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— A Historical Perspective —

— A Historical Perspective —

Prepared by George Booth
for Federal Reserve Bank of Cleveland

First Edition □ May 1989
Second Edition □ December 1992

Copies of this book may be obtained from the Public Affairs/Bank
Relations Department of the Federal Reserve Bank of Cleveland,
Cleveland, Ohio -n 101

Library of Congress Catalog Card Number: 89-192203




The Need for an Elastic Currency
Aldrich Vreeland Act
Introduction of Federal Reserve Notes




Transactions Involving Currency and Coin
Volume of Operations
Payment for Cost of Transportation



Historical Role of the Subtreasuries
Currency and Coin Functions of the Subtreasuries
Transfer of Functions to Federal Reserve Banks
"Instructions” to Reserve Banks • Currency
"Instructions" to Reserve Banks - Coin
Treasury Department Circular No. 55
Reserve Bank Performance of New Functions



Treasury Department Oversight of Handling
of Federal Reserve Notes
Reserve Banks as "Fiscal Agents"
Sen-ice to Nonmember Banks and Others
Than Banks
Payment of Transportation Costs for Member Banks



Statement of Responsibility
Adequate Supply - Production Considerations
Adequate Supply - Denomination Considerations

Distribution to .All "Depository Institutions”
Distribution to Individual Offices


The responsibility of the Federal Reserve for the distribution
of currency and coin stems from the provisions of the Federal
Reserve Act and the provisions of the Appropriations Act of
1920 relating to the transfer of certain Subtreasury functions to
Federal Reserve Banks. With regard to the Federal Reserve Act,
the provisions are of two kinds—those that provided for an
elastic currency through the issue of Federal Reserve notes
and Federal Reserve bank notes, and those that gave the
Federal Reserve Banks certain functions related to banking
that necessarily involved extensive transactions in currency
and coin with commercial banks. The Subtreasury provisions
in the Appropriations Act of 1920 resulted in the transfer to
Federal Reserve Banks of Subtreasury functions relative to the
distribution, exchange, and replacement of United States cur­
rency7 and coin, and led to a degree of Treasury Department
oversight of Federal Reserve currency and coin operations that
had not been contemplated at the outset.
In 1980 the Monetary7 Control Act required Federal Reserve
Banks to provide currency7and coin services to all “depository
institutions"—not just commercial banks—and provided for
the pricing of Federal Reserve services. The provisions of this
legislation not only led to a great expansion in the number of
institutions to be served, but also made it necessary to modify
a number of practices that had developed in previous decades.
This paper describes and explains the role of Federal
Reserve Banks with regard to the distribution, flowback, and
destruction of currency7 and coin. It does not deal with
accounting procedures or accountability questions related to
the issue, circulation, and retirement of Federal Reserve notes
or other kinds of currency or coin. Nor does it cover questions
regarding the total money supply. References to ‘'elasticity"
refer only to the amount of currency and coin available for
interconvertability between cash and deposits.


The Need for an Elastic Currency
The provisions of the Federal Reserve Act relating to cur­
rency were originally designed to provide a form of currency
that could expand and contract as the public’s demand for
cash increased or decreased. The kinds of currency then in
circulation had proved incapable of meeting the needs for
additional amounts that developed from time to time—on a
seasonal and cyclical basis as well as in periods of financial
crisis. At such times country banks and smaller city banks
called on the reserve city correspondents for increased quanti­
ties of cash for customers who needed to handle a large
vol ume of transactions or feared for the safety of their deposits
as word ofthe cash crunch spread. In the Panic of 1907, reserve
city’ correspondents had been unable to meet such demands
and had “restricted’’ payments to other banks which in turn
had limited, and sometimes suspended, payments to their
The limited supply of currency resulted from the fact that
the volume of various forms of Treasury' currency (U.S. notes,
Treasury notes of 1890, and gold and silver certificates) was
fixed by statute or governed by the amount of gold and silver
held by the Treasury, and the volume of national bank notes
was dependent upon the decisions of individual banks with
respect to the profitability' of the note issue and/or the availa
bility' of Government bonds with the circulation privilege.
Gold and silver coins w'ere also pan of the currency supply,
and the volume of these available for circulation fluctuated to
some extent, largely in accordance with developments in the
international arena. Thus, while there was an element of elas­
ticity' in the currency', the changes in volume represented
responses to factors other than the needs of the financial
community to support an increase in the level of business
activity or meet the demands of depositors in time of panic.
The supply of currency was adequate for normal times, and
more than adequate for periods of depressed business activity
that did not give rise to panic. The surplus in such times was


held in bank vaults and in the vaults of the Treasury Depart­
ment and its Subtreasury offices. While some Government
funds were deposited in national banks, a substantial amount
was held in cash by the Treasury. One of the common
methods of increasing the supply in time of need was for the
Treasury to transfer portions of its vault cash to the depository
banks. At the time of the 1907 Panic the Treasury increased the
amount of currency in circulation by making deposits of $36
million in New York banks and $28 million in banks outside
New York City in this manner. The Treasury would also
attempt to put more currency in circulation by anticipating
interest payments on its bonds and prepaying some expenses.

The currency supply was also supplemented by clearing
house certificates designed to substitute for official currency in
interbank settlements and in general use by the public. The
New York Clearing House issued $256 million of such certifi­
cates in the latter pan of 1907. This was equal to approximately
10 percent of the total amount of official currency in circula­
tion on June 30, 1907.

Aldrich Vreeland Act
A direct result of the Panic of 1907 was the passage of the
Aldrich Vreeland Act in May of 1908. This legislation provided
for the issue of national emergency currency as a short term
answer to the need for elasticity, and for the appointment of
the National Monetary Commission “to inquire into ... what
changes are necessary or desirable in the monetary system of
the United States or in the laws relating to banking and cur­
rency.’’ The Commission’s efforts resulted in the recommen­
dation of the Aldrich Plan for the establishment of a National
Reserve Association which served as the model or basis for the
Federal Reserve System actually adopted in 1913-

The emergency currency provided for in the Aldrich Vree­
land Act could be issued by groups of ten or more national
banks making up a National Currency Association. An Associa­
tion was authorized to issue the special currency to its
members in amounts up to 75 percent of the value of com­
mercial paper deposited with the Association and 90 percent
of the \alue of approved state and local government bonds. A
special tax on amounts outstanding was designed to bring
about retirement as stxin as the urgent needs had subsided.


No emergency currency was issued under this arrangement
for the next several years, but the possibility of the need
continued to be recognized. It was highlighted in the report of
the National Monetary Commission, and the note issue provi­
sions of both the subsequent Aldrich bill and the Federal
Reserve Act were designed to meet the need and supplant the
Vreeland emergency currency.
The emergency currency provisions of the Aldrich Vreeland
Act were scheduled to expire in June 1914, but they were
extended for a year to cover the period until the Federal
Reserve Banks could become operative. Very' shortly after the
extension, the outbreak of World War I gave rise to fears of
financial difficulties that resulted in near panic. The New York
Stock Exchange closed on July 31, and the country banks
started their demand for currency’ from their city correspond­
ents. Clearing house certificates again appeared, in the total
amount of 1212 million. And by' November a total of $400
million in Vreeland currency' had been issued. (A maximum of
$364 million was outstanding at any one time.)

Introduction of Federal Reserve Notes
The Federal Reserve Act, with a stated purpose of furnishing
an "elastic currency,’’ offered a more permanent and sophisti­
cated solution by providing for the issuance of Federal Reserve
notes. By statute these were obligations of the United States, a
first lien on the assets of the issuing Federal Reserve Bank,
backed 100 percent by discounted commercial notes andbills
and a 40 percent gold reserve, and redeemable in gold or
"lawful money." They were declared to be "receivable by all
national and member banks and Federal reserve banks and for
all taxes, customs and other public dues." They were not,
however, declared to be “legal tender" or "lawful money"
although they were redeemable in “lawful money." They did.
of course, have the great virtue of having their issuance and
redemption related more or less directly io the expansion and
contraction of economic activirv

The first Federal Reserve notes were issued in late 19 N, and
instead ofconstitutingonlya marginal currency during the first
few years, they underwent a remarkable gn >vvth and became a
major component of the nation's supply of cash before 1920
This occurred without the displacement of National Bank
notes. It was largely due to events connected with World War I.


including—in addition to a large growth in the total money
supply—the retirement of many silver certificates in order to
free up silver reserves for export to Great Britain, and a con­
certed effort by the Government to concentrate gold coin and
gold certificates in the Federal Reserve Banks.
The amount of Federal Reserve notes and various other
kinds of currency' in circulation (including gold coin and silver
dollars) during the period 1915-1920 are shown in the follow­
ing table:

(As of June 30 - In Millions of Dollars)
1915 1916 1917 1918 1919 1920

Gold coin
588 625 667 537 475 475
328 259
822 1,050 1,083 511
Gold Certificates
Silver dollars
Silver Certificates
463 476 468 370
Treasure Notes
of 1890
310 328 312 292 274 278
U.S. Notes
National Bank Notes 782 716 691 691 639 690
F.R. Bank Notes
F.R Notes
149 507 1,698 2,450 3,065
Total — All
3,102 3,414 3,299 4,189 4,565 5,129
F.R, Notes as
4% 15% 41% 54% 60%
percent of total

During the decade of the twenties the volume of Federal
Reserve notes dropped to less than half the 1920 amount: from
$3.06S million to J 1.402 million. ($465 million of this decline
occurred before the end of 1921 in connection with the
post-war depression.) The total volume of all currency also
declined between 1920 and 1930, but by only one-fifth: from
$5,129 million to $4,104 million. As a result, Federal Reserve
notes constituted only 34 percent of currency in circulation in
1930. compared to 60 percent in 1920. Events of subsequent
decades were to cause the proportion to increase to more than
99 percent.
The substantial reduction in the volume of Federal Reserve
notes in the 1920 s demonstrated the contraction aspect of the
new elastic" currency Federal Reserve notes were the com­
ponent of the whole body of currency that was directly


responsive to the shrinking needs of the business and financial
community. By comparison, the volume of National Bank
notes remained about the same during this period, and the
volume of gold certificates and silver certificates each increased
many fold, the result of factors other than the changing needs
of the business and financial community.

