I. In the United States

A CLEARING HOUSE DEFINED

[121]What is a clearing house? The Supreme Court of the State of Pennsylvania has defined it thus:

But we must go farther than this, for though originally designed as a labor-saving device, the clearing house has expanded far beyond those limits, until it has become a medium for united action among the banks in ways that did not exist even in the imagination of those who were instrumental in its inception. A clearing house, therefore, may be defined as a device to simplify and facilitate the daily exchanges of items and settlements of balances among the banks and a medium for united action upon all questions affecting their mutual welfare.

METHODS OF EXCHANGE IN NEW YORK PRIOR TO 1853

[122]During a comparatively short period immediately following 1849 the number of banks in New York increased from 24 to 60. In the daily course of business each bank received checks and other items on each of the other banks, which had to be presented for collection. All such items on hand were assorted and listed on separate slips at the close of the day, and items coming in through the mail on the following morning were added at that time. To make the daily exchanges each bank sent out a porter with a book of entry, or pass book, together with the items to be exchanged.

The receiving teller of the first bank visited entered the exchanges brought by the porter on the credit side of his book and the return exchanges on the debit side, who then hurried away to deliver and receive in like manner at the other banks. It often happened that five or six porters would meet at the same bank, thereby retarding one another's progress and causing much delay. Considerable time was consumed in making the circuit. Hence, the entry of the return items in the books of the several banks was delayed until the afternoon, at an hour when the other work of the bank was becoming urgent.

A daily settlement of the balances was not attempted by the banks, owing to the time it would have required, but they informally agreed upon a weekly adjustment, the same to take place after the exchanges on Friday morning. At that time the cashier of each bank drew a check for each of the several balances due it, and sent a porter out to collect them. At the same time the porter carried coin with which to pay balances due by his bank. After the settlement had been made, there was a meeting to adjust differences and bring order out of chaos.

An old bank officer (J. S. Gibbons), in describing the inconveniences and defects of this system, says that some of the more speculative banks took advantage of the weekly method of settlements by carrying a line of discounts to an amount greater than their legitimate resources would allow. Thus, a bank would manage to carry a small debit balance of $2,000 or $3,000 with thirty or more institutions, making a total debit balance of, say, $100,000 on which it discounted paper. It was the practice to borrow enough on Thursday to make the settlements on Friday, and the return of the loan on Saturday threw it again into the debtor column. Virtually, therefore, the weekly settlements were nominal only, and to show that there was no attempt at economy of time and labor in making them, it is only necessary to say that the cashier drew a check for every balance due him, whereas a draft on one bank in favor of another might have settled two accounts at once.

The banks were at liberty to draw on each other for their credit balances without waiting for the settlements on Friday, and hence, when specie was needed, this was not infrequently done. But so far did many of the banks extend their loans and discounts that a single small draft by one bank on another would induce a general drawing and involve them all in confusion and virtual war on each other. Three o'clock would arrive, with the line of drafts incomplete, thus enabling debtor banks ofttimes to add $50,000 to their specie, whereas creditor banks would find themselves at the close of the day depleted in perhaps twice that sum.

THE ORIGIN OF THE NEW YORK CLEARING HOUSE

[123]The desirability of a substitute for such a system had long been realized, but as yet no plausible scheme had been proposed. As early as 1831 a plan had been suggested by Albert Gallatin, which, to a very remarkable degree, coincided with the one ultimately adopted.

But the times were not ripe for the scheme thus proposed. Mr. Gallatin was thinking in advance of the age. In time, however, the question began to be more generally discussed. For nearly a year it was under consideration, and finally it was deemed advisable to call a meeting to take decisive action upon it.

On August 23, 1853, 16 presidents, 1 vice-president, and 21 cashiers, representing 38 banks, assembled in the directors' room of the Merchants' Bank, and at this meeting a resolution was passed providing that "a committee be appointed to procure or hire a suitable room in or near Wall Street, for the purpose of holding meetings of the officers of the city banks; that the said committee be requested to submit a plan, at an adjourned meeting of this body, to simplify the system of making exchanges and settling the daily balances; and that when a room is procured or hired for the above purpose, the presidents or cashiers be requested to meet weekly until a plan is agreed upon." In compliance with this request, the committee presented a plan for the daily settlement of balances, at a meeting held on August 31, 1853, which plan was amended so as to provide "that a room be procured for that purpose, sufficiently large to afford suitable accommodations."

