HG 1867 Y84c A ^^— — Ai ^=^ tn — o m ^^— — i o m — —— rn ■ = — = I 1 1 5 B — n 5 m 9^ 55 n 5 = = > 8 = > 3l S^ 1 — — 1 ^^ -< JANKERS HANDY SERIES — III CREDIT CURRENCY BY ELMER H. VeUNGMAN Editor BACKERS MAGAZINE -ll BANKERS PUBLISHING CO., NE^' YORK r \j~jl, UoJa^j BANKERS HANDY SERIES III. "No currency can meet the wants of this country that is not founded on business." JAMES A. GARFIELD. CREDIT CURRENCY By ELMER H. YOUNGMAN Editor Bankers Magazine New York BANKERS PUBLISHING COMPANY 1907 Copyright, 1907, Bankers Publishing Co. ■ > • » • « • , < iii i I8G>7 Y$4 CREDIT CURRENCY. DEFINITION. r | ^HE term "credit currency/' as herein used, JL does not refer to paper money issued by the Government, but applies to notes is- sued by banks on their general credit without a pledge of bonds or other special security, depos- ited with a trustee, to provide for the payment of the notes in case of failure of the issuing bank. SECURITY. A credit currency, as above denned, would be thus secured: (1) By a coin reserve. (2) By the general assets and credit of the issuing bank. (3) By a redemption fund deposited with the United States Treasury. 5 389200 CREDIT CURRENCY (4) By a safety fund contributed by all of the issuing banks. (5) By bills of exchange, representing com- modities on their way from the producer to the consumer, and by commercial paper, represent- ing the notes of borrowers, exchanged for the bank's notes. These safeguards, while absolute, may be sup- plemented by a provision (as in Canada) that notes of a failed bank shall bear interest, thus making the note of a suspended bank even more valuable than while the bank is a going concern. ■ SAFETY. The methods of securing a credit currency as- sure perfect safety. By requiring the banks jointly to guarantee each other's notes, by con- tributions to a safety fund, loss to noteholders 6 CREDIT CURRENCY is made impossible. The Government could well afford to insure the payment of notes — though this would not be necessary. WHAT A CREDIT NOTE IS, AND HOW ISSUED. A credit note is an obligation of the bank is- suing it, to pay a specified sum of money to the bearer, on demand. So far as the bank is con- cerned it is practically the same as a credit given to a depositor in his bank book, and whether this credit be in the form of a book entry to the depositor's credit, against which he may draw checks, or in the form of a bank note, makes but little difference to the bank. The check will, however, be presented for payment sooner than the note, as shown by experience. The credit currency would be issued to the banks in the same manner as the existing nation- CREDIT CURRENCY al bank notes, no change being contemplated in the method of printing and supervising the note issues. The deposit of bonds or other special security (except a redemption fund) would not be required as a preliminary to the right to is- sue notes. INFLATION IMPOSSIBLE. If the notes are redeemable In gold on de- mand at the bank's counters, and at the offices of one or more redemption agents at New York and other convenient centers, there can be no inflation. Every bank seeking to get its own notes out will seek just as diligently to retire the notes of its rivals. The notes will also be retired owing to the desire of a bank receiving them to exchange them as speedily as possible for some form of money that will answer for 8 CREDIT CURRENCY reserve purposes. The notes will also be re- tired from circulation by being deposited with the issuing banks, which can not reissue them until a fresh business transaction brings to the bank some form of commercial paper to be ex- changed for the notes. The amount of notes issued will be determined by the convenience of the public, not by the banks. The process of redeeming a credit currency is precisely the same as that employed with checks. A bank in one town receiving the notes of an- other bank in the same town will send them to the clearing-house, with its other items, for pay- ment. If the notes are issued by banks in other towns, or if there is no clearing-house in the town where the receiving bank is located, then the notes will all be sent to the nearest redemp- tion agency for payment. CREDIT CURRENCY ADVANTAGES OF A CREDIT CUR- RENCY. Economy. — The use of credit bank notes sets free an equal amount of coin, less the amount of the latter required to be held as a reserve against the notes. Gold coin and gold certifi- cates constitute a costly form of circulating me- dium. They represent an unnecessary locking up of capital for ends that might be attained with less expense and equal safety. Experience, in this country, in Canada and elsewhere, has shown that under a proper system of issue and redemption bank notes may safely be issued against a reserve of coin much smaller than the 100 per cent, required against coin certificates. A reserve of twenty-five per cent, would per- haps be adequate. The use of reserve money for purposes of hand-to-hand circulation takes that 10 CREDIT CURRENCY much actual monev out of the banks, and di- minishes their lending powers not only to the amount of money so lost, but in a multiplied ratio, inasmuch as they are permitted to lend — in the shape of deposit credits — several times the sum of the reserves held. A nation that needlessly locks up its capital in an expensive form of currency handicaps it- self economically, and is at a further disad- vantage in being unable to increase its currency to meet sudden and unforeseen demands with- out waiting for the increase in the metallic stock through the slow process of mining or until a favorable exchange rate will permit gold to be brought in from abroad. The loss by abrasion — a considerable factor where gold coin is used as a circulating medium — may be obviated by the use of bank notes; the cost of transporting the latter from place 11 CREDIT CURRENCY to place is also less than for an equal amount of coin. Adaptation to Business Needs. — The chief characteristic of a credit currency lies in its adaptability to business needs. Being based upon business, its volume varies with the changes in the activities of production and trade. No question arises as to whether there is too little or too much currency — the demand arising out of business transactions, and rising or falling with the rise and fall of those transactions, and the supply being limited only by the want and convenience of the public and by the coin re- serve which the banks must hold against their notes ; in other words, by their ability to provide the means for paying their note obligations. The provision of a coin reserve constitutes an effective check upon inflation. 12 CREDIT CURRENCY This adaptability of a credit currency to busi- ness needs is of the highest importance in a country like the United States, where the de- mands for currency fluctuate so widely at dif- ferent seasons of the year. In the summer and fall, especially, the harvesting and marketing of the crops call for additional supplies of cash. Were the banks permitted to issue credit cur- rency, they could meet this demand without in- convenience. At present the banks in the local- ities where such demands arise are compelled to call on their city correspondents to ship cash, and this can be accomplished only by a large reduction of loans by the city banks, resulting in a disturbance at the money centers which re- acts upon the entire country. Were the city banks permitted to issue a credit currency in the form of their circulating notes, they could meet this demand, to a large extent, 13 CREDIT CURRENCY by sending these notes in lieu of actual money, thus avoiding the necessity of greatly reducing their own loans. In other words, the book credit on the books of the city bank, representing the deposit of its out-of-town correspondent, would be converted into a bank-note credit. When the bank notes had completed their work they would be retired, either through redemption and can- cellation, or they would return to the issuing banks again in the shape of deposits. In Canada, with a bank credit currency, this seasonal scramble for cash is unknown. The extraordinary demands are met by an increased issue of bank notes; and as the demand sub- sides to the normal, the increased issues are gradually retired. The volume of notes rises as business transactions increase, and falls with its decline — the notes not creating the business, but the business bringing the notes into being. 14 CREDIT CURRENCY This exceptional demand for currency may arise in a number of ways. That most familiar in the United States is this: the farmer needs cash to pay his harvest hands, and the grain buyer needs cash to pay the farmer for his grain. Bank checks can not supply this need; since they are not usually of convenient denom- inations, nor can the receivers of them use them freely as cash. Bank credit notes meet the re- quirements perfectly. Though in principle they differ but little from a check (particularly if the latter be certified), they have these manifest ad- vantages over a check — they are issued in con- venient denominations, and they will circulate precisely the same as money. Credit currency in the form of bank notes is most useful in sparsely settled communities, where checks do not find ready acceptance. In the larger centers checks may be used quite as 15 CREDIT CURRENCY conveniently as coin or notes, and in fact are so employed to an overwhelming extent. Were the banks permitted to issue a credit cur- rency, a customer of a bank having a draft drawn against a shipment of goods would take it to his bank, discount it and get the proceeds placed to his credit, against which he could draw a num- ber of checks with which to pay his bills if they were due to large dealers having bank accounts, or he could draw a single check and get the bank's notes, if he wished to pay farm hands, factory operatives, or to buy grain or other produce. Or the customer could use his own note instead of the draft, and in the same way. This adaptability of a credit currency to the needs of sparsely settled communities was ad- mirably stated by Hon. Lyman J. Gage, former Secretary of the Treasury, in an address be- fore the New York Chapter of the American 16 CREDIT CURRENCY Institute of Bank Clerks on November 6, 1902. Mr. Gage said: "Now, I come to another point in my talk, which relates to a device of