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In consequence of this situation, bankers have failed to guide economic activity statesman-like, but have submitted instead to local pressures and influences, resulting in undesirable competitive practices. Instead of controlling or regulating business enterprise, they have, under varied and lax jurisdictions, pursued a dangerous, course of free competition following the line of least resistance.
To justify action of this sort, some bankers even disclaim any power to control or regulate business activity. They assert that banks do not make business conditions, but that they are the hand-maidens to industry and commerce. When business is good, they, by an aggressive policy, merely expedite it and when business is hesitant or passive, banks, too, are hesitant or passive. If this is true, it means that when times are good banks make them better, and when times are bad they make them worse. In other words, in periods of prosperity banks bring on the boom and in periods of depression they tend to bring about despair. If this is the case, it is one of the severest indictments of our present-day banking system. Furthermore, many individual bankers are prone to take a balance sheet and income statement view of credit policy. It is too much to expect men trained to view economic problems from the standpoint of an individual business unit to give proper weight to the national aspects of loan policy.
Parenthetically, it should be pointed out that this is not necessarily an indictment of any one bank or of any banker, but a criticism of the banking system which forces individual banks and bankers to act as they have for the sake of selfpreservation. Instead of being the omnipotent masters of business conditions, some banks at least have admitted possession of feet of clay, on the theory that action on their part should be based on existing conditions rather than attempting to create desired conditions. As long as this theory prevails, coupled with the strictly individual point of view of credit expansion, no national policy is feasible. No one has been more severe in condemnation of the unsatisfactory, if not unfair competitive banking practices of recent years, than some of the bankers themselves.
What America needs today, to rehabilitate our economic order and to establish commercial banking on a sound basis, is a single, strong, unified banking system, free from adverse competitive practices and devoid of the lax and divergent supervision and the strong undesirable local influences to which banking is now being subjected. Coordination of banking policy on a national scale should go far toward eliminating existing unsatisfactory conditions and should make possible a national policy that could be effectively adjusted to the oscillating movements of the business cycle. Under such a system it would be impoossible for banks with a plethora of funds to refuse to supply at least temporary capital to tide over normal seasonal requirements. It would also be impossible long to maintain such a liquidity mania as is now holding sway over the financial system of the country. Changes in the Securities Act.-A limited number of manufacturers have expressed their belief that an amendment to the Securities Act is needed in order to facilitate security flotations of small manufacturers. Unfortunately, very few of these made their criticism pointed or specifically indicated the nature of the changes desired. The following few excerpts from letters, largely from manufacturers reporting no edit difficulty, are typical:
"Our opinion is the same as that voiced last week by the manager of the Royal Bank of Canada in his annual report when he stated that the Securities Act was retarding the recovery of the United States more than any one thing and that it is a 'punitive' measure. If the President wants to put men back to their normal jobs, he must restore the flow of capital into industry unless it is his purpose to socialize the entire country and change our mode of operations entirely"
"No one condemns the distribution of shady, misrepresented securities more than I but I feel it only fair to point out that the present legislative restrictions undoubtedly prevent capital from flowing freely into business. We were glad to register our securities and to comply with the law in full, as we always intend to to. It is my sincere belief, however, that for the executive of a small or moderate company, the problem of raising capital from the public with existing legislative restrictions, is one of his greatest problems."
"The action of the Government in regard to the sale of securities has made it impossible to interest any reputable bankers or brokers in the sale of our securities."
"Take the Government out of business, establish a permanent value for money, repeal some parts of the recent security laws and the sources for capital and credit will show up."
"Some relaxation in security requirements for capital loans to industry is imperative. After 4 years of depression resources in many cases are exhausted. Firms of good character who have maintained pay rolls for 4 years and exhausted their resources should be given loans on the basis of a 'moral risk."
