Readings in Money and Banking / Selected and Adapted

by Chester Arthur Phillips

3. Why is it that our per capita circulation is so large and where is the money in active circulation?...

1. We will take these questions up in order.... No one can say ... with definiteness what is the amount of money released if 75 or 80 per cent. of our business transactions are settled by means of credit paper. This is a matter in which the long experience of practical bankers is the only safe guide, because the amount in question is changing from day to day as the conditions change. No simple rule about it can be laid down....

One point needs to be carefully borne in mind. However great the volume of credit exchanges, however extensive the use of credit may become in a community, they can never fully displace sales for direct money payment. The extensive use of credit is not of itself a sign that a community is well off. Credit is used in poor as well as in rich communities. Its extensive use in a poor and undeveloped country is likely to indicate a lack of capital rather than an abundance of wealth. Every community tends to use the cheapest medium of exchange accessible to it. If its capital is of very high value for producing goods for direct consumption, a community will be averse to investing much of it in a medium of exchange.

This is the reason why undeveloped countries, as our own was a century ago, try to effect their exchanges by means of credit paper to a larger extent than wealthier communities. Under such conditions paper money is commonly thought to be the cheapest medium of exchange. If, now, part of the money exchanges are replaced with credit exchanges, the amount of money released, or the amount without which the community could now get on, would be the whole amount formerly used in money payments ... minus the reserve necessary to do this credit business. The important point, however, is that less money is necessary. How much less we can not be sure. We can get some light on the subject, however, by noting the volume of business done by credit paper and the balances which from time to time are carried as a basis of settlement.

It is important to note also that an increase in the volume of credit transactions does not necessarily mean that we must get a proportionate increase in our reserve of money. Every refinement of the credit mechanism makes it possible to do a larger volume of business on the same reserve....

The volume of business that can be done by credit paper depends on several circumstances. Obviously, in the first place, it depends upon the banking facilities of the country. If the banks are widely distributed, if they are willing to deal in transactions small enough to be within the reach of large numbers of people, many more transactions will be settled through them than would otherwise be the case. This fact undoubtedly explains in large measure the development of what may be called the "banking habit" among the people of the United States. Undoubtedly our people pay by check much more commonly and much more largely than people of any other country. We settle smaller transactions by check; our banks are willing to carry smaller accounts. Indeed, the rapid industrial development of our country is probably due in no small degree to our system of independent banks and the facility with which we have permitted banks to be established. The small independent bank in the country community has felt that its interests and success were bound up with the interests and success of the community, and, therefore, has undoubtedly been willing to do more for the general interests than a branch of a large bank in some remote commercial center would have felt like doing, even if it had been justified in doing so. The small capital with which we have permitted banks to be established also has undoubtedly been a contributing factor to our rapid economic development, as well as to the promotion of the banking habit among our people.

In the next place, the density of population is, of course, an important factor for the growth of credit exchanges. A larger volume of business is settled by bank paper in a commercial center than in an agricultural community, even though the proportion of total business thus settled may not be larger. However, it is necessary that there should be a certain number of people within reach of a common center in order to have a bank established there. Of course the smaller the bank the fewer the people thus required. Thus again our inclination in the past to favor the establishment of the small independent banks has facilitated the spread of banking and promoted the volume of business settled in the country districts by credit payment and stimulated the banking habit among our people.

Finally, the general education and intelligence of the mass of the people is an important factor. Men do not use banks unless they have confidence in them, and they have come to be regarded as a settled part of the ordinary commercial mechanism of the community. Our people are people of a wide general education and high order of intelligence. They understand the place and work of the bank in a community much better than the same number of people, for example, in a European country. This fact is strikingly brought out by a study of the proportion of retail business settled by means of checks, in what are called the "foreign" districts of our large cities, on the one hand, and in an agricultural community on the other. The European immigrant is not a man who has had banking connections in his home country, and he does not use them here, even though the facilities are more numerous.

Such evidence as there is seems to indicate that payment by check has shown an increase during the past few years:

(a) In the first place, the returns of our reports show a larger percentage in retail trade....