Money and banking

Front matter

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BOUGHT WITH THE INCOME FROM THE

Preface

The present edition of Money and Banking has been prepared with two primary purposes in view : firstly, the presentation of a fuller treatment of the subject of banking, especially of the banking systems of the chief countries of the world, than was given in previous editions, and secondly the rearrangement and restatement of portions of the subject matter of previous editions. To these ends the entire book has been rewritten with the exception of Chapters I, II, III, XVI and XVII which, with slight modifications, are reprints of Chapters I, II, III, XIV and XV of the old editions. Chapters VI, X, XI, XII, XIII, XIV and XV are entirely new, and Chapters IV, V, VII, VIII, and IX embody the substance of Chapters IV, V, VI, VII, VIII, IX, XI, XII and XIII of former editions with modifications, rearrangements and considerable new material.

Additions have been made to the references so as to include recent books, but no attempt has been made to give complete bibliographies of the subjects treated. The references have been selected with the needs of American students primarily in view. As in previous editions those at the close of the chapters are sometimes abbreviated, full titles being given in the Appendix. When an author's name without title is given, reference is made to the first book listed under the name in the Appendix.

In the preparation of this edition the author has received valuable assistance from his colleague, Professor Richard T. Ely, and from his former students, Professors R. H. Hess and G. D. Hancock, now Professors respectively in the Universities of Minnesota, and Washington and Lee.

Wm. a. Scott.

University of Wisconsin.

July, 19 10.

