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1270 681. RELEASED FOR THE EVENING PAPERS OF FRIDAY, JUNE $. Address of Hon. Paul Mi WaTburg before the Convention of the New Yof*k State Bankers! Assn., Atlantic City, IT* j., June 9, 1916. The federal,reserve system and the banksA-^ucc^ssful solution of Federal Reserve problems is dependent equally upon a thorough, under-: standing of the many features of detail involved in the technique of banking end upon a strong gra:Jp of the big and fundamental objects for the accomplishment of which the system was created. It is, therefore, a pleasure to address an audience that is certain tc have a keen and sympathetic interest in both of these phases of the problbmi I an. particularly anxious, however, to speak to you.about ths broader and more fundamental questions involved, for there is an indefinite feeling of appre hension in my mind that at thi3 time we may be losing the big point of view of financial statesmanship, and that petty and technical questions may be claiming per haps, too much of our consideration. ±271 681 -2- Miile in South .America, I had ah oppor tunity to get a bird1 3 dye-view of the operation of the Federal Reserve System* \ With the keenesi i .enjoyment and pride I daw our system hitting its mark many thousands of miles away, and became deep ly impressed that we are*now firmly establishing ourselves as a great financial power in the world1s .market* Upon my return^ I felt a very chilling change of atmosphere, vdicn I eb t .American bankers appearing to hold the view that the future of our great monetary and banking system depends upon the question -whether or not * a country bank might charge exchange of one-tenth of one per cent when remitting for checks drawn on itself l . The banking system of a world power can net possibly be c 021straced upon so small a founda tion.’ I still remember that, when I had my first training in banking in Hamburg, thirty years ago 1372 my dear old father*j mind strongly rebelled agdihst what he considered then the new-fashioned idea of oemg repaired *• not by the government, indeed* out by the general law of competition -» to discon tinue the practice of charging a small commission when remitting for checks or maturing bills drawn on his banking firm* But he socn perceived that the eotablisbment of a general transfer and clear ing oy*tem, postal orders and postal checks^had made for new condition and that the development of a discount system based upon modern pnncipleo of banking, \hile breaking down certain petxy revenues, was bringing about a tremendous increase m the volume of buoiness. As a result, he soon waived his objection*) and lent his hand in turning his country from provincialism into an international banking power. ago. That, as I oaid, was thirty years 1273 1 have Ac doubt that this country has de cided that it is entitled tc ac modern a banking system as the rest of xhe wofla, and that whatever old-fashioned privilege still blocks the fcath will have to fall by the wayside- Tty0 sacrifice will have to be borne for the general good and will find its compensation in the freer economic de velopment of the country. One of the most tangible results of the operation of the Federal Reserve System is tns establishment and growth of the American bank ers* acceptance business. In addressing a group of bankers, it is unnecessary to dwell at length upon the fundamental importance of this development for the general safety of our banking system. We have now a substantial market for bankers* acceptances to which all member banks will look for the.investment of same of their idle means and in which, at any \ • time* they itiay reconvert these holdings into liquid funds* The more important this market grows, the stronger will be the position of the Federal Reserve Banks, for the greater or lesser volume of purchases of such acceptances will offer one of the Federal Reserve Banks' most effective means of exercising a wholesome influence upon the fluctuation of interest rates. A3 normal conditions are reestablished in the world, this acceptance market will become an important fac tor in protecting our exchange position with foreign countries and, incidentally, our gold holdings. It has taken some'time to develop this market, but I am confident that, from now cn,its growth will be rapid. One of the ob stacles that made-the start difficult was found in the fact that many acceptances, uhich are made for the purpose of financing importations . T 6 - and exportations, have to he drawn and sold in foreign countries. . In order to make them nego tiable in those countries as a popular and current means of exchange, it wa3 first necessary to find hanks there,which would he willing to purchase them ’freely whenever offered. It i3 unnecessary to say that European hanks operating in these- foreign fields were not over-anxious to see American hankers enter a business which they themselves monopolized up to the beginning of this war. It is only since our own hanks went out into foreign lands and established their own branches that the necessary foreign market for American acceptances has been de veloped. The establishment of foreign branches of American tanks has been a most important step in advance, and without it bur acceptance system could not have progressed as far as it has to day. The advent of these American branches 631 -7- forc'ed the other banks to modify their resist ance and to compete for our bills wnich, up to that time, they had tried tc disregard. It is to be hoped that other American banks vail soon follow in establishing themselves in foreign countries. As you knew, the Federal Reserve Board has recommended an amendment to the Act to enable national banks, singly or jointly, to hold stock in banka organized "princi pally to do business in foreign countries. " Ohe U 11 has already passed the House, and . another has been reported favorably by the Sen ate committee on banking and currency. The Board hopes that a satisfactory bill will be agreed upon by both houses in the very near future. It is a strange fact,however, that many of our business men, who enjoy the reputation of being keen and progressive, are actually wasting their funds by still using foreign ac- ceptance credits instead of- American. At Rio, I found tc my surprise that the majority of American coffee importers were still using let ters of credit in sterling for which they were paying a discount rats of about. as against the American discount rate of 2f>. Moreover, in doing so, they were often paying two commissions, one tc the foreign hanker- who issuesjand one to the American hanker who opens the credit, in stead of paying a single'commission to the Amer ican hanker. It is true that the wool and hide busi ness, done by New England with the Argentine, is today .financed by dollar acceptances drawn on Bos. ton and New York, and that the oriental trade has begun to use dollar bills, but it is surprising that so large a number of New York importers are still clinging to their old pound sterling acceptance arrangements. 