The performance of Federal Reserve notes in their first
seven years (through the sharp contraction of the 1920-21
depression) was the subject of the following comment in the
1921 Annual Report of the Federal Reserve Bank of Cleveland:
"The movement of Federal Reserve notes has graphically
reflected the results of the period of readjustment. It has
further demonstrated the soundness of the views held by
economists and financiers that an elastic currency' is one
that rises and falls according to the volume and velocity
of business transactions.”

(It will be seen from the foregoing table that Federal
Reserve Bank notes also became a significant pan of the
nation’s currency in 1919and 1920. These notes were a special
type of currency authorized in the Federal Reserve Act as an
additional supplementary currency, similar to National Bank
notes in that their issue was based on holdings of U.S. bonds
with the circulation privilege which served as collateral. At
three periods before 1950 Federal Reserve Bank notes were
issued in substantial quantities for special purposes: during
World War I to help in replacing silver certificates, during the
emergency banking period of the early thirties, and during
World War II. They did not remain outstanding in large quanti
ties for long periods and are not significant in the present
context except in the sense that they constituted some of the
bulk of the currency that Federal Reserve Banks were handling
even before they assumed the functions of the Subtreasuries.)


Transactions Involving Currency and Coin
Before examining the impact that the transfer of the Subtrea­
sury functions had on the role of the Federal Reserve Banks, it
should be observed that the Banks were far more involved in
the handling of currency and coin in the first few years of their
existence than might be thought from the mere fact that they
were issuing and redeeming Federal Reserve notes and Fed­
eral Reserve Bank notes. The responsibilities that they had in
the check collection area, in their special relations with
member banks, and in their role as fiscal agents for the federal
government (, especially related to the sale of securities during
the war) all led to transactions that required the receipt,
payment, verification, and storage of coin and many kinds of
currency. These transactions included the following:

■ Transfers of cash by member banks to pay for Federal
Reserve stock and establish required reserves. Initial
installments had to be in “lawful money”; subsequent
payments could be in other kinds. Receipt of such
payments put the Reserve Banks in the money han­
dling business immediately and provided them with
an inventory of various kinds of currency.
• Subsequent “deposits” by member banks to keep
reserves at required levels or to reduce surplus hold­
ings of vault cash that was not counted as reserves.

• Deposits by Government agencies. Reserve Banks
were designated as fiscal agents and depositories in
January' 1916. Large deposits were immediately trans­
ferred from national banks, of which 11 million or
more was in cash. Thereafter Internal Revenue and
Customs officers in particular made regular deposits.
• Presentation of gold and gold certificates as deposits or
in exchange for Federal Reserve notes as part ofa nation­
al effort to concentrate gold in the Federal Reserve.
Reserve Banks participated actively and accumulated
large amounts of gold and gold certificates in 1917 and
191K. These were received from nonmembers as well


as members. The Reserve Banks paid the cost of trans­
portation on incoming gold and gold certificates, and
on the Federal Reserve notes sent in exchange.

■ Cash remittances from nonmember banks in payment
for cash letters. To encourage par collection, Reserve
Banks paid shipping and insurance costs on currency
sent by nonmembers remitting at par.

• Deposits of silver certificates in exchange for Federal
Reserve notes and Federal Reserve Bank notes pursu­
ant to a program undertaken under the Pittman Act
(1918) to free up silver for export.
• Cash proceeds from sales of securities, especially dur­
ing World War I.
• Payments in response to requests of member banks
for various kinds of currency to meet payroll needs.
Since F.R. notes were not issued in $ 1 and $2 denomi­
nations, silver certificates and U.S. notes had to be
handled for this purpose. (After the Pittman Act, Fed­
eral Reserve Bank notes were issued in $1 and $2
denominations.) Shipments were often made to mem­
ber and nonmember correspondents at the request of
city member banks.

Volume of Operations
The consequence of these transactions was a great deal of
activity in the way of currency’ shipments and receipts and
internal money handling operations, which included sorting
(by kind and bank of issue as well as condition), laundering,
cutting and cancelling, and preparation of shipments to the
Treasury for redemption. In the annual reports of the Banks
there are numerous references to the growing size of the staffs
employed in the money departments and the growing needs
for working and vault space. At New York the size of the major
departments was as follows in 1917 and 1918:
1917 1918
Money Department
Government Departments 333


At Boston the staff of the money department grew from 71 to
104 in 1919. Dallas reported in its Annual Report for 1916:


“The members, as a whole, have been quick to grasp the
benefits which may be derived by them through our shipping
facilities, and our coin and currency shipments in 1916 were
nearly treble those of the previous year„. ’’ The accompanying
figures showed shipments of several kinds ofcurrency, not just
Federal Reserve notes; also substantial amounts of fractional
silver and nickels and pennies. Cleveland stated that one of its
principal reasons for establishing branches was to give better
currency' services to member banks (notwithstanding the fact
that a Subtreasury was already located in Cincinnati). Atlanta
regarded its Agency' at Savannah as primarily a facility for
currency service.
The size of currency’ receipts from, and shipments to,
member and nonmember banks by Federal Reserve Banks in
1919 and 1920 is indicated by the following figures (in thou­
sands of dollars ):








$ 93,806


Payment for Cost of Transportation
As indicated earlier, Reserve Banks had undertaken at a
relatively early date to pay the cost of transportation on (a)
incoming shipments of currency from nonmember banks
remitting for cash letters at par; (b) incoming shipments of
goid and gold certificates sent to Reserve Banks by both
member and nonmember banks; and (c) outgoing shipments
of Federal Reserve notes sent in exchange for gold and gold
certificates. These practices were recognized and approved by
the Board of Governors in 1918, if not before.
In 1918 the Board also approved a policy' of paying the cost
of "postage, expressage, insurance, etc., incident to shipments
of currency to and from member banks." The rationale given
was that it was believed that this and other privileges being
extended "will remove the feeling that many country' banks


have that the Federal Reserve Act discriminates against them in
favor of the banks in the larger cities and will at the same time
prove an added stimulus to the state banks to apply for member­
ship.” The authorization did not apply to shipments of coin.


Historical Role of the Subtreasuries


The Subtreasuries of the United States were the last remnant
of the Independent Treasury' established by the Government
in 1846 in order to achieve a complete separation of Govern­
ment finances from the banks of the country. Government
monies were no longer to be deposited in the banks but in the
Treasury or one of the Subtreasuries established as branches of
the Treasury' to facilitate performance of fiscal functions
throughout the country. As the years went by, however, the
relations between the Government and the banks became
closer, and the role of the Subtreasuries became less important.

The establishment of the national banking system in 1863
and the unprecedented fiscal operations of the Treasury re­
quired to finance the Civil War blurred the line of separation
and started the erosion of the independence of the indepen­
dent Treasury. National banks became depositories of public
moneys and fiscal agents of the Government. In the ensuing
years the Government continued to make use of the national
banks, and the Subtreasuries performed a smaller pan of the
depository’and fiscal functions than originally intended. A fur­
ther blow to the Independent Treasury came with the legisla­
tion authorizing Federal Reserve Banks to act as depositories
and fiscal agents of the U.S. The Government made such exten­
sive use of the Reserve Banks in efforts to finance World War I
that by the end of the war the need for the Subtreasuries as de­
positories and fiscal agents had almost completely disappeared.

Currency and Coin Functions of the Subtreasuries
Through it all, however, the Subtreasuries continued to have
certain responsibilities in connection with the issue, redemp­
tion, exchange and distribution of currency' and coin. They and
the Treasury Department in Washington were the only agencies
to perform certain functions. Principally, they provided the
channels by which new Treasury’ currency (gold certificates,
silver certificates, and U.S. notes) and coin were paid into
circulation. They were also the official agencies for redeeming
currency, accepting unfit, and exchanging one kind of money


for another. They would also make denominational exchanges
and accept deposits of surplus amounts when shipped to them
or brought to the counter. A sorting operation was maintained
to determine what ITS. currency was fit for further circulation
or could be made fit by laundering. Canceling, cutting and
destruction operations were also carried on.
To make use of this service, one had to transport his money to
and from the premises of the Subtreasury at his own expense.
This was a minor burden for parties who lived in a Subtreasury
city, but it involved payment of postage or expressage and
insurance charges both ways for parties who did not. The same
service could be obtained by a direct transaction with the
Treasury in Washington, and many chose to effect their
redemptions and exchanges in this way.

