9: The Joint Stock Banks
The joint stock banks in England are characterized as "a remarkable success," which is generally by virtue of their being small and simple operations. Those that have persisted have done so based on a history of responsible stewardship of their creditor's funds over a period of a great many years, having been protective of their depositors' funds by being exceedingly cautious in the extension of credit.
On this level, the banking industry has been exceedingly profitable, with some banks paying a divided of over 20% to its shareholders, though these tend to be established banks (over 25 years in business). Younger banks have also been successful, but to attract depositors, have had to offer more in interest, which detracts from the dividends that can be offered to their ownership.
Much of this is a result of central banking, as the smaller banks can keep much of their funds in circulation, being able to rely upon a central bank to extend them credit should they miscalculated their need of funds. As such, the Bank of England has not enjoyed a similar level of success, as it has needed to keep a much greater reserve of idle cash, though because it loans primarily to other banks, it has greater certainty in repayment of the credit it extends.
Another advantage of JSB is in its ability to more accuracy assess the character and responsibility of debtors in considering whether to extend credit. Especially in instances where a bank is established in a "country town," the bank is well familiar with the business of every man and can determine with greater accuracy whether a given individual has the means to repay a loan and can be counted upon to do so. The city of London is too large a place for a bank to have such knowledge, and a large bank with a great many debtors cannot be as vigilant in keeping watch over them.
The author considers two points that have caused the success of JSB in England, and would likely make it difficult for the same degree of success to occur in other countries:
The first point is the collusion among banks that enables them to keep a lower reserve, hence keep a greater portion of their funds on loan to others, thus generating profit. The author excerpts a letter from a bank director, in which it is assessed that JSBs collectively maintain in cash between 6% and 10% the total amount of funds on deposit. Their ability to do so relies on a public which considers paper money (banknotes, which themselves are a form of credit) to be as good as cash, as well as the existence of convertible interest-bearing securities with very short maturity dates. These together enable banks to derive income from the otherwise "barren cash" of their reserves.
The second point seems to be, in a roundabout way, the proficiency of the bankers themselves. In London, more so than in any other trade city, "there are very many men of good means, great sagacity, and great experience in business" whose business affairs leave them with "very much time on their hands" - their business affairs requiring little of their attention, they have the ability to spend a great deal of time managing their monetary resources. As such, a "reasonably good" board of directors and body of management for a banking operation can very easily be assembled in the city.
Granted, there are difficulties in doing so, but largely matters of scale. Assessing the creditworthiness of one person, extending to him a loan, and collecting payment, is a fairly simple matter - as is the business of obtaining the custody of funds belonging to another person. But when aggregated into a bank, the multitude of such transactions with such a large number of debtors and creditors becomes exceedingly convoluted - though each transaction is simple in nature, this simplicity is obscured in their volume.
The problem, on a board of directors, is that a conversation among fifteen or eighteen persons is impractical. One or two "zealous members" of such a group will select a topic for discussion, each member of the group will wish to weigh in with his own viewpoint, then the conversation will become distracted or entangled with other matters. Very likely the original point will have been obscured or lost completely by the time the group becomes ready to vote - or is pressed to vote because so much time has been spent in discussion. Even under the direction of a skilled organizer, discussions among a committee tend to be diffuse and superficial.
Another issue is the amount of time required: the directors of a bank are primarily engaged in other businesses, and the bank itself is of secondary concern. If they gave greater time or effort to managing the bank, it would detract from the time and effort they require for their other businesses, and as such they cannot make banking their principal affair without neglecting their own affairs.
As such, the board of governors of a bank generally involve itself with the most superficial of decisions about the business and leaves the majority of decisions to its employees, who can more expediently handle the daily affairs. But there is also risk in the board delegating too much authority to employees, and "many unhappy cases have proved this to be very dangerous."
The author speaks mainly to the potential for fraud: while the board of directors are generally wealthy and successful men, the employees of a company - including those in management - are not. A manager of a great bank has the control of millions, and such a magnitude of temptation can occasionally prevail. Even where a manager be honest, "error is far more formidable than fraud." That is to say that the mistakes of a good manager can do more damage than the theft of a dishonest one - and the attempt to conceal such mistakes, even when intended to rectify them before they are noticed, compound the damage.
To achieve a balance where a board is not so involved as to convolute the business, yet not so distant as to let management run amok, is the "working committee," which involves certain members of the board of directors in the daily affairs of the bank. Primarily, such a committee would keep watch over each large transaction, the magnitude of which proposes a significant hazard to the bank. Te power of such a committee is merely to approve or forbid the course of action suggested by its management - and it is expected that they will do so with a keen sense of the risk to the bank. While a working committee can commit errors, its tendency will be to err on the side of discretion, and serve as a counterbalance to an overly ambitious management.
Some such committees are "vaguely known to exist" in most JSBs, and the author feels that it would be better if they were well-known. A significant shareholder, or a large depositor, ought to be able to ascertain the persons that dispose of his money. It is more difficult for a person to trust an anonymous institution than a man whose character can be measured; and a man who is able to act under a mask of anonymity is less attentive to the consequences to his own reputation for any action he undertakes.
For the same reason, a permanent committee is more effective than one that is rotated. A committee that changes constantly tends to remain focused on their term of appointment, and consequently fail to take into consideration the long-term effects of their decisions. Additionally, if a committee is constantly rotated, it becomes an abstraction, which brings back the problem of anonymity previously discussed. In all, a business would be better managed by a group of "second-rate men" who expect to remain in their placers, then better-qualified men who are there but for a short period of time.
The author acknowledges that the reaction to his suggestions and criticisms of joint-stock banking will be "Let well alone." He began with the claim that JSB has been exceedingly successful in England, and that when something is successful, there is great reluctance to touch it at all. But because something is successful does not mean it is perfect, and things left alone tend to run amok. All his criticism and suggestion for improvement should be taken as intended - not to deviate from the course of success, but ensure its perpetuation.