Credit Policies of the Federal Reserve System
XVII: The Quality of Credit: Liquidity and Safety
CHAPTER XVII
THE QUALITY OF CREDIT: LIQUIDITY AND SAFETY
In Chapters XII and XIII it was shown that the Federal Reserve system has much less influence than was expected in the direction of a greater use of self-liquidating commercial paper as a method of credit extension by member banks. It was there noted that aside from the fostering of an acceptance market, the record of the Reserve system indicates no consistent interest in this issue. At times it has been given some attention, but at most periods the interest of Reserve authorities has centered in control of the quantity of credit rather than in influencing its quality. It remains to consider whether these facts constitute a serious criticism of Reserve administration. Was there ever any real reason for demanding a revision of the standards maintained by American banks in the matter of liquidity? Was the great increase of security loans and investments a wholesome change?
I. THE BANKER’S VIEWPOINT: LIQUIDITY
From the standpoints of safety for bank depositors and profits for bank stockholders, the increase of security loans and investments has so far been advantageous. During the post-war period, bond investments and security collateral loans have been safer than loans to commercial and agricultural customers, and have greatly facilitated the scattering of risk. One of the greatest risks to any bank, and especially to a small bank, is the danger that the principal industry of its community will suffer sudden disaster or gradual decay. Against this risk a bank can protect itself only by keeping a considerable share of its resources invested outside its local community—which means either in deposits with outside banks, in securities and security loans, or in acceptances and open market commercial paper. Either policy means investment in the obligations of the large well-known concerns whose credit is so well established that the banker can safely invest without personal contact with or intimate knowledge of the affairs of the firm.
The policy which is most profitable in the experience of a limited term of years, however, is not necessarily the soundest policy for the long run. Profits may be secured by taking undue risks, and favorable conditions may conceal the risk and seem to justify the policy. Moreover, social policy may not necessarily coincide with the interest of stockholders or even with that of the depositors in the banks. Let us examine the question further, first from the standpoint of its effect on the banking structure itself, and finally from the standpoint of the effect of different investment policies on the relative position of different industries and of different sections of the borrowing public.
The whole theory of the necessity of self-liquidating quality in bank loans is unsound. The ancient and orthodox theory of British and American banking holds that bank credit should not be used to finance the long-run capital needs of industry but should be reserved for the temporary or seasonal needs of business.1 The basis of this tradition is obvious. A bank’s funds are the property of its depositors, repayable on demand; hence the bank should make its loans on the security of transactions which are self-liquidating and of short maturity so that it can get possession of its funds quickly if pressed by calls from its depositors. If its funds are locked up in land, plant and equipment, or even in slow-moving inventories, the bank exists only on the sufferance of its depositors. It is potentially insolvent, even though its loans are sure to be paid in the long run.
This doctrine is plausible, but it rests on two assumptions of fact, of which one was probably never justified and the other has now broken down. The first assumption is that fixed capital loans cannot be liquidated in time of need; the second is that the bulk of working capital loans are truly self-liquidating.
Marketability gives liquidity to security investments. In an age when business was typically organized on the basis of individual ownership, partnership, or close corporation, a bank did have to guard against the use of its funds for the purchase of fixed capital investments, in order to avoid a permanent locking up of those funds. The situation, however, has been fundamentally altered by the rise of two widespread practices. The first change referred to is the spread of corporate organization with its incidents of limited liability and flexibility of ownership; the second is the growth of stock and bond markets. Salability gives liquidity to instruments which are inherently lacking in self-liquidating character. Call loans to stock traders, deposits in banks in financial centers, and bond investments give a bank a secondary reserve which, so long as the markets function, can be liquidated easily, and without a loss of customers’ goodwill. Such assets are the first resource in time of pressure.2 A fixed capital instrument which is readily salable, or a loan based on it, is just as liquid, from the standpoint of the individual bank, as any type of loan which it can make. The creation of such liquidity in capital ownership is the great economic service of the security markets.
