Early History About National Bank Notes

IN PREVIOUS chapters the United States paper currency and the gold and the silver certificates have been discussed. The basis of each of those three classes of money was set forth with the object of making it clear that each stands on a solid foundation. It was shown why each class passes at par and is wholly satisfactory both to the Government and to the individual who accepts it.

In this chapter an explanation of the national-bank note will be presented and, in general terms, its origin and its basis will be described. This class of currency is an obligation that the Government fully protects, and as a result of wise legislation and effective administration it is perfectly safe.

A national-bank note, although not a direct obligation of the United States, is an obligation in which the Federal Government has such an interest that the effect is the same as if it carried on its face an actual promise that the Government would redeem it.


The history of the national-bank notes is interesting, for it harks back to a time when the Government was in distress and was having a difficult time to meet its obligations. The greenback and the national-bank note were both brought into being about the same time and had for their principal object the improvement of the Government’s financial position.

It was set forth in the previous chapter how, during the Civil War, the Government printed currency and declared that it was money and that it was a legal tender that would have to be accepted at face value in payment of debts. The legislators were fully alive to the fact that the greenback could not be paid out to an unlimited extent and that when the emergency was over the time would come when the Government would have to meet each of the notes that it issued by redeeming it in coin, dollar for dollar. As previously explained, that day came on January 1, 1879.

There were two basic reasons for the national-bank note. Both were grave necessities, viz., to increase the money circulation better to meet the needs of business, and to create a better market for the Government’s bonds. Prior to the Civil War, state banks issued circulating notes. They were the obligations of the issuing bank, and therefore the financial status of each particular issuing institution governed the value of its outstanding notes. Obviously, the notes were accepted with misgivings unless the bank’s standing was unquestioned, and thus, when a note strayed a distance from the issuing bank, it was accepted only at a discount.

Under the conditions of transportation and communication in existence in those days it is easy to see how desperate was the situation that arose.

At a great distance the notes would not circulate at all. They were the greatest financial nuisance our people ever had to contend with—they became a nation-wide menace. It was apparent that if bank notes were to circulate as money, a way should be found to cause them to have the same stability in Maryland or in Ohio as they had in New Hampshire. There was a clear need for notes that would have a “national atmosphere about them.”

Long prior to the Civil War it had been determined that the Federal Government had the power under our Constitution to charter banks, but that power in 1863 had not been exercised for about twenty-five years. For the two reasons mentioned above (increase in currency circulation, and improved market for the Federal bonds), the Congress, by the act of February 25, 1863, authorized the chartering of banks under national authority.

The system worked well from its inception, as it was at once recognized that national-bank currency was a great improvement over the state bank money. As was anticipated, it assisted the market price of the Government bonds and, of course, increased the currency circulation of the country.


The following is a general description of the system prescribed by the Organic Act mentioned above as having become law February 25, 1863.

The act provides that a bank might be chartered under national authority and issue its own notes as money, provided it would first demonstrate to the Secretary of the Treasury, among other requirements, that it had invested a certain proportion of its capital stock in United States bonds. Dependent upon the amount of capital, the statute required such an investment to be from 25 to 33 1/3 per cent of the capital.

The bank must also submit to Federal inquiry into its affairs—its business conduct—and demonstrate a healthy and sound condition, obeying the law as to loans, reserves, etc.

The statutes established a bureau in the Treasury to supervise national-bank matters, conduct examinations, and attend to the issue and redemption of the circulating notes of the banks. The chief of that bureau is accorded the title of “Comptroller of the Currency.”

The act provided that the Government would supply the circulating notes—issue them to the banks, and superintend their redemption—and honor them for the bank at the Treasury.

National-bank notes differ from state-bank currency in a vital particular. That difference it was believed would be—and it, in fact, did prove to be—the cure for the state-bank-note trouble, viz., the Government itself was indirectly back of the note. The bank’s investment in Government bonds was required to be held by the Treasury as a guarantee that the bank would honor its notes on presentation at the bank concerned or at the Treasury. That safeguard was provided by the Organic Act and it has existed from that day to this.


The bonds in which the law specifies that the national banks invest are required by the act to be delivered to the Comptroller of the Currency, who, in turn, causes them to be deposited with the Treasurer of the United States after they have been registered in the name of the Treasurer. After that requirement has been met, the Comptroller provides the depositing bank with bank notes equal in face value to the par value of the deposited bonds. If one will examine a national-bank note, it will be found to read as follows:

National Currency

Secured by United States bonds, deposited with the Treasurer of the United States.

Redeemable in lawful money of the United States at United States Treasury or at the bank of issue . . . (bank title) National Bank will pay to the bearer on demand dollars.

The law requires that, in the order of priority, each national bank that is chartered shall be accorded a progressive number and that the charter number as well as the name of the issuing bank shall be printed on the note.

The note is the obligation of the issuing bank, and each must honor its notes on demand. If it should not do so, the Government would do it for the bank and use the bank’s funds for the purpose. In addition to depositing the Government bonds above referred to as security for the circulation, each bank is required to carry on deposit with the Treasury a sum in money equal to 5 per cent of its circulation. It is from that 5 per cent fund that the Treasurer honors the national-bank notes on presentation at the Treasury. Whenever any of the fund is paid out by the Treasurer, the bank is required forthwith to restore the sum so paid from the 5 per cent fund and the Comptroller thereupon ships new notes to the bank to replace the amount exacted from the bank.