1278 631. - 9 Let me venture to urge most earnestly that our bankers canvass xheir lists of importing and ex porting firms and point out to them tne folly of not using American banking facilities. Since my re turn I have tried to see personally some of these large importing firms and explain to them tho anomaly of their action. I believe,, however, than an asso ciation like yours is particularly wall adapted for carrying on a campaign of education of this kind, With our increasing financial strength and with the daily diminution of Europe's saving power, it stands to reason that, for a long time to come, our discount rates will compare favorably with those of Europe. We may expect, therefore, that this acceptance business will not only hold its own, but will grow and may be used to a substantial extent even by European importers and exporters, and thus relieve Europe of some of her financial burdens. * 631 10 - While our foreign competitors, with few noteworthy exceptions, are still trying to keep cur dollar acceptances in obscurity, our machinery is now firmly organized• There are now local banks almost everywhere abroad willing to buy American drafts going forward for acceptance and to deal in dollar exchange on practically the same narrow margin which prevails in dealings in sterling, marksJor francs, and the Federal Reserve Banks are willing, whenever desired, to do their share by quoting favorable "forward discount rates" to assure the rate of discount pending the time of transit. This new feature of American banking, which is to be one of the roots of our strength and, at the same time, a new source of profitable and sound banking, ought to be developed energetically by both our bankers and cur business men. 79 681 In this connection, it may not he amiss to give you a short account of the conference of the International High Commission at Buenos Aires. In our deliterations, the question of "bank ing was given particular attention, and I am happy to report that the general tendency at the con ference was to do everything possible to foster trade relations between the United States and her neighbors to the South, and mutually to open the doors ’.vide to one another's banks. Resolu- ions w0 2T8 psijsed making for the adoption by Central and South America of uniform laws concern ing bills- of exchange, bills of lading, warehouse receipts, and similar matters. A further recom mendation was adopted by the conference urging the respective governments to enact legislation giving the widest possible protection to the sellers of goods. You. are all lard Hat* with the agreements for the arbitration of business disputes made be tween the United States Chamber of Commerce and the Chamber of Commerce of Buenos Aires* We may expect that other countries will follow in the very near future, and the creation of these agree ments will be an important factor in obviating the annoyance and delay of protracted litigation in foreign countries and in providing for both sides a safe and satisfactory basis for commerce and trade» It would lead too far to enumerate all the topics discussed by the conference. I should not omit, however, to mention that a resolution was passed recommending that all the republics of North,Central;and South America adopt a uni form standard of money of account on the basis of a gold coin 9/l0 fine and weighing 0*33^37 gramme. Thi3 unit, which might be called the Pan American Franc, though nearly the value of the European franc, is not iid &xa&4 equal, Tout is precisely one-fifth of the United States gold dollar. Delegates to the conference had suggest ed making the gold dollar of the United States the unit for all American countries, but against this it was pointed out that the dollar would be too large a denomination for many of the Southern republics, where small coins circulate and vhere, it was feared, the larger unit of money of-account would bring about an increased cost of living. Moreover, the United States gold dollar could not be divided into subsidiary coins small enough to comply with the known de mands of many of these countries. It was thought, therefore, that a unit of the approx imate size of the franc would be better adapted to the needs of these countries, but, by adopt ing as the standard unit the exact one-fifth of \2HP, the United States dollar,, the foundation will have been laid for a Pan American union of coins which, sooner or later, may become of great importance- If this plan should be car ried into actual effect, the Pan American 20 Franc piece could ultimately circulate with us as a $4 gold piece and our $5 gold piece could circulate as a 25 Franc piece in South or Cen tral American countries. A unity of standards of this kind will, of course, have great advan tages in facilitating trade between nations. Amongst republics having actually introduced a gold currency on this basis it might ultimately lead to an ■understanding for the establishment of international gold trust or clearing funds, having for their object the elimination of the costs and risks caused by our present wasteful method of shipping and remelting gold coins. plan on these broad lines, submitted by the 1 A Americen delegates, was recommended by the con ference for closer study to all governments con cerned. The immediate practical importance of this step may not be great. As indicative of the trend of future relations between North and South American republics, however, it can not be over estimated. It shows, as one of the effects of the war and of our financial emancipation, that the North and South have recognized their common economic and political interests; that they have begun to consider this large hemisphere as one economic unit, and that they are now looking to each other for mutual help and cooperation in the future development of their respective prob lems. A Pan American monetary union, therefore, now appears a more natural basis for the future monetary systems of American republics than a >3 Latin union based upon an agreement with France, Italy, Swtizerland and Belgium. Our friends in South American consider the creation of our Federal. Reserve System as one of our greatest achievements, and their willing ness to rely upon our ability to provide - to a certain extent at least - such financial aid as Europe gave them in the past is predicated upon the confidence that our new system inspires . Some of these republics are carefully studying .this system .with a view to establishing, at the proper.time a similar -banking machinery. In view of the fact that several of these coun tries are federations like the United States and cover tremendous areas of territory, it is evident that certain features of our system would be particularly well adapted to their needs. 