XXV. THE GERMAN BANKING SYSTEM…

XXV. THE GERMAN BANKING SYSTEM

BANKING ARRANGEMENTS IN GERMANY

[184]Various systems can be adopted in the banking profession for the transaction of business. The most lucrative method, at all events the one in which the power of large capital is most effectively turned to account, is that of the Rothschild firms, whose example was followed by many large private concerns at home and abroad. These firms avoid troublesome current business, maintain only a few connections, and concentrate their whole energies on isolated but important ventures and undertakings in which, owing to the large amount of means immediately required, no competition worth mentioning existed before the growth of capable joint-stock banks. Up to the middle of last century these firms actually possessed a monopoly so far as the loan issues of most European States were concerned, and they earned enormous profits according to present-day ideas. In the course of the last decades, however, this monopoly has been done away with so far as European States are concerned and only prevails to a limited extent in some foreign countries. Since that time the Rothschilds have devoted themselves to several large industrial enterprises, such as the Russian naphtha industry, the Spanish copper and quicksilver mines, etc.

Another system consists in the division of work and specialisation, customary in England, but which has been frequently abandoned of late. In England the issuing and syndicate business is carried on by special houses which, like Rothschild, do not call themselves bankers, but merchants. Brokers and jobbers carry on stock broking on the stock exchange and in the open market, the former (theoretically at least) on account of third persons and the latter on their own account. It is the exclusive business of other firms to place credit at the disposal of home and foreign firms by giving acceptance to bills. These firms, strange to say, are mostly of German origin (Fruehling & Goschen, Frederik Huth & Co., Kleinwort & Sons, etc.), and carry on business in such a reliable manner that they are allowed to enter into bill obligations amounting to more than five times their estimated means. The clearing and deposit banks manage moneys on account of third parties.

It must be noted that the division of labour and its operation are based on free business practice in England without any legal compulsion. Consequently, no opposition is offered in that country to the different methods of carrying on business employed by the so-called foreign banks, i. e., the numerous branches of continental banks, including the branch offices of the Deutsche Bank, the Dresdner Bank, and the Disconto-Gesellschaft, despite the fact that their competition is unpleasant for the English institutions. In Germany, in consequence of business requirements and also of the small amount of capital in the country at the beginning of its modern economic development, the peculiar system has developed that credit banks combine all kinds of financial business (generally with the sole exception of mortgage-credit transactions), so that every customer can settle all his financial affairs in one spot on comparatively the cheapest terms possible.

Account-current transactions form the fundamental branch of business. The bank undertakes all the financial business of its client in return for a moderate commission on the turnover calculated on that side of the account which happens to be the greater, makes and receives payments, collects bills, checks, and other documents, and pays, or charges, interest on the balance, generally at 1 per cent. below the Reichsbank discount rate for credit balances and 1 per cent. above the Reichsbank discount rate for balances debited. The bank discounts the bills received by its customers, special arrangements being made as to the limit of the amount and terms, according to the quality of the bill, i. e., according to the trustworthiness of the other persons figuring on it. Should a customer require foreign bills to settle his liabilities abroad, i. e., checks or bills payable in the country concerned, the bank provides them from its own stock or draws bills or checks to the amount desired on its agents or correspondents in the country in question.

Should the debit balance not be a merely temporary one, or one soon covered by fresh receipts, the granting of special credit is necessary, and arrangements have to be made as to the amount and conditions of the same. Such credit is either covered or uncovered credit. The cover consists principally of current securities with a margin against fluctuations according to the nature of the security, and which is higher for shares than for securities bearing a fixed rate of interest. Uncovered credit is only granted in exceptional cases to others than business men--as a rule only to first-class mercantile firms of repute, whose affairs are in strict order.

Bankers and other firms with large cash transactions keep a so-called "cheque" account at their bank in addition to the chief account, in which no debit balances may occur; no interest is paid on the amount deposited, which is always kept in suitable proportion to the payments made, but, on the other hand, no turnover commission is charged.

Those customers are appreciated most who claim credit during their buying seasons, but who not only pay back the borrowed money during their selling season, but who have balances to their credit. This is the case with a great number of commercial firms and in many branches of industry, more especially in Berlin. The seasons in different branches occurring at different times of the year, it follows that a large bank, with branches and connections in all industrial parts of Germany, has the advantage of a suitable distribution of accounts among all branches of trade, etc., and the best possible adjustment of its debit and credit arrangements.

The debtors in a bank's balance sheet comprise not only those who have received advances of ready money but also those to whom the bank has granted credit by bill acceptance; the bill drawn by the debtor and accepted by the bank is discounted elsewhere. It is the duty of the drawer of the bill to cover it before it matures, and when the bill is accepted he is booked simultaneously as a debtor to the bank under the date of maturity.

Whether the general public will make an extensive use of checks is doubtful. In England the conditions necessary for check transactions exist, as every one has a banking account, and all payments to be made or received are effected through the banks. To Germans this seems very strange; a large part of the public cannot keep a banking account, and when it is in a position to do so either expects high rates of interest or keeps no permanent balances and pays no commissions. Under such circumstances there is no sense, from a business point of view, in the shoemaker, who has no banking account, accepting a check, which he has to cash, instead of ready money; for the shoemaker has to take an unprofitable walk, and the bank has to examine the check, pay and book it, and in some cases notify by letter the customer of its payment. The ingenuous idea prevails that by some cabalistic method of procedure the bank earns something by such transactions that in reality only cause irksome work.

The Reichsbank, with a creative and organising spirit, laid the foundations of the system of payments by means of transfers to, and deductions from accounts current that obtains in Germany, the so-called giro system.[185] It was in every way preordained for this creative work, for at the time of its foundation it was the only financial institution whose activities extended over the whole Empire, while in the territorially restricted and immature banking systems of those days the conditions were lacking for the development either of a giro business or of a system of payments by means of checks. In the giro system, with its splendid organisation, the Reichsbank has created an institution that has given the German system of payments its characteristic stamp, just as the apparatus of checks and clearing houses has imparted a typical character to the system of payments in other countries, like England and the United States. The giro business in Germany, however, is far from having attained the dimensions that the use of checks has in England and America.

The number of long-distance transfers is about double that of the locals. This is as it should be, as it is mainly in the matter of long-distance transfers that the giro system has the advantage over the method of payment by check. In the matter of local transfers, on the other hand, giro and check are probably about on a level with respect to the number of transactions.

To prevent themselves from being ruined by the competition of the Reichsbank, the private banks of issue[186] have been obliged to offer various inducements to their customers in the matter of the giro business. They make no demands in regard to a minimum balance, pay interest on deposits, do not oblige their customers to domicile bills drawn on them at the bank, and exact no charge from persons having no account with them who desire to have sums placed to the account of depositors (to some extent also making cash payments free to third parties who are nondepositors for account of depositors). The private banks of issue sustained a severe blow in 1900 on the occasion of the renewal of the bank laws through the provision prohibiting them from discounting bills at a lower rate than the Reichsbank whenever its rate reaches or exceeds 4 per cent. and not allowing them to go more than one-fourth of 1 per cent. below the official rate and one-eighth of 1 per cent. below whatever private rate the Reichsbank may have whenever the bank rate is below 4 per cent. These trammels imposed upon the principal business of the banks was bound to affect their giro business injuriously in spite of the efforts made to counteract the mischief by the establishment (especially in Wuerttemberg) of many new branches and agencies. These banks of issue have never had any great importance as regards the giro business, and even at the present day the volume of their transactions is relatively insignificant.

The post-check system supplements in a most effective manner the giro system of the Reichsbank in that it brings in connection with the five hundred establishments (more or less) of the Reichsbank about 39,000 post-offices and post agencies. As all the post stations are included in the post-check system, the Reichsbank's network of branches is spread out uniformly in a compact manner over the whole Empire.

The post-check system, inaugurated January 1, 1909, would more appropriately be termed the post giro system. For at bottom its purpose is to become a giro system, a system of monetary transfers by means of assignments to, and deductions from accounts current. What it is aiming at is to make it unnecessary for German letter carriers to be lugging around millions in cash every day. The money sent through the German post-office in 1907 amounted to no less than 13-1/3 billion marks. The post-check system has this in common with the giro system of the Reichsbank that it extends over the whole length and breadth of the German Empire, while the activity of all other institutions carrying on a system of giro, as well as check, payments, with the exception of the union of the Schulze-Delitzsch credit associations, is territorially or locally restricted. The giro network and that of the post-check system are connected with each other by certain channels that render it possible for payments to travel unhindered from the one system over to the other without the intervention of cash.

GENERAL SKETCH OF BANK AND CREDIT ORGANISATION IN GERMANY

[187]Germany witnessed a tremendous economic expansion during the twenty-year period 1888-1907. There occurred a considerable increase and extensive circulation of capital. This movement of capital naturally passes through the banks and is brought about by them. As collectors and distributors of capital, the banks are, so to speak, the focal points of economic life.

We are here concerned with three kinds of credit institutions--the note banks (banks of issue), the credit banks, and the land credit institutions (mortgage banks and land mortgage associations).

BANKS OF ISSUE

The present organisation of the note-bank system is based on the bank act of March 14, 1875, and the supplement to this act of June 7, 1899. Even previous to the founding of the German Empire the greater part of Germany had become united commercially through the formation of the Customs Union (Zollverein). Similar further movements toward union, however, had met with but little success in the domain of currency and with none whatever in that of banking. In the newly founded German Empire seven different monetary systems were in existence, and as all German States, with the exception of the free city of Bremen, were on a silver basis, there was above all a great want of a well regulated and adequate circulation of gold coin. The prevalence of paper circulation was felt in the most annoying manner.

Thirty-two banks had the right to issue notes, and in the absence of adequate legislation, it was found on many occasions that the notes issued were not sufficiently secured.

The first step which the Government took to improve these conditions was the act of December 4, 1871, concerning the coining of imperial gold pieces. The coinage act of July 9, 1873, which proclaimed the gold standard for the Empire, formally completed the organisation of the German currency system. It was recognised more and more that, in order to give effect to the gold standard, which for the time being existed merely on paper, and in order to regulate and supervise the entire currency circulation, the establishment of a central bank was an absolute necessity. This consideration finally led to the establishment of the German Reichsbank, which came into being on January 1, 1876, absorbing at the same time the Bank of Prussia (note bank).

The predominance of the Reichsbank over the private note banks was secured through its considerably larger capital, further through the volume of its tax-free note contingent, which exceeded considerably the amount of all the other contingents, and which subsequently was to increase still more through the accretion of the contingents of the note banks which might renounce their rights of issue.

COMMERCIAL BANKS AND THEIR RELATION TO INDUSTRY AND COMMERCE

The close relation of the so-called regular banking business to that of the floating of enterprises, the trading in and the issue of shares is typical of the organisation of the German credit-bank system. The development of the railroad system beginning about the middle of the last century, which caused a considerable demand for and circulation of capital, and the greater extension of state credit, induced the banks to turn to the flotation and issue business.

The period following the founding of the German Empire, as mentioned before, witnessed a vigorous development of German industry, especially of the mining and (beginning with the nineties) of the electrical industries, which required a continuous inflow of new capital. At the same time German foreign commerce, particularly with oversea countries, kept on steadily increasing. Under such conditions the economic policy of the banks of placing the funds entrusted to them at the service of the new development must be regarded as perfectly proper. The banks furthered this development by forming stock companies, granting long-term credit, assuming shares and bonds, placing the new industrials on the stock market and selling them to the public. There is no doubt that but for their policy of furthering the industries, the economic development of Germany would have taken considerably longer than has been the case.

In order to obtain the means for granting industrial credit and to dispose of the enormous amounts of newly created industrial securities, it was and is necessary to attract in as large a measure as possible the surplus funds of the community available for capital investments. For this purpose the joint-stock banks spread a network of deposit branches, destined to serve as reservoirs for the inflow of available funds, and at the same time as distributors for the industrial securities created. With the same end in view the large Berlin banks, either through the acquisition or exchange of stock (for permanent investment), entered into friendly alliances with the provincial banks.

It cannot be said that the banks created our industries, since the funds which are gathered by the banks in increasing volume are mainly the result of the increasing productivity of capital invested in industrial undertakings. It is true, however, that the creative power which in a comparatively short time placed German industry in its present commanding position took its origin with the men who put to practical use and in the interest of economic progress of the nation the achievements and inventions in the domain of science and technique. It is the undisputed merit of the persons at the head of the banks that they appreciated those endeavours and supported them by advancing the requisite capital, oftentimes incurring great risks for the banks. It is almost self-evident that the banks, which in carrying out their policy of furthering industry had often to assume considerable risks, have tried to secure, and in a large measure have succeeded in securing, a lasting and decisive control over industrial corporations.

Until the seventies of the last century the financial regulation of German foreign oversea trade had been almost exclusively in the hands of London banks. The establishment in 1870 of the Deutsche Bank at Berlin meant a turning point in this regard. The founders of the Deutsche Bank had recognised that there existed in the organisation of the German banking and credit system a gap which had to be filled in order to render German foreign trade independent of the English intermediary, and to secure for German commerce a firm position in the international market. It was rather difficult to carry out this programme during the early years, the more so, because Germany at that time had no gold standard and bills of exchange made out in various kinds of currency were neither known nor liked in the international market. The introduction of the gold standard in Germany in 1873 did away with these difficulties, and by establishing branches at the central points of German oversea trade (Bremen and Hamburg) and by opening an agency in London the Deutsche Bank succeeded in vigorously furthering its programme. Very much later the other Berlin joint-stock banks, especially the Disconto Gesellschaft and the Dresdner Bank, followed the example of the Deutsche Bank, and during the last years particularly the Berlin joint-stock banks have shown great energy in extending the sphere of their interests abroad.

Among the customers of the joint-stock credit banks figure chiefly members of the commercial and industrial classes, who obtain from these banks both their long- and short-term credit, and in the second place holders of medium-sized and large agricultural property, who apply to them for short-term "operation" credit. The credit demands of the members of the small-farm class and of the small independent producers are generally met by the co-operative credit societies.

LAND CREDIT INSTITUTIONS

As regards the credit on landed property there is hardly a country with an organisation as perfect as Germany. The beginning of this organisation dates back about one hundred and thirty years. The Prussian State had emerged from the storms of the Seven Years' War (1756-1763) as a recognised European power, but the sacrifices of the years of war had completely exhausted the country.

As the landed nobility was then the principal support of the State and was so regarded by the Government, it became a matter of public interest to relieve the financial distress of the landed proprietors by enabling them to pay off systematically their mortgage debts.

The efforts in this direction, in which the Prussian King, Frederick the Great, personally took an active part, led to the creation of the land-mortgage associations (Landschaften), which must be considered the first important step toward the organisation of land credit.

"Landschaften" are associations endowed with the rights of a corporation and operating under state control. Their boards of directors have the attributes of official authority. They are autonomous institutions within the limits set by the state supervision.

The Landschaften obtain the funds for the granting of credit through the issues of letters of mortgage or mortgage bonds--i. e., as a rule, the borrowers receive the loan in the shape of mortgage bonds of the association, and it is left to them to negotiate these bonds on the stock exchange. At first the letters of mortgage were made out on a certain estate (estate debentures). But as the purchaser of such letters of mortgage was forced to keep watch over the condition and management of the mortgaged estate--even though the association itself maintained permanent control of the debtor--the sphere of circulation and the ease with which these bonds could be sold were naturally limited.

It was only when the issue of corporate mortgage bonds was started, the security of which was guaranteed either by the entire mortgage claims of the association or the collective responsibility of their members, and when these bonds were given a large market through their admission to exchange transactions, that the highest degree of mobility was reached.

It was mainly to meet the needs of credit on urban real estate that mortgage banks (Hypothekenbanken) were created, and thus a special organisation of city real estate credit was formed. The greater number of the mortgage banks now in existence was founded during the decade 1862 to 1872; practically all the others were founded during the building boom of 1894-1896. Most of the mortgage banks cater exclusively to the demand for real estate credit; some others combine this specialty with other lines of banking.

While the land-mortgage associations are based on the principle of co-operation and do not pursue a profit-making policy, the mortgage banks have been founded as joint-stock companies. The capital stock serves as working capital as well as guaranty fund.

Bonds are issued against acquired mortgages and secured by the latter. Almost all these banks issue their bonds to bearer, a privilege granted them by the State. Inasmuch as the bonds are held in many cases by small investors, the State, in order to protect the interests of these bondholders, from the very beginning secured to itself the right of control, limiting at the same time the field of operation of these banks by certain legal enactments and regulations.

On the whole, interest rates on mortgage loans are subject to but slight variations. It should be remarked, however, that the borrower when obtaining a mortgage loan has to pay a bonus the rate of which will be considerably higher in times when money is scarce than in times when its supply is redundant.

In times of a large increase in the supply of bonds the mortgage banks may go into the market to buy their own bonds. Such action prevents serious fluctuations in the quotations of these securities and fits them to be objects of permanent as well as temporary investments, including the investment of funds which must be kept in liquid shape.

In the present day when complaints are urged against the great indebtedness of country landowners, the fact must not be lost sight of that the transition from extensive to intensive operations in agriculture could not have been accomplished without a wide use of mortgage credit, and that such development was necessary to feed the rapidly increasing population of the country. Moreover, through this great growth in the population a basis was created for industrial activity on a large scale.

RAIFFEISEN AND SCHULZE-DELITZSCH BANKS

[188]The Raiffeisen bank is the Schulze-Delitzsch bank applied to the country, with the variations required and justified by the difference of environment.

The model rules of the Raiffeisen societies state that: "the object of the society is to improve the situation of its members both materially and morally, to take the necessary steps for the same, to obtain through the common guarantee the necessary capital for granting loans to members for the development of their business and their household, and to bring idle capital into productive use, for which purpose a savings bank will be attached to the society." One word in the above, viz., "morally," intimates at the outset a distinctive trait. Raiffeisen always kept the moral aspect very prominently before him. He insisted that all the members of his institutions should profess the Christian virtues. In his propaganda he used to the full the one intelligent power in rural districts, the parish priest or pastor. With their help he developed a new parochial life around the village bank. With their help he touched in the peasant the chord of neighbourly affection and stirred him to give it practical effect.

What is the structure of a Raiffeisen bank? and, first of all, whence comes the working capital?

The subscribed capital of the bank is practically nil; there is nothing but the universal unlimited liability of the associating members. Schulze-Delitzsch, dealing with industrialists subject to unseen risks, who operated in trade matters out of sight and control of the society, obliged his associates to subscribe a considerable share capital, not only as a proof of thrift, but as a material guarantee for their individual and corporate debts. Raiffeisen, dealing with agriculturists and villagers, demanded no such security, since each member possessed in his little farm, his cattle or implements, material guarantee far beyond those of any subscribed share. In addition he avoided the danger to which a share bank is always exposed, namely, that the concern may be run for the benefit of a few non-borrowing shareholders, rather than for that of the general credit-seeking members.

Unfortunately this natural difference was elevated, or rather dragged down, into an issue of principle; and the law of 1889, drawn up under the guidance of the Schulze-Delitzsch party, insisted that every co-operative society should have shares. The Raiffeisen societies comply with this by nominal shares of (say) 10 marks[189] on which no dividend is declared; though, occasionally, some of the annual profit is indirectly returned to individuals in the shape of a slight addition to deposit rates and a slight deduction from loan charges, calculated at the end of the year.

Because Raiffeisen wished to create credit among small agriculturists out of the immaterial asset of mutual knowledge, he limited the size of each society to a single village. For his purpose he was right, but his partisans are not right when they look askance at the larger areas of the town bank, where the nature of the members' business and the society's control is different.

