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Tu Ne Cede Malis

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Organization of Debt into Currency and Other Papers
by Charles Holt Carroll

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Chapter 33
Of the Discount Deposit


(Reprinted from Bankers' Magazine and Statistical Register, XXXI (June, 1877), 961-68.)

Once in my life, and only once, have I known a bank officer who seemed to me to comprehend thoroughly the nature of his business in discounting an evidence of debt out of itself into a "deposit." That officer was the late J. Amory Davis, President of the Suffolk Bank of Boston, who told me that, in his opinion, the business of banking would be more profitable to its proprietors in the long run, as well as more useful to the public, if that principle were abandoned entirely. Mr. Davis was a good thinker, careful and sound in his conclusions, and a perfectly conscientious man. I was glad to find that his ample experience and practical knowledge of banking led to the same conviction on this point which I had entertained many years before I had the pleasure of his acquaintance.

The subject is brought to my mind at this time by an argument of George S. Coe, Esq., President of the American Exchange National Bank of New York, on bank taxation, which I find reported in the March issue of this magazine, and in the newspapers. In a newspaper he is represented as saying to the Committee of Ways and Means of Congress:

Now, as to dividends, the banks in the city of New York, one-half of them, have not for the last two years earned their dividends, and for the last year not one-third of them I say that our institu tions did not earn the dividends which they have declared, but they paid them out of their reserves because they could not help responding to the agonies of the stockholders, and the necessities of the case.

There is nothing surprising in this statement. The gist of the trouble lies in the supposititious "dollar" created by discounting, which, being nothing in itself, has no equivalent; nevertheless it demands the payment of money, or an equivalent, and, although the bank throws upon its customers the obligation to meet this demand, the demand "returns to plague the inventor" of the fictitious dollar, under the adverse course of exchange which that dollar itself creates.

A promise is a debt, it is nothing else; and the attempt to make debt serve the purpose of money always has been and always will be a failure. Money and debt are as opposite in nature as fire and water; money extinguishes debt as water extinguishes fire. Debt in the money channel is a violator of natural law; an intruder that can remain there only so long as money can be kept out by the interference of legislation. The buying of goods is one thing, the paying for them another. Credit may be a good medium of exchange, but never can be the object of exchange. The seller is not paid for his goods in a note or a check; the exchange is not completed until his capital is restored to him in money or its equivalent as value for value. Hence the debts of the community, so far as they are contracted in price without value; that is, in price formed by credit in excess of the natural money value, below which prices cannot permanently fall, must be kept in existence by continued renewal, and by maintaining in full activity of circulation the volume of currency in which they were contracted, or prices will fall, debts must be discharged in bankruptcy, and banking comes to grief like other credit business. A sluggish circulation, such as we have had for some years past, is equivalent for the time to a contraction of the currency, since if the currency cannot be used it cannot maintain prices.

These fundamental principles of finance and political economy are ignored in the fictitious bank deposit, the deposit created by discounting; and this is the cause of the trouble with the banks which Mr. Coe portrays so eloquently. Taxes have very little to do with the matter, and their removal would have no appreciable effect, I think, in removing the difficulty. This so-called "deposit" involves the entire principle of the currency system of Europe and America. It was invented by the Bank of England, in 1694, or rather by the Scotchman, William Patterson, who invented that bank; and two other Scotchmen, John Law, the projector of the Mississippi scheme, and Adam Smith, have been chiefly instrumental in corrupting political economy with the fallacy that this "deposit," with nothing to it or behind it, is an economy of the precious metals. It amounts precisely to this and nothing more, that two men exchange promises, one being a banker, promising to pay on demand, which promises are to be offset in the end by a re-exchange of one against the other; meanwhile, the banker's promise is to be called "money," and regarded as equal in value to gold. Mr. Coe, I am glad to see, discovers the fallacy of this pretense of money in the deposit, but he does not propose to reform it; and he is one of a thousand of his craft in admitting, that in manipulating the deposit, he is not borrowing and lending money.