On September 13, 1853, the scheme was adopted and the committee was "clothed with full power to hire a room, appoint a manager and clerks, and make all the necessary arrangements to carry the plan for a clearing house into effect." The date for beginning operations was fixed for October 11. Accordingly, on the appointed day, the representatives of the banks, members of the association, met in a room which had been procured in the basement at No. 14 Wall Street, and made the first exchanges. The total clearings on that day were $22,648,109.87, and the balances were $1,290,572.38. These clearings have since been eclipsed by over $30,000,000 in the totals of a single bank.

The clearing system in America was thus fairly launched, and from that time forth its success exceeded the expectations of even its most ardent projectors. The association consisted at that time of 52 banks, banded together for their common good, which, as they then conceived, consisted solely in the exchange of items and settlement of balances at a uniform time and place. For nearly a year the operations were conducted without a constitution. The adoption of such an instrument was opposed, on the ground that it was not needed and might lead to a dangerous concentration of power in the hands of a few managers, who might use it for personal aggrandizement, or for the exercise of an arbitrary supervision.

MEMBERSHIP AND ADMITTANCE FEES AT NEW YORK

[124]The association at present (1909) consists of 50 members[125] (32 National Banks and 18 State Banks) and the United States subtreasury located at New York. The latter makes its exchanges only at the clearing house, its balances being settled at its own counter. It has no voice in the government of the association, and pays a nominal sum for actual expenses. The privilege which the subtreasury enjoys of making its exchanges through the clearing house is a matter of great accommodation both to the subtreasury and to the banks. The New York post-office clears through one of the members, but renders no compensation to the association for the privilege.

The membership of the association since its organization has been constantly changing, owing to the admission and expulsion of members and voluntary withdrawals, as provided by the constitution.

The association began with 51 members, but by 1858 the list had declined to 46, the lowest number in the history of the clearing house. A membership of 67 was attained in 1895.

On February 28, 1854, the Bank of the Union was expelled and the clearing-house association was authorized to return to it whatever amount was necessary to offset its advances toward the expenses of the clearing house. In the following December the Empire City Bank was expelled and a similar resolution was passed but in no case thereafter were any such refunds made....

The constitution is very explicit in its terms governing the admission and conduct of members. Applicants are first considered by the clearing-house committee and referred hence to the committee on admissions. The latter committee, if, in its opinion, after a careful examination, the applicants are qualified for membership, refers them to the association for final action, a three-fourths vote of those present being necessary for admission. Banks may be elected to membership at any meeting of the association, but before being considered by the clearing-house committee each applicant must be shown to have an unimpaired capital or an unimpaired capital and surplus of at least $500,000. Each new member is required to signify its assent to the constitution, in the same manner as the original members, and pay an admission fee, according to capital, as follows: A bank the capital of which does not exceed $5,000,000 must pay $5,000; a bank the capital of which exceeds $5,000,000 must pay $7,500. Any member increasing its capital is required to pay in accordance with those rates.

[126]METHODS OF SETTLING BALANCES

There are no less than five different methods of settling balances, in whole or in part, without the use of money at the clearing house. They are (1) by manager's check on debtor banks given to creditor banks; (2) by borrowing and loaning balances without interest; (3) by borrowing and loaning balances with interest; (4) by the use of one or more of four forms of certificates, viz., gold and currency depository certificates, United States assistant treasurer certificates, and clearing-house loan certificates; and (5) by draft on another city.

When money is not used in the adjustment of balances at the clearing house, one of the most common methods of settlement is by manager's check on debtor banks in favor of creditor banks. In such cases the creditor banks send clerks to the clearing house to receive the manager's checks, which may be cashed by the debtor banks, exchanged for cashier's checks or exchange on another city, or sent through the clearings on another day.

There is one important advantage of the manager's check over settlements in cash at the clearing house: By its use only one transfer of cash is necessary in making settlements, and thus the risk is greatly diminished.

The second mode of settlement, other than on a cash basis, is by borrowing and loaning balances without interest. At Chicago and Pittsburg this method is practised as a matter of convenience to the several members. After the exchanges have been made and the balances determined, a certain length of time is devoted to this transfer.

The third method is that of borrowing and loaning balances upon interest, as practised in Boston.