All profits remain the collective property of the society, to be used for the society's good. They are divided into two classes of reserve fund--(1) reserve fund proper; (2) foundation fund. The former is regulated in the same way as in town banks. The second corresponds to the shareholders' dividend. It is undesirable to have nothing beyond an ordinary reserve fund, because money thus placed can only be withdrawn to cover losses: while if placed in the foundation fund it can be used for positive improvements, such as the extension of premises or the establishment of a burial fund. In actual figures, the reserve funds are not so strong as in the town bank, owing in part to the lower loan charges.

The loan capital, as in the town banks, is made up of small savings and deposits. It is drawn, either from within the area covered by the bank, in which case it comes both from members and non-members, the former being where possible rewarded at slightly higher rates in order to encourage membership; or from without the area, in which case it of necessity comes from non-members. Savings are received in sums from one mark upwards: the smaller amounts being collected by penny stamp books, similar to those used in the Post Office Savings banks of England. The willingness with which the peasants bring their savings to the bank is a triumphant proof of Raiffeisen's contention that the small agriculturists by a combination of unlimited liability and close supervision can become absolutely credit-worthy. No savings since the foundation of the first village bank have ever been lost through bankruptcy.

In addition the bank obtains credit from a central bank with which it has a current account.

The funds thus raised are utilised for three kinds of credit--(1) Simple loans; (2) current accounts; (3) property transfers.

Current accounts are rare except in villages where there is a little industry. With regard to the simple loan, the security, as in town banks, is personal pledge, land mortgage, or (very rarely) deposit of collateral. The personal pledge, as with Schulze-Delitzsch, is the most frequent. But Raiffeisen interpreted it more strictly than Schulze-Delitzsch. Not only must the credit-seeker produce an outside testimony to his character: he must also convince his society that he really merits this testimony. The member of the Schulze-Delitzsch bank is accepted on the strength of his general business reputation, added to his security, personal or material. The member of the Raiffeisen bank, though he have the best of pledges, is rejected unless he is known in his private life to be virtuous and industrious. The man of doubtful sobriety has no chance of obtaining anything from a country bank.

If it happen that an applicant is little known or new in the district, so that no one will go pledge for him, then the society, provided it is convinced of his good character, will grant a loan against land mortgage. This is not to be confused with the real credit granted by a land bank, where the value of the estate alone is considered. It is personal credit with a material caution, and it is not a long-term loan.

Furthermore, the society requires to know not only the character of the borrower, but also the specific object for which his loan is destined. It must be satisfied not only that the borrower wishes to employ the loan in his business, but also that the operation proposed is likely to turn out successful.

Property transfers are not strictly credit business. They are in the nature of investments for superfluous money, just as a town bank might invest in railway shares, with the difference that the investment is local and designed to meet indirectly the credit wants of members. The nature of the operation is as follows: A dies, leaving his estate to his heirs; and these, perhaps because they wish to leave the neighbourhood or because they want ready money for other reasons, put up the estate for sale in allotments. Or perhaps A during his lifetime wishes to get rid of a part of his estate. X, Y, Z, neighbouring peasants, are buyers, but they can pay only gradually--which they are allowed to do by law. The credit bank steps in as intermediary. It pays to the heirs of A or to A himself, as the case may be, the price of the estate minus a small commission. X, Y, Z become the debtors of the credit society, paying off their debt by regular instalments, which include principal and interest. The bank cuts out small traffickers in land, usually Jews, to the benefit of sellers and buyers. It benefits the sellers by charging them a moderate instead of an extravagant commission: the buyers by saving them from permanent relationship with land dealers who seek their ruin. The bank insists on regular payment of the instalments, because it wants its money back, while the dealer is constantly tempting the buyers to fall into arrears in order that he may eventually acquire the land himself.

There is a second form of property transfer, where the bank not only acts as intermediary but itself holds the estate for a time. Some land dealer, having obtained a mortgage on the estate of A, demands payment. A cannot pay and is forced to sell his estate by public auction. The dealer forces the sale, just when the estate market is likely to be most unfavourable, hoping to buy the estate for himself at an absurdly low rate. Thereupon the bank steps in; it bids against the dealer, and if he does not offer a good price, buys the estate itself and resells it later in the year, when the market is more favourable. In this way A can pay off his debts at once. Moreover, the bank does not keep the difference between the price of purchase and final resale. After the deduction of a moderate commission, it is handed over to A, who thus obtains a further sum with which he can make a fresh start.

These dealings in property transfers are confined to Southwest Germany, where estates are sold to be split up into little lots. The banks only enter on these transactions where the following conditions are satisfied--(a) where they have a superfluity of money over and above that needed in their ordinary loan business; (b) where some party to the transaction is a member of the society: either the seller or the buyer or the creditors of the seller holding second and third mortgages, who would obtain nothing were the estate sold below its real value.

What is the nature of the machinery by which this work is conducted? A Raiffeisen bank is never what a Schulze-Delitzsch bank sometimes is; a handsome building with barred windows, within which are a number of clerks discharging a constant round of business, while the directors interview special clients in a room apart. It is a small single room, probably at the back of a farm building, opened twice a week and presided over by a single occupant--the accountant. Business is apt to proceed desultorily; a small child brings in a few savings; an hour afterwards a palsied old man, signing by a cross, draws out a couple of pounds, and so on to the end of the day. But this is the unimportant part of the business. The really important part is the weekly meeting of the directors, half a dozen in number, who meet to discuss the various credit claims which have arisen. They are unpaid, as by the nature of their work they can afford to be. The accountant, their executive clerk who keeps the books, "the soul of the society," as Raiffeisen called him, is the only salaried official. The committee of supervision and the general assembly function as in the town banks; except that their control is more decided, probably because their knowledge is more on a level with that of the directorate, which is itself unspecialised.

What are the results achieved by the rural bank, thus operating and thus controlled?

More than ten times the number of country banks grant only one-sixth of the credit afforded by the town banks. The total membership of the country banks is nearly twice as large, but the average membership per bank is nearly seven times as small.

The average credit advanced per member is 500 marks. The average rate of interest is not exactly known; it appears to be between 4 and 5 per cent., i. e., nearly 1 per cent. cheaper than in the town bank. The duration of loans varies between one and ten years in accordance with the requirements of agriculture. They are repayable in small instalments, covering principal and interest, although the member may repay in lump if he wishes. The loan can always be called on four weeks' notice, but the right is never exercised, unless the borrower is allowing his property to deteriorate or is becoming insolvent through extravagance or has misapplied money lent for a particular purpose. The inculcation of punctuality in payment, as a moral duty, was the hardest of Raiffeisen's tasks, as it was his greatest triumph.

If it be asked finally what Raiffeisen banks have done, which other banks have not, it may be replied that Raiffeisen created out of hopeless chaos the only kind of credit organisation possible for the small agriculturist. Industry necessarily brings business men together to some extent. Agriculture in itself holds the farmer apart, and preserves him in lonely ignorance to be the victim of the perambulating money-lender. To-day more than 50 per cent. of the independent agriculturists of Germany are members of rural banks; and another 10 per cent., chiefly the larger farmers, are members of town banks. The non-co-operative agriculturist is becoming the exception. The Raiffeisen banks are thickest in the southwest of Germany, the home of the small peasant proprietors. Indeed the change wrought in many of these villages is nothing short of a revolution. The experience of the parent village bank may serve in illustration:

"About an hour's walk from Neuwied on the Rhine is situated on a plateau bordering the Westerwald the little village of Anhausen. The district is not very fertile and the inhabitants are mostly small peasant proprietors, some with only sufficient land to graze a single ox or cow. An owner of ten acres is a rich man. Before the year 1862 the village presented a sorry aspect; rickety buildings, untidy yards, in rainy weather running with filth; the inhabitants themselves ragged and immoral; drunkenness and quarrelling universal. Houses and oxen belonged with few exceptions to Jewish dealers. Agricultural implements were scanty and dilapidated; and badly-worked fields brought in poor returns. The villagers had lost confidence and hope, they were the serfs of dealers and usurers. To-day Anhausen is a clean and friendly-looking village, the buildings well kept, the farmyards clean even on work days. The inhabitants are well if simply clothed, and their manners are reputable. They own the cattle in their stalls. They are out of debt to dealers and usurers. Modern implements are used by nearly every farmer, the value of the farms has risen and the fields, carefully and thoroughly cultivated, yield large crops." And this change, which is something more than statistics can express, is the work of a simple Raiffeisen bank.

Both town and country banks are formed into higher unions for general organisation and educational propaganda; the country banks also unite for credit business.

The partisans of the town banks are apt to pride themselves on their complete self-sufficiency. They forget that this is possible for them, not because they have sufficient funds in their own coffers to supply every credit need, but because an increasing part of their business is conducted through the trade bill of exchange, which is a marketable commodity that can be rediscounted by any outside bank, the Imperial Bank, the Dresdner Bank or any other. But agricultural societies, inasmuch as their loan papers cannot readily be bought and sold on the open market, require a special organisation. Hence central organisations act as money equalisers between the different societies. In some districts money is superabundant, in others it is deficient. The central bank acts as a channel through which the abundance of one district can be drawn to supply the scarcity of another, the operations being conducted by means of current accounts with both parties. In Germany as a whole the societies of small agriculturists of the Southwest have always an abundance of money, which is one reason why they dispense so much of their funds in the purchase of property transfers. The societies of large agriculturists in the Northeast (the Ost-Elbien Provinces), where the capital employed on each farm is large and the population thin, are as a whole in continual want of it.

INTERVIEW WITH HERR KLEEMANN, DIRECTOR OF THE DRESDNER BANK

[190]Q. When were the first of your co-operative societies organised?

A. In 1848. They were organised on a voluntary basis and for philanthropic purposes. They developed very rapidly. The first form which developed was for the purchase of means of subsistence, such as sugar, coffee, grain, wine, cigars, etc. Then they bought agricultural machinery, threshing machines, etc., which they would rent to small farmers in the country who could not purchase such machinery. They also formed societies to build houses for peasants and working people. There might be six or seven with different purposes. Later on Schulze-Delitzsch came to the conclusion that it would serve working people and small tradesmen to have co-operative societies founded simply for the purpose of extending credit to them. That was the last development in the system.

Q. How many kinds of co-operative societies are there in Germany?

A. It is very difficult to classify them. The Raiffeisen societies are confined to Prussia. There are other organisations in Saxony, Bavaria, and different States in Germany.

Q. The attitude of the Reichsbank is the same toward them as toward any other bank?

A. Yes; and their bills are frequently offered and taken by the Reichsbank as from other institutions.

Q. Do they carry their reserve with the Reichsbank or with the Dresdner Bank?

A. Principally with the Dresdner Bank, because they get interest upon it.

Q. Do they pay interest on deposits?

A. They pay an average of 4 per cent., which may be considered as an almost permanent rate. The money they get is in most cases money for a long period. They have to compete with the savings banks.

Q. Are the small societies at all in competition with the Reichsbank, where they have a branch?

A. No. There is no competition. They do a business which the Reichsbank would not do. They give credit to people who would not suit the Reichsbank, because they could not give the guarantee.

THE REICHSBANK

INTERVIEWS WITH HERR DR. VON GLASENAPP, VICE-PRESIDENT, AND HERR DR. VON LUMM, DIRECTOR, OF THE REICHSBANK[191]

Q. By whom are the shares of the Reichsbank owned?

A. It is all private ownership. The shares are held mostly in Germany and Holland, and distributed in small lots.

Q. Would the bank discount a bill drawn by one merchant and accepted by another?

A. Yes. The Reichsbank is not only a bank for banks, but for the commercial and industrial enterprises of the Empire.

Q. If a railroad finds it necessary to make improvements and wants to borrow money could they get money at the Reichsbank?

A. Only on collateral acceptable by the Reichsbank. The railroad would probably in such a case go to private banks to be financed.

Q. Assume that there is a manufacturer in Bremen, making well-known articles, which he ships to a merchant in Berlin and draws a bill against that merchant, would it be a satisfactory bill to the Reichsbank?

A. Yes; but in that instance also the merchant would probably go to the private bank, where he would get a better rate of discount.

Q. If there were a severe money stringency, would he still go to his bank?

A. Yes; that would probably be the case, and his bank might afterwards take his bills to the Reichsbank.

Q. What is the smallest bill the bank will discount?

A. We have no minimum. We discount bills as low as 10 marks.

Q. Upon what kind of a bill does the farmer secure an advance from the bank?

A. He sells his produce, draws a bill upon the purchaser, and takes the bill to the bank as any other man would do, or a bill might be drawn upon a farmer and accepted by him.

Q. When he borrows money in the spring with which to buy seeds, how does he secure the cash?

A. He goes to his own bank for that. There are co-operative societies for this purpose, which are a great factor in Germany.

Q. Will the manager of a branch of the Reichsbank renew a farmer's three months' bill if desired?

A. Yes; an exception is made for the farmer. Other bills are not renewed.

Q. The bank rate is 4 per cent. Does that mean 4 per cent. is charged on three months' bills?

A. The Reichsbank has only one rate of discount. There was a time when the Reichsbank did a similar business to that which the Bank of England does now, i. e., that they would purchase in the market prime bills at a more favourable rate, but in 1896 it was decided to have but one rate for everybody.

Q. Please state the reason for the change of policy.

A. The most important reason was that it was thought that a great central institution like the Reichsbank, with its tasks and duties to the whole of the community, ought not to make a distinction of any class, or make an exception in favour of any one. It is the policy of the bank to serve all alike.

Q. Is the Reichsbank disposed to favour every application for discount or loans if the character of the offering be satisfactory?

A. It is their duty to listen to every one who comes for accommodation, whether he has an account or not. The principle of the Reichsbank is not to serve a part of the community, but the whole. The Reichsbank is for everybody.

Q. Are your deposits subject to check?

A. The money is drawn against check. There are two kinds of check--white and pink. The white is for withdrawing cash over the counter, the pink for making transfers.

Q. Have you different classes of deposits?

A. No.

Q. Do you pay interest on your deposits?

A. The Reichsbank does not pay interest on money deposited with it. It receives money on deposit and for transfer. Most large houses keep an account with the Reichsbank. The Reichsbank does a large transfer business for them.

Q. Is it the custom for banks in Berlin and other important centres to carry balances in the Reichsbank as a part of their reserve?

A. It is the custom for the banks to keep a large part of their cash with the Reichsbank. They keep only a small amount of cash in their tills.

Q. Is that true of banks in other cities than Berlin?

A. Yes.

Q. Does the Reichsbank pay the same taxes that the other banks do? For instance, income tax and other taxes?

A. No; we are free from the government income tax, and the license fees, but we must pay the real-estate tax.

Q. What is the relation between this bank and other banks, such as the Deutsche and the Dresdner--that is, as to the character of business transacted? Are you not competitors?

A. It may be said that the Reichsbank is more restricted by law. At a private bank the rate of discount may be much cheaper than at the Reichsbank. The private banker knows his clients, and he may be willing to accept from them a bill that the Reichsbank would not and could not accept.

Q. Then there is to some extent competition?

A. Yes; but that competition is not large. It is not felt that the Reichsbank is a competitor of other banks, but it is a public institution. The Reichsbank has its official rate, which is higher than the private rate. A bank will take bills on its own account running three months or more and hold them, and in case of need will take bills running ten days or less to the Reichsbank for discount. The Reichsbank pays no interest and acts as agent for transfer of currency and credit to all parts of the Empire without charge.

Q. Has there been any feeling that your branches were supplanting the private local banks in small towns?

A. There may have been some instances where a banker may have been dissatisfied at the Reichsbank opening a branch in his locality, but as a rule the banks at such a place are quite pleased to have the Reichsbank open a branch in order that they may have the benefits of its facilities.

Q. The government deposits are received and treated exactly the same as the deposits of farmers?

A. Yes. The business for the Government and its departments is handled the same as for others, and no interest is paid on deposits. There is, however, one exception; every private institution is required to keep a minimum balance to its credit, but not so with the departments of the Government. The Empire keeps in the aggregate sufficient to compensate.

Q. Do you always charge a higher rate of discount for bills when you have a large amount of taxed notes outstanding?

A. No. On occasions the Reichsbank has not increased its rate of discount above 5 per cent. At times we have discounted even at 3 per cent., when we have had to pay a tax of 5 per cent.

Q. It has been suggested to us as a matter of policy in times of stress that it would be better for you to add the 5 per cent. tax to the rate of discount.

A. The Reichsbank must be considered in the first place as a public institution which has to take care of the public interest, and secondarily as a money-making institution.

Q. Is there any restriction as to the percentage of silver in your reserve?

A. No; but there is another law, the coinage act, by which the amount of silver coined depends upon the population. They do not coin more than 20 marks per capita.

Q. What steps do you take to increase your gold reserve or to protect it?

A. We always have a large amount of bills of exchange payable in foreign countries, payable in gold. We also increase the rate of discount. We consider that the latter measure is the only effective one. We also make advances without interest to importers for the time the gold is in transit; we do that even in times when the ordinary gold import point is not reached. Then we may raise our tariff for the purchase of foreign gold coins, as the Bank of England does.

Q. Do you take any steps to prevent exports of gold? We have been told that it is the habit of the Reichsbank, in case of large exports of gold from Germany, to suggest to the other banks that it is not agreeable to have the gold exported.

A. It has never been the case and never will be the case that any such suggestion has been made by the Reichsbank to anybody.

KOENIGLICHE SEEHANDLUNG

(ROYAL SEA-TRADE SOCIETY)

INTERVIEW WITH HERR GEH. OBERFINANZRAT LOTTNER, DIRECTOR OF THE ROYAL SEEHANDLUNG, PRUSSIAN STATE BANK[192]

Q. When was this bank organised?

A. In 1772.

Q. What is the capital of the bank?

A. One hundred million marks.

Q. By whom are the shares owned?

A. There are no shares; the capital is owned by the bank, which may be regarded as a juristic person, an independent legal subject.

Q. Who invested the money?

A. The money was originally invested by stockholders in the time of Frederick II, but afterwards the shareholders gave up their stock, for which they were paid. The shares were mostly owned by the King and by his associates, and they handed them over to the bank, so the capital is really owned by the bank itself. The proceeds in excess of all the expenses are paid to the Prussian State.

Q. Who is responsible for the conduct of the business?

A. The president.

Q. Has he associated with him directors?

A. No; he is personally responsible.

Q. By whom is the president appointed?

A. By the King of Prussia for life.

Q. What are the particular functions of the bank?

A. In the first place, it is an organisation to help the State of Prussia. The principal part of the business is to finance the loans of the State. It may undertake the loans alone, but as a rule it heads a syndicate of the large banks.

Q. Do you compete for deposits from merchants, manufacturing concerns, banks, etc., with the Deutsche Bank or the Dresdner Bank?

A. Yes, to some extent. It is not our intention to do so, but of course we practically compete in some ways. Our rates on deposits are less favorable than those of these banks.

Q. Do you take real estate mortgages?

A. No.

Q. You are known as the sea-trade (Seehandlung) society. Why is that?

A. Frederick the Great founded the Seehandlung to promote Prussian trade, especially the oversea trade. At one time this company had a salt monopoly and a wax monopoly. The salt which came into the different ports of Prussia and the wax which came from Poland were bought up by the Seehandlung. At one time the Seehandlung also had mills, spinning and weaving plants, iron foundries, and river steamers. We still own two industrial establishments, the flour mills in Bromberg and a linen spinnery in Landeshut in Silesia.