85 681 -1 7 - Tfthile observing financial and commercial conditions in these countries, it was deeply im pressed upon my mind how much the United States* by legislative action, had in the past, handi capped the development of .our business in foreign lands. It would lead too far to mention to what extent our own legislation in the past has driven our merchant marine from the ocean and how far it has handicapped our industries by not permitting reasonable trade combinations enabling us to com pete in foreign markets. But it is well within the bounds of this address to mention that the British, French and German banks for generations have been entirely free to go into foreign coun tries to open branches or acquire foreign banks and to do everything and anything to further their banking and trade. On the other hand, our na- si 681. - n a tional banks, until the passage of the Federal Reserve Act, were forbidden by lew to enter these fields or to accept drafts for importations or exportations or to exercise many other functions necessary to develop foreign tanking and foreign commerce. It is a relief to feel that at least the time has come when a clear recognition of our country's banking needs is asserting itself and when most of these old shackles have been removed. Whatever obstacle remains we may con fidently hope to see gradually eliminated. Some amendments along these lines are at present under consideration by Congress, and have already been favorably reported. The Board has recommended that Congress permit member banks to give their acceptances not only for the financing of transactions involving importations and exportations, but also, <ru to a limited, degree and under the supervision of the Federal Reserve Board, for bankers’ clean three months’ drafts, such as are required in foreign countries for remittances abroad. As most of you know, in South America, such remit tances to foreign lands are generally not made by checks but by three months’ drafts, and it is necessary that national banks be permitted to accept for this kind of foreign exchange trans actions:, if the dollar bill is to be used as freely in foreign lands as is the sterling, the franc, and the mark exchange. Turning to amendments touching domestic operations, we have recommended that national banks be permitted to accept drafts or bills growing out of transactions involving the do mestic shipment of goods, provided shipping doc uments are attached at the time of acceptance, ■f!OfiQ and drafts and bills 'which arc secured by ware house or similar receipts covering readily mar ketable staples,or by the pledge of goods actual ly sold. We feel confident that, by enlarging the powers of national banks to accept in this manner we shall open for our member banks a new and profitable field of operation, and incident ally the free development of this kind of bank ers’ domestic acceptance will be an important, factor in equalizing interest rates in the var ious parts of the country and will be of great benefit in this respect alike to producer and consumer. We have also proposed an amendment authorizing any national bank, located in a city of more than 100,000 inhabitants and possessing a capital and surplus of $1,000,000 or mere, to establish branches within the corporate limits of its city, and authorizing any national bank -ff o ? - ;-,„rsse> j 681 - 21- located in any other place, with the approval of the Federal Reserve Board, to ectablish branches within the limits of its county cr within a radius of 25 miles of its hanking house, irrespective of county lines. In recommending the county line for branches, the Board was moved by the thought that it might be found convenient for several small hanks doing busi ness in the same county to combine into one larger hank, thereby reducing the overhead char ges and making the deposits of one part of the county available for the demands in another. It is the hope of the Board that in some districts, through such cooperation, it will he possible to reduce the exorbitant interest rates which, in some instances, have been charged by small country banks. The Senate committee ha3 stipula- • ted that, for the beginning at least, the num ber of branches of a national bank shall be re- 90 ..f, r % 681 - 23- stricted to ten. We have further recommended to Congress that any national "bank, not situated in a central reserve city, be permitted, within the same limits now existing for loans on farm lands, to make advances maturing in not ever one year on improved real estate located anywhere within a radius of one hundred miles of its place of business. Wnile the Board doe:; not favor the idea of having na tional banks make heavy investments in mortgages, it was felt that they should not be precluded from taking, within certain reasonable limits, first mortgages as collateral security for their loans. These are the additional powers that we have recommended to be given to national banks. As to the Federal Reserve Banks, we have suggested that Congress permit them to make advances to their member banks on the latters1 own 91 ,<v 681. - 23 notes secured by eligible paper, such loans to be for periods not exceeding fifteen days. This has been done with a view to enabling Federal Re serve Banks to accommodate members who, in the check clearing or otherwise, might bo short in their balances and wish to have short advances at moderate rates. We.believe that this power, if granted to Federal Reserve Banks, will greatly increase their ability to take care, in a simple and effective manner, of the requirements of their members, and particularly of country banks. Vie have further recommended that Congress permit Federal Reserve Banks to issue Federal Reserve notes, not only against commercial paper, but also against the deposit of gold. This amendment, if granted, -would greatly strengthen the lending power and the note issuing power of Federal Reserve Banks. It is the seme method 93 that has always been followed in Europe by the Barque do France, the Reichsbank, the Bank of the Netherlands, the Bank of Italy and many other government banks. These institutions are enabled, through their note issue, to assemble a large part of the gold of the country in a central reservoir. With us, up to the present time, this accumulation of gold has taken place to only a moderate extent and hao not benefittea the Federal Reserve Banks to the fullest possible degree. If the amendment were to be passed, the gold, instead of being segregated with the Federal Reserve Agent, would remain an asset of the Federal Reserve Bank, and, on the other hand, the notes issued against it, instead of being, as at present, technically redeemed, would remain the liability of the Federal Reserve Bank. In case the amendment should pass, it is hoped that the Federal Reserve Banks may count upon the cooperation of their members in order to facili tate this substitution of Federal Reserve notes for gold certificates at' v-h-cent carried in the pockets of the people in the old-fashioned and uneconomic manner. As in modern European count ries, the gold should-accumulate