Cyclopædia of Political Science, Political Economy, and the Political History of the United States
BANKS. When through the indefatigable industry of the North American settler, a new town springs up amid the forests of the northwest, a bank is immediately established side by side with the church and the printing office, it may be in a grocer's store, who carries on the business of the banker and his own at the same time. The reason of this is, that the wants which the bank or banker supplies are among the most imperative wherever trade is active or tends to become so, even in a small degree. The bank is, in the circulation of capital, what the railroad is in the circulation of men and things, and what the newspaper is in the circulation of news and ideas. Like the railway and the newspaper, the bank does not create what it causes to circulate; but it not unfrequently happens that only it can render such circulation possible. It always accelerates and develops the circulation of capital. We might therefore define a bank. An office for the circulation of capital in the form either of accumulated labor (money of all kinds) or of labor yet to be done (credit). This definition embraces the whole series of services which can be reasonably asked of banks, or which have been asked of them at different times. These services are many and varied. They have not been the same in nature and extent at all periods of history. But every country whose industrial and commercial organization did not remain rudimentary has sought and obtained the services of banks. The origin of the banking business is of very remote antiquity.
—Recent research, especially that of Mr. Koutorga, has shown the important part played by the trapezites () in Athens when trade began to develop and personal property to assume some importance In the fourth century before Christ, their sphere of action was so large that it was thought necessary to divide and specialize their operations. There were money changers who carried on the business of changing the different kinds of local and foreign money, money lenders engaged in the making of advances to borrowers, and bankers properly so called whose operations were much more extensive, of a higher character and approximated more closely to banking operations in modern times. The trapezites took the money of individuals either for safe keeping only, to effect payments, or to turn it to account in commercial, industrial or maritime enterprises. They were in constant relation with foreign places, and effected transfers of capital either in specie or by a clearing operation. They came to the assistance of the state when it was in financial want. Their trade did not occupy the highest place in public esteem, but it was lucrative. Pazion, the banker, immortalized in one of Demosthenes' orations, was able to lease his banking house in consideration of an annual rent of a talent, or about $1,200. The bank, however, was not always an individual enterprise. Recourse was had to the association of capital and to the formation of banking companies.
—The argentarii of the Romans corresponded to the trapezites of the Greeks. With the increasing extension of the limits of the empire and its relations with almost all of the then known world, the business of money changing could not but acquire a greater importance than it possessed among the Athenian bankers. But the trapezites of the Greeks had predecessors as well as imitators. Banking operations can not have been unknown to the nations which preceded the Greeks in the way of commerce and especially to the Phœnicians. When exchange proper took the place of barter in a country, when the exchange of services was operated only by the intervention of money, the want of an intermediary to facilitate the indirect exchanges was soon felt; and once the want was felt, institutions were established and men came forward to satisfy it. Money was weighed in ancient times It was also indispensable that its quality or value should be proven; and what more natural and practical than that recourse should be had to persons who had made a business of weighing and testing it, and who performed both these operations with accuracy and celerity, to establish its weight and value? It is very probable that goldsmiths were in ancient times, as in England in the middle ages, the first bankers.
—Let us now suppose that a vender A is in need of a kind of money different from that which the purchaser of his wares has just counted out to him on the goldsmith-banker's table; that, at the same moment, a vender B, accompanied by his buyer, presents himself before the same table and receives the very kind of money which the vender A is in search of, and that B wants the money which A is anxious to get rid of. The exchange of the two kinds of money will be immediately effected by the remunerated intermediation of the banker. But such a meeting of supply and demand can not always be calculated on. The vender A will therefore leave his money with the banker to effect the exchange as soon as the kind of money sought is brought to his table. From this, to the practice of bankers keeping a certain quantity of different kinds of money always on hand to effect changes of money for their clients, in case of need, directly and indirectly, there was but a step. At another time, perhaps the vender A or B having no immediate use for the money just counted out to him at the banker's, leaves it there for the moment, either because he thinks it safer with the banker than in his own house, or because he expects, later, to take in its stead the kind of money he may need, or because he wishes the banker to turn it to account in the meantime. If the money received by A or B is intended to pay a debt due to C, a resident of the locality itself or of some other place, it may still be left in the banker's hands that he may effect the payment; and if the creditor C, in turn, be D's debtor, and D E's and E F's, each of these creditors, who is at the same time a debtor, may instruct the banker to satisfy his own individual creditor, and none of them need touch the money. Thus, thanks to the intervention of the banker, the same sum of money may, without even changing hands, settle a whole series of debts. The banker, seeing that all the payments intended for his clients are made at his counter, does not hesitate to advance to them, in case of need, the amount of a deposit he may receive shortly or only after an indeterminate period. On the other hand, the banker, to profitably employ the sums deposited with him or which he holds in reserve, advances money even to others than his clients, on such security as he considers sufficient.