Here is Adam Smith's statement of the matter.* "A paper money, consisting in bank notes issued by people of undoubted credit, payable on demand, without any condition, and, in fact, always readily paid as soon as presented, is, in every respect equal in value to gold and silver money, since gold and silver money can at any time be had for it." That is to say, a banker does the same thing in effect for commerce and the general welfare, by writing a promise for a given amount of gold which he does not possess, as the miner who produces capital by raising the same amount of gold by hard labor from the bowels of the earth. I think no greater folly than this ever claimed the sanction of science in any department of human inquiry; but it is the principle of banking in which Mr. Coe is engaged, and the essence of our currency system. It is a quicksand which the banks make for their own and all other business to stand upon.

As to the difference, so often alleged, between the bank note and bank deposit, there is none whatever in principle or effect; one is as much currency as the other. Originally, the Bank of England issued notes for all her discounts and demand liabilities. Suppose you have $1,000 at your credit inscribed in a bank ledger, and you make and pay away a check for $100, you have $900 of bank credit left. Or suppose you have the same amount inscribed in ten separate notes, and pay away a note for $100, you have $900 of bank credit left as before. In the one case you make your own checks at your convenience; in the other, the bank makes, in effect, and hands you ten checks upon itself, which you dispose of at your convenience. The currency is the fund in bank, whatever that may be or pretend to be; it is not merely the instrument—check or note—which serves to circulate that fund; and the whole fund is money or fiction, as money is present in or absent from it. Were the currency exclusively metallic, it would be largely distributed through banks by the same instruments. The balance at the debit of every trader's cash account is his currency, and the chief item of that balance is usually his bank deposit, subject to check at sight; not the deposit loaned on time or in a savings bank, which, being removed from his cash account, is loaned, and is not currency.

If this common-sense statement needs the sanction of authority to satisfy the reader, let him refer to Henry Thornton's Inquiry into the Nature and Effects of the Paper Credit of Great Britain, page eighty-seven, where he will find a footnote as follows:

It is in substance the same thing whether a person deposits £100 in money with the bank, taking no note, but obtaining a right to draw a draft on a banking account which is opened in his name, or whether he deposits the same £100 and receives for it a bank note. The possession of the right to draw obtained in the one case is exactly equivalent to the possession of the note obtained in the other. The notes, it is true, are commonly issued, not in consideration of money received, but of bills discounted; but the deposits, it may be observed, are generally formed by the means of bills discounted.

And in Lawson's History of Banking, page 156, we find the following statement of the same thing:

A note holder does not in fact differ from a person to whom a balance is due; both are creditors of the bank; the one holding a note, which is the evidence of the debt due to him; and the other having the evidence of the entry in his pass book, or in the ledger of the bank.

Authorities are abundant on this point. Joseph Hume completely defeated Lord Overstone, then Samuel Jones Loyd, in an argument upon it before a committee of the British House of Commons, as I read the case in Overstone's Tracts. Mr. Coe explains the principle thus:

One hundred bales of cotton are sent from New Orleans to New York, shipped inland. This cotton is not money. There is not a dollar of actual money connected with it. It has a value equivalent to so much money. The party in New Orleans who ships it chooses to send it to Cincinnati, and draws a draft against it, upon that place, and deposits that draft in bank in New Orleans. That becomes a deposit. Is it money? Is it not cotton and nothing else?

To this I reply, it is no more cotton than it is money; it is neither the one nor the other; nor is it legitimate credit, for legitimate credit borrows capital, and there is no capital borrowed or loaned in this transaction as recited by Mr. Coe. The bank borrows no cotton and lends no money. The cotton shipper lends no cotton and borrows no money. The two parties merely exchange obligations; the bank promises to pay the cotton shipper money in New Orleans which it does not possess, for if it does, the deposit is money borrowed by the cotton shipper, and the credit is legitimate in true and unexceptionable banking, which is not the case in question. On the other hand, the cotton shipper promises to pay, to the order of the New Orleans bank, money in Cincinnati which he does not possess or own there. By taking his draft the bank does not come into possession of the cotton or its ownership; it has nothing to do with the cotton, which goes on its way according to Mr. Coe's explication. What, then, does the bank possess? Simply the cotton dealer's obligation to put money to its credit, or meet the draft in Cincinnati. The cotton may be destroyed upon the road; whether it is or not, the drawer may sell property inherited from his grandfather, to meet the draft in Cincinnati. His obligation is of the nature of a mortgage upon his whole estate, which he may release by the sale of any other property, as well as of the cotton in Cincinnati; or he may be an utter bankrupt, in which event he may have appropriated the proceeds of the cotton in anticipation of the appearance of his draft in Cincinnati; or the acceptor may be good for nothing. What I wish to show is that the bank has no lien upon or security in the cotton, and the deposit is merely an organization of debt into currency through false banking. Mr. Coe proceeds:

