Part 25
On June 13, 1908, the association passed a resolution compelling all trust companies, who were members, to carry a cash reserve of 25 per cent, and on Jan. 16, 1908, the association for the first time in its history made a rule compelling all its members to keep a cash reserve of 25 per cent.
Every member of the New York Clearing House is required to furnish to the manager, weekly, for publication, a statement showing its condition, showing the average amount of loans, and discounts, specie, legal tender, notes in circulation and deposits. The capital and net profits are also given, this being the only association which gives the latter item.
Along the same line of legislation controlling the action or conduct of its members, the Clearing House committee, having plenary power to do so, passed a rule--determining just what every member and bank, clearing through members, should charge for collections.
The rule made some cities free, that is, there were no charges for collection made compulsory. Some cities were under a fixed charge of one-tenth of one per cent, and others under a fixed charge of one-quarter of one per cent. Upon April 3, 1899, this rule became obligatory, and if any member violated it, the penalty was $5,000 for the first offense; for the second offense it might be expelled from the association.[1]
MR. LABORINGMAN: That is precisely the same rule we have in our Union, only our limit is not so high. We fine a member $5.00 for his first offense, and for the second offense we take away his card. By Jove, that is a hot proposition. And these are the very fellows who are always cussing us because of our Union rules.
MR. LAWYER: I want to tell you something else, gentlemen, that combination among the banks is clearly in restraint of trade and in violation of the Sherman Anti-Trust Law. Anybody who wants to can bring those banks to time.
MR. BANKER: Now, gentlemen, don't you perceive that this institution, step by step, has evolved its own laws, or rules of action, slowly developing its present system, and regulating and controlling the conduct of those outside institutions which enjoy its privileges? The story of this Clearing House is the record of all of them in principle. They are, each and every one of them, self-centered, self-contained, and a law unto themselves.
The operation of the New York Clearing House is practically that of all the others. Its room is sixty feet square. Four rows of desks occupy the floor. Each member has its own numbered desk separated from its neighbors' by a wire net work.
At one minute to ten o'clock the manager sounds the gong and all are instantly ready for the exchange which begins promptly at ten o'clock.
At the expiration of forty-five minutes usually, but sometimes in thirty-seven minutes, and even in thirty-five minutes, every member of the association has in its possession all the paper drawn upon itself, which the other members have credited on their books, and has delivered all the paper drawn upon all the other members of the association in exchange which it has credited upon its books.
Mr. Cannon states that the amount delivered by any member has never been exactly equal to the amount received but has come within one cent upon a single occasion. To complete the clearing transaction, it is necessary, of course, for those who owe anything to pay it to the Clearing House, and for the Clearing House in turn to distribute what is paid to it among those who are entitled to receive it.
As a matter of convenience for the purpose of settling the balances, the members of the Clearing House deposit with the Clearing House gold coin, gold certificates, silver certificates and legal tender notes, and receive clearing house certificates, therefor, in denominations of $1,000, $2,000, $3,000, $4,000, $5,000, $10,000, $20,000, $50,000 and $100,000 each. All notes of a smaller denomination than $5.00 should, according to practice, be put up in packages of not more than $5,000. All packages are sealed and marked with the name of the institution depositing them with the amount, date and kind of money they contain.
The banks, also, deposit at the Sub-Treasury in New York gold coin, for which certificates are issued by the Assistant United States Treasurer. These certificates are in two denominations, $5,000 and $10,000 each; the holders of these certificates are the absolute owners of them.
_It is stated upon high authority that the amount of such money now deposited at the various Clearing Houses throughout the United States exceeds the sum of $200,000,000. In other words, that we have today in the United States centralized our reserves to that extent for certain purposes._
MR. MERCHANT: Mr. Banker, your history of the development of the Clearing House and your description of its operations have certainly been very clear, and most interesting. The second point you mention, the clearing of country checks, will appeal to all the business men of the country as it has to me for a long time; especially since I have a great deal of business up in New England, where this practice has been in force since 1899. I was up there the other day, and my partner took me to see Mr. Charles A. Ruggles, the manager of the Boston Clearing House. After he had described the system of clearing country checks, he handed me a little pamphlet giving the history of its development in Boston and setting forth its reasons and advantages so graphically, that I am going to quote from it in telling you gentlemen about it.