The fourth method is that of employing some form of certificate. Many of the large clearing houses provide for a depository to receive in special trust such United States gold coin as any of the banks belonging to the association may voluntarily deposit with it for safekeeping, upon which certificates may be issued, to be used in the settlement of clearing-house balances. Such certificates are usually issued in denominations of $5,000 and $10,000, and are negotiable only among the associated banks. Many of the clearing houses impose a fine for their transfer to any other party than a member of the association.

Coin certificates were devised by F. W. Edmunds of New York, and came into use about 1857. The Bank of America first acted as a depository, but after the beginning of the greenback epoch the associated banks chose the United States subtreasury as such depository for both gold and currency. When the new clearing house in Cedar Street was occupied, the gold deposits were transferred to the magnificent vaults with which it is provided, and these at the present time hold a very heavy deposit of gold, as well as a very large amount of currency, against which have been issued clearing-house certificates as before mentioned. The associations in practically all of the large cities of the United States now use these gold depository certificates in the settlement of clearing-house balances.

Clearing-house loan certificates are issued only in emergencies. The period during which balances are settled by such instruments lasts usually only three or four months, or until the financial disturbance which called them forth has subsided.

The fifth method is by draft on some other city. In some places the option is given of settling in cash or by draft, as at Austin, Tex.; Charleston, S. C.; Frederick, Md.; Jacksonville, Fla.; Kansas City, Mo.; New Orleans, La.; Rochester, N. Y.; and Saginaw, Mich. In others settlements are made exclusively by drafts on another city. Among these are Syracuse, N. Y.; Worcester, Mass.; Fall River, Mass.; Fremont, Ohio; Hartford, Conn.; Holyoke and Lowell, Mass.; and Binghamton, N. Y. Sometimes foreign drafts are used in payments of equal thousands only, as at Wilmington, Del., and Chester, Pa.

Generally speaking, about 40 per cent. of the clearing houses of the United States use drafts on other cities in paying their balances. About 30 per cent. settle by manager's check, and about 25 per cent. settle by cash alone, the remaining 5 per cent. settling by a combination of two or more of the foregoing methods.

Clearing houses located in New England settle, as a rule, with drafts on Boston or New York, or both. Clearing houses in the vicinity of Philadelphia usually settle with drafts on that city or on New York, and those located in that part of the country lying east of the Mississippi River settle more or less by draft on New York or Chicago. Settlement is also sometimes made by draft on some of the larger cities, such as Baltimore, Washington, Savannah, Kansas City, Detroit, Omaha, and San Francisco.

[127]RATIO OF BALANCES TO CLEARINGS

The ratio of balances to clearings depends partly upon the number of banks, but much more upon the amount and character of their business and upon their relations one to another. This is illustrated by figures which have just been collected, covering the transactions for the year 1908. At Pittsburg, with 20 members and 128 non-members clearing through members, the balances were 16.5 per cent. of the clearings; at Buffalo, with 11 members and 7 non-members, 12 per cent.; at Chicago, with 20 members and 40 non-members clearing through members, 7.5 per cent.; at Philadelphia, with 31 members and 1 non-member, 11.5 per cent.; at St. Louis, with 17 members and 35 non-members, 9.3 per cent.; while in New York, during the fifty-four years of its existence, the percentage of balances to clearings has been only 4.64 per cent., notwithstanding the operation of the United States assistant treasurer, who almost always has a heavy debit balance.

The more nearly the banks stand on an equality with one another, the more nearly will their transactions approach a complete offset, which, of course, would leave no balance to settle.

[128]THE NATURE OF CLEARING-HOUSE LOAN CERTIFICATES

Clearing-house certificates are of two kinds—those issued upon the deposit of gold coin (and in New York City and Boston on gold and silver certificates and legal-tender notes) and those issued upon the deposit of collateral securities. The former are employed in ordinary times solely as a method of economizing time and labor and reducing risk in handling large sums of money. The latter are employed in times of financial disturbance or panic, and although both are intended for use solely in the settlement of balances at the clearing house, the circumstances that call them forth, the results effected by their use, and the part they play in banking economy have little or nothing in common. The certificates issued upon the deposit of gold, etc., are termed "Clearing-house certificates," and those issued upon the deposit of collateral security are very properly termed "Clearing-house loan certificates," with which latter only are we here concerned.