The owner in Cincinnati moves it [the cotton] to Pittsburgh, and he puts the draft which he draws upon that place against it, into a bank in Cincinnati, and there also it is a deposit. The owner in Pittsburgh again moves it to New York, and there again a draft is drawn and is deposited in bank. That is the third time that the value of that one hundred bales of cotton becomes the subject of a deposit, and yet not a single dollar of money is deposited. Now what is that?

I answer: Fiction, counterfeit money, that ought to be suppressed by taxation, or in any way the government may adopt to get rid of it, for the benefit of banking and all other business.

Why doesn't Mr. Coe say the deposit in Cincinnati is cotton, and again cotton in Pittsburgh, if, as he says, it was cotton in New Orleans? I believe Mr. Coe to be one of the most intelligent bankers in the United States. I think he does not care to risk his reputation for intelligence and common sense on the assertion that this sort of banking, which he believes to be legitimate and entitled to relief from taxation, multiplies 100 bales of cotton into 300 bales by three successive deposits. Anybody would see the fallacy of such a statement. But the dollar is such a pure abstraction, as the medium of exchange, which, as such, can be made as perfect by the authority or permission of government in a leather button, or in an item of bank debt, as in gold or silver, that almost any absurd statement as to a deposit of dollars may have the sanction of the British school of political economy, and pass for good banking and good sense; because the doctrine of that school is commonly accepted that the medium of exchange is the only essential function of money. While that doctrine prevails, political economy, in my opinion, will not amount to a row of pins.

Money in trade is a commodity, a thing that is bought and sold; out of trade it is simply wealth. It is the creature of commerce, not of government. It existed before government. When history began, it was gold and silver bullion circulating by the common unit of weight, as Abraham weighed the shekels of silver to Ephron. Its essential function in commerce is that of capital as the common equivalent of value in exchange; and the prime element of an equivalent is always cost of production; its other elements being supply and demand. Instead of being a mere medium of exchange, it is the most conspicuous object of exchange in commerce, since, as the universal equivalent, it buys and pays for everything offered for sale, and is wanted, always and everywhere, as no other commodity can be, the wide world over. An exchange is as complete on the receipt of money as of any other commodity.

A dollar made without cost of production may serve the purpose of a medium of exchange, like counterfeit money among people who choose to circulate it, but it pays for nothing; it is a nonvalue, no capital, no equivalent, and, being used as money, it sinks the value of money in the rise of prices without compensation, and hence in loss of capital to the nation that makes and employs it; for infallibly so much gold or silver will be paid away for nothing in a false price for foreign goods. Whereas, a fall in the value of money by reason of the production of gold and silver, is exactly compensated by the increase of capital in money which will be exported and exchanged for commodities of higher value, like a surplus of wheat, or of any other commodity, as soon as the course of exchange indicates, as it will with scientific precision, that money is cheaper than the average of other commodities; which is the same thing as saying, as soon as local prices are raised above the money level in other countries. No steam governor regulates the working of an engine with more accuracy than money, uncorrupted and unobstructed, regulates the movements of commerce.

Now, Mr. Coe's deposit is made of dollars that cost nothing—dollars that he says, very truly, are not money, and that I say are not cotton, for there is obviously not a particle more of money or of cotton in the country, or in the world, by reason of their creation, than if they had never existed; but being interchangeable with money, or so far as they are exchangeable for money at a discount, they will, by the law of value, which is as constant and irrepealable as the law of gravitation, depreciate money, as I have just said, and compel the export of gold or silver in pure loss of capital to the nation. Of course, I am treating of a principle in this matter, and assume, as the principle requires, that the deposit is an addition to the pre-existing currency.

The interests of banking, as well as the public welfare, require the suppression of every such "deposit," and all such dollars, since they but obstruct the money channel and prevent the accession of capital in money that we should otherwise have by producing and exporting merchandise in exchange for it. According to all authorities, as well as all common sense, the limit of industry and trade is determined by capital. The only power or use of credit is to borrow capital; when credit supplants capital it is an unmitigated evil.