credit, which used to exist, and in other countries does now exist, but which has been destroyed with us, much to the harm, in my opinion, of the general body politic. There is no difficulty now in going to the bank and obtaining a credit on its books in exchange for a good note, the proceeds to be checked against in the ordinary way; that is to say, to acquire the right to draw checks on the bank for cash; there is, I say, no difficulty in doing this, provided the bank has a little more than its legal reserve on hand. "But there are uses of life for which, if credit is to be utilized so as to cover these uses, some device of credit must exist other than bank 17 CREDIT CURRENCY books, checks and drafts. Checks will not pay cotton-pickers in the Southern cotton fields. There is no place for the cotton-picker to go and realize the money on them; and it is money, or what will circulate as money, that he wants. Checks will not pay the lumbermen in the North- ern woods; they will not pay the lumberman in the pineries of Oregon or Washington, nor the salmon fisherman in Alaska, nor the coal miners of Pennsylvania, Kentucky or Indiana, nor the great army of harvesting hands that gather the grain in the Far West. No; but are not these needs of life as worthy the facilities of credit from the bank as are the needs of the Wall Street operators, or the dealer around Sixth Ave- nue, Twenty-third Street, Thirty-fourth Street, or any other street? Certainly they are, for these uses to which I have referred lie at the very foundation of our prosperity. 18 CREDIT CURRENCY Eaaaaaaaaaaaaaaaaaaaaaaaaaaaaaaaaaaaa "I have pictured to myself, as illustrating this particular point, a man going to a bank — three of them — one saying: 'I want to borrow $10,000, Mr. Banker.' 'Yes. What do you want to do with it?' 'I want you to pass it to my credit. I shall be checking against it in the course of my business.' The banker says to himself, 'I have a little surplus over the legal re- serve. I will take my chance with him.' 'All right.' The banker thus adds to his liabilities $10,000 by crediting the borrower with the amount of the loan. Number two comes along. He makes the same request. He is treated in the same way. Number three comes along and says, 'I would like $10,000, Mr. Banker. I see you have accommodated my two friends. I hope I am not too late.' 'What do you want to do with the money?' 'I am establishing a num- ber of stations down Pamlico Sound for the 19 CREDIT CURRENCY purchase of fish and sea food of various kinds. I want to distribute money, because these peo- ple must have the cash in their hands when they come in with the boatloads of fish or oysters/ 'Oh, so you need cash?' 'Yes.' 'Well, I can not accommodate you.' 'You accommodated these two men.' 'Yes, but you want the money/ 'No, I don't want money, not real money; your notes will answer my purpose perfectly/ 'Well, I have no notes of my own on hand.' 'But, Mr. Banker, I notice by your published statement that you have a right to issue notes. I will pay the money back before the notes come back to you for redemption/ 'But,' says the banker, 'you ask me for something rather worse than if I were to give you cash, for I have to invest $11,000 of my money in United States bonds in order to get $10,000 of my notes which you want to borrow. That I can not afford to do, 20 CREDIT CURRENCY and I need the cash as reserve for the loans I just now made.' "So you see by a system as costly as capital, the benefits of credit, as operated by banks, are positively denied in a large number of cases and handicapped at all times and everywhere, be- cause the banker has no way of extending to the borrower, through his notes, what he effectively extends to all the other members of the com- munity who can use checks and drafts." Credit bank notes are also of great service in communities where there is a scarcity of cap- ital. They form a convenient instrument by means of which the capital of one individual can be gathered up by banks, and divided and distributed for use in the operations of produc- tion and exchange. If a depositor places $10,- 000 in gold in a bank, but is content to take the 21 CREDIT CURRENCY bank's notes in payment of his own checks, the bank has, substantially, borrowed $10,000 of its depositor, and after setting aside the required reserve against this liability, it may safely use the balance as a reserve against its own notes, thus dividing up the capital of its depositor and diffusing its usefulness throughout the commu- nity. A credit currency is also useful in communi- ties where other forms of money are scarce. The comparatively meagre amount of gold in circulation, if gathered up and placed in the banks, may serve as a safe basis for multiplying the circulating medium several fold. Discount Rates. — Were the banks that now rediscount their commercial paper permitted to issue a credit currency, they could save the heavy discounts (amounting perhaps to an aver- age of six per cent.) they now pay the city 22 CREDIT CURRENCY banks. The commercial paper, now pledged to the city bank for cash, could be used as the ba- sis for bank notes by the banks owning it, the only conditions