Chapter II

THE MEDIUM OP EXCHANGE: ITS CHARACTERISTICS AND COMPOSITION, AND THE RELATION BETWEEN ITS CONSTITUENT ELEMENTS

1. The Importance of an Accurate, Convenient, and Safe

Currency 14

2. Characteristics of a Good Currency 16

3. The Composition op Modern Currencies 18

4. Gresham's Law 24

5. Standard and Subsidiary Coins 28

6. The Concurrent Circulation op Metallic and Paper

Money 30

Chapter III THE STANDARD OP VALUE AND PRICES

X. The Unit op Value and Prices Defined 32

2. The Relation BETWEEN the Standard OP Value AND Prices 33

3. Primary and Secondary Standards 34

4. Characteristic Features of Standards op Value 37

S- The History op Standards and Units of Value 40

6. The Importance of Stability of Value in the Standard. . 43

7. Difficulty op Securing a Stable Standard op Value... 46

8. The Interpretation of Prices 46

V vi Contents

Chapter IV THE VALUE OF THE STANDARD PACE

1. Demand for the Primary Standard 50

2. Supply of the Standard Commodity S^

3. The Value op Secondary Standards 58

4. The Quantity Theory 61

Chapter V

1. The Purpose and Importance of Coinage 66

2. Units of Value and Methods op Reckoning 69

3. The Size, Weight and Fineness of Coins 72

4. The Naming and Stamping op Coins 74

5. Seigniorage 75

6. Inconvertible Government Notes 79

7. Convertible Government Notes 81

Chapter IX

I. Incorporation 131

■^. Capital and Surplus 132

3. Double Liability op Stockholders 134

4. Regulation op Investments 134

5. Regulation op Reserves 138

6. Regulation op Note Issues 141

7. Public Inspection and Supervision 145

8. Importance op Honesty, Wisdom, and Discretion in Bank

Opficials 150

Chapter X BANKING IN THE UNITED STATES

1. The Earliest Banks 153

2. The First United States Bank 155

3. State Banks in the Period 1791 to 1811 157

5. The Second United States Bank 160

6. The Establishment OP the Independent Treasury System. 162

7. The Growth and Reputation op State Banks 163

8. Origin AND Development op the National Banking System 176

9. State Banking since the Civil War 185

Chapter XI BANKING IN CANADA

1. Epochs in the History of Canada 191

2. Early Conditions 192

3. The First Banks ^94

4. Restraining Influences on Banking Excesses 197

5. The Experiment with Free Banking 200

6. Steps Toward the Uniform Regulation op Banking... 202 viii Contents

PAGE

7. The Issue op Provincial Notes 204

8. The British North American Act op 1867 in its Relation

TO Banking 205

9. The Bank Acts of 1870 and 1871 209

10. The Decade 1870 to 1880 and the Revision of 1880... 211

11. The Decade 1880 to 1890 and the Revision of 1890... 214

12. Recent History 218

Chapter XII BANKING IN ENGLAND

1. The Early History of the Bank op England 220

2. Country Banking and the Act of 1826 221

3. The First Banks of Deposit 223

4. Discount Brokerage as a Special Branch of Banking. 224

5. The Bank Act of 1844 225

6. The Joint Stock-Banks and Concentration 229

7. The Present Functions op the Various Groups op Bank-

ing Institutions doing Business in England 230

Chapter XIII BANKING IN FRANCE

1. Origin and Early History of the Bank of France. . . . 238

2. Banking in the Provinces 242

3. Effects of the Revolution of 1848 243

4. The Bank of Prance since 1848 245

5. Other Banking Institutions since 1848 249

6. The Present Position op the Bank op France 253

Chapter XIV BANKING IN GERMANY

1. The Period Preceding 1848 257

3. The Period 1870 to the Present Day 261

4. Mortgage and Cooperative Banks 267

5. The Present Organization of the Banking Business in

Germany 270

Chapter XV THE MONEY MARKET i.. The Central Markets 273

2. The Central Reserves 274

3. Bank and Market Rates 276

Contents ix

PAGE

4. Bank Notes and the Money Market 281

5. Peculiarities of the New York Market 282

6. Some Peculiarities of. the London Market 287

7. Some Peculiarities op the Paris Market 289

8. Some Peculiarities of the Berlin Market 292

Chapter XVI THEORY OF BIMETALLISM

1. The Nature and Purpose of Bimetallism 296

2. The Bimetallists' Arraignment of the Monometallic

System 299

3. The Compensatory Action op the Double Standard.... 300

4. The Weak Points in the Theory of Bimetallism 303

5. National and International Bimetallism 308

Chapter XVII

J.. Early European Experience 310

2. Currency Reform in England and the Act of 1816 315

3. Bimetallism in France to 1865 318

4. Bimetallism in the United States to 1873 325

5. The Fall in the Value of Silver after 1875 330

6. The Latin Union 334

7. Bimetallism in the United States since 1873 336

8. The International Conferences 338

9. The Present Status op Bimetallism 342

LIST OP REFERENCES 347

Appendix II STATISTICAL TABLES

A. Statistics of the Production op the Precious Metals. 362

B. Statistics of Coinage in the United States 363

C. Statistics of Coinage in France 365

D. Surplus op Imports op Gold and Silver into British

India 368

E. Annual Average Rates op Discount op the Banks op

France and Germany 3^9

Appendix III THE PAR OF EXCHANGE AND GOLD POINTS OF THE CHIEF

CENTERS OF FOREIGN EXCHANGE 37°

INDEX 371

Chapter I The Nature And Functions Of Money

Money is one of those terms which political economists have borrowed from popular speech and found ill-adapted to their purposes. In spite of numerous attempts to make a suitable definition, it still lacks the precision and definiteness of meaning which should characterize scientific terminology. Popular usage is tolerably consistent and clear, but fails to include under the term all the instrumentalities which belong together in any scientific treatment of the subject, and political economists are not agreed regarding the point to which the popular meaning of the term should be extended. Even if these difficulties were removed, however, one not easy to overcome would still remain. All are agreed that under the head money we must include both the standard of value and the medium of exchange, two instrumentalities which perform very different functions, and the distinction between which is apt to be minimized, if not entirely overlooked, when an attempt is made to include them under one definition.

In order to avoid this difficulty and to promote clearness of thinking, we shall discuss first of all the functions of the standard of value, and the medium of exchange, and, so far as possible, defer the use of the term money until the student is prepared to form an independent judgment regarding the meaning which ought to be attached to it.

