Chapter 3. The Analysis of Bank-Money
(1) Income-Deposits, Business-Deposits, and Savings-Deposits.
Let us now consider Bank-Money (or any other kind of money) from the standpoint of the depositor (or holder of it). A man holds a stock of money, whether in the form of Bank-Deposits or in any other form, for one or other of three reasons.
He may hold it to cover the interval between the dates when he receives his personal income and the dates when he spends it. If his receipt of income and his expenditure against it were nearly simultaneous, the average amount which he would need to hold for this purpose would be inappreciable. If everyone received all his income on Quarter-Days and paid his bills the same day, all cheques being drawn at the same moment in anticipation that the cheques paid in would be cleared just in time to meet the cheques paid out, the bank-deposits required to finance the normal circle of exchange between earnings and consumption would be next door to nothing; whilst if bills were paid, not simultaneously, but within a few days, the aggregate bank deposits of private individuals, whilst standing at a high figure for a few days, would be very low on the average of the quarter. The money balances of the working classes approximate, indeed, to this situation, in so far as they receive their wages on Saturday and pay them away again the same day or shortly afterwards. But, whether long or short, some interval there generally is between an individual's receipts and his expenditure. Moreover, he cannot always foresee the precise date of either. He must, therefore, hold a stock of money, or, a ready command over it in the form of a bank-deposit, both to bridge the intervals of time between receipts and expenditure and to provide against contingencies. Deposits of this kind, replenished by individuals out of their personal incomes and employed by them to meet their personal expenditure and their personal savings, we shall call Income-deposits. Cash in the hands of workers and others, who have no bank accounts, are, of course, to be included in the same category.
In the same way a business man, a manufacturer or a speculator, is unable, in general, to arrange his receipts and his outgoings so as to be simultaneous. Sometimes by "clearings", "settlement", etc., outside the monetary systemsㅡas, for example, the Stock Exchange Fortnightly Settlementsㅡhe is able to offset, in part at least, the one against another. But, in general, the match is not perfect, and a proportion of business transactions, varying according to the nature of the business, will lead to the payee finding himself in the possession of temporary balances of cash or bank-deposits. Further, as in the case of personal expenditure, so also in the case of business expenditure, the precise date at which obligations will fall due cannot always be foreseen, so that it is convenient to keep a margin against contingencies. Such deposits as these, held for business purposes, we shall call Business-deposits.
The ^Income-deposits^ and the ^Business-deposits^ together make up what we shall call the ^Cash-deposits^. 
The ^Income-deposits^ and the ^Business-deposits^ together make up what we shall call the ^Cash-deposits^. 
 It is interesting to record that a distinction closely analogous to the above was made by Adam Smith (^Wealth of Nation^, Book II, chap. ii.) : "The circulation of every country may be considered as divided into two different branches; the circulation of the dealers with one another, and the circulation between the dealers and consumers. Though the same pieces of money, whether paper of metal, may be employed sometimes in the one circulation and sometimes in the other, yet as both are constantly going on at the same time, each requires a certain stock of money of one kind or another, to carry it on."But a bank-deposit may also be held, not for the purpose of making payments, but as a means of employing savings, i.e. as an investment. The holder may be attracted by the rate of interest which his banker allows him; or he may anticipate that other investments are likely to depreciate in money value; or he may attach importance to the stability of the money-value of his savings and to being able to turn them into cash at short notice; or he may find this the most convenient way of holding small increments of savings with the intention of transforming them into a specific investment when they have accumulated to a sufficient sum; or he may be awaiting an opportunity of employing them in his own business; or other such reasons may influence them. We shall call deposits of this type ^Savings-deposits^. It is the criterion of a savings-deposit that it is not required for the purpose of current payments and could, without inconvenience, be dispensed with if, for any reason, some other form of investment were to seem to the depositor to be preferable.
