CHAPTER XIV.

THE STATE BANKING SYSTEMS.

The Condition of the Country When They were Adopted-Success of the Suffolk System and of Banking on General Assets-The New York Safety Fund and Security Systems-Unhappy Experience in the West and South with Banks of State-The Effects of the Civil War-Failure of the Security System-General Statistics of the State Banks.

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'HE systems of banking authorized under the laws of the various States of the United States offer examples of nearly every form of note issues and every degree of success or failure. The economic development of the country between the Revolution and the Civil War was in an experimental stage as well as its political development. The rules of sound banking had not yet been worked out even in the older countries of Europe, as the mistakes and failures of English, French, and Austrian banking abundantly show; but to ordinary sources of error and risk were added in the United States the elements of experiment and uncertainty in every department of human activity. The Englishman or Frenchman might not be a good banker, but he could at least form an intelligent estimate of the volume of trade with which he had to reckon and the conditions under which it was carried on. His problem was simply to work out, according to sound rules, a mathematical problem for which the necessary elements were known. With the American, on the other hand, every element was an unknown quantity. He had to guess at the first element in his equation, and if he guessed wrongly absolute accuracy in

his further computations could not possibly yield a true result.

A new country, poor in specie and in loanable capital, is almost forced by the necessities of her situation to adopt monetary devices which would not be tolerated under better conditions. Some of these devices would be comparatively harmless if their true character were understood and they were used with moderation; but their tendency is misleading and intoxicating to the average mind and they are usually so abused as to offset the little benefit which might be derived from them. The most successful banking systems under State law in the United States were those of New York and New England, where the surplus capital of the country in the earlier days was concentrated. The least successful systems were in the newer and poorer sections of the country and they grew progressively worse as inexperience and poverty seemed to make more imperative the necessity for creating something out of nothing. Four distinctly marked systems of note issue were in operation in the United States side by side almost up to the close of the Civil War and it is not surprising that the conglomerate currency which they created has left unsavory memories behind it. These four systems were :\Issues upon general assets issues protected by a general safety fund; issues based upon public securities and issues based upon the faith and credit of the States.'

1 The principal sources for the preparation of this chapter have been the monographs prepared by Mr. L. Carroll Root for the "Sound Currency Committee" of the New York Reform Club; the report of John J. Knox, the United States Comptroller of the Currency, for 1876; the report prepared by Mr. Henry H. Smith, Assistant Register of the Treasury, in response to Senate resolutions of July 26, 1892, printed as Sen. Ex. Doc. 38, 52d Cong., 2d Sess.; and the report of Comptroller A. B. Hepburn for 1892. The investigations of these gentlemen have brought together and co-ordinated a mass of material which would otherwise have to be sought with great labor from a variety of sources. Mr. Root has further favored me with an examination of this chapter and the suggestion of some changes, which I have adopted.

The best illustration of the system of banking upon general assets is afforded by the banks of New England, and especially by the banks of Boston, which became the centre of the New England redemption system. The note issues of the New England banks were permitted in many cases to exceed the proportion to capital which is now considered safe, and they were not subject until late in their history to thorough official supervision; but in spite of these defects of the system, the notes usually circulated at par and specie was attracted to New England when driven from other sections of the country by depreciated paper. The first local bank in New England, and the second of the kind in the United States, was incorporated by act of the General Court of Massachusetts on February 7, 1784, with a maximum capital of $300,000, and was called the Massachusetts Bank. No limitations were imposed in the original Massachusetts law upon note issues, but an act of 1792 prohibited notes below $5, and the bank was directed to limit the amount of notes, together with "money loaned by them by a credit on their books or otherwise," to twice the amount of their capital stock in gold and silver, actually deposited in the banks and held to answer the demands against the same." A general law was passed in 1799, prohibiting banking by unincorporated companies or the further issue, except by the Nantucket Bank, of notes below $5. This provision was modified in 1805 so as to permit the issue of bills of $1, $2, and $3 to the amount of five per cent. of paid-up capital. This limit was increased in 1809 to fifteen per cent., reduced in 1812 to ten per cent., and again increased in 1818 to twenty-five per cent., which remained the limit during the life of the State banking system.'

