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Lombard Street: A Description of the Money Market by Walter Bagehot

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A Description of the Money Market.




I venture to call this Essay 'Lombard Street,' and not the 'Money
Market,' or any such phrase, because I wish to deal, and to show
that I mean to deal, with concrete realities. A notion prevails that
the Money Market is something so impalpable that it can only be
spoken of in very abstract words, and that therefore books on it
must always be exceedingly difficult. But I maintain that the Money
Market is as concrete and real as anything else; that it can be
described in as plain words; that it is the writer's fault if what
he says is not clear. In one respect, however, I admit that I am
about to take perhaps an unfair advantage. Half, and more than half,
of the supposed 'difficulty' of the Money Market has arisen out of
the controversies as to 'Peel's Act,' and the abstract discussions
on the theory on which that act is based, or supposed to be based.
But in the ensuing pages I mean to speak as little as I can of the
Act of 1844; and when I do speak of it, I shall deal nearly
exclusively with its experienced effects, and scarcely at all, if at
all, with its refined basis.

For this I have several reasons,--one, that if you say anything about
the Act of 1844, it is little matter what else you say, for few will
attend to it. Most critics will seize on the passage as to the Act,
either to attack it or defend it, as if it were the main point.
There has been so much fierce controversy as to this Act of
Parliament--and there is still so much animosity--that a single sentence
respecting it is far more interesting to very many than a whole book
on any other part of the subject. Two hosts of eager disputants on
this subject ask of every new writer the one question--Are you with us
or against us? and they care for little else. Of course if the Act
of 1844 really were, as is commonly thought, the primum mobile of
the English Money Market, the source of all good according to some,
and the source of all harm according to others, the extreme
irritation excited by an opinion on it would be no reason for not
giving a free opinion. A writer on any subject must not neglect its
cardinal fact, for fear that others may abuse him. But, in my
judgment, the Act of 1844 is only a subordinate matter in the Money
Market; what has to be said on it has been said at disproportionate
length; the phenomena connected with it have been magnified into
greater relative importance than they at all deserve. We must never
forget that a quarter of a century has passed since 1844, a period
singularly remarkable for its material progress, and almost
marvellous in its banking development. Even, therefore, if the facts
so much referred to in 1844 had the importance then ascribed to
them, and I believe that in some respects they were even then
overstated, there would be nothing surprising in finding that in a
new world new phenomena had arisen which now are larger and
stronger. In my opinion this is the truth: since 1844, Lombard
Street is so changed that we cannot judge of it without describing
and discussing a most vigorous adult world which then was small and
weak. On this account I wish to say as little as is fairly possible
of the Act of 1844, and, as far as I can, to isolate and dwell
exclusively on the 'Post-Peel' agencies, so that those who have had
enough of that well-worn theme (and they are very many) may not be
wearied, and that the new and neglected parts of the subject may be
seen as they really are.

The briefest and truest way of describing Lombard Street is to say
that it is by far the greatest combination of economical power and
economical delicacy that the world has even seen. Of the greatness
of the power there will be no doubt. Money is economical power.
Everyone is aware that England is the greatest moneyed country in
the world; everyone admits that it has much more immediately
disposable and ready cash than any other country. But very few
persons are aware how much greater the ready balance--the floating
loan-fund which can be lent to anyone or for any purposeis in
England than it is anywhere else in the world. A very few figures
will show how large the London loan-fund is, and how much greater it
is than any other. The known deposits--the deposits of banks which
publish their accounts--are, in

London (31st December, 1872) 120,000,000 L
Paris (27th February, 1873) 13,000,000 L
New York (February, 1873) 40,000,000 L
German Empire (31st January, 1873) 8,000,000 L

And the unknown deposits--the deposits in banks which do not publish
their accounts--are in London much greater than those many other of
these cities. The bankers' deposits of London are many times greater
than those of any other city--those of Great Britain many times
greater than those of any other country.

Of course the deposits of bankers are not a strictly accurate
measure of the resources of a Money Market. On the contrary, much
more cash exists out of banks in France and Germany, and in all
non-banking countries, than could be found in England or Scotland,
where banking is developed. But that cash is not, so to speak,
'money-market money:' it is not attainable. Nothing but their
immense misfortunes, nothing but a vast loan in their own
securities, could have extracted the hoards of France from the
custody of the French people. The offer of no other securities would
have tempted them, for they had confidence in no other securities.
For all other purposes the money hoarded was useless and might as
well not have been hoarded. But the English money is 'borrowable'
money. Our people are bolder in dealing with their money than any
continental nation, and even if they were not bolder, the mere fact
that their money is deposited in a bank makes it far more
obtainable. A million in the hands of a single banker is a great
power; he can at once lend it where he will, and borrowers can come
to him, because they know or believe that he has it. But the same
sum scattered in tens and fifties through a whole nation is no power
at all: no one knows where to find it or whom to ask for it.
Concentration of money in banks, though not the sole cause, is the
principal cause which has made the Money Market of England so
exceedingly rich, so much beyond that of other countries.

The effect is seen constantly. We are asked to lend, and do lend,
vast sums, which it would be impossible to obtain elsewhere. It is
sometimes said that any foreign country can borrow in Lombard Street
at a price: some countries can borrow much cheaper than others; but
all, it is said, can have some money if they choose to pay enough
for it. Perhaps this is an exaggeration; but confined, as of course
it was meant to be, to civilised Governments, it is not much of an
exaggeration. There are very few civilised Governments that could
not borrow considerable sums of us if they choose, and most of them
seem more and more likely to choose. If any nation wants even to
make a railway--especially at all a poor nation--it is sure to come to
this country--to the country of banks--for the money. It is true that
English bankers are not themselves very great lenders to foreign
states. But they are great lenders to those who lend. They advance
on foreign stocks, as the phrase is, with 'a margin;' that is, they
find eighty per cent of the money, and the nominal lender finds the
rest. And it is in this way that vast works are achieved with
English aid which but for that aid would never have been planned.

In domestic enterprises it is the same. We have entirely lost the
idea that any undertaking likely to pay, and seen to be likely, can
perish for want of money; yet no idea was more familiar to our
ancestors, or is more common now in most countries. A citizen of
London in Queen Elizabeth's time could not have imagined our state
of mind. He would have thought that it was of no use inventing
railways (if he could have understood what a railway meant), for you
would not have been able to collect the capital with which to make
them. At this moment, in colonies and all rude countries, there is
no large sum of transferable money; there is no fund from which you
can borrow, and out of which you can make immense works. Taking the
world as a whole--either now or in the past--it is certain that in poor
states there is no spare money for new and great undertakings, and
that in most rich states the money is too scattered, and clings too
close to the hands of the owners, to be often obtainable in large
quantities for new purposes. A place like Lombard Street, where in
all but the rarest times money can be always obtained upon good
security or upon decent prospects of probable gain, is a luxury
which no country has ever enjoyed with even comparable equality

But though these occasional loans to new enterprises and foreign
States are the most conspicuous instances of the power of Lombard
Street, they are not by any means the most remarkable or the most
important use of that power. English trade is carried on upon
borrowed capital to an extent of which few foreigners have an idea,
and none of our ancestors could have conceived. In every district
small traders have arisen, who 'discount their bills' largely, and
with the capital so borrowed, harass and press upon, if they do not
eradicate, the old capitalist. The new trader has obviously an
immense advantage in the struggle of trade. If a merchant have
50,000 L. all his own, to gain 10 per cent on it he must make 5,000
l. a year, and must charge for his goods accordingly; but if another
has only 10,000 L., and borrows 40,000 L. by discounts (no extreme
instance in our modem trade), he has the same capital of 50,000 L.
to use, and can sell much cheaper. If the rate at which he borrows
be 5 per cent., he will have to pay 2,000 L. a year; and if, like
the old trader, he make 5,000 L. a year, he will still, after paying
his interest, obtain 3,000 L. a year, or 30 per cent, on his own
10,000 L. As most merchants are content with much less than 30 per
cent, he will be able, if he wishes, to forego some of that profit,
lower the price of the commodity, and drive the old-fashioned
trader--the man who trades on his own capital--out of the market. In
modem English business, owing to the certainty of obtaining loans on
discount of bills or otherwise at a moderate rate of interest, there
is a steady bounty on trading with borrowed capital, and a constant
discouragement to confine yourself solely or mainly to your own

This increasingly democratic structure of English commerce is very
unpopular in many quarters, and its effects are no doubt exceedingly
mixed. On the one hand, it prevents the long duration of great
families of merchant princes, such as those of Venice and Genoa, who
inherited nice cultivation as well as great wealth, and who, to some
extent, combined the tastes of an aristocracy with the insight and
verve of men of business. These are pushed out, so to say, by the
dirty crowd of little men. After a generation or two they retire
into idle luxury. Upon their immense capital they can only obtain
low profits, and these they do not think enough to compensate them
for the rough companions and rude manners they must meet in
business. This constant levelling of our commercial houses is, too,
unfavourable to commercial morality. Great firms, with a reputation
which they have received from the past, and which they wish to
transmit to the future, cannot be guilty of small frauds. They live
by a continuity of trade, which detected fraud would spoil. When we
scrutinise the reason of the impaired reputation of English goods,
we find it is the fault of new men with little money of their own,
created by bank 'discounts.' These men want business at once, and
they produce an inferior article to get it. They rely on cheapness,
and rely successfully.

But these defects and others in the democratic structure of commerce
are compensated by one great excellence. No country of great
hereditary trade, no European country at least, was ever so little
'sleepy,' to use the only fit word, as England; no other was ever so
prompt at once to seize new advantages. A country dependent mainly
on great 'merchant princes' will never be so prompt; their commerce
perpetually slips more and more into a commerce of routine. A man of
large wealth, however intelligent, always thinks, more or less 'I
have a great income, and I want to keep it. If things go on as they
are I shall certainly keep it; but if they change I may not keep
it.' Consequently he considers every change of circumstance a
'bore,' and thinks of such changes as little as he can. But a new
man, who has his way to make in the world, knows that such changes
are his opportunities; he is always on the look-out for them, and
always heeds them when he finds them. The rough and vulgar structure
of English commerce is the secret of its life; for it contains 'the
propensity to variation,' which, in the social as in the animal
kingdom, is the principle of progress.

In this constant and chronic borrowing, Lombard Street is the great
go-between. It is a sort of standing broker between quiet saving
districts of the country and the active employing districts. Why
particular trades settled in particular places it is often difficult
to say; but one thing is certain, that when a trade has settled in
any one spot, it is very difficult for another to oust it--impossible
unless the second place possesses some very great intrinsic
advantage. Commerce is curiously conservative in its homes, unless
it is imperiously obliged to migrate. Partly from this cause, and
partly from others, there are whole districts in England which
cannot and do not employ their own money. No purely agricultural
county does so. The savings of a county with good land but no
manufactures and no trade much exceed what can be safely lent in the
county. These savings are first lodged in the local banks, are by
them sent to London, and are deposited with London bankers, or with
the bill brokers. In either case the result is the same. The money
thus sent up from the accumulating districts is employed in
discounting the bills of the industrial districts. Deposits are made
with the bankers and bill brokers in Lombard Street by the bankers
of such counties as Somersetshire and Hampshire, and those bill
brokers and bankers employ them in the discount of bills from
Yorkshire and Lancashire. Lombard Street is thus a perpetual agent
between the two great divisions of England, between the
rapidly-growing districts, where almost any amount of money can be
well and easily employed, and the stationary and the declining
districts, where there is more money than can be used.

