 1874 the Bank began its preparations for 
 the resumption of specie payments. France having a less ex- 
 panded state of credit than most other commercial countries 
 had felt the revulsion of 1873 but little, and it was, therefore, 
 possible to make a large reduction in the discounts of the 
 Bank, and thus to carry on the double operation of accumulat- 
 ing specie and withdrawing notes. The withdrawal of small 
 notes of 25 francs and less was carried on even faster than the 
 general reduction of the circulation, in order to force the in- 
 troduction of specie into general use and thus to insure the 
 presence of a larger mass of metal in the hands of the public 
 before the Bank should begin its payments. The specie in the 
 Bank reached its highest point in June, 1877, when it stood at 
 2,281,000,000 francs, showing an accumulation by the Bank 
 alone of over 1,500,000,000 francs in three years and a half. 
 Of this specie, not far from sixty per cent, was gold, it being 
 the policy of the Bank to hold much gold, partly because it 
 alone could answer demands for use in foreign trade, and 
 
 * Economist for 1872, p. 326 ; the same for 1874, P- 320. 
 
108 CHAPTERS ON BANKING. 
 
 partly because of the uncertainty which obscured the futui'e 
 value of silver.* 
 
 The precise period at which payments should be resumed 
 was determined by the law of August 3, 1875, in which it was 
 provided that when the advances made by the Bank to the 
 State should have been reduced to 300,000,000 francs, payment 
 of the notes in specie should begin.f By the end of 1876 only 
 38,000,000 francs remained unpaid and it would not have been 
 difficult at any time in 1877 to complete the operation. The 
 year was permitted to pass, however, without taking the final 
 step, the Bank in the meantime dealing upon the specie basis- 
 A payment of 10,000,000 francs, which lowered the government 
 debt to the required point, was at last mside pro forma Decem- 
 ber 31, 1877,$ and specie payment was resumed with the 
 opening of the new year, without shock and without much 
 thought on the part of the public. By the terms of the law 
 the notes continued to be a legal tender for all debts, as they 
 are to-day ; their forced circulation by non-payment was at an 
 end. It is also to be observed that as the law for resumption 
 did not disturb the previous legislation which had fixed the 
 limit of note circulation for the Bank at 3,200,000,000 francs, 
 
 * Ithas often been said that at this time the great nations were "grasp- 
 ing for gold," in a momentary panic caused by the introduction of the 
 gold standard in Germany. See e. g. Sherman, Speeches, p. 528. A 
 little examination will show, however, that the great demands for gold 
 by Germany, France, and the United States came iai succession and 
 not simultaneously and were met witbout disturbance. While the 
 French accumulation was going on in the years 1874 to 1877 inclusive, 
 that sensitive barometer, the Bank of England rate, averaged 3^ per 
 cent. During the four years it rose but once as high as 6, and then 
 for only 38 days, and was above 4 for only 124 days altogether. These 
 low rates are not observed when nations are "grasping" for specie. 
 
 t See Article 28 of the Budget for 1876, in Journal Officiel, iSy^i P- 
 6866. 
 
 X The final instalment of the debt was paid March 14, 1879. 
 
THE BANK OF FRANCE. 109 
 
 the Bank of France for the first time in its history has the 
 function, when paying in specie, of issuing a legal tender 
 paper of limited quantity. 
 
 At the moment of resumption the notes of the Bank remain- 
 ing in circulation amounted to nearly 2,462,000,000, of francs. 
 This was a heavy reduction from the maximum reached in 
 1873, but it was still nearly double the usual circulation for 
 the years before the war. The free choice between specie and 
 paper after resumption led to but little diminution of the issues, 
 so that as the result France may be said to have adopted a 
 permanently larger paper circulation. In part this is no doubt 
 due to a considerable expansion of affairs, calling for an ampler 
 circulating medium ; but in still greater part it is no doubt the 
 effect of a change of habit generally produced by any protract- 
 ed use of forced paper, — a change which makes it highly im- 
 probable that any nation after such an experience will 
 easily return to the use of paper and coin in the same pro- 
 portions which it once found satisfactory. 
 