The Subtreasurivs performed similar services with respect to
coin. They' accepted silver dollars for exchange into silver cer­
tificates, and minor coin "for redemption in lawful money.” The
minor coin had to be in sums or multiples of $20, sorted by
denomination and put in separate packages. The Subtreasuries
verified the coin, sorted out mutilated and worn or bent pieces,
rebagged them, and held them "until called for by banks or
individuals who wish to use them in the channels of trade."

In its 1918 report on the Subtreasuries the U.S. Bureau of
Efficiency made the following observation:
“The Subtreasuries render a service to the public by
absorbing surplus coin at a time when there is a plethora
and holding it until it is needed. Furthermore, the Subtrea
suries aid in the distribution of small coins to those
places and to those lines of business where they are most
in demand. This is a legitimate service. However, the
coin divisions of the Subtreasuries have been burdened
with more work than is really necessary. Banks or corpora
tions bring bags of coin to the counters one day and with
draw them the next. Some commercial concerns which
receive large quantities of small coin—such, for example,
as moving picture shows, department stores, street rail
ways, gum-slot and weighing machine companies, and
automatic lunch rooms—bring their money directly to the
Subtreasuries where it is received, counted, and checked.
The banks—sometimes the very banks with which these


concerns deal—later withdraw this same coin for the use
of their customers. Thus an endless chain is started which
imposes upon the Government labor which should be
performed by the banks themselves. The Subtreasuries
have recognized the existence of this abuse, but they are
powerless against it under the present law.”

There were nine Subtreasuries in the United States, located
in the following cities:


New York


St. Louis

New Orleans
San Francisco

In each of these cities there was a main office or branch of a
Federal Reserve Bank by early 1918. In addition, there was a
Federal Reserve main office or branch in 20 other large cities
by the end of 1918. As described earlier, Federal Reserve
Offices had extensive currency operations and also handled
coin to some extent in connection with the transactions that
related to other Federal Reserve responsibilities. The extent of
their coin operations varied, but in all cases such operations
were limited to dealings with banks, and they did not include
the feeding of new coin into the stream.

Transfer of Functions to Federal Reserve Banks
The question ofthe need for the continuing existence of the
Subtreasuries was frequently raised and had been addressed
by the National Monetary Commission, among others. In 1917,
Congress included in the Appropriations Act a provision
directing the Government’s Bureau of Efficiency to—
“investigate the work performed by the Subtreasuries
and report to the Secretary of the Treasury and to Con­
gress at the beginning of the next regular session what
pan of the work of the Subtreasuries can be transferred to
other offices of the Government, banks of the Federal


Reserve System, or farm-loan banks.”
The ensuing Report of the Bureau of Efficiency' contained a
recommendation for “the consolidation of the entire Subtreasury system with the Federal Reserve Banks within six
months after the end of the present war.”

In 1920, Congress included in the Appropriations Act provi­
sions which directed the Secretary of the Treasury to discon­
tinue the Subtreasuries and the exercise of all duties and
functions by the Assistant Treasurers in charge of such offices.
The Secretary was authorized in his discretion to transfer any
or all of such duties and functions —
“to the Treasurer of the United States or the mints or assayoffices of the United States, under such rules and regula­
tions as he may prescribe, or to utilize any' of the Federal
reserve banks acting as depositories or fiscal agents of the
United States, for the purpose of performing any or all of
such duties and functions... [and] to assign any or all the
rooms, vaults, equipment, and safes or space in the
buildings used by the subtreasuries to any Federal Reserve
bank acting as fiscal agent of the United States.”

“Instructions” to Reserve Banks — Currency
Pursuant to such legislation, arrangements were made for the
Federal Reserve Banks to assume the currency and coin func­
tions of the Subtreasuries. The functions to be performed by the
Bank were described in two sets of confidential "Instructions"
addressed by the Secretary of the Treasury' to the Treasurer and
Assistant Treasurers of the United States, Federal Reserve Banks,
and "others concerned " One set authorized Federal Reserve
Banks “to receive United States notes. Treasury notes of 1H90.
gold certificates and silver certificates (hereinafter sometimes
called United States paper currency), and to make exchanges
and replacements thereof upon the following terms and con
ditions, which must be executed with impartiality."
Detailed provisions of the "Instructions" included the

"5. Federal Reserve Banks acting hereunder are autho­
rized to receive from any person United States paper
currency unfit for further circulation and to issue in
exchange therefor, when demanded. United States paper
currency of the same kind fit for circulation, insofar as


such currency is available. No Federal Reserve Bank is
authorzed to receive for replacement paper currency fit
for circulation. In making replacements of unfit currency;
requests for denominations other than those presented
should be honored as far as possible. Federal Reserve
Banks, wherever necessary, are authorized to deduct,
from the currency to be returned to member or non­
member banks and private individuals or concerns
(whether acting under this paragraph or under paragraph
13 hereof), expenses of transportation (with insurance)
on the currency so returned.”
"6. Insofar as possible, requests for denominational
exchanges of currency should be honored, even though
the currency presented is fit for circulation."

" 12.... the Treasurer of the United States will ship new
currency- (and any other paper currency in hand fit for
further circulation) to the Federal Reserve Banks in such
proportions as will provide as equitable a distribution
thereof as possible. In general, such shipments will be
made in proportion to the receipts of unfit currency from
the respective banks... ”

"15. In making deliveries of notes fit for circulation,
Federal Reserve Banks shall wherever possible deliver
new currency and circulated currency' in proportion to
the stocks of each available
Certain features of the "Instructions" regarding currency' are
especially worthy of note:

• They applied only' to “U.S. Currency'," which did not
include Federal Reserve notes, Federal Reserve Bank
notes, or National Bank notes.
• They authorized receipt of currency' "from any per­
son" and the return of currency "to member or non ­
member banks and private individuals and concerns."
■ They stated that Federal Reserve Banks were not autho­
rized to receive "for replacement" currency fit for

• They authorized Federal Reserve Banks to charge (by deduction from the currency being returned, where nec­
essary) the expenses of transportation and insurance.


• They provided that Federal Reserve Banks should dis­
tribute new currency and circulated currency "in pro­
portion to the stocks of each available.”
• They emphasized the importance of carrying out the
functions in an equitable and impartial manner.

“Instructions” to Reserve Banks — Coin
The second set of “Instructions” issued by the Treasury
related to the “exchange and redemption" of coin. Reserve Banks
were authorized and instructed to receive all types of U.S. coin
and to make exchanges and replacements thereof upon the
specified terms and conditions, “which must be executed with
impartiality.” Detailed provisions included the following:

“7. Federal Reserve Banks... will receive and make pay­
ment for all subsidiary silver and minor coins when and as
presented ... Payments should be made ... at face or
nominal value, so long as it is possible to determine the
authenticity or genuineness of the coins by denomina­
tions. Any noncurrent coins thus received will from time to
time be transferred to the Mints .... In the event that the
accumulation of subsidiary or minor coins should at any
time reach such proportions that the Federal Reserve Bank
would prefer not to carry the full amount in its cash assets,
the bank should request instructions from the Secretary of
the Treasury for the opening of a custody' account, as fiscal
agent of the United States, or the transfer of the coins to
other Federal Reserve Banks or to Treasury offices."

“9-... In order that... accommodations may be extended
the public with respect to exchanges of gold coin and
standard silver dollars for gold and silver certificates ...
Federal Reserve Banks... will be expected to maintain in
their cash assets sufficient stocks of gold and silver certif­
icates to meet demands... will also be expected to main­
tain in their cash assets sufficient stock of gold coin and
standard silver dollars in order to make payment thereof
upon presentation of gold and silver certificates ...."

“10. Transportation charges on shipments of United
States currency hereunder... and on shipments of coin
hereunder from the office of the Treasurer of the United
States, from mints and assay offices to Federal Reserve
Banks, and between Federal Reserve Banks and mints,


assay offices and the Treasurer of the United States, will
be paid by the Treasury' Department
“11. Federal Reserve Banks acting hereunder, upon
receipt of request therefor together with payment, will
furnish banks, bankers, trust companies or other persons
in their respective districts with subsidiary silver and
minor coin to the extent that the supply on hand will
permit, taking into consideration the necessity for mak­
ing an equitable distribution thereof. If an actual ship­
ment is necessary (as distinguished from delivery over
the counter) the applicant should ... forward sufficient
cash to cover postage and insurance if shipment is to be
made by mail. If prepayment is not made, the Federal
Reserve Bank may deduct a sufficient amount from the
shipment to cover postage, registration fees and insur­
ance. If the shipment is requested to be sent by express, it
may go forward ‘Collect,’ unless prepayment is made.”

