forms of credit-but this point is more properly discussed in a later chapter.

SELECTED REFERENCES

H. G. BROWN, International Trade and Exchange (1914), Chapter II.

CHARLES F. DUNBAR, Chapters on the Theory and History of Banking (1906), Chapter I.

H. G. MOULTON, Principles of Money and Banking (1916), Part II, Section IV.

C. A. PHILLIPS, Readings in Money and Banking (1916), Chapter IX.

Report of Monetary Commission of Indianapolis Convention (1898), Part II, Sections 78-83 inclusive.

W. A. SCOTT, Money and Banking (1910), Chapter VII.

HARTLEY WITHERS, The Meaning of Money (1909), Chapter V.

CHAPTER II

DEPOSITS VERSUS NOTES

In the previous chapter it was indicated that bank deposits and bank notes, the two main forms of bank credit, are from the bank's point of view substantially similar. Both are "demand obligations," that is, liabilities of the bank payable in cash on demand, the difference between them being only one of form.

To be

The deposit is a naked right either to demand or to order payment of a given sum of lawful money. made effective the deposit must be embodied in some form by the depositor himself. The only tangible evidence of this right to demand that the depositor holds is, in the case of the ordinary deposit, in the form of an entry in his "pass" book. This may be supplemented by canceled checks, etc., but so absolutely essential to the success of the bank is the confidence of its depositors and of its note holders that, irrespective of the moral character of its managers or of the inability of the depositors to present legal evidence attesting every element involved in their deposits, it would be suicidal for a bank to tamper in the slightest degree with a depositor's account.

The instrument by means of which the deposit is made serviceable is the check. Through the check the depositor may transfer to another any proportion of his right to demand money from the bank. Where the check has been legalized, checks properly inscribed must be honored by the bank on which they are drawn. This does not necessarily imply that the payee can always demand cash. Provision is made in some countries for the drawing of checks payable, at the option of the depositor, only through the clear

The deposit a naked right to demand

The check a valid

order on

the bank

to pay

Bank notes are defi

nitely embodied promises to pay

ing house or by depositing. Thus, in England there is the system of "crossed checks" under which a check having two lines drawn across the face must be deposited and cannot be cashed.' In Germany a system of pink and white checks is used, cash never being paid on a white check. During the panic of 1907 some New York banks issued to depositors checks which bore the inscription "payable only through the New York Clearing House." Cash was not paid on such checks. This inability directly to demand cash does not, however, constitute a hardship to the payee because the acceptance of the check in payment of his claim against the depositor is in first instance purely optional. In the case of the New York banks after the panic it was the banks themselves that refused to pay cash, but in this case refusal to pay was equivalent to suspension. Under the "crossed check" and pink and white check systems it is the depositor who orders the bank not to pay the cash 2 and the motive in so ordering is self-protection. The bank itself must always be ready to pay cash. Its refusal to do so spells bankruptcy.

Bank notes, as contrasted with checks, are, as has been seen, definitely embodied promises of the bank to pay. Their form, denomination, etc., are determined, within possible legal limits, by the bank itself. As they are usually issued in convenient denominations they enter readily into circulation as substitutes for the money issued by the government, although they represent in themselves simply promises to pay such money. Their acceptability grows out of the fact that it is generally believed that should the noteholder elect to present his note for redemption the bank can and will fulfill the promise represented by the note. Originally the issue of notes was a common-law right, the theory being that individuals would accept them only if they were good. Experience, however, early taught

1 In practice crossed checks are not infrequently cached by the banks for their customers.

2 Under the crossed check system it may even be t

the necessity for putting safeguards and restrictions around note issue, and today in most countries the whole matter is carefully regulated by law. The reasons for this will be set forth shortly. Here it will suffice to say that within the limits prescribed by law the bank notes may pass freely from hand to hand. In the hands of each successive holder they constitute rights to demand lawful money, and, in the absence of special protective legislation, the failure on the part of the bank to pay money when the notes are presented for redemption, constitutes a confession of bankruptcy, exactly as in the case of a failure to meet the lawfully presented demand of the depositor.

Recognizing the essential similarity of notes and deposits as demand liabilities from the bank's point of view, the question naturally suggests itself, what are the circumstances that determine which of the two forms the bank's credit shall take? Or, assuming that this credit takes both forms, what shall be the proportion of each? The answering of this question must be reserved, however, for a later chapter. A satisfactory answer can be given only after an examination has been made of the relative possibilities and limitations of bank checks, by means of which the deposits are made serviceable, and of bank notes in their respective capacities as media of exchange. In other words, we have to consider the two kinds of instruments from the viewpoint of the general public as well as from that of the bank.

Bank notes pass freely from hand

to hand

Deposits and notes point of view of

from the

the public

The limi

tations of

the check

The check, as already stated, is an order on the bank Bank drawn by the depositor. The check itself, however, bears checks no evidence that the depositor enjoys any right to formulate such an order. Of course, there are usually stringent enactments against drawing worthless checks, but, as everybody knows, these laws act simply as deterrents and not as Uncertainty absolute preventives of fraud. Furthermore, the check bears no evidence of the amount of the depositor's balance. balance There may be no question about the existence of the depositor's account but there may easily be uncertainty as

as to account or

to the adequacy of his balance. A check overdrawing the depositor's account is little better from the payee's viewpoint than one drawn against a nonexistent account. It is obvious, therefore, that the acceptance of a check in exchange for goods or for services involves a considerable confidence in the integrity of its maker. Such confidence in most cases is necessarily limited to the depositor's immediate circle of friends and business associates. Within that circle his checks may be "as good as gold" but beyond it they tend rapidly to lose acceptability as a means of payment. Owing to this restriction of the scope of their acceptability checks are usually referred to as instruments of "limited acceptability."

The confidence that underlies the acceptability of the check as a means of payment is really twofold. There is first the confidence in the maker's integrity and solvency. This has already been referred to. There is next the confidence in the bank on which the check is drawn. After all, the check represents merely the transfer by the depositor of the right to demand money, while the important thing to the payee is the ability to obtain money should he really need or want it. Hence, the payee must have faith in the maker of the check, and also a more fundamental faith in the immediate willingness and ability of the bank on which it is drawn to pay the sum called for should the check be presented. Such faith must also characterize the depositor if he is to maintain rather than draw down his deposit.

One of the important elements in the preservation of this confidence is the cash reserve maintained by the bank. The right to demand cash is satisfactory as a substitute for cash itself only in so far as it is instantly redeemable. Individuals may recognize and understand that a bank has outstanding against it more rights to demand cash than the sum-total of cash available for redeeming the rights, and each one may know that not all possessing such rights will at any given moment exercise them, yet each one believes