CHAPTER VIII. 
 
 THE REICHSBANK OF GERMANY. 
 
 1. When the present German empire was established in 
 1871, the reforni of the legislation upon currency and banking 
 was felt to be a pressing necessity. In coinage some German 
 States had ranged themselves under the thaler system and 
 others under the gulden, and in all there was a mass of old 
 coin in <5irculation of obsolete denominations. The silver 
 standard had been adhered to by all. All the members of the 
 old confederation, except the cities Hamburg, Lubec, and 
 Bremen, and the principality of Lippe, were issuing paper cur- 
 rency for the supply of their own wants. And finally thirty- 
 three banks of issue, with capitals ranging from 1,200,000 
 marks to 35,000,000, had been established, each upon such 
 basis as the State or city establishing it found good, some hold- 
 ing perpetual charters, some incorporated for terms of years, 
 and some holding only revocable rights. These banks differed 
 materially as to the limit of their authorized issues, and were 
 under different obligations as to the holding of reserve. To 
 reduce this mass of confusion to order and to establish unity 
 of system in currency and banking, was a problem which con- 
 stantly taxed the German mind for the first four or five years 
 of the new empire. 
 
 The law of December, 1871, provided for unity of coinage 
 and prepared the way for the subsequent introduction of the 
 
THE REICHSBANK OF GERMANY. Ill 
 
 gold standard by the act of July, 1873 * Another law of 
 April, 1874, provided for the extinction of the paper currency 
 issued by the several German States, by creating a currency of 
 imperial treasury notes (reichs-kassenscheine), convertible into 
 gold upon demand at the Treasury, but not a legal tender, and 
 authorizing the distribution of it by loan to the several States, 
 to be used in taking up their local issues of notes.f Of the 
 imperial paper 120,000,000 marks were distributed to the states 
 in the ratio of population, and 65,000,000 more in amounts as 
 required, and by this means twenty local issues, amounting in 
 the aggregate to rather more than 180,000,000 marks, were ex- 
 tinguished. And finally by a law of March, 1875, the banks 
 of issue were brought under a common system and the 
 reform may be said to have been completed. $ 
 
 2. The new system required the establishment of a central 
 bank, to be under the immediate supervision and direction of 
 the imperial government, and the subjection of all other banks 
 of issue to a uniform set of regulations and also to imperial 
 supervision. To secure the first of these two objects, advan- 
 
 * The coinage laws of 1871 and 1873 are to be found, with copious 
 annotations by Soetbeer, in Bezold's Gesetzgebung des Deutscken 
 Retchs, Th. II. Band i., this part of the volume being also issued sepa- 
 rately as Soetbeer's Deutsche MUnz Verfassung. See pages 35, 67. 
 For a translation see Laughlin, Bimetallism in the United States, 
 237- 
 
 The German law of July, 1873, is often spoken of as a law "demone- 
 tizing" silver. In fact it provided for coining gold money and substi- 
 tuting this for silver, but it did not demonetize the silver remaining in 
 circulation, nor has this step ever been taken by Germany, although 
 the government has been empowered to take it when the mass of silver 
 afloat shall have been sufficiently reduced. 
 
 t See Bezold, as above, p. 181. 
 
 X The bank law 1875 is to of be found with Soetbeer's annotations in 
 Bezold, Gesetzgebung, Th. II. Band i., 255. 
 
 A translation is to be found in the Statistical yournal ior 1875, 267. 
 