Q. A large percentage of your funds is loaned on the stock exchange?

A. Yes.

Q. And your discount business is comparatively insignificant?

A. Not insignificant, but small compared with our loans on the stock exchange.

Q. Do you receive promissory notes from customers?

A. No.

Q. Do you transact business of any other character than that heretofore mentioned?

A. We have a branch known as the Royal Loan Office, which lends money in small amounts upon the pledge of different kinds of goods as security. This was established in 1834. In 1906 we made 99,000 loans upon watches, jewels, clothing, etc., at an average of 31 marks per loan. Two-thirds of the borrowers are labourers; last year about 16 per cent. were widows and spinsters, also a few were mechanics--occasionally professional men--artists, actors, and the like. Our rate is very low, 12 per cent. for the year, which is low compared with the ordinary pawnshops. No other banks conduct a business of this class.

DEUTSCHE BANK

INTERVIEWS WITH HERR PAUL MANKIEWITZ, DIRECTOR, AND HERR A. BLINZIG, ALTERNATE, OF THE DEUTSCHE BANK[193]

Q. When was your bank organised?

A. In the year 1870.

Q. How is your stock owned?

A. By a large number of shareholders. Our shareholders are principally in Germany, but also in England, France, Austria, and elsewhere.

Q. What does the item "Shares in other banks," $19,000,000, represent?

A. This represents the purchase by us of practically the controlling interest in 13 independent banks in the Empire. We are represented upon each board and we are kept closely informed of the business. Our return is in the dividends.

Q. A large percentage of the stock exchange business is really handled through the incorporated banks, is it not?

A. Yes. We ourselves have fifty members on the stock exchange.

Q. You mean that the Deutsche Bank has fifty men, members of the stock exchange, who trade there on the floor?

A. Yes. There is quite a difference, however, in our method of handling the business from that followed in New York. We do not have the margin system. Most of our customers who do not pay in full pay at least for half the amount involved in the purchase.

Q. Are the clearing-house associations important factors in the cities in Germany?

A. No. They are not associations of importance or power, but merely pieces of machinery through which cheques are cleared.

Q. You all go to the Reichsbank to clear?

A. Yes; once a day. There are 14 clearing houses and 160 members in the Empire.

Q. What taxes do you have to pay?

A. We pay to the State 4 per cent. on our income remaining after deduction of 3-1/2 per cent. of our share capital, which is exempt, and to the city of Berlin 4 per cent. on our income. All banks pay on the same basis.

Q. Is there a limit to the amount of discretion given to the branch directors on first-class bills?

A. Each of the main branches has a fixed capital arbitrarily set aside by the Deutsche Bank. They have a sum according to the importance of the branch, and they must do business according to it.

Q. The Reichsbank has branches everywhere?

A. Yes; in every place where there is sufficient business. It has about 500 branches. We transferred through the Reichsbank last year 21,000,000,000 marks. Our strength is the Reichsbank. Our branch in Bremen, for instance, wants money when cotton shipments start, and the money is transferred to them. The importers in Bremen sell the cotton to the large manufacturers. When they get the money the money comes back to us.

Q. In London the joint-stock banks usually pay interest at about 1-1/2 per cent. below the bank rate. In the country they have to pay more. What is the custom here?

A. There is no strict rule. The bank rate is now 4 per cent. and we allow 1-1/2 per cent. on call money. In the interior our branches allow a little more. It is the same as in England.

Q. Does the bank rate influence your rate for discounts?

A. Yes; we are influenced. The bank rate is now 4 per cent. and our private discount rate is 2-1/2 per cent.

Q. If a mercantile customer came with a four months' bill satisfactory in character, what would be the rate to him?

A. We have no fixed rate. It depends upon the man and the bill.

Q. How do you invest your surplus funds when you have no demand from customers?

A. We buy bills in the open market, or accept offerings made to us from houses desiring to borrow.

DRESDNER BANK

INTERVIEWS WITH HERR SCHUSTER AND HERR NATHAN, DIRECTORS OF THE DRESDNER BANK[194]

Q. What is the date of your organisation?

A. 1872.

Q. In practice, you and all other banks endeavour to fully employ all available funds?

A. Yes; we only carry in the Reichsbank and other banks sufficient cash for the conduct of business.

Q. You regard your item "Bills discounted" as one of practical reserve?

A. Yes; it is immediately convertible into cash at the Reichsbank.

Q. Referring to the item "Shares in other banks," $6,662,753, do you control all banks in which you have any interest?

A. Yes; practically. We probably have not the majority of the stock in any bank; but our holdings are sufficiently large to give us control.

Q. Is the tendency toward bank consolidation? Are the smaller banks becoming more closely affiliated with the larger banks?

A. Yes; because it serves a mutual advantage. The smaller bank needs better facilities to take care of the increasing business. If a bank wants to increase its capital, and the shareholders do not care to subscribe for the increase, the new shares are frequently offered to us. We look out for the business of these banks in the centres and give them participations in some of our important undertakings.

Q. In Great Britain we found that banking interests were practically controlled by from 15 to 20 large banks. Does that condition prevail in Germany?

A. No; but the tendency is in that direction. One difference between the banks of England and Germany is this--in England the primary purpose of the banks seems to be to secure large earnings for their shareholders. In Germany our banks are largely responsible for the development in the Empire, having fostered and built up its industries.

Q. Would it be any reflection upon a bank if it should go to the Reichsbank for discounts or loans in easy times?

A. No; we seldom go in easy times, however, because there is no need of our doing so.

Q. Is there strong competition between the important banks of Berlin or do they work more or less together?

A. Of course there is strong competition between the large, important banks, but there is no lack of harmony, and they very frequently work together in syndicate operations. While it is the desire and endeavour of each bank to build up its business, it must be recognised that each institution has more or less its own field of operation, which is in a measure respected by the other banks. As, for instance, the Deutsche Bank has done a very large volume of business with Turkey, and business emanating from that source is expected to and naturally does go to the Deutsche Bank, while another institution may have been largely identified with Roumania, or another with some large local interest. We ourselves are recognised as representing the Krupp interest and have just recently formed a syndicate to finance one of their operations.

Q. Our understanding is that a merchant, a customer of yours, may arrange with you for a credit of, say, 100,000 marks, which may or may not be secured, and may draw a ninety-day bill upon you for that amount. He may send that bill to the Deutsche Bank for discount. If the Deutsche Bank will discount it, they present it to you and you accept it. Will you kindly state why this custom prevails?

A. One reason is that it makes a bill which is acceptable at the Reichsbank and is a prime bill. We receive one-fourth of 1 per cent., or more, for our acceptance, and the Deutsche Bank, or any other bank discounting, invests its money at a rate for the period. It might be that we would prefer to give our customers a cash credit rather than to accept his bill, in which event we would so arrange.

Q. Then this practically enables you to sell your credit without using your cash?

A. Yes.

Q. We understand this is the usual custom in Germany.

A. Yes.

Q. Is it not a fact that in the last analysis the customer who uses the money usually pays more than the bank rate--that is, would it not cost him, in such a transaction to-day, say 5 or 6 per cent., while the bank rate is 4 per cent.?

A. Yes.

Q. Is it your endeavour to reach the small country towns?

A. No.

Q. In the United States we have brokers who handle commercial paper, and many of the banks purchase it to employ their surplus funds. In London we found discount houses whose sole business was to handle paper for sale to banks to employ their surplus funds. What corresponds to that agency in Berlin?

A. In Berlin there are two brokers who handle prime bills, but they are not an important factor.

Q. How do you employ your surplus funds?

A. We buy bills in the market or through these brokers.

Q. In employing your surplus funds do you buy any other bills than those which the Reichsbank would accept?

A. No.

Q. Would you consider the issue of taxed notes by the Reichsbank in a sense an evidence of an abnormal condition?

A. No: on the contrary, it is quite normal. Last year it happened twenty-five times.

Q. In times of trouble do the large banks, like your own, the Deutsche Bank, and Disconto, co-operate with the Reichsbank in an endeavour to prevent the exportation of gold?

A. Yes. Opinions are divided as to whether it is for the good of our country to do so or not. Last year, for instance, many people asked for gold. It was refused at first in some quarters; later we shipped freely.

Q. Are you members of the stock exchange?

A. All banks and bankers are members of the stock exchange.

Q. By virtue of their being banks?

A. Yes; they have to pay a tax for the exchange.

Q. Are the seats expensive?

A. No. You do not buy a seat. There is no limit to the number of people admitted. We have from twenty to thirty people go to execute our orders.

BANK DES BERLINER KASSEN-VEREINS

INTERVIEW WITH HERR HOPPENSTEDT[195]

Q. When was this bank organised?

A. In 1823, under the general companies act.

Q. What are its particular functions?

A. This bank might be called strictly a clearing bank. It clears transactions made on the stock exchange and also cheques on banks which do not clear through the Reichsbank Clearing House. As you know, our banks do a large stock exchange business. It is their custom to send to us all securities sold to others clearing through us with a list of the purchasers. We charge the purchasers the amounts due from them and credit the amounts received from them, balancing every night. The securities are delivered to the various purchasers. Some settlements are made daily and others monthly. A large volume of cheques and bills are also cleared. This is simply a clearing business.

Q. You show loans and discounts in your statement. What is the character of these?

A. We invest our funds in first-class loans and prime bills.

Q. Is this bank owned by the other banks?

A. It is partly owned by other banks. There is also a commission of shareholders of the bank, among whom are the first banks of our city. These are members of our board.

Q. Is it the custom for all banks which clear through you to have a balance in order to facilitate the payment of debits through clearing?

A. Yes.

FOOTNOTES:

[184] Adapted from Geh. Oberfinanzrat Waldemar Mueller, The Organization of Credit and Banking Arrangements in Germany; Max Wittner and Siegfried Wolff, The Method of Payment by means of Bank-Account Transfers and the Use of Checks in Germany. Publications of the National Monetary Commission, Senate Document No. 508, 61st Congress, 2nd Session, pp. 117-271.

[185] In order to facilitate its giro business and reduce the friction to a minimum, the Reichsbank has special printed forms prepared for the various kinds of transactions, the use of which is made compulsory on the public. For a simple transfer of money from one customer to another, whether they be in the same town or in different places, the "red check" is employed, which is filled out by the party making the transfer and handed in to the bank. It is not a check in the proper sense of the term, but is so called because the printed forms resemble checks and are put up in books in the same way as checks. The word "check" does not occur in the printed matter of the blank; neither is the instrument transferable. When a number of payments are made simultaneously the party making the transfers is furnished with a blanket form on which the names of the individual firms and the various sums are entered and which has to be accompanied by a red check covering the aggregate amount. For the so-called "great banks" of Berlin, some of which have a volume of transfer transactions amounting to as much as one hundred transfers for each bank per diem, there are blanket forms which are of a different colour for each bank. When cash is wanted the so-called "white check" is employed. This is a legally constituted check. There are special printed forms for the use of those who have no account with the Reichsbank.

[186] Banks of issue were formerly numerous in Germany. Gradually, however, nearly all of them renounced the privilege of issue, as the laws relating to banking made their existence as banks of issue more and more difficult. At the present time there are only 4 such banks besides the Reichsbank, viz.: the Bayerische Notenbank, the Wurttembergische Notenbank, the Sachsische Bank, and the Badische Bank.

[187] Adapted from Robert Franz, The Statistical History of the German Banking System, 1888-1907, Publications of the National Monetary Commission, Senate Document No. 508, 61st Congress, 2nd Session, pp. 7-115.

[188] Adapted from C.R. Fay, Co-operation at Home and Abroad, pp. 42-51, 56. P.S. King and Son, London. 1908.

[189] Occasionally even as low as 1_d._ or less.

[190] Adapted from Interviews on the Banking and Currency Systems of England, Scotland, France, Germany, Switzerland, and Italy, Publications of the National Monetary Commission, Senate Document No. 405, 61st Congress, 2d. Session, pp. 452-468.

[191] Ibid., pp. 335-358.

[192] Ibid., pp. 359-370.

[193] Ibid., pp. 371-391.

[194] Ibid., pp. 392-418.

[195] Ibid., pp. 486, 487.

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XXVI. BANKING IN SOUTH AMERICA

[196]The special interest in South American banking which exists at this time is the product of at least four distinct factors:

First. It has been evident for some years that the trade between North and South America is rapidly developing. In the ten years, 1903-1913, the exports from the United States to the ten Republics of South America increased 274 per cent. against an increase of all our exports during the same period of 73 per cent. In spite of inexperience, crude methods, lack of banks and of ships we have made notable gains in South American trade. There seems to be no reason to question the probability of a continued rapid increase during the next few years.

OUR GROWING SURPLUS FOR FOREIGN INVESTMENT

Second. Other forces have gradually been bringing this country more and more into the position of looking for investment opportunities abroad. While it is true that the United States is a debtor nation in the sense that a large amount (estimated at $3,000,000,000 to $6,000,000,000) of European capital is invested here, it is also true, on the other hand, that the national income has for some years been sufficient to meet annual payments abroad, to make large fresh investments in our own enterprises, and still to leave a considerable surplus for investment in neighbouring countries. It is estimated that American capital in Mexico and Canada amounts approximately to $1,500,000,000. In South America there are already American investments of perhaps $300,000,000 to $400,000,000.

As the national income and savings expand and as the opportunities for exceptionally profitable investment within this country decrease, it is clear that there must be a stronger and stronger tendency toward investment abroad. The immense sums, for instance, that have been flowing into railroad construction and rebuilding will not be needed to so great an extent in future. A considerable proportion of this overflow of capital may certainly be expected to spread into South America.

GREATER LENDING POWER OF BANKS

Third. The adoption of the federal reserve system has made a remarkable improvement in the handling of gold and of credit. It has released and made available for other forms of financing great sums which were formerly tied up in scattered reserves. We have only to look at the monetary history of the German Empire during the last forty years to see how powerful an influence on industry, trade, and investment is exerted by the centralisation and control of bank reserves. The London Statist has calculated the ultimate increased lending power of American banks, under the federal reserve system, at $3,000,000,000.

EUROPEAN WAR

Fourth. The European war has suddenly stimulated the tendencies which were previously evident. It has temporarily cut off a considerable amount of European trade in South America, thus leaving an opening for even more rapid development of our trade than would otherwise have taken place. It has deprived South America for a period of several years of the steady inflow of European capital. It has enormously increased the exports and decreased the imports of this country, thus placing suddenly at our disposal greatly enlarged financial power, possibly as much as $1,000,000,000 per annum above normal. Its ultimate effect, we may safely assume, must be to increase considerably rates of interest the world over, thus stimulating the tendency toward an enlarged outflow of capital from the United States into neighbouring countries.

By reason of the war the same kind of a situation that would otherwise have developed slowly in a period of years now confronts us suddenly when we are as yet in a state of financial unpreparedness. The new machinery provided by the federal reserve act is not yet fully utilised or adjusted in its final form. It will require careful study, combined with prompt action, to utilise the financial opportunities now before us with greatest advantage to all concerned.

ENGLISH BANKS IN SOUTH AMERICA

Although English interests have share holdings in other institutions, there are only five banks in South America that stand out as unmistakably British. In the order of their development, these are the London and River Plate, London and Brazilian, British Bank of South America, Anglo-South American Bank, and Commercial Bank of Spanish America. Each institution, with one exception, has concentrated on one country, in which it has established most of its branches and to which it has devoted its first efforts. The exception is the British Bank of South America, which has followed the contrary policy of having only a few branches strategically located in important cities; in other words, this bank has concentrated on selected cities rather than on a given territory.

ENGLISH TRADE AND BANKS DEVELOP TOGETHER

The development of commercial banking by British interests has everywhere gone hand in hand with the development of British investment and British trade. The accounts of the railways, mercantile firms, steamship lines, public utilities, and other enterprises conducted by their fellow countrymen form the great bulk of the business of the four leading institutions; the Commercial Bank of Spanish America is, however, operating under different conditions. Indeed, it may even be said--again speaking in broad terms--that the English banks have made comparatively little effort to secure the accounts of domestic enterprises. It is certainly safe to say that they have not made efforts in this field at all comparable with the efforts of the German, Spanish, French, and Italian banks. It is interesting to note also in this connection that the management and even the clerical force are, with few exceptions, brought over from England. After more than fifty years the three leading institutions remain as distinctively British as they were at the beginning.

GERMAN BANKS IN SOUTH AMERICA

To understand the energetic development of German banks in South America during the last forty-five years we must consider the conditions prevailing in Germany during that period and the strong forces working toward industrial and banking expansion.

Beginning immediately after the Franco-Prussian War of 1870-71, German industrial interests, with the strong support of the German Government, began to struggle more vigorously and more effectively than ever before for a larger share of trade in international markets, particularly in the Far East and in South America. It was clearly realised that Germany needed a large and rapidly growing export trade in order to maintain her own prosperous development. In order to get this trade it was necessary to follow a definite programme which included the provision of better shipping facilities and of better facilities for financing. Up to that time Germany had been fully as dependent as the United States is to-day upon foreign ships and foreign banks.

It was also clearly realised that the tendency was toward large scale production in most industries and that those concerns which could secure large sales in the world-wide markets would soon come to enjoy an overwhelming advantage over smaller competitors. The German industries, in conjunction with the great German banks, began to follow, therefore, a programme of concentration, which has since gone steadily forward.

These two forces--expansion in foreign markets and concentration at home--have had a controlling influence on Germany's foreign trade, and incidentally on her foreign banking.

OTHER INFLUENCES IN BANK EXPANSION

Another influence of importance is the fairly well-marked division of German industrial interests into a small number of groups, each one of which centres about and is allied to one of the great banks. To some extent this is true in other countries, especially where banking is centralised--notably in Canada, for instance--but it is especially clear and well recognised in Germany. Hence each one of the great banks is under especially strong pressure to foster and develop the interests of its important clients, even at the expense of some temporary risk or sacrifice for itself. This is doubtless the primary motive which has induced the great German banks one after another to enter foreign fields.

There is a wide-spread notion outside Germany that the German Government has itself actively intervened for the purpose of stimulating foreign trade expansion and has brought pressure to bear on German banking interests, leading them to push ahead more rapidly than their private business interests would have required. This idea may or may not be correct; so far as the writer is aware there is no special evidence pertaining to South American banking development to sustain it. At any rate, it is easy to explain the policy of these banks as being based upon purely business considerations.

As a matter of fact, there has probably been much exaggeration of the thought that the German banks are primarily self-sacrificing instruments of an ambitious national programme rather than ordinary business enterprises. The statement is frequently repeated that the English banks in South America aim first and all the time for profits, while the German banks aim for development of their national interests.

Of the four large German banks in South America only one is remarkable for energetic and successful expansion. The others have been moderately successful. The difference is to all appearances chiefly due to management.

Although these four banks were presumably designed primarily to advance the business interests of the banks which organised them, they have incidentally had a powerful influence on investment of capital and on trade. The German manufacturers of machinery, steel products, and the like, have been especially helped by the ability of the German banks, both in South America and at home, to help in finding capital and in financing.

The German banks have not found political or economic conditions in South America which were insuperable obstacles to sound or profitable banking.

OTHER BANKING INSTITUTIONS

Other nationalities besides the English and the Germans have invaded the banking field in South America. The French, the Italians, and the Spanish have all been active, particularly on the east coast, and are represented by large institutions.

AMERICAN BANKS

Only after the federal reserve act went into force in November, 1914, was it possible for any bank organised under the national-bank act of the United States to establish branches abroad. The act restricts this privilege to institutions having capital and surplus of $1,000,000 or more, and gives the Federal Reserve Board discretion to withhold its consent. Up to this writing the only institution which has taken advantage of the powers granted by the federal reserve act to enter South America is the National City Bank of New York, which has established branches in Buenos Aires, Montevideo, Rio de Janeiro, Santos, and Sao Paulo. Other branches will probably be established in the near future. Especial attention is being given to the collection of credit information. The bank also maintains a foreign trade department, which gives information and advice to its depositors as to building up business abroad. This department is now equipped to make specific reports on trade openings in Argentina, Uruguay, Brazil, Colombia, and Venezuela.