This organisation is so useful because it is so easily adjusted.
Political economists say that capital sets towards the most
profitable trades, and that it rapidly leaves the less profitable
and non-paying trades. But in ordinary countries this is a slow
process, and some persons who want to have ocular demonstration of
abstract truths have been inclined to doubt it because they could
not see it. In England, however, the process would be visible enough
if you could only see the books of the bill brokers and the bankers.
Their bill cases as a rule are full of the bills drawn in the most
profitable trades, and _caeteris paribus_ and in comparison empty of
those drawn in the less profitable. If the iron trade ceases to be
as profitable as usual, less iron is sold; the fewer the sales the
fewer the bills; and in consequence the number of iron bills in
Lombard street is diminished. On the other hand, if in consequence
of a bad harvest the corn trade becomes on a sudden profitable,
immediately 'corn bills' are created in great numbers, and if good
are discounted in Lombard Street. Thus English capital runs as
surely and instantly where it is most wanted, and where there is
most to be made of it, as water runs to find its level.

This efficient and instantly-ready organisation gives us an enormous
advantage in competition with less advanced countries--less advanced,
that is, in this particular respect of credit. In a new trade
English capital is instantly at the disposal of persons capable of
understanding the new opportunities and of making good use of them.
In countries where there is little money to lend, and where that
little is lent tardily and reluctantly, enterprising traders are
long kept back, because they cannot at once borrow the capital,
without which skill and knowledge are useless. All sudden trades
come to England, and in so doing often disappoint both rational
probability and the predictions of philosophers. The Suez Canal is a
curious case of this. All predicted that the canal would undo what
the discovery of the passage to India round the Cape effected.
Before that all Oriental trade went to ports in the South of Europe,
and was thence diffused through Europe. That London and Liverpool
should be centres of East Indian commerce is a geographical anomaly,
which the Suez Canal, it was said, would rectify. 'The Greeks,' said
M. de Tocqueville, 'the Styrians, the Italians, the Dalmatians, and
the Sicilians, are the people who will use the Canal if any use it.'
But, on the contrary, the main use of the Canal has been by the
English. None of the nations named by Tocqueville had the capital,
or a tithe of it, ready to build the large screw steamers which
alone can use the Canal profitably. Ultimately these plausible
predictions may or may not be right, but as yet they have been quite
wrong, not because England has rich people--there are wealthy people
in all countries--but because she possesses an unequalled fund of
floating money, which will help in a moment any merchant who sees a
great prospect of new profit.

And not only does this unconscious 'organisation of capital,' to use
a continental phrase, make the English specially quick in comparison
with their neighbours on the continent at seizing on novel
mercantile opportunities, but it makes them likely also to retain
any trade on which they have once regularly fastened. Mr.
Macculloch, following Ricardo, used to teach that all old nations
had a special aptitude for trades in which much capital is required.
The interest of capital having been reduced in such countries, he
argued, by the necessity of continually resorting to inferior soils,
they can undersell countries where profit is high in all trades
needing great capital. And in this theory there is doubtless much
truth, though it can only be applied in practice after a number of
limitations and with a number of deductions of which the older
school of political economists did not take enough notice. But the
same principle plainly and practically applies to England, in
consequence of her habitual use of borrowed capital. As has been
explained, a new man, with a small capital of his own and a large
borrowed capital, can undersell a rich man who depends on his own
capital only. The rich man wants the full rate of mercantile profit
on the whole of the capital employed in his trade, but the poor man
wants only the interest of money (perhaps not a third of the rate of
profit) on very much of what he uses, and therefore an income will
be an ample recompense to the poor man which would starve the rich
man out of the trade. All the common notions about the new
competition of foreign countries with England and its dangersnotions
in which there is in other aspects much truth require to be
reconsidered in relation to this aspect. England has a special
machinery for getting into trade new men who will be content with
low prices, and this machinery will probably secure her success, for
no other country is soon likely to rival it effectually.

There are many other points which might be insisted on, but it would
be tedious and useless to elaborate the picture. The main conclusion
is very plainthat English trade is become essentially a trade on
borrowed capital, and that it is only by this refinement of our
banking system that we are able to do the sort of trade we do, or to
get through the quantity of it.

But in exact proportion to the power of this system is its delicacy
I should hardly say too much if I said its danger. Only our
familiarity blinds us to the marvellous nature of the system. There
never was so much borrowed money collected in the world as is now
collected in London. Of the many millions in Lombard street,
infinitely the greater proportion is held by bankers or others on
short notice or on demand; that is to say, the owners could ask for
it all any day they please: in a panic some of them do ask for some
of it. If any large fraction of that money really was demanded, our
banking system and our industrial system too would be in great

Some of those deposits too are of a peculiar and very distinct
nature. Since the Franco-German war, we have become to a much larger
extent than before the Bankers of Europe. A very large sum of
foreign money is on various accounts and for various purposes held
here. And in a time of panic it might be asked for. In 1866 we held
only a much smaller sum of foreign money, but that smaller sum was
demanded and we had to pay it at great cost and suffering, and it
would be far worse if we had to pay the greater sums we now hold,
without better resources than we had then.

It may be replied, that though our instant liabilities are great,
our present means are large; that though we have much we may be
asked to pay at any moment, we have very much always ready to pay it
with. But, on the contrary, there is no country at present, and
there never was any country before, in which the ratio of the cash
reserve to the bank deposits was so small as it is now in
England. So far from our being able to rely on the proportional
magnitude of our cash in hand, the amount of that cash is so
exceedingly small that a bystander almost trembles when he compares
its minuteness with the immensity of the credit which rests upon it.

Again, it may be said that we need not be alarmed at the magnitude
of our credit system or at its refinement, for that we have learned
by experience the way of controlling it, and always manage it with
discretion. But we do not always manage it with discretion. There is
the astounding instance of Overend, Gurney, and Co. to the contrary.
Ten years ago that house stood next to the Bank of England in the
City of London; it was better known abroad than any similar firm
known, perhaps, better than any purely English firm. The partners
had great estates, which had mostly been made in the business. They
still derived an immense income from it. Yet in six years they lost
all their own wealth, sold the business to the company, and then
lost a large part of the company's capital. And these losses were
made in a manner so reckless and so foolish, that one would think a
child who had lent money in the City of London would have lent it
better. After this example, we must not confide too surely in
long-established credit, or in firmly-rooted traditions of business.
We must examine the system on which these great masses of money are
manipulated, and assure ourselves that it is safe and right.

But it is not easy to rouse men of business to the task. They let
the tide of business float before them; they make money or strive to
do so while it passes, and they are unwilling to think where it is
going. Even the great collapse of Overends, though it caused a
panic, is beginning to be forgotten. Most men of business
think'Anyhow this system will probably last my time. It has gone on
a long time, and is likely to go on still.' But the exact point is,
that it has not gone on a long time. The collection of these immense
sums in one place and in few hands is perfectly new. In 1844 the
liabilities of the four great London Joint Stock Banks were
10,637,000 L.; they now are more than 60,000,000 L. The private
deposits of the Bank of England then were 9,000,000 L.; they now are
8,000,000 L. There was in throughout the country but a fraction of
the vast deposit business which now exists. We cannot appeal,
therefore, to experience to prove the safety of our system as it now
is, for the present magnitude of that system is entirely new.
Obviously a system may be fit to regulate a few millions, and yet
quite inadequate when it is set to cope with many millions. And thus
it may be with 'Lombard Street,' so rapid has been its growth, and
so unprecedented is its nature.

I am by no means an alarmist. I believe that our system, though
curious and peculiar, may be worked safely; but if we wish so to
work it, we must study it. We must not think we have an easy task
when we have a difficult task, or that we are living in a natural
state when we are really living in an artificial one. Money will not
manage itself, and Lombard street has a great deal of money to


A General View of Lombard Street.


The objects which you see in Lombard Street, and in that money world
which is grouped about it, are the Bank of England, the Private
Banks, the Joint Stock Banks, and the bill brokers. But before
describing each of these separately we must look at what all have in
common, and at the relation of each to the others.

The distinctive function of the banker, says Ricardo, 'begins as
soon as he uses the money of others;' as long as he uses his own
money he is only a capitalist. Accordingly all the banks in Lombard
Street (and bill brokers are for this purpose only a kind of
bankers) hold much money belonging to other people on running
account and on deposit. In continental language, Lombard Street is
an organization of credit, and we are to see if it is a good or bad
organization in its kind, or if, as is most likely, it turn out to
be mixed, what are its merits and what are its defects?

The main point on which one system of credit differs from another is
'soundness.' Credit means that a certain confidence is given, and a
certain trust reposed. Is that trust justified? and is that
confidence wise? These are the cardinal questions. To put it more
simplycredit is a set of promises to pay; will those promises be
kept? Especially in banking, where the 'liabilities,' or promises to
pay, are so large, and the time at which to pay them, if exacted, is
so short, an instant capacity to meet engagements is the cardinal

All which a banker wants to pay his creditors is a sufficient supply
of the legal tender of the country, no matter what that legal tender
may be. Different countries differ in their laws of legal tender,
but for the primary purposes of banking these systems are not
material. A good system of currency will benefit the country, and a
bad system will hurt it. Indirectly, bankers will be benefited or
injured with the country in which they live; but practically, and
for the purposes of their daily life, they have no need to think,
and never do think, on theories of currency. They look at the matter
simply. They say 'I am under an obligation to pay such and such sums
of legal currency; how much have I in my till, or have I at once
under my command, of that currency?' In America, for example, it is
quite enough for a banker to hold 'greenbacks,' though the value of
these changes as the Government chooses to enlarge or contract the
issue. But a practical New York banker has no need to think of the
goodness or badness of this system at all; he need only keep enough
'greenbacks' to pay all probable demands, and then he is fairly safe
from the risk of failure.

By the law of England the legal tenders are gold and silver coin
(the last for small amounts only), and Bank of England notes. But
the number of our attainable bank notes is not, like American
'greenbacks,' dependent on the will of the State; it is limited by
the provisions of the Act of 1844. That Act separates the Bank of
England into two halves. The Issue Department only issues notes, and
can only issue 15,000,000 L. on Government securities; for all the
rest it must have bullion deposited. Take, for example an account,
which may be considered an average specimen of those of the last few
years--that for the last week of 1869:

_An account pursuant to the Act 7th and 8th Victoria, cap. 32, for
the week ending on Wednesday, the 29th day of December, 1869._


Notes issued 33,288,640 L Government debt 11,015,100 L
Other securities 3,984,900 L
Gold coin and bullion 18,288,640 L
Silver bullion
33,288,640 33,288,640 L

Proprietors' capital 14,553,000 L Government Securities 13,811,953 L
Rest 3,103,301 L Other securities 19,781,988 L
Public deposits, Notes 10,389,690 L
including Exchequer, Gold and silver coins 907,982 L
Savings' Banks,
Commissioners of
National Debt,
and dividend
accounts 8,585,215 L
Other deposits 18,204,607 L
Seven-day and other
bills 445,490 L
44,891,613 L 44,891,613 L

GEO. FORBES, Chief Cashier.

