CHAP. IX.

SCOTCH BANKING. REGULATION BY FOREIGN EXCHANGES, AND DISTINCTION BETWEEN CAPITAL AND CURRENCY.

The evidence of Mr. Alexander Blair, treasurer and manager of the Bank of Scotland, which is the oldest of the chartered banks, having been established in 1695, and which appears to be conducted with great ability and prudence, is full of valuable information as to the machinery and working of the Scotch sys- tem of banking.

He mentions a curious fact relating to the mode in which the balances resulting from the exchanges twice a week among the banks are adjusted by the means of exchequer bills which, to the amount of 450,000 l., they hold for that express purpose. Here we have exchequer bills answering all the purposes that Bank of England notes at the clearing house in London do.

Mr. Blair also states that seven millions in amount of notes is found to be requisite in order to keep up an average circulation of three millions, a very curious fact, as it appears that the stamp duty is paid upon the whole stock, whether in the hands of the public or within the walls of the banks, and that the whole amount is out in circulation for a few days at two seasons of the year.

It is stated, moreover, upon the same authority, that the total amount of deposits which, in 1826, was computed to be about twenty-one millions, had in 1841 reached to about twenty-seven millions.

It is a remarkable circumstance that, while there has been a great extension of banking capital, and of banking accommodation, and of banking competition, in Scotland since 1826, the amount of the aggregate circulation has considerably diminished. What a commentary upon the received doctrine of the power of banks to increase their issues of paper money as suits their interests or convenience; and that it is the effect of the competition of banks of issue to create a vast mass of worthless paper.

Mr. Blair gave the following statement of the in- crease of banking accommodation in Scotland:

"There are about 380 bank offices in Scotland, of which 348 are branches. The population may be stated at 2,500,000; thus there is one bank for every 6600 individuals.

"There were in 1825, 167 offices, of which 133 were branch banks. The population being then 2,200,000, there was one bank to every 13,170 individuals.

"The amount of notes exchanged per annum by the banks of Scotland is believed to be not under 100,000,000 l. delivered, and 100,000,000 l. received. The Bank of Scotland alone delivers 10,000,000 l., and receives in exchange as much."

But the immediate purpose of my reference to the evidence of Mr. Blair and other managers of the Scotch banks, is to show that they do not and cannot regulate their circulation by the foreign exchanges; and that, when they make advances, it is out of their capital or that of their depositors, without any direct influence on their circulation; that they attend to the conduct of the Bank of England in regulating their advances, which, however, have no immediate influence on their circulation.

Mr. Blair was asked by the chairman,

Do you conceive that the amount of notes in circulation should be regulated in any way with reference to the state of the foreign exchanges? I conceive that the loans and discounts of banks should be regulated with reference to the state of the foreign exchanges, but I would not consider it necessary to regulate the circulation by the foreign exchanges.

1879. (Mr. Grote.) Then, is it your opinion that, at the same time when the Bank of England is contracting its circulation, for the purpose of correcting an unfavourable exchange, the provincial banks should proceed in the same track, and contract their circulation also?

I think that they should consider the action of the Bank of England, at that time, with reference to their general rules of discount. I would beg to leave the circulation out of the question; I would say that the banks should look to the amount of their loans and discounts under such circumstances; and, at the same time, I would say, that the Bank (of England) should keep a large reserve, to be determined by their past experience and observation, for which, to the extent it is held for public account, they should receive compensation.

1880. Then, is it your opinion, that at a period when the exchanges are unfavourable, and the Bank of England are contracting their circulation, the provincial banks ought to be more cautious in granting loans and discounts than they were before?

Certainly.

1881. (Sir J. R. Reid.) Does your bank act upon that principle?

It does.

The examinations, however, of Mr. Kennedy, manager of the Ayrshire Bank, and. of Mr. Anderson, of the Glasgow Union Banking Company, went more particularly to the question of the distinction between capital and currency; and their evidence is calculated to throw great light on this point.