The Buenos Aires branch, which was the one first established, is understood to have done a satisfactory amount of exchange business. It stood ninth in volume of clearings in January, 1915, among the twenty-odd commercial banks of that city. The other branches have not been in operation long enough to show clear results. The branches in Argentina (including the subbranch at Montevideo) and Brazil have each $1,000,000 allocated to them--though this is purely formal, as the bank's whole capital and surplus are behind the obligations of every branch.

The expansion of the National City Bank in South America has been much more rapid than that of any preceding institutions, including even the aggressive German banks. As a natural result, there is apparently less effort at this stage to build up local connections and influence in each city. So far the policy of the National City Bank appears to be to furnish foreign trade facilities to American exporters over as wide a territory as possible, rather than to concentrate its activities in any restricted region.

Other national banks in this country are known to be desirous of aiding in the financing of foreign trade, but have not up to this time found it practicable to take action under the provisions of the banking law as it now stands.

DOMESTIC BANKS

There are many important and successful banks in South American countries which are strictly domestic institutions, not only incorporated under the laws of the country in which they do business, but owned and managed by local interests. The notion sometimes seriously put forward that South American banking is almost wholly in the hands of foreigners is quite unfounded. It is true that trading operations are generally handled either by foreign houses or by houses in which there is a strong foreign influence and that the financing of nearly all foreign trade and of much local trade is likely to go to foreign banks. But the accounts of the rest of the domestic trading firms, of land owners, and of governmental corporations, as a rule, gravitate toward the domestic banks.

Following is an approximate statement of the total of deposits and credits in account current in each South American country on or about December 31, 1913, and an estimate of the distribution between foreign and domestic institutions:

---------------------+-------------+------------------+------------------ Countries. | Total bank | In | In | deposits. | European banks. | domestic banks. ---------------------+-------------+------------+-----+------------+----- | | Amount. | Per | Amount. | Per | | |cent.| |cent. | | | | | Brazil | $190,000,000| $78,000,000| 40|$112,000,000| 60 Uruguay | 42,500,000| 14,000,000| 33| 28,500,000| 67 Argentina | 626,000,000| 173,000,000| 28| 453,000,000| 72 Paraguay | 3,500,000| | | 3,500,000| 100 +-------------+------------+-----+------------+----- Total, east coast | 862,000,000| 265,000,000| 30| 597,000,000| 70 | | | | | Chile | 104,500,000| 29,500,000| 28| 75,000,000| 72 Bolivia | 8,800,000| 1,500,000| 17| 7,300,000| 83 Peru | 28,500,000| 7,500,000| 26| 21,000,000| 74 Ecuador | 4,000,000| | | 4,000,000| 100 +-------------+------------+-----+------------+----- Total, west coast | 145,800,000| 38,500,000| 26| 107,300,000| 74 | | | | | Colombia | 5,800,000| | | 5,800,000| 100 Venezuela | 6,200,000| | | 6,200,000| 100 +-------------+------------+-----+------------+----- Total, north coast | 12,000,000| | | 12,000,000| 100 | | | | | Total, South America |1,019,800,000| 303,500,000| 30| 716,300,000| 70 ---------------------+-------------+------------+-----+------------+-----

The great Banco de la Nacion Argentina (Bank of the Argentine Nation) is an official institution, all the shares of which are owned by the National Government. It is a successor of the former national bank, which was driven into insolvency in the great financial crisis of 1890 and was afterwards liquidated. Although it was organised during a period of disaster and there were many prophecies of its certain failure, the Bank of the Argentine Nation has had a wonderful development and to-day ranks as the seventeenth in size among the great banks of the world.

The bank pays no dividends, but carries 50 per cent. of its profits to the credit of capital account and 50 per cent. to reserves. Entirely through this process the capital and reserve funds have increased from approximately $22,000,000 in 1892 to over $100,000,000 at the present time. During the same period deposits have grown from $21,000,000 to $205,000,000, and discounts and advances from $47,000,000 to $208,000,000. There are now more than 150 branches.

The bank differs from most other governmental institutions in that it carries on distinctly a commercial banking business more or less in competition with private commercial banks. Until the crisis of 1914 it did no rediscounting for other banks, and even during the crisis its activities in assisting other banks were much restricted.

LAND MORTGAGE BANKS

In several of the South American countries there is a well-organised system of land-mortgage banks following European models. In some cases the banks are owned and operated by the National Government and in other cases receive some special support or guarantee. The plan under which they all operate is the following: The owner of land who desires to raise money on mortgage approaches the bank and requests an investigation and appraisal, the expenses of which he usually pays. If the property is shown to be unencumbered with prior claims and meets other conditions, the bank delivers to the owner the mortgage bonds in convenient denominations up to a given proportion, usually 50 per cent., of the appraised value. These mortgage bonds are part of a series and are themselves secured, not by any specific piece of property, but by all the property covered by the series; they are also backed by the credit of the issuing bank. The owner of the property then offers the bonds for sale through a broker, and in this way obtains the desired funds. He pays the bank a small commission, from one-fourth of 1 per cent. to 1 per cent., for its services.

In Argentina, where this system is developed to its highest extent, these land-mortgage bonds are known as "cedulas," and are issued by the Banco Hipotecario Nacional (National Land Mortgage Bank). At the present time the Argentine "cedulas" tend to sell on a 7 per cent. basis, more or less.

Uruguay, Brazil, and Chile all have similar issues, which sell on bases ranging from 7 to 9 per cent. or even higher. Broadly speaking, and without attempting to assign a definite value to any one of these issues, they are sound, conservatively issued, well protected, and under normal conditions readily marketable. The more important issues have been widely sold in England, France, and Belgium. If they were properly introduced and made well-known in the United States, there is no reason to question their finding a good market here also.

Side by side with the land-mortgage banks there are operating in the Argentine a number of English mortgage companies, which directly invest their own funds in land mortgages and have earned highly satisfactory profits.

In several countries there are state-owned savings banks, a large portion of the funds of which also go into land mortgages.

CONDITIONS OF COMMERCIAL BANKING

A banking business, like any other, must adapt itself to surrounding conditions, including laws, business customs, precedents created by older banks, and the like. In South America these conditions differ in a number of respects from those which prevail in the United States. Probably the first impression of most observers gives an exaggerated idea of the differences. However, they should be fully and carefully considered.

The chief differences that directly affect banking operations are the following: (1) Comparative absence of banking regulation on the part of governments or associations; (2) national colonies; (3) social character of business relations; (4) lack of highly developed economic organisation; (5) relatively high and stable rates of interest; and (6) in some countries fluctuating currencies. The first five of these circumstances call for brief comment.

LITTLE CONTROL OR CO-OPERATION

Not only is there a marked absence of laws directly applicable to banking concerns, but there is also an equally noteworthy absence of control exercised either by the Government or by associations among the banks. Even the large governmental or semi-governmental banks in Brazil, Uruguay, Argentina, Chile, and Bolivia are competitive with the other banks. Whatever influence they exercise is secured through their active and direct competition, not through any special authority over the other banks conferred upon them. In the fall of 1914, for the first time, there was some rediscounting of the paper held by other banks on the part of the Bank of the Argentine Nation and of the Bank of the Republic of Uruguay; but this tendency did not go far. The other banks objected to placing information as to their relations with customers in the hands of the governmental institutions. In other countries there has not been even this much of an attempt toward fulfilling the functions of a central bank of rediscount.

It is difficult to secure in most of the South American cities even the most elementary kind of co-operation among the banking institutions. How is it possible that they should continue to stand apart when they would obviously gain so much by coming together? A partial answer is to be found in the peculiarity that has already been pointed out, namely, the fact that many of the more powerful institutions are the offspring of European countries. Each one is fighting to support the trade of a certain well-defined group of clients. The national antagonisms among them are deep-seated and sometimes virulent. All this was true even before the European war. It will be tenfold true for a number of years to follow.

NATIONAL COLONIES

This leads to mention of the second condition, one which operates in favour of European-owned banks to the relative disadvantage perhaps of American banks. This condition is the presence in some of the large South American cities, notably Buenos Aires, of a large colony representing each one of several important European nations. Naturally the tendency of each colony is to support banks of its own nationality.

On the whole, although this matter of national affiliations is undoubtedly a factor to be reckoned with, it appears to be by no means decisive. The German banks, for instance, have been able to expand with much greater rapidity than we should have been justified in expecting on the basis of their national trade and national colonies alone. This is true likewise of the Italian and French banks. A great proportion of the business men of South America, even those of foreign origin, are governed less by their national sentiments than by their business interests.

PERSONAL CHARACTER OF BUSINESS DEALINGS

To an observer accustomed to European or American methods, one of the most striking features of business life in the South American cities is its strongly personal and social flavour. We are accustomed in this country to emphasise the principle that friendship is not a safe guide in business dealings. In South America the contrary is more nearly true. Family ties are apt to be a controlling factor in choosing partners and employes. If one's ultimate object is to have business dealings with a firm, he must first cultivate the personal friendship of the head of the firm. Social relations and business relations become confused, and it is hopeless to expect the purely impersonal view of a business proposition that is considered correct in this country. Like all sweeping statements, this one is subject to exceptions. There are many American, German, and English firms, especially in Buenos Aires, which prefer what we denominate "businesslike methods," but they are not numerous enough to give the tone to business life.

This is a condition which directly affects banking practice. It makes it very difficult, for example, to introduce the custom of securing full financial statements from all applicants for credit. The request for a statement is apt to be construed (as was the case in this country not many years ago) as a reflection on the personal honesty and credit standing of the applicant. For the same reason it is difficult, and may frequently be poor policy, for a bank officer to ask a customer a direct question as to the status of his business. He is likely not to take an impersonal attitude toward the question, but to resent it as if it were an attempt to pry into his purely personal affairs. Consequently, all business men, including bankers, are forced to rely to a great extent in estimating the credit standing of individuals and firms on their personal impressions, on such information as they are able to secure through indirect hints and questions and on the business gossip which they pick up. It must be remembered that, except for Buenos Aires, most of the business communities are comparatively small and isolated. There is little opportunity, therefore, for long-continued fraud. A man who shows traces of dishonesty is much more plainly marked than in larger communities. As a consequence, the lack of the machinery and the customs that we consider indispensable in extending credit does not prevent the formation of correct ideas as to the wealth and character of a business man.

UNDEVELOPED ECONOMIC ORGANISATION

Most of the South American countries, we should keep in mind, are still sparsely populated and have no need for the elaborate machinery of trade and finance which exists in Europe and North America. The region farthest advanced in its economic development, the River Plate Basin, may be roughly compared to agricultural States like Iowa, Kansas, and Nebraska as they were thirty years ago. Farming methods are usually not economical. The small farmers have little money of their own, their lands are heavily mortgaged, and they are "carried" from one crop to another by the local general retailer, who makes advances to them both in goods and in money. The retailer must in turn secure liberal credits from wholesalers, who are in their turn partly "carried" by the banks. There is no clear-cut distinction between dealers in commodities and bankers, for the dealers are forced to finance most of their own sales. Such an arrangement of course favours extravagant credits, high prices, speculation, and crises, just as it did in the United States. It is rapidly giving way to a more complex organisation, in which the farmer has funds of his own, does his short-term borrowing at a bank, and pays cash for his purchases.

Without attempting to comment on intermediate grades of organisation we may consider briefly the manner in which trade and finance are conducted in the north coast countries. An officer of a bank there asserts that banking in the north coast countries is not to any great extent a matter of handling currency or money funds. The intermediary system of brokers, merchants, and other middlemen between the producer and his market, to which we are accustomed, is lacking, and the banker must take the place of all of them. He must himself inspect and sell produce. Loans are made, for instance, secured by growing crops; the bank sends a man to the plantation to look over the coffee or cocoa, or whatever the crop may be, and report on its condition and prospects; to protect itself the bank sees that it is properly prepared for shipment, and takes care of the sale in the New York, London, or Hamburg market. The bank collects the proceeds and credits the customer with his share. Interest rates run from 8 to 15 per cent. and commissions for selling from 1 to 3 per cent.

INTEREST RATES

Interest rates average considerably higher--even making allowance for increased risk--in South America than in the United States. They are, however, much more stable and more uniform over the whole continent. The uniformity is no doubt to be ascribed chiefly to the large English and German banks, with their branches in several different countries and their ready access to European financial centres. The stability in rates over a period of years is presumably due in part to the relatively gradual development of banking, commerce, and production, so that sudden shifts in the demand for and supply of banking capital are not frequent.

There are, however, a number of exceptions to the general stability. In Argentina the crop-moving season creates, though to a much smaller extent, the same kind of extra demand for currency as in the United States, and tends to make some seasonal variations in discount rates. They vary from as low as 6 per cent. to as high as 12 per cent., but do not normally move far from 8 or 9 per cent.

COMPENSATION OF DIRECTORATE

The German, French, Italian, Spanish, and many of the domestic banks, especially in Argentina and Peru, follow the European custom of compensating the home office directorate by allowing them a fixed percentage of the net profits. The president, manager, founder, and others may also be compensated in the same way. The net profits of the Banco Espanol del Rio de la Plata are distributed: 2-1/4 per cent. to certain specified charities, 1 per cent. to the founder, 12 per cent. to the reserve fund, 2 per cent. to the directors and managers, 2-3/4 per cent. to the fund for employes, 80 per cent. to the shareholders for dividends and dividend reserves; those of the Banco de Italia y Rio de la Plata: 1/2 per cent. to charity, 5 per cent. to the reserve fund, 7 per cent. to the directorate, 1-1/2 per cent. to the fund for employes, 86 per cent. to the shareholders. There is apparently no general rule which governs the distribution except possibly that the larger the bank the smaller is the percentage for the directorate and management. In England the directors are more likely to receive a fixed compensation. Whether this plan of having a paid directorate works better than the American method of having a directorate made up usually of some of the larger shareholders, whose payment is purely nominal, is an open question. It is largely a matter of national custom.

CLASSES OF BUSINESS OF FOREIGN BANKS

First. The foreign banks in South America usually start by devoting a large proportion of their energy and capital to operations in exchange.

Second. In this connection they purchase and make advances against commercial bills drawn on importers in the countries where they are doing business.

Third. At the same time the home office in London, Hamburg, or Berlin is probably developing a business in acceptances which involves comparatively little direct expense and allows considerable profits.

Fourth. All South American banks are called upon to handle collection of drafts and sometimes to take care of ordinary mercantile transactions, both on a commission basis.

Fifth. An activity which may be of some importance from the beginning consists of underwriting and selling securities.

Sixth. As quickly as possible the foreign banks build up a local account current and loan and discount business.

Seventh. Some of the banks, especially the German banks, have participations in syndicates and in industrial enterprises.

Eighth. In some branches they receive money and securities for safekeeping or rent safe-deposit boxes.

Ninth. Many banks have savings and mortgage-loan departments.

None of the distinctively foreign banks in South America has as yet issued circulating notes; this is being done, however, by some of the domestic banks in which foreign capital is heavily interested.

There may, of course, be other miscellaneous activities.

FOOTNOTES:

[196] Adapted from William H. Lough, Banking Opportunities in South America, Department of Commerce, Special Agents Series, No. 106. Washington. 1915.

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XXVII. AGRICULTURAL CREDIT IN THE UNITED STATES

While agricultural credit has been a subject of intermittent discussion in the United States for almost a generation, the movement has had its main development within recent years. In November, 1911, the American Bankers' Association created a committee to study land and agricultural credit at home and abroad. In March, 1912, American ambassadors and ministers were instructed by the State Department to gather information concerning rural credit institutions in Europe. A year later the Southern Commercial Congress also instituted a careful investigation. These acts, and reports published gave the movement a national character and scope.

Several states, such as Massachusetts, New York, and Missouri, have recently made legislative provision for rural credit institutions and during the last two years very numerous bills pertaining to rural credit have been introduced in Congress. It seems not unlikely that legislation providing for the establishment of a federal system of land banks and rural credit associations, subsidized by the Government, will be enacted in the near future.

The functions and work of rural credit institutions in Europe, briefly discussed in the first two selections of this chapter, are treated more fully in connection with the chapters on the banking systems of European countries, notably those of Germany and France.

[197]Various European nations, with soil naturally inferior to ours, have established agricultural credit and thereby have greatly eased the burden of the cost of living. Hitherto we have lived on the bountiful overflow of our rich land, and the pinch of necessity has not been felt; but now our population has grown enormous, our standards of living have been greatly raised, and our land is showing the effect of generations of taking out with very little putting back. We must do better or suffer.

By the installation of agricultural credit, farming will not only be made more profitable, but it will in the end make country life more attractive. The banking system of to-day is adapted to the needs of manufacture and commerce. The processes of nature are so much slower, however, that banking for farmers must be organised on a basis of credit for much longer periods.

Our present system of borrowing on land is by mortgages running from three to five years, the entire principal coming due at one time. This is expensive, involving renewals, and dangerous from the possibility of the mortgage falling due at a time of restricted credit so that it cannot be renewed. On the continent of Europe this business is handled by so-called land-mortgage banks, or rather associations.

The mortgages granted are pledged for the security of bonds which the institution issues and sells in the general market. These bonds have no fixed maturity, but can be retired at par or some small premium at any time. When the borrower mortgages his land to the bank he agrees to pay a certain fixed sum semi-annually. This is called the "annuity" and is composed of the annual interest plus an amount, generally 1/2 per cent., toward the reduction of the principal of the debt and known as "amortisation," and an additional amount, about 1/4 per cent., toward the expenses of the bank. The borrower, therefore, at once begins to extinguish the principal of the debt; and as each year the principal decreases, the interest, of course, decreases also, and, the annuity being fixed, the proportion of it applicable toward the extinction of the mortgage increases. Thus it happens that, beginning with a payment of 1/2 per cent. toward principal, the mortgage bearing 4 per cent. to 4-1/2 per cent., which are the general rates, the entire debt is extinguished in between fifty and sixty years.

The mortgaging of land is known as long-term credit, and it may be handled by joint-stock institutions or by associations of borrowers, but in institutions furnishing the credit required by farmers for working capital, such as the purchase of seeds, fertilizer, payment for labour, etc., which is known as short-term credit, the aim that the borrower should be primarily considered rather than the lender assumes fundamental importance.

On the continent of Europe a solution of the problem of short-term credit is found in the organisation of banks by the application of so-called co-operative principles. The purpose is to provide organisations in which the borrower receives consideration rather than the lender, also to keep the money of any body of individuals for the use of that body. Under our present system a great deal of money belonging to farmers finds its way into Wall Street. At present the lenders are organised; whereas the borrower stands alone.

AGRICULTURAL CREDIT CONDITIONS IN THE UNITED STATES

[198]The United States, although the leading country of the world in the amount of its agricultural products and in the extent of its banking business, is behind nearly every other progressive country of importance in the development of agricultural credit, i. e., short-time non-mortgage credit. Our manufacturing and commercial businesses are financed largely by means of such credit, and the capital invested in these industries is thereby rendered manifoldly efficient; not so with agriculture. Most farmers apparently make little or no use of short-time credit. There seems to be a wide acceptance in this country even among the farmers themselves of the dictum of Louis XIV, that: "Credit supports agriculture, as the cord supports the hanged." Is this a correct description of the situation? If so, what is the explanation, and what remedies if any are needed? The object of this paper is to throw light upon the answers to these questions.

