GUARANTEE OF BANK DEPOSITS.

The Democratic platform of 1908 pledges the party to legislation under which the national banks shall be required to establish a guarantee fund for the prompt payment of depositors of any insolvent national bank, and making the system available to all other banks desiring to join in such plan. The plank, which is heralded in Mr. Bryan's "Commoner" as being based upon a bill introduced in Congress by Mr. Bryan when a member of that body, is as follows:

"We pledge ourselves to legislation under which the national banks shall be required to establish a guarantee fund for the prompt payment of the depositors of any insolvent national bank, under an equitable system which shall be available to all State banking institutions wishing to use it. We favor a postal savings bank if the guaranteed bank cannot be secured."

No feature of the Democratic platform met a more vigorous and scathing denunciation at the hands of Mr. Taft in his speech of acceptance than did this proposition, which he declared, if adopted exactly as the platform suggests, would "bring the whole banking system of the country down in ruin." His discussion of the proposition on that occasion was as follows:

"The Democratic platform recommends a tax upon national banks and upon such State banks as may come in, in the nature of enforced insurance, to raise a guaranty fund to pay the depositors of any bank which fails. How State banks can be included in such a scheme under the Constitution is left in the twilight zone of State's rights and federalism so frequently dimming the meaning and purpose of the promises of the platform. If they come in under such a system, they must necessarily be brought within the closest national control, and so they must really cease to be State banks and become national banks. The proposition is to tax the honest and prudent banker to make up for the dishonesty and imprudence of others. No one can foresee the burden which under this system would be imposed upon the sound and conservative bankers of the country by this obligation to make good, the losses caused by the reckless, speculative and dishonest men who would be enabled to secure deposits under such a system on the faith of the proposed insurance; as in its present shape the proposal would remove all safeguards against recklessness in banking, and the chief, and in the end probably the only, benefit would accrue to the speculator, who would be delighted to enter the banking business when it was certain that he could enjoy any profit that would accrue, while the risk would have to be assumed by his honest and hard-working fellow. In short, the proposal is wholly impracticable unless it is to be accompanied by a complete revolution in our banking system, with a supervision so close as practically to create a government bank. If the proposal were adopted exactly as the Democratic platform suggests it would bring the whole banking system of the country down in ruin, and this proposal is itself an excellent illustration of the fitness for national control of a party which will commit itself to a scheme of this nature without the slightest sense of responsibility for the practical operation of the law proposed. The Democratic party announces its adhesion to this plan, and only recommends the tried system of postal savings banks as an alternative if the new experimental panacea is not available."

How the Plan Would Work Out in Practice.

The proposition to tax banks to secure deposits is a financial chimera like that talked in 1896, when it was solemnly held by a great party that the price of wheat was governed by the volume of currency, and also that the price of silver governed the price of grain, fallacies which even the dozen years since that time have so ruthlessly exposed that the Democratic platforms of 1904 and 1908 have been silent on the subject.

What is the usual inducement to establish a bank? It is the need of banking facilities in the community, and the belief that, if properly conducted, it will be profitable to its proprietors and beneficial to the community. The bank, to pay, must add to its profits by loaning its deposits, as well as the money originally invested by its shareholders.

Interest Deposits are one Form of Investment.

The inducements for making deposits are various. Some deposit simply for the safe-keeping of their money to be used for. domestic purposes or for limited business. These depositors are

of but little advantage to the bank and expect but little. Their deposit is called an inactive account. Others make deposits with an agreement that they shall receive a specified rate of interest thereon-either time deposits at 3% or 4%, or on daily balances

2%.

The depositor who by making these deposits loans his money to the bank on time in fact invests his funds in the bank at, say, 3% per annum. He deems this better than other investments, because he is not subject to fluctuation in prices as he would be did he purchase securities in the market. He has prospect of quite as good a return, and is reasonably sure of having his money back without loss at maturity. To guarantee this class of depositors, as proposed by the Democratic platform, the bank would be obliged to tax itself, not only to pay an interest on his deposits, but to insure his investment, which is a dual capacity and responsibility that no wise business man would deem either conservative or safe.