in the FederaltReserve Banks and the people should use instead the Federal Reserve notes. The amendment would be an important step in the ultimate simplification and consolidation of our circulation. These are the principal amendments recom mended by the Board at this time. You will notice, gentlemen, that they move in two directions. The one is an increase of the Reserve Bank’s general strength and lending power and an enlargement of their scope of usefulness in dealing 1295 681 - 26 - with their members; the other i3 the re'mov'p.i of limitations heretofore placed upon the opera ticno of national hanks. The Board feels keenly that, as a matter of equity, national bank* should he placed on a parity with State hanks and trust companies, vdierev^r this can he done consistently with safety and conservative hanking principles. But I wish to make it clear that the Board has recommended, and will recom mend, only -such measures as will eliminate oldfashioned or ur.wi3e restrictions such as should he removed under any circumstances, irrespect ive cf Aether or not the State banks exercise greater or lesser pc./ers. The Board would never recommend granting national hanks any powers .or privileges Tifcich are contrary to good hanking principles. It is to the interest of both State institutions and national hanks that hanking 1296 631 -27- standards should he raised wherever practicable and not that they should he lowered. Between the national and State hanking systems, there must not he any competition to secure more members hy a lowering of banking standards. The vdiole country would suffer if this took place. It would he the height cf folly if States were to lower their requirements for no other reason than to underbid the requirements of national hanks. To a certain degree this has been donewhere State goverments lowered the reserve re quirements for their hanking institutions because the Federal Reserve Act lowered the reserve re quirements for national hanks. The lowering of the reserve requirements for national hanks was prodicat6d,however, upon their joining the Federal Reserve System subscribing to the stock and put ting some part of their reserves into the joint jLi'*i/ ^ 681 - 28- insurance fund,and being bound ultimately to abandon the method of pyramiding reserves and ■ to keep them instead either entirely in metal lic form or with the Federal Reserve Banks. The reserves of State institutions, on the other hand, were lowered without their being t required to join the system, make any such con tribution, or discontinue pyramiding reserves. Moreover, lower reserve requirements are jus tified for member banks because they may have direct recourse to the rediscount facilities of the reserve system, but non-memb6r banks have no such direct access. I wish* I could adequately impress upon the minds of all our bankers that there i3- no such thing as doing anything for the Federal Reserve System. Whatever the member banks do, and .what ever the State banks do> they do for themselves 1298 681 -29- and for the country. The Federal Reserve System, a3 such, i3 nox a 3elf-seeking and profit-making organization. It "belongs to the entire country. It is there for the benefit of everybody for the greater security of the banks, and, through the banko, for the security of the'people. If you strengthen the Federal Reserve System, you strengthen yourselves. If you raise the sxancUard of banking, it is for your own benefit not for xhs benefit of the Federal Reserve Banks, or least> of all, for that of the Federal Reserve Board. These things appear trite,but still I cam not help expressing them because it i3 so absolute ly essential that the thought be overcome that there can be such a thing a3 a conflict of interests between the Federal Reserve System and the banks. The Federal Reserve System and all it means is felt as an opposing factor where it comes into conflict with had hanking practices. It is true that the law has f or one of its ob jects the removal of certain,habits which have crept into the old hanking system, hut it is equally true that, by removing them, financial catastrophes such as used to befall our country with uncanny regularity, are to be avoided in the future. Let us consider, as the strongest case in point, the pyramiding of reserves. I wash it had been possible to stamp out this e-avil within a short time alter the opening of the Federal Re serve System. Is it is, many of the smaller banks are still in the condition of a patient who knows that he must undergo an operation in order to be fully cured, but whose mind every now and then rebels at the thought, and who con tinually relapses into arguing with himself that after all, he might possibly prefer to continue (!> to live with his disease and take his chances of the certain recurrence of acute convulsions and intense suffering rather than to have the operation performed. The country,, however, has decided that the operation is necessary for our future safety and growth, and the vast majority of our hankers are in full accord that it is the wisest thing to do. The pyramiding of reserves will thus end on November 16, 1917. But, as I said, I wish the operation had already been performed. At present our national banks apparently have excess reserves approaching one billion dol lars. Of these, a substantial proportion repre sents items in transit between the depositing and the depository banks; the balance, ex cepting about $100,000,000 excess cash in vault held by all national banks outside of New York, is kept entirely in central reserve cities, the hulk being in the City of New York* There it is on deposit - drawing interest at the rate of 2$ and loaned out on stock exchange and other col lateral, or invested in commercial paper, except as to the required reserve of 18$ and the small total excess reserve of about fifty million dol lars. This is a reduction of excess cash re serves in New York of over $100,000,000 since January 22d. If Farmer Jones deposits $1,003 in a bank of Elk River, Minnesota, and this bank should in turn deposit this amount in a bank at Minneapolis and the Minneapolis bank in turn deposit it in New York at 2$ interest, and New York invest this money in a piece of commercial paper at 3$ in terest, it is a .most extraordinary and unique method to permit Elk River and Minneapolis to If count these deposits as reserves, while if the hank of Elk River had itself bought the piece of p&#er it would havi carried it as a loan and all the rest of the structure of reserve hank depos its and reserves would have been wiped out* In other words, in the final analysis, if we consider the system as a unit, there is not an excess reserve of one billion but only about in cash; $150,000 ,000 './ the balance is invested to-day in the "float", representing uncollected items in transit, commercial paper, stock exchange loans and securities. If we study the changes in the condition of the New York Clearing House nation al banks which have occurred between October Jlj 191^4, and May 1, 1916, we find the following in creases estimated at: *> JmO 03 681 - 34 Oct. 31/14 May 11/16 . Collateral loans.... 