being the usual requirements for reserves and a redemption fund. This would relieve large sections of the country from the burden of high discount rates, and would facili- tate the production and marketing of staple products. Increase of Deposits. — If banks were al- lowed to issue credit notes, they could largely increase their deposits, since they could make loans in many cases where they are now pre- vented from doing so. And the borrower would generally become a depositor. Till Money. — One of the most serviceable attributes of a credit bank note is its usefulness as an inexpensive form of till money — not as a reserve, but merely the cash needed from day 23 CREDIT CURRENCY to day. Gold, silver or bond-secured bank notes, if so held, all represent so much actual money (for even the bond-secured bank note has cost the bank one hundred cents or more for every dollar) ; but a credit bank note, so long as it is held by the bank, costs nothing, beyond the ex- pense of engraving and printing; it is merely a piece of engraved paper, and no more valu- able than a blank check. When paid out by the bank, in exchange for commercial paper, or to meet a check drawn on the bank, it then be- comes valuable, being an obligation of the bank, for whose payment a reserve must be set aside. If paid out for commercial paper, the bank holds the latter as an offset to the liability it has created in paying out the note. If issued in payment of a check drawn on the bank, there has been merely a conversion of a deposit liabil- ity into a bank-note liability. 24 CREDIT CURRENCY Prevention of Panics. — A credit currency would tend to prevent panics by keeping the country at all times supplied with a sound in- strument for effecting the exchange of products. It would also prevent that inflation of credit and undue extension of enterprise which aggra- vate, if they do not aid in creating, the condi- tions out of which panics grow. A credit cur- rency, available for use at all times, constantly subject to the daily test of redemption in gold, would be free from the artificialities that inhere in a bond-secured currency. Such a credit cur- rency tends to prevent panics; an emergency currency would merely seek to palliate the ill- effects of a panic after it occurs. Correcting Redundancy. — At present, when the supply of currency proves greater than the demand, the redundancy can be corrected only by exporting gold. With a credit currency, the 25 CREDIT CURRENCY excess would be retired; in this case gold would be exported only to pay balances accruing against us abroad, never to reduce the redun- dancy in the currenc}'. OBJECTIONS TO A BOND-SECURED CURRENCY. Lack of Elasticity. — Notes secured bv a pledge of United States bonds, or by other stocks and bonds, can never have the same de- gree of elasticity as a credit currency. As a matter of fact, the national bank circulation based upon United States bonds usually con- tracts in the fall when money is most needed and expands in the spring and early summer when the demand falls off. Failure to Expand. — The growth of a bond-secured currency can not keep pace with the growth of business, because the supply of 26 CREDIT CURRENCY bonds is not determined by business conditions, but by the receipts and expenditures of the Gov- ernment. If the supply of bonds be increased merely to afford a basis for bank notes, as has been done in the United States within recent years, the natural influences that should govern the volume of bank notes are supplanted by arti- ficial conditions — one man (the Secretary of the Treasury) assuming to determine how much cur- rency the country shall have. Its Great Cost. — A bond-secured currency is the most expensive circulating medium known — costing even more than gold certificates. For every $100,000 of national bank notes issued a bank must buy bonds costing, with the premium, over $100,000. Such a policy is extravagant for even a rich communitv; for one where there is a scarcity of capital, it is ruinous. 27 CREDIT CURRENCY A Tax on the People. — With abundant revenues and a dwindling debt, a bond-secured currency can be maintained only by creating debt for that purpose. Thus the people are taxed to maintain a currency that is unfitted to the needs of commerce, and that has been aban- doned by nearty every great commercial nation of the earth. The Banks Hampered. — By compelling the banks to buy an equal amount of bonds be- fore permitting them to issue notes (the actual cost of the bonds being greater than the notes that may be issued), the ability of the banks to aid local production and trade is actually less- ened. This requirement also makes it impossible, in many cases, for the banks to grant credits in the form wanted by perfectly solvent borrowers, as explained above. 