The persons or firms who make the largest deposits are those who deposit for business purposes. They naturally expect reciprocal benefit in the way of loans on their notes or on security acceptable to the bank. It may be, and it usually is, that such a depositor has his credit greatly increased by the addition to his bank account of the proceeds of these discounted notes. His balance is not represented so much by monetary deposits as by this credit which the bank has extended him. Why, then, should the shareholders of a bank be compelled to tax themselves to guarantee a credit deposit that they have extended to the customer of the bank. A man investing his funds in a corporation does not expect that the purchase price paid for its securities will be guaranteed to him by the corporation. He takes the chances of loss or gain. Why should there be a difference in the business principle that governs a bank and that governing any other business corporation? This would be class legislation of a demoralizing type. The proposition to guarantee deposits is confined to commercial banks or banks of discount and deposit. Savings banks are not included therein. Why should this exception be made?

Why not Guarantee Other Forms of Savings Investment?

It is important to have in mind that the larger portion of the people keep no commercial bank account. Their savings, which they depend on in cases of misfortune or death, are invested in life insurance companies, annuities, mutual benefit associations, savings banks, etc. If the public welfare is to be considered fairly, why should not the Government guarantee investments in these enterprises, as well as investments in banks made mainly for selfish purposes, accommodation or gain? Why should a bank that performs the function of distributing credits and currency assets of a country be any more safely guarded than enterprises patronized by the poorer class of people?

Among the various kinds of business, the greatest earning power of the people comes from agriculture, railroad and steamboat transportation, manufacturing and mining. These enter-' prises are owned by a great number of people as shareholders, and large numbers of persons are given employment by them. If protection is to be given to the banking interests and insurance against loss to preserve confidence, why should not some share of protection be afforded to agricultural interests that banking accommodations be had whereby in times of panic they need not be obliged to sell their products at ruinous prices? Why should not shareholders in railroad and steamboat transportation companies, involving the investment of billions of dollars, be safeguarded by protective legislation? Why should the manufacturer be obliged to shut down his business and throw thousands of people out of employment? This affects (in a calamitous way) more homes than would be affected by loss on deposits.

Mr. Bryan claims that his aim is to protect the masses. His argument for the guarantee of bank deposits would affect a class -and, as a rule, the richer class, for not many laborers have even the spare money to keep an active bank account.

Bank Notes vs. Bank Deposits.

The argument is frequently made that the man who holds national bank notes is secured by a guarantee of the Government, because it requires that bonds be deposited with the Treasury Department before the bank notes may be issued. Why, it is asked, should there be favoritism? It must be remembered, however, that the relation of the depositor to his bank is far more intimate than of the billholder to the bank issuing the bills which he receives, since the billholders are scattered widely over the continent, perhaps over the commercial world. The billholders are obliged to receive bank notes issued by banks distant from their places of residence, and of which they can know nothing, since this class of currency constitutes a great part of the money, whereby they can carry on business transactions; and the acceptance of that medium is in a way compulsory. They have but little means of knowing the resources of a bank, the manner in which its business is managed, while the depositor is in close touch. It by no means follows that because of this system in behalf of the bank note holder the Government should also guarantee the depositor. The relations of the two classes of men are vastly different. The officials of the banks and the depositors come together in mutual interest, but it is a different interest from that of the bill-holder, which is only transitory and sometimes a momentary interest. It was the great scheme of Secretary Chase to protect the bill-holders who were unfavorably placed to protect themselves.

The Experiment has been Tried and the Result was

Disastrous.

We are not entirely without experience in the matter of guaranteeing bank deposits. The .experiment was tried in the State of New York in 1829, during Governor Van Buren's administration, under the act known as the Safety Fund System.

