| <Saturday Review 4 October 1856: Bagehot>
| <Sound Banking>
| Many circumstances have lately combined to draw our 
| attention to the trade of banking. The gross and illegal 
| dishonesty of Strahan and Paul, the yet more amazing 
| case of the Sadleirs, and just at this moment the failure of 
| the Royal British Bank ~~ all tend to awaken public anxiety 
| on this topic. Banking is always a trade about which people 
| have more curiosity than any other. Money is more 
| interesting than merchandize ~~ people feel they are 
| trusting their banker more distinctly than that they are 
| trusting <reg orig=“any one”> anyone </reg> else. We 
| need offer no apology, therefore, for discussing at some 
| length the conditions of safety in banking at the present 
| time.
| There is much to be said against every system of banking. 
| If you leave your money withy a private banker, he may 
| pay his weekly bills with it. He may go into Parliament and 
| diffuse it among voters. He may marry an expensive lady, 
| and issue it for <p> “supply services.” </p> On the other 
| hand, if you choose a Joint-Stock Company, there are, 
| doubtless eight directors. Several of them are in the trade, 
| and all of them may want accommodation. If they incur a 
| loss, they are in fear of their shareholders, and do not like 
| to acknowledge it; and in the end, they lose those 
| advances too. A writer acquainted with a perfectly safe 
| place of deposit for money might suggest an unanswerable 
| argument against every known place; but society knows of 
| none such. If you try to keep cash for yourself, others are 
| apt to purloin it ~~ if you lend it to somebody else, that 
| somebody else may omit to repay you. All these generally 
| sceptical arguments, as is commonly the case, balance 
| one another. As society is constituted, we must put our 
| money into some bank; and the only real question is what 
| kind of bank is the safest.
| There are three conditions which seem essential to the 
| maximum of security. We may be safe without them, but it 
| is clear that we should be safer with them. First, a large 
| property ought to become liable for our money when it is 
| lent. Secondly, we should be able to ascertain that, while 
| the loan lasts, that property continues liable ~~ <hi> a 
| fortiori, </hi> that it continues to exist. Lastly, the banker ~~ 
| the actual practical man who regulates and reinvests our 
| money ~~ should be so thoroughly remunerated that his 
| clear interest is rather to retain his position by employing 
| our money well than to risk it by employing it ill.
| The old system of private banking, according to the theory 
| of it, fulfilled adequately the first and the third of these 
| conditions. A person of large visible ~~ often of large 
| territorial ~~ property took charge of the money of his 
| neighbours; and they looked for their security to the wealth 
| with which they were familiar ~~ to the acres which they 
| saw. The legitimate profits of the banker were likewise 
| such as to secure his fidelity ~~ at least to make fraud very 
| unreasonable. He obtained the use of a large sum of 
| money for nothing ~~ he had no shareholders craving a 
| dividend ~~ no opposing directors wondering quietly that 
| the dividend was not greater. Not being a needy man, he 
| might be supposed to be independent of immediate income, 
| whilst his permanent wealth was secured by his keeping 
| his customers’ money safely and permanently. This system 
| did not, however, very well secure the second of our 
| conditions. A man might be rich when your money was left 
| with him ~~ he might not be equally so when you wished 
| him to repay you. No doubt, in small rural districts, where 
| everybody knows everybody, and where the means of 
| each inhabitant are daily talked over by all, any great 
| change would soon be well known, But in large seats of 
| industry the case is different. When the affairs of Messrs. 
| Strahan and Paul were made public, so far from the 
| depositors being familiar with the private property of their 
| bankers, many of them did not know <p> “<hi> who </hi> 
| the Bank now was.” </p> There is, indeed, considerable 
| difficulty in <reg orig=“any one’s”> anyone’s </reg> 
| guessing at the wealth of such persons. The banker cannot 
| tell you. If he says he is rich, <reg orig=“every one”> 
| everyone </reg> thinks he is not. Besides, who can tell 
| what family settlements or subterranean mortgages impair 
| the real wealth of the most apparently opulent person? So 
| much is this difficulty felt that no new private bank is ever 
| started. A man who could risk the <p> “preliminary 
| expenses” </p> would be thought unworthy of confidence. 