First, as to existing banking facilities for agricultural credit, and their utilization by farmers. It is well known that the banking capital of the country is concentrated to a great extent in our large cities--to a greater extent than it would be if we had a well-developed system of branch banks like Canada--and that the banks of these cities are prevented by reason of their location from making many agricultural loans, even if they were so inclined. Of the 7,301 national banks in the United States September 1, 1911, 191 or 2.6 per cent. were located in the dozen largest cities of the country.[199] The national banks of these twelve cities, representing but 14 per cent. of the population of the country, had 37 per cent. of the national banking capital (capital, surplus, and undivided profits), 33 per cent. of the individual deposits, and 40 per cent. of the loans. It should be noted, however, that since the act of 1900, authorizing the establishment of national banks with a capital of less than $50,000 in small towns, there has been a continual and rapid increase in the number of national banks in small communities. On September 1, 1911, out of the total 7,301 national banks there were 1,966 with a capital of $25,000, and therefore presumably located in towns of less than 3,000 population, 372 with a capital between $25,000 and $50,000, and therefore presumably in towns of less than 6,000 population, and 2,297 with a capital between $50,000 and $100,000. Except for banks in towns not exceeding 6,000 population, the law as amended in 1900 does not permit any national bank to be organized with a capital less than $100,000.

Are the national banks which are accessible to farmers in a position under the law to meet farmers' needs? The answer to this question must be in the affirmative. Aside from the fact that national banks are not permitted to make loans on real estate security,[200] there is no restriction in the national banking act which would interfere with loans to farmers for agricultural purposes. Personal security alone is legally acceptable; the range of possible collateral security is practically unlimited; and there is no limitation fixed by law as to the period of loans. National banks therefore have a very free hand in regard to loans to farmers.

When we inquire concerning agricultural credit in banks under state charters we find conditions varying with the different States, but, with a few minor qualifications, it may be said that the state banking laws are free from restrictions that would hamper state banks and trust companies in extending credit liberally to responsible farmers. They are in a much better position in one respect to deal with farmers than are national banks, that is, in the matter of accepting real estate security. No state denies state banks this privilege, and such restrictions as exist upon its exercise are generally not onerous.

If commercial banks are comparatively unhampered by law in making short-time loans to farmers, it may be asked: To what extent are such loans made? Unfortunately practically no information is available on this question. In answer to an inquiry the Comptroller of the Currency wrote, under date of May 27 of this year, that no information with reference to short-time loans made to farmers by national banks had ever been compiled by the comptroller's office. The writer has found no trace of any investigation of this subject by state banking departments. For about a year he has taken occasion to inquire at every opportunity of individual bankers concerning their experience with regard to loans to farmers in different parts of the country. The replies received are so divergent that no conclusion can be drawn from them, except that the practice varies widely in different sections of the country and even in different communities in the same section, and that probably the farmers of the North Central and Western States borrow of commercial banks more than do those of the Eastern and Southern States. There is not sufficient evidence, however, for this latter inference to make it much more than a guess. In the absence of any comprehensive data, I shall resort to the unsatisfactory but representative replies from different parts of the country.

Neither of the two national banks in the city of Ithaca, N. Y., makes any appreciable amount of loans to farmers. Both claim to be willing to do so, but say there is practically no demand. In some of the neighboring cities, however, such loans by national banks are more common. The cashier of a national bank in a town of about 800 population in an agricultural section of northeastern Pennsylvania writes:

Our farmers as a rule are not large borrowers and want loans only in small amounts for short periods.

Farmers in general will not go on each other's paper no matter how good the parties are, for they have been so often taken in by wild-cat schemes that they are shy when their names are required to be placed upon paper. They realize also that they are not familiar with business methods in the commercial world and dare not trust themselves.

There is a moderate amount of borrowing by farmers in western New Jersey. Estimates made by bankers in Princeton as to the proportion of farmers in that neighborhood who borrow for short periods of local banks vary from 15 to 40 per cent.

A former president of a national bank in Indianapolis writes:

We came very little in contact with farmers. We made special effort to secure such business by sending to a considerable mailing list of carefully selected farmers, circulars and personal letters ... but the business did not come. My inference was that they dealt with the nearby small banks.

Of the situation in Lafayette, Indiana, a former vice-president of a national bank, writes:

About 50 per cent. of our business was with farmers. They borrow frequently from commercial banks, funds to be used for crop planting, crop gathering, purchase of agricultural machinery, improvements on the farm, purchase of cattle, and the carrying of cattle or hogs to maturity. Through Indiana these farmers' loans are very usual in the country banks, many preferring state charters so they may make these loans not only on personal but also on mortgage security.

Farmers are seldom able to give any but personal or mortgage security. A large percentage of them are sufficiently responsible to be entitled to and to receive reasonable credit without security.

Farmers seem to endorse for each other much more readily than do those of other classes.... The reason is, I think, clear. Each knows pretty much everything about his neighbor's financial status, the amount and value of his land, his live-stock, and other visible personal property, the amount of any mortgage and when due. So much being thus in the open there is less of the secretive habit, so that the extent of the invisible personal property and debts is apt to be known.

A similar report comes from a national bank in Lincoln, Nebraska, from which the following extracts are taken:

The farmers of this state have need of accommodations of this kind to carry them through the crop season. As a matter of fact, they use short-time credit to fully as great an extent as do the business men in the city and smaller towns. In fact, I think it is true that in the smaller towns the bankers favor the farmers in preference to the small business men....

There is no doubt about the average well-to-do farmer in this state being able to furnish satisfactory security aside from mortgaging his farm for such temporary loans within any reasonable limitations. In some cases the banks take chattel mortgages on cattle or other live-stock, and in some cases where the farmer has a good equity in his farm they will not hesitate to take his personal note.

While I do not know that there is any particular difference between farmers and other classes in this state as to their willingness to go security for each other, yet very little of this is done any more. There was a time when it was not an uncommon thing, but it has become less and less until now there is very little signing done for others. In fact, the farmers feel that they are able to take care of themselves and do not ask others to sign with them, and are able to handle themselves without such an endorsement. This is true of all classes in this state.

I have never felt that in this locality farmers suffered in any way from lack of credit facilities....

A former bank examiner in the state of California, himself a farmer, writes:

The farmers of California do not to any considerable extent make a practice of borrowing money from local banks or money lenders for short periods....

In reviewing the various bank examiners' reports on some 500 state banks I recall very few instances of crop mortgages, and it impresses me that in many of the cases the mortgage was taken to obtain additional security for loans previously granted and secured otherwise.

I think it would be safe to say that the bankers as a rule have not favored short-time unsecured loans to farmers. They are, however, fast awakening to the fact that as a rule these are the safest loans a bank can make, and are making an effort to get in closer touch with the farmer. It would also be safe to say that the average small farmer does not as yet realize that he can obtain such credit at a bank.

Our farmers as a class are exceedingly reluctant "to go each other's security." Two-name paper is mostly confined to commercial transactions.

A college professor in the state of Washington informs me that short-time loans to farmers are common in that state, but that frequently the rate of interest charged is 2 per cent. higher than that on commercial loans--the explanation commonly given being that a farmer borrowing generally reduces the resulting deposit credit more rapidly than does a merchant.

In the Southern States, particularly in the cotton, rice, and tobacco sections, the use of crop liens for short-time loans appears to be much greater than in other sections of the country.[201] Such meager testimony as I have been able to secure seems to show that the amount of short-time agricultural credit extended by banks in the South is relatively small but rather rapidly increasing. The banks are catering more and more to this class of business.

Other evidence might be cited, but the above gives a fair picture of the situation as revealed by all the testimony received--a confused picture of widely varying conditions. Public opinion is now being aroused on the subject of agricultural credit, and pressure is liable to be brought for hasty and perhaps radical legislation. Obviously, the first step to be taken in the interest of a sane solution of the problem is to find out exactly what the problem is. To this end the writer would urge strongly the need of investigations by the Comptroller of the Currency and by the various state banking departments of the present facilities and practices in the matter of agricultural loans. In view of the increasing public interest in the subject the investigations cannot be undertaken too soon.

Although the farmers in any section of the country may not resort to the banks for short-time credit it does not follow that they are not receiving such credit. As a matter of fact they are often receiving it on a considerable scale and in the most expensive way. i. e., in the form of book credits with merchants. It is a common practice throughout the country for farmers to run up book accounts with local merchants during the spring and summer to be paid in the fall when the crops are sold. When this is done on any considerable scale the farmer probably pays more than bank interest under the guise of prices; and this is particularly true when he obligates himself to sell his crops to the creditor merchant. In the South this practice is carried to the extreme in the familiar "store-lien" system which holds many farmers in the cotton belt in a condition bordering on perpetual servitude. The custom is for the farmer to buy supplies of the local general store on credit for the year, agreeing to sell to the merchant his cotton crop in the fall, thereby cancelling the debt. A crop lien is generally given, and the merchant often dictates the character and the amount of the planting. The prices paid for cotton under this system are liable to be exceptionally low, and the prices paid by the farmer for his supplies exceptionally high. The system has proven a curse to many sections of the South. Witnesses before the United States Industrial Commission estimated the interest rates imposed by this system at from 20 per cent. upwards. Mr. George K. Holmes of the United States Department of Agriculture testified:

The rate of interest on the liens on the cotton crop of the South, it is safe to say, probably averages 50 per cent. a year. All cotton men will agree that it is at least that. The store system of the South is a sort of peonage; that is what it amounts to with the cotton planter.[202]

Since the Industrial Commission's report was published the banking facilities of the South have been greatly increased, and the banks are coming into closer touch with farmers, with the result that the store-lien system is gradually breaking down.

Another form of credit to farmers is that obtained from dealers in farm implements and machinery which the farmers frequently buy on time, paying interest during the credit period.

One informant, who has been a bank examiner, writes from California--and his testimony is applicable to many other sections of the country:

The new generation of merchants is not disposed to carry the farmer as of old and insists that overdue accounts be covered by promissory notes which are in turn hypothecated with their bank. In other words a clearer demarcation of function is being gradually brought about to the best interests of all concerned.

Such in general is the present situation in the United States in the matter of short-time agricultural credit as evidenced by the very indefinite and scant information available. What are the causes? Perhaps in them will appear some suggestions for the remedy.

The chief reasons for the backwardness of the United States as compared with Europe with regard to agricultural credit may be briefly summarized as follows: (1) Our wonderful agricultural domain where good land could be had almost for the asking, and where for generations land was so cheap and labor and capital so dear that intensive cultivation was generally unprofitable. (2) The prosperity of our farmers who have not been forced by dire necessity to resort to credit as were the farmers of Germany at the middle of the last century when the Raiffeisen co-operative banks were first organized. (3) The nomadic character of a considerable part of our agricultural population as it has moved continually westward in taking up of new lands, and more recently as it has been retracing its steps or moving northward. (4) The isolation of our farmers in this country of large farms and "magnificent distances." (5) The rapid growth of the manufacturing and commercial business of the country--and that largely in the hands of the same class of people who control the bulk of the banking business.[203]

Add to these circumstances the obstacles which farmers always encounter in the matter of credit, as compared with manufacturers and merchants, obstacles such as the uncertainty of crops and the strongly seasonal character of the farmer's credit demands, and we have a sufficient explanation for the backwardness of agricultural credit in this country.

To emphasize most of these causes, however, is to brand oneself as belonging to a past generation. Our domain of free arable land is practically gone; good farms must be bought, and for them ever increasing prices must be paid.[204]

The era of hand cultivation is giving way to that of farm machinery propelled by horse-power and even by steam, gasoline, or electricity, with its resulting great increase in the efficiency of labor. Eleven years ago the editor of The Dakota Farmer, in his testimony before the United States Industrial Commission, put the matter tersely, and with little exaggeration, as affecting his own section of the country, at least, when he said: "When I first worked out it took five binders to follow a machine, one man to rake off, and one to carry the bundles together. Now the hired girl frequently drives a machine that does the whole business."[205] Some idea of the extent of this increase may be obtained by reference to the following figures compiled from census reports:

VALUE OF FARM IMPLEMENTS AND MACHINERY IN THE U. S.[206]

Year Value _Per Cent. 000,000 Increase_

1910 $1,265 69 1900 750 52 1890 494 22 1880 407 50 1870[207] 271 10 1860 246 62

The increase in the value of farm implements and machinery per acre of land in farms from 1900 to 1910 was from $0.89 to $1.44, or 61.8 per cent.

An analysis of the figures for farm machinery by geographic divisions shows a marked difference in the rates of increase, but the tendency in all sections during the last forty years has been decidedly upwards, the greatest growth having been witnessed in the decade ending 1910. During that decade the lowest rate of increase in any section was that of New England, 39 per cent., and the highest that of the Mountain States, 163 per cent.[208]

Another development which is making larger demands upon the farmer for working capital is the increasing use of artificial fertilizers, the expenditure for which in the United States approximately doubled from 1880 to 1900.

As the result of such tendencies and of the rapid depletion of our free domain, farming in the United States is losing its old-time kinship to mining and becoming more like manufacturing. More and better machinery and more power are needed on most farms in the interest of efficiency. This calls for short-time credit. But a supply of good machinery requires a fair sized farm for its efficient utilization--hence the need for larger farms and for mortgage credit to make their purchase possible. Upon this subject there are some very illuminating data in Warren and Livermore's Agricultural Survey of four townships in Tompkins County, N. Y., from which the following is quoted:

The value of farm machinery increases rapidly with the size of the farm.... Any one who has ever made a list of the necessary farm machinery will see at once how inadequately these small farms are equipped. Yet their machinery costs nearly twice as much per acre as that on the larger farms that have nearly three times as much machinery. Machinery can be used more effectively on large farms. One mower, one hay rake, one tedder, one hay loader, one corn harvester, one grain harvester, one grain drill, one manure spreader, one potato digger, one potato planter, can do their work on a 250 acre farm as readily as on a small farm. Few of the small farms have half of these tools. If a small farm does have nearly all the list, it cannot use them enough to pay for the investment. The more efficient and numerous machines become, the larger our farms should be. It is interesting to notice how many of the tools are of very recent development. Almost half of the value of farm machinery on a well-equipped farm is invested in machinery that has been perfected in the last few years.

Much the same situation exists in regard to an adequate equipment of horses.

Three or four horses are the smallest number that can be used efficiently with modern machinery.... The small farms have not enough horses to make efficient teams and yet they are over-supplied with horses compared with their area. On these farms there are only 15 acres per horse. On the largest farms, one horse farms three times this area, with no resulting decrease in crop yields.... When we consider the cost of keeping a horse we see what a great advantage the larger farms have.

Forces like these are counteracting what is commonly thought of as the normal tendency of agriculture to move toward more intensive cultivation on small farms, with the result that the average amount of improved farm land per farm actually increased instead of diminishing in the United States during the last decade. This does not mean less intensive cultivation, in fact quite the contrary; it means more intensive cultivation, but by the efficient utilization of good machinery and of power. It means further, as said above, a demand for mortgage credit for the purpose of enlarging farms--and that, at rapidly increasing farm prices.

The farming population is becoming more settled now that the free lands are practically gone and the frontier has disappeared.[209] The isolation of the farmer is rapidly becoming a thing of the past, with the advent of rural free delivery, rural telephone, the automobile, and the parcels post. The farmer no longer buys gold-bricks nor is duped by fraudulent lightning-rod schemes except in the pages of the comic supplements.

When seeking credit the farmer can offer better security than ever before. His markets are larger, better organized, more certain, and more accessible. The risk of crop failure is less, thanks to the wonderful progress of scientific agriculture. There are few pests which cannot now be readily controlled by the intelligent farmer, who takes time by the forelock. The problem of moisture is growing less serious every year with the improvements in irrigation, dry farming, and the more scientific diversification of crops.

Conditions then point to an increasing need for agricultural credit, and to improving circumstances for its safe development.

If the time is ripe for a greater use of bank credit in agriculture, how is that credit to be obtained? Broadly speaking, four methods may be mentioned, only the last two of which are deserving of much attention at the present time. They are: (1) Establish government agricultural banks; (2) adopt the Egyptian plan of a government guaranty to an agricultural bank established with private capital; (3) encourage the farmers to organize co-operative credit societies on some such plan as the Raiffeisen or Schulze-Delitzsch banks of Germany; (4) utilize more effectively in the interest of the farmer our present banking machinery, and improve it where it is defective.

The suggestion of an agricultural bank owned and operated by government, either state or federal, is not worthy of serious consideration in this country at the present time. The history of such banks both in Europe and America has generally been a disastrous one, although a few have succeeded. Some exist to-day which are performing useful services to farmers, notably in the line of mortgage credit, among which may be mentioned those of the Australian States and New Zealand,[210] and the recently established one in the Philippine Islands. The success of such institutions is not such as to justify any attempt to establish them in the United States, at least until every reasonable effort has been made to solve the problem by means of private and co-operative effort.

The other plan, commonly known as the Egyptian plan[211] from its most important example, seeks to eliminate the evils of a purely government bank and to take advantage of its meritorious features. In Egypt the agricultural bank is owned and financed by private capital; it enjoys, however a government guaranty of principal and of 3 per cent. interest. Its administrative expenses are kept low by an arrangement with the Egyptian Government by which the Government tax collectors make collection of instalments on the Bank's loans at the time of the collection of the regular land tax, for which the Bank pays a small commission. The Agricultural Bank of Egypt has had a phenomenal success, rendering an invaluable service to the Egyptian fellaheen, and at the same time yielding good profits to its owners. It was this type of bank that the United States Government authorized established in the Philippines by the act of March 4, 1907, but the interest guaranty of 4 per cent. has so far proved too low to attract capital into the enterprise.[212]

A bank organized on the Egyptian plan is well adapted to do pioneer work among ignorant farmers, where the apparent risks and heavy administrative expenses prevent private capital from entering the field. A government guaranty, however, hardly seems necessary in the United States, and our people would probably look askance at any proposal for a great agricultural bank or banks of this type with branches scattered throughout the country. It is contrary to our banking traditions, and, like the plan for a strictly government bank, should not be thought of until plans for meeting the need by private initiative have been fairly tried and found wanting.

When one considers the question of the improvement of agricultural credit in the United States one instinctively thinks of the co-operative credit banks of the old world, because of their phenomenal success for a half century and more, the simplicity of their structures, the ease with which they may be established, and their ready adaptability to the widely varying conditions found in a great country like the United States. The description of the wonderful success of these institutions as told by Henry W. Wolff in his People's Banks reads like a fairy story. Although the success of co-operative banks has been great in nearly every country of Continental Europe, nowhere else has it been so great as in Germany, the country of their origin, and it is to Germany one naturally turns first for suggestions. There we find four types of co-operative credit banks, Landschaften, Ritterschaften, Schulze-Delitzsch banks and Raiffeisen banks. The first two are co-operative associations loaning money on land mortgages, and securing funds largely through the issue of bonds against the collective mortgages. Being concerned with long-time mortgage credit they do not fall within the province of this paper. The other two types of banks deal especially with short-time credit, the one chiefly in the towns and cities, and the other with farmers in the rural communities. It is with the latter that we are most concerned. Let us therefore consider briefly the essential features of the Raiffeisen system.