I. The standard of value. — A standard of value is any commodity by means of which people measure and express the value of other commodities. For example, when we say that a pair of shoes is worth five dollars and a coat ten, we measure and express the value of these two commodities by means of another which, for this purpose, we call a dollar. In the United States this standard commodity '"is gold, and to 23.22 grains of it, many years ago, Congress gave the name dollar. If our ancestors had acquired the custom of comparing the value of everything with that of a bushel of wheat, by always finding out for how many bushels each article would exchange, then wheat would have been our standard of value, and Congress might have decided to call a bushel of wheat a dollar, instead of a few grains of gold.

The acquisition of the habit of using some one commodity as a standard of measurement and a means of expressing the values of all others is characteristic of every people who have advanced beyond the most primitive stages of civihzation, and is explained by the need for a common language ,of value, which made its appearance very early in the history of commerce and which demanded satisfaction before trade could play an important part in economic processes. This need may be best appreciated by imagining ourselves reduced to a state of barter. Each one would then be obliged to trade the commodity or service which is the result of his special activity directly for the various commodities and services which he needs or desires. A shoemaker would needs exchange shoes directly for flour, butter, sugar, meat, etc. ; the farmer would have to barter wheat and cattle for groceries, clothes, and agricultural implements; the laborer would have to trade his services for whatever he and his family need, etc., etc. The difficulties which would be encountered under these circumstances are many, but one of the greatest and the most fundamental would be due to the fact that each person would have a language of values peculiar to himself and difficult of comprehension by his fellows. This difficulty may be illustrated as follows : —

Suppose that A is a producer of wheat, B a cattle-breeder, C a shoemaker, D a tailor, and E a manufacturer of sugar. Each, having frequently bartered his product for each of the other commodities, would have an accurate idea of their relative values, but would be able to express that idea only in terms of his own commodity. A, for example, would think and speak of value in terms of wheat. If he had frequently traded 100 bushels of wheat for an ox, 5 bushels for a pair of shoes, 10 bushels for a coat, and i-io of a bushel for a pound of sugar, the figures 100, 5, 10, and i-io would represent to him the relative values of these and serve as a means of expressing them. If, on other occasions, he were compelled to give no bushels of wheat for the same sort of ox as before cost him only 100, he would conclude that the value of beef had risen, and would measure the rise by comparing the figures 100 and no. In fact, this method of expressing values would not only be natural to A, but it would be the only one possible. On the assumption that he produces wheat and wheat only, and barters it for whatever else he needs or desires, his knowledge of values would not extend beyond the ratio of exchange of wheat with other commodities.

B, C, D, and E would each likewise have one means and only one of expressing the relative values of commodities, namely, the figures which represent the ratio of exchange of his product with each of the others. B, for example, might express the value of wheat, shoes, coats, and sugar by the fractions i-ioo, 1-20, i-io, and i-iooo, the portions of an ox exchangeable respectively for a bushel of wheat, a pair of shoes, a coat, and a pound of sugar, or by the figures lOO, 20, 10, and 1000, representing the number of bushels of wheat, pairs of shoes, coats and pounds of sugar exchangeable respectively for one ox. C's expression for the relative values of wheat, cattle, coats, and sugar would be the figures 1-5, 20, 2, and 1-50, representing the number of pairs of shoes and fractions of pairs exchangeable respectively for a bushel of wheat, an ox, a coat, and a pound of sugar, or the figures 5, 1-20, 1-2, and 50 representing the amount of wheat, cattle, coats, and sugar equivalent in value respectively to one pair of shoes. Under the same conditions of value, D who has only coats for trading, would have to pay for a bushel of wheat i-io of a coat, for an ox 10 coats, for a pair of shoes 1-2 a coat, and for a pound of sugar i-ioo of a coat; and E, who barters sugar, would pay for a bushel of wheat 10 pounds, for an ox 1000, for a pair of shoes 50, and for a coat 100.