With the spread of incorporation and the improvement of facilities for stock and bond trading, both bankers and the authorities who are supervising them have come to recognize this fact. In practice, bond purchases and stock and bond secured loans have long been accepted as good banking practice, though lip service is still paid to the commercial loan and the acceptance as the ideal banking investments.
Marketability of assets, however, does not assure the liquidity of the banks as a group. For it is obvious that no bank can quickly liquidate its call and time collateral loans and its bond holdings unless other banks are ready to take over the load. Securities can be transferred to savers only as savings accumulate, and this process cannot be speeded up. This is the objection generally offered to the acceptance of salability as a sufficient substitute for self-liquidation. As long as banks stand ready to invest in securities and to make security loans, securities will be issued in such quantities as to fill the bank market as well as the savers’ market, and if the banks as a whole want to get out from under the load they must wait until individual savings grow to the level established. In practice, no liquidation movement ever takes many securities out of the banks; it only transfers them from one bank to another. The so-called liquidity is really only shiftability.
Commercial loans also are liquid, if at all, only from the standpoint of the individual bank, not from that of the system. This fact is generally overlooked by opponents of security financing on the part of the banks. From the standpoint of the individual bank, over-the-counter loans, which make up the bulk of commercial paper, are much harder to liquidate than are open market investments. In a very large proportion of cases they cannot be called when due, even though the borrowers are perfectly sound. The borrowers are the banks’ principal customers and to a large extent are the source, directly or indirectly, of its deposits. Even though they may “clean up” periodically at one bank, they are likely to do so by borrowing at some other bank. In any case they cannot be required to liquidate their loans unless the seasonal character of the business makes it convenient. For a bank to cut off the line of credit of any considerable number of its solvent customers would be suicidal.
On the other hand, open market commercial paper, like bonds and call loans, is an impersonal asset. No bank is required to accept renewal of it to avoid loss of customers’ good-will. Yet from the standpoint of the whole credit system, open market commercial paper is no more liquid than is any other type of loan. Packer loans, for instance, one of the most liquid types of paper, can be paid off from the proceeds of the sale of packing-house products, which turn over very rapidly; but new loans must be secured to replace them if the packer is to go on buying cattle. Exporters can pay off cotton loans as their shipments come into port, but unless they can secure credits elsewhere they must stop buying cotton.
In short, no major fraction of the underlying transactions which are represented by short-time credit operations of all types could be liquidated except at the cost of a breakdown of the whole industrial order. The vast streams of raw materials, goods in process, and finished goods in various stages of marketing are only nominally owned by those who have legal title to them. Their real owners are to a large extent the depositors in the banks. There is no way in which to liquidate the debtor-creditor relationship between the business public who are the nominal owners of these goods on the one hand, and the owners of bank balances on the other hand—except by the slow process of selling investments to bank depositors, or the still slower process of selling stocks and bonds to investors to refund the bank loans.3
In the field of “commercial” lending, just as in the capital market, a general liquidation is impossible. If pressure on the banks to pay off their depositors is at all general, the system breaks down, or relief must come from outside the group—that is, under the old banking system, from abroad; under the present system, either from abroad or from the Federal Reserve Banks. Aid from abroad means gold imports; aid from within means expansion of Federal Reserve assets, either through investments made on the initiative of the Reserve Banks, or through loans made on the initiative of the member banks. Such an expansion creates new reserves on the basis of which member banks as a group can expand their deposit liabilities in about a ten-to-one ratio, or can pay out cash in a one-to-one ratio.
The only really self-liquidating body of credit is that fraction of the commercial paper which represents the seasonal and occasional excess of working capital needs at the peak above those of the slack season. Therefore, a rigid interpretation of the doctrine of liquidity would require all business men to finance themselves through the security market or through private investment up to the point where their borrowings would all be cleaned up during part of the year—not by shifting loans but by actual liquidation. It would also forbid banks to carry any large volume of the securities either as collateral for loans or as investments. Such a system could be operated, and would have the advantage that it would be much less susceptible to shock than is the present system of carrying demand liabilities against what are really long-time assets. Even this drastic measure, however, would not make it possible for any large proportion of the remaining depositors to get their funds out of the banks simultaneously. For, as one business liquidates its seasonal excess, another is coming into its peak and must be taken care of; the combined mass of seasonal advances is almost as rigid as is the mass of bank credit taken as a whole. There is no way to liquidate any large proportion of the outstanding credit without liquidating the whole modern organization of business.
