CHAPTER XXVII

OPERATION OF THE FEDERAL RESERVE SYSTEM1

I. THE FEDERAL RESERVE BOARD.

GOVERNMENTAL supervision of banking is everywhere to-day accepted as a public necessity. Under the old National Bank Act it was furnished by the Comptroller of the Currency. Under the Federal Reserve Act a new mechanism for it is supplied by the Federal Reserve Board.

The Federal Reserve Board is the central controlling and directing mechanism of the Federal Reserve system and, therefore, of the banking system of the United States. Under the terms of the Act it is appointed by the President, by and with the advice and consent of the Senate, subject to the following limitations:

1. No two members of the board can be chosen from the same district.

2. Each member must have been a bona-fide resident of the district from which he is appointed for two years preceding his appointment.

Subject to these limitations, the President, with the confirmation of the Senate, appoints six persons of his own. selection. These, together with the Comptroller of the Currency and the Secretary of the Treasury, make up the Federal Reserve Board. The Secretary of the Treasury is ex-officio chairman of the board, but the board has always a chief executive officer, known as the governor, and a second executive, similarly named, and known as the vice'The first twelve pages of this chapter are reprinted by permission of the publishers (The La Salle Extension University) from American Banking, by H. P. Willis.

governor. The board has power to adopt its own by-laws, rules of operation, and the like, and to select its own place of meeting.

Its functions are lengthy and detailed, but they may be briefly summarized under the following main heads:

1. To select government directors in Federal Reserve banks and to approve or disapprove the salaries of officers of the banks.

2. To establish rules and regulations for the management of business in the several districts.

3. To review the rate of discount at Federal Reserve banks and to originate the rate of rediscount between Federal Reserve banks.

4. To regulate the reserve holdings of the several banks and to impose penalties or fines upon those banks that permit their reserves to fall below the specified limit.

The permanent and regular duties of the Federal Reserve Board outlined above may be considered under three general divisions:

(1) Administrative.

(2) Constructive.

(3) Educative.

1. Administrative Duties.

Administrative functions are essentially of two kinds: (a) The regular and recurring duties necessary to the operation of the system, and (b) the sporadic or occasional duties which grow out of the application of the Act, but which do not occur at any definite time or times.

Of the regular and stated duties of administration, probably the most conspicuous is that of regularly approving discount rates when they are submitted by the several banks. To do this work intelligently involves careful study and consideration of the general business conditions throughout the nation, of the situation in each of the reserve districts themselves, and of the broad general outlook for the future. An incidental consideration is neces

sarily that of the earnings of Federal Reserve banks, and the degree in which it is necessary or desirable to enlarge those earnings through the taking on of more business.

Another administrative function practically continuous in its operation is that of granting to banks power to enlarge their acceptances of paper up to 100 per cent of their capital and surplus, and of extending to them the right to exercise the functions of trustee, executor, administrator, and the like. Under the terms of the Federal Reserve Act these powers cannot be conveyed except by special permit, and any member bank which desires to make use of them must, therefore, obtain the consent of the board. Under the system which has been laid down by the board this involves an application first of all to a local Federal Reserve bank, and when such an application has been approved the board is in position to take action, either confirming or disapproving the findings of the Federal Reserve bank which had passed upon it.

The law requires also that each Federal Reserve bank shall submit to the Federal Reserve Board statements of compensation paid to officers and directors, that they may be approved by the board. This naturally implies a study of proper rates of compensation, and the taking of action designed to fix such rates when occasion demands. Once established, the salary lists of the Federal Reserve banks are not likely to show extensive changes, but such alterations as there are will recur and require attention from time to time.

Other administrative duties must likewise be performed, among them the passing upon and approval of applications for and surrender of capital stock in Federal Reserve banks, the holdings of the member banks varying according as their own capital and surpluses increase and decrease. These, however, are for the most part technical, and no further enumeration is necessary.

2. Constructive Duties.

The constructive duties of the board prescribed by law are seen to best advantage in the provision which calls

for the development and application of regulations designed to control methods of business. Since the board was organized it has issued regulations defining commercial paper eligible for discount, regulations relating to the definition of savings accounts, rules for the issue and retirement of capital stock, rules for the purchase of warrants and bankers' acceptances in the open market, and a variety of others.

These regulations govern the practices of the Federal Reserve banks, and have substantially the force of law, inasmuch as the Federal Reserve Act itself calls for the exercise of these functions subject to the rules made by the board. Inasmuch as the character of the rules and regulations thus made may gradually alter the scope and methods of business done by the banks, it is clear that the work of the board in this regard is in the highest degree constructive in its nature. At times it is almost equal to the extensive limitation or modification of the provisions of the law itself.

It is difficult to say how far, when the system is fully perfected, it will be necessary for the board to alter such regulations. It may be expected that ultimately the regulations of the board will be changed but little, and that any modifications will be the outcome of observation and experience of banking and business conditions throughout the nation. By changes in the discount rate the volume of business will be controlled; but the methods of business at the banks which are dependent upon the regulations aforesaid will not be greatly altered. At present the Federal Reserve system is still in process of development, and its business practices are being worked out. This has necessitated more or less frequent changes in regulations, but such changes, as already indicated, will diminish in number as time goes on.

The Act has also placed in the hands of the Federal Reserve Board the power of changing and readjusting the reserve districts, subject to the broad general requirements that there should not be less than eight or more than twelve. How extensive such readjustments of the districts