Dated the 30th December, 1869.

There are here 15,000,000 L. bank notes issued on securities, and
18,288,640 L. represented by bullion. The Bank of England has no
power by law to increase the currency in any other manner. It holds
the stipulated amount of securities, and for all the rest it must
have bullion. This is the 'cast iron' systemthe 'hard and fast' line
which the opponents of the Act say ruins us, and which the partizans
of the Act say saves us. But I have nothing to do with its
expediency here. All which is to my purpose is that our paper 'legal
tender,' our bank notes, can only be obtained in this manner. If,
therefore, an English banker retains a sum of Bank of England notes
or coin in due proportion to his liabilities, he has a sufficient
amount of the legal tender of this country, and he need not think of
anything more.

But here a distinction must be made. It is to be observed that
properly speaking we should not include in the 'reserve' of a bank
'legal tenders,' or cash, which the Bank keeps to transact its daily
business. That is as much a part of its daily stock-in-trade as its
desks or offices; or at any rate, whatever words we may choose to
use, we must carefully distinguish between this cash in the till
which is wanted every day, and the safety-fund, as we may call it,
the special reserve held by the bank to meet extraordinary and
unfrequent demands.

What then, subject to this preliminary explanation, is the amount of
legal tender held by our bankers against their liabilities? The
answer is remarkable, and is the key to our whole system. It may be
broadly said that no bank in London or out of it holds any
considerable sum in hard cash or legal tender (above what is wanted
for its daily business) except the Banking Department of the Bank of
England. That department had on the 29th day of December, 1869,
liabilities as follows:

Public deposits 8,585,000 L
Private deposits 18,205,000 L
Seven-day and other bills 445,000 L
Total 27,235,000 L

and a cash reserve of 11,297,000 L. And this is all the cash reserve,
we must carefully remember, which, under the law, the Banking
Department of the Bank of England--as we cumbrously call it the Bank
of England for banking purposes--possesses. That department can no
more multiply or manufacture bank notes than any other bank can
multiply them. At that particular day the Bank of England had only
11,297,000 L. in its till against liabilities of nearly three times
the amount. It had 'Consols' and other securities which it could
offer for sale no doubt, and which, if sold, would augment its
supply of bank notesand the relation of such securities to real cash
will be discussed presently; but of real cash, the Bank of England
for this purpose--the banking bank--had then so much and no more.

And we may well think this a great deal, if we examine the position
of other banks. No other bank holds any amount of substantial
importance in its own till beyond what is wanted for daily purposes.
All London banks keep their principal reserve on deposit at the
Banking Department of the Bank of England. This is by far the
easiest and safest place for them to use. The Bank of England thus
has the responsibility of taking care of it. The same reasons which
make it desirable for a private person to keep a banker make it also
desirable for every banker, as respects his reserve, to bank with
another banker if he safely can. The custody of very large sums in
solid cash entails much care, and some cost; everyone wishes to
shift these upon others if he can do so without suffering.
Accordingly, the other bankers of London, having perfect confidence
in the Bank of England, get that bank to keep their reserve for

The London bill brokers do much the same. Indeed, they are only a
special sort of bankers who allow daily interest on deposits, and
who for most of their money give security. But we have no concern
now with these differences of detail. The bill brokers lend most of
their money, and deposit the remnant either with the Bank of England
or some London banker. That London banker lends what he chooses of
it, the rest he leaves at the Bank of England. You always come back
to the Bank of England at last. But those who keep immense sums with
a banker gain a convenience at the expense of a danger. They are
liable to lose them if the bank fail. As all other bankers keep
their banking reserve at the Bank of England, they are liable to
fail if it fails. They are dependent on the management of the Bank
of England in a day of difficulty and at a crisis for the spare
money they keep to meet that difficulty and crisis. And in this
there is certainly considerable risk. Three times 'Peel's Act' has
been suspended because the Banking Department was empty. Before the
Act was broken--

In 1847, the Banking Department was reduced to L 1,994,000
1857 " " L 1,462,000
1866 " " L 3,000,000

In fact, in none of those years could the Banking Department of the
Bank of England have survived if the law had not been broken. Nor
must it be fancied that this danger is unreal, artificial, and
created by law. There is a risk of our thinking so, because we hear
that the danger can be cured by breaking an Act; but substantially
the same danger existed before the Act. In 1825, when only coin was
a legal tender, and when there was only one department in the Bank,
the Bank had reduced its reserve to 1,027,000 L., and was within an
ace of stopping payment.

But the danger to the depositing banks is not the sole or the
principal consequence of this mode of keeping the London reserve.
The main effect is to cause the reserve to be much smaller in
proportion to the liabilities than it would otherwise be. The
reserve of the London bankers being on deposit in the Bank of
England, the Bank always lends a principal part of it. Suppose, a
favourable supposition, that the Banking Department holds more than
two-fifths of its liabilities in cashthat it lends three-fifths of
its deposits and retains in reserve only two-fifths. If then the
aggregate of the bankers' deposited reserve be 5,000,000 L.,
3,000,000 L. of it will be lent by the Banking Department, and
2,000,000 L. will be kept in the till. In consequence, that
2,000,000 L. is all which is really held in actual cash as against
the liabilities of the depositing banks. If Lombard Street were on a
sudden thrown into liquidation, and made to pay as much as it could
on the spot, that 2,000,000 L. would be all which the Bank of
England could pay to the depositing banks, and consequently all,
besides the small cash in the till, which those banks could on a
sudden pay to the persons who have deposited with them.

We see then that the banking reserve of the Bank of England--some
10,000,000 L. on an average of years now, and formerly much less--is
all which is held against the liabilities of Lombard Street; and if
that were all, we might well be amazed at the immense development of
our credit systemin plain English. at the immense amount of our
debts payable on demand, and the smallness of the sum of actual
money which we keep to pay them if demanded. But there is more to
come. Lombard Street is not only a place requiring to keep a
reserve, it is itself a place where reserves are kept. All country
bankers keep their reserve in London. They only retain in each
country town the minimum of cash necessary to the transaction of the
current business of that country town. Long experience has told them
to a nicety how much this is, and they do not waste capital and lose
profit by keeping more idle. They send the money to London, invest a
part of it in securities, and keep the rest with the London bankers
and the bill brokers. The habit of Scotch and Irish bankers is much
the same. All their spare money is in London, and is invested as all
other London money now is; and, therefore, the reserve in the
Banking Department of the Bank of England is the banking reserve not
only of the Bank of England, but of all Londonand not only of all
London, but of all England, Ireland, and Scotland too.

Of late there has been a still further increase in our liabilities.
Since the Franco-German war, we may be said to keep the European
reserve also. Deposit Banking is indeed so small on the Continent,
that no large reserve need be held on account of it. A reserve of
the same sort which is needed in England and Scotland is not needed
abroad. But all great communities have at times to pay large sums in
cash, and of that cash a great store must be kept somewhere.
Formerly there were two such stores in Europe, one was the Bank of
France, and the other the Bank of England. But since the suspension
of specie payments by the Bank of France, its use as a reservoir of
specie is at an end. No one can draw a cheque on it and be sure of
getting gold or silver for that cheque. Accordingly the whole
liability for such international payments in cash is thrown on the
Bank of England. No doubt foreigners cannot take from us our own
money; they must send here 'value in some shape or other for all
they take away. But they need not send 'cash;' they may send good
bills and discount them in Lombard Street and take away any part of
the produce, or all the produce, in bullion. It is only putting the
same point in other words to say that all exchange operations are
centering more and more in London. Formerly for many purposes Paris
was a European settling-house, but now it has ceased to be so. The
note of the Bank of France has not indeed been depreciated enough to
disorder ordinary transactions. But any depreciation, however
small--even the liability to depreciation without its reality--is enough
to disorder exchange transactions. They are calculated to such an
extremity of fineness that the change of a decimal may be fatal, and
may turn a profit into a loss. Accordingly London has become the
sole great settling-house of exchange transactions in Europe,
instead of being formerly one of two. And this pre-eminence London
will probably maintain, for it is a natural pre-eminence. The number
of mercantile bills drawn upon London incalculably surpasses those
drawn on any other European city; London is the place which receives
more than any other place, and pays more than any other place, and
therefore it is the natural 'clearing house.' The pre-eminence of
Paris partly arose from a distribution of political power, which is
already disturbed; but that of London depends on the regular course
of commerce, which is singularly stable and hard to change.

Now that London is the clearing-house to foreign countries, London
has a new liability to foreign countries. At whatever place many
people have to make payments, at that place those people must keep
money. A large deposit of foreign money in London is now necessary
for the business of the world. During the immense payments from
France to Germany, the sum in transituthe sum in London has perhaps
been unusually large. But it will ordinarily be very great. The
present political circumstances no doubt will soon change. We shall
soon hold in Lombard Street far less of the money of foreign
governments; but we shall hold more and more of the money of private
persons; for the deposit at a clearing-house necessary to settle the
balance of commerce must tend to increase as that commerce itself

And this foreign deposit is evidently of a delicate and peculiar
nature. It depends on the good opinion of foreigners, and that
opinion may diminish or may change into a bad opinion. After the
panic of 1866, especially after the suspension of Peel's Act (which
many foreigners confound with a suspension of cash payments), a
large amount of foreign money was withdrawn from London. And we may
reasonably presume that in proportion as we augment the deposits of
cash by foreigners in London, we augment both the chances and the
disasters of a 'run' upon England.

And if that run should happen, the bullion to meet it must be taken
from the Bank. There is no other large store in the country. The
great exchange dealers may have a little for their own purposes, but
they have no store worth mentioning in comparison with this. If a
foreign creditor is so kind as to wait his time and buy the bullion
as it comes into the country, he may be paid without troubling the
Bank or distressing the money market. The German Government has
recently been so kind; it was in no respect afraid. But a creditor
who takes fright will not wait, and if he wants bullion in a hurry
he must come to the Bank of England.

In consequence all our credit system depends on the Bank of England
for its security. On the wisdom of the directors of that one Joint
Stock Company, it depends whether England shall be solvent or
insolvent. This may seem too strong, but it is not. All banks depend
on the Bank of England, and all merchants depend on some banker. If
a merchant have 10,000 L. at his bankers, and wants to pay it to
some one in Germany, he will not be able to pay it unless his banker
can pay him, and the banker will not be able to pay if the Bank of
England should be in difficulties and cannot produce his 'reserve.'

The directors of the Bank are, therefore, in fact, if not in name,
trustees for the public, to keep a banking reserve on their behalf;
and it would naturally be expected either that they distinctly
recognized this duty and engaged to perform it, or that their own
self-interest was so strong in the matter that no engagement was
needed. But so far from there being a distinct undertaking on the
part of the Bank directors to perform this duty, many of them would
scarcely acknowledge it, and some altogether deny it. Mr. Hankey,
one of the most careful and most experienced of them, says in his
book on the Bank of England, the best account of the practice and
working of the Bank which anywhere exists--'I do not intend here to
enter at any length on the subject of the general management of the
Bank, meaning the Banking Department, as the principle upon which
the business is conducted does not differ, as far as I am aware,
from that of any wellconducted bank in London.' But, as anyone can
see by the published figures, the Banking Department of the Bank of
England keeps as a great reserve in bank notes and coin between 30
and 50 per cent of its liabilities, and the other banks only keep in
bank notes and coin the bare minimum they need to open shop with.
And such a constant difference indicates, I conceive, that the two
are not managed on the same principle.