Let me say to you that I am confident that when this principle is fully understood, and carried out, as it soon will be, to its logical conclusion, checks, precisely like our bank notes, will be par everywhere in the United States. I am fully aware that you are greatly surprised at this statement; but take my word for it and remember that what I have prophesied is going to happen. _Free zones are going to increase until every check will be free within its own zone, and almost immediately as a consequence, the zone centers will settle with each other daily; that is all checks will not only be free in their own zones, but will be free between all zones, that is all checks will be par everywhere._
However, let me tell you how it developed in New England. Ruggles describes it in these words:
"That the use of checks has increased rapidly in the past ten years is an undisputed fact, and the question of how to handle them to advantage, or without loss, is a problem that has caused much discussion. All large cities have had the same experience, and have dealt with the question in various ways. Rather than ask his bank to draw exchange, the country merchant sent his check to Boston in payment of his account, and in this way, he was encouraged by the city merchants who deposited the check in his bank, where it was received at par. This continued until the volume handled reached such proportions as to make the item of exchange quite prominent in the expense account, which the city bankers sought to reduce by various methods. In many cases checks were not sent directly to the banks upon which they were drawn, some other route being selected to avoid exchange charges; as, for example, a check on Stonington, Conn., deposited in Westerly, R.I., only six miles distant, after many days, during which it traveled one thousand miles, perhaps, passed through Providence, Boston, Newport, then New Haven and New London and reached its destination bearing the endorsement of nine banks. Mr. Cannon in his work on Clearing Houses cites a remarkable case of zigzagging to avoid collection charges; a check on Sag Harbor, N.Y., paid to a Hoboken firm was eleven days reaching its destination. Had it been collected through the New York Clearing House ten days' time, fifteen hundred miles of travel and a vast amount of clerical work might have been saved."
Here are two diagrams showing the route and the indorsements of the check to which Mr. Cannon referred, taken from Mr. Cannon's work on Clearing Houses.
Mr. Ruggles further says: "The subject of the collection of the country check in a more expeditious and economical method than that then in force in Boston, was first agitated in 1877, when a committee of five was appointed to consider the question. A majority reported that the annual cost to the banks of Boston was two hundred and twenty-nine thousand dollars for collecting New England checks and recommended that the business be consolidated, which would very materially reduce labor and expense. This report was received and placed on file. A minority report was also submitted in opposition to any change, on the ground that it would sever the social and business relations which then existed, and the clerical force required to handle the entire business would incur so heavy an expense that the cost of collecting would be as much, if not more, than was the case by the method then existing. No further action was taken until 1883, when another committee was appointed to consider the same question. They reported that returns from all the banks showed that double the business reported by the former committee was then being transacted and that the probable cost was four hundred thousand dollars; they suggested that an agency similar to the Clearing House be established for the purpose of making the collections. The banks failed to endorse this proposition and the matter was dropped until 1898, when a committee was appointed by the Bank Presidents' Association to again consider this important question; in their report it was recommended that the Clearing House Association act on the matter and undertake to make the collections. A committee was appointed by that body, who endorsed the previous report. Their report was accepted and the Clearing House Association authorized the Clearing House committee to put in operation the present system, and the banks of Massachusetts were first addressed on the subject on April 14, 1899, the result being a conference between the Massachusetts Bank Cashiers' Association and the Clearing House committee. This conference revealed a decided difference of opinion at first, but both sides were brought to a clear understanding of the situation eventually. The position taken by the Clearing House was that it did not propose to dictate to the country banker how he should transact his business or coerce him into acting in conjunction with the Clearing House; nevertheless, the Boston banks claimed the right to use their own methods in making collections, and should the country banker decide to charge exchange, checks on his bank would not be accepted at par in Boston, and might be collected by express or such other means as was thought advisable. Comparatively few of the banks in Massachusetts appeared in opposition when the subject had been fully discussed. At a second conference the Cashiers' Association asked the privilege of making payments in New York Exchange if more convenient for them, and this request was readily complied with. They also asked that they might ship currency when necessary, at the expense of the Boston banks; this request was also granted, and in a few months all were remitting at par and checks from all the Boston banks were being collected through the Clearing House. On Sept. 21st, Maine was added to the list, followed by Rhode Island and Connecticut on Nov. 9th, and New Hampshire and Vermont in January, 1900.