5^7 mill- to 95^ - plus U07 Investments in securities.......... 10 o 11 " 230 - . " I7 U Unsecured loans which include com mercial paper..... Uo6 11 n 667 - 261 ,T A total increase of ................ During that period, deposits increased from........... 1200 n « 210 0 - $8^2 " 900 In addition, collateral loans and holdings of securities of New York non-member trust com panies increased by about half a billion since the end of 1 9 1 U. These are phenomenal increases and we might well ask ourselves whether or not we may take it as a certainty that so extraordinary a growth will prove to have come to stay or whether a return of more nearly normal conditions will not bring about a contraction. We should well con sider this question, because'an increase of 90 $ f> in securities and collateral loans; - that is, an increase of over $1,000,000,000 in New York City Clearing House institutions - might well suggest a policy of liquidation rather than one of fur ther expansion. Our national tank cash reserves in central reserve cities (including balances with Federal Reserve Banks, figured at 100$) were as of March 7, 22*83$; in reserve cities, 11.53$, 'and in country banks 9.80$ *. Notwith standing that the aggregate cash held by all national banks increased from May, 1915, to March, 1916, by over $100,000,000; in central reserve cities we are today materially below the * If we figured these balances at 70$, being the present cash reserve condition, and the act ual' metallic reserve, and added to cash in vault the metallic cover maintained against reserve agents’ balances, the present cash cover would show as follows: central reserve, 20.51$; re serve cities 13.66$ and country banks 11.83$. 04 old cash reserve requirements, and if a situa tion like the present had existed during any ante-Federal Reserve System period, we should have considered it a cause for alarm. Thanks to the creation of our new banking system, we are now dealing with completely changed condi tions, and the spectre of the end of the lend ing power of the banks would not mean a panic as in the past because of the reserve lending power of the Federal Reserve Banks and the confidence created by their existence. But, gentlemen, that must not lead us into the illusion that this billion of so-called excess reserves may be considered as a basis for a loan expansion of four billion dollars or more, as appears to be the general belief. Theoretically there is the foundation for so large an expansion as long as we adhere to the old custom of counting 681. 37 - bank balances with reserve agdhts and uncollected iteira in transit as reserve, yet, in the last analysis, it is the metallic cover - not the redeposited and actually invested reserves - which must be considered in dealing with this question of expansion of loans. The excess of our metallic reserve, plus the free gold of the Federal Reserve banks, constitute the basis of the reserve lending power of our country. We are at present in a condition of extra ordinary strength. We have bought back our own securities and made foreign loans to an aggregate amount far in excess of $2,000,000,'000. Our financial position for the future has thus been greatly fortified. But the process of absorption of our securities returning from abroad should be conducted on such turn the individual basis and scope as to depositor into an invest- 681 -38- or so as to free our gold reserves rather than increase our loans on an enla,rged floating sup ply of securities. We must not forget for a moment that not even the most experienced can foretell what de mands may be made upon us in the future. At the end of the war our opportunities will be gigantic, but ultimately they will be limited by the extent 'to which we are able to control our gold. There cannot be an]/- doubt that the demand for gold at that time will be very keen and determined. Wise statesmanship, to my mind, therefore, would indicate that every thing should be done by the Federal Reserve System and by ail the banks that are interest ed in our strength to watch carefully further expansion at this time and to accumulate the floating gold supply in the hands of the Fed- eral reserve banks so as to enable 'them* when the time domes, if necessary, to spare large amounts without thereby crippling their lending power. We are in a period of wide-spread pros perity at this time and it must be our serious concern not to weaken its solid foundation* The ease of this summer might well be used to strengthen and prepare ourselves for the large problems that may be in store for us. It is impossible to try to prognosticate with any degree of certainty what will t>e the trend-of interest rates at the end of the war, but assuming that interest rates for invest ments in Europe will ebe high, and that the de mand for gold on the part of Europe will be keen, we would have to expect as a consequence that eventually our rates will have to move up so as to approach theirs mors closely, and be fore we reach that point probably a substantial amount of our gold will have to leave the country and return to foreign lands. To preserve the advantage of our strength and to maintain our money rates on an independent basis of cur own in spite of the close inter— relation that must exist between us and Europe - will be one of our interesting but difficult tasks. The establishment of the Federal Reserve System has been a step of inestimable value in the direction of efficient control of our country’s gold holdings; and, if we do not disregard all rules of business conservatism and prudence, it will prove an efficient means of protection in case of emergencies. If we want more than a strong instru ment of defense and protection, if we desire - as we are entitled to - that the Federal Reserve System be the foundation of a banking structure 581. 