'^ It is thus evident that in a state of barter each man would have an accurate numerical expression for the values of all the commodities on the market, but one peculiar to himself, and consequently unintelligible to others, or at any rate capable of being made intelligible to others only by a mathematical calculation. In describing values A could only give the amount of wheat each commodity is worth; B, the amount of beef or live cattle ; C, the number of pairs of shoes; D, the number of coats; and E, the amount of sugar. If a dealer should attempt to establish in this community a store for the purchase and sale of all the goods produced, he would be obliged to quote the price of each article in terms of all the others in order to meet the needs of his customers. Were commerce at all active and large in amount, this would mean an interminable price-list and an amount of calculation which would require more time than all the other business of the establishment, to say nothing of the liability to error and the consequent danger of loss. It is safe to say that under such conditions commerce would never have assumed very great proportions or played a very important role in the world's history. The difficulty which these traders have met is that of a variety of methods of expressing values, and the remedy is the acquisition of a method common to all. The difficulty is similar to that which people speaking different languages would meet in trading, if no one understood the speech of the other.

Each trader's language of value is peculiar to himself and not understood by his fellows. What is needed is a common language intelligible to all. ■i " The acquisition of such a language is accomplished through the use of a single commodity as the standard for comparing and reckoning values. In our hypothetical community, for example, any one of the five commodities could be used for this purpose. On the assumption that sugar is consumed by every one and consequently frequently bartered for every other commodity, each person would know the value of his product in terms of this one, and would be able to express that value in a form intelligible to others. If A should always describe the value of his wheat by stating the number of pounds of sugar a bushel would buy, and B, C, and D in the same manner should express the value of cattle, shoes, and coats, each would readily understand the other, and comparisons and calculations of values would be easy and simple. The figures in which such comparisons and calculations were expressed would always refer to multiples or subdivisions of a pound of sugar, and would constitute a language of value understood by every member . of the community. If, in discussions of value, for convenience or any other reason, a special name were given to a pound of sugar, for example, the name dollar, franc, mark, or pound sterling, the language of value would become that employed in the United States, France, Germany, or England at the present day.

The capacity to serve as a standard of value is possessed by all commodities which are widely used and consequently frequently bought or sold. In primitive societies custom has usually caused the selection of that commodity as the standard which is most widely known and most highly esteemed among the people who have occasion to trade with each other, and in more highly civilized communities considerations of convenience and economy have usually dictated the selection of one among several articles which might conceivably be employed for this purpose. Whatever the commodity may be, however, and by whatever process selected, its function as a standard is simply that of furnishing the community with a means of measuring, expressing, comparing, and recording the values of the various articles of commerce.

2. The medium of exchange. — The phrase medium of exchange describes a group of instrumentalities which serve as a go-between in commercial transactions. In the- United States, it includes, gold, silver, nickel, and copper coins, several varieties of government notes, bank-notes, checks and drafts, bills of exchange, and several other kinds of documents less commonly used. Each of these is appropriately called a medium of exchange because it is used as a go-between in the exchange of commodities. For example, suppose a farmer brings butter and eggs to market, and wishes to exchange them for groceries. In all probability he will not make the exchange directly, but through the medium or by the mediation of coins; that is, he will trade his butter and eggs for coins and then trade the coins for groceries. A laborer wishes to exchange several days' work for a coat, but he will rarely find a tailor who needs his services, and who will, therefore, be able and willing to trade a coat directly for a certain number of days' work. Instead he will trade his services with some one who needs them for coins or government notes or bank-notes or both, and then trade the coins or notes for the coat. It is possible, and it often happens, that a considerable period of time intervenes between the first trade and the last. The farmer may sell his produce a whole year or even longer before he trades the coins or notes received for other commodities. Indeed, he may never himself complete the trade, but transfer the right so to do to some one else. In any case the coins, notes, or other documents received will be used in buying other things and will thus fulfil their mission as a medium of exchange. In the same way people use checks, drafts, bills of exchange, and various other documents.