"The first year the amount collected was $541,000,000 at a cost of ten cents per thousand dollars; the second year $565,000,000 at a cost of eight cents; the third year $607,000,000 with cost reduced to seven cents. Since the opening of the Foreign Department, as we term it, the average yearly business has been six hundred million dollars, and the average cost seven cents. The expenses are met by an assessment levied on the banks based on their daily average business. There are at present in New England six hundred and thirty-seven banks and trust companies to whom checks are sent daily, and the number of packages handled will average five thousand."
MR. BANKER: Mr. Merchant, I am very much surprised that you have made such a thorough study of this feature of the banking problem, but I am also equally gratified. You have certainly explained the question so clearly and fully that no one can fail to be impressed with the future possibilities of this plan of clearing country checks, and I am convinced that you are absolutely right that the time is not far distant when every check in the United States will be par everywhere precisely as our bank notes are today; and why should they not be so, since both are identically the same thing in principle.
MR. LAWYER: I can see what a tremendous advantage that would be to our commerce, indeed, incalculable, and I can see that there is no substantial difference between a check on a bank and a bank note, which is a check of the bank on itself; both are mere credits, and as you say, when fully comprehended and rightly understood, will be treated in precisely the same way in the exchanges of the country. But it does seem to me as though we shall have to have a better knowledge of our banks, and the business houses of the country, too, if this great reform is to be brought about.
MR. BANKER: That is true, but the bankers of the country have realized for a long time that their greatest peril came from the unsound practices and reckless methods of some of their own number and have already taken steps to protect themselves against such practices.
You, gentlemen, will all of you, no doubt, remember the Walsh failure at Chicago in 1906. You will also remember that Walsh had control of three different banks with approximately $30,000,000 resources; one was a National Bank, under national supervision; one a Trust Company and one a Savings Bank; both of the latter being under State supervision. This enabled Walsh to flim-flam the examiners, one examiner being national and the other state, by juggling the assets and then finally diverting practically all of the deposits into his own enterprises; certainly the best part of them was used in promoting his business schemes. It took this kind of an earthquake to wake up Chicago and bring into the banking fraternity, or business world, one of the greatest reforms of the commercial life of the country. I say commercial world advisedly because about the same time Chicago had an experience with a fish house that was really the biggest fish story that was ever told. The sad thing about this fish story was that it was true and cost the fishermen, the Chicago banks, and the fishermen and bankers elsewhere, about $3,000,000.
These two experiences capped the climax and illustrated perfectly the need of just what followed in the Clearing House at Chicago.
This brings me naturally to the third point that I mentioned as important and vital in the evolution of the American Clearing House.
On June 1, 1906, the Clearing House Association of Chicago, Illinois, acting upon a resolution introduced by Mr. Fenton, Vice-President of one of its banks, established an independent system of Clearing House bank examinations. Only recently the chairman of the Clearing House used this language:
"The result of our experience in Chicago is most satisfactory and gratifying. The banks have almost unanimously adopted every suggestion made by the Clearing House Committee for their betterment and strength. In several instances the Committee, from its wider knowledge of the financial situation, has been able to save some of the smaller institutions from loss by enabling them to take hold of conditions in time. I cannot properly go into such details as would illustrate the effectiveness of Clearing House examinations as we have experienced it, and can only say in a general way that it has been even more satisfactory than I anticipated it would be before it was undertaken."
MR. LAWYER: Right on this point I want to read to you a letter I have just received from the Clearing House examiner of Los Angeles, California.
Dear Sir:
Replying to your inquiry of December 9th, will say that Clearing House examinations were begun in Los Angeles on May 1, 1908. Since the inauguration of the system there have been no bank failures, because the Executive Committee of the Clearing House Association will not permit banks to reach the danger point.
We have had one instance where, after watching a bank for three years, giving it a chance to correct its bad methods and put itself in good condition, the Clearing House finally compelled it to assign all of its assets to a trustee, and the public was notified that all claims would be paid on demand....
National and State examinations have improved greatly during the last ten years, but they will always lack the strongest element--the calm, clear judgment of the local executive committee, whose demands are founded on knowledge of the situation, and whose mind is not warped by political strings.