| Admirably as the system has often worked, facts show that 
| it cannot be extended. In the crush of civilization, no man’s 
| wealth is sufficiently notorious.
| The system of Joint-Stock Banks satisfies, according to its 
| theory, the first and second of our conditions. If a large 
| number of moderately rich persons can be induced to risk 
| the whole of their property by investing some part of it in a 
| bank, there can be no doubt of the ultimate repayment of 
| the bank’s customers. The wealth of a single person is 
| difficult to ascertain, and may change much; but it is not 
| difficult to learn whether a considerable number of persons 
| are, taking one with another, people of fair standing and 
| respectability. It is not likely that every one of them will get 
| poorer. Changes there will be; but, in all probability, one 
| will get richer, and another poorer. If, from any cause, a 
| whole proprietary deteriorated, the fact would be plain 
| enough to those who made the proper inquiries ~~ very 
| often the price of the shares would show that they were no 
| longer desired by purchasers with capital. So long as the 
| proprietary is reasonably rich, the ultimate repayment of its 
| deposits by a Joint-Stock Bank is safe.
| Some extreme advocates of the system, indeed, argue that, 
| independently of this, such repayment is perfectly certain 
| ~~ that if the amount of capital subscribed is large, and is 
| actually paid up, it is wholly unnecessary to ask who are 
| the shareholders. The system is yet in its infancy; but it 
| may be doubted if theory, or such experience as we have 
| had, justify this idea. We can scarcely satisfy the second of 
| our preliminary conditions. That the capital has been paid 
| up, we may ascertain, but how are we to be sure that it has 
| not been lost? The Royal British bank has more than lost 
| all the capital which was paid up, and must have long since 
| forfeited its charter by the loss of the amount on which it 
| was to become void. it is immaterial to argue that a bank 
| cannot lose its capital without great mismanagement, and 
| we are considering what is the security of the customers in 
| the case of failure. Happily, it is a very difficult thing to 
| destroy the credit of an established bank. When the public 
| once gets a habit of trusting, it will go on trusting; and while 
| still in credit, a bank can endure and recover large losses. 
| Still, painful experience shows that credit can be destroyed. 
| In a great business, a considerable capital may readily be 
| lost by fraud or blundering ~~ a small capital may as easily 
| be lost in a less business ~~ and in either case, the fact 
| may become known. The bank may fail, and the last 
| resource of the customers will be the property of the 
| proprietors.
| The same extreme advocates argue that an independent 
| audit will enable the shareholders and the public to be sure 
| that their money is safe, and their business properly 
| conducted. But on this point there is a dilemma. If the 
| auditor knows anything of the business of the bank, it must 
| be by being connected with the management, and then his 
| audit ceases to be independent ~~ if he is ignorant of the 
| business, he must learn it before his audit can be 
| satisfactory. A practised accountant can add up the ledger, 
| and count over the cash; but how can he judge of the 
| goodness of the bills discounted, the value of the securities, 
| or the trustworthiness of the customers? Even if he made a 
| discovery, he might ruin the bank by proclaiming it to a 
| public meeting of shareholders. The experience of railway 
| audits shows that we must not expect one or two 
| shareholders in one or two days, to become sufficiently 
| acquainted with large and involved transactions. Of course, 
| it is desirable to have an audit ~~ every additional security 
| is always valuable ~~ but to rely on it as a sole guarantee 
| for the solvency of a bank is not reasonable, and will, now 
| and then, end in disappointment.
| By far the best security that the whole of the property liable 
| to the customers of the bank should not be misspent by the 
| directors, is that it should not be in their hands. If the 
| proprietary is rich and respectable, there is a large fund 
| <p> “out of doors,” </p> which the worst managers cannot 
| lose or take. The solvency of our best Joint-Stock banks is 
| secured, not only by the largeness of their capital, but by 
| the means and standing of their shareholders. The serious 
| doubt which many people feel about Joint-Stock Banking is 
| whether such a proprietary can now be secured. Under our 
| present law, every shareholder is liable to every depositor 
| to the limit of his last farthing. Of course, very few 
| shareholders can know anything of the management of the 
| concern; and the success or ruin of a bank is entirely a 
| matter of management. Take the case of a man with 
| 20,000 l. ~~ will he, for the sake of a high interest on 5000 
| l., invest it so as to risk losing his whole 20,000 l. by the 
| blundering of men whom he never saw, and whom he 
| cannot restrain? Men of small property may possibly invest 
| the whole of it; but then there is no separate fund, out of 
| the control of the managers, secured to the depositors by 
| being in the hands of the proprietors.