—Thus, the whole series of bank operations—money changing, deposits, clearings, advances, loans, etc.—springs logically and naturally from the modest beginnings of this one man's business, to whom buyer and seller address themselves to have their money weighed and assayed. The mechanism of these operations once known, it was not necessary that every banker should perform them all. One might have a preference for one branch and another for another of the banking business. It is conceivable, too, that at a given time or place one branch might be of much more importance than others. Where, for instance, metallic pieces used as money were subject to frequent alteration, and, therefore, could not be accepted by any one in any quantity until after a minute examination of them, the weighing and assaying of them played a very important part. On the other hand, that part was very unimportant, when confidence in the honesty of the coinage became general and was well founded; for such confidence did away with all the obstacles in the path of monetary circulation. The business of money changing had a wide field in the cities in which great fairs were held, to which great numbers of strangers flocked; but when more perfect instruments and modes of circulation diminished the direct employment of metallic money in large transactions, the business of money changing lost much of its importance. The absence of safety may have been the first motive which determined the capitalist to deposit his money with the banker, who had special means of watching and guarding it not possessed by others; and this making of deposits continued, but for different reasons, after the credit system was more developed. Circumstances sometimes introduced a new branch of the business. Thus knights, going to the crusades, borrowed money by pledging their jewels and silver ware for its repayment. Bankers soon generalized this mode of borrowing, and loaning on pledges occupied a large place in banking operations during the second half of the middle ages.
—Italy had a great share in reviving banking operations Violent measures, and the theological hatred of all trade in money, had almost wiped out even the memory of banking. The modification of lay barbarism and the removal of ecclesiastical pressure, no less than the imperious wants of commerce, restored the banking house to Italy. It was not long before Italy supplied the chief commercial cities and nations with bankers. The Lombards, and their competitors and compatriots the Cahorsians, instructed Europe again in banking from the thirteenth to the fifteenth centuries. They were the money lenders to governments in financial need. The Italian bankers were one day loaded with favors, hunted and robbed the next; and this in England as well as in France, in Germany, and even in Italy. But they found their business a very profitable one; for they were a very serviceable class of men. Not only did they restore the institution of banking to Europe, they assured its growth by assigning an important place to credit which was destined soon to be the preponderating one in banking. Whether it be true or not that the bill of exchange and the bill payable to order were not unknown to antiquity, or that they were invented by the persecuted Jews in the middle ages, certain it is that it was the Lombards who regularized and generalized the employment of these powerful and ingenious instruments of credit.
—Simultaneously, an innovation took place which was destined to exercise in the future a very great influence on the progress of banking: it was the creation of public banks. This simultaneousness was not accidental. From the time that the banker ceased to be simply a dealer in money, taking the word in its most material sense; from the time that fiduciary capital (credit) became the principal part of his business, the influence of association could not fail to be felt as a necessity of the situation, and to get the advantage over isolated individuals. Public banks were destined inevitably to take the lead of simple bankers, because the former had greater material resources and more numerous relations, inspired more confidence on account of the joint guarantee of men of good commercial standing, and offered more security because moral persons endowed, so to speak, with immortality. Private bankers, however numerous, rich and powerful they might become, from that time took the second rank; they were satellites revolving around the public banks. Private bankers were supported by and supported public banks. But public banks differed from private bankers whom they partly superseded, only in the extent of their business and the perfection of their organization; the essential principle of banking operations remained almost the same. This principle, as the reader may have already noticed, is that a banker can be and should be only an intermediary. Whether he exchanges for two merchants the money they mutually offer and ask; whether, by loaning to B a deposit made by A, he causes it to yield a profit; whether, by some strokes of the pen (clearings), he settles for his clients a whole series of accounts—whether he discharges C's debt in a distant city, and pays to D the claim, or letter of credit, he has on the same city; whether he advances to the state the funds in trusted to him by private parties: in all these cases a banker only facilitates between two or more persons, transactions the direct realization of which would have cost them trouble, time and money. The usefulness of this intermediary service is manifest; it sums up the whole part played by the banker. It was his business to facilitate the movement of capital, no matter through what channels; this was the mission of both banks and bankers.
—It seems certain that Italy, the country in which the institution of bankers was first restored, was also the cradle of public banks. Cibrario, an Italian economist, justly esteemed, speaks of a privilege of banks of exchange, "with the obligation to open eight banks," which the municipality of Genoa granted, in 1150, to William Veto, Oberto Torre and others; but he failed to mention the source of this information which would be valuable if it were less vague, and its authenticity beyond a doubt. The honor of having possessed the first public bank is generally conceded to Venice. Our information as to the date of its creation is contradictory. Some writers place it in the middle of the twelfth century, and others fix it at the beginning of the fifteenth. In any case, this last date can be only that of a re-organization of the original establishment. It seems certain that the bank of Venice was in operation as early as the first half of the fourteenth century. Therefore, it was anterior to the bank which, according to some writers, was founded in 1349, at Barcelona. There are no data concerning this Spanish establishment, the origin of which, it seems, was due to the guild of drapers. A bank of deposits, founded by the commune, was added to the former bank, or superseded it, in 1401. Much more certain is the foundation, in 1407, of the bank of Genoa, the Casa di San Giorgio. It ceased to operate only in 1740, when, after having been pillaged by the Austrians, it was forced to go into liquidation. Two centuries after the foundation of the bank of Genoa came the bank of Amsterdam; it was founded in 1609, and replaced, after 1814, by the Netherland bank. Ten years later a public bank was established at Hamburg, on the model of the bank of Amsterdam. It is still in operation, with its modest primitive organism, as a bank of clearings. The city of Nuremberg in 1621, and the city of Rotterdam in 1635, followed the example of the great Hanseatic city. In 1657 Sweden established a bank, which, it is said, was the first to issue notes payable to the bearer and at sight. Other writers attribute the introduction of such notes to the bank of Genoa.
