Our Unelastic Currency

WHEN one compares the excessive fluctuations in the rates of interest at New York with those at London, Paris, and Berlin, it seems extraordinary that no action has been taken by our government to remedy the defects in our currency system. In order to appreciate these enormous changes in the value of money, it is necessary to keep constantly in mind the fact that money is merely a commodity. If, for instance, the supply of ice were so fixed that the same quantity was meted out for each month, irrespective of the temperature or the requirements of the community, we should see in New York, during July and August, ice advancing to fabulous prices, on account of the extraordinary demand and the fixed, limited supply, which could not be increased to meet the occasion during those two months. So in Wall Street, a few months ago, the temperature rose, as it were, matters became excited, and the supply of money was not equal to the demand; and, as it could not be quickly increased to meet the temporary requirements, the rate actually rose to over 100 per cent.

Let us see what regulations are made in other countries, in order that their currency may have some elasticity and be able to meet emergencies in case of a crisis.

England. By the law of 1844 the Bank of England was divided into two departments: (l) for issuing paper money, (2) for ordinary banking. The department for issuing paper money acquired the reserve of the Bank of England with 14 millions sterling of securities, mostly government bonds. This department of the Bank is allowed to issue five-pound notes and upward to the full extent of the reserve, plus an additional sum of 14 millions sterling on the credit of the securities above mentioned; thus the circulation could not exceed the coin reserve by more than 14 millions sterling in 1844.

The law of 1844, besides prohibiting the establishment of any more banks of issue than already existed in that year, and besides limiting the circulation of these banks to the amount extant among them in April, 1844, further provided that if one of these banks of issue should fail or withdraw, then the Bank of England could be authorized by Order in Council to add to its own issue two thirds of what the late bank had had the right to issue.

In consequence of this provision the authorized issue of the Bank of England against securities up to the present date (of March 1, 1906) has been increased by £4,450,000 beyond the 14 millions sterling provided by the Bank Act of 1844.

A distinction has to be drawn between notes “issued” and notes “in circulation.” Notes are technically issued by the Bank of England when they are transferred from the Issue Department to the Banking Department. Thus it is practically a fact that the Bank always “issues” notes up to the full extent of its legal power. But the notes so “issued” are not all “in circulation,” a large proportion of them usually being held by the Bank in its Banking Department.

The Bank of England is by practice the depository of the ultimate gold reserve of the country, consequently the Bank has to have on hand a large cash reserve in its Banking Department. It is not necessary, however, that the entire banking reserve should be held in the Banking Department in the form of gold and silver coin, about two million pounds sterling being so held for the convenience of current transactions. The remainder is deposited as gold coin or bullion in the Issue Department, and notes representing that amount take its place in the banking reserve of the Banking Department. It will therefore be found that the notes in circulation, plus the notes held by the Bank, equal the gold in the Issue Department, plus the issue against securities. Thus in the year 1895 the equation stood approximately as in Table A.¹

From which it will be seen that the total amount of notes issued by the Bank of England in that year was 53,100,000 pounds sterling, but the actual notes in circulation were only 25,800,000.

On the 1st of March, 1906, the notes issued from the Issue Department of the Bank of England were 53,938,330 pounds sterling. Of this amount £28,265,930 were in circulation (in the hands of the public), and £25,672,400 were held by the Bank in the Banking Department. In that year the equation would have read as in Table B.²

Hence we see that on March 1, 1906, without any further addition to the stock of gold held by the Bank of England, its currency had a possible increase for circulation to the full amount of the notes held by the Bank, namely: £25,672,400. In other words, it could almost double its outstanding circulation.

Any elasticity beyond this 25 millions sterling would have required the suspension of the law of 1844. Owing to a sudden and unprecedented demand for money in 1847, 1857, and 1866, the government, to avoid a panic, and possibly save the Bank, repealed the law in order to allow the Bank to issue paper money (over and above the reserve, plus the issue against securities) till all legitimate demands were satisfied. Thus on three occasions the crisis was tided over. In each case the law of 1844 was resumed, and is in force to-day.

The silver in the reserve fund must never exceed one quarter of the gold coin and bullion, but as a matter of fact the reserve in England since 1861 has been entirely in gold.