(2) Demand-Deposits and Time-Deposits (p. 36)
A Cash-deposit roughly corresponds to what Americans call demand-deposits and we call current-accounts; and a Saving-deposit to what Americans call time-deposits and we call deposit-accounts. A Saving-deposit also corresponds to what used to be called in theories of Money, which were stated with primary reference to a Commodity Money, the use of money as a "Store of Value". But the correspondence is not exact. In Great Britain the old-fashioned distinction between deposit-accounts and current-accounts, namely that the former earn interest but the latter do not, is fast becoming blurred; for, increasingly, banks allow interest on the average of a customer's current-account in excess of an agreed minimumㅡwith the result that deposit-accounts and current-accounts are tending to correspond to differences of banking custom between different parts of the country and different classes of customers, rather than to the payment or non-payment of interest. [1(p. 37)]
There are alsoㅡthis again is, in Great Britain, a very common practiceㅡcurrent-accounts which are held, not because they are necessary as cash for the convenient transactions of current business, but as a means of remunerating the banker for his services. Sometimes a customer may remunerate his bank by a commission, which is calculated by reference to the turnover of his account and the trouble he has given in other ways; but very often the remuneration will take the form of an agreement by the customer to maintain a minimum balance on which he will receive no interest. Since the balance, held in virtue of such understandings, are usually allowed to fall below the agreed minimum on payment of interest on the difference, it is difficult to decide whether to regard them as savings-deposits or as cash-deposits. In whichever way they are regarded, however, they constitute a form of deposit which is not easily shifted and is likely to remain fairly constant in normal circumstances.
Apart from difficulties of classification arising out of banking practices, the line between savings-deposits and cash-deposits is often not sharp even in the mind of the depositor himselfㅡespecially as regards that part which is held against unforeseen contingencies. For the holder of a substantial savings-deposit may feel himself strong enough to economise in the amount of the cash-deposit which he holds against contingencies. Thus a part of his total deposit serves both purposes, and the depositor himself might find it hard to say exactly what proportion of his total deposit he holds for the one purpose and what proportion for the other. But the broad distinction is clear, and can be expressed as follows: the amount of the savings-deposits depends upon the comparative attractions, in the mind of the depositor, of the and of alternative securities; whilst the amount of the cash-deposits depends upon the volume and the regularity of what he receives and pays by means of cheques and the length of the interval between receipts and expenditure.
There is no opportunity at present to make an accurate statistical estimate of the proportions in which these two categories make up the published aggregate of deposits. In Great Britain the banks do not even publish separate figures for deposit-accounts and current-accounts respectively. And in the United States, where the separate publication of time-deposits and demand-deposits is required by law, this distinction does not, for various reasons, correspond exactly with the distinction made above; in particular, all savings-deposits held at less than thirty days' notice reckon as demand-deposits.
There is, nevertheless, enough information, which will be given in detail in Volume II to enable us to make a rough guess at the relative importance of the two types of deposit. In the United States the percentage of Time Deposits to Total Deposits varies widely in different Federal Reserve Districts, being about twice as high in San Francisco as in New York, whilst the average for the whole country has been undergoing a progressive change, rising from 23% in 1918 to about 40% in 1928. In Great Britain it used to be said before the war that the total deposits of the banks were about equally divided between deposit-accounts and current-accounts. [1(p. 39)] During the war investments in government issues, under the stimulus of official propaganda, probably drained away some of the most permanent of the deposit-accounts, withe the result that the proportion of deposit-accounts fell to about one-third of the total. During the last ten years, however, the proportion of about one-half. If, therefore, we allow for interest-bearing current-accounts and for "minimum balances" held to remunerate the bank, it would appear that in Great Britain the true savings-deposits may be somewhat in excess of one-half of the total; though we must on the other side allow for the fact that deposit-account rules (seven days' notice) are not always expected to be adhered to strictly.
Let the reader remember that these percentages are given merely as indications of the order of magnitude of the quantities in question. The proportions of the two types of deposits to the total deposits are by no means constant, and it is precisely this liability to variation which will give importance to the above analysis in our subsequent argument.
The foregoing classification naturally includes Notes as well as Bank-deposits. Since Notes never carry interest, there is a greater presumption in their case than in the case of Bank-deposits that they are held as cash and not as a form of savings. There is also, in a modern economic community, a presumption that they are held as income-deposits rather than as business-deposits, transactions between business men being mainly carried on by means of cheques.