This law grew out of remarkable conditions in the banking experience of the State. Governor Van Buren, in his message of that year, called attention to the fact that the charter of 31 of the 40 incorporated banks, among them eight large New York city banks, would expire within four years.

There had been a great monopoly in banking and the control of it had been maintained largely through influence exerted in political affairs. The banks were opposed to any new legal restrictions on their former freedom to issue unlimited quantities of bank notes or increase their reserve of specie. The public insisted on the legal control of bank note issues, by requiring all note issues to be registered at the Comptroller's office, and that a stricter regulation and a larger reserve of specie be maintained. Public excitement ran high. The banks took an open hand in electing assemblymen favorable to their interests, and also joined forces with promoters of internal improvements to secure from their friends sufficient votes to insure the renewal of their charters without burdensome conditions. It is said that on the part of the banks, a reciprocal return was to be made by assisting the promoters of internal improvements, in financing some of their enterprises, provided the vote was successful.

The new constitution of 1821 required a two-thirds vote in the legislature to secure incorporation of new banks or renewal of charters of the existing banks. When a vote was taken on the question, the bankers' combination, to their great amazement, were defeated by only one or two votes. This defeat paved the way for a new banking system.

Governor Van Buren had outlined in his message his plan, known as the Safety Fund Law. It was suggested to him and worked out by Judge Joshua Forman, of Syracuse, N. Y. Its provisions were mainly designed to insure protection to the billholders and check the spirit of reckless banking speculation in wildcat enterprises. Among its provisions was that a tax of 1⁄2 to 1% be levied annually on the capital stock paid in until 3% of the bank's capital had been collected. This sum was to be deposited with the Comptroller and invested and laid aside to protect the bill-holders of failed or liquidating banks.

One of the great defects in the system was that the fund was not to be used until the assets of the failed bank had been exhausted and the deficiency determined by winding up the bank's affairs. This defect in the law was made apparent to the legislature on the failure of five banks, three of which were in the city of Buffalo, and in order to prevent depreciation and loss to the bill-holder, an amendment was made to the law, in 1837, authorizing the Comptroller to pay immediately the notes of the failed bank whenever the liabilities of the bank did not exceed two-thirds of the amount of the safety fund.

There were no more failures until 1840 to 1842, at which time there were 90 banks in operation under the safety system and 12 outside. The failure in this period of 11 banks greatly reduced the money in the safety fund. A test case was made in 1840, by the Wayne County Bank, of Palmyra, N. Y. The court construed this law to mean liability to the depositor as well as to the billholder. This feature of the law was not generally understood by the public or the banks, and came as a great shock. As soon as the decision became known that depositors, as well as billholders, were protected by the safety fund, a reckless spirit of investing in bank stocks seemed to prevail. A fictitious cred t was thereby given to the banks, which was used by inexperienced, rash and dishonest men most injudiciously in contracting debts in wild speculative adventures. Through this bad management the safety fund, which at one time had accumulated to nearly two million dollars, became insolvent.

The decision to combine protection to the bill-holder and depositors was so vast and tremendous in its responsibilities that the public demanded the repeal of the law, in 1842, by confining the responsibility of the fund to bank notes alone.

Hon. Millard Fillmore, then State Comptroller, said:

"It is apparent that the safety fund system would have proved an ample indemnity to the bill-holder had it not been applied to the payment of other debts (depositors) than those due for circulation."

Since that time there has been no attempt on the part of advocates of the guaranty of bank deposits in New York to secure any enactment to provide for the insurance of bank deposits, and it was not until the passage of such a law recently in Oklahoma that this subject was again brought prominently before the public.

The free banking act of New York, passed in 1838, provided for the security of the bill-holder by the registration of all bank issues and a security of stock and bonds deposited with the Comptroller. On these bank notes, the fact that the holders were secured was printed on the face of the notes.

Safety of Present System.

It should be borne in mind that under the present National Banking System, during the past 42 years, the loss to depositors has not exceeded 1/26th of one per cent per annum.