An act was passed in 1803, requiring semi-annual reports of condition by the Massachusetts banks to the State officials, and it appeared that at that time seven banks were in operation with a capital of $2,225,000 and a circulation of $1,565,000. An attempt was made in 1811 to found a State

1Root, New England Bank Currency, "Sound Currency," Vol. II., No. 13, P. 4.

bank occupying a similar relation to the Commonwealth that the United States Bank had occupied towards the national government, but the State capital was never subscribed and the authorized capital was reduced in 1817 from $3,000,000 to $1,800,000.1 The charter of this bank and of the Merchants' Bank, also incorporated in 1811, served as the model from which most subsequent charters in Massachusetts were drawn. One-fifth of the capital was required to be actually paid in before the beginning of business; the stockholders were individually liable to the amount of their stock in case of loss arising from mismanagement, and the liabilities, exclusive of deposits, were limited to twice the amount of the capital. The limit upon circulation, which was thus incidentally imposed, was reduced in the case of most of the later banks to 150 per cent.

The Massachusetts and other New England banks maintained specie payments in 1814, when those of other parts of the country suspended, and the current of specie towards New England swelled the holdings of the Massachusetts banks alone, from $1,513,000 in 1811 to $6,946,542 in 1814. The total banking capital authorized had increased in 1828 to $9,075,000 and thirty-six new banks were incorporated in the four years ending with that date. A new banking law was passed on February 28, 1829, which applied to banks thereafter incorporated and to those obtaining an increase of capital or an extension of their charters. The limit of the notes which a bank might circulate was reduced to 125 per cent. of the capital and the total of the debts, exclusive of deposits, was limited to twice the capital. A provision was made against the practice of issuing notes promising pay

1 The State subscribed $400,000 to the capital of the Union Bank of Boston, which was incorporated in 1792, and was generally a subscriber at the formation of new banks for the next twenty years. About $1,000,000 of bank stock in this way came into the hands of the State and afforded a generous dividend until it was sold in 1812 to meet some unusual expenses. The State does not seem to have abused its share in the ownership by interference with the management of the banks.-Martin's Boston Stock Market, cited in Comptroller's Report for 1876.

ment with interest at a future date, by which the banks had endeavored to escape the obligation to pay cash on demand to depositors and note-holders. An effort was made to evade this provision by issuing deposit books, making the same promise. They were first issued mainly to depositors, but they came to be extensively issued during the pressure of 1834 in discounting paper. The General Court passed a law in that year prohibiting the practice.

The organization of banks in Massachusetts proceeded with alarming rapidity during this period of speculation, and at the end of 1836, seventy-eight new banks had been added to the sixty-two older banks, and forty-three of the latter had obtained an increase of capital. Several banks succumbed towards the close of the year, but the Boston banks were mainly sound and followed the New York banks reluctantly on May 12, 1837, in the suspension of specie payments. An act of 1809 imposed a penalty of two per cent. a month on banks which failed to redeem their notes in specie. This provision was not enforced in 1837, and the General Court suspended it until January 1, 1839, in the case of banks which kept their circulation within seventy-five per cent. of their capital, redeemed notes below $5 in Boston, and below $3 elsewhere, and complied with some other conditions. Voluntary resumption took place throughout the State on August 13, 1838. Failures still continued among the mushroom institutions which had been created during the period of speculation, and thirty-two Massachusetts banks wound up their affairs between 1837 and 1844. The necessity of more efficient supervision by the State was made plain by the crisis of 1837, and three bank commissioners were authorized to make annual examinations of all the banks and special examinations when they thought proper. This law was repealed after five years, but the Massachusetts banks were now upon a sound basis and failures were few during the twenty-five years before the creation of the national system. Only two failures occurred between 1840 and 1855, and the notes in both cases were paid in full.

Most of the bank charters were renewed for twenty years