112 CHAPTERS ON BANKING. 
 
 tage was taken of the peculiar position of the Bank of Prussia, 
 Originally estJiblished as a government bank, with a capital of 
 2,000,000 thalers supplied by the State, this bank had been 
 enlarged by the admission of private stockholders until its 
 capital had risen to 20,000,000 thalers, but without the sur- 
 render by the State of its power of control or of its dispropor- 
 tionate share of the profits. As a part of the new system the 
 Bank of Prussia now became the Bank of the Empire (Reichs- 
 bank); the capital and share of surplus belonging to the 
 Prussian government were paid over, together with 15,000,000 
 marks for the good will of the establishment ; and the capital 
 was then raised by subscription to 120,000,000 marks, the 
 whole of which was thus placed in private hands. The impe- 
 rial government reserved to itself a direct power of control 
 through the imperial chancellor and also by the appointment 
 of the board of direction, giving to the shareholders the elec- 
 tion of a committee charged with certain duties of consultation. 
 The Bank was required to receive and make payments, and to 
 conduct other financial operations for the Imperial Treasury^ 
 without compensation, and also to manage free of co»t the re- 
 ceipts and payments of the several States of the Empire. It 
 was thus made in everything except its ownership a national 
 bank on a large scale, although not the largest, and had ita 
 privileges secured to it for fifty years. 
 
 Certain general regulations adapted the thirty-two existing 
 independent* banks of issue to the new system. The exclu- 
 sive right of issuing banknotes was then given to them and to 
 the Reichsbank, with a provision for transferring to the latter 
 any right of issue which might be surrendered by any of the 
 others. No limit was fixed fo-r the aggregate circulation, but 
 it was required that for all notes issued in excess oi 3^5,000,000 
 
 ♦ The banks which are here called "independent" are often desig- 
 nated as "private banks," to distinguish them from the Reichsbank. 
 But as they are incorporated, the term "independent" appears less 
 likely to be equivocal for American readers. 
 
THE REICHSBANK OF GERMANY. 113 
 
 marks cash must be held, under the penalty of a tax at the 
 rate of five per cent, per annum for all notes thus issued with- 
 out such protection, the banks being allowed* to count as 
 cash for this purpose German coin, gold bullion and foreign 
 gold, imperial treasury notes, and notes of other banks. 
 It was also required that the cash held, exclusive of the 
 notes of other banks, should in any case be equal to at 
 least one-third of the total circulation, and that the other two- 
 thirds should be protected by discounted paper, having not 
 more than three months to run. The amount of the total 
 issue to be protected by discounted paper instead of cash, or 
 as it is usually called the "uncovered" issue, was also appor- 
 tioned among the banks, having due regard to the amount of 
 the notes previously issued by each, and to their probable 
 needs in the future,* so that the provisions as to the cash to be 
 held, which we have stated as made for the banks in the agrrre- 
 gate, are in fact applied to each bank by itself. Under this 
 arrangement the limit of uncovered issue allowed to the 
 Reichsbank was originally 250,000,000 out of the 385,000,000 
 marks. Fifteen other banks, however, declined to issue notes 
 under the conditions required by the law, and the transfer of 
 their rights of issue to the R3ichsbank therefore raised its 
 uncovered limit to 273,875,000 marks, as it now stands ; the 
 remaining seventeen banks also issuing notes have then a limit 
 af uncovered issues amounting in all to 111,125,000 marks. f 
 
 * As to this apportionment see Soetbeer's Bank Verfassung, in 
 Bezold, as above, 273. 
 
 t The account of the Reichsbank for December 31, 1883, shows that 
 the outstanding notes then amounted to 842.5 million marks, and the 
 cash, to 592 millions. As the uncovered limit was 273.9 millions, it fol- 
 lows that the Bank could still increase its issue by 23.4 million marks, 
 without being required to add to its cash. In other words the Bank 
 had a disposable margin of 23.4 million marks which could be paid out 
 either in gold or in notes calling for gold. This margin, it will be seen, 
 bears a close analogy to the banking reserve of the Bank of England. 
 
114 CHAPTERS ON BANKING. 
 
 The notes issued under this system rest upon a solid basis of 
 specie, but in addition, the presence of an ample specie circu- 
 lation in the country is secured by a provision prohibiting the 
 issue of any notes of lower denomination than 100 marks. 
 