The practice of the Bank has, as we all know, been much and greatly
improved. They do not now manage like the other Banks in Lombard
Street. They keep an altogether different kind and quantity of
reserve; but though the practice is mended the theory is not. There
has never been a distinct resolution passed by the Directors of the
Bank of England, and communicated by them to the public, stating
even in the most general manner, how much reserve they mean to keep
or how much they do not mean, or by what principle in this important
matter they will be guided.

The position of the Bank directors is indeed most singular. On the
one side a great city opinion--a great national opinion, I may say,
for the nation has learnt much from many panics--requires the
directors to keep a large reserve. The newspapers, on behalf of the
nation, are always warning the directors to keep it, and watching
that they do keep it; but, on the other hand, another less visible
but equally constant pressure pushes the directors in exactly the
reverse way, and inclines them to diminish the reserve.

This is the natural desire of all directors to make a good dividend
for their shareholders. The more money lying idle the less,
_caeteris paribus_, is the dividend; the less money lying idle the
greater is the dividend. And at almost every meeting of the
proprietors of the Bank of England, there is a conversation on this
subject. Some proprietor says that he does not see why so much money
is kept idle, and hints that the dividend ought to be more.

Indeed, it cannot be wondered at that the Bank proprietors do not
quite like their position. Theirs is the oldest bank in the City,
but their profits do not increase, while those of other banks most
rapidly increase. In 1844, the dividend on the stock of the Bank of
England was 7 per cent, and the price of the stock itself 212; the
dividend now is 9 per cent, and the price of the stock 232. But in
the same time the shares of the London and Westminster Bank, in
spite of an addition of 100 per cent to the capital, have risen from
27 to 66, and the dividend from 6 per cent to 20 per cent. That the
Bank proprietors should not like to see other companies getting
richer than their company is only natural.

Some part of the lowness of the Bank dividend, and of the consequent
small value of Bank stock, is undoubtedly caused by the magnitude of
the Bank capital; but much of it is also due to the great amount of
unproductive cashof cash which yields no interestthat the Banking
Department of the Bank of England keeps lying idle. If we compare
the London and Westminster Bankwhich is the first of the joint-stock
banks in the public estimation and known to be very cautiously and
carefully managedwith the Bank of England, we shall see the
difference at once. The London and Westminster has only 13 per cent
of its liabilities lying idle. The Banking Department of the Bank of
England has over 40 per cent. So great a difference in the
management must cause, and does cause, a great difference in the
profits. Inevitably the shareholders of the Bank of England will
dislike this great difference; more or less, they will always urge
their directors to diminish (as far as possible) the unproductive
reserve, and to augment as fall as possible their own dividend.

In most banks there would be a wholesome dread restraining the
desire of the shareholders to reduce the reserve; they would fear to
impair the credit of the bank. But fortunately or unfortunately, no
one has any fear about the Bank of England. The English world at
least believes that it will not, almost that it cannot, fail. Three
times since 1844 the Banking Department has received assistance, and
would have failed without it. In 1825, the entire concern almost
suspended payment; in 1797, it actually did so. But still there is a
faith in the Bank, contrary to experience, and despising evidence.
No doubt in every one of these years the condition of the Bank,
divided or undivided, was in a certain sense most sound; it could
ultimately have paid all its creditors all it owed, and returned to
its shareholders all their own capital. But ultimate payment is not
what the creditors of a bank want; they want present, not postponed,
payment; they want to be repaid according to agreement; the contract
was that they should be paid on demand, and if they are not paid on
demand they may be ruined. And that instant payment, in the years I
speak of, the Bank of England certainly could not have made. But no
one in London ever dreams of questioning the credit of the Bank, and
the Bank never dreams that its own credit is in danger. Somehow
everybody feels the Bank is sure to come right. In 1797, when it had
scarcely any money left, the Government said not only that it need
not pay away what remained, but that it must not. The 'effect of
letters of licence' to break Peel's Act has confirmed the popular
conviction that the Government is close behind the Bank, and will
help it when wanted. Neither the Bank nor the Banking Department
have ever had an idea of being put 'into liquidation;' most men
would think as soon of 'winding up' the English nation.

Since then the Bank of England, as a bank, is exempted from the
perpetual apprehension that makes other bankers keep a large reserve
the apprehension of discreditit would seem particularly necessary
that its managers should be themselves specially interested in
keeping that reserve, and specially competent to keep it. But I need
not say that the Bank directors have not their personal fortune at
stake in the management of the Bank. They are rich City merchants,
and their stake in the Bank is trifling in comparison with the rest
of their wealth. If the Bank were wound up, most of them would
hardly in their income feel the difference. And what is more, the
Bank directors are not trained bankers; they were not bred to the
trade, and do not in general give the main power of their minds to
it. They are merchants, most of whose time and most of whose real
mind are occupied in making money in their own business and for

It might be expected that as this great public duty was cast upon
the Banking Department of the Bank, the principal statesmen (if not
Parliament itself) would have enjoined on them to perform it. But no
distinct resolution of Parliament has ever enjoined it; scarcely any
stray word of any influential statesman. And, on the contrary, there
is a whole _catena_ of authorities, beginning with Sir Robert Peel
and ending with Mr. Lowe, which say that the Banking Department of
the Bank of England is only a Bank like any other banka Company like
other companies; that in this capacity it has no peculiar position,
and no public duties at all. Nine-tenths of English statesmen, if
they were asked as to the management of the Banking Department of
the Bank of England, would reply that it was no business of theirs
or of Parliament at all; that the Banking Department alone must look
to it.

The result is that we have placed the exclusive custody of our
entire banking reserve in the hands of a single board of directors
not particularly trained for the duty--who might be called 'amateurs,'
who have no particular interest above other people in keeping it
undiminished--who acknowledge no obligation to keep it undiminished
who have never been told by any great statesman or public authority
that they are so to keep it or that they have anything to do with it
who are named by and are agents for a proprietary which would have a
greater income if it was diminished, who do not fear, and who need
not fear, ruin, even if it were all gone and wasted.

That such an arrangement is strange must be plain; but its
strangeness can only be comprehended when we know what the custody
of a national banking reserve means, and how delicate and difficult
it is.


Such a reserve as we have seen is kept to meet sudden and unexpected
demands. If the bankers of a country are asked for much more than is
commonly wanted, then this reserve must be resorted to. What then
are these extra demands? and how is this extra reserve to be used?
Speaking broadly, these extra demands are of two kind--sone from
abroad to meet foreign payments requisite to pay large and unusual
foreign debts, and the other from at home to meet sudden
apprehension or panic arising in any manner, rational or irrational.

No country has ever been so exposed as England to a foreign demand
on its banking reserve, not only because at present England is a
large borrower from foreign nations, but also (and much more)
because no nation has ever had a foreign trade of such magnitude, in
such varied objects, or so ramified through the world. The ordinary
foreign trade of a country requires no cash; the exports on one side
balance the imports on the other. But a sudden trade of import like
the import of foreign corn after a bad harvestor (what is much less
common, though there are cases of it) the cessation of any great
export, causes a balance to become due, which must be paid in cash.

Now, the only source from which large sums of cash can be withdrawn
in countries where banking is at all developed, is a 'bank reserve.'
In England especially, except a few sums of no very considerable
amount held by bullion dealers in the course of their business,
there are no sums worth mentioning in cash out of the banks; an
ordinary person could hardly pay a serious sum without going to some
bank, even if he spent a month in trying. All persons who wish to
pay a large sum in cash trench of necessity on the banking reserve.
But then what is 'cash?' Within a country the action of a Government
can settle the quantity, and therefore the value, of its currency;
but outside its own country, no Government can do so. Bullion is the
cash' of international trade; paper currencies are of no use there,
and coins pass only as they contain more or less bullion.

When then the legal tender of a country is purely metallic, all that
is necessary is that banks should keep a sufficient store of that
'legal tender.' But when the 'legal tender' is partly metal and
partly paper, it is necessary that the paper 'legal tender'--the bank
note--should be convertible into bullion. And here I should pass my
limits, and enter on the theory of Peel's Act if I began to discuss
the conditions of convertibility. I deal only with the primary
pre-requisite of effectual foreign payments--a sufficient supply of
the local legal tender; with the afterstep--the change of the local
legal tender into the universally acceptable commodity cannot deal.

What I have to deal with is, for the present, ample enough. The Bank
of England must keep a reserve of 'legal tender' to be used for
foreign payments if itself fit, and to be used in obtaining bullion
if itself unfit. And foreign payments are sometimes very large, and
often very sudden. The 'cotton drain,' as it is called--the drain to
the East to pay for Indian cotton during the American Civil War took
many millions from this country for a series of years. A bad harvest
must take millions in a single year. In order to find such great
sums, the Bank of England requires the steady use of an effectual

That instrument is the elevation of the rate of interest. If the
interest of money be raised, it is proved by experience that money
does come to Lombard Street, and theory shows that it ought to come.
To fully explain the matter I must go deep into the theory of the
exchanges, but the general notion is plain enough. Loanable capital,
like every other commodity, comes where there is most to be made of
it. Continental bankers and others instantly send great sums here,
as soon as the rate of interest shows that it can be done
profitably. While English credit is good, a rise of the value of
money in Lombard Street immediately by a banking operation brings
money to Lombard Street. And there is also a slower mercantile
operation. The rise in the rate of discount acts immediately on the
trade of this country. Prices fall here; in consequence imports are
diminished, exports are increased, and, therefore, there is more
likelihood of a balance in bullion coming to this country after the
rise in the rate than there was before.

Whatever personsone bank or many banksin any country hold the
banking reserve of that country, ought at the very beginning of an
unfavourable foreign exchange at once to raise the rate of interest,
so as to prevent their reserve from being diminished farther, and so
as to replenish it by imports of bullion.

This duty, up to about the year 1860, the Bank of England did not
perform at all, as I shall show farther on. A more miserable history
can hardly be found than that of the attempts of the Bankif indeed
they can be called attempts--to keep a reserve and to manage a foreign
drain between the year 1819 (when cash payments were resumed by the
Bank, and when our modern Money Market may be said to begin) and the
year 1857. The panic of that year for the first time taught the Bank
directors wisdom, and converted them to sound principles. The
present policy of the Bank is an infinite improvement on the policy
before 1857: the two must not be for an instant confounded; but
nevertheless, as I shall hereafter show, the present policy is now
still most defective, and much discussion and much effort. will be
wanted before that policy becomes what it ought to be.

A domestic drain is very different. Such a drain arises from a
disturbance of credit within the country, and the difficulty of
dealing with it is the greater, because it is often caused, or at
least often enhanced, by a foreign drain. Times without number the
public have been alarmed mainly because they saw that the Banking
reserve was already low, and that it was daily getting lower. The
two maladiesan external drain and an internal-often attack the money
market at once. What then ought to be done?