Mr. Kennedy is asked :

2092. (Mr. Grote.) You stated that the causes affecting the quantity of your notes which were out in circulation at any time, were, in your opinion, independent of the action of the foreign exchanges?

I did.

2093. But you also stated that at the time when the foreign exchanges were unfavourable, and when there was a pressure upon the money market, you thought it imperative, as a measure of prudence, to realise some of your reserves to call in funds from Edinburgh or London?

Yes, that is an accurate representation.

2094. Then do you not think that that act of yours, in bringing into your country funds realised in Edinburgh or London is, in point of fact, tantamount to your acquiring for yourself a certain portion of the London currency or the Edinburgh currency, inasmuch as the local increase of your currency is not at that moment tantamount to the increase of the aggregate currency of the country?

But we do not bring into our country the Edinburgh or London money. The diminution of our reserves takes place in this way: parties have payments to make in Edinburgh or London or other places, and we draw upon our reserves there to meet those payments, but we do not bring down gold or Bank of England notes from the London market in order to pay them away in our country.

2095. Though you may not actually bring down gold or Bank of England notes, is not the effect of your diminishing the amount of your reserve in Edinburgh and London, and increasing by that means the advances to certain local bor- rowers, tantamount to bringing down so much of the Edinburgh or London currency into your locality?

I cannot see that I bring any currency down; it is merely a payment made in London, or in Edinburgh, from one party to another.

2096. Will you describe in what way your reserves are usually kept?

In easy negociable securities, such as exchequer bills and short-dated bills of exchange, money lying in our banker's hands in London, and in other parties' hands in London, and money lying in our agents' hands in Edinburgh and Glasgow, and other places.

2097. Suppose you sell so many thousand exchequer bills either in London or in Edinburgh, of course the proceeds of those exchequer bills are placed to the credit of your agent, whether your Edinburgh agent or your London agent?

Yes.

2098. In that case, when you direct those funds to be paid out, you do in point of fact dispose of an equal amount of London currency or of Edinburgh currency for the purposes of your bank?

Yes.

2099. Then, in point of fact, do you not consider that you are enabled by means of that portion of the London currency or the Edinburgh currency of which you thus acquire the disposal, to obtain a certain increase of the amount of notes in your own district, and does not that, in point of fact, occasion a certain diminution in the London or the Edinburgh currency which may be set against the increase of your own local issues at the time?

But when I give a draft upon the London agent I do not in consequence of the increased sum that I have put at his command give out notes for it. I give a draft upon London payable to some party in London; the money is paid over in London, so that I do not make an issue upon that.

2100. But the quantity of currency which is available to other parties in London or Edinburgh is diminished by that portion which you draw for your own use?

I do not see how it diminishes the quantity of currency in London: it merely transfers it from one party to another.

2101. If you were not to employ that portion of the London currency which you acquire by realising your exchequer bills, that portion would be at the disposal of some other person in London for the purpose of granting accommodation to London borrowers?

But I do not take it out of London; it is still in the hands of some party in London.

2102. But if by means of that operation you are enabled to extend your accommodation to your local borrowers, you do make it serviceable to the wants of your district, and is it not tantamount, in point of fact, to a transfer of so much capital from employment in London to employment in Ayrshire: is not that the general effect of the operation?

That may be the effect of it; but it has no effect in diminishing the amount of the currency in the London market. I do not bring out of London any currency; I merely take the currency from one party in London, and give it to another.

2103. Do not you bring down from London to Ayrshire a certain portion of capital which was before in London?

I do not see that.

2104. If the effect of this transaction be to enable you to supply the wants of borrowers in Ayrshire, which otherwise you could not supply, surely that does amount to a transfer of so much of your banking capital from London to the country?

It is rather more the payment of a debt due by some parties in Ayrshire to some parties in London.