We conclude that the balance of advantages and disadvantages from the drift of the commercial banks toward investment banking does not depend on the relative liquidity of securities and of commercial paper. Either type of lending gives individual liquidity to the individual bank, if its credit analysis is good. Neither type gives liquidity in the face of calls which involve the banks as a whole. And as between individual banks, bonds and call loans are more shiftable than customers’ paper.
The real danger from the increase in banks’ holdings of securities is in its effect, not on the character of the assets, but on the volume of the liabilities. For banks instead of investors to absorb securities means that investors must hold bank deposits instead of securities. If securities pass from the hands of private investors into the hands of banks, and the proceeds are not used to liquidate some other type of bank loan, the result is that private individuals must carry a larger proportion of their investments in the form of time and demand deposits in the banks. The notable expansion of time deposits during the decade which ended in 1929 was the counterpart of the expansion of bank investments in securities—except in so far as the latter were issued in order to obtain working capital formerly obtained through bank loans. When the banking system expands its assets and its liabilities by taking in securities and giving out deposit credits the pyramid which must be supported by a limited quantity of gold is expanded, and, more important, the economic area which is exposed to the risk of a sudden pressure for liquidation is enlarged.
A general liquidation of securities and a corresponding cancellation of deposits, such as occurred in the last half of 1931,4 does not necessarily involve a corresponding withdrawal of purchasing power from the commodity markets, with its accompaniment of falling prices and unemployment. In large part it is merely a transfer of investments to those who formerly held bank deposits. But this process also aggravates depression because it creates doubt as to the safety of the banks. For such a liquidation is certain to involve a lowering of the quality of bank investments, the items which are sold being safer and more liquid on the average than those which remain in the bank portfolios. If it were not for this impairment of the quality of the banks’ assets, the simplification of the banking structure by the elimination of these deposits would be a gain. The smaller the volume of demand indebtedness that hangs over the markets the better. The unfortunate thing about the growth of the bank security investments is the increase of this body of obligations, which is sure to be called for payment whenever there is a loss of confidence either in the national currency or in the solvency of individual banks.
The preceding pages were written before the development, late in 1931, of the acute strain in the bond market which resulted from a widespread effort on the part of the banks to get their assets into extremely liquid form. This experience emphasizes what is said in the text as to the impossibility of a general liquidation, and reveals in a striking way the risks inherent in our custom of giving to individuals rights to immediate cash payment out of a body of assets which can in no way be converted into cash. It suggests even more strongly than did previous experience that the increasing volume of bank security holdings is to be deplored simply because it involves an expansion of the volume of bank deposits (whether of time or demand deposits makes little difference in the risk), and consequently a greater exposure to the hazard of the panics which always ensue from attempts to liquidate. The root difficulty is that the whole banking system of the world is organized on a basis of offsetting what are nominally demand or short-time obligations against what are nominally short-time claims on industry, or salable long-time claims. Because the assets are not and cannot be truly liquid the banks cannot in fact meet their obligations to pay off any considerable proportion of their depositors on demand, or for that matter on three months’ notice.
The collapse of the credit of the central banks and of the governments of numerous European countries, as they have successively come to the rescue of their banking systems and of one another, emphasizes the hazards inherent in the task of maintaining the redeemability of the present volume of demand obligations. When the tide is setting toward an expansion of bank credit, as it was in the years before 1929, the risks of the situation are concealed, but the pyramid can never be contracted without disaster.
II. THE BORROWER’S VIEWPOINT: VESTED INTERESTS
The drift of investment securities into the banks stimulates the organization of business in large units. Looking at the question of bank lending policy from the borrowers’ standpoint, we must distinguish between the standpoint of a big business which has a choice between security issuance and short-time borrowing, and that of a small business which either cannot issue securities at all or must issue them in a local market to buyers who can carry them without aid from the banks.
