During this period of state banking several of the states established banks owned entirely or in part by the state. There was some question as to the right of these state institutions to issue circulating notes, but the Supreme Court held that such notes were not "bills of credit" within the meaning of the constitutional prohibition.1 Mississippi, Arkansas, Florida, Kentucky and other states established state banks which came to disaster through politics, bad management, and failure to provide adequately for the redemption of note issues. While the experience of these banks owned and managed by the state were for the most part disastrous, a few stand out as conspicuously successful.
The State Bank of Indiana, established in 1834, was modeled largely after the Bank of the United States and had a monopoly of banking in the state. The state subscribed one-half of the $1,600,000 capital, all of which was paid in specie. Ten branches were established and each was allotted one-tenth of the capital, with practical control over its own local affairs. The issue of notes was limited to twice the amount of the capital. Each branch was required to accept the notes of other branches at par and to redeem its own notes in specie. The general management rested in the hands of a president and a board of directors, four chosen by the state legislature and one by the private shareholders of each branch. Each branch was liable for the debts of all the other branches, but its earnings belonged exclusively to its own stockholders. At first loans were made on real-estate security, but this practice proved to be unsafe and was soon discontinued. Later, loans were made to farmers on their personal notes and on their crops, but always for short terms. No branch could lend money on the security of its own stock, and no officer or director could borrow on more favorable terms than the general public, or indorse for others, or vote on questions in which he was financially interested. The bank's charter expired in 1859 and it went into liquidation, the constitution of 1851 having forbidden the state to own bank shares. The state netted a profit of $3,500,000 from the bank during the twenty-five years of its existence. The owners of the old bank stepped into the charter of the Bank of the State of Indiana, which was incorporated while liquidation was in progress, and, though the state had no share in it, it prospered until 1865, when the federal tax of 10 per cent on the notes of state banks forced it out of existence.
1 Briscoe v. Bank of Kentucky, 11 Peters 257.
The State Bank of Ohio, established in 1845, combined the safety fund and bond deposit principles. It had thirty-six branches, each liable for the note issues of all the others. Note issues were limited in amount to twice the capital and were secured by a fund, equal to 10 per cent of the circulation, consisting of money or bonds of the state or of the United States deposited with a central board of control. This bank was always solvent and successful, but passed out of existence with the expiration of its charter in 1866.
In 1842, Louisiana, after a disastrous experiment with a state-owned bank, established a sound banking system", some features of which are worthy of note. All banks were required to hold a specie reserve equal to one-third of their liabilities, while the other two-thirds was to be covered by commercial paper limited to ninety days. This was the only limit to the amount of circulation, but prompt redemption was secured by the requirement that no bank should pay out any notes but its own and that balances between banks should be settled weekly in specie. Examinations were made by a board of state officers quarterly or oftener. The directors were individually liable for all loans and investments made in violation of the law unless they had voted against such violation, and absence from five successive board meetings was regarded as a resignation. This law was the first one passed by any state requiring banks to keep a definite percentage of specie reserve against deposits. Under it the banks of Louisiana were sound and prosperous. They weathered the panic of 1857 success fully and continued in successful opera-lion until the capture of New Orleans during the Civil War.
Thus through varying degrees of success and failure the state banks were slowly working toward a system of sound banking suited to their local needs. The fiscal difficulties of the Civil War checked this process of evolution and led to the establishment of the national banking system, which has been ever since the backbone of our banking system.
Though some of these state banking systems secured to limited sections of the country a fairly uniform and safe currency, yet, considering the entire country, they lacked the essential quality of uniformity. The national banking system adopted in 1863 provided for the whole country a currency at once safe and uniform. Unfortunately, however, this blessing was secured at the expense of the equally vital quality of a good currency - elasticity. The lesson of the history of state banking is that the happy combination of safety, uniformity and elasticity of note issues can best be attained by resting them upon the general assets of the bank, with a guarantee fund for the redemption of the notes of failed institutions, and responsibility of each bank for the redemption of its own notes.
Bullock: Essays in the Monetary History of the United States, Ch. VI. Catterall: Second Bank of the United States. Conant: History of Modern Banks of Issue, Chs. XIII, XIV. Fiske: The Modern Bank, Chs. XXVIII, XXIX. Knox: History of Banking in the United States, Pt. I,
Chs. II-VI; Pt. II, Chs. I-VII. Publications of National Monetary Commission:
Holdsworth and Dewey: First and Second Banks of the United States.
Dewey and Chaddock: State Banking Before the Civil War and the Safety Fund System in New York. Scott: Money and Banking, Ch. X. White: Money and Banking, Bk. III, Chs. IV-XIII.