Clearing-house loan certificates may be defined as temporary loans made by the banks associated together as a clearing-house association, to the members thereof, for the purpose of settling clearing-house balances. Such certificates are negotiable, as a rule, only among the members of the association, and are not in any sense to be regarded as currency. They are not even seen by the business community, and do not pass from bank to bank except in payment of clearing-house balances.

To obtain an intelligent understanding of the real character and purpose of such certificates it will be well to treat somewhat of the circumstances under which they are issued. In the course of the present century the United States has undergone periodical derangements of business affairs, when confidence was displaced by mistrust, when the payment of debts became difficult, when property values declined, and business houses failed; when industry and trade were paralyzed, and general stagnation ensued in all lines of enterprise. In such times depositors in banks, stricken with fear and sometimes pressed by need, draw out their deposits, in many cases to such an extent as to render it difficult or even impossible for the banks to contract their loans sufficiently to meet the demands thus made upon them. Under our currency system no adequate method is [was] provided for expanding the money volume as occasion demands, whereby the banks can continue their usual loans and discounts, and thus prevent a panic with all its evil consequences. Hence it is left in a large measure to the financiers of each community to work out their own remedy, supplemented by such mutual assistance as a courteous regard for each other may dictate or as business relations may demand.

Quick to see the defects in our currency system, and the desirability of in some way supplying it, the bankers of New York, nearly fifty years ago, devised the scheme of issuing clearing-house loan certificates as a method of relief from temporary stringencies. Subsequently, nearly all the clearing houses in the great centres adopted the same device, and by their heroic resort to the measure they have at different times relieved the business community of untold disaster, for which invaluable service they have justly received the grateful recognition of the entire country.

The great value of clearing-house loan certificates lies in the fact that they take the place of money in settlements at the clearing house, and hence save the use of so much actual cash, leaving the amount to be used by the banks in making loans and discounts, and in meeting other obligations. The volume of currency, to all intents and purposes, is expanded by this means to the full amount of the certificates issued.

The loan certificates are taken out by the clearing-house members through loan committees, specially appointed, and are used, as a rule, only in the payment of balances among the associated banks. Thus, when the stringency in the money market seems sufficient to demand it, the clearing-house association meets and appoints a committee called the "loan committee," consisting usually of five bank officers, to act in concurrence with the president of the clearing-house association, who serves ex officio as a member. It is the duty of such committee to meet each morning at the clearing house and examine the collateral offered as security by the banks and issue loan certificates thereon, in such denominations and proportions to collaterals deposited as may be agreed upon. In the past the denominations have varied from 25 cents to $100,000 in the different associations and in proportions varying from $50 to $100 of certificates to $100 of collateral deposited.

These loan certificates bear interest at rates varying from 5 to 10 per cent. per annum, payable by the banks to which they are issued to the banks receiving such certificates in settlement of daily balances. Hence the interest charged against certain banks must exactly equal and offset that credited to certain other banks. The aim is to fix the rates sufficiently high to insure the retirement of the certificates as soon as the emergency which called them forth has passed by. As a rule they are retired by the banks, which take them out as soon as they have obtained sufficient cash to meet their daily obligations. Notice is given by the debtor banks to the committee, calling for such certificates as they wish to retire, and the committee gives notice to the banks holding the same, stating that the interest will cease after a specified date. In due course the holders send the certificates to the clearing house for redemption. Upon the retirement of the certificates the collateral deposited as security is surrendered by the committee in the same proportion to certificates turned in as was required for deposit at the time of issue.

It is by no means the general practice for all the members to take out loan certificates when issues are arranged by the association. Some banks are in such condition as to be able to weather the storm without them, while others are weak and in great need of relief. Some banks regard their use of clearing-house loan certificates as a reflection upon their standing, and hence refuse to apply for them unless driven to it by sheer necessity. Others regard it as in no way prejudicial to their interests, but rather as a patriotic movement in which all the banks should engage, both for the purpose of assisting their fellow-members and for the welfare of the community as a whole.