It is probable that the effect of the Securities Act upon small industrial borrowers has been relatively slight. These borrowers never did rely heavily upon the securities market for long-term capital. For the most part, they have secured necessary funds for fixed assets from those immediately interested in the business and from a narrow outside but rather local market. Commercial bankers have also served in an important capacity as suppliers of permanent capital. Even in normal times, small manufacturers have experienced difficulty in floating securities as a basis for obtaining equity funds or investment credit. In a report made by the New England Council about a year prior to this depression, the need for some corporation to finance small enterprises in New England was pointed out, as a result of inquiries made of leading commercial banks and investment houses. An almost unanimous verdict in favor of such an agency was rendered by investment houses. Their replies clearly showed that existing investment bankers or brokers were not interested in flotations of small issues because of their limited marketability or their facilities were not geared for such operations; although "worthy propositions" were frequently presented to them. Commercial bankers, on the other hand, were more or less noncommittal in their replies, some of them indicating a desire to do such financing themselves and others expressing a wish for a separate organization to handle investment propositions for small industry in order to relieve banks of such burden.
Nevertheless, a study of the manufacturers' reaction to the Securities Act leads the author to recommend the following changes in the act or in its administration, so that the market for small issues and issuers may be somewhat widened. It is recommended that—
(1) Registration of securities be simplified and adapted to the special needs of each type of security issue and each type of issuer. It is probable that, after the first period of experimentation, the Securities and Exchange Commission will so modify the requirements for registration that the task will be simplified for small concerns. No change in the law is necessary to accomplish this pur
(2) In the examination of the registration statement and the prospectus that is prepared for prospective purchasers of the security less weight be placed on the financial statement of the issuer and more on management ability. It is probable that in the long run more failures in business are caused by inefficiency than by lack of capital. Inability to operate a business properly may result in a rapid dissipation of capital, to the detriment of investors. This, again, is a matter of policy, which in time the Commission may adopt of its own accord and which requires no further legislation.
(3) The Securities Act be modified so as to eliminate penalties for the "omission of material facts", unless such information is specifically requested by the Commission. No responsible businessman should object to those parts of the act which insist that information given in the registration statement and in the prospectus be true and representative of actual conditions. Issuers furnishing false and misleading information in connection with the sale of a security should be subject to punishment just as those who use false or fraudulent methods in other respects. It is also not unreasonable to require that sellers of securities to the public furnish information to the public with reference to such securities, just as it is required of sellers of commodities sold in interstate commerce. But to punish issuers for the "omission of material facts" is just as harsh as to punish vendors of merchandise for failure voluntarily to point out the weaknesses or undesirable features of their products. It is true that issuers are not liable if they can prove that at the time the registration statement became effective they had reasonable ground to believe and did believe that no omission of a material fact was made therein, and that the standard of reasonableness required is that of a prudent man in the management of his own affairs. The defendant may also prove that the loss to the buyer of securities has resulted from other causes than failure to state material facts in the registration statement or in the prospectus. However, the matter is exceedingly annoying and places the burden of proof to a
considerable extent upon the issuer. Regardless of whether actual prosecution of such cases will be made and how liberal the interpretation of the Commission may be, the psychological effect of this part of the act is not conducive to free flotation of securities.
Intermediate-term credit banks for industry and commerce.—In the handling of our financial and banking structure we are now at the cross roads. One must frankly recognize that commercial banking in the pure sense of that term has ceased to be, and proceed to treat such banks as general financial agencies, or commercial banking should be confined narrowly to its own field and other financial agencies should be developed to fill the gap now existing in our financial structure. Failure to face the question squarely as to whether specialized or generalized banking is to be the objective can result only in confusion. Much
of the confusion to date, it is believed, has arisen out of the fact that legislation and regulation of banks were effected from one point of view and results were expected of an entirely different nature.