In opposition to what might be at first sight supposed, the best way
for the bank or banks who have the custody of the bank reserve to
deal with a drain arising from internal discredit, is to lend
freely. The first instinct of everyone is the contrary. There being
a large demand on a fund which you want to preserve, the most
obvious way to preserve it is to hoard it--to get in as much as you
can, and to let nothing go out which you can help. But every banker
knows that this is not the way to diminish discredit. This discredit
means, 'an opinion that you have not got any money,' and to
dissipate that opinion, you must, if possible, show that you have
money: you must employ it for the public benefit in order that the
public may know that you have it. The time for economy and for
accumulation is before. A good banker will have accumulated in
ordinary times the reserve he is to make use of in extraordinary

Ordinarily discredit does not at first settle on any particular
bank, still less does it at first concentrate itself on the bank or
banks holding the principal cash reserve. These banks are almost
sure to be those in best credit, or they would not be in that
position, and, having the reserve, they are likely to look stronger
and seem stronger than any others. At first, incipient panic amounts
to a kind of vague conversation: Is A. B. as good as he used to be?
Has not C. D. lost money? and a thousand such questions. A hundred
people are talked about, and a thousand think,--'Am I talked about,
or am I not?' 'Is my credit as good as it used to be, or is it
less?' And every day, as a panic grows, this floating suspicion
becomes both more intense and more diffused; it attacks more
persons; and attacks them all more virulently than at first. All men
of experience, therefore, try to strengthen themselves,' as it is
called, in the early stage of a panic; they borrow money while they
can; they come to their banker and offer bills for discount, which
commonly they would not have offered for days or weeks to come. And
if the merchant be a regular customer, a banker does not like to
refuse, because if he does he will be said, or may be said, to be in
want of money, and so may attract the panic to himself. Not only
merchants but all persons under pecuniary liabilities--present or
imminent--feel this wish to 'strengthen themselves,' and in
proportion to those liabilities. Especially is this the case with
what may be called the auxiliary dealers in credit. Under any system
of banking there will always group themselves about the main bank or
banks (in which is kept the reserve) a crowd of smaller money
dealers, who watch the minutae of bills, look into special
securities which busy bankers have not time for, and so gain a
livelihood. As business grows, the number of such subsidiary persons
augments. The various modes in which money may be lent have each
their peculiarities, and persons who devote themselves to one only
lend in that way more safely, and therefore more cheaply. In time of
panic, these subordinate dealers in money will always come to the
principal dealers. In ordinary times, the intercourse between the
two is probably close enough. The little dealer is probably in the
habit of pledging his 'securities' to the larger dealer at a rate
less than he has himself charged, and of running into the market to
lend again. His time and brains are his principal capital, and he
wants to be always using them. But in times of incipient panic, the
minor money dealer always becomes alarmed. His credit is never very
established or very wide; he always fears that he may be the person
on whom current suspicion will fasten, and often he is so.
Accordingly he asks the larged dealer for advances. A number of such
persons ask all the large dealers--those who have the money--the
holders of the reserve. And then the plain problem before the great
dealers comes to be 'How shall we best protect ourselves? No doubt
the immediate advance to these second-class dealers is annoying, but
may not the refusal of it even be dangerous? A panic grows by what
it feeds on; if it devours these second-class men, shall we, the
first class, be safe?'

A panic, in a word, is a species of neuralgia, and according to the
rules of science you must not starve it. The holders of the cash
reserve must be ready not only to keep it for their own liabilities,
but to advance it most freely for the liabilities of others. They
must lend to merchants, to minor bankers, to 'this man and that
man,' whenever the security is good. In wild periods of alarm, one
failure makes many, and the best way to prevent the derivative
failures is to arrest the primary failure which causes them. The way
in which the panic of 1825 was stopped by advancing money has been
described in so broad and graphic a way that the passage has become
classical. 'We lent it,' said Mr. Harman, on behalf of the Bank of
England, 'by every possible means and in modes we had never adopted
before; we took in stock on security, we purchased Exchequer bills,
we made advances on Exchequer bills, we not only discounted
outright, but we made advances on the deposit of bills of exchange
to an immense amount, in short, by every possible means consistent
with the safety of the Bank, and we were not on some occasions
over-nice. Seeing the dreadful state in which the public were, we
rendered every assistance in our power.' After a day or two of this
treatment, the entire panic subsided, and the 'City' was quite calm.

The problem of managing a panic must not be thought of as mainly a
'banking' problem. It is primarily a mercantile one. All merchants
are under liabilities; they have bills to meet soon, and they can
only pay those bills by discounting bills on other merchants. In
other words, all merchants are dependent on borrowing money, and
large merchants are dependent on borrowing much money. At the
slightest symptom of panic many merchants want to borrow more than
usual; they think they will supply themselves with the means of
meeting their bills while those means are still forthcoming. If the
bankers gratify the merchants, they must lend largely just when they
like it least; if they do not gratify them, there is a panic.

On the surface there seems a great inconsistency in all this. First,
you establish in some bank or banks a certain reserve; you make of
it or them a kind of ultimate treasury, where the last shilling of
the country is deposited and kept. And then you go on to say that
this final treasury is also to be the last lending-house; that out
of it unbounded, or at any rate immense, advances are to be made
when no once else lends. This seems like saying--first, that the
reserve should be kept, and then that it should not be kept. But
there is no puzzle in the matter. The ultimate banking reserve of a
country (by whomsoever kept) is not kept out of show, but for
certain essential purposes, and one of those purposes is the meeting
a demand for cash caused by an alarm within the country. It is not
unreasonable that our ultimate treasure in particular cases should
be lent; on the contrary, we keep that treasure for the very reason
that in particular cases it should be lent.

When reduced to abstract principle, the subject comes to this. An
'alarm' is an opinion that the money of certain persons will not pay
their creditors when those creditors want to be paid. If possible,
that alarm is best met by enabling those persons to pay their
creditors to the very moment. For this purpose only a little money
is wanted. If that alarm is not so met, it aggravates into a panic,
which is an opinion that most people, or very many people, will not
pay their creditors; and this too can only be met by enabling all
those persons to pay what they owe, which takes a great deal of
money. No one has enough money, or anything like enough, but the
holders of the bank reserve.

Not that the help so given by the banks holding that reserve
necessarily diminishes it. Very commonly the panic extends as far,
or almost as far, as the bank or banks which hold the reserve, but
does not touch it or them at all. In this case it is enough if the
dominant bank or banks, so to speak, pledge their credit for those
who want it. Under our present system it is often quite enough that
a merchant or a banker gets the advance made to him put to his
credit in the books of the Bank of England; he may never draw a
cheque on it, or, if he does, that cheque may come in again to the
credit of some other customer, who lets it remain on his account. An
increase of loans at such times is often an increase of the
liabilities of the bank, not a diminution of its reserve. Just so
before 1844, an issue of notes, as in to quell a panic entirely
internal did not diminish the bullion reserve. The notes went out,
but they did not return. They were issued as loans to the public,
but the public wanted no more; they never presented them for
payment; they never asked that sovereigns should be given for them.
But the acceptance of a great liability during an augmenting alarm,
though not as bad as an equal advance of cash, is the thing next
worst. At any moment the cash may be demanded. Supposing the panic
to grow, it will be demanded, and the reserve will be lessened

No doubt all precautions may, in the end, be unavailing. 'On
extraordinary occasions,' says Ricardo, 'a general panic may seize
the country, when every one becomes desirous of possessing himself
of the precious metals as the most convenient mode of realising or
concealing his property, against such panic banks have no security
_on any system_.' The bank or banks which hold the reserve may last
a little longer than the others; but if apprehension pass a certain
bound, they must perish too. The use of credit is, that it enables
debtors to use a certain part of the money their creditors have lent
them. If all those creditors demand all that money at once, they
cannot have it, for that which their debtors have used, is for the
time employed, and not to be obtained. With the advantages of credit
we must take the disadvantages too; but to lessen them as much as we
can, we must keep a great store of ready money always available, and
advance out of it very freely in periods of panic, and in times of
incipient alarm.

The management of the Money Market is the more difficult, because,
as has been said, periods of internal panic and external demand for
bullion commonly occur together. The foreign drain empties the Bank
till, and that emptiness, and the resulting rise in the rate of
discount, tend to frighten the market. The holders of the reserve
have, therefore, to treat two opposite maladies at once--one requiring
stringent remedies, and especially a rapid rise in the rate of
interest; and the other, an alleviative treatment with large and
ready loans.

Before we had much specific experience, it was not easy to prescribe
for this compound disease; but now we know how to deal with it. We
must look first to the foreign drain, and raise the rate of interest
as high as may be necessary. Unless you can stop the foreign export,
you cannot allay the domestic alarm. The Bank will get poorer and
poorer, and its poverty will protract or renew the apprehension. And
at the rate of interest so raised, the holdersone or more-of the
final Bank reserve must lend freely. Very large loans at very high
rates are the best remedy for the worst malady of the money market
when a foreign drain is added to a domestic drain. Any notion that
money is not to be had, or that it may not be had at any price, only
raises alarm to panic and enhances panic to madness. But though the
rule is clear, the greatest delicacy, the finest and best skilled
judgment, are needed to deal at once with such great and contrary

And great as is the delicacy of such a problem in all countries, it
is far greater in England now than it was or is elsewhere. The
strain thrown by a panic on the final bank reserve is proportional
to the magnitude of a country's commerce, and to the number and size
of the dependent banks--banks, that is, holding no cash reservethat
are grouped around the central bank or banks. And in both respects
our system causes a stupendous strain. The magnitude of our
commerce, and the number and magnitude of the banks which depend on
the Bank of England, are undeniable. There are very many more
persons under great liabilities than there are, or ever were,
anywhere else. At the commencement of every panic, all persons under
such liabilities try to supply themselves with the means of meeting
those liabilities while they can. This causes a great demand for new
loans. And so far from being able to meet it, the bankers who do not
keep an extra reserve at that time borrow largely, or do not renew
large loansvery likely do both.

London bankers, other than the Bank of England, effect this in
several ways. First, they have probably discounted bills to a large
amount for the bill brokers, and if these bills are paid, they
decline discounting any others to replace them. The directors of the
London and Westminster Bank had, in the panic of 1857, discounted
millions of such bills, and they justly said that if those bills
were paid they would have an amount of cash far more than sufficient
for any demand. But how were those bills to be paid? Some one
else must lend the money to pay them. The mercantile community could
not on a sudden bear to lose so large a sum of borrowed money; they
have been used to rely on it, and they could not carry on their
business without it. Least of all could they bear it at the
beginning of a panic, when everybody wants more money than usual.
Speaking broadly, those bills can only be paid by the discount of
other bills. When the bills (suppose) of a Manchester warehouseman
which he gave to the manufacturer become due, he cannot, as a rule,
pay for them at once in cash; he has bought on credit, and he has
sold on credit. He is but a middleman. To pay his own bill to the
maker of the goods, he must discount the bills he has received from
the shopkeepers to whom he has sold the goods; but if there is a
sudden cessation in the means of discount, he will not be able to
discount them. All our mercantile community must obtain new loans to
pay old debts. If some one else did not pour into the market the
money which the banks like the London and Westminster Bank take out
of it, the bills held by the London and Westminster Bank could not
be paid.

