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section fourteen of this act, or bankers' acceptances purchased under the provisions of said section fourteen, or gold or gold certificates." 5 The Federal Reserve Board may at any time call upon a reserve bank for additional security to protect the notes which have been issued to it. In addition to the security given to the Government which is held by the Federal reserve agent, the Federal reserve bank must maintain the reserve of 40% in gold which has been mentioned above. The notes are a first lien upon the assets of the reserve bank. These notes are issued in denominations of $5, $10, $20, $50, $100, $500, $1000, $5000, and $10,000.

About $2,650,000,000 of reserve notes were in circulation on February 21, 1923, and the Federal reserve agents had in hand ready to deliver to the banks when needed over 874 millions more. When the peak of reserve notes issue was reached in December, 1920, almost $3,500,000,000 were outstanding.

244. Issue of Federal reserve bank notes. Whenever a Federal reserve bank purchases from a national bank bonds with the circulation privilege in order that the national bank may retire its notes, the Federal reserve bank is permitted to take out an amount of circulating notes equal to the par value of the bonds. These notes. are the obligations of the bank issuing them. They are issued and redeemed on the same terms and conditions as the notes of national banks (see 236) except that they are not limited in amount to the capital stock of the Federal reserve bank which issues them. The Federal reserve banks in the same way are allowed to issue notes against bonds with the circulation privilege which they may acquire in any other manner. Federal reserve banks may also issue similar notes, including denominations of $1 and $2, by depositing with the U. S. Treasurer as

5 Federal Reserve Act, section 16.

security the one year gold notes or certificates of indebtedness of the United States. These notes cannot be issued in excess of the amount of silver dollars melted or broken up and sold as bullion according to the terms of the Pittman act of April 23, 1918. These notes will disappear with the retirement of the one year gold notes and the certificates of indebtedness. As the purchase and coinage of more silver dollars occur an equal amount of Federal reserve bank notes must be retired if any are then outstanding.

If a Federal reserve bank does not wish to issue notes against the bonds that it may be required to purchase from national banks, it has the privilege of exchanging the 2% bonds for 3% securities.

245. Contraction of Federal reserve notes. As the loans and rediscounts made by the Federal reserve banks mature they must be paid. If new rediscounts of equal amount are made there is no change in the notes outstanding. If the demand for loans upon the member banks is declining, the member banks will be able to reduce their liabilities to the reserve banks. Suppose a $1,000,000 loan of a member bank is paid. The effect may be to reduce the deposits of the bank by $800,000 and to increase its cash by $200,000. If deposits are $800,000 less, and the bank is one which must keep a reserve of 10%, the bank's reserve requirement at the Federal reserve bank is reduced by $80,000. The member bank can now pay off $280,000 of its rediscounts by a draft on the reserve bank for $80,000 and the shipment of $200,000 in currency. If there is no demand for this currency elsewhere, it enables the reserve bank to sort out $200,000 of notes and retire them by exchanging them with the Federal reserve agent for that amount of rediscounted paper, or it can deposit the money with the agent and exchange notes for it later. Federal reserve notes of one bank must not be

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paid out by any other. They must be sent to the issuing bank for credit, or to the Treasurer of the United States for redemption. Notes received for credit or received back from the U. S. Treasurer after redemption are retired if the bank does not need them. As long however as loans are not contracting the reserve bank continues to use the notes. Obviously, there can be no contraction of notes without a contraction of loans. When business opportunities diminish, the demand for loans declines naturally. The notes and bills of exchange rediscounted by reserve banks are those which grow, out of producing, buying, and selling. If these transactions contract 20%, the amount of paper contracts 20%, there is less offered for rediscount, and as the paper in the hands of the banks is paid off, the notes are retired.

During a period of expanding loans when the resources of the Federal reserve banks begin to be taxed, prudence requires some sort of action to make sure that unnecessary loans are discouraged while leaving it possible for necessary loans still to be obtained. To protect the reserve banks against too great inflation the Federal Reserve Board may take any or all of the following actions which will increase the cost of borrowing and tend to restore an equilibrium:

1. Increase the discount rate. Each Federal reserve bank has the power to change the rate of discount to be charged for each class of paper, but this power is subject to review and determination by the Federal Reserve Board. The reserve banks can graduate the discount rate according to the proportion of rediscounts which a bank is making.

2. Make an interest charge on all outstanding Federal reserve notes that are not secured by a deposit in equal amount of gold or gold certificates. The power to levy this charge rests with the Federal Reserve Board. The

cost would no doubt result in an increase in the discount rate.

3. Tax deficiencies in reserves. The Federal Reserve Board must establish a graduated tax on the amounts by which the reserves decline below the required level. The act does not prescribe any limits for a tax on deficiencies in reserves against deposits, but not more than 1% a year must be levied if the reserve against notes falls below 40% and not to 3212%. Deficiencies below 32% are taxed increasingly at the rate of 12% per annum for each 22% or fraction thereof that the reserve falls below 322%. The law requires that amounts equal to these tax rates must be added to the rates of interest and discount charged by the reserve bank.

246. Criticism of the system. In the beginning there was great criticism of the Federal reserve act because it did not meet the views of so many bankers and business men as to how the banking laws should have been revised. Some wanted a Government bank, some wanted a privately owned bank, some wanted one large central bank, others opposed any extension of the banking power of Wall Street. The act was a compromise affair. The result was twelve banks owned by the banks, unified under the control of one board appointed by the Government, the seat of control to be in Washington, not New York. There were numerous criticisms of certain features of the act. In May, 1916, the Advisory Council in answer to an inquiry by the Federal Reserve Board as to criticisms of the act and of the Board said: "The council has heard. no vital criticisms of the Federal reserve act beyond such as have been referred to by the Federal Reserve Board in its annual report to Congress and no criticisms of the Federal Reserve Board which seem worthy of discussion." 6 Upon the recommendation of the Federal Reserve Board

6 Federal Reserve Board, Annual Report, 1918, p, 800.

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numerous changes have been made in the Federal reserve act, in an attempt to meet most of the important criticisms. By, 1919 the efforts of the Federal reserve banks to collect checks at par universally brought them into sharp conflict with the non-member banks who were receiving a part of their revenue from exchange charges. No charge for exchange can be paid by a Federal reserve bank. For example when the Reserve Bank of Atlanta sent checks drawn on a bank in Mississippi to that bank the latter insisted on deducting an exchange charge from the face of the checks when it remitted a draft in payment. The reserve banks construed the law to require them to collect checks for their member banks. The reserve banks resorted to express companies and collectors to get these checks paid at par. This led to a storm of protest from many banks in the South and West. It is interesting to note that in their attacks, the representatives of the protesting banks have insisted that their complaints are not against the Federal reserve system, but against the way in which the provisions of law have been administered. The chief complaints may be summarized as follows:

1. Concentration of control of the twelve banks in the hands of a single political board which has adopted arbitrary rulings and policies, and has sought standardization contrary to the interests of some sections of the country. In regard to this kind of criticism the Bankers' Magazine in May, 1920 (p. 701), said: "Whether the real or fancied money trust' is financial with its center in Wall Street or political with its center at Washington, it is likely to arouse very serious hostility."

2. Competition of Federal reserve banks with member and non-member banks; efforts to force non-member banks into the par-clearance plan.

3. The adoption of the par-clearance plan; the methods of handling the deposit clearance accounts and "the float"