Mr. Kennedy is right: the operation is the mere transfer of a debt. The Ayrshire bank is creditor of a bank in London to the amount of 1000 l., and passes `its draft on London for that sum; the person or firm that takes and pays for the draft of the Ayrshire bank has a payment to make to his correspondent in London. The transactions balance each other. The ultimate balances, as between Scotland and England, must be adjusted by an increase or diminution of the funds possessed in England by the Scotch banks and in some cases, although not frequent, nor to any considerable amount, there may be a transmission of Bank of England notes or coin.

Notwithstanding the clearness of this evidence, the following questions put by the Committee, as to the distinction between capital and currency, in the subsequent examination of Mr. Anderson, manager of the Glasgow Union Banking Company, will show the little impression produced by it on the examiners:

2323. (Chairman.) Do you at all attempt to regulate your circulation by the state of the foreign exchange?

Not the circulation; we regulate our business by the state of the foreign exchanges, but we consider that the circulation does not require any regulation; our advances and loans we regulate, but not the circulation of our notes.

2324. Do you conceive that the circulation is sufficiently regulated by your simply answering the demands of your customers?

I think so.

2335. Do you conceive that the consequence of restraining your loans and advances is to produce any effect upon the amount of your circulation?

No immediate effect upon the amount of our circulation.

2336. Does it eventually?

The circulation is eventually affected by the languor that follows a pressure; when wages are low and people are out of employment, there is less money circulating among them, and our circulation is diminished, but the immediate effect of a pressure is not to diminish the circulation.

2337. Does then any diminution of the circulation which takes place arise from a less demand on the part of the public, and not as the result of any greater caution on the part of. the bank?

Exactly.

2338. (Mr. Grote.) But the effects you have described imply an increased demand on the part of the public at such periods for your circulation?

It is an increased demand for money, but not for circulation.

2339. When those demands are made, in what manner do you supply them; is it not by an increase of your own notes?

In most cases an increased demand comes upon us in the shape of orders upon London, or orders upon Manchester or Liverpool; the pressure upon us is chiefly from the South, and an extra demand from London, Liverpool, and Manchester we feel as the first indication of pressure ; it is not from our own immediate districts.

2340. (Chairman.) Do you mean that your customers have demands upon them, which it is necessary for them to discharge in Manchester, London, and other places?

Yes, that is to a considerable extent the case.

2341. (Mr. Grote.) In what manner do you enable your customers to make those payments which you have to make in Liverpool, or London, or Manchester?

By giving them orders upon our agents and correspondents in those places.

2342. You direct a certain portion of the funds which you have in London, or Liverpool, or Manchester to be applied to that purpose?

We do.

2343. Then, in point of fact, you make those advances not out of your own local currency, but out of a certain portion of the London currency upon which you have a demand?

No; I think that does not precisely describe the operation. it is our capital; it is capital which we have collected in Scotland, and placed in London for that purpose; it is not London currency lent to Scotland, but it is capital belonging to Scotland that has been placed in London, and is now ap- plied to the purposes for which it is wanted.

2344. But if you direct payment to be made in London, this payment must be made by means of the notes of the Bank of England, which alone circulate in London?

Of course.

2348. When increased demands are made upon you by your customers in Glasgow, do you not answer those demands by means of your own local notes, and not by orders upon London?

Certainly; our circulation from Tuesday to Friday, and from Friday to Tuesday again, is increased upon this occasion; but we do not reckon that circulation, because we know that it is immediately to return upon us, and that it is an advance, not of circulation, but of capital; it becomes at the next exchange-day an advance of our capital.

2349. You feel satisfied that the increase of notes which you might make at that period would immediately come back upon you in the exchange, and that you would be required to pay them by orders on London?

Yes; or by exchequer bills in Edinburgh.

2361. Do you not, by means of this increased amount of advances in the extraordinary periods to which the questions have alluded, add to the means of purchasing goods possessed by the persons who borrow from you?

Yes, we do.

2362. And is not that practically tantamount to so much increase of circulation in the local districts in which your loans take place?