Who then is to pour in the new money? Certainly not the bill
brokers. They have been used to re-discount with such banks as the
London and Westminster millions of bills, and if they see that they
are not likely to be able to re-discount those bills, they instantly
protect themselves and do not discount them. Their business does not
allow them to keep much cash unemployed. They give interest for all
the money deposited with the--man interest often nearly approaching
the interest they can charge; as they can only keep a small reserve
a panic tells on them more quickly than on anyone else. They stop
their discounts, or much diminish their discounts, immediately.
There is no new money to be had from them, and the only place at
which they can have it is the Bank of England.

There is even a simpler case: the banker who is uncertain of his
credit, and wants to increase his cash, may have money on deposit at
the bill brokers. If he wants to replenish his reserve, he may ask
for it, suppose, just when the alarm is beginning. But if a great
number of persons do this very suddenly, the bill brokers will not
at once be able to pay without borrowing. They have excellent bills
in their case, but these will not be due for some days; and the
demand from the more or less alarmed bankers is for payment at once
and to-day. Accordingly the bill broker takes refuge at the Bank of
England the only place where at such a moment new money is to be

The case is just the same if the banker wants to sell Consols, or to
call in money lent on Consols. These he reckons as part of his
reserve. And in ordinary times nothing can be better. According to
the saying, you 'can sell Consols on a Sunday.' In a time of no
alarm, or in any alarm affecting that particular banker only, he can
rely on such reserve without misgiving. But not so in a general
panic. Then, if he wants to sell 500,000 L. worth of Consols, he
will not find 500,000 L. of fresh money ready to come into the
market. All ordinary bankers are wanting to sell, or thinking they
may have to sell. The only resource is the Bank of England. In a
great panic, Consols cannot be sold unless the Bank of England will
advance to the buyer, and no buyer can obtain advances on Consols at
such a time unless the Bank of England will lend to him.

The case is worse if the alarm is not confined to the great towns,
but is diffused through the country. As a rule, country bankers only
keep so much barren cash as is necessary for their common business.
All the rest they leave at the bill brokers, or at the
interest-giving banks, or invest in Consols and such securities. But
in a panic they come to London and want this money. And it is only
from the Bank of England that they can get it, for all the rest of
London want their money for themselves.

If we remember that the liabilities of Lombard Street payable on
demand are far larger than those of any like market, and that the
liabilities of the country are greater still, we can conceive the
magnitude of the pressure on the Bank of England when both Lombard
Street and the country suddenly and at once come upon it for aid. No
other bank was ever exposed to a demand so formidable, for none ever
before kept the banking reserve for such a nation as the English.
The mode in which the Bank of England meets this great
responsibility is very curious. It unquestionably does make enormous
advances in every panic

In 1847 the loans on 'private securities'
increased from 18,963,000 L to 20,409,000 L
1857 ditto ditto 20,404,000 L to 31,350,000 L
1866 ditto ditto 18,507,000 L to 33,447,000 L

But, on the other hand, as we have seen, though the Bank, more or
less, does its duty, it does not distinctly acknowledge that it is
its duty. We are apt to be solemnly told that the Banking Department
of the Bank of England is only a bank like other banks--that it has
no peculiar duty in times of panic--that it then is to look to
itself alone, as other banks look. And there is this excuse for the
Bank. Hitherto questions of banking have been so little discussed in
comparison with questions of currency, that the duty of the Bank in
time of panic has been put on a wrong ground.

It is imagined that because bank notes are a legal tender, the Bank
has some peculiar duty to help other people. But bank notes are only
a legal tender at the Issue Department, not at the Banking
Department, and the accidental combination of the two departments in
the same building gives the Banking Department no aid in meeting a
panic. If the Issue Department were at Somerset House, and if it
issued Government notes there, the position of the Banking
Department under the present law would be exactly what it is now. No
doubt, formerly the Bank of England could issue what it pleased, but
that historical reminiscence makes it no stronger now that it can no
longer so issue. We must deal with what is, not with what was.

And a still worse argument is also used. It is said that because the
Bank of England keeps the 'State account' and is the Government
banker, it is a sort of 'public institution' and ought to help
everybody. But the custody of the taxes which have been collected
and which wait to be expended is a duty quite apart from panics. The
Government money may chance to be much or little when the panic
comes. There is no relation or connection between the two. And the
State, in getting the Bank to keep what money it may chance to have,
or in borrowing of it what money it may chance to want, does not
hire it to stop a panic or much help it if it tries.

The real reason has not been distinctly seen. As has been already
said--but on account of its importance and perhaps its novelty it is
worth saying againwhatever bank or banks keep the ultimate banking
reserve of the country must lend that reserve most freely in time of
apprehension, for that is one of the characteristic uses of the bank
reserve, and the mode in which it attains one of the main ends for
which it is kept. Whether rightly or wrongly, at present and in fact
the Bank of England keeps our ultimate bank reserve, and therefore
it must use it in this manner.

And though the Bank of England certainly do make great advances in
time of panic, yet as they do not do so on any distinct principle,
they naturally do it hesitatingly, reluctantly, and with misgiving.
In 1847, even in 1866--the latest panic, and the one in which on the
whole the Bank acted the best--there was nevertheless an instant when
it was believed the Bank would not advance on Consols, or at least
hesitated to advance on them. The moment this was reported in the
City and telegraphed to the country, it made the panic indefinitely
worse. In fact, to make large advances in this faltering way is to
incur the evil of making them without obtaining the advantage. What
is wanted and what is necessary to stop a panic is to diffuse the
impression, that though money may be dear, still money is to be had.
If people could be really convinced that they could have money if
they wait a day or two, and that utter ruin is not coming, most
likely they would cease to run in such a mad way for money. Either
shut the Bank at once, and say it will not lend more than it
commonly lends, or lend freely, boldly, and so that the public may
feel you mean to go on lending. To lend a great deal, and yet not
give the public confidence that you will lend sufficiently and
effectually, is the worst of all policies; but it is the policy now

In truth, the Bank do not lend from the motives which should make a
bank lend. The holders of the Bank reserve ought to lend at once and
most freely in an incipient panic, because they fear destruction in
the panic. They ought not to do it to serve others; they ought to do
it to serve themselves. They ought to know that this bold policy is
the only safe one, and for that reason they ought to choose it. But
the Bank directors are not afraid. Even at the last moment they say
that 'whatever happens to the community, they can preserve
themselves.' Both in 1847 and 1857 (I believe also in 1866, though
there is no printed evidence of it) the Bank directors contended
that the Banking Department was quite safe though its reserve was
nearly all gone, and that it could strengthen itself by selling
securities and by refusing to discount. But this is a complete
dream. The Bank of England could not sell 'securities,' for in an
extreme panic there is no one else to buy securities. The Bank
cannot stay still and wait till its bills are paid, and so fill its
coffers, for unless it discounts equivalent bills, the bills which
it has already discounted will not be paid. 'When the reserve in the
ultimate bank or banks--those keeping the reserveruns low, it cannot
be augmented by the same means that other and dependent banks
commonly adopt to maintain their reserve, for the dependent banks
trust that at such moments the ultimate banks will be discounting
more than usual and lending more than usual. But ultimate banks have
no similar rear-guard to rely upon.

I shall have failed in my purpose if I have not proved that the
system of entrusting all our reserve to a single board, like that of
the Bank directors, is very anomalous; that it is very dangerous;
that its bad consequences, though much felt, have not been fully
seen; that they have been obscured by traditional arguments and
hidden in the dust of ancient controversies.

But it will be said--What would be better? What other system could
there be? We are so accustomed to a system of banking, dependent for
its cardinal function on a single bank, that we can hardly conceive
of any other. But the natural system--that which would have sprung up
if Government had let banking alone--is that of many banks of equal or
not altogether unequal size. In all other trades competition brings
the traders to a rough approximate equality. In cotton spinning, no
single firm far and permanently outstrips the others. There is no
tendency to a monarchy in the cotton world; nor, where banking has
been left free, is there any tendency to a monarchy in banking
either. In Manchester, in Liverpool, and all through England, we
have a great number of banks, each with a business more or less
good, but we have no single bank with any sort of predominance; nor
is there any such bank in Scotland. In the new world of Joint Stock
Banks outside the Bank of England, we see much the same phenomenon.
One or more get for a time a better business than the others, but no
single bank permanently obtains an unquestioned predominance. None
of them gets so much before the others that the others voluntarily
place their reserves in its keeping. A republic with many
competitors of a size or sizes suitable to the business, is the
constitution of every trade if left to itself, and of banking as
much as any other. A monarchy in any trade is a sign of some
anomalous advantage, and of some intervention from without.

I shall be at once asked--Do you propose a revolution? Do you propose
to abandon the one-reserve system, and create anew a many-reserve
system? My plain answer is that I do not propose it. I know it would
be childish. Credit in business is like loyalty in Government. You
must take what you can find of it, and work with it if possible. A
theorist may easily map out a scheme of Government in which Queen
Victoria could be dispensed with. He may make a theory that, since
we admit and we know that the House of Commons is the real
sovereign, any other sovereign is superfluous; but for practical
purposes, it is not even worth while to examine these arguments.
Queen Victoria is loyally obeyed--without doubt, and without
reasoning--by millions of human beings. If those millions began to
argue, it would not be easy to persuade them to obey Queen Victoria,
or anything else. Effectual arguments to convince the people who
need convincing are wanting. Just so, an immense system of credit,
founded on the Bank of England as its pivot and its basis, now
exists. The English people, and foreigners too, trust it implicitly.
Every banker knows that if he has to prove that he is worthy of
credit, however good may be his arguments, in fact his credit is
gone: but what we have requires no proof. The whole rests on an
instinctive confidence generated by use and years. Nothing would
persuade the English people to abolish the Bank of England; and if
some calamity swept it away, generations must elapse before at all
the same trust would be placed in any other equivalent. A
many-reserve system, if some miracle should put it down in Lombard
Street, would seem monstrous there. Nobody would understand it, or
confide in it. Credit is a power which may grow, but cannot be
constructed. Those who live under a great and firm system of credit
must consider that if they break up that one they will never see
another, for it will take years upon years to make a successor to it.

On this account, I do not suggest that we should return to a natural
or many-reserve system of banking. I should only incur useless
ridicule if I did suggest it. Nor can I propose that we should adopt
the simple and straightforward expedient by which the French have
extricated themselves from the same difficulty. In France all
banking rests on the Bank of France, even more than in England all
rests on the Bank of England. The Bank of France keeps the final
banking reserve, and it keeps the currency reserve too. But the
State does not trust such a function to a board of merchants, named
by shareholders. The nation itself--the Executive Government--names
the governor and deputy-governor of the Bank of France. These
officers have, indeed, beside them a council of 'regents,' or
directors, named by the shareholders. But they need not attend to
that council unless they think fit; they are appointed to watch over
the national interest, and, in so doing, they may disregard the
murmurs of the 'regents' if they like. And in theory, there is much
to be said for this plan. The keeping the single banking reserve
being a national function, it is at least plausible to argue that
Government should choose the functionaries. No doubt such a
political intervention is contrary to the sound economical doctrine
that 'banking is a trade, and only a trade.' But Government forgot
that doctrine when, by privileges and monopolies, it made a single
bank predominant over all others, and established the one-reserve
system. As that system exists, a logical Frenchman consistently
enough argues that the State should watch and manage it. But no such
plan would answer in England. We have not been trained to care for
logical sequence in our institutions, or rather we have been trained
not to care for it. And the practical result for which we do care
would in this case be bad. The governor of the Bank would be a high
Parliamentary official, perhaps in the Cabinet, and would change as
chance majorities and the strength of parties decide. A trade
peculiarly requiring consistency and special attainment would be
managed by a shifting and untrained ruler. In fact, the whole plan
would seem to an Englishman of business palpably absurd; he would
not consider it, he would not think it worth considering. That it
works fairly well in France, and that there are specious arguments
of theory for it, would not be sufficient to his mind.

