CHAPTER VI.

ISSUING BANK-NOTES.

THE issuing of bank notes to circulate as money has usua.ly been regarded as a natural function belonging to commercial banks. Prior to the organization of the National banking system in 1863, commercial banking was done by State banks, organized under the authority of the various States. Most of these banks issued circulating notes which passed as money, but these notes were merely the promises to pay, on demand, of the bank issuing them, without any specific security.

If the issuing bank was honestly and well managed the notes would be good; but if not, there was risk of losing a part or the whole of the amount represented by the note. In the State of New York the law at one time provided for the creation of what was known as a "Safety Fund," under which each bank had to pay to the State an annual tax on its circulating notes, to provide a fund for the payment, or "redemption," of the notes of any bank which might fail and be unable to pay any part of its notes.

During the Civil War the United States Government was compelled to borrow large amounts to pay the costs of the war, and also needed large amounts of money or currency to pay current expenses.

The Government issued over $400,000,000 of its own Treasury notes, called "greenbacks," and as far as its cred

itors would take them for debt, or the public would buy them for investment, issued its bonds, bearing interest, and payable at the end of a term of years. As the war progressed, however, the necessity for borrowing became so great that inducements for lending their funds had to be offered to the public, and in 1863 a law was passed authorizing the organization of National banks. This law, in addition to allowing the banks to do a commercial banking business, required. them to buy and deposit United States bonds with the Government, which then furnished each bank with circulating notes equal in amount to 90 per cent. of the par value of the bonds deposited. The bank had to pay a tax of 1 per cent. a year on the notes it issued, but it received interest on its bonds, which the Government held as security for the payment of the notes in case the bank failed. This arrangement yielded a profit to the banks, and so accomplished the double purpose of selling the bonds to the banks and of increasing the volume of money in circulation, both of which ends the Government wished to accomplish.

About the time National banks were permitted to issue circulating notes, a United States law was passed, imposing a tax of ten (10) per cent. a year on such notes issued by any other bank, corporation or person. This law did not forbid the issue of notes, but the tax was so heavy as to destroy all possibility of profit, and in this way was prohibitory.

One theory as to issuing bank-notes is that by doing this a bank could increase its ability to lend money to its customers to the extent to which it could pay these notes out. Instead

of gold, silver, or other kinds of money, it could use such money for making loans. In effect, the bank issuing such notes borrows the funds they represent from the holders of the notes until the banks pays or redeems them. In this way it temporarily increases its capital, or at any rate its banking power. In the case of National banks, as already pointed out, it does not have this effect, because the banks are compelled to invest a larger amount of their funds in the bonds they must deposit to secure the circulation than the amount of circulation they receive and issue.

In this connection reference may be made to what is contained in the first chapter.

Another theory of note-issuing is that where an additional supply can be had quickly it can be used by a bank to pay its depositors in case of any sudden withdrawal of deposits, or what is called "a run on the bank," and so tide over an emergency until the bank can either collect its loans or sell its securities held for investment to an extent necessary to replenish its stock of cash or reserve sufficiently to redeem the notes issued in the emergency.

Although the issuing of National bank currency does not increase banking power, still it increases the volume of money in circulation, and without doubt this currency is as good as any other money issued by the Government.

- With the constant addition of gold nowadays, through coinage, to the aggregate stock of currency in circulation, and the increasing use of checks and drafts, which do a large share of work done by currency, it is questionable if there is any wholesome demand for a greater increase in the volume

of bank-notes. If there is, most thoughtful bankers appear to agree that it would be met by some plan based on the "Safety Fund" principle once tried by the State of New York.

This is, in effect, the application of the insurance principle to the risk of loss on bank-notes, so successfully applied by companies insuring against the risks of loss by death, fire, water, accident, and other casualties in human affairs.

The "Safety Fund" plan contemplates that all National banks, now issuing circulating notes secured by United State bonds, should issue notes without depositing any security, but that each bank in the system shall pay an annual percentage, or tax, on the amount of its notes, to create a "Safety Fund," to be held by the United States Treasury to redeem or pay the notes of any National bank which fails and whose assets do not realize enough to pay its creditors in full. As part of such a plan, it has been proposed to make the circulating notes of a bank a prior lien or preferred claim on the assets of any insolvent bank, over and above the claims of depositors and other creditors, for the holder of a banknote is a creditor of the bank issuing it. But to make these notes a preferred claim would work injustice to the depositors and other creditors. At the same time, as it is the proper function of the United States to coin and issue money, the Government should provide that all kinds of money in circulation, including bank-notes, should be good in the hands of the public, whether the bank issuing them fails or not, and to insure this goodness it should provide such measures as would make sure the redemption or payment in full of all

bank-notes issued under its authority. The National bank system has now been in operation 37 years, a period covering times of great business loss and depression as well as great prosperity experienced by a large number of banks located. in every part of a great and diversified country. The statistics showing the losses sustained by the National banks from the beginning should furnish a most reliable basis for estimating what annual percentage or tax on the circulation of the banks would provide a fund great enough to redeem the notes of all banks that fail. There is no doubt that an annual tax of one-tenth of one per cent. would be sufficient to do this, provided that the amount of circulation to be issued by each bank were limited and controlled by the Government. The issue of this kind of currency would be much more profitable than the present bond-secured currency, and it would provide for the supply of any temporary need for additional money in circulation, if any such need really exists. But, as already stated, it is a question whether the increasing use of checks, drafts and other "instruments of credit," added to the constant coinage of gold and silver coins, will not supply all needful and wholesome demand for a circulating medium.