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MEMBERSHIP BY STATE BANKS

313 was the only bank which had not accumulated this surplus of 100% of subscribed capital or 200% of the paid-in capital. Up to that time the twelve reserve banks had paid over 135 million dollars to the United States as a franchise tax on their earnings.

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238. Membership by state banks. On December 29, 1922, there were 1639 state institutions which were members of the reserve system. The large state banks and trust companies are nearly all members. A great many of the state banks have stayed out of the system because they get all the indirect benefits without membership, and if they need to rediscount they can do that with or borrow from their correspondent banks. The reserve system has such added strength that lower reserves are needed and in many states the reserves .required of state banks are higher than those of member banks so that numerous small banks have also joined the system. Other banks have joined because they wanted to patronize directly what benefited them so much indirectly and in addition the lost motion from profiting by the system in roundabout methods was eliminated. The strongest arguments now for eligible state banks to join the system are three: (1) the rediscount facilities, (2) the economies of the collection system, and (3) the fact that new memberships make banking power stronger and increase the potential resources of the reserve banks when the nation again needs them. Every new member increases the gold or money holdings of a Federal reserve bank. The new member subscribes and pays for stock; it establishes with the bank a reserve against its deposits. These new holdings increase the power of the reserve bank to lend or issue notes.

Reasons given by state banks for not becoming members are in the main three: (1) The return on stock is less than the bank earns in other ways and the reserve

banks pay no interest on reserves as their approved reserve agents now do; (2) restrictions on members; and (3) fear of control by the Federal Reserve Board.1 A state bank to be eligible for membership must satisfy the capital requirements of national banks (see 228) and have its application approved by the Federal Reserve Board. The board considers especially - (1) The financial condition of the applying bank or trust company and the general character of its management; (2) whether the corporate powers exercised by the applying bank or trust company are consistent with the purposes of the Federal Reserve Act; and (3) whether the laws of the state or district in which the applying bank or trust company is located contain provisions likely to prevent proper compliance with the provisions of the Federal Reserve Act and the regulations of the Federal Reserve Board made in conformity therewith.2

When a state bank becomes a member it is required to comply with the reserve and capital requirements of national banks, and they must observe the provisions of law imposed on national banks which prohibit their lending on their own stock, the payment of unearned dividends, the withdrawal and impairment of capital stock, and the certification of checks in excess of the deposit balance of the drawer. No Federal reserve bank shall discount for any state member bank the paper of any borrower who is liable to such bank for borrowed money in an amount greater than could be borrowed lawfully from such bank if it were a national bank. If a state bank has sixty per cent of the capital required for a national bank it may enter under an agreement to increase its capital to the required amount out of earnings accord

1 More detailed reasons for and against membership are to be found in R. B. Westerfield, Banking Principles and Practice, pp. 250, 252. (Ronald Press Co., New York, 1921.)

2 Federal Reserve Board, Regulations H, Series of 1920.

POWERS OF FEDERAL RESERVE BOARD 315

ing to a schedule to be prescribed by the Federal Reserve Board, but at least one fifth of its earnings must be so used. The state bank may withdraw from the system at any time, but if in any calendar year the withdrawals result in a cancellation of as much as 25% of the capital stock of a reserve bank, withdrawing banks must wait their turn, for a reserve bank is prohibited from canceling in a single year by withdrawals over 25% of its capital stock.

239. The powers of the Federal Reserve Board. - Although there are twelve banks, they are unified under the control of the Federal Reserve Board. The activities of the reserve banks are either subject to the general supervision of the board, or as in the case of the principal functions of the banks, they are to be carried out under regulations to be made by the board. Instances of the authority of the board are

1. To review and determine discount rates and collection charges, provide regulations for the character of the paper to be discounted, fix limitations for the discount of agricultural paper, require reserve banks to rediscount for each other, and prescribe regulations for open market transactions.

2. To approve or disapprove issues of notes, applications for permission to accept up to 100% of capital and surplus, applications from state banks to become members, or to withdraw from membership, applications of member banks to have fiduciary powers, applications to increase or decrease the capital stock of member banks, applications for the opening of foreign branches, and applications to purchase stock in foreign banking corporations.

3. To suspend the reserve requirements of Federal reserve and member banks, and subject to the limitations of the act to levy taxes on the deficiencies in bank reserves;

to change the classification of banks as central reserve city, reserve city, or country banks, which is the power to raise or lower reserves of all the banks in a given city.

4. To examine at its discretion reserve banks, and member banks; to remove officers of reserve banks; to require reserve banks to write off doubtful assets; to suspend, take charge of, and reorganize a reserve bank if the law is violated; and to examine and supervise the federal foreign banks.

5. To exercise general supervision over the reserve banks.

240. Fiscal agent of the United States. The Federal reserve banks and member banks are depositories of the United States. The reserve banks and the foreign branches of member banks are required to act as fiscal agents of the Government. They are also fiscal agents of the War Finance Corporation. The fiscal requirements of the United States during and since the war have been heavy. During the war the task of financing it was the principal burden of the reserve banks. Subscriptions to bond issues and certificates of indebtedness, the collection of payments, the delivery and conversion of bonds, etc., had to be handled. The Secretary of the Treasury used the reserve banks. These in turn supervised the work of the loan committees and the banks all over the country. By means of the gold settlement fund deposits were left with the depository banks until actually required, when the transfers were made by telegraph. The expenses of the reserve banks as fiscal agents are of course paid by the U. S. treasury. During the year 1919 the treasury reimbursed the reserve banks for fiscal expenses to the amount of $22,612,681.

241. The establishment of rediscount facilities. Before the Federal reserve banks were started people in the United States were uneducated to rediscounts and borrow

REDISCOUNT FACILITIES

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ing by banks although such was the established practice in other parts of the world. American banks had acted independently so long that it was deemed a weakness for each not to hold its own paper. A large bank in an eastern city borrowed $300,000 and instead of showing it as a liability in its published statement reduced its loans and discounts by that much. This was a violation of the law. The lack of a discount market hampered the banks in their power to lend. The Federal reserve act has revolutionized American practice. The discussions of the purposes of the act and European banking practice have shown the public and the bankers that rediscounting is not bad banking practice. Not all notes or acceptances are eligible for rediscount. Federal reserve banks accept only sound, liquid, agricultural or commercial paper (see 125). In the beginning some member banks had almost no paper that was eligible. Familiarity with the requirements of the law and the regulations of the Federal Reserve Board is causing a greater and greater volume of loans to be made in such a way that they are eligible. As a result the member banks are in a position to rediscount such loans at the Federal reserve bank at a rate which is one per cent or more lower than its lending rate. Or just as a member bank may borrow from the Federal reserve bank on its promissory notes for a period not exceeding fifteen days provided such notes are secured by a deposit or pledge of bonds or notes of the United States, it may borrow on its own notes by offering as collateral, notes, drafts, and bills of exchange or bankers' acceptances which are themselves eligible for rediscount or purchase by a Federal reserve bank.

The reserve banks are prohibited from rediscounting for any one bank paper, bearing the signature or indorsement of any one borrower, which amounts in the aggregate to more than ten per cent of the unimpaired capital and sur

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