 3. In this system are easily traceable the general outlines 
 of the English Bank Charter Act of 1844. The suggested 
 absorption of the entire right of issue by the Reichsbank, em- 
 phasized as it is by a provision that the government upon 
 giving due notice may withdraw the right from any bank in 
 1891, or at the end of any decade thei-eafter, the fixed limit 
 of notes to be issued without bullion, and the automatic ar- 
 rangement for the issue of notes against cash above that limit, 
 all are closely copied from the English model. The require- 
 ment that the cash shall amount in any case to one-third of 
 the notes is new, and so is the virtual permission to increase 
 the uncovered issue beyond the limit, subject to payment of 
 the tax of five per cent., the last being intended to give a 
 certain degree of elasticity at that point where, under the Eng- 
 lish law, the rigidity of the line drawn by Peel's Act has some- 
 times presented a frightful dilemma. This elastic limit has 
 several times taken effect in the case of the smaller banks, but 
 never in the case of the Reichsbank until in December, 1881, 
 and again in September and October, 1882, and in December, 
 1884, when the issues of the Bank were to a small amount 
 beyond the fixed limit. On these occasions it seems certain that 
 the operation of the elastic provision was successful in saving 
 the German community from what would have a severe spasm 
 of contraction under the usual administration of Peel's Act.* 
 
 The notes issued upon this plan are not a legal tender, nor 
 are they received at public oflSces except by virtue of regula- 
 tions which the government reserves the right of abandoning. 
 Their credit is maintained by their strict convertibility and by 
 the law which makes them everywhere current in payments to 
 
 ♦ See the Economist, 1882, pp. 41, 1331. 
 
THE REICHSBANK OF GERMANY. 115 
 
 any bank of issue. Every bank is required to pay its own 
 notes on presentation; the Reichsbank also, under ordinary 
 cir<3umstances, pays its notes at its branches; and every inde- 
 pendent bank is required to redeem its notes at an agency in 
 Berlin or in Frankfort, as the government may determine, in 
 addition to redeeming at its own counter. Every bank of 
 issue is also required to receive at par in payment the notes 
 of every other bank, with the provision that all notes thus re- 
 ceived, except those of the Reichsbank, must be either presented 
 for redemption, or used in payments made to the issuing bank 
 or in the city where it is established. This provision, which 
 imposes a safe restraint upon the smaller banks, is also signifi- 
 cant from its tendency to allow the Reichsbank alone to obtain 
 anything resembling a national circulation . 
 
 4. The leading position of the Reichsbank is indeed well 
 assured by its 220 branches of different grades, which carry on 
 its operations into every part of the Empire, and now far out- 
 number all the independent banks of issue and their branches. 
 Of the total capital and surplus of the banks of issue the 
 Reichsbank has not less than forty-five per cent.; or if we in- 
 clude all the banks which issued notes down to 1875, it has 
 thirty per cent, of the whole. It issues, however, nearly four- 
 fifths of the entire note circulation, and in a country where the 
 use of deposit accounts is so little developed as in Germany, 
 this fact alone shows that it absorbs a large part of the bank- 
 ing business of the country. Of such use of deposit accounts 
 as exists, however, the Reichsbank has also a large share, in 
 acquiring which its great net work of branches is no doubt of 
 great service. It appears, indeed, to have suffered a large part 
 of its business of holding deposits payable after notice to lapse, 
 and to have developed actively its accounts current, three- 
 fourths of which are kept by its branches. Few of the inde- 
 pendent banks have effected any such complete transformation. 
 The Frankfort Bank has even diminished its accounts current 
 
116 CHAPTERS ON BANKING. 
 
 heavily within a few years, while the Bremen Bank holds 
 nearly all of its deposits subject to notice. After all, the note 
 circulation of the German banks of issue, including the Reichs- 
 bank, is five times as important as their accounts current. 
 