There has been, indeed, during the past hundred years a steady evolution away from the use of Notes to the use of Cheques; and the proportions of Bank-deposits, which in any country we may expect to represent Savings-deposits, Business-deposits and Income-deposits respectively, depends on the stage in this evolution which that country has reached. In the first stage Bank-deposits are mainly in the nature of investments, most payments being made by Notes. In the second stage Bank-deposits are partly used as a means of holding cash, but are generally turned into Notes when it comes to making a payment. In the third stage business transactions are mainly done by cheque, the use of Notes being limited to wage payments and petty cash. In the fourth stage wage payments also are made by cheque, and Notes are employed for little except petty cash and out-of-pocket expenditure. Most continental countries are between the second and third stage. Great Britain is in the third stage, but possibly on the eve of the fourth. The United States is between the third and the fourth stage. The significance of Notes in a monetary system and the appropriate means of regulating their volume must obviously depend (though this is not yet generally recognised) on the stage of evolution which has been reached. The statistical significance of fluctuations in the note-issue must also vary in the same way. [1 (p. 40)]
(3) Deposits and Overdrafts (p. 41)
We have characterised ^cash-deposits^ as furnishing the ready command over money which is required for the convenient transaction of current payments. But the analysis is complicated, in a modern community, by the fact that a cash-deposit is not the only means of providing this facility. It is provided, equally well, by the ^overdraft^, i.e. by an arrangement with the bank that an account may be in debit at any time up to an amount not exceeding an agreed figure, interest being paid not on the agreed maximum debit, but on the actual average debit. A customer of a bank may draw a cheque against his deposits, thus diminishing his ^credit^ with the bank; but he may, equally well, draw a cheque against his overdraft, thus increasing his ^debit^ with the bank.
The settlement of indebtedness by means of book entries at banks can, indeed, be done just as effectively by transferring debits from one account to another as by transferring credits from one account to another. It is just as effective to pay by increasing the debit balance of the debtor and decreasing the debit balance of the creditor as it is by decreasing the credit balance of the former and increasing the credit balance of the latter. Thus it is not in the least essential to the efficient working of the cheque-money system that any of those who have cheque books should also have deposits. The resources of the bank might consists entirely of its own capital or they might be drawn from a class of customer, namely from those who run fixed savings-accounts with the bank, quite distinct from the customers who run cash-accounts; in which case the cash-accounts would consists entirely of debit-accounts (i.e. overdrafts) and not at all of credit-accounts (i.e. cash-deposits).
In Great Britain in particularㅡI do not venture to speak with confidence as to banking practices elsewhereㅡthere has been a growing practice of economising the amount of the cash-deposits by developing a technique of the overdraft. [1 (p. 42)] In the case of large and well-organised firms, the tendency is for their cash-accounts to tend on the average (reckoning cash-deposits ^plus^ and overdrafts ^minus^) towards zero, or, at any rate, a very low figure, partly by the use of the overdraft and partly by investing temporary surplus balances in bills or in loans to the money market. If the minimum balances, maintained in pursuance of an agreement for the remuneration of the bank, be subtracted, the average cash-accounts of big business (reckoned as above) bear a very small proportion to the volume of the cheques passing through the accounts. But private individuals also are making an ever-increasing use of overdraft facilities.
The reader must notice that it is not the amount of the customer's used overdraft appearing on the asset side of the bank's balance-sheet, but the amount of his ^unused^ overdraft, which does not (at present) appear anywhere at all in a bank's statement of its assets and liabilities, which corresponds to a cash-deposits;ㅡso that it is the total of the cash-deposits and the unused overdraft facilities outstanding which together make up the total of ^Cash Facilities^. Properly speaking, unused overdraft facilitiesㅡsince they represent a liability of the bankㅡought, in the same way as acceptances, to appear on both sides of the account. But at present this is not so, with the result that there exists in unused overdraft facilities a form of Bank-Money of growing importance, of which we have no statistical record whatever, whether as regards the absolute aggregate amount of it or as regards the fluctuations in this amount from time to time.
Thus the Cash Facilities, which are truly cash for the purposes of the Theory of the Value of Money, by no means correspond to the Bank Deposits which are published. The latter include an important proportion of something which is scarcely money at all (not much more than e.g. a Treasury Bill is), namely the savings-deposits; whilst, on the other hand, they take no account of something which is a Cash Facility, in the fullest sense of the ter, namely unused overdraft facilities. So long as savings-deposits and unused overdraft facilities are both of them a nearly constant proportion of the total deposits, the figures of Bank Deposits as published are a sufficiently satisfactory index of the amount of Cash available. But if, as we shall see subsequently, these proportions are capable of wide fluctuations, then we may be seriously misled, as indeed many people have been misled, by treating Bank Deposits as identical with Cash.