| Another, but much more removeable difficulty in 
| Joint-Stock Banking, is the insufficient remuneration of the 
| directors. We cannot pry into the <hi> arcana </hi> of the 
| board-rooms, and therefore cannot say how much any one 
| set of directors are paid, or how. But in some companies 
| they profess to serve gratuitously ~~ in many others their 
| pay is understood to be extremely small ~~ in hardly any is 
| it enough to induce very able practical men to devote much 
| time to the duty. The tendency is like that of the 
| government of a new colony ~~ the worst qualified will be 
| apt to take that which the best qualified are too busy to 
| desire. In the getting up of new banks, we suspect that this 
| is much felt. What is to make practised men of business ~~ 
| and <reg orig=“no one”> no-one </reg> else is fit ~~~ 
| devote a great deal of time to the foundation of a large 
| bank, in which their share can be but a small fraction? The 
| case of the Tipperary Bank is a warning of what will occur 
| when the foundation of banks can fall into the hands of 
| persons like the Sadleirs. The only way, in Joint-Stock 
| Banking, of satisfying the last of our conditions, is to give 
| the directors ~~ at any rate to the most active and <hi> 
| directing </hi> ~~ say, to a Committee of Management, a 
| high remuneration. Till this is done, there will be a 
| temptation to make undue gains, either by borrowing too 
| much from the bank themselves, or lending too much to 
| their friends.
| This last objection, as we have said, can be easily 
| removed; but the one previously mentioned cannot be 
| remedied under the present law. Lord Palmerston is 
| reported to have said that he did not consider the principle 
| of limited liability at all applicable to banking. Yet it does 
| not appear that he is ready to act on this idea. If he were, 
| he ought to be urgent for the removal of the national 
| account from the Bank of England. He has, however, been 
| fifty years in Parliament, and we do not know that he ever 
| made a motion to that effect. It is certain, we believe, that, 
| out of England, all the greatest banks known in history ~~ 
| the Bank of France, that of Amsterdam, that of Genoa, the 
| most remarkable of the Scotch banks ~~ have all been 
| founded on this principle. Many rich people, who would 
| never dream of giving their names to a Joint-Stock Bank 
| now that they may be ruined by its failure, would be ready 
| to incur a great liability if it were exactly defined, and if they 
| were quite sure it could not be extended. In a rural district, 
| many of the greatest landed proprietors would be very glad 
| to lend their credit to a local bank, if it could be done with 
| reasonable safety. It seems, at any rate, certain that, by a 
| proper application of the principle of limited liability, all the 
| three conditions on which we have insisted could be 
| complied with.
| No doubt, if all the capital subscribed for were at once paid 
| up, and if the shareholders were to be liable for now more, 
| the second of those conditions would be wanting. There 
| would be no security that the capital, which would be 
| entirely in the hands of the managers, might not be wholly 
| lost. But this is clearly not an essential part of the system. If 
| a large capital were paid up, and if the shareholders were 
| to be liable only to pay as much more, or twice as much 
| more, the risk would be defined. Suppose, for example, 
| that a million were subscribed for in 100 l. shares ~~ if the 
| whole of those shares were paid up, and if each 
| shareholder were liable to the depositors for 100 l. or 200 l. 
| per share, in addition, and no more, opulent shareholders 
| might easily be induced to join. They would be ready, 
| perhaps, to go five times the amount. They are anxious 
| there should be a limit, but they would not care 
| comparatively where the limit was placed. As has been 
| said, the public could easily ascertain whether the body of 
| shareholders were persons of standing; and so long as 
| there was, so to speak, a supplemental capital in their 
| hands, there could be no fear of the directors losing the 
| whole capital. Of course it would be easy to remunerate 
| the managing directors so well that it should be their 
| interest to manage safely. On the whole, there hardly 
| seems any other means of obtaining so certainly, and 
| retaining so securely, a large property which shall be liable 
| for the monies deposited in a bank, and which the public 
| shall know to be so.