Supreme Court and banking law - Business in United States of America

Definition: Decisions by the nation’s highest court regarding the constitutionality and interpretation of banking laws
Significance: American ambivalence toward banks and central bankers has never been shared by the U.S. Supreme Court, whose decisions in banking law have supported both a national bank and a national banking system, thus contributing to the growth of American industry and business.
During the early nineteenth century, Supreme Court decisions regarding banking were at the center of the first national debates over the powers of the federal government and its role in the expansion of American business. Federalists such as Alexander Hamilton believed that a chief role of the new federal government created by the 1787 Constitution was to further American manufacturing, industry, and business. He believed a central national bank was necessary to accomplish that purpose.
Reflecting perhaps a suspicion of central bankers, however, the Constitution did not explicitly authorize the creation of such a bank. Thus, when Hamilton’s First Bank of the United States was created by Congress on February 25, 1791, as a federal depository and guarantor of bank notes, it was destined to be at the center of a nationwide controversy about the interpretation of the Constitution, the role of the federal government in the economy, and whether the United States should be oriented in its policies toward becoming an agrarian nation of farmers or an industrial nation of trade and business.

Battle Over the U.S. Bank

The first political parties took sides in the controversy over the proper economic role of the federal government. The Democratic-Republicans, led by Thomas Jefferson, were agrarian, suspicious of government, and strict constructionists of the Constitution. The Federalists, led by Alexander Hamilton, were mercantile, supporters of a strong central government to promote business, and broad constructionists of the Constitution. In 1805, Georgia, reflecting state hostility to the Bank of the United States, enacted a tax on that bank’s local Georgia branch. When the bank refused to pay the tax, Georgia seized its deposits in satisfaction of the tax debt. The Supreme Court ruled in Bank of the United States v. Deveaux (1809) that depositors who were citizens of Pennsylvania were entitled to sue in federal court to recover their deposits from the state of Georgia. The ruling had the effect of supporting the national bank.
After a protracted struggle, the U.S. Bank was not rechartered in 1811. In 1816, however, Congress chartered the larger and more powerful Second Bank of the United States. The famous case of McCulloch v. Maryland (1819) resulted. This case took on a greater constitutional significance than just the struggle over the bank. Again, a hostile state taxed the U.S. Bank, and when the federal government opposed this taxation, the constitutionality of the bank’s charter was placed at issue. In upholding the power of Congress to charter the bank, Chief Justice John Marshall relied on the necessary and proper clause of the Constitution. He ruled that all powers necessary to carry out powers explicitly enumerated in the Constitution were themselves authorized by the document. Thus, the federal government was widely vested with powers to institute a central bank and to take measures that would advance the course of American business.
The state of Ohio, which also taxed the U.S. Bank, tried to evade the ruling of McCulloch v. Maryland by testing the legitimacy of its tax on the bank in the Ohio state courts. However, in Osborn v. Bank of the United States (1824), the Supreme Court proclaimed federal jurisdiction over every case involving the U.S. Bank, even if the issues at stake were questions of state law. Once again, Chief Justice Marshall had used the controversy over the U.S. Bank to assert the widest scope of federal power over the states.
In McCulloch and Osborn, the Court established that no state could tax a federal entity and that no state court could preempt federal courts from adjudicating any issues that involved federal institutions. The eastern business interests, who saw a strong federal government as essential to their financial plans, rejoiced; President Andrew Jackson did not. He vowed to destroy the Second Bank of the United States and humble its supporters. In 1832, Jackson vetoed the bill rechartering the bank. In 1835, he appointed Roger Taney, an opponent of the bank, to succeed Marshall as chief justice of the United States. These acts were essential elements in a new wave of Jacksonian democracy. Another element of Jacksonian populism was hostility to the federal courts and the U.S. Supreme Court, which Jackson blamed for favoritism toward eastern banking interests.