CLEARING-HOUSE LOAN CERTIFICATES AND THE EQUALIZATION OF RESERVES[129]

Comparison of the course of events during the crisis of 1873 with that in subsequent crises shows a progressively increasing unwillingness or inability among the New York banks to make use of their cash reserves. In 1873 the New York banks at the outset of the crisis held an available reserve of $34,300,000. In the course of four weeks this was reduced to $5,800,000, and the ratio to deposit liabilities was then less than 4.5 per cent.[130] Suspension was not escaped in 1873 but it was of shorter duration than in later crises. The banks at that time were unable to increase their cash resources by any of the means which have been available in later crises. The Government had no surplus of greenbacks, aside from about $12,000,000 which was almost entirely secured and retained by the savings banks. Banknotes could not be issued because the total circulation was at that time limited by law. Finally, additional supplies of gold, secured through imports, were useless for ordinary banking purposes because the business of the country was then carried on by means of an inconvertible and depreciated paper currency. Notwithstanding all these special difficulties, the New York banks, by continuing to use their reserves freely even after payments had been restricted, were able to restore confidence in a comparatively short time, and money began to flow back to them within three weeks after the outbreak of the crisis.

In 1893 the New York banks were in what was for them an unusually strong condition at the beginning of the disturbance, having early in June a cash reserve exceeding 30 per cent. of their net deposits. A succession of banking failures in the West and South led to heavy withdrawals from New York during the latter part of June and the beginning of July. Then followed a lull and money began to be returned to New York. During the third week of July banking failures were renewed in the West and South and the drain was resumed. The positively unfavorable aspects of the situation were altogether similar to those of the previous month with the one further circumstance of a reduced cash reserve in New York. On the other hand, additional means with which to meet the situation were becoming available. At the end of July gold imports in large amount had been arranged. Foreign purchases of our securities were heavy, reflecting increasing confidence in the repeal of the silver purchase law. Arrangements had also been made which would certainly lead to a considerable increase in the issues of bank-notes during August and September. Notwithstanding all these favorable circumstances the New York banks suspended, during the first week of August, when they still held a cash reserve of $79,000,000, more than 20 per cent. of their deposit liabilities.

In 1907 the New York banks restricted payments when they still held a cash reserve of more than $220,000,000 and when the reserve ratio was also above 20 per cent. Both in 1893 and in 1907 suspension was not a measure of last resort taken after the banks had entirely exhausted their reserves and when there was no means of securing additional cash resources. Moreover, after cash payments were restricted the policy of the banks was unlike that adopted in 1873, in that the banks did not make further use of their reserves; they hoarded them and added to their amount, thus unduly prolonging the period of suspension.

Explanation of the failure of the banks in 1893 and 1907 to use their cash resources as completely as in 1873 is simple; but it is of the very greatest significance because it will bring to light the most serious element of weakness in our credit structure. [Written before our banking reform of 1913.]

In 1893 and in 1907 the clearing-house loan certificate was the only device resorted to in order to secure the adoption of a common policy by the banks. In 1873, as on earlier occasions when its use was authorized, provision was also made for the equalization of the reserves of the banks. Thus in 1873 the Clearing House Association in addition to the customary arrangements for the issue of loan certificates adopted the following resolution:

Two fairly distinct powers were given the clearing-house committee: the right to issue clearing-house certificates, and control over the currency portion of the reserves of the banks. This machinery was devised (according to tradition) after the crisis of 1857 by George S. Coe, who for more than thirty years was president of the American Exchange National Bank. The purpose of the certificate was to remove certain serious difficulties which had become generally recognized during that crisis. The banks had pursued a policy of loan contraction which ultimately led to general suspension, because it had proved impossible to secure any agreement among them.[131] The banks which were prepared to assist the business community with loans could not do so because they would be certain to be found with unfavorable clearing-house balances in favor of the banks which followed a more selfish course. The loan certificate provided a means of payment other than cash. What was more important, it took away the temptation from any single bank to seek to strengthen itself at the expense of its fellows, and rendered each bank more willing to assist the community with loans to the extent of its power.

But in addition to the arrangement for the use of loan certificates provision was also made for what was called the equalization of reserves. The individual banks were not, of course, equally strong in reserves at the times when loan certificates were authorized. From that moment they would be unable to strengthen themselves, aside from the receipt of money from depositors, except in so far as the other banks should choose to meet unfavorable balances in cash. Moreover, withdrawals of cash by depositors would not fall evenly upon the banks. Some would find their reserves falling away rapidly with no adequate means of replenishing them. The enforced suspension of individual banks would pretty certainly involve the other banks in its train. Finally, it would not be impossible for a bank to induce friendly depositors to present checks on other banks directly for cash payment, instead of depositing them for collection and probable payment in loan certificates, through the clearing house. The arrangement for equalizing reserves therefore diminished the likelihood of the banks working at cross purposes—a danger which the use of clearing-house certificates alone cannot entirely remove.