 The chief part of the investments made by the German 
 banks, aside from their heavy reserve of specie, is in the form 
 of discounts, which amount on the average to between two 
 and three times their capital and surplus. They are authorized 
 to lend upon the deposit of securities, merchandise and bullion, 
 and all of these forms of loan appear to be in practice.* The 
 total amount, however, of the loans upon pledge {Lombard- 
 geschaeft) is not so great as one-fifth of the loans by discount, 
 and the proportion in which this total is divided between secu- 
 rities, merchandise and bullion does not appear in the published 
 accounts. 
 
 Of the net profits of every bank, the law now requires that 
 from so much as is earned in excess of a dividend of four and 
 a half per cent., at least one-fifth shall be annually added to 
 the surplus, until this amounts to one-fourth of the capital. 
 But of the profits of the Reichsbank remaining after this allot- 
 ment for surplus, it is also provided that an equal division 
 shall be made between the stockholders and the government, 
 with the further cautious provision, that if the dividends of 
 the stockholders are thus raised above eight per cent., the 
 share of the government in the final division shall become 
 three-quarters instead of one-half. Under this provision the 
 government has in some years received from the Bank a reve- 
 nue of over 2,000,000 marks, the dividends to stockholders 
 since 1875 having varied from five to seven per cent, and a 
 fraction. The dividends of the independent banks vary greatly 
 
 * Twenty-eight of the branches of the Reichsbank are depots for 
 goods, authorized by the Bank to lend upon the pledge of merchan- 
 dise. 
 
THE REICHSBANK OF GERMANY. 
 
 117 
 
 but do not now often exceed six per cent. The harvest of the 
 German banks was from 1871 to 1875, when the Bank of Prus- 
 sia, now the Reichsbank, divided from twelve to twenty per 
 cent, annually, and the price of its shares stood between 170 
 and 250 per cent. The price now ranges in the neighbor- 
 hood of 135. 
 
 NOTE, 
 
 In the Annalen des Deutscken Reichs for 
 sheet of the Reichsbank for December 31, 1 8 
 
 '875, p- 375, is the balance 
 J4. Grouping some of the 
 
 details for convenience 
 
 the account stands as follows, 
 
 in 
 
 million 
 
 marks : 
 
 
 
 
 
 LiahiUtits. 
 
 
 Resources 
 
 
 Capital .... 
 
 120. 
 
 Gold bullion . . 
 
 
 71.8 
 
 Surplus .... 
 
 239 
 
 German coin . . 
 
 
 446. 
 
 Notes 
 
 854.1 
 
 Treasury notes . 
 
 
 14-3 
 
 Accounts current 
 
 266.2 
 
 Notes of banks . 
 
 
 15.4 
 
 Profits .... 
 
 4.2 
 
 Bills discounted . 
 
 
 S".9 
 
 Sundries ..... 
 
 5- 
 
 Loans on security 
 Securities . . . 
 Real estate . . 
 Sundries . , , 
 
 
 1 40. 1 
 
 48.6 
 
 19-5 
 
 5.8 
 
 1.273.4 
 
 1.273.4 
 
 It will be observed that according to this account the notes exceeded 
 the cash on hand by 306.6 millions. As the uncovered issue allowed 
 by the law is not quite 273.6, it follows that the Bank had issued notes 
 in excess of the prescribed limit by about 33 millions for the last week 
 of 1884. This probably accounts for the appearance, among the sundry 
 liabilities in the original, of 34,040 marks due under the 5 per cent, 
 note tax. 
 
CHAPTERS. 
 
 Pagb. 
 
 I. Discount, Deposit and Issue ... 5 
 
 II. Banking Operations and Accounts . . 13 
 
 III. The Check System 27 
 
 IV. .Banknotes 39 
 
 V. Thb National Banks of the United States 48 
 
 VI. The Bank op England 64 
 
 VII. The Bank of France 90 
 
 VIII. The Reichsbank of Germany . . . 110 
 
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