—The immediate determining cause of the creation of these banks was not the same everywhere. The two following causes have been more particularly assigned: a national bank is sometimes called into existence by a government in the interest of its financial operations; sometimes commercial interests create it in order to paralyze the effect of certain fiscal manipulations. In the first category may be counted the bank of Venice. It appears to have been organized in consequence of the fusion and consolidation of three debts contracted by the reigning dukes during the twelfth and thirteenth centuries. The debt thus consolidated became the capital stock and assets of the establishment. The government debtors were thus transformed into the creditors or depositaries of the bank. The only cause for the creation also of the bank of Genoa and the bank of Stockholm, was a loan made, or to be made, to the government with its foundation capital. On the other hand, the bank of Amsterdam was created in the interest of commerce to protect it against daily embarrassments and losses consequent upon the alteration of money by the governments of the time. The founders and shareholders of the bank of Amsterdam deposited in the vaults of the bank a quantity of specie or bullion proportioned to the extent of their business. All their payments were made in money of the bank (invariable), and by means of transfers (clearings) in the books of the establishment. The bank of Hamburg was based on the same principle. Faithful to its origin, by confining itself to operations of deposit and clearing, and carefully abstaining from all dealings with the national administration, it was able to survive the most formidable storms. The bank of Amsterdam, less stable, prepared the way for its own downfall, when it was induced to loan its funds to the East India company.
—The severest trials ever experienced by the bank of England, founded in 1694, are likewise due to its accommodations to the government, accommodations sometimes voluntary, sometimes compulsory. The bank of England is the most important financial establishment in the world. It is the first institution in which, from the very beginning, the issue of money with no intrinsic value was a chief element in the mechanism of the bank. Wisely organized, ably administered, functioning successfully, the bank of England has become the model, more or less faithfully imitated, of all the great institutions of credit which have since been established, both in the new world and the old. It is true that its first and grandest imitation on the continent came to a disastrous end; but this disaster had been rendered inevitable by the perversion of the organic principle of institutions of credit, and the exaggeration beyond measure of the application of that principle.
—Public and private credit had disappeared in France when the Scotchman, John Law, proposed to the regent the establishment of a public bank. Fifty years of war, and 20 years of defeat, the incapacity of the Chamillards and the Desmarests, the prodigality of the court, and the rapacity of the farmers of the revenue, had reduced the treasury and the country to the most terrible straits. The bank for loans, established by Colbert and restored by his successors, was scarcely able to borrow anything to meet the daily and most imperative wants of the public service, at 8 or 10 per cent. of interest. The sad pictures which the Fénelons, the Vaubans and the Boisguilberts, trembling with suppressed emotion, drew of these times, tell of the misery of the people. Under such circumstances, how could the government refuse to listen to this compatriot of William Patterson, the founder of the bank of England, when he offered to increase public and private fortunes by means of an institution of credit? The concession he asked was granted him (May 2 and May 20, 1716,) for the space of twenty years; Law was director of the bank, the regent consented to be its protector; it began its operations in the month of June, 1716. Its capital was £6,000,000, divided into 1,200 shares of £5,000; the bank was authorized to issue notes payable at sight and to the bearer, to discount commercial paper, to receive deposits, to make payments and collections, to draw on the directors of the mint in the rural districts, and upon foreign banks; it was forbidden to engage in commercial operations, to make advances, or to engage in insurance or commission; it could not "under any pretext or in any manner" borrow money on interest. All accounts were to be paid in écus de banque of five livres; thus were the unpleasant effects of frequent monetary changes avoided; a rigid and constant surveillance, to be exercised by government commissioners, was intended to assure the public of prudent and honest management.
—The success of the bank was slow at first, but afterward brilliant. The public, from scoffing incredulity as to the seductive promises of the Scotchman, which it manifested at first, came gradually to acknowledge the great advantages of bank money, whose fixity enabled them to undertake long term operations, and enter into relations with foreign nations. The rate of discount was reduced to 6 per cent., and soon to even 5 and 4 per cent. per annum, whereas but a short time before 2½ per cent. per month was paid. The jealous care with which the bank held itself ever in readiness to meet its engagements; the favor of the government, which required its tax-collectors to make their returns in bank notes; everything contributed to strengthen the credit of the bank, and to enable it to render signal service to agriculture, industry and commerce. Public credit was benefited by this general improvement of the economic condition of the country; the stockholders, receiving large dividends before they had paid more than a fourth of the subscribed capital, had every reason to congratulate themselves. But this very success was destined to cause the ruin of the bank; it gave John Law courage and power to put into execution the vast projects he had long been revolving in his mind, to attempt the application of hazardous theories hitherto impatiently held in check. The bank became what Law had originally intended it to be, a mere wheel of his système. We can here neither give an exposition of, nor pass judgment on, this fantastic conception. Suffice it to say, that the Compagnie d'Occident, in which the system was personified, aimed at nothing less than monopolizing the foreign commerce, and the management of the finances of France, and becoming the great dispenser of labor, credit and wealth. An immoderate issue of fiduciary titles, that is, having no intrinsic worth, whose nominal value excessive agiotage endeavored to inflate, was to supply the funds for these vast enterprises, the plans of which were furnished to greedy speculators by the company. The result was one which inevitably follows upon such a course: the structure built upon the sand fell to pieces with a terrible crash, burying in its ruins all the fortunes which had not been saved in time. The bank, which had long abandoned all limitation and restraint, and whose presses had rivaled those of the company in the issue of worthless paper, was fatally involved in the company's ruin. Four years of honest and intelligent management had established and consolidated the credit of the bank; one year of recklessness sufficed to utterly ruin it. It disappeared, together with its founder, after having put into circulation more than 2,000 million of notes, which could not be invested in any way.
