75. The exchange controversy. While the overwhelming majority of the non-member banks agreed to pay their checks at par (without any deduction as a charge for exchange) when collected through the Federal reserve bank, there was a storm of opposition in the northwestern and southeastern states. Country bankers in these parts of the nation insisted that check collecting was not a part of the reserve bank's business, and that it was destroying a large part of the small bank's income to help the large city merchant. Many member banks in cities joined in this protest and offered the further objection that the Federal reserve system had started a dangerous policy with reference to checks in process of collection or the "float." When a bank sends checks for collection to another bank it usually gets immediate credit and probably obtains interest on the deposit. When a bank sends checks to a Federal reserve bank for collection it does not get credit until the reserve bank makes the collection. It may be an immediate credit, a credit after one day, or no credit until one to eight days have elapsed. The reserve banks were convinced that the Federal reserve act gave them a mandate to collect checks, and that a universal system of par collection was desirable. In 1919 a campaign was begun to get all non-member banks to agree to remit at par. As the number of banks in reserve districts not on the par list became small the reserve banks offered to accept checks on all banks. If a non-member bank would not remit at par, the reserve bank made use of an agent, who might be a member bank in the same town, an express company, or a suitable person or corporation. This agent would present checks over the counter. As this plan prevented any exchange charge some of the banks resorted to interesting methods to oppose the reserve banks. Sometimes notations like "Not payable through the Federal Re

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serve Bank, their branches, or agents, nor express company, nor postoffice," were printed upon all checks supplied to depositors. Public sentiment became so strong in some towns where there were no member banks that no local agent could be obtained. In a few cases where the Federal reserve bank messenger came a long distance, he would bring an accumulation of checks. If he demanded currency he would be refused, unless he could offer a satisfactory recommendation. Sometimes he would be offered more silver dollars than he could handle safely. It is said that one southwestern bank paid in one dollar bills each of which they first tied in a knot. It was not humor but a grim fight. The local banks organized and went to the courts, to Congress, and to the legislature seeking relief from the "tyranny of a new money trust."

A state bank in Georgia sought an injunction to restrain the Federal Reserve Bank of Atlanta, from collecting checks at par. The Federal court denied the petition. It did restrain the reserve bank from placing the names of the complaining state banks on its par collection list. In November, 1922, the United States Circuit Court of Appeals upheld the lower court and the right of the Federal Reserve Bank of Atlanta to collect at par. In June 1923 the Supreme Court of the United States affirmed this decision. It declared that the evidence did not show that the reserve bank was exercising its rights in order to injure or oppress the non-member banks which were refusing to remit at par.

During 1920 and 1921 the legislatures of Mississippi, Louisiana, South Dakota, Georgia, Alabama, North Carolina, Tennessee, and Florida came to the support of the

3 For a good account of the par collection system see Howard H. Preston, "Federal Reserve Bank's System of Par Collection," Journal of Political Economy, Vol. XXVIII, No. 7, July 1920.

fighting banks in their efforts to retain exchange charges. They passed laws more or less similar which require or permit the banks of the respective states to make exchange charges of not more than 1/8%. The Supreme Court of North Carolina held that the legislation in that state was unconstitutional but the Supreme Court of the United States in June 1923 decided that the legislation in that state was in opposition neither to the constitution nor the Federal reserve act. The opinion was expressed that while the reserve banks could not pay exchange, no duty had been imposed upon them to establish a universal system of par clearance; and that a state could modify by legislation, such as North Carolina's, the common law rule which required the payment of checks in cash, and provide for payment in exchange with a fee therefor.

In showing the advantages of par collection the Federal Reserve Board reports that it ground the cost of collecting checks down to 3/10 of a cent for each $1,000 as opposed to the former cost of $1.00 for each $1000. It expresses its position with reference to the propriety under present conditions of exacting exchange charges as follows: 4

"The Board has frequently had occasion to point out that in their origin exchange charges were justified on account of the necessity for, and the high cost of, actually transporting currency, but that under existing conditions those charges can be justified upon no scientific or economic principle, since the payment of checks at places other than where the drawee bank is located involves little expense and that is borne by the Federal reserve banks. Even the banks which decline to remit at par to the Federal reserve banks receive the benefits of the Federal reserve check clearing facilities by having the checks which they receive collected through a correspondent bank which is a

4 Seventh Annual Report of the Federal Reserve Board, p. 67.

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member of the Federal reserve system, although they contribute nothing to the strength of the system. To the extent that the practice of charging exchange is continued under the operation of the Federal reserve system, it is an anachronism which permits the charging banks to impose a charge upon commerce and industry after they have ceased to perform the service which in former times justified the imposition of such a charge.”

The above decisions of the Supreme Court were followed by orders of the Federal Reserve Board which modified its previous plan for the collection of checks. Reserve banks are prohibited from accepting for deposit or for collection any check which is drawn on a bank which charges a fee for paying it by exchange. The protesting non-member banks have won their fight to keep their checks from passing through the reserve banks. They must be collected according to some plan similar to that described in section 73. The Board also made a ruling requiring the reserve banks to charge a collection fee not to exceed one-tenth of one per cent on any check which bears the indorsement of, or is drawn by or emanates from any non-member bank which refuses to remit at par for checks drawn on it.5 In this way the non-member banks who refuse to remit at par are compelled to pay for any use they may wish to make of the reserve system of check collection. If a bank has many checks to collect, it is probably to its advantage to remit at par and use the reserve system. If its depositors send away many checks and deposit few items that need collection, it may be to its advantage to continue to charge exchange on its payments to other banks.

76. The Federal reserve system of check clearing and collection. Every member bank has an account on the

5 As this book goes to press, the effective date of this ruling has been postponed to permit consideration of protests by southern bankers.

books of the Federal reserve bank of its district. For clearing purposes non-member banks may carry accounts. Any bank using a Federal reserve bank for clearing forwards to it the checks on all banks from which the Federal reserve bank can collect at par. A Federal reserve bank cannot pay an exchange charge so if a non-member insists on a deduction the Federal reserve bank will not handle any of its checks. It will no longer send them to a member bank in the same town or employ some local collecting agent to present the items over the counter. The Federal reserve clearing system is now nearly universal. There are some state banks in the South and West that do not remit at par. The Federal reserve bank sorts the checks it receives from each bank according to a time schedule, the time necessary to elapse to enable the Federal reserve bank to hear from an item. The member bank is immediately credited with the receipts from it, though the credits are not available to count as legal reserve until the time for transit has elapsed. Checks on each member bank are then thrown together, the items forwarded, and the account debited, according to the time schedule. In the case of non-member banks with clearing accounts the receipts are credited to an uncollected funds account and transferred from that to a collected funds account in accordance with the time schedule. The checks on these banks are then forwarded for remittance with a stamped envelope, the bank sending back to the Federal reserve bank its draft on its collected funds account, which account must be of sufficient balance to cover these debit items in transit. If a non-member bank has no clearing account the items are sent direct for return remittance with a stamped envelope. The payer bank may send exchange; it may send any form of lawful money, the transportation and insurance charges whether by express or registered insured mail to be borne by the Federal reserve bank. If