Large borrowers who can issue securities which will have standing in the open market gain an advantage by having the banks support that market. The fact that a bond is good bank collateral is a strong selling point with the average investor, even though he may be buying outright. For underwriting operations it is essential. Stock issues also are much more marketable if banks will lend on them.
From the standpoint of the small borrower, the trend of bank practice toward collateral loans and bond investments is correspondingly disadvantageous. It enables large concerns to compete with him for the capital of his local bank, while he is not enabled to compete with them for the capital of the distant bank. His only access to the open capital market is by an indirect and expensive route, through the medium of trade credit extended to him by wholesalers and manufacturers. This advantage of the big concern in raising capital is one important reason for the steadily increasing centralization of industry and distribution, and a primary source of the popular opposition to the concentration of our banking resources in New York. It is probably the most important issue in the whole controversy.
Two points must be noted in regard to it. In the first place, the little man’s disadvantage is just as great if banks stick closely to self-liquidating paper, but buy bank acceptances and open market commercial paper, as it is if they buy bonds, make call loans, or deposit their funds with New York correspondents. The small man is at a disadvantage in the open market because his credit is not well enough known to be acceptable. It makes no difference whether the open market deals in investment instruments or in commercial paper; the fact that banks put funds into it gives the large well-known firm a definite advantage.
Second, it may well be questioned whether any type of business has a vested interest in the maintenance of the existing traditions of sound banking. The rule that banks should invest in self-liquidating paper originated in the interest of the banks’ depositors in having their funds so invested that the bank could get them out quickly. When safety ceased to demand investment in so-called self-liquidating paper, the old tradition was maintained in large part in the interest of borrowers who found it advantageous to borrow in the old way. There is widespread insistence that “commercial” borrowers have some sort of prescriptive right to have the funds of the banks safeguarded for their use as against other bidders.
To me this idea seems quite baseless. The vested interests which have grown up around an old system5 always constitute an obstacle in the way of any far-reaching change, and judgments will always differ as to the amount of consideration to be given to them. The case for maintenance of the old system of lending on short-term commercial paper to the exclusion of open market investment is at bottom the same as the case for protection of the small town merchant against chain stores and mail-order houses, of hand-workers against machines, and of the country bank against branch banking.
My predilections are strongly against the protection of the established way of doing things in the face of the competition of newer ways, but I have no disposition to argue the case at this point with those who think differently. The important thing is that the issue shall be recognized as one of protection of small-scale business against big business and threshed out on that basis as a matter of social policy, not camouflaged as an issue of “sound” against “unsound” banking.
III. THE DEPOSITOR’S VIEWPOINT: BANK FAILURES
The number of bank failures in the United States was unusually large throughout the period covered by this study. In the decade 1922-31 the total number of bank insolvencies was 8,784, or 29 per cent of the number of banks in operation at the beginning of the period. The capital of the banks which failed between June 30, 1921 and June 30, 1931 amounted to 13 per cent of the total at the beginning of the period, or 10 per cent of the total at the end.
The fact that the percentage of banks failing was much higher than the proportion of total bank capital involved in the failures makes it obvious that the failures were chiefly those of small banks. Toward the end of the period, however, under the influence of the severe depression, the larger banks became involved. For the five-year period 1922-26, the average capital of the banks which failed was about $36,000. In 1929 the average was $50,0003 in 1930, $83,0005 in 1931, $94,000.6
The major part of the failures were among non-mem-ber banks, as is shown by the table on page 341. The ratio of the deposits of the member banks which failed to those of all failed banks, ranged from 25 per cent in 1929 to 54 per cent in 1930, and averaged 39 per cent for the whole period.7 In view of the fact that the member banks had around 70 per cent of the total capital and 60 per cent of the deposits it is clear that the member banks on the whole came through much better than the non-member. This is due partly to the fact that the member bank list comprises a much greater proportion of the large city banks than of the total, since it is among the large banks that the mortality has been lowest. But even for groups of banks of comparable size, the ratio of losses among member banks has been much lower than among non-members.