Treasury Department Circular No. 55
The "Instructions” discussed above were issued on a confi­
dential basis to a limited number of addressees. A public
announcement of the transfer of Subtreasury functions was
made through an amendment to Treasury' Department Circu­
lar No. 55, which contained the following language:
“Under authorization in the act approved May 29, 1920
the Secretary' of the Treasury transferred to the Federal
Reserve Banks and branches the functions performed by
the former Assistant Treasurers of the United States in
connection with the issue, exchange, and replacement of
United States paper currency and coin and the receipt for
redemption of national bank notes and Federal Reserve
bank notes. Except for the duties in this respect to be
performed by the Treasurer of the United States as may
be indicated from time to time by the Secretary of the
Treasury, distributions of available supplies of United
States paper currency and coin, exchanges and replace­
ment thereof, and payments on account of redemption
of currency and coin will, so far as practicable, be effected
through the Federal Reserve Banks and branches. Fed­
eral Reserve Banks and branches have been instructed by
the Treasury to make an equitable and impartial distribu­
tion ofa vailable supplies of United States paper currency


and coin in all cases, and application therefor should be
made to the Federal Reserve Bank or branch of such bank
located in the same district with the applicant.”

Reserve Bank Performance of New Functions
During a period beginning in October 1920 and extend­
ing into 1922, the various Federal Reserve offices under­
took the performance of the operations covered by the
Treasury’s Instructions. In cities where a Subtreasury had
been located there were a number of transitional matters
to be taken care of, involving, in addition to transfers of
inventories of currency and coin, the absorption of Subtreasury personnel and occupation of Subtreasury facili­
ties in some cases. From accounts provided in the Annual
Reports of the Reserve Banks these arrangements seemed
to present more ofa problem than the simple assumption
of the new functions. In cities where there had been no
Subtreasury, the Reserve Banks underrook their new
duties with what appeared to be a minimum of difficulty
—the chief one being to acquire facilities for handling
and storing a larger volume of coin than previously.

Evidence that the assumption of Subtreasury functions
did not have a great impact on the operations of the
Reserve Banks—that they were, in effect, already heavily
in the currency if not coin business—is found in the
following two sets of figures. The first shows the dollar
amount (in thousands of dollars) of currency' receipts
and payments (paper and coin) for the years 1919-1922;
this period includes two years before the performance of
the new functions, one transitional year, and one year of
almost full performance.




The second set of figures shows the number of pieces of
currency and coin “received and counted" in the years





The Board of Governors felt that the transfer was a good move
for the nation as a whole. The following evaluation was offered
in its Annual Report of 1921:

“The closing of the subtreasuries and the assumption of
their principal duties by the Federal Reserve Banks has
resulted in improved currency and coin facilities to the
country. The location and banking connections of the
Federal Reserve Banks and their branches afford a more
convenient and natural method for the proper distribu­
tion of paper currency fit for circulation than it was
possible to secure through the subtreasuries, and there
has already been a decided improvement throughout the
United States not only with respect to the condition of the
paper currency but with respect to the supply of notes of
desired denominations.”
“A material economy to the Government has resulted not
only by the reduction in operation expenses effected by
abolishing the subtreasury establishments but also by the
elimination of the necessity for keeping with the Assis­
tant Treasurers working supplies of currency and coin
required to enable them to perform their functions,
amounting in the aggregate to approximately $25,000,000.

It has not been necessary to increase the balances of
Government funds with Federal Reserve Banks by reason
of their assumption of subtreasury functions.’’


In the days before the assumption of Subtreasury functions,
the Reserve Banks had confined their currency and coin trans­
actions to commercial banks and had been able to determine
for themselves the kind and amount of service they would
provide. As pointed out earlier, they were by 1920 fulfilling
most ofthe currency needs and some ofthecoin needs of their
member banks, and also engaging in some transactions with
nonmembers. The latter consisted primarily of receiving cur­
rency and coin sent as remittances for cash letters, shipping cur­
rency coa nonmemberat the request ofa member, and exchang­
ing gold and gold certificates for Federal Resene notes. The
volume of receipts from nonmembers was $339 million in
1920, compared with receipts of$6,477 million from members;
and the volume of payments to nonmembers was $255 million
compared with payments of $6,640 million to members.
In addition, the Reserve Banks had developed the practice,
for which they'received special authorization from the Board
in 1918, of paying the cost of transportation on currency
shipments to and from member banks, on cash remittances
from nonmember banks paying at par, and on incoming
shipments of gold coin and certificates whether from a
member or nonmember.

Treasury Department Oversight of Handling
of Federal Reserve Notes
The transfer of the Subtreasury functions gave rise to ques­
tions about the extent of the Treasury’s control and the degree
to which Federal Reserve Banks might be able to continue
practices which they believed to be desirable. As already noted,
the initial "Instructions” from the Treasury'applied only to the
handling of United States currency’ and coin, which did not
include Federal Reserve notes. Federal Reserve Bank notes, or
National Bank notes. In handling the latter types of currency,
were the Federal Reserve Banks free to ignore such provisions
as the mandates to deal equitably and impartially with all
parties, including others than banks, and to refrain from mak­
ing an exchange of one kind of fit currency for another?


Moreover, within a short time the Treasury issued additional
instructions specifying the order in which the various kinds of
currency (including Federal Reserve notes) were to be paid
out, prescribing a standard of fitness for currency paid out by
the Reserve Banks, and stating that no party had a right to
receive new currency when fit was available. All of these
instructions had the potential for interfering with the relations
between Reserve Banks and their member banks, and the
appropriateness of some of them was questioned by the Gov­
ernors (Presidents) at their Conferences.
At the time that the Treasury undertook its oversight of the
currency and coin operations transferred from the Subtreasur­
ies, Federal Reserve notes constituted about one half of the
currency' in circulation. While the proportion dropped to
about one-third in 1930. it rose to 71 percent in 1940. 88
percent in 1950, and over 99 percent in 1970. By the latter date
the only other kind of currency then being issued was U.S.
notes, which were required by statute to be maintained at a
level of $322 million. The issuance of all other kinds of cur­
rency’ had been discontinued, and they were in process of
retirement: gold certificates and National Bank notes in the
1930’s, the last batch of Federal Reserve Bank notes after World
War II, and silver certificates in the 1960's.

The question of the Treasury Department’s authority to
oversee the distribution, replacement and exchange of cur­
rency that consisted primarily of Federal Reserve notes could
have become an important one—academically and legally—
under these circumstances if it had not been for the provision
in the Emergency’ Banking Act of 1933 that declared Federal
Reserve notes to be legal tender and characterized them as
■'United States currency" by’ the following language:
"All coins and currencies of the United States (including
Federal Reserve notes and circulating notes of Federal
Reserve banks and national banking associations) hereto­
fore or hereafter coined or issued, shall be legal tender
for all debts, public and private, public charges, taxes,
duties and dues ....”
(This provision was reenacted in the Coinage Act of 1965 and
restated in 1982 legislation.)

After the 1933 statutory provision, the Treasury Department
used similar language in its Circular No. 55 to describe the


currency and coin covered, thus bringing Federal Reserve
notes within its provisions in a way that had not originally
been the case.

In the successor to Treasury Department Circular No. 55 that
was published after passage of the Monetary Control Act of
1980 (31 CFR, Part 100), the Treasury Department not only
continued this definition of the currency and coin to which the
Regulation applies and made the expected changes regarding
the institutions to be served and the pricing of services, but it
also altered the following long-standing provision by omitting
the words in capital letters:
"The Federal Reserve Banks and branches are authorized
TIAL DISTRIBUTION OF available supplies ....”
The omitted words were replaced by the words "to distribute.”
Unknown to this writer is the reason for the change, and
whether any particular significance should be attached to the
omission of (a) the provision that the Reserve Banks are
"directed’’ as well as “authorized" to make the distribution,
and (b) the mandate to make the distribution in an “equitable
and impartial" manner.

Reserve Banks as “Fiscal Agents”
Related to this discussion is a question that never seems to
have surfaced for open debate, namely, whether and to what
extent Federal Reserve Banks 3re acting as "fiscal agents" in
performing the currency and coin functions now "authorized"
—previously "authorized and directed"—by the Treasury’
Department. It could reasonably be inferred from the circum­
stances and the language used in effecting and describing the
transfer of the Subtreasury functions to the Reserve Banks that
the latter are performing those functions as fiscal agents. This
was acknowledged by Governor Strong (President of F.R.B.
New York) in remarks made at the Governors’ Conference in
October of 1921:
"Well, Governor Norris, the independent treasury system
has been abandoned by the United States, and they have
placed, as one of the duties of fiscal agents, the duty of
distributing currency upon the twelve Reserve Banks,
and the duty of distributing currency has no relation to
whether the banks are members or nonmembers of the


Federal Reserve System. 1 think the Treasury is bound to
take the position that no matter whether it is an induce­
ment or not for a state bank to stay out of the system, that
the bank in the Federal Reserve district is entitled to get
the currency from the fiscal agent of the United States
when it sends good money for it and pays the cost of
shipping it. I do not think you can get away from that"

It appears, notwithstanding, that the operations were not
frequently referred to as fiscal agency functions, and that no
serious consideration has been given to reimbursing the
Reserve Banks for their performance in this regard.