In many of the bills introduced in the recent Congress providing for the guarantee of bank deposits, the argument was made that if deposits should be guaranteed, future panics would be prevented; and that was of such serious importance as to justify extraordinary legislation. It was claimed that the Government had the same right and power to compel national banks to submit to a tax to guarantee deposits as the Government had to tax banks for the circulation of its bank notes. They failed to observe that there is no principle in law that will justify the taxing of one person (the shareholder) for another (the depositor).

No Such Plan Known to the Business World.

Attention is being called just now to the financial systems of the whole world, but no case has been shown where the depositors in banks, outside of the usual liability of the stockholders, are guaranteed against the loss of their deposits. If we are trying to follow the successful experience of the world in finance, why not heed this object lesson?

Prof. J. Laurence Laughlin, of the University of Chicago, in Scribner's, July, 1908.]

'The existence of complicated monetary and banking problems, understood by only a few, furnishes the opportunity for professional politicians to bring forward measures which may appeal to the private interests of one class against another, but which show utter want of analysis and ignorance of fundamental principles.

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Of such a character was the "rag baby" of Greenback days, or the free coinage of silver of more recent memory; and the last member to be added to this motly collection is the guaranty of bank deposits. Its appearance at this moment, soon after a financial crisis, follows the usual sequence of freak schemes in the wake of a business disturbance.* * Superficial thinking as to panics, and little understanding of the actual operation of banks, have provided a soil in which the proposal for a guaranty of bank deposits may take quick root.

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The purpose of the scheme is to distribute the losses to depositors arising from bank failures among a large number of banks, instead of allowing them to fall on the innocent depositors who are not responsible for them. To this end it is proposed to levy a tax on the bankers to create a fund which, in charge of the National Treasury, shall be used to pay off at once the claims of depositors in insolvent banks. Some advocate the guaranty of the Government, others lay the whole burden on the banks, aided, perhaps, by an initial grant from the Government. * *

In proposing to guarantee depositors in general, there is an obvious lack of discrimination in failing to distinguish between deposits in savings banks, whose assets must necessarily be of an investment character, and depositors engaged in active business, who keep checking accounts at commercial banks, which must always keep assets in cash sufficient to meet normal demand requirements. * * * * * * The protection for depositors in savings banks (or small private banks) is a wholly different problem from one dealing with commercial banks. It is for this first class that Government postal banks are suggested as offering absolute safety. * *

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The real question, therefore, has to do with commercial banks, such as our national banks, and some of those created by the States; for the trust companies and State banks, while carrying on savings departments, actively strive for the business of commercial banks, and cannot by any means be ignored. * Because the national banks issue notes, the insurance of these notes by a guaranty fund, providing for their immediate redemption, has been generally admitted as desirable and feasible; although their ultimate redemption is secured by a first lien on assets by the deposit of bonds. If, then, the insurance of the note-holder is regarded as necessary, why not extend the same idea to the depositors? There is, however, a wide difference in the position of a note-holder and the depositor. When a demand liability of a bank, in the form of a note, comes to be used as money, and is passed from hand to hand by buyers and sellers who have no knowledge whatever of the standing of the issuing bank, it must have universal acceptability. * * It is quite otherwise with the deposit. While the note performs a general and social function, the deposit arises solely from a personal and voluntary act. The depositor selects his own bank and takes the risks implied in a voluntary choice, thus becoming responsible for his act, just as any one does when he gives credit to a buyer or lets a house. Consequently, the reasons for a guaranty of the notes are obvious; while they would have no application to the guaranty of deposits. *

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A depositor is, of course, a creditor of a bank; that is, the relation of a depositor to a bank is only one of many other relations existing between creditor and debtor. Is there anything peculiar in the case of the depositor which sets him apart from all other creditors who have voluntarily entered into a creditor relation, and which entitles him alone to protection against the consequences of his own acts? If one sort of creditor