All such changes being out of the question, I can propose only three

First. There should be a clear understanding between the Bank and
the public that, since the Bank hold out ultimate banking reserve,
they will recognise and act on the obligations which this implies;
that they will replenish it in times of foreign demand as fully, and
Lend it in times of internal panic as freely and readily, as plain
principles of banking require.

This looks very different from the French plan, but it is not so
different in reality. In England we can often effect, by the
indirect compulsion of opinion, what other countries must effect by
the direct compulsion of Government. We can do so in this case. The
Bank directors now fear public opinion exceedingly; probably no kind
of persons are so sensitive to newspaper criticism. And this is very
natural. Our statesmen, it is true, are much more blamed, but they
have generally served a long apprenticeship to sharp criticism. If
they still care for it (and some do after years of experience much
more than the world thinks), they care less for it than at first,
and have come to regard it as an unavoidable and incessant irritant,
of which they shall never be rid. But a bank director undergoes no
similar training and hardening. His functions at the Bank fill a
very small part of his time; all the rest of his life (unless he be
in Parliament) is spent in retired and mercantile industry. He is
not subjected to keen and public criticism, and is not taught to
bear it. Especially when once in his life he becomes, by rotation,
governor, he is most anxious that the two years of office shall 'go
off well.' He is apt to be irritated even by objections to
principles on which he acts, and cannot bear with equanimity censure
which is pointed and personal. At present I am not sure if this
sensitiveness is beneficial. As the exact position of the Bank of
England in the Money Market is indistinctly seen, there is no
standard to which a Bank governor can appeal. He is always in fear
that 'something may be said;' but not quite knowing on what side
that 'something' may be, his fear is but an indifferent guide to
him. But if the cardinal doctrine were accepted, if it were
acknowledged that the Bank is charged with the custody of our sole
banking reserve, and is bound to deal with it according to admitted
principles, then a governor of the Bank could look to those
principles. He would know which way criticism was coming. If he was
guided by the code, he would have a plain defence. And then we may
be sure that old men of business would not deviate from the code. At
present the Board of Directors are a sort of semi-trustees for the
nation. I would have them real trustees, and with a good trust deed.

Secondly. The government of the Bank should be improved in a manner
to be explained. We should diminish the 'amateur' element; we should
augment the trained banking element; and we should ensure more
constancy in the administration.

Thirdly. As these two suggestions are designed to make the Bank as
strong as possible, we should look at the rest of our banking
system, and try to reduce the demands on the Bank as much as we can.
The central machinery being inevitably frail, we should carefully
and as much as possible diminish the strain upon it.

But to explain these proposals, and to gain a full understanding of
many arguments that have been used, we must look more in detail at
the component parts of Lombard street, and at the curious set of
causes which have made it assume its present singular structure.


How Lombard Street Came to Exist, and Why It Assumed Its Present

In the last century, a favourite subject of literary ingenuity was
'conjectural history,' as it was then called. Upon grounds of
probability a fictitious sketch was made of the possible origin of
things existing. If this kind of speculation were now applied to
banking, the natural and first idea would be that large systems of
deposit banking grew up in the early world, just as they grow up now
in any large English colony. As soon as any such community becomes
rich enough to have much money, and compact enough to be able to
lodge its money in single banks, it at once begins so to do. English
colonists do not like the risk of keeping their money, and they wish
to make an interest on it. They carry from home the idea and the
habit of banking, and they take to it as soon as they can in their
new world. Conjectural history would be inclined to say that all
banking began thus: but such history is rarely of any value. The
basis of it is false. It assumes that what works most easily when
established is that which it would be the most easy to establish,
and that what seems simplest when familiar would be most easily
appreciated by the mind though unfamiliar. But exactly the contrary
is true. Many things which seem simple and which work well when
firmly established, are very hard to establish among new people, and
not very easy to explain to them. Deposit banking is of this sort.
Its essence is that a very large number of persons agree to trust a
very few persons, or some one person. Banking would not be a
profitable trade if bankers were not a small number, and depositors
in comparison an immense number. But to get a great number of
persons to do exactly the same thing is always very difficult, and
nothing but a very palpable necessity will make them on a sudden
begin to do it. And there is no such palpable necessity in banking.
If you take a country town in France, even now, you will not find
any such system of banking as ours. Cheque-books are unknown, and
money kept on running account by bankers is rare. People store their
money in a caisse at their houses. Steady savings, which are waiting
for investment, and which are sure not to be soon wanted, may be
lodged with bankers; but the common floating cash of the community
is kept by the community themselves at home. They prefer to keep it
so, and it would not answer a banker's purpose to make expensive
arrangements for keeping it otherwise. If a 'branch,' such as the
National Provincial Bank opens in an English country town, were
opened in a corresponding French one, it would not pay its expenses.
You could not get any sufficient number of Frenchmen to agree to put
their money there. And so it is in all countries not of British
descent, though in various degrees. Deposit banking is a very
difficult thing to begin, because people do not like to let their
money out of their sight, especially do not like to let it out of
sight without securitystill more, cannot all at once agree on any
single person to whom they are content to trust it unseen and
unsecured. Hypothetical history, which explains the past by. what is
simplest and commonest in the present, is in banking, as in most
things, quite untrue.

The real history is very different. New wants are mostly supplied by
adaptation, not by creation or foundation. Something having been
created to satisfy an extreme want, it is used to satisfy less
pressing wants, or to supply additional conveniences. On this
account, political Government--the oldest institution in the worldhas
been the hardest worked. At the beginning of history, we find it
doing everything which society wants done, and forbidding everything
which society does not wish done. In trade, at present, the first
commerce in a new place is a general shop, which, beginning with
articles of real necessity, comes shortly to supply the oddest
accumulation of petty comforts. And the history of banking has been
the same. The first banks were not founded for our system of deposit
banking, or for anything like it. They were founded for much more
pressing reasons, and having been founded, they, or copies from
them, were applied to our modern uses.

The earliest banks of Italy, where the name began, were finance
companies. The Bank of St. George, at Genoa, and other banks founded
in imitation of it, were at first only companies to make loans to,
and float loans for, the Governments of the cities in which they
were formed. The want of money is an urgent want of Governments at
most periods, and seldom more urgent than it was in the tumultuous
Italian Republics of the Middle Ages. After these banks had been
long established, they began to do what we call banking business;
but at first they never thought of it. The great banks of the North
of Europe had their origin in a want still more curious. The notion
of its being a prime business of a bank to give good coin has passed
out of men's memories; but wherever it is felt, there is no want of
business more keen and urgent. Adam Smith describes it so admirably
that it would be stupid not to quote his words:--'The currency of a
great state, such as France or England, generally consists almost
entirely of its own coin. Should this currency, therefore, be at any
time worn, clipt, or otherwise degraded below its standard value,
the state by a reformation of its coin can effectually re-establish
its currency. But the currency of a small state, such as Genoa or
Hamburgh, can seldom consist altogether in its own coin, but must be
made up, in a great measure, of the coins of all the neighbouring
states with which its inhabitants have a continual intercourse. Such
a state, therefore, by reforming its coin, will not always be able
to reform its currency. If foreign bills of exchange are paid in
this currency, the uncertain value of any sum, of what is in its own
nature so uncertain, must render the exchange always very much
against such a state, its currency being, in all foreign states,
necessarily valued even below what it is worth.

'In order to remedy the inconvenience to which this disadvantageous
exchange must have subjected their merchants, such small states,
when they began to attend to the interest of trade, have frequently
enacted, that foreign bills of exchange of a certain value should be
paid, not in common currency, but by an order upon, or by a transfer
in, the books of a certain bank, established upon the credit, and
under the protection of the state, this bank being always obliged to
pay, in good and true money, exactly according to the standard of
the state. The banks of Venice, Genoa, Amsterdam, Hamburgh and
Nuremburg, seem to have been all originally established with this
view, though some of them may have afterwards been made subservient
to other purposes. The money of such banks, being better than the
common currency of the country, necessarily bore an agio, which was
greater or smaller, according as the currency was supposed to be
more or less degraded below the standard of the state. The agio of
the bank of Hamburgh, for example, which is said to be commonly
about fourteen per cent, is the supposed difference between the good
standard money of the state, and the clipt, worn, and diminished
currency poured into it from all the neighbouring states.

'Before 1609 the great quantity of clipt and worn foreign coin,
which the extensive trade of Amsterdam brought from all parts of
Europe, reduced the value of its currency about 9 per cent below
that of good money fresh from the mint. Such money no sooner
appeared than it was melted down or carried away, as it always is in
such circumstances. The merchants, with plenty of currency, could
not always find a sufficient quantity of good money to pay their
bills of exchange; and the value of those bills, in spite of several
regulations which were made to prevent it, became in a great measure

'In order to remedy these inconveniences, a bank was established in
1609 under the guarantee of the City. This bank received both
foreign coin, and the light and worn coin of the country at its real
intrinsic value in the good standard money of the country, deducting
only so much as was necessary for defraying the expense of coinage,
and the other necessary expense of management. For the value which
remained, after this small deduction was made, it gave a credit in
its books. This credit was called bank money, which, as it
represented money exactly according to the standard of the mint, was
always of the same real value, and intrinsically worth more than
current money. It was at the same time enacted, that all bills drawn
upon or negotiated at Amsterdam of the value of six hundred guilders
and upwards should be paid in bank money, which at once took away
all uncertainty in the value of those bills. Every merchant, in
consequence of this regulation, was obliged to keep an account with
the bank in order to pay his foreign bills of exchange, which
necessarily occasioned a certain demand for bank money.'

Again, a most important function of early banks is one which the
present banks retain, though it is subsidiary to their main use;
viz. the function of remitting money. A man brings money to the bank
to meet a payment which he desires to make at a great distance, and
the bank, having a connection with other banks, sends it where it is
wanted. As soon as bills of exchange are given upon a large scale,
this remittance is a very pressing requirement. Such bills must be
made payable at a place convenient to the seller of the goods in
payment of which they are given, perhaps at the great town where his
warehouse is. But this may be very far from the retail shop of the
buyer who bought those goods to sell them again in the country. For
these, and a multitude of purposes, the instant and regular
remittance of money is an early necessity of growing trade; and that
remittance it was a first object of early banks to accomplish.