If a bank should fail to restore the fund, the Treasury is authorized to sell the bank’s bonds and thus procure the funds that have been paid to redeem the bank’s notes. Thus, although the national-bank note is the obligation of the issuing bank and not of the Government, the latter has the funds of the bank in possession and is able to accomplish payment regardless of the bank’s financial condition. From the fact that the Government has the bank’s bonds in possession as security, it is obvious that there can be no loss to the United States.

If a bank wishes to discontinue business and to with-draw its bonds from the Treasury, it may do so by remitting an amount in money equal to the outstanding notes. The Government, with the necessary cash in hand, will thereafter redeem the bank’s notes as they come in. The bonds are released to the bank as soon as the Government has received the funds to take up the notes.

In actual practice about a million and a half in national-bank notes come to the Treasury for redemption daily. The notes are assorted to determine the amount redeemed for the account of each bank concerned. After assortment and ascertainment of the amount for each bank, the account of the 5 per cent fund of each of those banks is charged accordingly and each bank concerned is required to remit the sum paid out for it. The great amount that comes in for redemption daily is presented not because the holder wishes gold in payment, but because the notes are mutilated, worn, torn, or dirty and are thus unfit for circulation.


There is no longer any imperative need for national-bank circulation to supply business requirements, nor is there the urgent necessity to provide a market for the Federal bonds. The Congress recognized that fact, for the law was changed a few years ago so that it is now optional with a national bank whether it does or does not carry circulation. About 25 per cent of them do not exercise the note-circulation privilege. Congress did not see fit to cause the Liberty bonds to carry the privilege of being used to guarantee national-bank-note circulation. The only bonds that now carry that privilege are the so-called 2 per cent consols and 2 per cent Panama Canal bonds. The aggregate of those two issues is about $675,000,000 in face value. Almost the entire outstanding amount of those issues is being utilized for national-bank-circulation guarantee.

The national-bank notes have been a substantial benefit to the United States not only because they met the particular needs when the Government’s credit needed assistance, but also because the circulation privilege caused the bonds that carry it to be subscribed at and above par even though those bonds only bear 2 per cent interest. Without the circulation privilege they would not command so high a price in the markets.

The circulation-privilege bonds now sell in the open market at something like 103 when other higher-rate Federal bonds are not selling at quite so high a price.

In addition to that advantage, the Government enjoys another quite substantial benefit, viz., a tax of one-quarter of 1 per cent of the average circulation carried is exacted semiannually from each bank. That tax produces about $3,250,000 annual revenue to the Government.

Those two advantages are not net profit, however, for the cost of producing the notes and the cost of issue are borne by the Government. The cost of redeeming the notes is assessed against the banks in proportion to the expense incurred by the redemption of the notes of each bank at the Treasury.

The net result of the tax and the assessment is a decided gain to the Government in addition to the difference in the interest rate on the circulation-privilege bonds over those that do not carry that privilege. The advantage, obviously, depends largely upon the market price of the Federal bonds. In that respect the advantage to the Government is now something like $10,000,000 a year. The investment of the banks in the low-interest-rate bonds that they are required to maintain to guarantee the honor of their notes, plus the loss of the use of the 5 per cent fund they are required to maintain with the Treasurer and the amount of tax they pay the Government on the notes issued to them, constitute the cost to the bank for the privilege it enjoys in the exercise of the circulation privilege. The bank has the use of the currency and, of course, owns the bonds it is required to keep with the Treasurer. The bank receives the interest on the bonds the same as other bond owners. The fact that about 25 per cent of the national banks do not carry circulation is evidence that the profit to the bank is quite small.

The redemption of national-bank notes is more of a clerical ceremony than the redemption of the United States paper currency, for, as stated above, the notes must be sorted to determine how many belong to each bank concerned. The note carries the name of the bank and also the charter number of the bank. The latter is printed both on the right half and on the left half of the note. Thus each note carries three distinct means of identification. If the note be mutilated even to the extent of two of the identifying marks being missing, the third being present, the note is still recognizable as the obligation of the bank that issued it.

It is the practice for the Federal reserve banks to take up the mutilated and soiled national-bank notes and remit them to the Treasury after charge to the Government’s balance in a manner corresponding to the method employed by them in taking up the Government’s checks. The banks punch in the notes holes that indicate cancellation prior to remitting them to the Treasury. That is done as a safeguard against their being wrongfully circulated if they should fall into unauthorized hands en route to the Treasury.

On arrival at the Treasury, the notes are counted to verify the claim of the bank, and thereafter are assorted according to charter number. When the count and assortment have been completed in the Treasurer’s office, the notes are bisected and the left halves are transmitted to the Comptroller for check count, the right halves to representatives of the national banks in order that the banks may be independently advised regarding the amount charged to each. Thus the sum the banks have been required to remit to restore their 5 per cent fund is known by them to equal the sum redeemed for their account.

After the above verification, the redeemed notes are destroyed by a committee composed of various representatives of the offices concerned.

In the redemption of the currency, each employee whose duty it is to count the money is responsible for the sum thus intrusted for inspection and count. In order to assure careful count and careful scrutiny, each employee is held responsible for accuracy in count and for the detection of counterfeit notes.

Thus, if the first counter fails to detect a shortage or a counterfeit and the next assorter discovers the defect, the clerk who passed the error is required to make good the shortage or the spurious note if the identity of the source from which the note was received is no longer ascertainable. Experience has taught that requirement to be a necessary rule and that it must be enforced in order to forestall carelessness.

The counting task is performed almost entirely by women. All are keen at detecting counterfeits—some are extremely expert. As the national-bank note receipts average from 175,000 to 200,000 notes a day and their face value is about $1,500,000, the bank-note-redemption process is something more than a small task.