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TeachMeFinance.com - explain Free banking system historic definition...
Free banking system -- Previous to the panic of 1835 there
were no general laws in any of the states providing for the
incorporation of banking associations. Each bank operated
under a special charter passed for its own benefit. This system
of incorporation had aroused much opposition on the
grounds of monopoly, favoritism and corruption and logrolling
in the various legislatures. After the panic of 1835
there was an agitation in favor of general banking laws under
which any body of men associated together for the purpose
could by complying with the law engage in the banking
business.
An essential feature of banking at that time was the privilege
of issuing notes and the chief concern of the advocates of a
general or free banking system was to provide some method
for making such notes secure and acceptable to the public.
The device generally decided upon was to require the banks to
deposit in the custody of the authorities of the state from
which they received their charter approved securities equal in
value to the notes issued.
The first law of this character was enacted in Michigan in
1837. New York followed in 1838. The New York law,
which was very similar in principle to the Michigan law, provided
that any person or association of persons might receive
from the Comptroller of the state circulating notes and after
signing them might issue them as money by first depositing
with the Comptroller stocks (bonds) of the United States, of
the state of New York or any other state approved by the
Comptroller, or bonds and mortgages on improved, productive
and unencumbered real estate worth double the amount of the
mortgage, exclusive of the buildings thereon, and bearing interest
at not less than 6 per cent. The result was a great
emission of notes, a great depreciation in the value of the
notes, and the failure of many banks issuing them when they
were required by subsequent enactment to make provision
for the prompt redemption of their notes.
The disastrous effects of both the Michigan and New York
laws were attributed, however, more to faulty construction
and poor administration than to any wrong principle. As the
acts were gradually modified and strengthened their actual
operation became more satisfactory and the New York law
was practically the model for the national banking system.
Meanwhile, many other states followed the example of
Michigan and New York, but their laws were so loosely drawn
and the administration of them was so bad that the grossest
frauds were perpetrated and state bank notes became a synonym
for worthlessness. Some of the devices resorted to and
the disastrous results that followed are described under the
head Wildcat money.
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