§ 3. National Banking Associations, 1863-1913. No further step was taken in federal legislation until 1863, when, in the midst of the Civil War, local "national banking asso ciations" were chartered. The purpose was in part. to pro vide banks under national charters for banking purposes (both of deposit and of issue), and in part it was to make a wider market for United States bonds at a time when govern ment credit was at low ebb. The plan adopted followed the experience of New York state (from 1829 on) with a system of bond-secured banknotes. Congress provided that every bank taking out a national charter must purchase bonds of the United States and deposit them with the Treasurer of the United States, in return for which it would receive bank notes to the amount of 90 per cent of the denomination or of the market value of the bonds, whichever was the smaller. (In 1900 this was changed so that notes could be issued to the full amount of the denomination of the bonds.) Notes of failed banks or of banks that go out of business are re deemed from the guaranty fund held at Washington and from the proceeds of the sale of the bonds. Bank-notes issued on this plan, being secured by the bonds and a redemption fund, rest ultimately on the credit of the government, not on the credit of the bank. They are not promptly sent back for redemption to the banks issuing them, as should be done if they were typical bank-notes. They may circulate thousands of miles away from the bank that issued them, and for years after the bank has gone out of business. They are perfectly safe for the holder, but are not an "elastic cur rency," increasing or diminishing with the needs of business. The changes in their amount depend upon the chance of the banks to make more or Tess in this way than by any other use of their capital, and this in turn depends largely on the price of bonds and on the rate of interest they bear. From 1864 to 1870 fortunes were made from this source, but there after banks could make little more from note issues than they could by investing the same amount in other ways. Many banks for a long period did not avail themselves in the least of their privilege of issue. The notes were subject to a A national bank (as the law now stands) may be organized, with $25,000 capital in towns not exceeding three thousand population, with $50,000 in towns not exceeding six thou sand, with $100,000 in cities not exceeding fifty thousand, and with $200,000 in large cities. Three cities, New York, Chicago, and St. Louis, have long been designated as central reserve cities, and some forty-seven other cities as reserve cities, in which the reserves of banks have always been re quired to bear a considerably larger proportion to their de posits than in other Other banks might, until 1914, count as part of their legal reserves their deposits in reserve 1 In recent years that has been one half of 1 per cent when 2 per cent bonds and 1 per cent when bonds bearing a higher interest were deposited.
2 In reserve cities 25 per cent and in other cities 15 per cent. The details of the regulations in the old law (given in part below, I 7) were all altered by the legislation of 1913, effective late in 1914.
city banks, up to a certain proportion. The national banks in the larger cities thus became the great capital reservoirs of cash for the whole country.
National banks have been subject to stricter inspection than have been the banks in most of the states, a fact that has strengthened public confidence in their stability. Except in
this and the other respects above mentioned, a national char ter offered few, if any, attractions to small banks, a majority of which have found it more advantageous to operate under state charters because of less stringent regulations as to amount of capital, reserves, and supervision.
§ 4. Defects of our banking organization before 1913. Taken altogether, the national banks in the United States between 1863 and 1913 represented great banking power and very efficient service for the community in times of normal business, as with few exceptions did also the state banks. But in several respects it long ago became apparent that our banks were operating less satisfactorily than those of several other countries. American banking organization had failed to keep pace with the increasing magnitude and diffi culty of its task. Especially at the recurring periods of financial stress, such as those of 1873, 1893, 1903, and 1907, our banking machinery showed itself to be wofully unequal to the strain put upon it. Financial panics were more acute here than in any other land, and this fact clearly was trace able in large part to defects in the banking situation. In academic teaching and in public conferences of bankers, busi ness men, publicists, and students, the subject was continually discussed after 1890. At length Congress in 1908 created a "National Monetary Commission" to inquire into and report what changes were necessary and desirable in the monetary system of the United States or in the laws relative to bank ing and currency. After the most extended inquiry and dis cussion that the subject had ever received, the commission submitted its report in January, 1912. The defects to be remedied, as enumerated in the reports may be reduced to the following five headings: (a) Lack of system. (b) In elasticity of credit. (c) Periodic local congestion of funds.
(d) Unequal territorial distribution of banking facilities.
(e) Lack of provision for foreign banking.
§5. Lack of system. Only in a loose sense could the banks of the United States be said (before 1914) to constitute a system at all. Both national and state laws dealt with indi vidual banks only. It was not legal for a bank to establish branches in another city, as is done in most countries. The several national banks in one city were legally quite separate. It was only by voluntary agreement that in some of the larger cities they came together into clearing-house associations. They made possible some measure of cooperation which, small as it was, proved at times of stress to be of much service within a limited sphere for the local communities. But even with the aid of these organizations the banks were unable in times of emergency to avoid the suspension of cash payments.
There was no provision whatever for the concentration of bank revenues so that each bank would be supported by the strength of the other banks if a movement began to withdraw deposits in unusual amounts. Each bank then was compelled for self-protection to call for any sums it had deposited with other banks,' and to keep for its own use all the reserves it might have in excess of its own immediate needs. This threw a great strain upon the banks in the reserve 'cities, which in normal times had become the depositories of a good part of the reserves of the banks in other places. Thus de veloped a spirit of panic, like the fright of theater-goers crowding toward the door at the cry of fire.