Dual Banking System

With the demise of the Second Bank of the United States, the U.S. banking system became characterized by a proliferation of state banks operating under state laws. This situation provided little scope for the nation’s highest federal court. However, with the National Currency Act of 1863 and the National Bank Act of 1864, federal chartering of banks was reinstated and a role for the Supreme Court restored. This overlapping of state and federal chartering became known as a dual banking system. Under this system, the Supreme Court was often called on to adjudicate the competition between state- and federally chartered banks.
In Veazie Bank v. Fenno (1869), the Court upheld the constitutionality of federal taxes on state banks, again asserting federal supremacy. Banks had become pivotal players in American business. They were not only depositories for savers but also loaned money and minted currency, as the Court recognized in Oulton v. German Savings and Loan Society (1872). The Court in First National Bank v. Missouri (1924) limited the powers of the national banks to those enumerated in federal statutes. For example, the Court in First National Bank v. Lanier (1870) found that, as federal law forbade banks from owning their own shares, they were also prohibited from loaning money on those shares.
Despite these limitations, the Court found numerous bank powers that were authorized in federal law. These included the powers to certify checks (Merchants Bank v. State Bank, 1870); acquire stock (First National Bank v. National Exchange Bank, 1875); borrow money (Auten v. United States National Bank, 1899, and Wyman v. Wallace, 1906); collect judgments and pay taxes on behalf of depositors (Miller v. King, 1912, and Clement National Bank v. Vermont, 1913); sell mortgages (First National Bank v. City of Hartford, 1927); operate a safe deposit business (Colorado National Bank v. Bedford, 1940); and advertise the word “savings” (Franklin National Bank v. New York, 1954). As the Supreme Court recognized in National Bank v. Commonwealth (1869), banks were governed much more by state financial laws than by sporadic federal legislation. However much the stage was left to the states, though, the Supreme Court continued to insist that national oversight of banks was in the end a legitimate task of the federal government, holding in Tiffany v. National Bank of Missouri (1874) and Davis v. Elmira Savings Bank (1896) that federal law overrode state law in regulating national banks.
The Tiffany v. National Bank of Missouri decision also established that federally chartered banks are allowed to charge the highest loan rates permitted under state law, even if state banks are restricted to lower rates. Likewise, in Farmers’ and Mechanics’ National Bank v. Dearing (1875), the Court decided that a state law forfeiting a bank debt in which excessive (usurious) interest had been charged was preempted by federal laws that allowed the bank in error to forfeit only the interest due and not the entire loan. These cases illustrate the principle, manifested repeatedly in Supreme Court decisions, that federal laws are often more favorable to banks than are state laws.

Federal Regulation

Although the Federal Reserve Act of 1913 reorganized the banking system, it was only with the New Deal’s Banking Act of 1933 that the Supreme Court re-emerged as a dominant force in banking law. The 1933 law, commonly known as the Glass-Steagall Act, firmly separated commercial and investment banking, expanded the branching power of national banks (previously confined to single unit locations), and created the Federal Deposit Insurance Corporation. As federal laws and regulations concerning banks proliferated, the Supreme Court would decide such issues as limitations on bank mergers (United States v. Phillipsburg National Bank and Trust Co., 1970, and United States v. Marine Bancorporation, 1974), bank holding companies gaining ownership of investment advisory and trust services (Lewis v. BT Investment Managers, 1980), and the constitutionality of regional bank arrangements (Northeast Bancorp v. Board of Governors, 1985).
Perhaps the most controversial banking law issue to face the Supreme Court was whether banks could engage in profitable businesses that were outside the scope of traditional banking, such as insurance underwriting, securities and mutual fund investing, international financing, and providing venture capital. In cases such as First National Bank of Logan v. Walker Bank and Trust Co. (1966), Investment Company Institute v. Camp (1971), and other cases decided during the 1960’s and 1970’s, the Supreme Court was reluctant to permit national banks to expand their geographical reach or to engage in such newly lucrative businesses as operating mutual investment funds. That reluctance would diminish because of both congressional legislation and changes in the Court’s own internal composition and direction.
During the 1980’s, President Ronald Reagan inaugurated a new era of federal deregulation of banking. Deposit interest rates were deregulated. Geographic and state barriers to bank growth were removed, permitting interstate banking. Banks were allowed to compete in numerous investment enterprises, such as underwriting and marketing stock and mortgage-backed securities, managing mutual funds, and selling whole-life and permanent life insurance. In cases such as Securities Industry Association v. Board of Governors of the Federal Reserve System (1984), Clarke v. Securities Industry Association (1987), NationsBank of North Carolina v. Variable Annuity Life Insurance Co. (1995), and Barnett Bank of Marion County v. Nelson (1996), the Court took the broadest view of banks’ ability to engage in a wide range of practices in the new economy.
The Reagan and post-Reagan era Supreme Court, with its traditional view of the centrality of banks in the American financial system, has been supportive of the entry of banks into the fields of insurance, marketing of securities and mutual funds, and venture capital. In addition, the Court has supported the efforts of banks to extend their operations in local branches and across state lines. However, partly in reaction to the savings and loan debacle of the 1980’s, the Court has also extended the legal liabilities that could be placed on banks, in cases such as Federal Deposit Insurance Corp. v. Meyer (1994) and O’Melveny and Myers v. Federal Deposit Insurance Corp. (1994). In Atherton v. Federal Deposit Insurance Corp. (1997), the court overruled a longstanding holding in Briggs v. Spaulding (1891). The Atherton v. Federal Deposit Insurance Corp. decision allowed states to impose stricter standards of conduct on banks, their officers, and directors than those imposed by federal statutes.
In the battles over the First and Second Banks of the United States in the beginning of the nineteenth century, the Supreme Court forcefully asserted the power of the federal government over the nation’s banking and financial systems. The decisions of the Marshall Court regarding these banks also helped establish for the Supreme Court powers more extensive than those originally envisioned by the Founders. Throughout the nineteenth century, the Court upheld the powers of the federal government over banking and sided with federally chartered banks over state-chartered banks at every opportunity. At the end of the twentieth century, the Court in numerous cases upheld and advanced federal legislation that firmly asserted congressional control over most aspects of the banking system. Supreme Court decisions were an important factor in enabling banks to participate fully in the financial boom of the 1980’s and 1990’s, as banks became central players in highly profitable areas of an increasingly securitized, monetized, and mobile global economy.