41 - contributing its full share in rebuilding the World and at the same tune assisting our own country to meet all the new demands, -whether domestic or foreign, that the future may make upon it, then we must do all we can to preserve its strength and to broaden its foundation by further perfecting methods of systematically accumulating and economically using our vast treasure of gold* loo large a proj>6rtion of this gold still remaihs wastefulljr fedaiteredl and decentralized. The gold stock of this country is es timated at $2,320,00C,000. Of this amount, only $335,000,000 is held in the vaults of the Federal Reserve Banks and about $180,000,000 is in the hands of the Federal Reserve Agents. The national banks and State institutions hold about $800,000,000, and there is estimated to be in actual 681. - .1+2 - circulation about $870,000,000. If we abduct from the $335,000,000 held by all federal Re serve Banks a minimum reserve of only 40%,' that would leave as their fi~ee gold about $200,000,000. This is an invaluable item of strength as a basis for a note issue of $500,000,000 in case additional currency should be demanded by our people; and the Board, by permitting the reduction of the 40% gold reserve, could, in case of emergency, sanction the issue of even larger amounts. When, however, it comes to ex portations of gold you can readily see that the $180,000,000 now accumulated with the Federal Reserve Agents would serve as a very welcome additional protection. For we have learned, gentlemen, that this is a period of economic history, ’ where balances between nations are not dealt with in millions, but in hundreds of millions 1313 681. - 43 - Think of the strength that our system might possess if we carried into effect the policies pursued by the Banque de France., the Reichsbank or other powerful central banks, and if, for a substantial part of the $870,000,000 of actual gold circulation, there were substituted our Federal Reserve notes, and if national and State banks kept in their vaults only what they needed for till money and deposited with the Federal Reserve Banks the rest of their idle gold. We talk of preparedness as the need of the hour. If we contemplate what European nationa have done, before and during the war, to streng then their grip on their gol^ and compare it with our own efforts, ws find that our financial preparedness is just in its first stages. The amendment recommended by the Board should prove an important step in advance in this direction 1313 681 a - 43-x - In view of the statement made by some, of Our critics that this substitution of Federal Re serve notes for gold certificates means inflation, it might be timely to point out that, by a simple substitution of one note for the other, there is, of course, no increase in the volume of circula tion whatsoever. It is merely a change in the form of circulation. As a matter of fact, we find that the operation of all Federal Reserve Banks for a period of one and a half years has caused a net increase in the circulating medium of the country, serve notes and by the issue of Federal Re Federal Reserve Bank notes, of less than $10,000,000* On the other hand, the national bank circulation has decreased during the period Hovember 2, 1914, to June 1, 1916, by $53,000,000, exclusive of the redemp tion of the approximately $385,000,000 of emergency currency issued under the so-called 1314 Aldrich-Vreeland Act, While it is evident., therefore, tha/t the Federal Reserve System has not increased the volume of circulation, the process of substituting, as a moans of circulation, the Federal Reserve note for the gold certificate has the most important effect of strengthening the potential lending and note issuing power of Federal Reserve Banks in case of need. To refuse this larger power of pro tection for fear that it might be misused would be rantamoum to refusing to give a modern revolver to a policeman for fear that he might shoot at the wrong man and at the wrong time. 1315 681 < - 44 - But, let me ask you, gentlemen, is this the proper time for country bankers to urge us to recommend to Congress the further reduction of their reserve requirements or to recommend that they be granted permission to continue to hold a certain percentage of their reserves with their central or reserve city correspondents'? Some day, no doubt, it will be proper to reduce reserve requirements, but that can only be brought about by a systematic strengthening of the central reservoirs. The stronger the Federal Reserve. Banks, the easier the access to their resoui'ces by sale of liquid paper, the less will become the necessity fcr member banks to maintain in their own vaults, as a legal requirement, large segregated gold hold ings . 1316 681. - 45 - Steps in this direction are: first,'the substitution of Federal Reserve notes for the gold circulation in the pockets of the people; second, the maintenance with Federal Reserve Banks of larger member banks? balances, created by depositing part of the “optional” now kept in vault by member banks, and, finally, the increase of the number of depositors to be secured through the entrance of the State institutions into our system. I want to compliment our large member trust companies and State banks upon the broad point of view which guided them when entering the system; but I might at the same time ask their powerful sister institutions how, under present conditions, they can justify themselves in staying out of the system and in throwing the entire responsibility and burden upon the shoulders of the national banks 1317 681. _ 46 - and those few trust companies and State tanks that have hecome members? They do not contribute their fair share of gold to the general reserve fund of the nation, nor do they provide their share of the capital cf the Federal Reserve Banks. Indeed, not only do they fail to contribute their share of strength to the system, but unconsciously per haps, they become forces that make for the direct weakening of its strength and efficiency. Do the large trust companies and State banks claim that pyramiding of reserves is sound? Would they prefer to see our ancient system per petuated and the reforms contemplated by the Fed eral Reserve Act abandoned so as to make room again for the good old conditions of 1893 and 1907? Unless they are willing to subscribe to that doc- 1318 trine, how can these large hanking institutions, some located in Central Reserve cities, justify themselves in considering as reserve, after the manner of the country banks, their interest bear ing deposits with other banks? If a call loan on the stock exchangemade by a trust company is not a reserve but a loan, is it sound banking to call a reserve deposit made by a trust company in a national bank a re serve, when 82$ of it is loan on call on the stock exchange? Still, it is just through these deposits that, in emergencies, the trust companies will lean on the national banks and the national banks, in turn, will fall back on the Federal Reserve System* The net result is that the trust companies, in building up their business structure, must rely today on the greater assurance provided by the Federal ±319 Reserve System, though permitting the member banks to carry the entire burden of its support. Our small country banks will have to stop pyr amiding of reserves; do the large trust companies and State banks plan to continue this practice? What is it that powerful and prominent institutions,(some of which, in their foreign and acceptance business, derive the greatest pos sible advantage from the discount market and the general prestige of the Federal Reserve System,) may say in justification of such an attitude? At first they feared that, by entering the system they might lose some of their present powers and privileges. But the Board has made regulations permitting them to continue to ex ercise practically all legitimate banking func tions enjoyed by them in the past. 681., - 49 - Some