Theoretically there is no reason why any limit should be fixed upon the amount of notes which a bank may issue. Even though a bank has a monopoly of issue in a country—like the Bank of France—it nevertheless is unable to expand its circulation beyond the people's needs. Such a bank, unless it should adopt a reckless policy of lending which would bring ruin quickly upon itself, can exercise very little influence upon the amount of currency in circulation. In a country like Canada, where several banks are issuing currency, no single institution can enlarge its issue of notes beyond the needs of its own customers. If it should endeavor to do this by lending freely to customers who promised to use its notes in different parts of the country, the effort would be futile. The notes would quickly find their way into the branches of other banks and be sent in for redemption.
Like most other countries, however, Canada has placed a limit on the note-issuing privilege, fixing it at the amount of a bank's paid-up capital. While there is no scientific necessity that such a limit be fixed in order to prevent the over-issue of notes, nevertheless there are other considerations which justify it. It is an indirect method of compelling banks to increase their capitalization pari passu with the growth of their business. Inasmuch as the capital of a bank is the stockholder's contribution toward its assets, it is exceedingly desirable that this contribution be made as large as possible, for, other things being equal, the strength of a bank varies with the amount of its capital. It is not unreasonable, therefore, to require that banks in return for the useful note-issuing privilege should be required to keep their capital resources large.
When a Canadian bank has reached the limit of its note issue—which has rarely happened—it begins at once to treat the notes of other banks very much as if they were its own. Instead of going to the expense of sending them in for redemption, it uses them as counter money, paying them out to depositors in response to their calls for cash. If all the banks in Canada should issue notes up to the limit, as some of them did during the exciting months of 1907, and if the current rate of interest did not warrant the issue of the taxed notes provided for by the amendment of 1908, the note circulation would immediately lose its elasticity. As further expansion would be impossible, the banks would have to meet any increasing demand for currency by paying out gold and Dominion notes, thus depleting their reserves. Such a situation would doubtless lead to a sharp advance in the discount rate and to the importation of gold.
THE PRACTICAL LIMIT UNDER THE LEGAL
It should be noted that the practical limit of note issue is about 10 per cent. below the legal limit. The manager of a bank having a paid-up capital of $1,000,000 begins to get nervous when his circulation equals $900,000. His office may be in Montreal and his bank may have branches in the far East and in the far West and in the mining wilderness of the North. Some of these branches he can not reach by telegraph and some are distant a week by mail. He immediately sends warning to all the branches and cautions them against any large out-giving of notes and against entering into transactions which will be likely to lead to unusual demands for currency. On account of this situation, even in times of greatest pressure, the total issue of the banks is usually 10 per cent. below the authorized limit.
Deposits
The liabilities of Canadian banks, like those of commercial banks in Great Britain and the United States, furnish a fairly correct index to the expansion of the country's credit. Since the Canadians, like other Anglo-Saxons, make free use of the check book in the settlement of both business and private accounts, any increase of bank loans and discounts is usually attended by a corresponding increase in deposits. When a Canadian business man discounts his note at his bank he almost invariably leaves the proceeds on deposit with the bank. As he makes his payments by check his own deposit account declines, but the bank accounts of his creditors increase, so that the net result of borrowing in Canada is an increase in the total of bank deposits. Consequently, in good times, when the banks are freely extending credit, the deposits grow, and in periods of dullness and liquidation they decline. A growth of deposits, therefore, is commonly accepted as an indication of business and industrial activity.
If a business man in Canada has temporarily a large balance in his bank and realizes that he will not need the money for several months, he will either arrange for its entry as a time or savings bank account, or for the payment of interest on his balance as a current account. Of course, the bankers do not encourage this practice, nor can it be indulged in by a depositor who is also a borrower. Depositors of the class who are paid a small rate of interest—usually 2 per cent.—by national and state banks in the United States, usually have savings department accounts in Canada and get 3 per cent.
SAVINGS DEPOSITS ALWAYS PAID ON DEMAND
On account of the fact that the time or savings bank deposits contain such a large proportion of money likely to be needed in business at any time, the banks regard both classes of deposit as being essentially the same form of liability. Practically all the deposit liabilities of a Canadian bank are payable on demand, although payment on two-thirds of them at the present time can not legally be demanded until after notice. Custom has made it imperative that a Canadian bank shall pay any and all of its depositors on demand. For any bank to refuse to let a depositor have his money when he calls for it would be regarded by the public as an acknowledgment of weakness. Certainly no Canadian bank would take the risk of making the experiment.