Banks Suspended, 1922-318
| Year | Number | Deposits (In thousands of dollars) | ||
|---|---|---|---|---|
| Member | Non-member | Member | Non-member | |
| 1922 | 57 | 297 | 24,243 | 86,478 |
| 1923 | 124 | 524 | 51,228 | 137,473 |
| 1924 | 159 | 617 | 74,469 | 138,869 |
| 1925 | 146 | 466 | 67,264 | 105,636 |
| 1926 | 160 | 796 | 68,812 | 203,676 |
| 1927 | 124 | 538 | 66,336 | 127,555 |
| 1928 | 73 | 418 | 42,240 | 96,402 |
| 1929 | 81 | 561 | 57,135 | 177,397 |
| 1930 | 187 | 1,158 | 380,440 | 484,275 |
| 1931 | 517 | 1,781 | 733,528 | 957,982 |
“Causes” of bank failures may advantageously be grouped into three general categories: First, there is the immediately preceding event which precipitates a suspension of payments, such as the failure of a correspondent bank, a gradual withdrawal of deposits, a run, a defalcation, losses on securities, bankruptcy of clients, and so on. Second, there are certain general factors, chief-ly economic, which have been undermining the position of many banks, especially the small country banks. Among these factors are the advent of the automobile, which has greatly widened the natural trade area of the larger country towns and thereby taken away the natural clientele of banks in smaller communities; the relatively unprosperous state of agriculture during the whole decade, which has been disastrous for many banks which had specialized in financing farmers either directly or indirectly; the par collection policy of the Federal Reserve Board which cut heavily into the incomes of the small country banks; and during 1930 and 1931, the collapse of security and commodity values and the widespread unemployment.
We shall not discuss in detail the causes which fall in these two categories. The risk of such losses is inherent in a capitalistic economic system, and their occurrence does not necessarily indicate bad banking organization or administration, except to the extent that wiser policies might have been successful in maintaining a greater degree of business stability—a question which has been discussed in preceding parts of this volume, especially in Chapters V, X, and XI.
We are more interested here in a third group of factors, which can be called causes only in a negative sense: that is, the lack of protective features adequate to enable the banking system to meet these severe shocks without widespread insolvency. Proposed general safeguards of this kind include (a) machinery for enforcement of more rigid standards of bank lending and investment policy, (b) greater size of banks and better diversification of investment, (c) provision for more ample support for weak banks, either from other banks or from the government, and (d) requirement of a higher proportion of stockholders’ equity to the deposit and other liabilities of the banks.
On the first point, the requirement of better banking, little need be said. Neither the Reserve system nor the Comptroller of the Currency can reasonably be expected to exercise such a degree of supervision over the banks’ lending policies as to avert many of those failures which are due to unwise extension of credit to over-the-counter borrowers. Nor can the judgment of supervisory officials with regard to safety of investments be substituted, except in extreme cases, for that of responsible officials. Bad banking has been responsible for a great many failures, but it does not account for the great increase of failures over pre-war years, nor does it seem practicable to eliminate it by closer supervision on the part of Reserve authorities.
The second point raises the issue of branch banking. Undoubtedly a nation-wide system of branch banking would make possible a better diversification of that large fraction of the banks’ assets which consists of loans over the counter to customers. This would automatically reduce the necessity for so great emphasis on investments with the attendant risk of loss from changes in the prices of securities. Better diversification of risk is the strongest argument for branch banking.
The third suggestion, however, points in the opposite direction. The fact that banks, until recently, have been left to sink or swim, is one of the outstanding differences between the banking organization of the United States and that of most other countries. This is not the only important country in which banks become insolvent; it is the only one in which they are allowed to fail. Elsewhere banks which cannot maintain their solvency are either amalgamated with stronger banks or else supported by the government. They must be supported because the maintenance of their solvency is essential to the maintenance of economic stability. The individual banks are so big that if they collapse they carry the whole national economic structure down with them. Hence over half the world banking is actually organized on the basis of private ownership of profits and socialization of losses. In America, because of the smaller size of our individual banks in comparison with the total financial structure, we can have a bank failure without a general crisis. That we do not have to underwrite bank deposits is the most cogent argument against nation-wide branch banking. It is not a wholesome situation that the public must assume responsibility for the results of policies which it does not control.