of the State institutions have raised the point that, by joining the Federal Reserve System, they would be called upon to make invest ments in the stock of the Federal Reserve Banks upon which, in the case of most of the Federal Reserve Banks, no return has as yet been paid. But, gentlemen, while for many reasons some of us would favor an amendment permitting a Federal Reserve Bank to pay back a portion of the capital paid in (leaving the liability upon the subscribed but unpaid capital otherwise un changed) provided the member would in turn agree to increase its required reserve balance by a certain proportion of its optional balance, this question in itself can not possibly be of sufficient im portance to keep any strong State institution out of the system. These dividends are 1321 681. - 50 - cumulative, and anybody having a moderate de gree of foresight can readily approciate that, sooner or later, the back dividends will all be paid. of Even at the present low rate of return 2 .4 /3, secured by Federal Reserve Banks from their investments, they would have to employ only an additional sum of less than $50,000,000 for the entire system to earn the full six per cent on the stock at present paid in. When the final instalment of reserves has been trans ferred and with the return of more nearly . normal rates of interest, there will not be the least difficulty for these banks to earn their dividends without investing a larger proportion of their resources than would be consistent with safety ana conservatism. State banks and trust companies furthermore 681. - 51 - claimed that if they entered they could not withdraw. But the Board in the exercise of its power to prescribe regulations as a con dition of membership,, has provided that they may withdraw under conditions previously made known,and the subscription to the stock of a Federal Reserve Bank made by a State institu tion is conditioned upon this express agree ment . They have objected to being examined both by their own banking department and by the examiner of the Comptroller of the Currency. The Board, in accordance with the provisions of the Federal Reserve Act, has provided, how ever, that, wherever there is an efficient State examination, as in New York, it shall be accepted in place of examination by the 681 - 52 Comptroller and, only failing that,, an examihation shall he made by examiners under the supervision of the Federal Reserve Board# Furthermore., in a circular letter sent to all State member banks in May of this ye£th, the Board and the Comptroller of the Currency announced that State member banks in making their stated re ports to the Comptroller of the Currency, might use the form of statement prescribed by their respective State banking departments, provided they are rend ered as of the same date as required by the Comp troller of the Currency for national banks* If reports are not rendered on those dates, State mem ber banks are required to use the same forms as na tional banks, but they may omit from their reports to the Comptroller all schedules except that relat ing to coin or coin certificates. They have feared that the Clayton Act would deprive them of valuable directors* But Congress has amended that Act so as to permit a director of a member bank to be* at the same a ' time,/.director of two other banks or trust com panies, provided they are not insubstantial competition “with the member bank. I know the arguments tha~ are being advanced that the rulings c l the Board may be changed and that, therefore, it may be possible, under a different personnel of the Board,to re verse the present arrangement and subject tho State banks tc the examinations.* reports, and rulings of the Comptroller of the Currency* But that is not likely to happen, and if it did, the State bank or trust company could exercise its privilege to withdraw from membership' in the system. Let us assume,however,that joining the 1325 581 ~2-A- Federal Reserve System does involve certain sacrifices,, some of which are necessary-and some of uhich may be thought unnecessary*. If you throw into one side of the scales all thar benefits accruing tc the bank3 and the nation by the creation of the Federal Reserve System J and into the other the sacrifices to be mads by its members, there can not be any doubt what soever that the advantages will outweigh the disadvantages a thousandfold* The Federal Reserve Act is one of the most constructive pieces of legislation that ever was put upon our statute books* Nobody could be foolish enough to expect that a lav/ which is so complicated in its nature, so far-reaching in its scope, and a ccmprimise in so many details between opposing views, could be absolutely perfect* It is a wonder that, frcm the beginning, it has proved as workable as. it 1326 681 ^■3-rA- has* Personally* I am on record as having posed several of its features of detail* But, when the President honored me "by inviting me to become a member of the Boards I accepted be cause I felt that the fundamental principles were sound and that the Act, as it stood, would redound to the greatest benefit of the country. I felt confident that if after sincere and un biased efforts in the operation pf the Reserve banks, defects should develop that needed cor rection, we could confidently count on a pa tient and sympathetic hearing before Congress* And let me remind you, gentlemen, that several of my colleagues and the able men vho accepted to serve at the head of your Federal Reserve Bank .of JTew York, all ,j cined in the same spirit; they did so for th6 purpose of serving their ap 1327 681. - 4-A - country oven though, they had to make material sacrifices in doing so. In one of his admirable speeches., entitled "Ideals and Doubts", Oliver Wendell Holmes, As sociate Justice of the Supreme Court of the United States, makes the following statement concerning the. topic of legal reform; "To know what you want and why you think that such a measure will help it is the first but by no means the last step towards intelligent legal reform. The other and more diffi cult one is to realise what you must give up to get it, and to consider whether you are ready to pay the price." These £,re golden words of wisdom which, at the present juncture of our economic history, every bank president in the United States ought to have constantly before his eyes. For generations we have lived shackled and constantly menaced by a defective and oldfashioned banking system; for years we have toiled to secure reform. We have at last brought it about and, whether or not it pleases everybody in every detail, it behooves us all to do our share in making it a success for the greatest pos sible benefit of our country, no matter whether it involves some small or even a heavy sacrifice. That is the principle which members of the Board have laid down for themselves, and if they are to be faithful to their trust and successful in their task, there is no other principle upon which they can deal