Having given these explanations, we shall now proceed to notice the operations of the banking department of the
Bank of England after its separation from the issuing department by the Act of 1844: -
I. The operations of the Banking Department, from the passing of the Act in 1844, to September 5, 1845.
The Act came into operation on the 31st of August, 1844, and almost immediately some important changes were introduced. Up to that date the bank had never discounted at a lower rate than 4 per cent. This rate, in ordinary times, had seldom varied, and all bills discounted at the same time were charged the same rate. But, on the 5th of September, the rate of discount on bills was reduced from 4 to 2 1/2 per cent., and on notes to 3 per cent. On the 18th of March, 1845, the bank introduced the principle of a minimum rate of discount; fixing 2 1/2 per cent. as the rate on first-rate bills, and charging a higher rate on other bills. The object of these changes was to employ a portion of the reserve in the discount of bills.
This line of conduct was by no means unwarranted by the practice of "other banking concerns." It is an established principle in practical banking, that a banker, when he cannot employ his surplus funds at so high a rate of interest as he wishes to obtain, should employ those funds at a lower rate, rather than keep them unemployed in his till. And it is also an established practice to charge different rates of discount on different bills, according to the class or character of the bills - the respectability of the parties - the time they have to run - and a variety of other circumstances. In adopting these regulations, therefore, the directors were only performing the work assigned to them, of conducting the banking department "like any other banking concern issuing Bank of England notes."
These changes gave rise, in the parliamentary committees of 1847, to some discussion upon the question as to whether the Bank of England governed the market-rate of interest; or the market-rate of interest governed the bank-rate? There can be but little difference of opinion upon this subject. The "market-rate" of interest is the rate which bankers and bill-brokers charge for discounting first-class bills to the public. When the foreign exchanges are bringing gold into the country, and notes are issued against this gold, the abundance of money in the hands of the bankers and bill-brokers causes the market-rate of discount to fall below the bank-rate. If during this season the bank charges a high rate, it gets but few bills. On the other hand, when gold is going out of the country, and money becomes scarce, the market-rate is higher than the bank-rate. If during this period the bank charges a low rate, it must soon limit its discounts, or the reserve will be exhausted. But, though the bank cannot change the course of the current, it can give it increased strength. Though it cannot make money dear when it is cheap, nor cheap when it is dear, yet when money is cheap it can make it cheaper, and when it is dear it can make it dearer. Hence, every alteration in the bank-rate has always an immediate influence on the market-rate.
Such was the case in September, 1844. The large importations of gold had reduced the market-rate of discount to 2 1/2 per cent. while the bank charged 4 per cent. But when the bank reduced its rate to 2 1/2 per cent. the market-rate went down to 2, and even to 1 1/2 per cent. To engage actively in discounting bills was a new feature in the bank management. In 1832 the then governor stated to the Committee of the House of Commons, that he thought the bank should be a bank of circulation and of deposit, and only occasionally a bank of discount. But the Act of 1844 placed the bank in a new position, and led to the adoption of new principles. Formerly the bank had invested its surplus funds in Government securities. But when it purchased, the price advanced; and when it sold, the price fell. This produced a fluctuation inconvenient to the public. Often, too, it purchased when the price was high, and sold when the price was low: and thus sustained loss. It was therefore deemed preferable to invest a portion of the reserve in the discount of bills. The sums thus invested would return as the bills fell due, and the reserve could at any time be strengthened by checking the discounts.
The directors having determined to invest a portion of their funds in discounts, it became necessary to reduce their rate of interest to nearly the market-rate, or they would have got no bills.
An eminent London banker, distinguished by his support of the Act of 1844, says: "If the bank is to continue as a large discounting body (of the expediency of which I entertain considerable doubts), I think it very desirable that its rate of interest should conform to the real market-value of money."1 The directors seemed to think it necessary that they should in some way employ their reserve, in order to prevent the too great accumulation of bank notes in the issue department.2 We here give no opinion as to the best way of employing the bank's reserve, but we are quite ready to admit, as the governor admits in reply to a question, that "the true principles of banking are, first, that a bank shall never place itself in such a position as that it shall be unable to meet its liabilities; and next, that it shall employ the whole of its resources at the greatest profit that it can with reference to prudence, looking to its reserve."3
In thus coming into competition with the money-dealers, reducing the rate of interest, exciting a feverish state of feeling in the public mind, and giving facilities to the formation of companies for speculative purposes, the bank directors are accused of having violated their public duties as the bank of the Government, and thus sacrificed the interests of the nation to the interests of their proprietors. We shall not meddle with this question. We have here nothing to do with the public duties of the bank directors. We are considering the banking department as "any other banking concern." Generally speaking, Providence has so constituted human society that all banking companies, and all individuals too, will most effectually promote the public interests when by honourable means they promote their own. If this is not the case with the Bank of England, it must have arisen from the acts of the Legislature; and the fact - if it be a fact - is presumptive evidence against the wisdom and the justice of those laws by which the bank was placed in that position.