4/9/2013 Banking notes

The origin of the First Bank of United States
It wasn't a central bank.
Wasn't granted monopoly privileges to issue notes
No regulatory power on commercial banking system
But it was the only bank exempt from tax imposed on other banks which do business in different states. It also had a large amount of reserves, which implied its strong influence in the financial market.

Second Bank of United States
Mission is to bring order to banking system by restoring specie payment by state chartered banks. (socialize depositor losses)

It didn't regulate banks and it didn't act as lender of last resort, but it was big and conducted monetary policies.

Did these banks serve to improve the quality of the US means of payment or not?
Favorable view: they served to discipline and restrain state banks by actively redeeming their notes.
Unfavorable view: rather than restraint, they often encouraged state banks to expand by reissuing bank notes.

Free banking
States (not federal) charters
No federal law governing banking system
Freer entry
No note issue without discretionary approval

Myths about state banking
(1) state banks are free
(2) wildcat banks are ubiquitous
(3) poor quality of state banks and banknotes is a result of lax regulation and oversight

How to open a bank
(1) meet the capital requirement
Asset                                                                                     Liabilities
Bonds deposited with                                                          Notes
state banking authority                                                        $50000
$50000

Loans to stockholders                                                        Equity
15000                                                                                  $50000

specie
5000

loans
30000

have to buy bonds from state you live (collateral)
pay-in capital : 50000-15000=35000

Note issuance
Banks are allowed to issue their own notes, but have to make security deposit with the state banking authority.  (Typically in the form of state bonds)
Notes should be issued up to face value of the deposit
States can close banks if the deposit values fall below the value of notes outstanding

Panics in2007
Repo market (regulation Q and restriction on interstate branching)

Par conversion
Banks are not allowed to make arrangement with customers on how much to redeem. The legislation makes bank runs possible.

State chartering restricted entry and competition of banks. Banks are small and undiversified.
Wildcat banking is exaggerated. Most banks were honest.