The loans of the commercial banks of this country, during specie payments, have never amounted to double their capital, in the aggregate. The two greatest periods of expansion culminated in 1837 and 1857, and in both instances the expansion brought about a financial crisis and a general suspension of specie payments. According to the returns at Washington, the capital in 1837 was $290,772,091, and the loan $525,115,702 being about eighty per cent more than the capital. In 1857 the capital was $370,834,686, and the loan $684,456,887, or about eighty-four per cent more than the capital. The suspension of 1837 was succeeded by fitful and partial efforts to resume, and six years of extreme perturbation and distress. A general resumption being accomplished in 1842, the loan stood at the beginning of 1843 only eleven per cent in excess of the capital. The suspension of 1857 was less disastrous because the California gold replenished the coffers of the banks, and they were enabled to resume in 1858, with their loan forty-eight per cent in excess of their capital. But it is safe to say that the bank loan has not exceeded the bank capital seventy per cent on the average, from the adoption of the Constitution in 1787, till the suspension of specie payments in 1862.

Now, there are trust companies in our large cities, lending twenty to twenty-five times their capital, and honest, well-conducted savings banks, with no stock capital, lending fifteen to twenty millions of dollars each. How are such large loans maintained? Simply by noninterference with the currency; in other words, by avoiding the fictitious deposit—the discounting of an evidence of debt out of itself—to cripple their loans. Everyone knows that a large business with a small percentage of profit leads to accumulation more generally than a small business with a large percentage of profit. There is no limit to the loans that might be made by the commercial banks under a normal system, but in the vast amount of loanable capital in the country which they do not reach with the false deposit, and which they would reach without it, more especially with a currency of solid money, since that would be of itself capital added to the existing means of doing business.

It was in view of such facts as these that I was long ago led to believe the business of banking would be more profitable in the long run to its proprietors if they would abandon altogether the deposit created by discounting; and it was in view of such facts that the experienced banker, Mr. Davis, to whom I have referred, came to the same conclusion. He had seen the reverse side of the picture which Mr. Coe now presents.

Nearly all the borrowing and lending of capital in trade is done now by buying and selling goods on credit. It is a forced business, to make currency by making notes for discount, against the natural laws of trade, which, if left to themselves, would bring money into the country, and the buying and selling of goods would then be done with and for cash on delivery, which would save to the industrious classes the enormous cost of the currency in the credit prices charged for goods, and covered in the notes discounted. These prices must include not only the discount allowed the banks, but also the guarantee against bad debts; the discount ranging in ordinary times from seven to ten per cent per annum, in different parts of the country, and the guarantee, according to some authorities, averaging four per cent on each credit sale, to cover the cost of supporting bankrupts, including, of course, the smallest retail business.

All this is abnormal and utterly wrong, but it is the inevitable fruit of the false deposit. If this system were abandoned, the banker would take his proper position as the middleman between the lender and the borrower—between the capitalist and the man of enterprise, who would borrow capital of the banker in money and pay the interest properly out of his profits, since he could get no greater price for goods than his neighbor trading on his own capital, who would have no interest to pay. General prices, therefore, would be unaffected by credit; we could produce cheaper than we do now, and cheaper than the people of Europe, who maintain the false money system, so that we should have the advantage of them in the world's commerce. And our securities for banking, which are now so generally doubtful, and frequently bad, would then be reliable and good, almost without exception.

The intelligent reader does not need to be told that "commerce is simply the exchange of commodities." Can he then fail to discover the impolicy of obstructing the money channel with paper promises, and blockading commerce against the admission of its most useful and desirable commodity, gold and silver bullion, to the amount of one thousand millions of dollars, approximately, which belongs as the common equivalent to our circulating capital, and the absence of which plunges nearly the whole traffic of the country into the vortex of debt and credit? We have only so much the less commerce as this $1,000,000,000 of capital would maintain.

It follows, unquestionably, that our true policy is absolute noninterference with the value and circulation of money; in other words, true and free banking, and free trade in money.



* Wealth of Nations, Book 2, chapter 2, of Money.


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