Service to Nonmember Banks and Others Than Banks
As pointed out earlier, it was the practice of the Subtreasur­
ies to deal with private businesses and individuals as well as
banks. Moreover, the "Instructions” issued by the Treasury'
Department to Federal Reserve Banks provided that they were
to receive currency and coin “from any person” and “when
and as presented”; also that they were to make payments to a
member bank, a nonmember bank, “or any private individual
or concern." In another provision it was stated that they were
to furnish coin to "banks, bankers, trust companies or other

For some unexplained reason these particular elements of
the instructions seem to have made no serious impression on
the Federal Reserve Banks. While there was considerable
debate on the subject of access, it was limited to the question
whether the Reserve Banks should be required to serve banks
that were not members of the Federal Reserve System. At
Conference meetings in 1921 a number of Governors (F.R.B.
presidents) stated that the Banks should do so only at the
request ofa member bank. It took extended discussion in the
presence of Assistant Secretary of the Treasury Gilbert (and
several vigorous statements such as the one by Governor
Strong quoted above) to bring the Governors to acknowledge
that the effect of the Treasury's "Instructions” was to give
nonmembers the same right as members to the services that
had been provided by the Subtreasuries. Even so, certain
conditions were imposed regarding the method of prepay­
ment for orders of currency and coin by nonmember banks.
In the years following the 1921 discussion of the subject, a
number of Reserve Banks departed from the policy' established


with respect to direct service to nonmember banks and fol­
lowed instead a practice of supplying currency and coin to a
nonmember bank only when requested by a member bank.
The minutes of the October 1935 meeting of the Conference of
Presidents indicated that “most of the Federal Reserve Banks
were making shipments of currency and coin, or both, to nonmember banks within the district upon the request oftheir mem­
ber banks, and the shipping charges were collected from the
member banks making the request.” The Conference then—

"Voted that this is a reasonable service to extend to
nonmember banks within the district, provided the
shipment is ordered by a member bank from its Federal
Reserve bank; and, provided further, that the shipping
charges are reimbursed to the Federal Reserve Bank."

This apparently continued to be the Federal Reserve pos­
ture without objection from the Treasury until the middle
1960’s when the coin shortage gave rise to complaints by some
nonmember banks who found themselves unable to order
coin direct from a Federal Reserve Bank when their corres­
pondent failed to provide an adequate supply. The complaints
came to Congress and/or the Treasury Department and were,
in time, discussed with the Board of Governors. In August of
1965, the Board of Governors wrote to the Chairman of the
Conference of Presidents stating that the Treasury-Federal
Reserve Coin Rationing Committee had expressed some con­
cern about the fact that all Federal Reserve Banks did not
accept coin orders from nonmember banks directly. The
Board drew attention to the apparent discrimination against
nonmember banks in this respect and requested the views of
the Conference on the matter.
After a year of delay (due largely to the unusual distribution
conditions related to the coin shortage) the Conference of
Presidents agreed to the position that nonmember banks
should have direct access to the Reserve Banks for ordering
and depositing currency' and coin.
The Treasury Department meanwhile, at the recommenda­
tion of the House Committee on Government Operations,
undertook to revise T.D. Circular No. 55 to make it clear that
Federal Reserve Banks had a responsibility to distribute Cur
rency and coin directly to nonmember as well as member
banks. The following language was adopted for incorporation


in the 1966 revision of the Circular after consultation with the
Federal Reserve (words in capital letters were new):

“The Federal Reserve Banks and branches are authorized
and directed to make an equitable and impartial distribu­
tion of available supplies of currency and coin in all cases
The effect of the last sentence quoted above was to offset the
provisions in the original “Instructions” regarding service to
others than commercial banks. This part of the revision indi­
cated the Treasury’s acquiescence in the Federal Reserve’s
view that service should be limited to commercial banks. Such
view prevailed until Congress provided in the Monetary Con­
trol Act of 1980 that access should be given to ail “depository
institutions." The M.CA provision represented a significant
departure from the “commercial bank” position of the Federal
Reserve but was still a long way from the “general public”
practice of the Subtreasuries that the Treasury Department
originally expected the Reserve Banks to follow

Payment of Transportation Costs for Member Banks
The new language in the next to the last sentence in the
above excerpt from the revised Circular No, 55 provided that
deliveries to both member and non member banks “shall be
made under such terms and conditions as may be prescribed
by the Federal Reserve Banks," The significance of this provi­
sion was that it constituted an acknowledgement by the Trea­
sury that the Reserve Banks could absorb the cost of transpor­
tation on shipments roand from member banks. This practice
had been the subject of some debate after the Subtreasury
transfer. There had been some concern that it might be inap­
propriate for Reserve Banks to pay the cost for some parties if
the Subtreasuries had not—or inequitable if the costs were


absorbed for member banks but not for nonmembers. On the
other hand, the practice of absorbing some transportation
costs for members was already in place and there was a strong
feeling that this benefit of membership should not be dimin­
ished on account of the Subtreasury transfer. The latter posi­
tion won out and was rationalized by one Governor with the
statement: "Shipping currency to our member banks is not a
Subtreasury function but a Federal Reserve Bank function.”
In attendance at the 1921 Conference meeting where the
question was discussed was Assistant Secretary of the Treasury
Gilbert. When he was asked for his views he stated that while
the Treasury would probably rather not see the Reserve Banks
give different treatment to member and nonmember banks, "I
do feel that it is really not our business." It does not appear that
the Treasury voiced any objection in ensuing years, and their
acquiescence was given formal expression in the new' provi
sion in the 1966 revision of Circular No. 55 referred to above.

A different way of dealing with the cost of transportation was
developed after passage of the Monetary' Control Act of 1980.
Transportation of currency' and coin was treated as a "priced
service.” For members this meant that, instead of receiving the
service as an unmeasured benefit of membership that served
as partial compensation for sterile reserves, the cost had to be
calculated precisely and charged against specific reserve
account earnings. For nonmembers there was very little differ­
ence between reimbursing the Reserve Bank for the cost and
paying a "price" for a "service"


OF THE 1980’S
Statement of Responsibility


The role of Federal Reserve Banks with respect to the
distribution of currency and coin is stated as follows in the
current Treasury Department Regulation on the subject (CFR
31, Part 00; successor to T.D. Circular No. 55):
"Except for the duties in this respect to be performed by
the Treasurer of the United States and the Director of the
Mint, as may be indicated from time to time by the
Secretary of the Treasury, exchanges of the paper cur
rency and coin of the United States and the distribution
and replacement thereof will, so far as practicable, be
effected through the Federal Reserve banks and branches.
The Federal Reserve banks and branches are authorized
to distribute available supplies of coin and currency to
depository’ institutions, as that term is defined in section
103 of the Monetary Control Act of 1980 (Pub. L 96-221).
As authorized by section 107 of the Act, transportation of
coin and currency and coin wrapping services will be
provided according to a schedule of fees established by
the Board of Governors of the Federal Reserve System.”

The "exchange" and "replacement” functions referred to in
the Regulation apply principally to currency that is “unfit” and
coins that are "uncurrent” as those terms are defined in the
In addition, the Treasury Department has authorized Fed­
eral Reserve Banks to cancel and destroy unfit currency and
has prescribed detailed procedures for the Banks to follow in
performing this function.
A somewhat more complete or comprehensive statement of
responsibility, as perceived by the Federal Reserve itself, might
be that its function is to make available to depository institu­
tions an adequate supply of genuine and fit currency and coin
to meet the needs of the public as a medium of exchange.
Performance of such a mission involves:

(a) panic i pat ion in the process of determining and pro­
ducing an adequate supply;


(b) equitable and impartial distribution to depository’
institutions in response to their orders;
(c) acceptance of unfit and surplus from depository
(d) ' verification and sorting to remove unfit and counter­
feits and assure that currency and coin being redis­
tributed are genuine and fit for funder circulation; and

(e) destruction and/or disposition of unfit and counterfeits.

Adequate Supply — Production Considerations
While it is the responsibility of the Treasury Department to
produce the currency and coin needed by the nation, the
amounts produced annually are based on estimates generated
by the Federal Reserve. These are based in pan on Reserve Bank
experience and familiarity with local conditions. There are
certain limits to the amounts that can be produced in any given
year, most immediately the physical capacity and scheduling
problems of the Treasury's production facilities. The cost of pro­
duction is also a factor to be considered, although it does not
act as directly on the Treasury Department as might be sup­
posed, because the cost of printing Federal Reserve notes is
paid for by the Federal Reserve and the cost of minting coins is
more than recovered when the Federal Reserve pays face value
for the coins that it acquires for distribution. It is in the interest
of the Government to hold production costs down, of course,
because the less the Federal Reserve has to pay for its notes the
more of its net earnings it can return to the Treasury; and the
less the Mint spends to produce coins, the greater the profit it
makes (seignorage) when disposing of them at face value.
Other limits on the supply, less frequently encountered,
include possible problems with raw materials — such as the
scarcity or rising prices of silver (switch to clad coins) and
copper (switch to zinc pennies); and problems with the statu
tory collateral requirement for Federal Reserve notes. Con­
gressional action has been necessary to make several adjust
ments in collateral requirements over the years as the volume
of notes has grown.