Like the standard of value, the medium of exchange owes its existence to certain wants which were felt very early in the history of commerce, and upon the satisfaction of which further progress depended. These wants are three in number, namely : that for some means of exchanging commodities of unequal value, that for some means of accumulating wealth in such a form as to make it available at any time for the purchase of any and all commodities, and that for facilities for borrowing and lending.

The first of these may be illustrated as follows: A farmer has an ox for sale and desires a pair of shoes. He may succeed in finding a man who has shoes for sale and wants beef, but the ox is worth twenty pairs of shoes and he wants but one, and very likely the shoemaker wants only a few pounds of beef instead of a whole ox. Manifestly the trade cannot take place unless the farmer is willing to take nineteen pairs of shoes which he does not want and the shoemaker twenty times' as much beef as he wants, or unless the farmer is wiUing to kill his ox, to hand over to the shoemaker an amount of beef equal in value to the shoes and to keep the remainder. Of course there might be other people in the community quite willing to take the beef which neither the farmer nor the shoemaker wants, but that would not help the matter unless these traders should happen to want the various commodities which their neighbors might be willing to give in exchange for it. On the assumption that the farmer wants only a pair of shoes and the shoemaker only a few pounds of beef, the willingness of other people to buy the surplus might not improve the situation.

The need of some means of accumulating wealth is obvious. Frugal people wish to make preparations for the future, and if the aggregate of their products exceeds that of their consumption, they are able so to do, provided some means of saving exists. The most obvious one which suggests -itself is that of hoarding surplus products, but this is a very precarious method in case the products in question are perishable, or are subject to frequent fluctuations in value or are so bulky that the process of hoarding them is very expensive. Most of the ordinary products of industiy are subject to one or more of these contingencies. Hence, in the absence of some special provision for the accumulation of wealth, the risks involved are so great as to prevent saving on any large scale.

The need of facilities for borrowing and lending is equally obvious. A farmer may have no accumulations to tide him over the period during which his crops are growing, or he may wish to keep his produce for a rise in price, or he may wish to extend his agricultural operations by more fully stocking his farm, by the use of superior implements, or by the cultivation of more acres. In any one of these cases he needs to borrow, and inability so to do might seriously interfere with his prosperity. In an advanced industrial community there are always people quite competent successfully to carry on industrial operations, who do not possess the requisite capital, and many people, on the other hand, who have capital but do not wish to engage in industry. Facilities for borrowing and lending are needed to bring these two classes together for their mutual profit and that of the community. This need might equally well be illustrated by the case of a really sound business man who has temporarily met with misfortune, or by that of a young man capable of profiting by an education but lacking the funds necessary for its acquisition, or by many other situations which will readily occur to the student upon reflection.

Let us now inquire how a medium of exchange satisfies these wants. Our assumed case of the farmer and the shoemaker will assist us. It will be remembered that these two persons found difficulty in exchanging their products on account of the wide difference in value between the farmer's ox and a pair of shoes. If, in the community to which these two traders belonged, there had been some one durable commodity which was an object of universal desire and consequently daily bought and sold and sure to be in general demand in the future, the way out of their difficulty would have been easy. Even though he might not have wanted it for his own consumption, the farmer would have been quite willing to accept this commodity in payment for the balance due him from the shoemaker, simply because he would have been able to trade it at any time for anything he might chance to want. The shoemaker, likewise, would not have been seriously inconvenienced by the surplus beef, provided he had been able to sell it to his neighbors for this highly exchangeable commodity. By way of illustration let us suppose that gold is a commodity well known and highly valued by every member of the community and considered so very precious that no one doubts the continuance of its value and high estimation through future generations. Being very durable and possessing great value in small bulk, it can be easily kept for any length of time, and, on account of the belief in the continuance of its value, every one feels safe in keeping it by him, and is confident that at any time in the future he can dispose of it for whatever he may desire or need. Being also readily divisable, it is easy to arrange for equivalents of almost any value. Under these circumstances, then, the farmer would have been quite willing to sell his ox for the pair of shoes and the balance in gold, and the shoemaker would have been willing to sell to his neighbors in exchange for gold the beef which he did not want, neither one perhaps intending to consume the gold itself, but being confident of his ability to exchange it at any time for whatever he might chance to desire. Since other traders under similar circumstances would follow the example of the farmer and the shoemaker, all the members of the community would speedily acquire the habit of taking gold in exchange for their produce, even when they did not need it for consumption, because they could exchange it for whatever they might chance to want at any time more easily than their own product. When any commodity comes to be generally used in this way, it becomes by that fact a medium of exchange.