France. The control of the Bank of France is vested in a governor and two subgovernors, who are appointed by the French government, and by fifteen regents and three censors elected by an Assembly of the two hundred largest stockholders. No deputy or senator can serve as governor or as subgovernor, while three of the regents must be chosen from among the Government’s Receivers General of Finance. The governor, subgovernors, regents, and censors together compose the General Council of the Bank, which determines the rate of discount, and the like. The issue of paper money is under the special care of the three censors, without whose unanimous consent no issue can be made. The Bank of France issues paper money, but of no denomination less than fifty francs. The money is of value because of the credit of the Bank. Its policy, however, is to keep so substantial a reserve of gold and silver that it may be able to replace, on demand, its notes by gold and silver.

Since 1880 the policy has been to increase the proportion of gold in the reserve, and from that date the silver in the reserve has remained at about 1100 million francs. On the other hand, the gold in the reserve has risen from 550 million francs in 1880 to about 3000 million francs in 1906. Hence the reserve of the Bank of France is now composed of about three fourths gold, instead of about one third gold, as in 1880.

As there is a legal limit to the amount of paper money which the Bank of France can issue, there is consequently a limit to the elasticity of its currency. Thus, in 1880 the legal limit of the paper money which the Bank of France could issue was 3200 million francs, while the actual amount of paper money in circulation was about 2319 million francs. The reserve at that time was 1775 million francs, of which 550 million francs was gold, and 1225 million francs silver. In January, 1906, the legal limit of the paper money which the Bank of France could issue was 5800 million francs, while the actual amount of paper money in circulation at the same period was 4721 million francs. The reserve was 2844 million francs gold and 1054 million silver. Consequently it will be seen that a considerable and increasing elasticity is secured by the Bank arranging with the Minister of Finance, when the actual circulation approaches too nearly the legal limit, that a law be passed raising the legal limit to a figure which allows increased circulation. This was last done at the end of 1905, the legal limit of issue being raised from 5000 million francs to 5800 million francs. The actual notes in circulation in 1905 were 4408 million, and on the 1st of February, 1906, 4831 million, permitting an increase of elasticity of about 1000 million francs.

The following table will show the capital of the Bank of France, also the circulation and reserve of various years, since 1870: —

Germany. By the laws of 1875, thirtythree banks in the German Empire were granted the right to issue paper money. Since then twenty-seven banks have relinquished the right, and to-day only six of the banks privileged in 1875 to issue paper money remain in possession of this privilege, of which the principal one is the Reichsbank, the others being the Bavarian, Dresdner, Würtemberg, Baden, and Brunswick.

The German banks can only issue paper money against security actually in their possession, as defined in the law of 1875. At least one third of the circulation of each bank must be based on gold in bars or in coin, current German coin, and Imperial Treasury notes.

The reserve of these banks may consist of gold in coin and bars and other current German coin, Imperial Treasury notes, and notes of other German banks.

In order that the circulation should be elastic and still under proper control, it was further provided that, when the banks issued paper money in excess of their reserve, plus a stated sum,³ they should then pay a tax of 5 per cent per annum on the excess issued. The untaxable excess of the first five banks enumerated above is the same, namely, 71,600,000 marks, as it was in 1875, but that of the Reichsbank has been increased from 250 million marks, first by absorbing to itself the excess of twenty-five banks (M. 43,400,000) as they renounced their rights of issue, and by a law which went into effect on January 1, 1901, raising the untaxable excess of the Reichsbank to 450,000,000 marks. This excess has been still further increased by 20,000,000 marks since January 1, 1901, by the remaining two banks of the twenty-seven giving up their issue of paper money.

The policy of the Reichsbank is well shown by the fact that, while the law compels it to base only one third of its circulation on gold coin, bullion, and treasury notes, it has steadily pursued the policy of increasing the coin and bullion in its reserve.

Thus in 1905 its total paper in circulation was 1,335,000,000 marks.

Its total average of coin and bullion reserve was 972,000,000 marks, made up

as follows: —

The Reichsbank exceeded its untaxable excess nine times in the course of the year 1905, as follows: —

For these various excesses it was charged, by virtue of the 5 per cent tax, the sum of 1,651,000 marks.

In 1904 there was charged to similar excesses, by virtue of the same tax, the sum of 1,118,000 marks.

The United States. In the United States paper currency is issued by the United States Treasury, and also by the National Banks.

At the end of November, 1905, the United States Treasury Statement was as follows: —

$526,020,869 Gold Certificates

against $526,020,869 Gold Coin $475,735,000 Silver Certificates

against $475,735,000 Silver Dollars $8,478,000 Treasury Notes

against $8,478,000 Silver Dollars of 1890

$346,681,016 U. S. Notes

against $ 150,000,000 Gold Coin and Bullion (Reserve Fund)

In the General Fund there was an additional supply of gold in coin, bullion, and gold certificates, amounting to $135,500,000 approximately.