These features are: (1) Organization on the strictly co-operative principle, none but members having the right to borrow, although non-members may make deposits. (2) Limitation of loan operations to a very small area in which all farmers are acquainted with each other. A bank's field of business, the founder believed, should not cover a parish of less than 400 people nor of more than 1,500. The banks were to be, therefore, purely neighborhood affairs. There is a sympathetic but well-informed neighborhood opinion which prevents the squandering of loans. (3) Unlimited liability of all members for the debts of the bank, a necessary corollary of which is the provision that membership is obtained only by election by those already members. (4) The working capital of the bank is obtained chiefly from the following sources: (a) Small savings "drawn, either from within the area covered by the bank, in which case it comes both from members and non-members, the former being rewarded where possible at slightly higher rates in order to encourage membership; or from without the area, in which case it of necessity comes from non-members."[213] (b) Loans from the provincial bank of the district, or more importantly from the central bank of the Empire at which the local bank keeps a current account and with which it may rediscount its paper. Funds are also sometimes obtained from other banks or from private individuals. (c) A purely nominal share capital which the banks did not originally have, and which they have been forced against their will to issue. The requirement is now usually met by the issue of a few low-priced shares of which no member can hold more than one and upon which no dividend is paid. (d) Two surplus funds called reserve funds; one used exclusively to cover losses, and the other being the principal reserve fund (Stiftungsfund), commonly used for "positive improvements, such as the extension of the premises or the establishment of a burial fund."[214] In this fund must be placed two-thirds of the annual profits. The fund cannot be distributed among the members, even though the bank be dissolved. In such a case it is held in trust for a time for a new bank, should one be established, and if no such bank is established it must be used for some work of public utility. A recent publication of the International Institute of Agriculture[215] analyses the total working capital of the rural banks of Germany for the year 1909 as follows:

Amount Percentage in Marks 000,000

Share capital 22.4 1.2 Reserves 51.0 2.6 Deposits on current account 189.1 9.8 Savings deposits 1,455.6 75.2 Other liabilities[216] 217.5 11.2 Total working capital 1,935.5 100.0

The striking fact brought out by these figures is that out of nearly two billion marks placed at the disposal of farmers, less than[217] 11.2 per cent. was furnished by outsiders, while more than 88.8 per cent., was provided by the savings and other deposits of the farmers themselves and of the local public. (5) A fifth feature of the Raiffeisen system is that the bank's administrative organization is simple and democratic. Final authority on local questions resides in the general meeting in which every member has one vote. There is elected annually a committee of management consisting usually of five or six directors who meet weekly. As a check upon this executive committee there is also elected annually a council of supervision consisting of from six to nine members. A biennial audit is made of the accounts of each bank by an accountant employed by the district or central union. The books of the bank, except the individual deposit ledger, are open to the inspection of all members. Officers of the local banks serve without compensation, except the treasurer who has no vote in the making of loans.... (6) Advances take two forms: the ordinary loan (of which the name is sufficiently descriptive), and the current account which is similar to the Scotch cash credit. The latter constitute about a third[218] of the total and show a tendency to increase in proportion to the ordinary loans. The period of the ordinary loan varies from six months to three years; and in exceptional cases it may be even longer.[219] Loans are repayable in instalments covering interest and part of the principal, or in lump sums. Banks reserve the right to call a loan on four weeks' notice. The average credit advanced per member is 500 marks, and the average interest rate probably somewhere between 4 and 5 per cent. Although mortgage and other collateral security is sometimes accepted, the banks' chief reliance is personal security, and the great bulk of the loans are made on two-name paper.

The Raiffeisen banks are organized into provincial federations with provincial banks at their head, and these in turn into a national federation with a central bank at its head. These provincial banks and the central bank "equalize the need of credit of the individual banks, supplying them with money when required and employing their surplus funds."[220] A large proportion of the German co-operative banks and other co-operative agricultural societies are federated in a single national organization, the National Federation of Darmstadt.[221]

Such are the leading features of the greatest agricultural credit system of the world. To the American the surprising thing about it all is that such co-operative credit banks are practically unknown in the United States, although there has been a remarkable development here in recent years of other forms of co-operation among farmers.[222] This surprise is the greater when one bears in mind that "whole counties have been populated in the Northwest by European agriculturists who came from neighborhoods where they were familiar with agricultural co-operative credit, and yet not a society of co-operative credit for these immigrants has been established from the beginning to the present time."...[223]

What is needed now--and possibly about all that will be needed in the future--is a campaign of education among the farmers themselves rather than one of legislation; although the development of such societies will doubtless be furthered in many states by legislation, such as was recently enacted in Massachusetts (ch. 419, Acts of 1909), freeing them from some of the hampering provisions of the general banking act of the state. Conditions are so widely different in different sections of the country, and among different classes in the same section, that co-operative agricultural credit societies will need to be given a fairly free hand in such matters as limited or unlimited liability, the amount of share capital, receipt of deposits, etc., so that they may adapt themselves to local needs. A reasonable amount of government supervision on the part of the banking departments of the states seems desirable.

Passing now to the question of the better utilization of our existing banking machinery, we may consider it first from the standpoint of the Government, then from that of the banks, and finally from that of the farmers themselves.

The provisions of the national banking act (Revised Statutes, Sec. 5137) are too rigid in the matter of loans on real estate security.[224] National banks are, of course, intended to be banks for business men, and their assets should be quick assets in so far as their liabilities are quick liabilities. But it should not be overlooked that the modern farmer is a business man, that he needs active credit for the efficient conduct of his current business, and that land is the only kind of collateral many farmers can give that is acceptable to bankers. Many worthy farmers are not willing and some are not able to secure satisfactory endorsers to their paper. Crop liens, except in the South, are not usually very acceptable to banks. The ability of the farmer to give mortgage security to national banks in case of need would often prove a great help. Furthermore, now that a majority of our national banks have savings departments, and that savings deposits might wisely be made withdrawable subject to advance notice, it is not unreasonable that these banks should be permitted to invest at least a substantial part of their savings funds in the same kinds of mortgage securities that are open to the investment of funds of savings banks; provided, of course, that due care be taken to prevent the juggling of accounts between the commercial department and the savings department of the bank.

Another form of desirable legislation in the interest of the farmer consists in the abandonment of our unscientific bond secured bank-note circulation for a scientific system, and in the rendering of our deposit currency more elastic. The more the farmer resorts to bank credit as a means of financing his current business the more will he suffer from the seasonal inelasticity of our bank-note and deposit currency. Farming business is pre-eminently seasonal in character; the farmers over the greater part of the country need funds most at about the same times of the year, i.e., the fall and spring. A great increase in the demand for currency and capital, say in the fall, under an inelastic currency and credit system like our own, means to the farmer, highest interest rates at just the time when he needs most to borrow, greatest scarcity of cash at just the time when his need for cash is the most urgent, and prices depressed by a tight money market at the time of the year when he has most to sell. It is doubtful if any class of people in the country would benefit more from a thoroughgoing reform of our banking system than would the farmers.

The apportionment of responsibility between farmer and banker for their not having gotten together better is an impossible task. Although some exceptions must be made, particularly in the Middle West, as a general proposition neither has appreciated the opportunity which the other offered.

The banker must be brought to realize that one of the best kinds of paper in the world is short-time business paper bearing the names of two responsible farmers. He should be an adviser and friend to the farmer as much as to the city customer. He should make the farmer feel that a productive loan to him is not of the nature of a favor reluctantly granted--as so many farmers complain--but rather a business proposition profitable to both, as gladly given as it is received. He should further co-operate with the local business men in preparing financial ratings of farmers, to fill the gap left by the inability, to be hoped temporary, of mercantile credit agencies to rate farmers as extensively as they do other business men of like capital.

The farmer, on the other hand, must be educated by the banker, the press, and the agricultural school and college, to the advantages of credit as a mean to the more efficient working of his farm. This should be done with caution, for credit is a two-edged sword. The farmer should be encouraged to borrow only when it is very clear that he can use additional capital so productively that it will pay. But what industrious farmer could not use profitably some additional capital every year, could he obtain it at as reasonable rates as does the merchant? The farmer must learn to keep careful accounts. He must be made to realize that the banks are open to him as to other business men, and that the bulk of the country's short-time commercial loans, as likewise of the agricultural loans of Europe, are made on the very same security he is capable of giving, i.e., two-name paper of honest, industrious business men.

FARM CREDIT IN A NORTHWESTERN STATE[225]

LONG-TIME LOANS

In North Dakota the average farm mortgage runs for 4.94 years; and the average interest rate is approximately 8 per cent. (accurately 7.88 per cent.). This 8 per cent. does not include the expense of abstracting titles, examining the property, and the recording of the mortgage. These fees are invariably paid by the borrower. Nor does this interest rate of 8 per cent. take account of the bonus that is frequently exacted, in the newer regions, from the borrower for the privilege of securing a loan; nor does it allow for the sum the borrower loses in paying his yearly interest in advance, which is deducted from the principal. While the practice of exacting a bonus is not common, it is generally the custom to deduct the entire year's interest in advance; assuming an 8 per cent. rate, the farmer therefore pays $80 interest not on $1,000 but on $920, which brings the rate up to 8.7 per cent.

While the average prevailing rate, according to our returns, is approximately 8 per cent., the rate varies in different parts of the state, depending upon the local conditions. The rates are lowest in the eastern tier of counties, and rise gradually towards the western part of the state, where the rate runs up to 10 and 12 per cent., which is also the rate in the eastern part of Montana. That the 8 per cent. rate is quite general for a large part of the state is evidenced from the fact that 25 of the 45 counties report an average rate of 8 per cent. or more. In only 4 counties is the rate less than 7 per cent., and in no county does the average fall below 6 per cent.

The above figures are conservative. They are based on returns submitted by bankers who would naturally understate rather than overstate the rate of interest charged in their respective localities. Furthermore, we have a check on these bank returns in the replies received from farmers. As a rule the rates reported by bankers and farmers are nearly identical in their respective counties. It is safe to conclude, therefore, that the average rate on farm mortgages for the entire state is about 8 per cent.

SHORT-TIME LOANS

Short-time loans are of two kinds, bank loans and book credit advanced by retail stores. The bank loan is made on the farmer's note, generally unsecured, though often secured by a chattel mortgage. According to the reports received from 125 banks, the average length of time for these short-time loans is 8-1/2 months; and the average rate of interest is 10.75 per cent. The average rate reported by farmers residing in 22 different counties was 11.07 per cent.

An effort was made to compare rates paid by farmers with those paid by business men on short-time loans in the same locality. The same banks that reported an average of 10.75 per cent. to farmers averaged only 9.18 per cent. on loans made to merchants and manufacturers. Fully 95 out of the 125 reporting banks stated that the rate was higher for agricultural short-time loans than for commercial loans; 26 reported the rate to be the same for both classes; and only 4 reported a lower rate for the farmer. As North Dakota, however, is not a manufacturing nor a jobbing state, commercial paper is scarce, and consequently comparisons of the above nature are apt to be misleading. The significant fact remains that the farmer pays from 10 to 11 per cent. on small loans, for short periods of time.

Store or book credit is a form of short-time loan which is perhaps more important than bank credit. In a state where the bank charges a high rate of interest, the farmer is more likely to buy merchandise on credit than to borrow from the bank and pay cash. The North Dakota farmer is rarely denied credit at a country store. To secure information on this form of credit, questionnaires were mailed to implement and hardware dealers, as well as to farmers. One question asked of implement dealers was: "What percentage of farmers pay cash in buying farm machinery?" The answer from 54 firms, located in 35 counties, was that only 13 per cent. of the farmers pay cash, 87 per cent. buying on time. Out of 29 farmers reporting only 6 pay cash in buying machinery and supplies. These book accounts run anywhere from three months to two years; the average account is carried about one year (12.37 months). The farmer contemplates making payment immediately after his prospective crop is marketed. In case of crop failure the retailer will carry the account over until the next harvest season.

It is quite common for the dealer to obtain a note from the farmer--the note generally bearing a 10 per cent. interest rate from the date of issue. Often, however, the note does not begin to bear interest until the farmer has failed to make payment at the expected time, that is, immediately following the harvesting season. The 54 implement and hardware dealers reported an average of 10.26 per cent. interest per year on these notes.

It is more difficult to secure uniform information from dealers on the subject of book credits, especially with reference to the interest rates charged on such accounts. The practice varies. Usually an interest rate is added to the credit price depending on the duration of the account. There is no common discount rate for cash purchases, though 7 per cent. is most common, that is, 7 per cent. of the credit price. This brings the credit price of a $160 binder down to $150 for cash. As a matter of fact all dealers quote two prices, the cash and the credit price, the difference between the two depending upon the reputation of the buyer, the shrewdness of the seller, and the degree of competition in the particular locality.

On this point, replies from farmers do not differ materially from the replies of the implement dealers. The difference between the cash price and the credit price of a binder is usually given as $5 to $10, and a wagon or plough, as $3 to $5. The general discount rate is 7 per cent. off the credit price.

The implement dealers and the farmers are all agreed that cash payments would be preferable if rates on bank loans were reduced. The farmer, however, is often afraid to approach the banker for a loan. On the other hand, the farmer does not always see that the book credit is quite as expensive as bank credit, if not more so. The prevailing high bank rate, however, from 10 per cent. to 12 per cent. on short-time loans, does not encourage cash payments.

Are the foregoing rates too high as compared with rates in other communities? The Crop Reporter for April, 1913, shows interest rates on short-time loans in every state in the Union. In 1913, the North Dakota rate exceeded that of all other States; in 1912, it exceeded all but Oklahoma.

Farmers as a rule think that rates are fixed arbitrarily by the bankers and other money lenders in the community. That fundamental laws of supply and demand have any controlling influence is apt to be overlooked. Without attempting to justify the high rates let us state some of the conditions which help to explain them. The demand for capital in a growing state is always greater than can be met by the local supply. In 1890, North Dakota farms were mortgaged for $11,168,854; in 1910, for $47,841,587; in 1920 it will doubtless reach $150,000,000. Outside capital is attracted into the state by high rates of interest. Two life insurance companies, the Union Central of Cincinnati and the Northwestern Mutual of Milwaukee, loan heavily in the state. In 1910 the Union Central Life Insurance Company reported a total investment of $5,489,087.33 in North Dakota real estate. Local banks use farm mortgages in borrowing money from banks in large cities outside of the state. Every town and village has its money-lender who acts as agent for foreign investors in farm mortgages. Banks within the state compete for capital by offering high rates of interest on time deposits, and pay all the way from 4-1/2 to 7 per cent. interest on deposits. The rate on loans must necessarily be higher under these circumstances than where banks are paying 2-1/2 and 3 per cent. interest. The high interest rate paid on bank deposits is evidence of the lack of local capital to satisfy the local demand.

The inability to attract foreign capital on lower terms is due primarily to the character of the investment. The newness of the state, the instability of its population, the character of its agriculture, all make for uncertainty. Hence the speculative character of the farm mortgage as security for a loan. In the eastern counties where the land has long been under cultivation, where the population is more stable, and where mixed farming has in a large measure supplanted the bonanza wheat farm, rates are correspondingly lower than in the newer portions of the state. As the element of risk is eliminated from investments, interest rates will come down. At least this seems to be the consensus of opinion among bankers.

The character of the farming is frequently mentioned as a prominent factor in the credit situation. A crop failure under a single crop system, such as is practised in North Dakota, is likely to find the farmer in bad straits. The payment of interest on the mortgage is delayed or deferred. The local bank or loan company is obliged either to carry the farmer along for a year or to foreclose. Since many farm mortgages are held by outside investors, the annoyance is sufficient to reflect itself in an increased rate of interest. Because of this fact many bankers are urging mixed farming as a means of reducing rates. This aspect of the question is well expressed in a communication from a banker in Stark County who says:

It is our belief that the scarcity of money and the high interest rates are largely due to poor farming. The people having money to loan know well that our farmers here have a very uncertain income according to their present methods of farming, and would expect a much higher rate commensurate with the risk taken when they can find people where money can be placed more safely. As conditions are here now, some people have not paid all their interest, for at least three or sometimes four years. In the older slates, like Iowa for example, where people farm well, interest rates are much lower. As soon as our farmers can show that they are safe and will take care of their obligations promptly, they can command the lowest interest rates that may exist. We believe it more necessary to work on better farming methods, encouraging them, than on better interest rates, for the lower interest rates are a natural consequence of better farming.

Another factor is the character of the population. One prominent banker says of North Dakota farmers: "They lack a sense of responsibility. Farm loans require constant care, hence high rates." Another complaint is: "Farmers are careless in not making prompt payment or renewals of obligations." Some bankers think the high rates due to too much borrowing; that is, too much liberality in the loaning of money. Injudicious loaning leads to extravagance, and naturally calls for high rates to offset the risks involved. One banker in analyzing the situation claims that the legal restrictions placed on the loaning power of banks is responsible for unduly high rates. In support of this view it might be stated that while the total farm mortgages in the state in 1910 reached the $50,000,000 mark, the power to loan on real estate by all banks, state and national, was less than $5,000,000. Banks are forced to loan on the personal note of the farmer, secured by a mortgage, instead of taking a direct mortgage on the property. Other banks turn these mortgage loans over to trust companies, and collect a commission from the farmer for placing the mortgage.

Commissions are responsible for at least from one to two per cent. of the rate when loans are handled by real estate agents and loan companies. In the case of loans by life insurance companies, the state agent generally receives one per cent. and the local agent, at interior points, receives one per cent. Two per cent. could be saved by the farmer if the money could be borrowed directly from the investor, without the aid of an agent.

Allowing, however, for all these local conditions--the great demand for capital in a new and developing country, the inability to attract sufficient outside capital because of the risky character of investments, the irresponsible character of some elements in the population, the character of farming methods, the commission agent, and the legal restrictions handicapping banks--allowing for all these conditions, and because of some of them, it is believed that the farmers by organizing co-operative credit associations could reduce the rate of interest on both long- and short-time loans; and, furthermore, that such co-operative credit facilities would be a means of improving the methods of farming, would encourage stability in population, and would make the farmer feel that he is not being discriminated against in the borrowing and employment of capital.

CATTLE LOAN BANKS[226]

Consumers desiring a reduction in the cost of food supplies will be interested in a study of the operations of cattle loan companies and in the development which these may reasonably attain as a result of the provision in the Federal Reserve Act for the rediscounting of agricultural paper.

The cattle loan company, commonly referred to as "cattle bank," is a middleman between borrowing cattle-owners and lending bank-managers. Its business methods and forms closely parallel those of real estate mortgage loan companies except for the fact that cattle loans are of shorter duration and secured by mortgages of the chattel variety. Cattle loan companies, incorporated under state charters, have been operating in such cities as Fort Worth, Denver, East St. Louis, St. Joseph, Portland, South St. Paul, Omaha (2), and Kansas City (3), some of them for over twelve years; and one is now being organized in Chicago. These companies have a paid-in capital stock ranging from $50,000 to $300,000, and are usually closely affiliated with a national or state bank, as are trust companies in the larger cities.

These companies are informed of desired loans through country bankers, or by receipt of direct applications, the latter usually from the larger "cattle-growers." In some cases the company on its own initiative urges cattlemen in whom it has particular confidence to undertake feeding operations at a time when the beef market offers a favorable opportunity for such production. In every case a salaried examiner of the company inspects the plant and herd of the cattle-grower and his personal capacity and integrity before the granting of a loan. And thereafter the examiner, on his regular circuit, maintains a continuous inspection and volunteers advice designed to protect the value of the security given for the loan. When a loan application has been acted upon favorably, a promissory note and chattel mortgage are taken. The funds of the company then advanced to the borrowers may be utilized to buy more cattle, to pay outstanding debts such as those for feeding expense, or, as is often the case, to buy the very cattle which are pledged as security for the loan. In a few cases where the cattle-grower enjoys an exceptional credit, funds will be advanced for the full purchase price of a herd for seasonal feeding purposes, or to develop two-year-olds into finished four-year-old beef cattle. The loans granted are seldom less than 60 per cent. of the known value of the cattle.