These arrangements had enabled the banks to pass through periods of severe strain in 1860 and in 1861 without suspension. In both instances the use of the loan certificate was followed immediately by an increase in the loans of the banks, and in no short time by an increase in their reserves. The situation in 1873 was more serious, and as events proved, the reserve strength of the banks, while sufficient to carry them through the worst of the storm, was not enough to enable them to avoid the resort to suspension.

In 1884, the next occasion when clearing-house loan certificates were issued, the opposition to the provision for the equalization of reserves was so widespread that it does not appear that it was even formally considered. The ground for this opposition can be readily understood. In 1873 the practice of paying interest upon bankers' deposits was generally regarded with disfavor. Only twelve of the clearing-house banks offered this inducement to attract deposits; but by this means they had secured the bulk of the balances of outside banks. It was in meeting the requirements of these banks that the reserves of all the banks were exhausted at that time. The noninterest paying banks entered into the arrangement for the equalization of reserves in expectation of securing a clearing-house rule against the practice of paying interest on deposits. But their efforts had resulted in failure. Some of them had employed their reserves for the common good most reluctantly in 1873, and the feeling against a similar arrangement in 1884 was naturally far stronger and more general. Moreover, the working of the pooling agreement in 1873 had occasioned heart-burnings which had not entirely disappeared with the lapse of time. It was believed, and doubtless with reason, that some of the banks had evaded the obligations of the pooling agreement. It was said that some of the banks had encouraged special currency deposits so as not to be obliged to turn money into the common fund. Further, as the arrangement had not included bank-notes, banks exchanged greenbacks for notes in order either to increase their holdings of cash or to secure money for payment over the counter. Here we come upon an objection to the pooling arrangement which doubtless had much weight with the specially strong banks, although it is more apparent than real. In order to supply the pressing requirements of some banks, others who believed that they would have been able to meet all demands of their depositors were obliged to restrict payments. That such an expectation would have proved illusory later experience affords ample proof. When a large number of the banks in any locality suspend, the others cannot escape adopting the same course. But in 1884 the erroneousness of the belief had not been made clear by recent experience.

The New York banks weathered the moderate storms of 1884 and 1890 without suspension, by means of the clearing-house loan certificate alone, and in the course of time all recollection of the arrangement for the equalization of reserves seems to have faded from the memory of the banking community. There was, however, in those years another potent influence which tended to lessen the likelihood of suspension following the issue of loan certificates. Many banks were unwilling to take them out, fearing that such action would be regarded as a confession of weakness. The prejudice against them was indeed so strong that needed loan expansion did not follow the authorization of their issue. In 1890 the directors of the Bank of Commerce, then, as now, one of the most important banks of the city, passed a resolution urging other banks to relieve the situation by increasing loans and by taking out loan certificates.

In 1893 only a small part of the balances between the banks was settled in certificates at first; but by the end of July practically all balances were settled in that way and suspension followed at once. In 1907 all the banks having unfavorable balances, with but one important exception, took out certificates on the first day that their issue was authorized, and suspension was then for the first time simultaneous with their issue.

The connection between suspension and the use of clearing-house loan certificates as the sole medium of payment between the banks is simple and direct. The bank which receives a relatively large amount of drafts and checks on other banks from its customers cannot pay out cash indefinitely if it is unable to secure any money from the banks on which they are drawn. So long as only a few banks are taking out certificates and the bulk of payments are made in money, no difficulty is experienced; but as soon as all the banks make use of that medium, the suspension of the banks which have large numbers of correspondents soon becomes inevitable. The contention of bankers both in 1893 and in 1907 that they had not suspended since they had only refused to honor drafts on other banks was untenable. The clearing-house loan certificate was a device which the banks themselves had adopted and they had failed to provide any means for preventing partial suspension as the result of its use. The further contention of some bankers that they had suspended because they had no money to pay out was doubtless true of a few banks, but for that very reason other banks must have been all the stronger, probably well above their required reserve.