—Still, Law's bank merely hastened its ruin in allowing itself to be drawn into the vortex of the Compagnie d'Occident. In reality its fate was sealed from the day that it became a royal bank, (Dec. 4, 1718), by passing from the hands of its private founders into the hands of the government; from that date it ceased to be a credit establishment, for which the bank note is one of the instruments of action; it became a veritable paper-money manufactory, approving of every means of casting its products upon the market. This danger is inherent in the issue of money without intrinsic value from the moment it is intrusted to an irresponsible power which, prompted by caprice, may dispense itself from redeeming its bank notes on presentation; the danger was particularly great with the theories professed by John Law. In the opinion of this celebrated Scotchman, the bank note was not an instrument of circulation, it was money, since it performed the service of money. In other words, confounding currency and real money, money and capital, John Law, with that inflexibility of logic which characterizes makers of systems, reached this deceptive sophism. To manufacture bank notes is to manufacture money, that is, to create wealth; only short-sighted routine can not see this. It would impede, through timid and misplaced prudence, operations which would serve to enrich all. Law bowed to the existing prejudice, so long as this condescension was indispensable to the very establishment of his bank. When several years of success had increased his presumption and strengthened the faith of the public in his ability, he cast off this condescension, as the superfluous ballast of the aeronaut, and boldly undertook the flight to which he had so long and ardently aspired. In proportion as he rose in the air, and as the ground disappeared from his sight, Law lost his head more and more; the increasing depreciation of the bank note was for him but the effect of the ill-will of intriguers, seconded by the folly of the vulgar. He grew obstinate and angry, advised bold and desperate measures, proscribed metallic money, flooded the country with bills, he merely succeeded in rendering the inevitable ruin of his work disastrous to the last degree.
—More than half a century clapsed before the country, terrified by the disastrous fate of the système, dared again think of creating an establishment of credit. A decree of March 24, 1776, granted the privilege of doing it, to Mr. Besnard, who wished "to establish in the capital a discount bank, whose operations shall tend to lower the interest on money." Its charter in fact forbade the bank to go beyond the rate of 4 per cent. discount per annum. Besides discounting it was authorized to deal in gold and silver, and se charger en recette et en dépense des deniers, caisses et payements des particuliers. All borrowing on interest, the forwarding of merchandise, maritime enterprises, insurance or commerce of any sort whatever, was forbidden it. The capital of the company was fixed at 15 million livres, two-thirds of which were to be converted into an advance to the government; this clause was very strongly disapproved of by the public, and the bank was not finally established until a decree of Sept. 22, 1776, had released it from this dangerous requirement. The government, however, returned to the charge more than once, especially during the war of American independence. The bank had at one time to increase its capital, at another to ask that its notes should be endowed with compulsory circulation. In spite of the embarrassments which these involuntary arrangements with the government caused, the bank succeeded in rendering real service to the business world, and establishing itself strongly enough to withstand the first assaults of the revolutionary tempest; a decree of the convention (Aug. 4, 1793,) finally suppressed it, after a slow and painful agony had already deprived it of its strength. However short and painful its existence, the bank had nevertheless restored the use of credit in France. Scarcely was calm restored when other establishments of credit arose, which led to the foundation of the bank of France. Numerous and important establishments of the same kind were also founded in the other continental countries, for the epoch between the downfall of the system and the great revolution had been almost as barren throughout the whole continent of Europe as in France itself.
—In giving a sketch of the history of banks we pointed out the operations included within the circle of their activity. These still form a great part of the operations of banks both public and private. Nevertheless, the direct exchange of different kinds of money which was one of the first and most important operations of the bankers of ancient times and of the middle ages, is no longer practiced by public banks; the private bankers, too, leave this to a small number of houses of the second rank, which make it their specialty to a greater or lesser extent. The reason of this is, that the direct exchange of different kinds of metallic, money or of money having no intrinsic value is only required by travelers, and for small shipments of money outside of trade operations. On the other hand, the London merchant who has to make a payment at Vienna in Austrian money, or the merchant of Odessa who wishes to exchange the money he has just received from Paris for money which will pass at Berlin, whither he is going, will not ask the banker for Austrian florins or Prussian thalers, either in coin or paper; it will be infinitely more convenient for the one to purchase bills of exchange on Vienna, and the other letters of credit to his correspondent in Berlin. The importance of this branch of banking operations, which has long been known and practiced, is being continually increased in our times by the rapid development of international and interlocal commerce; we say interlocal as well as international, because these payments by means of letters of exchange, and similar instruments of credit, are made between one locality and another in the same country, as well as between two different countries.
