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 themselves.
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 dutywho might be called 'amateurs,' who have no particular interest above other people in keeping it undiminishedwho 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.
II
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 kindsone 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 noteshould 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 paymentsa sufficient supply of the local legal tender; with the afterstepthe 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 calledthe 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 instrument.
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 attemptsto 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.