As has already been pointed out in a previous connection, approximately 20 percent of the manufacturers reporting on the subject have been using banks for long-term capital and for intermediate-term needs. The latter type of credit has been extended over a period of from 6 months to 5 years. The virtual cessation of lending by banks for such purposes during this depression has had an especially disastrous effect upon small enterprises. In an effort to keep the banks solvent and to protect depositors, borrowers have been sadly neglected. If recovery is to be achieved serious attention must be devoted to the interest of borrowers as well as depositors, especially since depositor confidence has been fully restored. Even though the measures recommended up to this point are adopted, there is still the problem of providing capital for an intermediate-term of from 6 months to 5 years. In a large percent of the cases the most urgent need appears to be for funds of this type. Loans for 60 to 90 days or even up to 6 months will not help to finance the large volume of more or less permanent working capital necessary to start raw materials through a long productive process or to finance depleted current assets caused by the depression. The withdrawal of commercial banks from this field of credit leaves the small enterprise in an unusually precarious position. It is true that changes in the policy of Federal Reserve banks and of the Reconstruction Finance Corporation that would make possibly direct loans to industry for periods up to 5 years would help to some extent. However, such action, because of the time limitation imposed by the law during which these agencies may so function and because of the limited amounts which may thus be loaned by these agencies, is a mere palliative. While highly desirable and most essential, only temporary alleviation may be expected from these sources. What is needed is the establishment of an intermediate-term credit system for industry and trade. The need for such a system has long been recognized by some authorities, bankers, and business men.
In the report of the National Industrial Conference Board on "The Availability of Bank Credit", published in 1932, it was pointed out, first, that commercial banks prior to the depression extended "a considerable volume of intermediate credit", and, second, "that it is natural that business demands for such credit should be greater after 3 years of operating reverses than formerly, "due to an impaired working capital condition. The question is then raised whether there is not a "real defect in the American banking system because of the absence of specialized" institutions dealing in intermediate-term credit, just as in the case of the Federal intermediate credit banks established for agriculture.
Therefore, the recoinmendation is made that a Federal Intermediate Credit System be established by an act of Congress, so that the small industrial and commercial borrower may have credit facilities similar to those already in existence to finance agriculture, urban real estate, railroads, and large industrial enterprises. This system is to consist of a Federal Intermediate Credit Corporation, 12 regional intermediate credit offices, and member institutions, as follows: (1) The Federal Intermediate Corporation to be located, if possible, in New York City, so as to obviate the necessity for a separate fiscal agent and to be in close proximity to industry and trade.
(2) The Federal Intermediate Credit Corporation to be managed by a Governor and a board of directors.
(3) Funds for lending purposes to be obtained by the Federal Intermediate Credit Corporation through (a) an initial capital stock of $100,000,000 to be purchased by the Treasury of the United States and subsequently to be sold to member institutions and to individual investors; (b) an additional capital stock of $100,000,000 to be subscribed by the Treasury of the United States, subject to call, in whole or in part, by the directors of the Federal Intermediate Credit
Corporation, on 30 days' notice to the Secretary of the Treasury. This stock also to be subsequently sold to member institutions and to individual investors; (c) the amount of stock to be held by any one person or organization to be limited to a maximum of one-quarter of 1 percent of the total, in order to secure wide distribution and prevent centralized control; (d) issue and sale of collateral-trust debentures, with a maturity of not more than 10 years and not in excess of 10 times the paid-in capital and surplus.
(4) It shall be the function of the Federal Intermediate Credit Corporation (a) to provide the necessary capital, within the limits of the law, for the financing of intermediate-term needs of commercial and industrial enterprises; (b) to issue rules and regulations on eligibility to membership and to provide facilities for supervision of member institutions; (c) to establish rediscount facilities for member institutions; (d) to issue rules and regulations to the regional offices and to exercise complete supervision over them, at the same time giving those officers an amount of latitude necessary to perform their functions most effectively.
(5) The 12 regional intermediate credit offices for industry and trade to be located in the same cities in which the Federal Reserve banks are now located. (6) It shall be their function (a) to discount paper for member institutions arising out of intermediate loans to industry and trade; (b) under certain conditions to be determined by the Board of Directors of the Federal Intermediate Credit Corporation, to make loans direct to industrial and commercial enterprises; (c) to supervise the activities of member institutions within their respective regions.
(7) Membership in the Federal Intermediate Credit System shall be open to (a) any member bank of the Federal Reserve System, provided such bank maintains a separate and distinct department for the acceptance of time deposits and the making of intermediate-term loans and such business is entirely separated from the commercial business of the bank; (b) any nonmember bank qualifying as under (a) above and having a conservative ratio of capital and surplus to deposits; (c) any savings bank or mortgage company to be approved by the Corporation, provided such savings bank or mortgage company does not engage in commercial banking and accepts only time deposits.
