This section is from the "Practical Banking" book, by Albert S. Bolles.
Another mistake of the same kind is, the claim that the banks make large amounts out of the lost bills. I have heard it said that fully a quarter part of all that is issued never returns, and is consequently saved by the bank. Now, this is a great mistake, for, in the case of National banks the Government, and not the bank, gets all the benefit. Even in the case of the State banks the proportion of missing bills is very small. I was once connected with a State bank that had a circulation for several years of more than half a million of dollars. Its bills went all over New England and into the West and Canada. When our Maine soldiers went to the front they were paid in many cases in the notes of this bank. Those notes went thus into many Southern States, passed through many battles, were found in soldiers' pockets in the hospitals and on the field. Now, you would say that there must have been a large loss of money in this particular case. Well, the notes keep straggling back to Portland even to this day; they have always been paid, and they always will be. An old lady dies, and a crisp, clean bill is found tucked away in her pocketbook. Now and then one turns up from down south or the extreme west, but today there is only about $1,900 outstanding of all the many notes that were issued by this one bank that had so peculiar a circulation. Not long ago three clean five-dollar notes were presented for redemption. They had been hidden away in an old lady's wallet; perhaps she had kept them to pay her funeral bills. Eighteen years, at least, had passed since these bills were paid out. We occasionally read of some drunken swell who lights his pipe or cigar with a dollar bill; but I always think, when I read that story as it turns up periodically, that the bill in question was a poor counterfeit, laid by for an emergency of brag and show.
Having cleared up these errors let us go back to our new bank that we left with $250,000 paid in. After discussion, the directors decide in favor of issuing notes. What is the process? You understand, of course, that all National bank notes are based upon a security deposit made by the bank with the Treasury Department in Washington; that is to say, for every $1,000 United States bond deposited, the Government will grant $900 in new bills to the bank.* No bank, however, can have more bills than its capital, many do not have so much; and, as has been previously said, some banks prefer to have no circulation at all. Our new bank has $ 250,000 capital; and, taking up the newspaper, the managers are not consoled by the quotation of 123 for a four-per-cent. bond. But, to get their circulation they must first deposit their bonds. So they easily can see that they cannot buy more than $220,000 of four-per-cent. bonds with their $ 250,000. In other words, $ 30,000 is sunk in premiums for which they have nothing to show. Or, to put it in another way, they have spent $30,000 for premiums before they have earned a dollar. An order is given to a broker in New York to buy $220,000 in United States bonds, drawing four per cent, interest. The broker telegraphs back that he has bought at 123. He has bought registered bonds—that is, bonds that have no coupons or semi-annual interest warrants, but are certificates of ownership of a certain quantity in the four-per-cent. loan of the United States. These certificates or bonds are in sizes of $ 10,000 in this case, and are payable to some party who indorses them over in blank, when they are sold. The interest on the bonds comes from the Treasury Department to the owners by check through the mails, in quarterly payments.
* See provisions of National Banking Law, Chapter III., page 12.
Now that the bonds are bought, and, of course paid for, they are sent to the Treasury Department at Washington to be lodged with the Treasurer of the United States to secure such an amount of circulating notes as, under the law, he is authorized to issue to the new bank. This officer issues a certificate that he has had $ 220,000 in United States four-per-cent. bonds converted into bonds bearing the name of the United States in trust for our new bank; that is, he holds the bonds as security for the payment of the notes that are to be issued by the joint act of the Government and the association. Whenever the bank surrenders the notes or an equivalent, then the shareholders can have their bonds transferred to them again. But, so long as the bank owes for its notes, so long must the bonds remain in the pigeon-holes of the big vault of the Treasurer of the United States, all done up nicely, and lettered and labeled, so that at any moment the agent of the bank can put his hand on them and see that they are safe. The Treasurer sends a document to the Comptroller of the Currency, stating that he holds the bonds, and the Comptroller issues an order for printing the amount of notes authorized by law, which is ninety per cent, of the deposit, the other ten per cent, being left as a margin in case of a depreciation of the bonds. So the bank has, in the first instance, sunk $ 30,000 in premium on its bonds, and now ties up ten per cent, more to make the public absolutely safe when they take the bills of that bank. Only $ 98,000 is allotted to our new bank. This amount is what is called the circulation of the bank.
The blanks come along in a few weeks, and though the officers may think it very pretty to see their names on a bank bill, yet before they have signed a quarter of the pile, their hands ache and they grow sick of their own names. But the bills must all be signed. Then they are chopped up, and finally make glad somebody's eyes. For the privilege of issuing these notes, the banks pay to the Government one per cent, a-year tax upon the average amount in circulation. Besides this tax, the banks pay the expenses of an office in Washington, where the notes of all of the banks are received, sorted, sent home for redemption, or, if too much defaced, burned and exchanged for clean notes. The expenses of this office for a bank of $ 250,000 capital would be, perhaps, $ 200 per annum. Added to this must be the express charges from Washington to the home of the bank. Every week or two a package of bills is sent home for redemption. The cost of this service may be $75 more. Then, again, the law provides that an amount equal to five per cent, of the circulation shall at all times be kept with the Treasurer of the United States, as a fund for paying these constant redemptions; so that the Treasurer gets his pay for the redeemed bills before they start from Washington, and this amount has to be kept constantly good by frequent remittances. You notice, therefore, that five per cent, of our $198,000, or $9,900, is tied up, dead and profitless, in Washington, all the time; so that really all the bank has to use of its $ 250,000 capital in this direction is $188,100.*
* I mention these facts to show that the banks do their share in paying taxes, and in making the people absolutely secure in their funds, as well as to point out that there are some serious outs in what many people think is a huge monopoly. I shall not contend, however, that the banks do not make money out of their circulation. They do. But I think that they fully pay for their privilege. It is not possible for a new bank to start today and buy bonds at present prices, pay taxes and do an honest business, and make much money out of its circulation. I would myself today, as things are, run a bank—a new bank—as quickly without circulation as with it, if the institution were located in a city.