(4) The Volume of Deposits in Relation to the Volume of Transactions. (p. 43)
We have seen that the Cash-deposits, whether Income-deposits or Business-deposits, are held for the purpose of making paymentsㅡin distinction from Savings-deposits which are held for a different purpose. The next question is, therefore, as to the relationship between the amount of such cash-deposits and the volume of the payments on which they are employed. We shall deal with this question statistically in Volume II; but it will be convenient to make some preliminary observations at once.
Let us begin with the Income-deposits. In this case the volume of payments out is easily specified. For, obviously, it is equal to the money-income of the community, which constitute the payment in, minus any increase (or plus any decrease) in the amount of the income-deposits themselves. Put broadly, the annual turnover o the income-deposits will equal one year's salaries plus one year's wages plus one year's rentier interest plus one year's business earnings; or, in other words, one year's earnings of the factors of production. Thus aggregate money-incomes will fluctuate with the money costs of current output, if we include in the latter not only everything newly created which is the subject of exchange including services, but also income from the use of fixed consumption capital (e.g. houses).
 ( ... p. 44)What will be the relationship between this turnover, i.e. the aggregate annual money-income of the community, and the amount of the income-deposits? The latter will be some more or less stable fraction of the former. Let us call this fraction ^k1^, and its inverse V1.
 For a more precise definition of income see Chapter 9 below.
Generally speaking, one would expect the average value of ^k1^ in a given economic society to be a fairly stable quantity from year to year. But this average stability may be accompanied by considerable seasonal fluctuations, if income, though accruing steadily day by day, is not received and disbursed daily but at intervals. Where, as in the case of working-class wage, the payments of income are made weekly, ^k1^ will have a different value for each day of the week, falling steadily or sharply from pay-day onwards; but its weekly average will be stable. Where, as in the case of many middle-class salaries, the payments are made quarterly, ^k1^ will be at its maximum on quarter-days and will show a progressive fall between one quarter-day and the next. But the most important seasonal fluctuation in the value of ^k1^ is likely to be found in the case of agriculturalists who receive their incomes when they sell their crops. In the case of such a country as India, for example, the seasonal fluctuations in the demand for cash in different districts due to this cause are so great as to be a matter of common observation. In a community made up of weekly wage-earners, quarterly salary-earners and agriculturalists, it is evident, therefore, that the composite value of ^k1^ (we includeㅡthe reader will rememberㅡnotes as well as bank-accounts under the designation income-deposits) will describe a complex curve with many peaks and depressions through the year, even though its yearly average is fairly constant.
Its average value, moreover, will depend not only on the average length of the intervals between pay-days but also on the habits of the community in the matter of paying its bills ^pari passu^ with consumption or in arrear; i.e. on whether its disbursements are made at a level daily rate or whether they are concentrated in the periods immediately after pay-days. Where certain heavy payments are concentrated at particular seasons, this will be reflected in a corresponding seasonal drop in ^k1^ㅡas, for example, in the case of the British income-tax which is well known to have the effect of appreciably depressing the level of the income-deposits in the spring.
Changes in such customs and habits affecting the times and seasons of receipts and disbursementsㅡwhich are, however, likely to be slowㅡwill generally have more influence on the average value of ^k1^ over the whole year than will fluctuations in trade or in prices. A temporary falling away in real incomes may have some effect in reducing ^k1^ as a result of the effort to maintain consumption at a time when such incomes are falling. A distrust of the currency, such as existed in Europe during the post-war inflation period, may also reduce ^k1^ far below its normal value by inducing customers to make their purchases in a hurry. But apart from such exceptional causes, ^k1^ is unlikely to change its value materially between one year and another.
To make a guess at what this stable average value of ^k1^ actually is, is made difficult by the absence (at present) of any statistics which would enable us to distinguish between the income-deposits and the business-deposits. Since the matter will be examined more carefully in Volume II, it will be sufficient to say here that in the case of Great Britain the average value of ^k1^ is in all probability more than 5% and less than 12% of the community's annual income, and may be put provisionally at somewhere in the neighbourhood of 8%.