To secure a buyer for the note and mortgage is the second primary function of the cattle loan company. If the loan is a small one, usually $10,000, it may be sold entire, the chattel mortgage assigned and the note indorsed to the buyer. If the loan is a larger one, of $50,000 to $100,000, it is necessary to subdivide it in order to provide a ready sale. The mortgage and note are assigned in parts of $5,000, $20,000, or other denominations, to suit the convenience of the buyers of the paper. In this case the assigned parts, since they are indorsed by the loan company, are equivalent to a "debenture" issue secured by a pledge of specified assets held by the company for the protection of the note-holders. The size of mortgage loan most frequently made is $10,000, while loans of $100,000 are exceptional.

The business of cattle loan companies approaches closely to the functions of the commercial paper broker. The cattle loan company has an advantage over the commercial paper broker in that the favorable location of the company--always at the receiving cattle-market of the district in which its loans are exclusively placed--enables it fully to protect its interest by claiming the proceeds of sales of mortgaged cattle. This is particularly true in the case of range cattle, which can be readily identified by the mortgaged brands.

To cover expenses of administration the cattle loan company secures for itself a part of the interest paid on the loan. The rate charged the borrower is usually determined by conditions in the locality where it is made, sometimes running as high as 10 per cent., and again, influenced by general rates for capital, falling as low as 7 per cent. From this gross interest charge a commission has to be given to the local banker who makes the loan, expenses of examination and management must be met, and an appropriation made to a contingency reserve fund to cover occasional losses incurred from the circumstance that the companies usually become surety, by indorsement, for the final payment of all the loans which they have placed with lenders. These deductions determine what may be safely paid to eastern purchasers of the paper, usually 5 or 6 per cent.

Holders of cattle paper have never suffered in times of financial panic from failure to pay at maturity. Cattle, like grain, are a cash commodity purchased by retailers and sold by them, largely for cash, to satisfy a relatively constant consuming demand. This characteristic is retained even in time of panic.

Maturities are usually six months for feeding purposes; and less often of two and one-half years for developing two-year-olds for market. This two and one-half year paper is occasionally converted into the six-month variety by the sale of notes running for six months, based upon the two-and-one-half year mortgage. These notes are taken up at maturity by the loan company and reissued or renewed for like succeeding periods until the original loan is repaid.

In the past this form of loan has not been so desirable as it will be in the near future. It has been a relatively long-term investment; and while perfectly liquid at maturity and enjoying a good rate of return, it has not possessed a sufficiently wide market to insure salability at those times when the demands of depositors and local customers for accommodation press in upon the investing bank. This difficulty will be fully corrected by the expected operations of the Federal Reserve Act. Eastern bankers possessing these six-month notes will probably find them readily rediscountable with the local federal reserve bank at any time up to maturity. And a considerable amount of two-and-one-half year notes may be held to advantage, since, if properly selected with successive maturities, one-fifth of their total amount will be immediately rediscountable when necessary.

By rendering this form of agricultural paper liquid before maturity the Federal Reserve Act will have become a most important influence for enlarging the amount of capital devoted to this branch of industry. Already eastern bankers have scouts touring the Western States to study this form of banking with a view to investing several millions of dollars each. Interest rates upon these loans will unquestionably be reduced in time through such increased competition of lenders. The loan companies will hardly suffer, however. While charging the cattle-grower less, they will be enjoying a larger turnover and should welcome this new development. The four or five million dollars placed in such loans yearly by the average loan company, as at present constituted, is but a fraction of the loans that may be placed by them within a few years.

By reducing the interest cost charged to cattle-growers an important service will have been performed for the consumer. Such a reduction will increase, in the first instance, the cattle-man's profit and induce him to increase his holdings. The benefit of increased production at lowered expense should, in time, be passed on to the final consumer of beef.

This phase of the operations of the Federal Reserve Act will be of distinct benefit, and possibly also the least dangerous of all forms of legislation designed to assist American agriculture.

FOOTNOTES:

[197] Adapted from R. B. Van Cortland. What is Agricultural Credit? North American Review, Vol. 199, April, 1914, pp. 585-588.

[198] E. W. Kemmerer, Agricultural Credit in the United States, The American Economic Review, Vol. 2, No. 4, December, 1912, pp. 852-872.

[199] New York, Chicago, Philadelphia, St. Louis, Boston, Cleveland, Baltimore, Pittsburgh, Detroit, San Francisco, Milwaukee, and Cincinnati. For Buffalo, the tenth city in population, Cincinnati, the thirteenth city, was substituted, since for Buffalo, which is not a reserve city, satisfactory banking figures are not available.

[200] [National banks are now permitted to lend on real estate security by the Federal Reserve Act passed in 1913.]

[201] Cf. Testimony before United States Industrial Commission (Report. X, under subjects of "Credit System" and "Crop Lien System," passim.)

[202] Report. X, p. 161.

[203] In some states farmers themselves own considerable amounts of bank capital. This is said to be particularly true of Iowa.

[204] The average value per acre of farm land in the United States rose from $15.57 in 1900 to $32.40 in 1910, a rise of 108 per cent. Thirteenth Census, Bulletin on Farms and Farm Property, p. 15.

[205] Report, X, p. 938.

[206] Exclusive of Alaska and Hawaii.

[207] Values in gold.

[208] Cf. Twelfth Census, V, pp. xxix and xxx. and Thirteenth Census, Bulletin on Farm and Farm Property by States, pp. 13 and 15.

[209] Every census since 1870 has shown a larger percentage of the native population living in state or territory of birth.

[210] On this subject see the writer's article on "Agricultural Credit" in L. H. Bailey's Cyclopedia of American Agriculture, IV, p. 270; and his Report to the Treasurer of the Philippine Islands on The Advisability of Establishing a Government Agricultural Bank in the Philippine Islands, pp. 9-11, 151-154.

[211] Cf. E. W. Kemmerer, Report to the Secretary of War and to the Philippine Commission, on The Agricultural Bank of Egypt. (Manila, P. I.: 1906. Also published by Bureau of Insular Affairs, Washington, D. C.)

[212] Cf. E. W. Kemmerer, An Agricultural Bank for the Philippines, Yale Review, November, 1907, pp. 262-279.

[213] C. R. Fay, Co-operation at Home and Abroad, p. 44. (New York; Macmillan, 1908.)

[214] Fay, Co-operation, etc., p. 44.

[215] An Outline of the European Co-operative Credit Systems, pp. 12 and 13.

[216] Under "other liabilities" are included in addition to other items the funds which the banks have borrowed from banks and individual capitalists.

[217] The capital of the district banks and of the central bank came largely from the local banks.

[218] In 1909 the figures for Germany were: Loans on current account, M 425,995,403 and Loans for fixed periods, M 1,082,446,388. The International Institute of Agriculture, An Outline, etc., p. 14.

[219] Idem.

[220] Ibid., p. 17.

[221] Idem.

[222] "Farmers' economic co-operation in the United States has developed enormously during the period under review [1896-1908], and it safe to say that at the present time more than half of the 6,100,000 farms are represented in economic co-operation; the fraction is much larger if it is based on the total number of medium and better sorts of farmers to which the co-operators mostly belong." The most prominent objects are: Insurance, creameries, cheese factories, co-operative selling organizations of numerous kinds, co-operative buying organizations, co-operative warehouses, co-operative telephones, co-operative irrigation, etc. Annual Report of the Secretary of Agriculture 1908, pp. 183, 184.

[223] Quoted from a letter from Mr. George K. Holmes, Statistician of the Department of Agriculture, Washington, D. C.

[224] For a statement of the more liberal privileges concerning the making continued: of loans on mortgage security conferred on national banks by the Federal Reserve Act see p. 750.--EDITOR.

[225] Adapted from Meyer Jacobstein, Farm Credit in a Northwestern State, American Economic Review, Vol. 3, September, 1913, pp. 598-605.

[226] J. F. Ebersole. Cattle Loan Banks, The Journal of Political Economy, Vol. 22. No. 6, June, 1914, pp. 577-580.

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XXVIII. THE CONCENTRATION OF CONTROL OF MONEY AND CREDIT

HAVE WE A MONEY TRUST?

[227]If by a "money trust" is meant--

An established and well-defined identity and community of interest between a few leaders of finance which has been created and is held together through stock holdings, interlocking directorates, and other forms of domination over banks, trust companies, railroads, public-service and industrial corporations, and which has resulted in a vast and growing concentration of control of money and credit in the hands of a comparatively few men--

your committee has no hesitation in asserting as the result of its investigation that this condition, largely developed within the past five years, exists in this country to-day.

The parties to this combination or understanding or community of interest, by whatever name it may be called, may be conveniently classified, for the purpose of differentiation, into four separate groups.

First. The first, which for convenience of statement we will call the inner group, consists of J. P. Morgan & Co., the recognised leaders, and George F. Baker and James Stillman in their individual capacities and in their joint administration and control of the First National Bank, the National City Bank, the National Bank of Commerce, the Chase National Bank, the Guaranty Trust Co., and the Bankers Trust Co., with total known resources, in these corporations alone, in excess of $1,300,000,000, and of a number of smaller but important financial institutions. This takes no account of the personal fortunes of these gentlemen.

Second. Closely allied with this inner or primary group, and indeed related to them practically as partners in many of their larger financial enterprises, are the powerful international banking houses of Lee, Higginson & Co. and Kidder, Peabody & Co., with three affiliated banks in Boston--the National Shawmut Bank, the First National Bank, and the Old Colony Trust Co.--having at least more than half of the total resources of all the Boston banks; also with interests and representation in other important New England financial institutions.

Third. In New York City the international banking house of Messrs. Kuhn, Loeb & Co., with its large foreign clientele and connections, whilst only qualifiedly allied with the inner group, and only in isolated transactions, yet through its close relations with the National City Bank and the National Bank of Commerce and other financial institutions with which it has recently allied itself has many interests in common, conducting large joint-account transactions with them, especially in recent years, and having what virtually amounts to an understanding not to compete, which is defended as a principle of "banking ethics." Together they have with a few exceptions pre-empted the banking business of the important railways of the country.

Fourth. In Chicago this inner group associates with and makes issues of securities in joint account or through underwriting participations primarily with the First National Bank and the Illinois Trust & Savings Bank, and has more or less friendly business relations with the Continental & Commercial National Bank, which participates at times in the underwriting of security issues by the inner group. These are the three largest financial institutions in Chicago, with combined resources (including the two affiliated and controlled state institutions of the two national banks) of $561,000,000.

Radiating from these principal groups and closely affiliated with them are smaller but important banking houses, such as Kissel Kinnicut & Co., White. Weld & Co., and Harvey Fisk & Sons, who receive large and lucrative patronage from the dominating groups and are used by the latter as jobbers or distributors of securities the issuing of which they control, but which for reasons of their own they prefer not to have issued or distributed under their own names. Messrs. Lee, Higginson & Co., besides being partners with the inner group, are also frequently utilised in this service because of their facilities as distributors of securities.

Beyond these inner groups and subgroups are banks and bankers throughout the country who co-operate with them in underwriting or guaranteeing the sale of securities offered to the public and who also act as distributors of such securities. It was impossible to learn the identity of these corporations, owing to the unwillingness of the members of the inner group to disclose the names of their underwriters, but sufficient appears to justify the statement that there are at least hundreds of them and that they extend into many of the cities throughout this and foreign countries.

The patronage thus proceeding from the inner group and its subgroups is of great value to these banks and bankers, who are thus tied by self-interest to the great issuing houses and may be regarded as a part of this vast financial organisation. Such patronage yields no inconsiderable part of the income of these banks and bankers and without much risk on account of the facilities of the principal groups for placing issues of securities through their domination of great banks and trust companies and their other domestic affiliations and their foreign connections. The underwriting commissions on issues made by this inner group are usually easily earned and do not ordinarily involve the underwriters in the purchase of the underwritten securities. Their interest in the transaction is generally adjusted, unless they choose to purchase part of the securities, by the payment to them of a commission. There are, however, occasions on which this is not the case. The underwriters are then required to take the securities. Bankers and brokers are so anxious to be permitted to participate in these transactions under the lead of the inner group that as a rule they join when invited to do so, regardless of their approval of the particular business, lest by refusing they should thereafter cease to be invited.

It can hardly be expected that the banks, trust companies, and other institutions that are thus seeking participations from this inner group would be likely to engage in business of a character that would be displeasing to the latter or that would interfere with their plans or prestige. And so the protection that can be offered by the members of this inner group constitutes the safest refuge of our great industrial combinations and railroad systems against future competition. The powerful grip of these gentlemen is upon the throttle that controls the wheels of credit and upon their signal those wheels will turn or stop.

In the case of the pending New York subway financing of $170,000,000 of bonds by Messrs. Morgan & Co. and their associates, Mr. Davison estimated that there were from 100 to 125 such underwriters who were apparently glad to agree that Messrs. Morgan & Co., the First National Bank, and the National City Bank should receive 3 per cent.--equal to $5,100,000--for forming this syndicate, thus relieving themselves from all liability, whilst the underwriters assumed the risk of what the bonds would realise and of being required to take their share of the unsold portion. This transaction furnishes a fair illustration of the basis on which this inner group is able to capitalise its financial power.

It may be that this recently concentrated money power so far has not been abused otherwise than in the possible exaction of excessive profits through absence of competition. Whilst no evidence of abuse has come to the attention of the committee from impartial sources, neither has there been adequate proof or opportunity for proof on the subject. Here again the data have not been available.

Sufficient has, however, been developed to demonstrate that neither potentially competing banking institutions nor competing railroad or industrial corporations should be subject to a common source of private control.

Your committee is convinced that however well founded may be the assurances of good intentions by those now holding the places of power which have been thus created, the situation is fraught with too great peril to our institutions to be tolerated.

THE BORROWER AND THE MONEY TRUST

[228]Some trusts are denounced because of their attitude toward their employes. Many trusts are efficient or inefficient because of the way their millions of labourers work. But let us be fair to Big Business. Why not examine its one branch where labour is almost absent, where there is no brawn and all brain?

BANKING THE MOST LOGICAL OF TRUSTS

A bank in New York City gave its employes a Christmas present equal to half their annual salary. The bank had assets of $100,000,000. A fine example, you say, to other great business concerns! But the bank had only fifty employes. In the entire country there are probably not more than 100,000 persons engaged in banking, either directly or indirectly.

The banker has, relatively speaking, no human factor to consider. And that factor with a concern like the United States Steel Corporation or the Pennsylvania Railroad is mammoth, almost baffling. The banker deals not in the production or distribution of wealth itself (in both of which much labor is needed), but solely in the paper representatives of wealth, money, and credit. Thus he can apply far more directly than the manufacturer or railroad manager the economies and efficiencies of Big Business.

Banking--the business of dealing in money and credit--is the most logical of trusts. And in practice it has justified the theory. Where banks have become larger they have become stronger, where co-operation and concentration have gone far, there safety and effectiveness have reached a high pitch.... Banking is the one central business of all--it is the business of businesses. So if it has become more efficient as the trust idea, or at least the principle of concentration, has gained sway, how can we have too much concentration and who is there to complain?...

If the bankers have, faithfully and well, handled the trust of extending credit to the limit of their ability, yet when the president of the second bank in size in the country acknowledges himself to be one of about a dozen men in whose hands the power of extending credit is, in the last analysis, concentrated--then it is high time, seriously and fearlessly, to consider the subject....

Three main factors are in the main responsible for the concentration of the control of credit and they are the growth of big banks, the growth of big industries, and the financial laws of the country....

NO LACK OF BANKING FACILITIES

However great the concentration of money power in this country, it cannot truthfully be said that banking facilities are not also increasing. Figures taken from the reports of the National Monetary Commission and other official sources show that the number of banks is mounting up faster than either wealth or population....

WHERE THE MONEY HAS GONE

When one first realises the extent of this country's banking resources he is properly astonished. But how evenly are these resources distributed? It is commonly known that banking facilities in the Southern and Western sections of the country are small indeed as compared with the New England, Eastern, Central, and Pacific Coast sections, where large cities abound. To illustrate, in 1909, when the total banking power was close to twenty-one billions, more than half was represented by forty-seven cities, and close to one-quarter was held by the two hundred banks in New York and Chicago. In other words about 1 per cent. of the country's banks held close to one-quarter of the country's banking power.

Now it is a well-known fact that an individual or corporation with large resources and large business exerts an influence in his particular field far in excess of his actual mathematical percentage of the total resources or business. Thus the dominating position of the big banks is even greater than mere figures indicate. But there is still another fact which centralises and cements their power. The only banks which are really large are in a few cities, and the larger they are, the more they tend to the very greatest centres of population. Thus toward the end of 1911, there were 183 banking institutions with deposits of $10,000,000 or more, of which sixty-two were in New York City. There were thirty-six institutions with deposits of $25,000,000 or more. Sixteen of these were in New York City and four in Chicago. There were ten with deposits of $75,000,000 or more, and of these, seven were in New York and two in Chicago. Of the ten largest trust companies six were in New York, three in Chicago, and one in Boston.

These great banks and trust companies are of very recent growth. Twenty years ago the deposits of our largest bank were one-twentieth of what they are to-day. At the first inauguration of President McKinley, which was really not so far back as the Dark Ages, there was no bank in New York with more than $30,000,000 of deposits. Now there are six banks each with more than $100,000,000 of deposits. A trust company in New York City, which had deposits of $20,000,000 five years ago, now has deposits of $166,000,000 and its twenty-eight directors sit [1912] in boards of other banking institutions with resources of $1,250,000,000. When it comes to actual cash we find the position of the New York and Chicago banks even more dominant....

CONSOLIDATION--A STEADY PROCESS

Despite the disproportionate size of New York and Chicago banks their number is steadily decreasing. This is because the process of consolidation proceeds just as steadily. In 1853 there were fifty-three banks in the New York Clearing House Association, and in 1911 there were fifty, although in the meantime the amount of business had increased twenty times. There are now less than 130 banks in New York, or ten less than ten years ago, although in that time cash holdings have doubled and deposits have increased a third. In ten years no less than 103 banks have gone out of existence, generally through absorption into larger institutions.... In Chicago the same process of consolidation has gone on. One Chicago trust company has absorbed six others in eight years.

New York and Chicago are by no means the only cities in which the obvious tendency is to have fewer but larger banks. Look about at random. Akron, Ohio, where the rubber industry has recently become of more than local importance, has felt the necessity of banks large enough to carry on its trade, and consolidation has resulted. In Detroit, where the automobile trade has set in motion a great industrial development, the Old Detroit National has absorbed the American Exchange National. In Seattle, Nashville, Wilmington, Portland, Philadelphia, Baltimore, San Francisco, and Louisville there have been many recent mergers and absorptions. In Cincinnati one of the largest institutions in the Ohio Valley has been formed by the absorption of the Merchants' National by the First National. As for Boston the desire of her capitalists to make New England more powerful in the business life of the country has led to the recent absorption of the City Trust Company by the Old Colony and the steady growth of three financial institutions, the Shawmut National Bank, the First National Bank, and the Old Colony Trust Company, these three far exceeding all others in size....

HOW THE LAW HAS FOSTERED AFFILIATION

... One great cause of the concentration of banking and financial power into a few hands has been the consolidation of banking resources into a few great units and the friendly affiliations of these units. But these units have not grown big merely because their managers or owners willed it so. The banking and currency laws of the country have forced money into a few centres. The banks of New York City employ--mainly in financial or stock market loans--about $600,000,000 which belongs to banks in other parts of the country. Naturally this concentration of money in a few banks "places these banks in a position to control the issuing or granting of credit"--to use the exact words of the president of one of them--"thereby placing the money power in the hands of a comparatively small number of men."

But this gravitation of money to New York is because the money is idle and is hunting a job, and not because of any process of usurpation, manipulation, or combination. It naturally arises under and by virtue of the reserve requirements of our National Banking Act.... The bulk of idle country bank cash which finds employment in New York comes here because of the existing reserve system, and there are several great banks in both New York and Chicago which have few customers other than the thousands of country banks whose "correspondents" they are.