These are all uses other than those of deposit banking which banks
supplied that afterwards became in our English sense deposit banks.
By supplying these uses, they gained the credit that afterwards
enabled them to gain a living as deposit banks. Being trusted for
one purpose, they came to be trusted for a purpose quite different,
ultimately far more important, though at first less keenly pressing.
But these wants only affect a few persons, and therefore bring the
bank under the notice of a few only. The real introductory function
which deposit banks at first perform is much more popular, and it is
only when they can perform this more popular kind of business that
deposit banking ever spreads quickly and extensively. This function
is the supply of the paper circulation to the country, and it will
be observed that I am not about to overstep my limits and discuss
this as a question of currency. In what form the best paper currency
can be supplied to a country is a question of economical theory with
which I do not meddle here. I am only narrating unquestionable
history, not dealing with an argument where every step is disputed.
And part of this certain history is that the best way to diffuse
banking in a community is to allow the banker to issue banknotes of
small amount that can supersede the metal currency. This amounts to
a subsidy to each banker to enable him to keep open a bank till
depositors choose to come to it. The country where deposit banking
is most diffused is Scotland, and there the original profits were
entirely derived from the circulation. The note issue is now a most
trifling part of the liabilities of the Scotch banks, but it was
once their mainstay and source of profit. A curious book, lately
published, has enabled us to follow the course of this in detail.
The Bank of Dundee, now amalgamated with the Royal Bank of Scotland,
was founded in 1763, and had become before its amalgamation, eight
or nine years since, a bank of considerable deposits. But for
twenty-five years from its foundation it had no deposits at all. It
subsisted mostly on its note issue, and a little on its remittance
business. Only in 1792, after nearly thirty years, it began to gain
deposits, but from that time they augmented very rapidly. The
banking history of England has been the same, though we have no
country bank accounts in detail which go back so far. But probably
up to 1830 in England, or thereabouts, the main profit of banks was
derived from the circulation, and for many years after that the
deposits were treated as very minor matters, and the whole of
so-called banking discussion turned on questions of circulation. We
are still living in the debris of that controversy, for, as I have
so often said, people can hardly think of the structure of Lombard
Street, except with reference to the paper currency and to the Act
of 1844, which regulates it now. The French are still in the same
epoch of the subject. The great enquete of 1865 is almost wholly
taken up with currency matters, and mere banking is treated as
subordinate. And the accounts of the Bank of France show why. The
last weekly statement before the German war showed that the
circulation of the Bank of France was as much as 59,244,000 L., and
that the private deposits were only 17,127,000 L. Now the private
deposits are about the same, and the circulation is 112,000,000 L.
So difficult is it in even a great country like France for the
deposit system of banking to take root, and establish itself with
the strength and vigour that it has in England.

The experience of Germany is the same. The accounts preceding the
war in North Germany showed the circulation of the issuing banks to
be 39,875,000 L., and the deposits to be 6,472,000 L. while the
corresponding figures at the present moment arecirculation,
60,000,000 L. and deposits 8,000,000 L. It would be idle to multiply

The reason why the use of bank paper commonly precedes the habit of
making deposits in banks is very plain. It is a far easier habit to
establish. In the issue of notes the banker, the person to be most
benefited, can do something. He can pay away his own 'promises' in
loans, in wages, or in payment of debts. But in the getting of
deposits he is passive. His issues depend on himself; his deposits
on the favour of others. And to the public the change is far easier
too. To collect a great mass of deposits with the same banker, a
great number of persons must agree to do something. But to establish
a note circulation, a large number of persons need only do nothing.
They receive the banker's notes in the common course of their
business, and they have only not to take those notes to the banker
for payment. If the public refrain from taking trouble, a paper
circulation is immediately in existence. A paper circulation is
begun by the banker, and requires no effort on the part of the
public; on the contrary, it needs an effort of the public to be rid
of notes once issued; but deposit banking cannot be begun by the
banker, and requires a spontaneous and consistent effort in the
community. And therefore paper issue is the natural prelude to
deposit banking.

The way in which the issue of notes by a banker prepares the way for
the deposit of money with him is very plain. When a private person
begins to possess a great heap of bank-notes, it will soon strike
him that he is trusting the banker very much, and that in re turn he
is getting nothing. He runs the risk of loss and robbery just as if
he were hoarding coin. He would run no more risk by the failure of
the bank if he made a deposit there, and he would be free from the
risk of keeping the cash. No doubt it takes time before even this
simple reasoning is understood by uneducated minds. So strong is the
wish of most people to see their money that they for some time
continue to hoard bank-notes: for a long period a few do so. But in
the end common sense conquers. The circulation of bank-notes
decreases, and the deposit of money with the banker increases. The
credit of the banker having been efficiently advertised by the note,
and accepted by the public, he lives on the credit so gained years
after the note issue itself has ceased to be very important to him.

The efficiency of this introduction is proportional to the diffusion
of the right of note issue. A single monopolist issuer, like the
Bank of France, works its way with difficulty through a country, and
advertises banking very slowly. Even now the Bank of France, which,
I believe, by law ought to have a branch in each Department, has
only branches in sixty out of eighty-six. On the other hand, the
Swiss banks, where there is always one or more to every Canton,
diffuse banking rapidly. We have seen that the liabilities of the
Bank of France stand thus:

Notes L 112,000,000

Deposits L 15,000,000

But the aggregate Swiss banks, on the contrary, stand:

Notes L 761,000

Deposits L 4,709,000

The reason is that a central bank which is governed in the capital
and descends on a country district, has much fewer modes of lending
money safely than a bank of which the partners belong to that
district, and know the men and things in it. A note issue is mainly
begun by loans; there are then no deposits to be paid. But the mass
of loans in a rural district are of small amount; the bills to be
discounted are trifling; the persons borrowing are of small means
and only local repute; the value of any property they wish to pledge
depends on local changes and local circumstances. A banker who lives
in the district, who has always lived there, whose whole mind is a
history of the district and its changes, is easily able to lend
money safely there. But a manager deputed by a single central
establishment does so with difficulty. The worst people will come to
him and ask for loans. His ignorance is a mark for all the shrewd
and crafty people thereabouts. He will have endless difficulties in
establishing the circulation of the distant bank, because he has not
the local knowledge which alone can teach him how to issue that
circulation with safety.

A system of note issues is therefore the best introduction to a
large system of deposit banking. As yet, historically, it is the
only introduction: no nation as yet has arrived at a great system of
deposit banking without going first through the preliminary stage of
note issue, and of such note issues the quickest and most efficient
in this way is one made by individuals resident in the district, and
conversant with it.

And this explains why deposit banking is so rare. Such a note issue
as has been described is possible only in a country exempt from
invasion, and free from revolution. During an invasion note-issuing
banks must stop payment; a run is nearly inevitable at such a time,
and in a revolution too. In such great and close civil dangers a
nation is always demoralised; everyone looks to himself, and
everyone likes to possess himself of the precious metals. These are
sure to be valuable, invasion or no invasion, revolution or no
revolution. But the goodness of bank-notes depends on the solvency
of the banker, and that solvency may be impaired if the invasion is
not repelled or the revolution resisted.

Hardly any continental country has been till now exempt for long
periods both from invasion and revolution. In Holland and Germanytwo
countries where note issue and deposit banking would seem as natural
as in England and Scotlandthere was never any security from foreign
war. A profound apprehension of external invasion penetrated their
whole habits, and men of business would have thought it insane not
to contemplate a contingency so frequent in their history, and
perhaps witnessed by themselves.

France indeed, before 1789, was an exception. For many years under
the old regime she was exempt from serious invasion or attempted
revolution. Her Government was fixed, as was then thought, and
powerful; it could resist any external enemy, and the prestige on
which it rested seemed too firm to fear any enemy from within. But
then it was not an honest Government, and it had shown its
dishonesty in this particular matter of note issue. The regent in
Law's time had given a monopoly of note issue to a bad bank, and had
paid off the debts of the nation in worthiess paper. The Government
had created a machinery of ruin, and had thriven on it. Among so
apprehensive a race as the French the result was fatal. For many
years no attempt at note issue or deposit banking was possible in
France. So late as the foundation of the Caisse d'Escompte, in
Turgot's time, the remembrance of Law's failure was distinctly felt,
and impeded the commencement of better attempts.

This therefore is the reason why Lombard Street exists; that is, why
England is a very great Money Market, and other European countries
but small ones in comparison. In England and Scotland a diffused
system of note issues started banks all over the country; in these
banks the savings of the country have been lodged, and by these they
have been sent to London. No similar system arose elsewhere, and in
consequence London is full of money, and all continental cities are
empty as compared with it.


The monarchical form of Lombard Street is due also to the note
issue. The origin of the Bank of England has been told by Macaulay,
and it is never wise for an ordinary writer to tell again what he
has told so much better. Nor is it necessary, for his writings are
in everyone s hands. Still I must remind my readers of the curious

Of all institutions in the world the Bank of England is now probably
the most remote from party politics and from 'financing.' But in its
origin it was not only a finance company, but a Whig finance
company. It was founded by a Whig Government because it was in
desperate want of money, and supported by the 'City' because the
'City' was Whig. Very briefly, the story was this. The Government of
Charles II. (under the Cabal Ministry) had brought the credit of the
English State to the lowest possible point. It had perpetrated one
of those monstrous frauds, which are likewise gross blunders. The
goldsmiths, who then carried on upon a trifling scale what we should
now call banking, used to deposit their reserve of treasure in the
'Exchequer,' with the sanction and under the care of the Government.
In many European countries the credit of the State had been so much
better than any other credit, that it had been used to strengthen
the beginnings of banking. The credit of the state had been so used
in England: though there had lately been a civil war and several
revolutions, the honesty of the English Government was trusted
implicitly. But Charles II. showed that it was trusted undeservedly.
He shut up the 'Exchequer,' would pay no one, and so the
'goldsmiths' were ruined.

The credit of the Stuart Government never recovered from this
monstrous robbery, and the Government created by the Revolution of
1688 could hardly expect to be more trusted with money than its
predecessor. A Government created by a revolution hardly ever is.
There is a taint of violence which capitalists dread instinctively,
and there is always a rational apprehension that the Government
which one revolution thought fit to set up another revolution may
think fit to pull down. In 1694, the credit of William III.'s
Government was so low in London that it was impossible for it to
borrow any large sum; and the evil was the greater, because in
consequence of the French war the financial straits of the
Government were extreme. At last a scheme was hit upon which would
relieve their necessities. 'The plan,' says Macaulay, 'was that
twelve hundred thousand pounds should be raised at what was then
considered as the moderate rate of 8 per cent.' In order to induce
the subscribers to advance the money promptly on terms so
unfavourable to the public, the subscribers were to be incorporated
by the name of the Governor and Company of the Bank of England. They
were so incorporated, and the 1,200,000 L. was obtained.

On many succeeding occasions, their credit was of essential use to
the Government. Without their aid, our National Debt could not have
been borrowed; and if we had not been able to raise that money we
should have been conquered by France and compelled to take back
James II. And for many years afterwards the existence of that debt
was a main reason why the industrial classes never would think of
recalling the Pretender, or of upsetting the revolution settlement.
The 'fund-holder' is always considered in the books of that time as
opposed to his 'legitimate' sovereign, because it was to be feared

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