28 CREDIT CURRENCY Unjust Discrimination. — Under a system of bond-secured notes, there is an unjust dis- crimination against the small borrower, who is prevented from having the use of an inexpensive but thoroughly efficient tool of exchange. The Bank of France, which issues a credit currency, and is probably the greatest bank in the world, makes thousands of loans of less than $10. It is a bank of the small trader and the poor, as well as of the large dealer and the rich. In Favor of Large Cities. — Again, the bond-secured circulation works against the coun- try districts, where interest rates are high, and in favor of the large cities, giving them the ad- vantage of still lower rates of interest. Not Always Safe. — The notion that cur- rency secured by bonds of the United States is always safe is fallacious. From the beginning 29 CREDIT CURRENCY of the national banking system till 1879 the na- tional bank notes were at a discount. Tends to Inflation. — There being no true redemption of bond-secured bank notes, a con- stant tendency toward inflation may be seen. Expels Gold. — The redundancy in the cur- rency (in the face of which the expansion of a bond-secured currency goes steadily forward) can be cured only by exporting gold, where the notes are based upon bonds. If the notes were based on commercial paper, and a coin reserve, the redundancy would be corrected by retiring and cancelling the excess of notes. When gold was exported, in payment of balances, the issue of credit notes would be checked — the supply of reserves being decreased. This is not the case with bond-secured notes, which go on increas- ing, although the gold supply may be diminish- ing. 30 CREDIT CURRENCY A Bond Speculation. — The issue of notes secured by bonds is mainly a speculation in Gov- ernment bonds, and the notes are increased or diminished according to the state of the bond market, without regard to the volume of busi- ness or the demand for currency. CONCLUSION. In conclusion, the safety of a credit currency can and will be made absolute. The safety-fund required for this purpose can be calculated be- forehand with mathematical certainty, and the fund may be set aside out of the present tax on circulation, which is abundant for that purpose. Experience has proved that a credit currency is safe when based upon commercial paper, with an adequate coin reserve, a safety fund, and an effective system of daily redemption. The notes of the Louisiana banks, of the State Bank of 31 CREDIT CURRENCY Indiana and its successor, the Bank of the State of Indiana, as well as those of the New England state banks, were of this character. Reference to the history of state bank notes will show that a bond-secured currency is far from being safe, and that practically all the "red dog" and "wild- cat" currency was secured by state and other bonds. A credit currency, being based on the instru- ments arising out of business transactions them- selves, adapts itself automatically and with un- failing regularity to the demands of production and trade, thus becoming a powerful weapon to use in promoting a nation's industrial and com- mercial activities. There can be no inflation of a credit cur- rency, for the reason that the quantity of notes will be determined by the convenience of the public, and with a proper redemption system, the 82 CREDIT CURRENCY motive of profit which impels a bank to put its own notes in circulation will also impel it to put the notes of all its rivals out of circulation. The records show that as a rule the volume of credit notes issued falls far short of the limit per- mitted by law. The demand for credit circulating instruments expresses itself through the banks, just as the demand for meat expresses itself through the butcher shops. For a banker to refuse a cus- tomer bank notes, which he wants and can use. and offer him checks, which he does not want and can not use, is about as arbitrary as for a butcher to offer his customer pork when he de- mands beef; and for the banker to dictate to solvent borrowers how many notes they shall have would be very much as if the butcher should assume to determine how much meat his customers ought to buy. 33 389200 CREDIT CURRENCY The increase of the public debt under the Re- funding Act of March 14, 1900, was in the direction of perpetuating the public debt, and with it the bond-secured national bank notes; the issue of bonds for the apparent purpose of providing funds for construction work on the Panama Canal, but really to supply a basis for more bond-secured bank notes, had the same end in view. Both these measures represent a disposition to avoid the consideration of a credit currency; but recent events indicate that this problem must be dealt with soon, if not imme- diately. Neither a credit currency nor any other kind of currency can be regarded as a panacea for financial ills. But notes issued upon a basis of commercial paper, arising out of business transactions, with a sufficient reserve of gold coin, and under a system insuring daily redemp- 34 CREDIT CURRENCY tion through the exchanges, are sound in princi- ple, while a bond-secured currency violates every principle that should govern in the provision of a paper circulation. We shall best subserve the interests of our people by discarding the unsat- isfactory bond-secured notes and supplying gen- uine credit bank notes to take their place. 35 UNIVERSITY OF CALIFORNIA AT LOS ANGELES THE UNIVERSITY LIBRARY This book is DUE on the last date stamped below LIBRARY UC SOUTHERN REGIONAL LIBRARY FACILITY AA 000 559 583 o HG 1867 Y84o