—This is, moreover, merely a greater extension of the system of clearings which, as we have seen, was practiced by the trapezites of Athens, and the Roman argentarii. Instead of being effected between the clients of the same bank, or merchants of the same town, clearings are effected between two different localities, or two different nations. The application of this comparison ceases, of course, when the amounts of the debts are unequal. When the merchants of Paris owe 1,000,000 francs in London, and the English merchants owe an equal sum in Paris, the exchange of these debts is easily effected through the Paris and London bankers; the two accounts will be settled simultaneously without the intervention of any money. But if Paris owes 1,200,000 francs in London, and has a credit of only 1,000,000 francs, the difference must be paid in specie. Still the bank may find in the arbitration of exchange the means of avoiding this primitive and onerous mode of payment. Suppose Paris has 600,000 francs due it at Brussels, and owes there only 500,000 francs, the difference of 100,000 francs in favor of Paris in Brussels, will be forwarded direct to London there to pay the French indebtedness of an equal sum. The accounts of Paris with London on the one hand, and with Brussels on the other, will thus both be paid without any direct payment, simply by banking operations. It is plain that these transfers or clearings may be effected not only between three, but between any number of places and countries, and afford an opportunity for a number of most varied and complicated combinations. But the ablest combinations can not always obviate the necessity of payments in specie; at one time the total amount of the different credits of a country or city does not equal the amount of its debts; at another time its debts are such as to require more or less immediate payments, (unforeseen purchases of wheat, etc.), while its credits are payable only on long time; or there may be other reasons which render the perfect balancing of its accounts impossible Commerce in the precious metals, to which recourse must be had to supply the necessary complement in specie, will, therefore, long preserve an important place in banking operations.
—The general advantages of this intervention of the banker are manifest. It saves commerce the costly and hazardous transportation of the precious metals; it increases the facility and rapidity of transactions; it allows of an incalculable saving in the employment of specie. The bank finds in this intervention, over and above its commission, an abundant source of profit, especially by combinations of exchange and arbitrage. But whatever may be the extent of operations of this kind, they are nothing when compared to the far greater importance of operations of credit properly so called. Discount is their most faithful expression; hence it tends to monopolize the activity of public banks. In a business of 6,557 million francs, done by the bank of France in 1861, no less than 5,329 millions were discounts. To discount is to buy credits; they are bought either to sell them again, as is the common custom with private bankers, or to hold them until they mature, as public banks should do. We can scarcely imagine a brisk state of trade in our day without discount; discount alone tenders possible that uninterrupted activity of production, circulation and consumption which constitutes the prosperity of our time We shall now define, in a few words, the nature and end of discount: it is to-day the corner-stone of banking operations.
—The cloth manufacturer has just sold 50,000 francs' worth of cloth to a merchant tailor. The making and sale of the clothes to be made from this cloth, will require at least three months; the draper will be able to pay the cost of this cloth after he has disposed of his merchandise; this he binds himself to do in writing. But the manufacturer can not wait; unless he gets the money for his merchandise, he will not be able to procure a fresh supply of raw material, nor pay his workmen; his manufacturing establishment must lie idle for a time. What is he to do? He sells to the banker, with his own guarantee in case of non-payment, the draper's note; the banker pays him the amount of the note less the interest on the money from the time of discounting to the maturing of the note. Sometimes this note will not come to be discounted until it has served to pay several debts; the cloth manufacturer may make use of the draper's note to pay his own indebtedness to the wool-merchant, who may use it to pay the sheep raiser, and so on until it comes into the hands of some indorser who needs to have it cashed. The more a note has been used, that is, the more numerous the indorsements are, the solvency of the indorsers being presumed, the greater security it offers to the discounter, who gives his money, in the belief that the maker, and in case of need the indorser, of the note will be willing and able to pay it when it matures. The value of the signatures must therefore be examined carefully; the discounter would run the risk of losing his money, if he were to be too easy, and discounted notes whose maker and indorser have not the will or the means to pay. Thus, public banks, not being in a position to know the solvency and honesty of all the commercial signatures which might be presented at their discount window, require a third signature of a house which they know. This obliges small merchants to have recourse to a private banker to furnish this third signature: he discounts the note, to rediscount it at the bank; in other words, he buys the credit to sell it at a profit, disposing of it at a smaller deduction for interest than he imposed on the party from whom he took the bill. This severity which renders discounting more difficult and more costly for mediocre and small merchants, is made a subject of complaint by them; but it is hardly possible for the great central banks to act otherwise. The multiplicity of small banks could alone render the advantages of direct discount possible to every solvent and honest man.
—Apart from the personal guarantees of the maker and indorser, commercial paper is to a certain extent its own guarantee; it is based on something real. The cloth which the draper bought will be resold in the form of clothes, and the cost of the cloth, advanced by the discounter, can certainly be paid back. But the note presented for discounting may also be based upon a hazardous transaction, the returns from which are less certain; it may even rest upon no serious transaction at all, and be but an accommodation note made for the purpose of procuring on credit, by means of discounting, a certain amount of money. The making of accommodation notes was carried to its furthest limit previous to 1857, especially in London and northern Germany, and contributed to aggravate the crisis of that year. The bank, which, either through carelessness or a desire to do business at any price, would discount great numbers of these accommodation notes, or notes growing out of venturesome transactions, would expose itself to great risks, without rendering any important service to the general interest. The more it is to be desired that facility of discount should benefit honest and serious transactions, the more should we regret to see the resources of credit turned from their purpose to favor any speculations, or projects whose lack of solidity is not perhaps their greatest defect.