THE CORPORATION AND THE BANK

Thus banking and financial power is concentrated in a few hands not only by the growth of great banks and by the laws of the country, but also by the legitimate business practices which have grown up under these laws. But the massing of this power in a few vast, centralised units has been a development of the last ten or fifteen years only. That is, it has been coincident with the development of trusts and combinations. Big Business and Big Banking have gone hand in hand. Each has made the other possible. By law a bank cannot loan more than one-tenth of its capital and surplus to any one customer. But the customers have grown into behemoths. How then could the banks fail to grow?

Before trusts existed and before small railroads were united into large systems the few banking houses of magnitude which existed in Wall Street had engaged in merchant banking, for the industries and railroads had not been large enough to attract their attention. These small industries and railroads were controlled by their owners, and their capital requirements were supplied largely in the localities in which they were situated. But as railroads and industries were consolidated it was found necessary to apply to the larger New York banking firms to supply the funds. These bankers had European connections as well as close affiliations with the big national banks and life insurance companies, and were able not only to furnish the needed capital but also undertook to market the securities of the newly formed combinations.

Thus a few banking houses, of which J. P. Morgan & Co. is the chief example, became in a way responsible for these new creations and naturally assumed charge not only of their finances, but to some extent of their other affairs. Thus the headquarters of the trusts and railroads gradually moved to New York. In the treasuries of these companies were vast sums of money to be banked, and it was inevitable that most of it should be placed in New York banks. The average daily balance of the United States Steel Corporation is about $75,000,000 and the American Tobacco Company has perhaps $20,000,000. There is also the Standard Oil Company, whose balance is perhaps as large.

These few financial groups, J. P. Morgan & Co., Kuhn, Loeb & Co., and the capitalists identified with the National City Bank and the First National Bank, along with a few others, are primarily in the business of selling securities and loaning money upon them. In fact they may be described as the great security issuing houses. Such influence as their members or directors may exert over railroad and other corporations is largely due to their ability to dispose of securities and to give these securities the stamp of soundness and conservatism. Here it may be added that men like J. P. Morgan would not be directors in so many corporations if their advice and assistance were not eagerly sought.

In the small village a small group of men own the bank, the coal yard, the ice-plant, the trolley line, the gas plant, and the little factories. Every day of the year these men, in their different capacities, have to trade with themselves in the purchase of supplies, etc., for their different companies, one from another. No one thinks of accusing them of double dealing, and yet the situation differs not a whit from the vast system of interlocking bank and corporate directors in New York except in degree and in fact, which, however, is vital, that the New York system affects the whole commonwealth whereas the business convolutions of Deacon Jones of Jones' Corners do not.

Now it must not be supposed that bankers such as Mr. Morgan and his partners are usually large owners in the companies they influence or even control. Often they do not own 15 per cent. of the stock of the banks they dominate. Often they become directors with but a few shares of qualifying stock. Still more often their influence is exerted merely as financial advisers. Often they nominate the president of a railroad or manufacturing company as Morgan & Co. nominated the president of the Atlas Portland Cement Company. Often the bankers take no part in the direction of companies until these companies have shown incapacity or have had for any reason, business or governmental, to be reorganised, either in form or management. Recent cases which come under one or the other of these heads are the Wabash Railroad, the United States Motors Co., the Westinghouse Electric & Manufacturing Company, the International Paper Company, the American Tobacco Company and the American Sugar Refining Company.

HARMONY THE WATCHWORD

There is little evidence to show any actual agreement or even arrangement among the great financial groups. Through interlocking directors and the wide following of smaller firms which each of the big groups has, the whole big banking situation in New York is closely knit together. There is a carefully fostered community of interest even among hostile groups, each group having a director or two, like a financial ambassador, in the other banks.[229] In the past there has been keen rivalry. Historically the Morgan and First National Bank groups have long been close, and two members of the Morgan firm were taken from the First National Bank. At one time these two groups bitterly fought the other two powerful groups--the Kuhn, Loeb-National City Bank interests. But in recent years harmony has prevailed....

It must be remembered that the four banking groups are now managed for the most part by young men. These young men are more accustomed to the ways of conciliation than were the late E. H. Harriman, and John D. Rockefeller and J. P. Morgan. The younger men trouble themselves little with the former conflicts of Morgan, Hill, Rockefeller, Schiff, Stillman, Harriman, and Ryan. They have forgotten even the accusations and charges which the life insurance scandals made public. Their aim is more impersonal--it is to "develop business," and the surest way to do that is by working harmoniously together.

MONEY POWER NOT DISTINCTLY AMERICAN

Striking as the concentration of banking, money, and financial power seems, it is no greater here than abroad, perhaps not so great. In London there are banks with fifty millions of capital, or twice as much as our one largest bank, and deposits of nearly four hundred millions of dollars, or twice as much as our largest bank. Even Canada, with a population less than one-tenth of ours, has a bank as great as our greatest. Relatively its big banks are bigger than ours. Concentration in Canada has gone much farther than here. Six banks in the Dominion hold half its entire banking resources. The autocratic power wielded by the score of great Canadian banks would start a revolution in this country. Germany and France long ago went through the process of bank consolidation.

WHY, THEN, DO WE HEAR FEW COMPLAINTS FROM ABROAD?

Here is a problem to be faced with intellectual honesty. Money power may be a bad thing, but let us not be so dishonest as to declare it a new thing. The New York Clearing House Association may wield power too autocratic, but let it not be overlooked that a similar organisation in London, with only one-third as many members, has long exercised as great power without raising any hue and cry of a Money Trust. Also consider Germany. If you have the time and courage to undertake such a task, go through the ponderous volume issued by the National Monetary Commission telling of the actual results of the great bank system in that country. It is a weary task reading the long-winded testimony of Herr Professor Doctor Governor this and that, but it is worth the labour.

We are told that great banks are more amenable to public opinion than smaller scattered institutions, that the Government is more ably assisted in its financial operations, that fewer reckless loans are made. Quicker prognostication of crises, whether on the Bourse or in commerce and industry, quicker adoption of preventive measures thereby lessening the effects of crises, are other services rendered by concentrated banking in Germany....

In 1907, when there was far less both of co-operation and concentration among the banks of this country than there is to-day, each bank standing weakly isolated and alone, frantically grasped all the cash it could muster. When the panic storm broke banks struggled to call in loans and line their vaults with cash. Business was crippled; industry was squeezed dry of its lifeblood. Last year when Germany was threatened with both war and panic, trouble was averted by the German "Money Trust," which loaned more than $200,000,000. It takes no expert knowledge of finance or banking to perceive that a few great, strong banks, or many smaller ones (provided they are welded closely together) can meet a storm more calmly than scattered, unconnected institutions.

WHERE IS THE VITAL DIFFERENCE?

If concentration is a good thing, how can there be too much of it? Here is the answer. Concentrated power without responsibility may be the worst possible thing. The other great financial nations have money trusts ... too, but each is capped by a vast central bank, more or less a government institution, and from the necessity of the case operated not only with a view to the general welfare but more or less openly and publicly.... The American "Money Trust" is strictly private, responsible to no one. It may act philanthropically if it chooses, but it is governed by nothing but choice. The money kings can, if they wish, exact any price.

R. H. Thomas, former president of the New York Stock Exchange, told the Pujo committee how Wall Street had finally to turn to one man, J. P. Morgan, in the panic of 1907, to save it from complete disaster. He did not know where the relief came from, in what form, nor with what conditions. It just came. Since at that time the entire country was dependent upon Wall Street because its surplus money was there, there is no escaping the fact that the whole financial situation of the country was at the mercy of one man. A 200 per cent. rate for loans would be inconceivable in one of the European financial centres because the central banks of Europe are the guarantors of the stability of the money market. The central banks of Europe depend upon no man, selfish or altruistic. They are the public financial regulators of the whole nation.

Has the Money Power been used to crush and squeeze?... Suppose that it has not been so used. Nevertheless, its control is in the hands of a few men. Even if their action be honest and intended for the public interest, they are necessarily most interested in the great undertakings in which we have seen them to be engaged. By reason of these limitations they must check and limit, if they do not destroy, genuine economic freedom and competition.... A handful of men, responsible to no one but themselves and God, have become masters of the lifeblood of commerce and industry. That this power has been more rapidly concentrated into their hands than the people have supposed is the unavoidable conclusion of this article.

From private persons, acting in private, and dominated in the main by private motives there cannot be expected the wisest and broadest direction of the flow of money--the lifeblood of business. These men have not asked for this power. They know it is too great for them. On the whole they have behaved with singular restraint. But only a fool would suppose that the best system for financing the small farmer in Florida or the small tin can manufacturer in Oregon is to turn over the entire money power of the nation to J. P. Morgan and a few other private persons. How under such a system could the great trusts fail to thrive at the expense of the small man?

THE BANKS AND RAILWAY FINANCE

[230]Close relationships of railways with banks or other credit institutions have grown up naturally through the need for new capital constantly imposed upon an expanding railway system. Some railways have been fortunate enough to possess a relatively stable body of stockholders whose confidence in the management is so complete that new funds can be raised by direct appeal of the management to the stockholders without the intervention of outside financial interests. But these cases have thus far been rare in American railway finance. When the policy calls for the raising of funds by the issuance of bonds rather than stock, the appeal is to a wider and to an anonymous public rather than to a corporation's own stockholders. Frequently the appeal must be to a class of investors situated in another section of the country or even in a foreign country. Most railways have not the technical organization nor the established market necessary to handle their issues easily, and usually it is found that in spite of the often exorbitantly high commissions which the bankers exact for their services, the net result is more satisfactory than that secured through the railway's own efforts. To the extent that this is the case, the bankers are performing a service of genuine economic value, and it must be concluded that under present conditions such service cannot readily be dispensed with.

Assuming this service as a necessity, the next step is for the banker to seek representation upon the railway board. His house has made itself responsible for a large issue of securities. It appeals to the investing public, not technically guaranteeing the issue, but practically doing so because of solicitude that its reputation for the handling of high-grade securities shall not be impaired. It seeks therefore to protect its own standing, and at the same time to make the securities more attractive to its customers, by demanding a place on the board of directors from which it can follow in detail the employment of the funds secured through its assistance. Large investors like life insurance companies, savings banks, fire insurance companies, guaranty companies, trust companies, demand as a prerequisite to purchase of securities that the underwriting house shall be represented on the board. The railway's credit--its ability to sell its issues--is dependent frequently upon the presence on its directorate of this representative. However, the banker is not in the position solely of a spectator or a detective. His expert advice is sought and usually followed. Often he is in a position where he can stipulate conditions under which alone he will undertake to provide the funds required, and such stipulations are frequently of immense influence in furthering efficient railway management. A recent example is found in the furnishing of money to the Chesapeake and Ohio Railway Company by Kuhn, Loeb & Co. under a stipulation that the road must put back into its property each year a certain amount of its earnings. Instances might be multiplied in which railway corporations have been saved from disaster and set upon their feet through the aid of those who have furnished the funds, and who have stipulated in connection therewith that in order to insure their knowledge of all transactions, and to give them a position from which they might bring their influence to bear, they should be granted representation on the railway board.

Of course it must be admitted that the power of the banker may be misused to his own private advantage. The power is there--the power to refuse funds--the power that comes from command of enormous sources of capital, the prestige gained by years of successful experience. Men who have attained such a position have the personal qualities that give them naturally a commanding place in any council of business men. When such men dominate the policy of a railway and the results are disastrous, it is exceedingly difficult fairly to fix the responsibility and assess the blame. The line between good faith and good judgment or between personal ambition that amounts to breach of trust, and a misplaced optimism concerning the outcome of a specific policy, is a very difficult line to draw. Although praise and blame cannot be assigned with any precision between Mr. Morgan and Mr. Mellen in the unfortunate New Haven situation, it is the prevailing opinion of the New England public that it has not been benefited greatly by the presence on the New Haven board of the distinguished banker member. Generally speaking, however, the powerful banking interests have thrown their influence in the direction of railway efficiency and the public advantage. If our judgment as to the desirability of the relationship of railways and credit institutions is to be determined solely by results, we must conclude that the balance swings heavily in favor of the continuance of the present policy.

However, opposition to the close association of financial houses and railways has not sprung from any such favorable relationships as we have here described. It grows rather out of the concentration and monopolization of credit. A powerful banking house which has identified its interests with that of one railway system is in position, because of its direct influence on the railway and its close affiliation with all other sources of credit, seriously to hamper if not altogether to prevent the securing of credit by a rival interest. This power over credit is not confined to one city or to one section of the country, but it reaches every section and even extends beyond national boundaries into the foreign sources of investment funds. Local or small enterprises requiring only moderate underwriting are frequently financed independently, but it is an acknowledged fact testified to by the large bankers themselves that with rare exceptions issues of securities in large amounts, except when taken up by the stockholders, must receive at least the tacit approval of the big financial group. Participation by the smaller banking houses in future underwritings depends upon loyalty to the syndicate in whatever enterprises are now being offered. The little fellows are inclined to respect a suggestion not to assist an enterprise of a character likely to interfere with undertakings already financed by the large interests. This informal but none the less effective network of alliances tends to destroy the competitive market for capital, and to restrict the railways to one source of credit. There does not appear to be any serious competition among the large bankers, but rather an understanding in the nature of a division of the field. A railway obtains the services of a single banking house which acts as its fiscal agent, underwrites its securities, receives its deposits, and has a representative on the railway's board of directors. When the railway becomes involved in financial difficulties, the same banking house organizes protective committees, devises reorganization schemes, and creates voting trusts. As Mr. Brandeis has put it, it adds to its duty as midwife also that of undertaker.

Is this relationship potentially dangerous for the railways and the public? The late Mr. Morgan, in his illuminating testimony in the money trust investigation, took the position that the situation might be dangerous in the hands of the wrong men, but he clearly implied that there had been no bad results thus far and there were not likely to be in the future with a continuance of the present leadership. His argument reminds one of the young lady who "when she was good was very, very good, and when she was bad she was horrid." Yet this view is that of most of the financial leaders who appeared before the Pujo committee....

Mr. Davison and Mr. Schiff both opposed the policy of concentration through interlocking at the point where the representative of the two interests might wield a dominating influence, but they found it difficult to fix that point.

Mr. Baker, who took the position that safety lies in the personnel of the men, that in good hands interlocking could not do any harm, but in bad hands would be very bad, concluded nevertheless that the movement of concentration had gone about far enough. And Mr. George M. Reynolds, of Chicago, thus frankly expressed himself: "I am inclined to think that the concentration, having gone to the extent it has, does constitute a menace." And again, "I think a more wide distribution of the power of credit ... would really be better in the long run." When asked the direct question, "Do you approve of the identity of directors or interlocking directorates in potentially competing institutions?" he replied, "Personally I do not believe that is the best policy."

It should be kept in mind that there is no evidence on record that this power has been used oppressively otherwise than in the rate of commission charged. Many of the bankers insist that the monopolization of credit is a physical impossibility.... There is, nevertheless, a concentration of credit in comparatively few hands.

If the conclusions thus far established are sound, it becomes clear that the real evil resulting from the interlocking of railways and credit houses, if any evil exists, arises primarily out of the relation of credit institutions to each other, rather than out of their relation to the railways through representation on railway boards. Were this interlocking of railways and banks to be wholly prohibited without any alteration in the organization of the credit market, I am unable to see how the situation would be changed materially. The tendency on the part of the bankers would still be to follow the law of "banking ethics" and divide the field; a railway would still employ a single banking house as its fiscal agent, and this banking house would still exercise a powerful influence in determining the policy of the railway. At the same time the railway would be deprived of the presence on its board of a financial expert whose experience might be drawn upon in the detail of management day by day.

As Mr. Reynolds has admitted, the menace is in the concentration of credit. Such power may not thus far have been misused. But as the Pujo committee has said, "whenever the incentive is at hand, the machinery is ready." Those who have the public welfare at heart have no right to assume that such power will never be used to the personal interest of the bankers themselves and to the injury of the public. While I have no great enthusiasm for the popular pastime of rushing to Washington for a statute whenever the economic machinery fails to run smoothly, I am in sympathy with those who are studying the problem of the restoration of an open competitive market for capital.

However, this is a problem of extraordinary difficulty, and I do not myself see the way at present to its solution. I am aware that Congress has enacted legislation with the purpose of destroying this concentration of credit, and that many look upon the Clayton Act, so far as it touches our problem, as a distinct step in advance. Personally I am sceptical as to its efficacy in its present form. The opportunities for evasion are too numerous. However, it can be laid down as a general rule that all statutory enactment which really endures is a product of successive increments of legislation--the result of experimental tests and the knowledge that is gained by experience. It is no argument against the interlocking provisions of the Clayton Act that they do not solve the problem and that they can be evaded readily. Such an attitude of timidity and pessimism assumed twenty-five years ago would never have given us our present air-tight Interstate Commerce Act. It may well be, however, that no relief can be found short of the radical step of employing government credit in aid of public-service industries. So vital is the necessity of the service to the people that the time may come when government loans to transportation corporations will appear to be a logical and natural step. But this is a digression.

Once this free market for capital is assured, the question again arises, Shall the railway board of directors contain banker members? Obviously the only purpose that the railway could then have in admitting bankers to its directorate would be the opportunity to utilize their experience in the direct management of the property. Quite as obviously the principal motive of the banker in accepting membership on a railway board would be to represent the underwriters and to act as fiscal agent. But with the capital market competitive, I can find no serious objection to such relationship. Even under present conditions the banker in the majority of cases respects his trust, refuses to vote on questions involving his personal interest, and performs loyally his service to the railway; but his mere presence on the board as the embodiment of the railway's only source of credit may be sufficient to control the situation in his behoof. However, with a free credit market, the dominating position of the banker largely disappears and he becomes what he ought to be, an expert adviser on financial matters. It may be asked why, if the banker is now to confine his activities to what Mr. Loree has called the "necessarily intimate relation between the banker and the seeker for accommodation," this cannot be accomplished in the same manner as in unincorporated businesses without putting the banker on the directorate. In reply attention may be called to the fact that even in the case of unincorporated businesses, the credit departments of the large banks are virtually in the position of directors, so intimate and comprehensive is their influence and advice. But more than this the business of a railroad is so complex and extensive, its activities are so multifarious, that an intimacy with its affairs sufficient to make the banker's counsel of value would be impossible except by actual presence on the directorate.

Under these changed conditions of credit, I can see greater opportunity for the utilization of the service of expert bankers in railway management. Directorships which have been monopolized in the hands of a few banker specialists in railway securities should then be more widely distributed. It is quite impossible to believe that expert banking talent available for this service is as rare as the present situation would suggest, in which the abilities of a relatively few men are made to do duty in dozens of corporations. This absurd situation springs not from a scarcity of talent but from the narrow market for credit. A liberation of that market would bring latent ability from its hiding-places, and by the infusion of new blood would stimulate the management of our railway enterprises. It would open this field of activity to men "who have been obliged to serve when their abilities entitled them to direct."

FOOTNOTES:

[227] Adapted from the Report of the Committee Appointed to Investigate the Concentration of Control of Money and Credit, 62d Congress, 3d Session, pp. 130-33.

[228] Adapted from Albert W. Atwood, The Borrower and the Money Trust, Review of Reviews, Vol. 46, August. 1912, pp. 207-218.

[229] [Interlocking directorates among the more important banks were prohibited by the Clayton Act, passed in 1914. See p. 624.]

[230] Frank Haigh Dixon, The Economic Significance of Interlocking Directorates in Railway Finance, The Journal of Political Economy, Vol. 23, No. 2, February, 1915, pp. 938-946.

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