The Art of Islamic Banking and Finance: Tools and Techniques for Community-Based Banking

would receive gold and silver in return for its liabilities (government securi-
ties). Chase’s plan was embodied in the National Banking Act of 1863. To
enhance the prospect that nationalbank notes would be successful, and
to eliminate the competition from notes issued by state banks, Chase also
developed a tax that Congress gradually increased until the state bank prac-
tice of issuing currency ended. Because national bank notes had to be fully
collateralized government securities, the nation’s supply of paper currency
effectively depended on the government’s debt.
The supply of currency expanded and contracted in direct response to
changes in the value of government securities in the nation’s bond markets,
not in response to the needs of the economy. When the government began
repaying its Civil War debt, redeeming and retiring securities issued in
earlier years, the supply of collateral available in the banking system for
note issuance shrank. Currency was inelastic (incapable of adjusting to the
public’s changing needs and demands), and this led to the money panics^4
that periodically plagued the economy of the United States.

THE FEDERAL RESERVE BOARD OF THE UNITED
STATES OF AMERICA5,6

The Federal Reserve’s power is derived from the Constitution of the United
States (Article I, Section 8). The article states: ‘‘Congress shall have power
...tocoinmoney(and)regulatethevaluethereof...’’TheFederal
Reserve Act of 1913 established the Federal Reserve to realize the following
objectives:

&Furnish an elastic currency that would respond to the economic needs

of the nation

&Serve as a last resort to defend against any run on the banking system of

the nation

&Establish a more effective and responsive system to supervise banks

&Improve the efficiency of the national payment mechanism

The 1946 Employment Act established a number of national goals that
must be achieved by the Federal Reserve. These goals were expanded in
1978, when the Congress passed the Full Employment and Balanced
Growth Act. Following are the expanded goals:

&Full employment

&Increased real income(net of inflation)

&Balanced economic growth

90 THE ART OF ISLAMIC BANKING AND FINANCE