Let us turn next to the Business-deposits. Here we are likely to find much less stability and regulariy than in the case of the Income-deposits. The volume of transactions, in respect of which the business-deposits are turned over, will consist of the cheques drawn to cover all the exchanges of goods, documentary instruments and titles, etc., passed backwards and forwards between business men, and may be classified as follows:
(i) Transactions arising out of the division of productive functions, namely:
(a) Payments from entrepreneurs to the income-deposits of the factors of production;
(b) Transactions between those responsible for the stage of process (of extraction, manufacture, transport or distribution) just completed and those responsible for the next stage or for assembling the different components;
(ii) Speculative transactions in capital goods or commodities;
(iii) Financial transactions, e.g. the redemption and renewal of Treasury Bills, or changes of investments.
Now of these (i), like the transactions in respect of income-deposits, will be a fairly stable function of the money-value of current output; (i.a) indeed will be exactly equal to the receipts placed to the credit of the income-deposits, since every cheque paid in to the income-deposits will be a cheque paid out of the business-deposits and vice versaㅡexcept where there is a direct purchase by a consumer from a producer which is the case with some personal services. Category (i.b) will also fluctuate on the whole with the money-value of a year's output, though it will also change gradually with the character and technique of production, and, over short periods, according to whether entrepreneurs are or are not anticipating their requirements. Further, as we shall see subsequently, the price-level appropriate to (i.b) will not move precisely with the price-level appropriate to the consumption paid for out of the income-deposits, with the result that the changes in the money-value of transactions (i.b) may not correspond accurately to the money-value of expenditure by consumers at the same time. In the language of Chapter 15 below, business-deposits held for the purposes of transactions (i.a) and (i.b) make up, together with the income-deposits what we shall call the ^Industrial Circulation^.
Transactions in categories (ii) and (iii), on the other hand, need not be, and are not, governed by the volume of current output. The pace at which a circle of financiers, speculators and investors hand round one to another particular pieces of wealth, or titles to such, which they are neither producing nor consuming but merely exchanging, bears no definite relation to the rate of current production. The volume of such transactions is subject to very wide and incalculable fluctuations, easily double at one time what it is at another, depending on such factors as the state of speculative sentiment; and, whilst it is possibly stimulated by the activity and depressed by the inactivity of production, its fluctuations are quite different in degree from those of production. Moreover the price-level of the capital goods thus exchanged may vary quite differently from that of consumption goods. Business-deposits held for the purposes of transactions (ii) and (iii) make up, together with the savings-deposits, what in Chapter 15 we shall call the ^Financial Circulation^.
Unfortunately these transactions are not only highly variable, and varying differently from transactions arising out of production and consumption; they are also large enough compared with the latter transactions to confuse the statistics. For example in Great Britain the total cheque transactions of all kinds in 1927 probably approached ￡64,000,000,000, to which must be added the transactions for which notes are used, making a total of more than 16 times the annual income. Since each item of current output cannot change hands on the average so many as 16 times, it is evident that transactions arising out of current production and consumption are swamped by business transactions of other kinds. This confusion of production and income statistics by the large and variable factor of financial transactions is a serious obstacle to reaching reliable inductive results concerning modern monetary problems.
The corresponding figures for the United States in 1926 were about 700 billion dollars for cheque transactions, which was about 10 times the annual income.
It is evident from the above that the proportion, ^k2^, of the average level of the business-deposits to the volume of the business transactions ay be quite different from ^k1^, the proportion of the income-deposits to the income transactions. Also it is likely both to vary differently and to be much more variable. Some estimates as to the magnitude and variability of ^k2^, or rather of its inverse V2, will be given in Volume II.
Now, whilst ^k1^, in any given economic community, can reasonably be thought of as a steady fraction of the national income in terms of money, this is not the case with ^k2^. For both the volume and the price-level of the transactions which govern ^k2^ are capable of wide variations which do not correspond to variations of the national money-income. Thus it is misleading to represent the ^total^ cash-deposits (i.e. income-deposits ^plus^ business-deposits) as bearing any stable or normal relationship to the national money-income.
The reader will have noticed that ^k1^ and ^k2^ are the inverse of what are generally called the "velocities of circulation" of the income-deposits and of the business-deposits respectively.
We must now embark on a very long argument as to the manner in which the creation of deposits by the banking system is related to the price-level. To begin with, the Second Book of this Treatiseㅡconstituting an inevitable digression from the central themㅡwill be devoted to an analysis of the meaning, and to the problem of the measurement, of the Value of Money.
※ The Chapter 3, the final one of the Book I, ends here on p. 49 of the Volume I.