—Does this mean, as routine rigorism pretends, that discounting is the only form under which public banks should distribute commercial credit? This is not our opinion. The mechanic or the clerk, who wishes to start in business for himself, may need an advance, just as well as the manufacturer or merchant, who wishes to continue his business, after he has sold on credit a part of his products or merchandise; the advance made to the mechanic or clerk, on nothing but his note, is for them and from the point of view of the general interest, just as fruitful as the advance made to the manufacturer or merchant by way of discount. It may also happen that the cloth manufacturer, after selling 50,000 francs' worth of merchandise, needs 100,000 francs to enlarge his business, or to profit by an excellent opportunity of purchasing raw material. In a word, there are a great many cases in which a credit based upon future operations, and not upon operations already over, render very effectual service to individuals and to the business community. Entire classes of manufacturers and merchants, and certainly not the least important, can, by this means alone, share in the advantages of the credit which the public banks are supposed to distribute to all. And, in fact, to the cash credit, so largely granted by the Scotch banks and their numerous branches, must be accorded a fair share of the benefits which these institutions render their country. The great continental banks do not ordinarily grant open credits except to those who make large demands for discount. They give as much open credit as they can to those who are rich, and as little as possible to those who are not. But are they free to do otherwise? Open credit, which is entirely personal, can not, in fact, be given but by local banks, which know or can know their clients thoroughly. Such, for instance, are the popular banks, or banks-of-advance (Volks, or Vorschuss-Banken) which have recently become very numerous in Germany.
—It is also the upper classes—financiers, and those engaged in large commercial operations—who, in the present state of things, profit almost exclusively by the other forms of credit given by the public banks; we refer specially to advances on government securities. These advances, which are ordinarily made for a short time, afford the bank a good investment for capital momentarily idle; the merchant or the manufacturer may, in an unforeseen emergency, avoid, in this way, the losses attendant on hasty and expensive sales. It is none the less true that, as a general thing, these advances are oftener made to aid financial speculation than legitimate commerce. It is perfectly clear, likewise, that, whatever their object may be, they do not properly constitute credit transactions, unless monts de piété are also to be reckoned among the establishments of credit, which, for our part, we would hardly allow. Credit and pawning exclude each other, for one implies confidence, the other the very reverse. In making advances on bullion, stocks, or public and other securities, the bank makes of itself a financial pawn shop. We do not deny that this service may be of very great utility; but it does not come within the province of the bank. Another reason which still more strongly dissuades from these advances, or at least counsels their restriction within very narrow limits, is the supreme duty of every bank to have its assets in such a condition that they may be easily and promptly realized on.
—By accounts current the bank becomes the cashier of its clients. The greater the number of these clients, the more time and money are saved by the intervention of the bank, especially by its diminishing the amount of money used in consequence of payments made by transfers on its books. This constant influx and efflux of deposits and payments to be made for a large number of houses, always leave considerable sums at the disposal of the bank. With its knowledge of the customs of the place, of the nature and condition of the business of its depositors, the bank will know exactly what class of deposits and what amount of capital must be kept at the immediate disposal of their owners at each moment throughout the year, and what amount of capital it may dispose of for a longer or shorter period of time: this latter amount it will make use of in discounting and making advances and loans. How signal, therefore, is the service which the system of accounts current renders the business world! It concentrates and fuses together sums more or less important which, scattered in small portions through the country, would remain for the time being, unproductive in the different business houses; the bank, by uniting them, makes of them capital, which will supply the demand of the market, and increase labor, which will, in a word, form one of the principal means of operation in the credit system.
—Thus, the tendency of the system of accounts current is to keep even the smallest amount of capital from remaining unemployed for an instant. But banks have also to draw into the channels of trade all capital. Small merchants, farmers or manufacturers realize every year profits to the amount of some hundreds of dollars, for which they have no use in their business; a property owner takes advantage of a good opportunity to sell his house and wishes to await a good chance of re-investing the money realized. In all these cases, and other similar ones, banks attract these amounts to themselves and restore them to circulation.
—In Great Britain (in Scotland especially) and in America, the system of deposits has obtained a great development; every one endeavors to keep on hand as little idle money as possible; the smallest sums are deposited in bank, where they together form large sums, and serve to increase business activity. This is the principal reason of the facility with which capital can be obtained in England, and the comparative cheapness of money there. On the continent, and especially in France, the system of deposits is still in its infancy. The amount of capital which is thus kept out of circulation, to the great prejudice of its owners and of the business community, is almost incalculable. Considerations of greater safety or convenience may indeed determine this or that holder of money to deposit it in bank; but these are isolated cases. In order that the bank may act in a general, powerful and continuous manner, in order that it may attract to itself all idle capital, and be able to put it into circulation again, deposits must be rendered as easy and attractive as possible. easy, by putting the bank which receives the deposits within everybody's reach, by a system of local banks; attractive, by the direct advantage which the depositor receives from it, which can consist in nothing else than the inducement of interest. It must be borne in mind that the industrial and commercial movement of great cities leaves but little capital idle; it is in the country that those innumerable small sums of money are to be found, which it would be well to convert into capital.