Within these limits the Treasury Department and Federal
Reserve work together to make the "available supplies" which
the Reserve Banks are authorized to distribute. Both the Trea-


sury and the Federal Reserve are interested in having ample
supplies in order to avoid embarrassment for failing to meet
what the general public may perceive as a fairly simple respon­
sibility. The job has been more difficult than might appear in
recent years because of steadily increasing amounts of currency
and coin used in the nation’s economy. Instead of moving
toward a “cashless” society, as many have expected and predicted,
records show that per capita amounts in circulation have
grown from $179 in 1950 to $380 in 1975 and $940 in 1987.

Adequate Supply — Denomination Considerations
An adequate supply to meet the needs of the public implies
ample amounts of desired denominations. The specific
denominations in which currency may be produced are gen­
erally indicated by Congress in the enabling legislation. The
Federal Reserve Act provides that the Treasury' "shall have
printed... such quantities of such notes of the denominations
of $ 1, $2, $5, $10, $20, $50, $100, $500, $1,000, $5,000, $ 10,000 as
may be required to supply the Federal Reserve Banks.” As
originally authorized, Federal Reserve notes were limited to
denominations of $5, $10, $20, $50, and $ 100. In 1918 Congress
authorized the larger denominations listed in the above
excerpt from the statute. It was not until 1963, perhaps in
anticipation of the withdrawal of silver certificates, that the $1
and $2 denominations were authorized.

Within the limits set by Congress the Treasury may make
decisions about the denominations that will actually be pro­
duced. In this it is guided by the annual projections made by
the Federal Reserve; these specify'estimated requirements by
denomination. Although denominations up to $10,000 are
allowed by statute, the Treasury has not printed denomina­
tions above $100 for many years; the larger denominations
were discontinued because of their limited use in normal
business transactions and their extensive use for certain crimi­
nal activity and tax evasion. Similarly,the Treasury' has made an
administrative decision to reissue new U.S. notes only in
denominations of $100; this facilitates automated processing
in the Reserve Banks by eliminating smaller denominations of
this different kind of currency' from the stream, and it also
simplifies the task of keeping the prescribed dollar amount of
this kind of currency' in circulation.


Other decisions about denominations include the moves to
revitalize the $2 note in the 1960’s and 1970’s, and the minting
of one dollar coins, both undertaken in an effort to save money
by reducing the volume of $1 notes that must be produced,
distributed, and processed. Congressional action has been
involved in some of these moves. The Federal Reserve is'
usually consulted with respect to denominational changes,
both as to the prospects for public acceptance and as to
possible distribution and processing problems, but its views
are not controlling.

Denomination questions that still receive consideration
from time to time include reintroduction of 11 coins and 12
notes, and elimination of 11 notes and pennies. The cost and
physical problems related to production, distribution, and
processing are important considerations for the Treasury and
Federal Reserve, but the requirements and preferences of the
public count most heavily.

Distribution to All “Depository Institutions”
Before passage of the Monetary Control Act of 1980, the
Treasury Department recognized in Circular No. 55 that Fed­
eral Reserv e Banks need only make distribution to commercial
banks. This constituted a broader access policy'than had been
favored by some Reserve Banks that would have liked to limit
direct access to member banks, but it was more restrictive than
the practice followed by the Subtreasuries when their func­
tions were transferred to the Reserve Banks. Provisions of the
Monetary7 Control .Act broadened the access to include all
“depository institutions." The effect was to add savings banks,
savings and loan associations, and credit unions to commercial
banks as the parties to be served. The impact of this change is
evident from the increase in the number of endpoints served
by Reserve Banks—from P.369 in
to 29,234 in 1988.

While it was clear under the new law that every depository
institution was entitled to order currency and coin from, and
make deposits with, a Federal Reserve Bank, an old problem
remained, namely: how many offices of each institution should
be given access? The problem had an additional dimension in
pre-MCAdays when the cost of transportation was absorbed for
member banks. Then it involved,for member banks, the ques­
tion of how many offices would receive service at Federal


Reserve expense. For years the Reserve Banks were divided on
this question, but the policy' statement adopted by the System
in 1976 provided that one office per municipality should be
given “free” service and additional offices would be served if
the member bank paid the cost of transportation. This approach
could be used for nonmember banks as well: service would be
provided to as many' offices as they were willing to pay for.
Such a pattern was easy to carry forward into the MCA era when
all institutions, members and nonmembers, were required to
pay for transportation as a "priced service.” The only problem
was that there was a much larger number of institutions to
accommodate so that, even though willing to give access to as
many offices as wished to pay for transportation (or provide
their own), a Reserve Bank might find that it did not have the
facilities to handle transactions with all of them.

Distribution to Individual Offices
The “Uniform Cash Service Standards” adopted by the Sys­
tem in 1984 addressed the problem in the following provision
of Section B.l:
“Federal Reserve Banks should offer to make payments
to and receive deposits from all offices of depository
institutions on an equal and impartial basis, without
charge, in accordance with the approved Cash Service
Standards for Federal Reserve Banks and consistent with
their capabilities to provide such service through maxi­
mum utilization of available physical facilities.”

This provision seems to leave open the question of how
uniformity’ can be achieved when the physical facilities of one
Reserve Bank enable it to serve a much larger proportion of
the offices in its District than the physical feci 1 ides of another
Reserve Bank make it possible to serve in the latter’s District.
Uniformity in the level of service in this regard assumes greater
importance as the growth of interstate banking leads to more
and more situations where one depository institution may
have offices in more than one Federal Reserve District,

One helpful factor that tends to limit the number of offices
to be served by' a Federa I Reserve Bank is the practice of some
large banks of maintaining money centers or central cash
vaults which effect exchanges of currency and coin among
numerous offices of the institution. Only the money center


then deals with the Reserve Bank. This practice is cost effective
for the institution as well as advantageous for the Reserve
Bank, and it is encouraged by the Federal Reserve.
The problem of distributing cdin to an increased number of
endpoints has also been eased by the growing practice of
armored carriers of establishing coin centers or depots that
serve as subdistribution points. Coin picked up at one deposi­
tory institution, rather than being delivered to the Reserve
Bank, is taken to the carrier’s depot, verified by weighing bags,
possibly wrapped, and then redelivered to another institution.
Instructions for the redistribution come from the Reserve
Bank, and the necessary' accounting, including adjustments, is
handled by the Reserve Bank.

Frequency of Service
Another element that bears on the adequacy or effective­
ness of distribution is the frequency of service. The 1984
“Uniform Standards’’ contain the following provision:
“B.2 Normal service to each authorized depository insti­
tution or office shall be once per week. Less frequent
service may be called for to certain depository institution
offices where volume and cost do not justify weekly
service. More frequent service than once per week may
be called for to certain depository’ institution offices
where volume and cost justify’the more frequent service.
Such additional service must be provided on an impartial
basis to all similarly situated depository institutions.”
A problem encountered before the MCA. changes was the
request of large city member banks for service as frequent as
daily. Where transportation was paid for by’ the Reserve Banks
the question of actual need for such frequent “free” service
was a difficult one. With transportation now* treated as a
"priced service," it would seem that the pricing mechanism
might serve as a restraint acting directly on the user and
provide some control over and above what the Reserve Bank
might exercise through application of the criteria in the above
quoted provisions, namely, the "volume and cost" justification
and impartial treatment for "all similarly situated depository
institutions." In actual practice, the cost of transportation may
be so modest for an institution located in or near a Federal
Reserve city’ that it does not act as restraint on the frequency
with which service is requested.


Transportation cost, ofcourse, is not the only expense that is
increased with more frequent access. The more frequent
preparation of shipments and processing of receipts also add
to the cost of serving a depository institution that wants access
more often than once a week. A 1986 amendment to the
“Uniform Standards” provides that more frequent access than
the normal weekly service maybe provided by a Reserve Bank
as a priced service (Section C.4.). This seems justifiable in view
of the fact that more frequent access involves service over and
above a basic level that can reasonably be regarded as fulfilling
the Federal Reserve’s fundamental responsibility.

Cost of Transportation
The responsibility for distribution of currency and coin as
delegated by the Treasury’ Department does not include the
providing of transportation. Parties dealing with the Subtreas­
uries came to the counter or used registered mail or express at
their own expense. Reserve Banks undertook to pay the mail
and express costs for member banks after the transfer. Then,
with the advent of armored car service in the 1960’s, Reserve
Banks found it safer, more reliable, and more convenient
(and, in time, more economical) to arrange for deliveries to
member banks by contracting for regular runs by armored car
companies. This was iogical and simple where member banks
were concerned because Reserve Banks were absorbing the
cost as a "benefit of membership.” In time, some nonmember
banks were put on the runs and allowed to reimburse the
Reserve Bank for a proportionate share of the cost. Such
arrangements were advantageous for Reserve Banks because
they made for an orderly system that they could readily control
and helped to minimize traffic at their docks.