That the arrangement for equalizing the reserves, adopted in 1873, would have availed to prevent suspension on subsequent occasions, is highly probable, indeed a practical certainty. In 1893 events proved that the banks had maintained payments up to the very last of the succession of disasters with the results of which they had been contending. During August the number of bank failures was not large and none of them was of great importance. We cannot, of course, know how soon money would have begun to flow back to New York, but certainly the suspension of payments could hardly have hastened the movement. From the beginning of September the reported movements of currency showed a gain for the New York banks, and for the week ending September 16 the gain was no less than $8,000,000. One month more of drain, therefore, was the most that the banks would have been obliged to endure, and for the needs of that month the banks would not, as in 1873, have been confined to the single resource of the $79,000,000 of the cash in their vaults.[132]

Similarly, the enormous increase in the money supply of the country in November and December, 1907, would have offset much of the loss of reserve which the banks would have incurred, if they had continued to meet all the demands of their customers for cash. And, finally, it may be observed that in the unlikely event that alarm had not been allayed and suspension in the end had become unavoidable, it would not have made any practical difference to depositors whether the reserves of the banks had been but 10 per cent. rather than 20 per cent. of their demand liabilities.

CLEARING-HOUSE BANK EXAMINATIONS[133]

Most bank failures are due to the gradual acquirement of undesirable assets over a period of years, and if some authority exists with power to make recommendations of a remedial character, with the further power to enforce such recommendations, if necessary, there is little doubt that many bank failures would be averted.

The panic of 1907 presented many striking examples of just what is intended to be here emphasized, viz., that under the careful supervision of a competent and reliable examiner many of the assets of the failed banks, upon which it was impossible for them to realize at a time when they needed their funds, would probably have been liquidated upon his recommendation and advice long before the necessity for such liquidation had arisen.

Mr. J. B. Forgan of Chicago, has recently said on this subject:

The clearing-house association of Chicago was the pioneer in the establishment of an independent system of clearing-house bank examinations in this country, its system having been inaugurated on June 1, 1906, with results that have, to the present time, more than fulfilled the expectations of the bankers of that community[134]....

In substantially his own words the Chicago examiner operates under the following conditions: The examinations extend to all the associated banks of Chicago and to all non-member institutions. The work is conducted with the aid of five regular assistants, each fitted by experience to thoroughly do that part of the work assigned to him. The examinations include, besides a verification of the assets and liabilities of each bank, so far as is possible, an investigation into the workings of every department and are made as thorough as is practicable. After each examination the examiner prepares a detailed report in duplicate, describing the bank's loans, bonds, investments, and other assets, mentioning specially all loans, either direct or indirect, to officers, directors, or employees, or to corporations in which they may be interested. The report also contains a description of conditions found in every department. One of these reports is filed in the vaults of the clearing house, in the custody of the examiner, and the other is handed to the examined bank's president for the use of its directors. The individual directors are then notified that the examination has been made and that a copy of the examiner's report has been handed to the president for their use. In this way every director is given an opportunity to see the report, and the examiner, in every instance, insists upon receiving acknowledgment of the receipt of these notices.

The detailed report retained by the examiner is not submitted to the clearing-house committee, under whose direct supervision he operates, unless the discovery of unusual conditions makes it necessary. A special report in brief form is prepared in every case and read to the clearing-house committee at meetings called for that purpose. The report is made in letter form, and describes in general terms the character of the examined bank's assets, points out all loans, direct or indirect, to officers, directors, or employees, or to corporations in which they may have an interest. It further describes all excessive and important loans, calls attention to any unwarranted conditions, gross irregularities, or dangerous tendencies, should any such exist, and expresses, in a general way, the examiner's opinion of each bank as he finds it.

Less than a year after the Chicago Clearing House Association appointed its special examiner the associated banks of Minneapolis took similar action. The conditions under which the Minneapolis examiner operates are substantially the same as those governing the examiner at Chicago, the principal difference being that instead of the examiner sending a copy of his report to the president of the examined bank and notifying each of the directors of such bank that he has made such examination and that the report is in the hands of the president of the institution, as is the rule of procedure at Chicago, and which, in a measure, leaves it to the discretion of the directors whether they examine the report carefully and in detail, the original report is delivered by the examiner at Minneapolis in person to the board of directors of each bank which he examines, at a meeting convened for that purpose. The report is read and the criticisms, if any, are fully discussed, and the recommendations considered. In this way no director can complain that he had not sufficient opportunity to become fully conversant with all the details of his bank.