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FEDERAL RESERVE BOARD
WASHINGTON
X-3088
-·
April 5,. 1921.
SUBJECT:
Liability of Federal Reserve Batiks for
securities left in their custody by
member banks.
Dear Sir:
For the information of the Governors
and other officers of ths Federal
Reser~e ~anks,
the Board is enclosing with this letter a copy
of a memorandum of law and draft of proposed
circular to member banks which the Board has
received from the Federal Reserve Bank of New
York on the subject of the liability of Federal
Reserve Batiks for securities left in their custody
by member banks.
The Board suggests that this subject
be considered by the Governors of the Federal
Reserve Banks at their forthcoming conference.
Yours
~ery
Enclosure.
TO GOVERNORS AND CHAIRMEN.
truly,
Go v e r no r.
X-30E8a
LIABILITY OF ~DE~L RES~BVE BANKS FOR SECURITIES
LEFT IN ~!·HEIR CUSTODY BY l\1EM:BER BANKS.
Insurance - Notice to Member Bariks.
The Federal Reserve Bank of New York occasionally receives inquiries
from member banks as to the nature and extent of the liability of the
Federal Reserve Barik for securities left in its custody by the merrber
bank for safekeeping, as collateral for loans or rediscounts, as security
for Government deposits, for collection of principal or interest, etc.
The inquiries also raise the questions as to whether the riSk of loss
is protected by insurance taken out by the Federal Reserve Bank or
whether it is necessary for the member banl:s to procure their own insurance.
It is believed that the problem involved is one of concern to
all the Federal Reserve Banks and that it is desirable that a uniform
policy and practice be followed by the Federal Reserve Banks as a whole.
LEGAL LIABILITY.
Against securities received from member ba:rilrs for safel:eeping the
Federal Reserve Barut of New York issues a receipt reciting that the securities are held at the risk of the rr.ember banks and that
"the Federal Reserve Bank will give to property left in its
custody the same care that it gives its own property; but
. beyond that will not assurr;e res"Oonsibili
ty. 11
~
It is believed, however, that if a case of loss ever carLe to issue in a
legal proceeding, the receipt would be strictly construed against the
Federal Reserve Bank and wo~d have little or no effect in relieving the
bank of the ordinary measure of responsibility imposed by the law itself4
It r:rf!J,y be argued that in the case of securities held by a Federal
Reserve Bank ostensibly rr.erely for safekeeping, the bark under the law is
merely a "gratuitous bailee", while in the case of securities deposited
as collateral for loans or in other transactions involving direct benefit
or advantage to the Federal Reserve Bank or the Government as its principal, the bank is a "bailee for mu.tual benefit. n
(The deposit of
collateral in a bank as security for loans or discounts is a mere pledge,
even though the collateral is fully indorsed, Wilso~ v. 1~ ttJ:..§: (1849) 2.
N. Y. 443; Jones, Collateral Securities (1912), Section 9· A :pledge is
classified as a bailment for mutual benefit and the pledgee as a bailee
for compensation.)
Theoretically there is a distinction between the
obligation of a gratuitous bailee as to the degree of care to be exercised
by him with respect to securities in his custody and the care to be
exercised by a bailee for compensation or mutual benefit. It is said
that a gratuitous bailee is responsible for failure to return the securities or valuables only if he has been guilty of gross negligence, but
that a bailee for rr:utuab benefit or hire is liable for reasor:abJ.e care,
and in that respect is under a stricter oblimation of care and diligence
380
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X-3088a
than the gratuitous bailee.
It is believed, however, that the court
decisions make it evident that where the question is as to the responsibility of a barik for securities left in its possession, this distinction
is theoretical rather than practical and t~~t the legal definitions of
care in the two classes of cases are so substantially the same that
juries might be expected to reach decisions without any real regard to
the theoretical distinction between b~~{s' obligations in the several
classes of transactions. The distinction probably is unimportant for
the further reason that there rrP-y well be a question as to whether a
Federal Reserve Bam~ taking the securities ostensibly only for safru:eeping is a gratuitous bailee.
The securities are received by the Federal
Reserve Banks because their custody by the reserve b~~ is of decided
advantage to the banl-:- in its transactions with the zre;nber banks, as
thereby, for example, a quick and convenient means is afforded of
transferring the securities to the lean or other pledge accounts.
Consequently it might well be held that the Federal' Reserve Banl-:- is a
bailee for rm.1tual benefit rather than a grc..tuitous bailee.
It is safe to say, therefore, ttat the simple rule of law applicable
to both classes of cases is that there is no absolute obligation upon
the Federal Reserve Bank to return the securities to the depositing bank
if their loss, theft or destruction is due to ci:rcumstances not involving
laclr of reasonable care on the part of the reserve barit, but it is liable
if it has failed to give them the reasonable care which is re~uired under
the circumstances.
As V~-as said in Jhird pati~l Ba.:rik v Boyd 44 Md. 47,
a bank is liable if, for example, bonds are stolen
"in consequence of its failure to exercise such care and diligence
in their custody and keeping, as, at the time, banks of comrr~n
prudence in a: like situation and business usually bestowed in the
custody and keeping of similar property belonging to tremselves;
that the care and dilig~nce ought to have been suet as v.as pro-perly
adapted to the preservation and protection of the property, and
should nave been proportioned to the consequence likely to arise
from any inmrovidence on the :part of the defendant."
'
.
This statement v.as cited 111fith ap""9roval by the Supreme Court of the United
~tates. in Preston v. 'Prather (1891) 137 U. S. 604, 'Nhich is a leading
a~thor1ty on the ~estion of a bank's liability as a gra~itous bailee and
a_ba~l~e f?r mutual benefit.