.After enactment of the Monetary’ Control Act, armored car
arrangements of the type provided for nonmember banks
could readily be applied to any depository’ institutions which
would reimburse the Reserve Bank for the cost as a "priced
service” (calculated on a somewhat different basis). It was still
advantageous for the Reserve Banks to arrange and control
transportation for the reasons cited above, but such arrange­
ments were not mandatory. Any depository' institution could
make its own arrangements at its own expense if it so desired.
The condition reasonably imposed is that the Reserve Bank
may exercise some control over scheduling. The "Uniform


Standards” address this matter as follows:

“C. 1 The Federal Reserve Banks shall arrange transporta­
tion for the deliveries they consider necessary to meet
their responsibilities. They reserve the right to control
the scheduling of transportation to and from their facili­
ties that may be arranged by depository institutions,

b. The cost of transportation service arranged by the
Federal Reserve for depository institutions shall be
absorbed by the depositors- institutions. The cost of
transportation service arranged by depository institu­
tions shall be their responsibility.”

By the middle to late 1980’s, most depositors' institutions
were arranging their own transportation; in the majority of
Districts, Reserve Banks were not arranging transportation for
any depository institutions. By and large, this situation reflects
the preference of depository' institutions, because they find it
more economical or more cons-enient to function in such a
manner. But it also reflects the feeling of Reserve Banks that
what they can contribute in this area is not very' meaningful or
worth the administrative burden.

Size of Order and Deposit Units
It is generally recognized that an effective distribution system
requires the establishment of some rules regarding ordering
and depositing units and packaging standards. Ifthese are rea­
sonable in terms of the trade and are applied uniformly, they
should satisfy the mandate to make an equitable and impartial
distribution and should not give rise to complaints. A set of
such rules observed by all Reserve Banks is set forth in Section
A of the 198-4 "Uniform Standards" (pars. 3-8 and 13-16). They
are based on decades of experience in dealing with commer
cial banks and are generally accepted as effective means for
handling transactions of this type. Nevertheless, some requests
have arisen for special packaging or ordering depositing units.

One such request that goes back many years is for coins to
be supplied wrapped instead of in bags Reserve Bank
responses to this request differed in pre MCA days. Some
declined to provide the wrapping service; (ithers did provide it
at a cost—even to members—that may have been below their
own true costs; and still others made arrangements for the


coin to be wrapped en route by the carrier or another contrac­
tor. It had never been possible to get sufficient agreement to
adopt a uniform policy. It was clear to all that this service was
beyond the basic responsibility for distribution. After enact­
ment of the Monetary Control Act, coin wrapping was desig­
nated an optional “priced service” and provided for in Section
C of the “Uniform Standards” as follows:

"2. The Federal Reserve Banks that wish to provide
wrapped coin service may do so directly or may arrange
for coin wrapping service through a second party."

Only a small number of Reserve Banks are offering wrapped
coin service under this provision.
Requests are also sometimes made to receive or deposit
currency and or coin in smaller than standard units. In 1986
the "Uniform Standards” were amended to respond to such
requests by providing for transactions in nonstandard units as
a "priced service” to be offered at the option of a Reserve Bank.
The following provision was added to Section C:

"3. The Federal Reserve Banks that wish to provide
and/or accept cash in nonstandard units, as defined in
“Section A, Nonpriced Services,” may do so as a priced
service. The basic units (Section A paragraphs 7, 8, and
15) will, however, continue to be provided free."

Acceptance of Surplus Currency and Coin
Surplus currency and coin are accepted from depository
institutions in order to avoid imposing on them an undue
burden (in the form of storage costs and/or the maintenance
of nonearning assets) as well as to make available to other
institutions supplies that are in excess of the needs of the
depositing institutions. The basic policy in this regard is set
forth in Section A of the 1984 "Uniform Standards,” as follows:

"2. The Federal Reserve Banks shall accept deposits of
reusable currency and coin when a depository institution
accumulates a surplus that cannot reasonably be stored
or disposed of by direct exchange with other depository
As observed earlier, the capacity for contraction as well as
expansion is an important element of an elastic currency.
Contraction is generally thought of, however, as a longer term


phenomenon—a flowback of currency on a seasonal or cycli­
cal basis from an economy that no longer needs it. It is
believed that it was this kind of contraction that Federal
Reserve notes were designed to meet. They have performed
very well in that regard, both as a supplemental currency at the
outset and later as the primary currency.
The flowback can be very short-term, however, particularly
when the vault facilities of depository institutions are inade­
quate to hold an inventory for a relatively short time until it is
needed again by the institution’s customers. This leads to what
may be regarded as unnecessarily frequent deposits in the
Reserve Bank — causing excessive receiving and processing
and reshipping costs. This short deposit/withdrawal cycle wasa
subject of complaint on the part of the Subtreasuries, and it has
posed a problem for Reserve Banks for many years. To some
extent it has been aggravated by the extension of service to all
depository institutions, because many thrifts and credit unions
lack adequate vault facilities. The difficult question is how to
achieve a longer time horizon for deposits of surplus without
imposing an excessive burden on the depository institutions.

As noted earlier, there are already two constraints that
should serve to limit the frequency' of deposits, namely, the
requirements that the depositor pay' for the cost of transporta­
tion and for the cost of more frequent access than the normal
ievel of service. In addition, an administrative rule has been
adopted to prohibit "cross shipments.” It is stated as follows in
Section A of the 1984 “Uniform Standards":

"9. Cross shipment (deposit of excess fit currency and
reorder of the same denomination within five business
days) should be eliminated at the depositing office level,
and minimized, or eliminated where practicable, at the
depository institution level.”

This provision is aimed directly at the very short-term
deposit/reorder problem. The automation of records has made
it feasible for Reserve Banks to analyze order and deposit
records and achieve enforcement. A five-day rule may seem
arbitrary; and possibly discriminatory, to a small number of
institutions, but in the larger sense of the Federal Reserve's
responsibilities it appears toconstitute a reasonable restriction.
It does not interfere in any' sense with the elasticity' of the
nation's currency, and it is in accord with the objective of


minimizing currency and coin distribution and handling costs
for both the Federal Reserve and society at large.

Reserve Banks make an effort to minimize the short-term sur­
plus problem for both themselves and the depository institu­
tions by undertaking to arrange exchanges between depository
institutions. This policy is set forth in the second section of
paragraph 2 of Section A of the “Uniform Standards” as follows:
“To facilitate and encourage exchanges, the Federal
Reserve Banks shall analyze order and deposit patterns
and shall make efforts to arrange and implement costeffective inter- or intra-depository institution exchanges.”

In addition, the arrangements made by carriers for redistri­
buting coin from their own depots, as described earlier, help
in reducing the flow in and out of Reserve Banks.

Verification and Sorting — Nature of Responsibility
It is an important responsibility of the Reserve Banks to
assure that the currency' and coin being redistributed are
genuine and fit for recirculation. The verification and sorting
operations are designed to accomplish this.
From the earliest days after the transfer of Subtreasury func­
tions the Treasury provided instructions and oversight for
these operations. In 1921 it gave the Reserve Banks a lengthy
written “standard of fitness” for currency', and it has performed
periodic inspections in the ensuing years, before the installa­
tion of the automated equipment. The Regulation issued in
1982 (referred to at the opening of this section) provides a
description of unfit currency as currency "that is unfit for
further circulation because of its physical condition such as
torn, dirty’, iimp, worn or defaced.” It also provides a descrip­
tion of “uncurrent” coins as “whole U.S. coins which are
merely worn or reduced in weight by natural abrasion yet are
readily and clearly recognizable as to genuineness and
denomination and which are machine countable." The Trea­
sury wishes the Reserve Banks to withdraw the “unfit" notes
and “uncurrent" coins from circulation, giving full value there­
for to the depositor. Currencythat is “mutilated" and coins that
are “bent," "partial," or “fused" should not be sent to Federal
Reserve Banks but direct to the Treasury’.
The continued participation of the Treasury stems from its


basic responsibility for the nation’s currency and coinage, as
delegated by Congress. Its interests are at least twofold: to
provide a consistently good quality to the public that will not
be difficult or unpleasant to handle and will survive a certain
amount of further circulation, and to avoid premature destruc­
tion of notes that would lead to unnecessary replacement costs.
The Federa] Reserve has similar reasons for its interest in the
standard of fitness, but may have additional concerns in that —

(a) it is more directly concerned with public satisfaction
because it is generally known to be the sorting agent;
(b) it has direct links with the depository institutions that
hear public complaints and have some requirements
of their own; and

fe) it wishes to minimize the costs associated with the
sorting operation.

Verification and Sorting — Automated Equipment
The development of automated verification and sorting
equipment for currency in the 1970’s, which was designed to
reduce the operating costs of the Reserve Banks, had another
impact on the sorting process in that the machine sensors did
not do as complete a job of culling unfit as the hand sorting
operation. (They primarily sensed soil and were not fully
effective in detecting limpness, tears, and holes). Asa result of
this fact and an interim period of operations when package
sorting procedures were combined with high speed counting
methods, the quality of currency being recirculated fell below
desired standards. Improvements in fitness detection tech
nology have been expected from the beginning, however, and
are being made, so that the quality of recirculated notes should
be less and less of a problem in this respect.
A significant ad\antage of the automated sorting process is
the potential for obtaining objectively measurable levels of
fitness that are relatively uniform on all machines. A given level
can then be selected as a standard for the System, The tuning is
set fine that it gives rise to a debate as to which setting to select
in order to provide the quality of currency that will best satisfy
the public, the depository institutions, and the cost and other
constraints related to production of replacements for the cur
rency declared unfit.