—We have said that the bank is and should be merely the intermediary between the supply and the demand of capital. But it fills this office only partly, so long as it confines itself to acting the role of a broker and investor for others, so far as the patent supply, that is, the direct supply of capital is concerned, of the capital which is offered in the general market as any other merchandise is offered. The bank, in such case, does on a larger scale, it is true, just what the Athenian trapezite did. Is this all that the bank should do? Certainly not; the modern bank, in order to enlarge its sphere of action, and the better to fulfill the rôle of intermediary, can and must aim at something higher; it should bring face to face with demand not only the real and direct supply, the soliciting supply, but also the virtual or latent supply, the possible supply, for instance, of the one thousand francs which the French peasant hides away until the day when he may be able to buy with it a small piece of land. Then the bank should not limit itself to furnishing investments for capital seeking investment (real supply), or which might seek investment (virtual supply); its intermediation should provoke the creation of the supply of capital, by giving life to dead sums of money, by drawing them into circulation, and causing all money to become capital The system of deposits, when largely developed, is called upon to work these wonders. It undoubtedly has its inconveniences. In attracting money by the inducement of a higher or lower rate of interest, the bank may come to have an embarras de richesses, and may have, at times, more capital to supply than there is a demand for. This inconvenience reaches its climax in that strange clause which obliges the state bank of St. Petersburg to receive on interest all deposits brought to it—a clause evidently based on an utter misconception of the very essence of institutions of credit. On the other hand, a bank exposes itself and its patrons to great danger, when, in order to do business and to do a large business, it attracts deposits by the bait of too high a rate of interest. Being obliged to make a profit by obtaining a higher rate than it pays, it will be tempted to invest its deposits in hazardous enterprises, in which the borrower does not stop to consider the price he pays for the use of money. What must be the result? On the happening of the least perturbation in the economic situation, a great many deposits will be demanded, and the bank, unable to call them in promptly enough, will find it impossible to satisfy its creditors. This has happened frequently in the United States, and this imprudence of American banks has contributed, far more than the pretended excess of their issues of bank bills, to the embarrassment which they have so often experienced and caused. These mistakes do not, however, prove anything against the principle of deposits itself. A bank that is wisely administered will always be able, by timely varying the rate of interest which it pays and which it receives, as well as by the choice of its investments, so to arrange it that it will not be embarrassed either by the too great supply or by the withdrawal of deposits. Besides, how can it meet the uninterrupted want of new capital unless it aid in the formation of that capital, and hasten its entry into circulation?
—The banks of issue rather evade than solve this problem by the aid of their notes. Discounting is the ordinary way in which the bank note enters into circulation. To discount is, as we already know, to buy credits. The capitalist A, or the banker B, who has $50,000 at his disposal, purchases with this money C's credit, because C can not await the maturing of the bill of exchange, signed by his debtor D. If the bank confined itself within the same limits as A or B, it would not be able to discount more than the amount of its own capital and the sums received from accounts current and deposits. In order to do more than this, it does not pay for the credit which it buys; it merely gives its notes. It is as if it transformed into money the title which represents it. Suppose that D, instead of giving C one single draft for $1,000, had given him five of his own notes for $100 each, and ten for $50; or suppose that C substitutes his own personal notes of $50 and $100 for D's draft, and that the good credit which C or D. enjoys causes his notes to be accepted throughout the business community, in this case C will use them in making all his purchases, and in paying all his debts; he will have no need of selling the credit. What C was not able to do the bank does, by discounting the draft for $1.000: it becomes D's creditor in the place of C, but it constitutes itself the debtor, in the place of D (and of C, who indorsed the draft), in relation to those whom C will pay with the product of his sale made to D. Here, again, the bank fills the office of an intermediary: it borrows of the public, who accept its notes, to lend to C (the bank debtor to the public for the amount of its notes); it becomes D's creditor by putting itself in his place, and debtor to those who will accept its notes for D's draft. The money of the bank will be more readily accepted than D's draft. First because its notes of small denomination afford greater facility for circulation and in every-day trade; likewise because being bank notes payable at sight and to the bearer, immediate payment of them may be demanded, though, in reality, scarcely one of these notes will be redeemed before the maturing of D's draft, for which they were substituted; finally, and above all, because the solvency of the bank seems surer to every one than that of any private individual, no matter who, because this solvency is based on and guaranteed by the collective solvency of all the debtors whose discounted paper it holds, and of all the creditors who have indorsed this paper.
—The confidence a bank deserves and will obtain depends upon its management. When it discounts with discretion and prudence, when it is assured of always being paid by the debtors for whom it has substituted itself in the eyes of the public, it will be looked upon as good. Its notes will circulate without trouble: the discounted paper which it holds being sure, the bank notes, which are only money representing that paper, will appear equally sure. If, on the contrary, it be suspected that there is carelessness in the management of the bank, and a willingness to do business at any cost and to buy (to discount) doubtful credits, there will be hesitation to accept its notes; they will flow back to its counters for payment, that is, to be exchanged for specie. This is all elementary. But if credits, which are only doubtful, render the bank a suspected debtor, what credit does it deserve when it places its money in irrecoverable credits, such, for instance, as loans made to a state which will not or can not repay? Transactions of this kind necessarily make the bank the very worst of debtors; its notes, henceforth, deserve no credit at all. It is manifest, in like manner, that to wish to make this credit compulsory, that is to say, to compel the acceptance of its notes, is the most signal violence, based on the grossest misconception of the very nature of the bank note. C can not satisfy his debtors with D's draft, because they are not sufficiently informed or assured of D's solvency; and can they be compelled to accept the notes of a debtor (the bank) recognized and openly proclaimed insolvent? A bill of exchange can not circulate because the time of its maturity is remote, and because every one can not judge of the value of the signature to it; and can you substitute for it, by discounting, paper with no date of maturity and signed by a bankrupt? Better a thousand times, both in law and logic, give compulsory circulation to, or make legal tender of, all bills of exchange up to the time of maturity!