That the number of National Banks increased from 3871 in 1900 to 5833 in 1905, shows that a nation so prosperous and extended as the United States of America requires constant extension of the banking and financial machinery.

In November, 1905, National Bank notes outstanding were about 485 million dollars, against which there had been deposited by the National Banks with the government an equal amount of United States Government Bonds.

The statement of the United States Treasury shows that the amount of outstanding bonds on the 30th November, 1905,

was.......$895,159,000

To secure circulation, National Bank Notes and United States government deposits, about .$551,240,000

Total amouut for further -

circulation.....$343,919,000

But of this amount a certain proportion would not be available, being held abroad; also a large number of permanent investments are made by trustees, savings banks, insurance companies, trust companies, and other fiduciary institutions in this country. Besides, of the $343,919,000 of bonds, $117,000,000 are redeemable after July 1, 1907, and $64,000,000 after August 1, 1908. This will reduce the total amount for further banknote circulation to $162,000,000.

On the 1st of January, 1906, with the gold coin in circulation, which was said to be about $650,000,000, the moneys in the hands of the people of the United States exceeded all previous records, the official statement showing an average of about $31.80 per capita, on an estimated population of 84 million. There is at present a law limiting to $3,000,000 per month the amount of lawful money which the banks may deposit for the retirement of their circulation. The Committee of Finance and Currency of the New York Chamber of Commerce apparently wished to recommend the repeal of this limitation. Secretary Shaw, in his published letter of February 7, 1906, addressed to Mr. Schiff, concerning the recommendation, calls attention to the fact that such action would make it possible to retire all our National Bank circulation in a very short period.

The Secretary also stated that banks find it profitable to buy government bonds, with which to increase their circulation, when money is cheap and at a very low rate of interest, and consequently find it more profitable to sell their bonds and retire their circulation when money is dear and worth high rates of interest.

As evidence of this, Mr. Shaw showed that the New York city banks increased their circulation five millions of dollars during July and August, when money was plenty and low, and actually contracted their circulation by $2,750,000 during the months of October, November, and December, 1905, when the rate of interest reached 100 per cent. This demonstrates, as Mr. Shaw aptly observes, that circulation secured by bonds will always contract when it ought to expand, and will always expand when it ought to contract.

The committee of the New York Chamber of Commerce criticises the Secretary’s suggestion of allowing to the National Banks of Issue an additional circulation, in time of money stringency, of 50 per cent of the bond circulation, subject to a 5 per cent or 6 per cent tax. This plan the committee characterizes as inflation. It would appear, however, that a similar method in the case of the German Reichsbank works, as it were, automatically. Money is issued when a stringency occurs, and, owing to the tax to which it is subjected, retires when normal conditions return. It is obvious that when the current rate is not above 5 per cent there is no longer an incentive for the Reichsbank to continue its circulation subject to a 5 per cent tax.

If, in the United States, the privilege of a 50 per cent additional circulation subject to a 6 per cent tax had been in force last November, and availed of by every National Bank of Issue throughout the country at the same time, — which is not probable, — the total increase of currency for the time being, from the Atlantic to the Pacific, would have been about 240 million, or less than 10 per cent of all the moneys probably in circulation in the United States. Of this sum 25 million would have been available in the New York City banks.

Experts must decide whether the above amount is excessive, distributed as it is among so many banks, or whether it is out of all proportion when compared to the 450 million marks ($112,000,000) that the Reichsbank alone had in circulation subject to a 5 per cent tax on September 30, 1905. It has been shown that the Bank of France (January, 1906) could, without any tax, and subject only to the unanimous consent of the three censors, issue 1000 million francs ($200,000,000), while in London for a number of years the Banking Department of the Bank of England has held its notes to the extent of 25 million sterling ready to be placed in circulation as the occasions require. The British government has, besides, established in the past the precedent of temporarily repealing, in case of need, the law of 1844 limiting the issue of paper money.

The excessive money stringencies which are peculiar to the United States, and due to a great extent to our defective system, should be avoidable when we take into consideration our real financial strength and standing. Therefore, in view of the serious inconveniences of our unelastic currency which have been experienced in the past, and which will occur again in the future, it would seem to be the duty of Congress to consider the question seriously, and take such action as is proper and necessary in order to grant to the currency the required elasticity.