Verification and Sorting — Quality Questions
A factor in the decisions about quality is the need, or
perceived need, of some depository institutions for new cur­
rency or currency' of a higher quality than the general level
being recirculated by Reserve Banks in order to meet certain
specific purposes. The most conspicuous of these is the need
for a good quality of currency for use in automated teller
machines. In the early stages ofATM’s it was believed that new
or nearly new currency was required, but technological
advances, consultations with machine manufacturers and
depository institutions, and special Federal Reserve tests and
studies have resulted in a consensus among Federal Reserve
officials that the quality of currency being recirculated can be
used effectively in ATM’s and is satisfactory for other normal
business transactions. Nevertheless, some demand for a
higher quality persists.
The requests of some depository institutions for new or
higher quality currency' have raised the question whether
Reserve Banks could supply such currency as a “priced ser
vice.” In the past the policy with respect to new currency has
been that it will be paid out only after supplies of reusable
currency are exhausted and then apportioned equitably and
impartially to those who want it. In the 1984 “Uniform Stan­
dards” a modification of this policy' has been adopted. It is
stated as follows in paragraph l.b. of Section A;
"Reserve Banks shall normally pay out reusable currency
and coin ofa given denomination before new supplies are
used. To achieve an even calendar distribution of supplies
of new currency, Reserve Banks may periodically pay' out
new currency at times when fit currency' is on hand.”

The offering of new currency' as a “priced service” appears
inconsistent with Federal Reserve responsibilities in that it
would allow the market to determine the distribution of a
scarce commodity' that it is the responsibility of the Reserve
Banks to distribute “equitably and impartially ” Moreover, the
offering of new currency does not involve a “service” that
requires special effort or cost on the part ofa Reserve Bank that
could be “priced." The question was investigated by a “Study
Group" appointed by the Subcommittee on Cash Services in
1982; and the conclusion was reached that the distribution of
new currency should not be a priced service. This is the


present position of the Federal Reserve.

A similar question is whether currency that has been
machine sorted to a higher level of fitness than that used for
normal payouts should be offered to depository institutions
for a price. In this instance, a “service" in the form of a special
sort and special handling would be involved, and a cost could
probably be attributed to it. In this regard the providing of
“superfit” currency as a "priced service” could be rationalized
more readily than the providing of new currency. Moreover,
the supply would not be limited to the same extent as new
currency. There are other considerations, however, notably
the impact of this skimming on the overall quality of straps of
currency sorted to normal standards; also whether it is consis­
tent with Federal Reserve responsibilities — or fair to the
general public — to "sell” the currency in the best condition to
parties who are willing to pay for it and, in the process, give a
generally lower quality to the others.

An aspect of the q uality q uestion that occasi onally comes to
the fore is the very poor condition of currency' in some rural
areas and ethnic or other cultural or economic pockets. Gen­
erally, this is not the result of the recirculating of low quality'
money by a Reserve Bank, but a reflection of local patterns
whereby currency circulates extensively among individuals
without being deposited in a depository' institution, or if so
deposited, is not being sorted and/or returned to a Federal
Reserve Bank by the depository institution. It would be
beyond the normal function ofa Reserve Bank, and beyond its
traditional responsibility', to undertake initiatives to remedy
this type of situation. Case studies of some particular situa­
tions, however, might suggest possible remedies in which it
would be appropriate for a Reserve Bank to participate.

Verification and Sorting — Note Design as a Factor
A question related to the sorting of currency is whether
design changes could facilitate or improve the process. Basi­
cally, design is the province of the Treasury and Congress. The
Federal Reserve Act specifically provides with respect to Fed­
eral Reserve notes that they "shall be in form and tenor as
directed by the Secretary of the Treasury." Congress was the
source of this authority and may, of course, override it or
intrude in the process as it did when it mandated the addition
of the legend "In God We Trust." Nevertheless, the Federal


Reserve also has an interest and provides input. The principal
interest at this stage involves such items as —

(a) design to facilitate machine reading of denomination;
(b) composition of paper for good machine handling,
long life, and ready destruction and disposition of
residue without environmental consequences; and

(c) design or composition features that will facilitate
effective detection of counterfeits.
Close cooperation with the Treasury Department in these
areas is particularly important.

Verification and Sorting — Counterfeit Detection
An important pan of the Federal Reserve function in con­
nection with recirculating currency is to detect and remove
counterfeits. In recent years a great deal of effort has been
devoted to the development of capability in the automated
equipment to detect and outson counterfeit notes; also to the
redesign of currency in order to make counterfeits more read­
ily and surely detectable by machine. There is an urgency to
these efforts because advances in copying technology have
made small-scale as weli as large-scale duplicating of notes
easier for criminally inclined members of the public.

The basic responsibility' for protecting the public and the
government from the counterfeit threat lies with the Treasury
Department — particularly the Bureau of Engraving and Print­
ing and the Secret Service. The following statutory provision
relates specifically to Federal Reserve notes:
“In order to furnish suitable notes for circulation as
Federal Reserve notes, the Comptroller of the Currency'
shall, under the direction of the Secretary of the Treasury;
cause plates and dies to be engraved in the best manner
to guard against counterfeits and fraudulent alterations,
and shall have printed therefrom ... ”

Notwithstanding the Treasury's statutory' responsibilities, the
Federal Reserve has a substantial interest in the matter because
of the public expectation that it will prevent counterfeits from
recirculating. It is important that the Treasury and the Federal
Reserve coordinate their efforts in this area and that the Fed­
era! Reserve have substantial input.


Verification and Sorting — Coin

The verification and sorting of coin — as opposed to cur­
rency — is a relatively minor function because of the low
incidence of worn, damaged and counterfeit pieces. Coins that
are unacceptable for further circulation can be detected and
withdrawn in the course of normal handling by depository
institutions or the wrapping operation conducted by such
institutions or third party contractors. The act of doing so is
simple, and the consequences of failing to do so in normal
circumstances are relatively small. The minor importance of the
function makes it tolerable for coin to be recirculated on a
large scale from the coin depots of carriers instead of being
returned to a Reserve Bank.

Destruction of Currency and Disposition of Residue
From the outset, control of the destruction of unfit Federal
Reserve notes (as well as other kinds of U.S. currency') has been
the province of the Treasury Department. The original
provisions of the Federal Reserve Act required that “notes unfit
for further circulation shall be returned by the Federal Reserve
agents to the Comptroller of the Currency’ for cancellation and
destruction." This provision was amended in 1966 to provide
that such notes “shall be cancelled, destroyed, and accounted
for under procedures prescribed and at locations designated by
the Secretary of the Treasury'.” Pursuant to the amended
provision. Federal Reserve Banks w'ere permitted to destroy’
notes on their own premises, but this operation was per­
formed under very strict Treasury Department procedures by
Fiscal Agency personnel to whom Cash Department personnel
transferred the unfit currency. Multiple complex steps were
followed for physically cancelling the notes, cutting them in
two, and destroying the lower and upper halves separately.
Destruction was accomplished by maceration or burning
followed by examination of the residue to make sure no
identifiable fragments remained.
A change came about with development of the automated
currency verification and sorting equipment in the 1970's. The
new machine had the capability to perform on-line shredding
of the notes that it identified as unfit. This opened up the
possibility of completely eliminating the separate handling of
unfit notes and the complex pnxedures designed to ensure
security and complete destruction. The simplicity, economy,


and effectiveness of this method led the Treasury to relax what
had been a much stricter set of procedures under their control
and approve on-line destruction.
Shredded residue flows automatically from the machines to
containers whose contents can be hauled away as trash or sold
to parties who use the material*in various commercial or
industrial undertakings. The Treasury' requires prior approval
for release by a Federal Reserve Bank to parties who wish to
use the residue in novelties but not for release to waste
collectors or companies that will recycle it into some useful
product. The release is governed by a written contract in all
cases, and restrictions are imposed on the use of the residue
— notably prohibitions against the manufacture of any paper
suitable for commercial printing or any product intended as a
container for food or drink.

An unexpected development has been the objection raised
recently by environmental authorities to the dumping of cur­
rency residue at waste sites or landfills because of surviving
contaminants in the ink. This presents a problem as yet unre­
solved, and serves to nullify one benefit of shredding by the
automated equipment — namely, avoidance of the smoke
hazard from currency burning that was found objectionable by
environmental authorities in a number of Federal Reserve
cities in the 1960's. Among the solutions under consideration
is a change in the materials originally used in producing the
Under the aforementioned statutory' provision the Treasury'
continues to have general oversight and control of the whole
process, Having panicipated in the design and appoved the
automated equipment, it provides, in addition to the rules
governing destruction, a certain amount of oversight through
periodic inspection of the machine performance and the con­
duct of the operation by Cash Department personnel of the
Federal Reserve Banks