—From what we have already said of the nature and primary object of bank notes, it is manifest how little foundation there is for the theory which would make the issue of bank notes a privilege of the state, a right belonging to it alone, and which it might delegate at will. Why should not the bank also be as free as any one else to sign obligations, and give them to any who will accept them? As long as the confidence of people and the good will of those who receive them alone determine the acceptance or non-acceptance of the bank notes, what has the state to do with these transactions between debtors and creditors? It is useless to protect the creditor against the debtor, the public against the bank; suffice it for the state that it do not protect the insolvent debtor, the debtor in bad faith, against his creditor. As long as the bank is bound to honor its obligations just as any other debtor, and redeems its notes in specie upon presentation, the public will be able to determine its solidity, and consequently measure its credit. An excessive issue of notes will cause these notes to flow back into the bank and thus correct itself. Moreover, the history of the bank of England from 1797 to 1821, of the bank of France in 1848, and of the bank of Austria for a series of years, proves clearly enough that a more or less absolute monopoly of the issue of bank notes, and a more or less rigorous surveillance on the part of the state, do not offer the public more effectual guarantees than free banking affords them against the disastrous consequences of a shaking of public confidence. The better to secure the easy circulation of its notes, the bank may, in its charter or in its practice, impose upon itself certain conditions and limitations calculated to strengthen the confidence of the public, by proving to them that the bank is always in a condition to honor its signature; these measures of safety will relate to the proportion to be preserved between the actual capital of the bank and the demands that may be made upon it at any time, to the proportion between the amount of its issues and the amount of specie in its vaults, or it may relate to the limitation of the time of the maturity of the paper which it discounts, or to other points which study or experience may suggest. The law has only to watch over the execution of the contracts made by the bank; in doing this, it will have done all it can do, to give to the circulation of its paper all reasonable facility and security.
—It can not, however, be denied that, in practice, a multiplicity of different kinds of bank notes would have more than one inconvenience. These inconveniences must be felt the more, in proportion as the bank note obtains a more extended circulation, that is to say, as it penetrates into places in which there are no means of judging of the solvency of the debtor (the bank), and the degree of confidence its notes deserve. Besides, at a time when men are endeavoring to facilitate exchange by the simplification and unification of coin money, a diversity of kinds of bank notes would perhaps be a step backward. But it is hardly an established fact, that the issue of bank notes is an essential attribute, an indispensable wheel in the mechanism of banks. In proportion as these institutions shall develop the system of accounts current and of deposits, and the use of checks, the want of bank notes must necessarily diminish. Do we not find evident proof of this in the stability maintained by the bank of England for the past forty years, despite the doubling and trebling of the amount of general business; and in the operations of the London Clearing House, where, with some odd thousands of pounds, credit transactions amounting to more than a hundred times the amount are transacted every day; as well as in the fact that the Irish and Scotch banks, which were limited as to the amount of their issue by the laws of 1844 and 1845, still remain within that limit? We can to-day look forward to the time when, in countries advanced in civilization and commerce, the bank note will be merely a more convenient mode of exchange than coin money, and will have ceased to be regarded as an instrument of credit, whose distribution is intrusted to the banks, or, rather, in the distribution of which the banks are to serve as intermediaries. Whether the office of supplying this want of circulation be intrusted to one establishment or many, is but a secondary question. If entire liberty be otherwise allowed to the spirit of initiative and of association in banking operations, banks will be able to render the business community all the benefits which it has a right to expect from them. But this is a goal from which we are yet very far removed.
—Let us now examine; from a political standpoint, the relations of governments to banks. We must state, in the first place, that close relations exist in almost all great states between the government and the principal bank or the banks of the country, and we are rather inclined to consider as necessary a fact which steadily repeats itself. But we can not admit that whatever exists is necessary. History tells us that the relations between states and banks were entered into, almost everywhere, in consequence of special events which obliged governments to procure money as soon as possible, and that money was obtained through the agency of the bank. Unfortunately, in such cases, governments did not trouble themselves concerning the ulterior effects of this step. Resulting inconveniences did not fail to appear. They were inevitable. One of these inconveniences was compulsory circulation or the legal tender character of the notes of the bank, and, as a frequent consequence, the issue of paper money, the value of which was so variable (see
—It is not necessary to say that the banks on the one hand, and commerce and industry on the other, suffered in consequence of the relations established between the state and the banks. The history of the banks of Venice, Stockholm, Berlin, Amsterdam, Vienna, Lisbon, and St. Petersburg, and that of England, bears witness to these inconveniences.
—Nor do we know whether the other relation between the state and the bank, which consists in charging the latter with the collection of the taxes, is very useful to a country. It is not certain that a reduction of the cost of collection of the taxes is thus obtained; competent men have questioned it. But if there is economy in thus collecting the taxes, should it be purchased at any price? Too close relations between the state and the bank would result in the accumulation, in one single reservoir, of the whole metallic stock of the country, and the least crisis would be felt there more severely than elsewhere. We should not bring together things which should remain separate. In any case care should be taken to avoid entangling political and economic questions, the financial interests of the state and the interests of commerce. This is perhaps one of the strongest reasons in favor of the liberty, and, above all, of the multiplicity of banks.
J. E. HORN.
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