In our illustration the medium of exchange obviated the difficulty of exchanging two commodities of unequal value, namely, an ox and a pair of shoes. It is evident that it might also be used as a means of accumulating wealth, and also for facilitating borrowing and lending. Being by its very nature a commodity which every person is willing to take at any time in exchange for his goods, no risk would

The Nature and Functions of Money ii

be involved in hoarding it; and people who had succeeded in accumulating it could loan it to others who needed for any purpose to make immediate purchases and lacked the means. The people discussed in our illustration would naturally keep their savings in the form of a hoard of gold. The various commodities of their own production or manufacture being perishable and, perhaps, of uncertain value and consequently incapable of being hoarded, would be exchanged for gold, which could be kept without loss and readily sold for other commodities whenever desired. This hoarded gold could also be loaned to others who need to make immediate purchases but lack the means. In this case, of course, some guarantee that the gold would be returned when wanted would have to be given, but, granted the requisite degree of confidence between man and man, the gold would make possible the loan with all of its conceivable advantages to both borrower and lender.

3. Credit as a medium of exchange. — The three wants which we have been considering are frequently, and at the present time commonly, satisfied by means of credit instruments in one form or another. The methods of employing these instrumentalities as a medium of exchange are various, but only the simplest one can be appropriately explained at this point. Modern commercial processes are conducted by means of a large class of middlemen who intervene between exchangers and relieve them of the greater part of the work involved in trading their products. Among these are shopkeepers who purchase goods, giving the sellers credit on their books for the value of their sales, and sell them again at such times and in such amounts as are desired, debiting buyers with the amounts of their purchases. Inasmuch as the buyers and the sellers are frequently the same persons, these merchants are a means of overcoming the difficulties of barter discussed in the preceding section, and their book accounts serve as a medium of exchange.

By way of illustration let us suppose that a primitive community has already acquired a standard of value, and that some very reliable person, in whose integrity and wealth everybody has perfect confidence, establishes a general store, and agrees to buy from the producers everything they have for sale and to sell these same commodities to others at such times and in such quantities as are desired. After the harvest A brings his wheat to the store and receives credit on the books of the storekeeper for the amount agreed upon, this amount being stated in terms of the prevailing standard. Subsequently he purchases various commodities, such as sugar, shoes, coats, meat, etc., and is debited by the storekeeper with the amounts of his purchases, these amounts being likewise stated in terms of the standard. It is evident that the difficulty involved in exchanging commodities of unequal value is not here met, because it is not necessary that A's account should balance on the occasion of every purchase or sale. It is also evident that A could accumulate his savings in the form of credit on the storekeeper's books, and could borrow by overdrawing his account; that is, by accumulating an uncovered debit balance. In this case the book account serves precisely the same purposes as the gold in our previous illustration. It obviates the difficulty of exchanging commodities of unequal value, and it furnishes a means of making savings and of borrowing and lending.

At first sight there does not seem to be much resemblance between this primitive storekeeper and the great merchants and bankers of the present day. But as a matter of fact they are performing the same functions as he, and by means of more complicated machinery they are using credit of substantially the same sort as he. Like his, their book accounts satisfy the three fundamental wants which we have been discussing and which are felt by all traders however primitive or advanced.