The founding of the "Reserve System," was one of the most remarkable advances made in American banking, and a climax to the progress made over a century and a quarter; it introduced a new era and came at a time when most needed. Our country lacked the central bank which is the feature of foreign financial methods, and students had pointed out that to take its place there should be some sort of money reservoir to care for emergencies; and "that much of the extreme variations in the money rate and the periodical stringencies could be avoided by a proper use of discounting through some central organization." The act of December 23, 1913, recognized the two needs or principles indicated, and gave the country a central bank in everything but name.

Through the Federal Reserve Board established by this law, the banking power of the Nation was bound together, but were required to join under penalty of forfeiture of their charters; many State banks and trust companies refused to become a part of it although this was less true in New York. The World War crisis did much however to strengthen the system and induce cooperation among banks. It received its greatest test during the war which followed close upon its inception; and through the period of reconstruction and deflation which followed it proved its worth.

One of the first effects of the World War was to transfer the world's financial center from London to New York City. The Reserve System was expected to spread much of the financing and money involved over the country and lessen the importance of New York as the money capital of the Nation. It did divert from the New York market some of the adjustments of marginal funds; member banks meeting extra demands by borrowing from their local reserve bank, so that money markets are being developed in other cities than New York. But the metropolis remains, however, the principal center of the United States for the use of surplus funds and for the adjustment of banking reserves. Of the various regional branches, New York is first in importance. The following statement of its methods is printed on the authority of the institution itself.

"The New York money market is the leading money market of the country, the one that is central and national in scope. As such it is the market to which gravitates the idle money of other sections in the effort to find employment and thus it becomes a pool of the country's surplus funds. A bank with funds on hand which it is likely to need on a day's notice puts these funds in the New York money market. Many large financial and industrial concerns do likewise. 

In the market these funds are invested in short term securities, such as short Government securities, short municipal securities, bankers' acceptances, or other short obligations, or they are lent on a day to day basis as call money, either to brokers to carry stocks and bonds or to dealers in Government securities and bankers' acceptances to carry their portfolios. Such obligations involve a minimum of risk and can usually be converted into cash immediately. As the funds so invested or lent are needed from time to time, the securities are sold or the loans called, thus making possible an immediate withdrawal of the funds.

Banks and industrial concerns all over the country have funds employed in the New York money market, and there is a constant movement, to and fro, of these funds. Almost any sudden need for funds in any part of the country finds reflection in some withdrawal of funds from the New York money market, while any accumulation of funds in any part of the country is apt to result in an increase in the supply of funds in the New York market. The New York City banks as the depositories of out-of-town banks and industrial concerns are the principal agencies through which funds reach or are withdrawn from the New York money market.

The Federal Reserve Bank of New York Has Two Relations to the New York Money Market.

In the first place it has certain mechanical relationships. The Federal Reserve Bank furnishes the mechanism by which currency is issued or retired, Government securities are issued and redeemed, and by which funds are transferred to and from all parts of the country for the Government and for member banks. Transfer of funds include not only direct telegraphic transfers, but also the daily settlements made between New York and other sections for the immense volume of checks either deposited in or drawn upon the banks of this district. In fact, practically all financial transactions of banks, business houses, and the Government, between this district and other districts, are reflected in wire transfers or settlements made through this bank.

In the second place the Federal Reserve Bank of New York, is a credit reservoir to which, largely through the member banks, the New York money market has access, in the same way as other money markets have access to the Federal Reserve Banks of their districts. In a rapidly changing market, like that of New York, which employs surplus funds, the supply of funds is never in complete equilibrium with the demand. One week the supply of funds will be large and another week unusual needs in some parts of the country will draw off funds. If all of these temporary fluctuations in the supply of funds were reflected in changes in money rates the movement of rates would be wide and irregular. As a matter of fact, any temporary shortage of funds in the market is usually met by the use of funds from the Federal Reserve Bank. Similarly, when member banks are borrowing at the Reserve Bank, a large excess of funds seldom occurs, because any available funds are generally used to reduce or repay loans at the Reserve Bank.

Funds From the Federal Reserve Reservoir Reach the Market Mainly in Four Ways:

1) Member banks whose reserves have been depleted by withdrawals of deposits or currency, or for any other reason, may restore these reserves by discounting paper at the Reserve Bank at its established discount rate. In such transactions the initiative lies with the member bank.

2) Member banks, discount houses, bankers, and others may obtain funds from the Reserve Bank from time to time by selling to it bankers' acceptances. The immediate initiative in such transactions lies as a rule not with the Reserve Bank but with the sellers, since the Reserve Bank stands ready to purchase at its established buying rate all offerings of bankers' acceptances that carry not less than two good banking names and meet certain other eligibility requirements.

3) Dealers in short Government securities and bankers' acceptances, in addition to selling such securities outright to the Reserve Bank, may obtain funds from time to time by selling them to the Reserve Bank, at established rates for this type of transaction, under agreement to repurchase them with fifteen days. In these transactions the immediate initiative is taken by the dealers.

4) The Reserve Bank may furnish funds directly to the market by purchasing short Government or municipal securities, or may withdraw finds from the market either by selling such securities or by not replacing them when they mature. Transactions of this nature are ordinarily undertaken on the initiative of the Reserve Bank.

These four classes of loans or investments constitute the major earning assets of the Federal Reserve Bank, and changes in money market conditions are promptly reflected in one or more of them.