However, we are already losing our advantage. As the weaknesses which have caused the innumerable failures of small banks crop out among the larger banks, it ceases to be feasible to allow bankruptcy to renovate the situation. The Reconstruction Finance Corporation is a recognition of the fact that in America, as elsewhere, the private business of banking, if organized on a large scale, is indissolubly tied up with public interest in maintaining a uniform means of payment which will command the confidence of the community.
Our fourth suggested remedy, the requirement of more ample capital and surplus in proportion to deposits, has received much less attention than the others,9 though action along this line offers great promise of usefulness. The rate of failures is only in part a resultant of the rates of shrinkage of assets and the adequacy of the organization for distributing the risk. It is also a function of the size of the margin provided for absorbing losses before they impair solvency; in other words, of the extent to which the bank does business with its own funds compared with the size of its liability to depositors. No important division of business works on so thin an equity as is customary in financial institutions—including banks, insurance companies, building and loan associations, and investment houses. And in none of these others is the thinness of the equity as serious as in commercial banking—both because a bank’s obligations are more exclusively in the form of demand obligations, and because the consequences of its failure are more serious than is the case with most financial institutions.
The ratio of stock and surplus to total assets of the banks was decreasing before the war and this tendency was accelerated by the great expansion of bank operations and the high level of bank profits during the war. The accompanying table shows, for the period covered by our study and for certain pre-war years, the ratio of stockholders’ equity to the total volume of resources at the disposal of the banks. This includes not only national banks but state banks, savings banks, and loan and trust companies. The showing of the national banks alone is similar, the ratio for 1873 being 35.8 per cent; for 1898, 24.0 per cent; for 1913, 18.5 per cent; for 1923, 13.7 per cent; and for 1929, 13.1 per cent.
| Year | Percentage | Year | Percentage |
|---|---|---|---|
| 1873 | 23.7 | 1923 | 12.6 |
| 1883 | 23.1 | 1924 | 12.3 |
| 1893 | 24.7 | 1925 | 11.9 |
| 1898 | 20.0 | 1926 | 12.0 |
| 1903 | 18.1 | 1927 | 12.1 |
| 1908 | 18.0 | 1928 | 12.4 |
| 1913 | 16.9 | 1929 | 11.6 |
| 1918 | 12.0 | 1930 | 13.5 |
| 1921 | 12.8 | 1931 | 13.5 |
| 1922 | 13.0 |
This development is in no way peculiar to American banking. The ratio of stockholders’ investment to total resources of the banks was materially reduced during the war period. After the war, as the table on page 347 shows, pre-war margins of safety were nowhere restored; indeed in many cases the situation grew worse.
As was indicated in Chapter XVI, the current depression may or may not have started as a necessary reaction from a distortion of the productive pattern of society engendered by an over-liberal dose of new purchasing power. The current trend of cycle theorizing points to that explanation, and statistical information is not adequate to test it. But whether this or some other explanation is to be preferred, it is clear that the extraordinary severity and duration of the depression is the reflection of a debtor-creditor position, and especially a banking position, which was top-heavy.
While the immediate difficulty appeared to be the lack of cash reserves or of assets that could be converted quickly into cash, the main difficulty was not in the reserves. Cash reserves the world over have for a century been too small to make possible a general liquidation; to double them the world over would not help much. Reserves are always adequate so long as depositors have confidence in their banks, and never adequate when confidence is lost. The basic difficulty in the banking structure of the world is that the custody of unspent balances of purchasing power, which of all forms of business ought to be conducted on lines affording the greatest assurance of ultimate safety (since immediate liquidity is impossible), has been organized to exploit to the fullest the profits of “trading on the equity.” A banker who as a matter of routine demands a two-to-one ratio of current assets to current debt, himself presents a balance sheet showing 85 or 90 per cent of his current assets covered by his demand and other short-term obligations. Consequently a very small shrinkage of security values or freezing up of loans wipes out the stockholders’ equity and impairs the deposits. And of course the knowledge that this is true makes depositors rightly uneasy and forces them in self-defense to give the bank no benefit of doubt.