with the banks of the country. That is why, though sincerely appreciating the hardship it entails for the country banker, and fully sympathizing with the difficulties of his position, we must say to him: "Forget these ex change charges. We think our new clearing plan is fair and equitable, free from unsound principles ■ and bound to become a very effective instrument for the general good. It offers to take from you at par all your checks on any member bank of the entire United 681 - 6-A - States, and certain State banks in addition, and will refund you any actual expense that you may incur in case you have to remit currency. All it asks of you in return is that you remit without 'charge to your Federal Reserve Bank in payment of checks drawn on yourself* But even if we did not believe that, by the service we render and by relieving you of the necessity of maintaining bank balances all over the country, we shall compensate you for what you think will be your loss, we have to hold to the view that you must pay the price - whatever your little share may be - for the larger bene fit of all." The new system brings new opportunities, as an illustration, let me remind the country banker that his exchange lose will appear to him very unimportant if he will adopt, the habit 1330 6SI. - 7-A - of paying for his deposits a fluctuating rate of interest, which should always remain a cer tain percentage heiow the ninety day discount rate of his Federal Reserve Bank- The unrea sonable rates paid for deposit money are a seri ous menace to the safety of our banking system and the economic development of our country. And, with this seme spirit, and even with greater emphasis, we must say to the State banks and trust companies: At this momentous period of its financial history, the country is entitled to have its banking system attain its maximum strength. Ir respective of burdens involved - imaginary or real - it is the duty especially of these large State institutions to come in promptly and con tribute their share, making whatever suggestions they think helpful as friends and members rather than as critics from the outside. I am glad to state that one of our largest trust companies expressed precisely this broad point of view when applying for membership. The Federal Reserve System will grow stronger with every coning day, and the stronger it grows and the more it perfects its organiza tion, the more apparent will its benefits become for all its members, A great deal of pressure has been brough to b®ar upon the Federal Reserve Board, particu larly during the early stages of the development of American bankers1 acceptances, to cause dis crimination against the acceptances of non member banks. So far the Board has been dis inclined to favor such a policy as it was thought to be in the general interest of the country to give encouragement to the freest and fullest development of this acceptance business, which is of the greatest benefit to the trade of our country. The Board thought further that time should be given to the State banks and trust companies to acquaint themselves fully with the policies tc- be pursued both in dealing with State institutions in general and the accept ance business in particular. Nor does the collection plan just approved by the Federal Reserve Board contain any element of discrimi nation against non-member State banks collect ing, at par //.ithout cost, their out of town checks through member banks of the system. The Board believes, however, that the time has now come for these large institutions to recog nize their duty to join the system. It will not be long before the banks that stay out of the system will become conscious of the fact that member banks will command the greater 1333 681. 10-4 - confidence, and there is nc doubt that the pub lic will begin to resent having its interests sacrificed for the benefit of institutions un willing to join the general protective system, and that before long their resentment will have to be heeded. Before ©losing, I should like to make it clear that, though speaking to the New York State Bankers* Association, whatever I have said is meant to apply to the State institutions of the entire country. I should not wish to give the impression that I am particularly critical of the New York institutions. Quite the contrary, I am very glad to have this opportunity of tes tifying publicly to the spirit of good citizenship that you have manifested in every phase of the development of the system from the very first 1334 v beginnings - when we were dealing with the gold and cotton funds in the fall of 1914,, In the negotiations, resulting in the creation of these two funds, there assorted itself for the first tin® in our financial history a bread national spirit uniting in a work of patriotic cooperation national banks, State banks and trust companies of every section of the country. That was the first effect of the coming of the Fed eral Reserve System, . the physical organization of which at that time had not even been completed. Ib is this same spirit, this larger conception of banking functions and ideals, that will ultimately lead into the Federal Reserve System all elements worth hewing - that is, all elements of financial and moral strength. I trust that my frankness will not be misunderstood by you. There is an old adage that "imitation is the sincerest form of flattery." 1335 I venture to paraphase this saying iniot "frankness is the sincerest form of flattery, ■because it shows that you respect the intelli gence and moral fibre of your audience. I believe that our future looms large beyond measure; I believe it our duty to be financially prepared on the broadest possible scale; I believe that we should use the months ahead of us; not to expand any further, but rather to consolidate our strength; I believe that, through the Federal Re serve Banks, we should strengthen our hold on the gold in circulation ana that the stronger the geld holdings of these banks, the better shall we be equipped to cope with the problems ahead of us, of helping ourselves and of help ing the world; 1336 681. - 13-A - I "believe it to be the duty of every bank in thd country to contribute its share in equipping cur rlktion for this task; I believe that State institutions which are strong enough should cone in now and do their share, no matter whether or not they are in full accord with every detail of the Federal Reserve machinery; I believe that, as we proceed and gain in experience, whatever may prove harmful will be remedied. The tendency of the country is for a fair deal for fair people; While I believe that the country expects that strong State institutions should do their duty and join, we are neither begging nor club bing anybody to come in or to stay in; But I firmly believe that the future will 1337 681. - I4-A belhng to those hanks - national or State that are members of the Federal Resente System. Fini3
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