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take place. Payment for subscriptions to the capital of the Reserve Association-10 per cent of their own capital-will reduce somewhat the reserves of the other banks. If all the national banks subscribe, something like $100,000,000 will be secured in this way, and assuming that the banks are then working close to reserve requirements some slight amount of contraction may prove necessary. The Government balance is to provide a portion of its funds but much the larger part will come from the deposits of other banks. At the outset these deposits will be built up almost entirely by the transfer to it of their cash reserves by the other banks. The deposited portion of the reserves of country and reserve-city banks are fairly certain to remain where they are in order to earn the interest paid for such balances. As the Reserve Association is very properly forbidden to pay interest on deposits, no appreciable change in these accounts is to be expected. It will thus be seen that practically all of the loans to be made by the Reserve Association will be a net addition to the available supply of credit. But the effect of these loans will be far greater than that of a similar amount of loans granted by an ordinary bank. Deposits with the Reserve Association will become the reserves of the other banks. At present including both cash and deposits with reserve agents the banks hold a reserve of about one fifth of their deposit liabilities. It follows that, in so far as loans by the Reserve Association increase the balances of the other banks with it, they will become a basis for loans by the other banks to something like five times their amount. This expansive effect applies only to that part of the loans made by the Reserve Association regularly to any particular bank or in any particular section of the country. It suggests the conclusion that the resources of the Reserve Association should be used principally, if not entirely, to enable the banks to meet temporary requirements and not to provide them with a modicum of constant accommodation.

It is, however, most doubtful whether the resources of the Bank proposed by Senator Aldrich would be adequate even for this purpose. Far from tending toward any considerable amount of credit expansion it may prove that its resources will be so limited that practically all of them will be held in reserve to meet emergencies. The Bank can hardly count upon a paid-up capital of more than $125,000,000. The capital is to be provided by the other banks, each being permitted to subscribe to the amount

of 20 per cent of its capital, one half of which is to be paid in. On the basis of the existing capitalization of the national banks and assuming that all of them subscribe, almost exactly $100,000,000 would be secured. Of course many state institutions may be converted into national banks but this change will doubtless take place very gradually; and, on the other hand, it is not at all certain that all the national banks will subscribe. A paid-in capital of $125,000,000 would seem to be a liberal estimate for the first years of the Reserve Association. From the Government, taking the present Treasury balance as a basis, the Bank would receive about $100,000,000. The only other possible source of funds is the deposits of other banks. Assuming that the deposited portion of the reserves of the banks remains with reserve agents, and assuming also that the banks transfer all their cash reserves except 5 per cent of their deposit liabilities retained as till money, and further deducting the $100,000,000 paid in as capital there remain almost exactly $400,000,000, which might be deposited in the Reserve Association by the national banks. Further funds would doubtless come from state institutions entering the national system. But at the outset it would hardly seem prudent to count upon securing as much as $400,000,000 from the existing national banks. Many cautious bankers and others at a distance from any branch of the Reserve Association will be altogether likely to retain in their own vaults a cash reserve of more than 5 per cent against their deposits. Assuming further that the national banks take advantage of the provision in the bill regarding the relinquishment of their circulation in order to relieve themselves without loss of their holdings of Government bonds, the condition of the Reserve Association may be judged from the following statement:

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Ratio of reserve to demand liabilities, 50 per cent.

A reserve of 50 per cent is certainly no more than should normally be held by a bank with the heavy responsibilities which

will rest upon the proposed Reserve Association. Even if the estimate of the amount of bankers' deposits is too low the situation is bettered but slightly since any further increase in such deposits would only permit of an equivalent increase in loans so long as the 50 per cent ratio was maintained. Thus, if bankers' deposits should at the outset prove to be $500,000,000 rather than $400,000,000, making the cash reserve $700,000,000, loans to the amount of $100,000,000, whether in the form of notes or in deposits would bring down the reserve ratio to the 50 per cent level.