I think not of circulation; I think it is capital; because the notes we pay out are not retained for days or weeks to make the purchases, they are paid immediately to some other bank, and come back to us upon the exchange, and they become an advance of capital by us to the party, to enable him to make his purchases.⁽¹⁵⁾

2363. But although ultimately it comes to be an advance out of your capital, yet for a certain time it is an advance made by means of your circulation only, without the aid of your capital?

For two or three days it is.

2364. For a certain time, longer or shorter, as the case may be?

It cannot, I think, be longer than till the next exchange-day with regard to those extra advances.

2365. (Mr. Gisborne.) Practically, has it more effect in giving power of purchasing goods in London, than if you gave them a draft upon your banker in London?

No; I think not.

2366. (Mr. Grote.) But during the period which elapses between the time of your making the advance originally in your own notes, and the time when you give the order on London, in consequence of the notes coming back to you during that interval, whether it be long or whether it be short, must there not be an increase of the circulation of the country generally?

I think that brings us back to the question which has been so much discussed here, viz, whether deposits form a part of the circulation. Those notes which we pay out do not remain out; they must be paid back either to us or to some other bank, in the shape of deposits, till they are to be used, and they do not increase the permanent circulation of the country, unless for a day or two, scarcely for even a day.

2367. (Sir James Graham.) What proportion of the people of Scotland receiving notes employ bankers?

A very large proportion of the people of Scotland employ bankers; we have been enquiring into that since we came together. One of the gentlemen here, who is at the head of a bank with a large number of country branches, informs me, that the number of creditors of his bank is 20,000. In our case I have a return since I came to town, making the number in our bank 15,770; and one of the gentlemen who is here, and who is at the head of a bank without branches, says that he has 7000 people holding his obligations.

2368. (Mr. Grote.) Deposit accounts

Yes; deposit accounts, or current accounts bearing interest.

2369. (Sir James Graham.) Inasmuch as every payment into a bank, whether in the shape of a deposit, or to the credit of a current account, bears interest day by day, and inasmuch as no commission is charged upon operations on an account, and inasmuch as a great proportion of the people receiving money in Scotland employ bankers, does it not follow that every payment made in local notes finds its way almost immediately within the space of twenty-four hours into the hands of some banker?

I think it does.

2370. (Mr. Grote.) Would not the consequence of that proposition be, if followed out, that there should be no notes whatever in the hands of the public, but that all the notes issued by each bank should be in fact in the hands of other banks?

That is the effect. There are three millions of notes out, which is a very small amount; people must have a certain amount of money in their pockets and boxes at home, and shop- keepers must keep a certain amount of money in their tills, the daily receipts of their business; and manufacturers must keep notes to pay people's wages, and so on; but that altogether forms but a small proportion compared to the circulation of England. Our three millions in Scotland amount to about 1 l. a head of the whole population; in England, although you have a gold circulation for every thing below 5 l., your paper circulation amounts to 2 l. a head. I am taking about fifteen millions for the population, and thirty millions for the currency.

The distinction between currency and capital, which is so clearly shown by these remarkably intelligent witnesses, is not a mere matter of classification or of verbal criticism. The confounding of one with the other is a prolific source of fallacy in reasoning, and of error in practical application, in questions relating to the management or regulation of banks.

Of this a striking instance was exhibited in the reasons adduced by the advocates of the currency theory, in justification of the advances made by the Bank of England in 1835, against the deposits on the West India loan. The justification proceeded on the ground that, but for those advances, the currency would have been unduly contracted. What the notion could be of undue contraction of the currency, that is, of an inconvenient want of bank notes in the hands of the public or of the bankers, as long as any amount might be obtained by discount at 4 per cent, passes all reasonable comprehension. The truth is, that it was wholly a question of disposable capital; and was it possible to imagine that there could be any danger of an insufficiency of it, at a time when the disposal of it was so recklessly going forward in credits to America? While as regards the circulation or currency, there is every reason to believe, on a view of the state of things at that time, that the amount would have been neither more nor less than it was, whether the advances had been made or withheld.