In connection with general defrni tions and
l~ab~l1ty 1t should be borne in mind that this and similar court decisions
!D3ke it plai~ that where a bank is the custodian a very high degree of
care is req~red.
The situation in brief is that the Federal Reserve Batik
is liable to a member bank for the loss, theft or destruction of securities
entrusted to the reserve barit, if the reser-~ bariC ras failed to exercise
r~as?nable care and diligence in their protection, but it is under no
~1ab1lity and the loss le§ally falls on the member bank or its customer
1f the reserve bank has given them reasonable care.
381
-3-
X-3088a
P.AYMENT OF LOSSES.
If securities left in the possession of a reserve bank were lost or
stolen. -particularly where the loss or theft were the act of its own
employe, the Federal ~eserve ~ank na~ally, in order to ~eserve its
reputation and standing with its member banks, mignt feel strongly impelled to rrake reimburserr.ent.
In cases where' the loss or theft involved lack of reasonable care on the part of the resei~e bank, the
situation is free from legal comp~ications, since the right and duty
of the reserve bank to rr.ake reimbursement is plain, and indeed reimburserrent might be compelled by suit by the member bank.
If, however,
the securities were lost ·or stolen under circumstances clearly involving
no lack of reasonable care by the bank or its agents, a different
problem is presented.
Reimbursement by a Federal Rese~e Bank in a
case in which it rested under no legal obligation to meke reimbursement
might be regarded as a sl:eer gratuity on its part, which might be
objected to or condemned by its stockholders.
Notwithstanding the
practical prejudice Which the reserve bank might suffer in its standing
with its member banks and embarrassments of various sorts which might
ensue, the view might be taken that there was no right to make reimbursement e:Jtcept in cases where the bank rested u.."'lder a legal liability.
INSURANCE.
The situation last discussed suggests the question of insurance
protection.
It is believed that the Fe·deral Reserve Barks should not
attempt to take out insurance for the benefit of the member banks, but
that, as the risk of loss, except in oases of negligence by custodian,
is incidental to ownership, each member bank should provide for itself
such insurance as it desires.
NOTICE TO \'EMBER BANKS.
.
•
.
In view of possible misapprehension among the member banks as to the
res-:ponsibility of the reserve banl:s for securities which they take for
safekeeping, and more importantly, perhaps, as to securities which the
reserve banks take as collateral for loans, or as security for Government
deposits or which they handle for collection, it is submitted that it would
be desirable for the reserve banks to address a circular letter to all of
their member banks e:x:plaining the situation.
T':-:is circular should point
out the extent of the reserve baril.ss' responsibility {which rray be stated
to be in theory or practice no other or different from that of the responsibility assumed by commercial banks taking securities from their customers
under similar circumstances) and should -put the member banks on notice as
to the necessity of providing their own insurance if they wish absolute
protection against losses of all kinds and particularly in cases where they
cannot claim reimburserr.ent from the reserve bank by reason of its negligence •
.A suggested form of circular is attached .
March 26, 1921.
,.
!
n:g. •)
0' ,c:.-
.F.QRM OF CIRCULAR
April
FEDERAL EESFRVE
To the Mem.be r 'Banks in the
;BA~;....O;;:,.:;F;__
192J.
_ _ _ __
Federal Reserve District:
From. time to time inquiries have been received a.S to the liability
of the Federal Reserve 'Bank of.
with respect to securities that
have been placed in its custody by rne1IIDer banks for safekeeping, as collateral
for loans or rediscounts, as security for Government deposits, for collection
of principal or interest, etc. It seems desirable that a. general statement of
the situation in that regard be wade.
Naturally. the Federal Reserve 'Bank of
will giv~ to
securities left in its custody by member banks the same care and protection
that it gives its own property, and it will use all due endeavor and diligence
to see that they are protected from destruc~ion or loss, from burglary, from
theft from. within, or from theft or robbery while they may be outside our
premises in the hands of our messengers. As to our legal responsibility, we
are adVised that • in general, and without at tempting to lay dov.n specific rules
for particular cases, the Federal Reserve Bank of
,· being a
bailee 1 is liable for th~ loss 1 destruction or theft of seel.lt'i ties entrusted
to its custody if it has failed to use due diligence and reasonable care in
their protection and that this diligence and care ~t be such as banks of common prudence in like situations usually bestow i.n the custody and keeping of
similar property belonging to themselves. The liability is not an absolute one.
We are liable and must make reUnbursement if we fail to give the securities
reasonable care as above described, but if the securities are destroyed, lost
or stolen under circumstances not involving negligence on our part the loss
must fall on the owner, the member bank or its customer. It will be appreciated under the circumstances that the foregoing is reerely our view of the law
and that in the last analysis it is for the courts, and not for us, to lay
down binding rules of obligation.
You will understand, of course, and will bear in mind t~t the situation
in our case and our liability as above stated is no other or different from
that of co.mrnercial banks which accept the custody of. securities in like circumstances.
This situation suggests the question of insurance. Naturally, the Federal
Reserve 'Bank of
does not attempt to insure itself or the owners
against the risk of loss of securities entrusted to it by member banks in
cases where destruction, loss or theft might occur under circumstances not ·
involving its negligence. It would seem, therefore, that if the member banks
which deposit securities with us for any purpose desire absolute :protection
against loss of all kinds, and particularly against loss where there will be
no right of reclamation against the Federal Reserve Bank because of the absence
of negligence on its part, they should take out the appropriate insurance.
. .
-2-
X-3088b
You will appreciate that the fo::-agoi:cg is merely a statement of tl':.::;; l:l: ;.. :·.~
tion as it bas always existed and that no new problems or questions are presented. We are writing m~ly to obviate the possibility of misunderstanding on
the part of any of our member banks.
Ve ey truly yours ,
(_
Governor, Federal Reserve Bank of
@FedFRASER