However strongly one may be convinced that the lending activities of the Reserve Association should ordinarily be of very moderate proportions it would seem clear that bankers' balances alone will not provide adequate resources. One further means of securing additional funds remains for consideration. Gold certificates to the amount of about $900,000,000 are in circulation and as security for them an equivalent amount of gold is held in the Treasury. Doubtless a considerable part of the cash received by the Bank in subscriptions to its shares and in deposits by other banks will be in gold certificates, but much more than half of the existing issue will still remain in circulation. Many of these certificates would be received by the Bank in the ordinary course of payments to it. If we may assume that the practice is steadily followed of retaining the certificates or their gold equivalent, thus adding to the reserve, and if payments whenever acceptable are met in additional notes issued by the Bank, in no short time its reserve would be greatly enlarged. It would gradually strengthen the foundation for its lending operations. Suppose that $300,000,000 of gold certificates were handled in this fashion. The reserve would then stand at $900,000,000 while demand liabilities would have increased to $1,500,000,000 giving a reserve ratio of 60 per cent. But the measure proposed by Senator Aldrich contains one serious obstacle to the adoption of this policy. All notes issued beyond the amount of the existing circulation of the national banks are to be heavily taxed. Upon the first $100,000,000 there is to be a tax of 3 per cent which is to be increased by 1 per cent for each additional $100,000,000 and all issues in excess of $300,000,000 are to be taxed at the rate of 6 per cent. If the note issues of the Bank could be differentiated so that only those which were a net increase in the total amount of money in the country were subjected to a pro

gressive tax no serious objection could be made to the arrangement. But this differentiation has not been attempted. A progressive tax upon the notes, increasing as the reserve ratio to demand liabilities declines, would seem to be a far more effective means of accomplishing the apparent purpose of the author of the measure. Such a provision would not prevent the Bank from taking advantage of the preference of the people for a paper circulating medium by substituting its own notes for gold certificates and thus increasing its specie reserve.

Perhaps the most troublesome obstacle which the bill will encounter on its passage is the opposition of state banks and trust companies. It is desirable that the services of the Reserve Association should be available for them, but on the other hand it is important that the banking system should be more unified than at present. Attractions are held out to state institutions to induce them to enter the national system and at the same time that system is made more serviceable through an extension of the range of operations open to the national banks. In addition to the services provided by the Reserve Association Senator Aldrich's plan contains provisions which will permit national banks to engage in trust company operations proper and also empowers them to establish separate savings departments, the funds of which may be invested in mortgage securities. In other words, virtually all kinds of business now carried on by state banks can in the future be carried on by national banks. Moreover the banks are authorized to accept a limited amount of commercial paper drawn upon them, a power which it is believed is not granted by any of the states.

These various inducements will probably attract many state banking institutions into the national system, but there remains an obstacle which will be regarded as very serious by a considerable number of banks including most of those whose business is of considerable magnitude. The reserve requirements of the national law are somewhat more onerous than those of the several states, though in the case of the country banks the difference is now much less than formerly. Entrance into the national system would not in general prove particularly burdensome except for state institutions carrying on business in reserve and central reserve cities. Much may be said for a change in the present reserve requirements merely as a means of securing a more exact relationship between the reserve ratio and the character of the

deposit liabilities and responsibilities of the existing national banks. No bank which holds large bankers' deposits should be permitted to keep its own reserve anywhere except in its own vaults or in a central bank whose primary function is to safeguard the entire credit structure. Reserve requirements should vary with the character of the business of the different banks and not be determined by their geographical situation. Banks should be permitted to qualify as reserve agents in any part of the country upon condition that they hold a reserve of 25 per cent either in their own vaults or with the Reserve Association. Banks confining themselves to a purely local business, wherever situated, should not be required to carry more than the reserve imposed on country banks.1 If this modification were made in the present law state banks and trust companies, in Chicago for example, could qualify either as local banks or as reserve agents, and as their business is now chiefly of a local nature they would doubtless not enter into competition with banks occupying the wider field. Further, national banks in Chicago whose business is purely local would be relieved of an unnecessarily heavy burden.

With this change in reserve requirements, together with the other changes for which provision has already been made in the Aldrich plan, the opposition of state banking institutions to the proposal would be greatly diminished and there would be a reasonable prospect that all except those trust companies which carry on little or no banking business would enter the national system. In most of the states it would probably be necessary to secure legislative authority to enable national trust companies to act as trustees in certain matters, in particular in those under the jurisdiction of probate courts. To many of the companies, however, the trust department is of comparatively little importance and most of them would probably find it to their advantage to sacrifice some few of its functions if that should prove necessary in order to take advantage of the improved banking arrangements provided under the remodeled national law.

Harvard University.


1 For a more detailed discussion of this proposal see my Banking Reform in the United States, pp. 88-100.

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