Aggregate Capital, Surplus, and Undivided Profits of Principal Commercial Banks as Percentage of Total Assets, by Countries10
| Country | 1913 | 1919 | 1929 |
|---|---|---|---|
| Argentina | 26.7 | 13.911 | 11.9 |
| Austria | 21.0 | 9.0 | 13.7 |
| Belgium | 20.9 | 14.312 | 22.2 |
| Brazil | 19.9 | 9.813 | 10.8 |
| Canada | 15.7 | 8.8 | 9.1 |
| Denmark. | 23.5 | 13.9 | 15.7 |
| England and Wales | 9.0 | 5.2 | 6.6 |
| Finland | 19.2 | 18.5 | 17.7 |
| France | 16.2 | 7.9 | 8.0 |
| Germany | 25.0 | 6.7 | 8.1 |
| Greece | 31.414 | 11.6 | 13.8 |
| Hungary | 16.8 | . . . | 15.3 |
| Ireland | 12.8 | 6.4 | 9.3 |
| Italy | 22.7 | 8.4 | 12.0 |
| Netherlands | 31.3 | 22.2 | 21.5 |
| Peru | 18.5 | 9.615 | 20.016 |
| Scotland | 11.6 | 5.8 | 9.5 |
| Sweden | 23.0 | 14.7 | 15.3 |
| Switzerland | 15.9 | 13.1 | 12.8 |
| Union of South Africa | 12.9 | 6.8 | 9.9 |
The inadequacy of stockholders’ equities to provide a buffer against the slightest shrinkage of the assets is not directly an outgrowth of the administrative policies which the Federal Reserve system has followed, for the law confers on the Reserve system and the Reserve Banks no authority to require stockholders to provide greater equities than have actually been required. Federal Reserve policy, therefore, can be held responsible for the weakness of the banking structure only in so far as we can fairly require Federal Reserve authorities to look ahead and recommend remedial legislation before the need of it becomes apparent to all. The responsibility of the Reserve system in this matter must be shared with legislators, and with all serious students of public affairs; for we all failed to detect in time of prosperity the inadequacy of our precautions against a time of adversity.
- 1The distinction between “banking policy” and “credit policy” is taken from Annual Report of the Federal Reserve Board, 1928, pp. 9-10.
- 2Compare pp. 132-40.
- 3This is, of course, in substance the position of the Banking School in the British banking controversy of the early nineteenth century.
- 4“. . . When increased credit demands can be met only by recourse to the Federal Reserve Banks, the volume of Reserve Bank lending is a sensitive indicator of credit conditions. . . .” (Federal Reserve Bulletin, 1923, Vol. 9, p. 411).
- 5Annual Report of the Federal Reserve Board, 1923, p. 10 (quoted below, pp. 79-80); Federal Reserve Bulletin, 1928, Vol. 14, p. 6.
- 6The omission of reference to price changes in the text is intentional and without prejudice. I believe that there is need of a thorough reexamination of the orthodox statement of the influence of gold movements on price changes and the extent to which in pre-war days changes in price levels were caused by gold movements and operated to check the gold movements.
- 7For fuller discussion of these points, see Chap. IX; compare also B. H. Beckhart, The Discount Policy of the Federal Reserve System, Chap. II.
- 8a Compiled from Annual Reports of the Federal Reserve Board and from Federal Reserve Bulletins, Vol. 18, pp. 186, 352, 358, 400.
- 9The cash balance carried in the United States Treasury was occasionally drawn upon to meet seasonal or crisis demands, either through the depositing of funds in banks or through the purchase of bonds by the Treasury, but the device was very crude and there was no continuity of policy in its management.
- 10a Facts and Figures Relating to the American Money Market, p. 61; Federal Reserve Bulletin, 1932, Vol. 18, p. 105.
- 11b For 1921, 1919 not available.
- 12c For 1920, 1919 not available.
- 13c For 1920, 1919 not available.
- 14d For 1914, 1913 not available.
- 15c For 1920, 1919 not available.
- 16e For 1928, last year available.