(8) Member institutions to be given the privilege of buying the capital stock and debentures of the Federal Intermediate Credit Corporation on their own account or for sale to private investors; to submit their paper for rediscounting purposes to the regional intermediate credit offices, thereby being assured of a definite margin on their loans.
(9) An individual loan shall be limited to $750,000 in order that the operation of the system may be confined to relatively small commercial and industrial enterprises.
(10) Borrowers from the member institutions to subscribe to the capital stock of such institutions an amount equal to at least 5 percent of the loan obtained.
(11) Borrowers from the regional intermediate credit offices to subscribe to the capital stock in the Federal Intermediate Credit Corporation an amount equal to at least 5 percent of the loan obtained.
(12) Interest rates charged on intermediate loans by the regional offices to be at least 1 percent per annum higher than the rediscount rate by the Federal Intermediate Credit Corporation but not less than 3 percent nor more than 6 percent.
(13) The proposed intermediate credit system should be established quickly, adequately staffed with men experienced in the field of intermediate or long-term industrial loans, and who have adequate knowledge of and consideration for the problems of the smaller business enterprise, and entirely under the jurisdiction of the Federal Government, not subject to the divergent laws and regulations of the various States.
H. R. 5918, in my opinion, will carry into effect the last recommendation in its major features and will provide a rediscounting agency for intermediate term paper similar to the Federal Reserve System which is now available for the rediscounting of short-term obligations.
Mr. RUSSELL. The underlying purpose is to put the Government into this type of banking business permanently?
Dr. BECKMAN. The underlying idea is to have the Government provide permanently a rediscounting agency for certain kinds of loans, for which no provision has ever been made, and for which the small business man claims as much of a right as the farmer, the home owner, and the large concerns.
The CHAIRMAN. That claim is based upon the fact that no such provision has been made, and if it were granted as to the type of loans, of course it means that eventually the Government will be asked to set up a banking institution for every type of credit in the country. Dr. BECKMAN. You have done it for everybody else.
The CHAIRMAN. I am not undertaking to say what will be done about this particular bill. I am thinking about the future.
Dr. BECKMAN. This is merely giving to industry what we gave to agriculture. We give farmers credit over a long time. May I make a few comments on the major provisions of the bill, and call particular attention to the more or less unique features?
The CHAIRMAN. May I suggest that you cover the general aspects of this legislation? So far as the particular provisions are concerned, they will be fully dissected by the committee at the proper time.
Dr. BECKMAN. Take page 3, the first paragraph, where it is provided that the “members to be appointed by the President" shall be "by experience or training qualified in the field of intermediate or long-term commercial or industrial credit." As I have indicated, one of the major purposes is to have people who can use sound judgment on loans of that character, and we also want people who are sympathetic to the needs of small business men.
Mr. RUSSELL. Where will you get this type of men?
Dr. BECKMAN. You can get them from concerns like the International Harvester Co., who sell on long terms, and who use a different yardstick from concerns in granting credit. You can get men from investment houses and finance companies. You will find that their attitude will be quite different from the attitude of men in short-time loans and in banking enterprises.
Mr. SISSON. They are men whom you would call, rather than bankers, industrialists, would you not?
Dr. BECKMAN. Industrial bankers, if you please.
Mr. SISSON. Is not that the same type of men you find on this committee, who would pass upon the recommendations of the new agency, where we have more trouble with that agency than any other, and who have been reversed time after time. It is the personnel that is the trouble here, not the law, in my opinion.
Dr. BECKMAN. From the information we have from various sources, you find, in the first place, that many of the members of the industrial committees are big business men.
Mr. GIFFORD. I wish the R. F. C. would be liberal in their loans, even if they should lose a good part of their loans.
There is nothing in this bill that is liberal at all, as compared with the R. F. C.
Dr. BECKMAN. May I call attention to 2 or 3 features that are liberal? For instance, take this paragraph on page 5, the last paragraph, which provides that
The Corporation shall make special efforts to simplify insofar as possible the procedures and information required of applicants for loans to expedite the consideration and decision upon the merits of the applications for loans, and to