Yours very truly, (Signed) John W. Wilson, _Examiner, Los Angeles Clearing House Assn._
Mr. Cannon in his admirable work on Clearing Houses, says:
In substantially his own words the Chicago examiners operate under the following conditions: The examinations extend to all the associated banks in Chicago, and to all non-member institutions. The work is conducted with the aid of five regular assistants, each fitted by experience to thoroughly do that part of the work assigned to him. The examinations include, besides the verification of the assets and liabilities of each bank, so far as is possible, an investigation of the workings of every department, and are made as thorough as is practicable. After each examination the examiner prepares a detailed report in duplicate, describing the bank's loans, bonds, investments and other assets, mentioning specially all those, either direct, or indirect, to officers, directors, or employees, or to corporations in which they may be interested. The report also contains a description of conditions found in every department. One of these reports is filed in the vaults of the Clearing House in the custody of the examiner, and the other is handed to the examined banks' president for the use of its directors. The individual directors are then notified that the examination has been made, and that a copy of the examiners' report has been handed to the presidents for their use. In this way every director is given an opportunity to see the report, and the examiner, in every instance, insists upon receiving acknowledgment of the receipt of these notices.
The detailed report, retained by the examiner, is not submitted to the Clearing House committee, under whose direct supervision he operates, unless the discovery of unusual conditions make it necessary. A special report in brief form is prepared in every case, and read to the Clearing House committee at meetings called for that purpose. The report is made in letter form, and describes in general terms the character of the examined banks' assets, points out all loans, direct or indirect, to officers, directors, or employees, or to corporations in which they may have an interest. It further describes all excessive and important loans, calls attention to any unwarranted conditions, gross irregularities, or dangerous tendencies, should any such exist, and expresses in a general way the examiner's opinion of each bank as he finds it.
The circumstances under which the first Clearing House bank examiner was appointed and the result are well set forth by James B. Forgan, President First National Bank of Chicago.
"Chicago was the pioneer in Clearing House bank examinations.
"They were inaugurated there in 1906 after the failure of a National bank and two State banks. These institutions were under the direct management of one man who was president of the three. The condition of their affairs when disclosed surprised and appalled the other Chicago bankers. The liabilities of the private ventures of the president had gradually accumulated in the three banks until they had absorbed the entire capital and surplus of all three, amounting to $3,500,000, and 44 per cent of their aggregate deposits of $27,000,000, one-third of which was public funds.
"The condition in the National bank had developed through a period of years during which the Comptroller of the Currency, through the semi-annual reports of his examiners, had been kept fully advised of what was going on. Among the assets were found nineteen fictitious loans for $90,000 each represented by so-called memorandum notes. Each memorandum note purported to be secured by $100,000 of second mortgage bonds of the Wisconsin & Michigan Railway Co. This road was controlled by the bank president, and the bonds proved worthless. The first mortgage bonds of the same road, $952,000 of which (being almost the entire issue) were also among the assets of the banks, were finally disposed of at about 23 cents on the dollar. These memorandum notes did not, on the face of them, even pretend to be the obligations of bona fide borrowers. The ostensible signatures on them, although in different names, were all in the handwriting of the clerk who filled them out and who wrote plainly in red ink across the face of each the words 'Memorandum Note.' They could not deceive anyone who saw them and they did not deceive the national bank examiners who reported to the Comptroller the facts in connection with them.
"Although cognizant of these irregularities and of the accumulating obligations in the bank of the president's private enterprises, the Comptroller apparently could not or at all events did not take measures to stop them by other means than those of expostulation and reproof until matters became so bad that they simply could not be permitted to go further.
"When at last drastic measures were decided upon the Comptroller and the State Auditor, acting together on a Saturday afternoon after the vaults of the three banks had been closed with time locks set for Monday morning, notified our Clearing House committee that unless provision were made for payment in full of the deposits none of the banks would be permitted to open for business on Monday morning and they would be put in the hands of receivers.
"Business conditions were strained and the time was therefore particularly unfavorable for permitting the failure of three prominent banks. The effects of such a calamity it was feared would have extended far beyond the confines of Chicago.
"The situation was thus protected from a general disturbance of public confidence, but it was done at the cost of a very heavy loss, foreseen at the time and since realized by the participating banks.
"The statements of the National bank made five times a year to the Comptroller's department, copies of which were rendered to the Clearing House committee and on which it had implicitly relied, failed to disclose these conditions.
"I have given you these details of this unfortunate affair because they show so clearly the limitations of governmental supervision of banks under our National banking law as it has been interpreted by the courts and by the legal advisers of the Comptroller's department.
"Let me draw your attention to a few of the legal restrictions which limit the Comptroller's power to act in such cases.
"1. Under the National Bank Act no obligation due a bank is considered bad until interest is past due six months and not then if it is secured or in process of collection.