Methods of Note Issue
Both the principles of, note issue mentioned above, have serious defects. The monetary experts’ by coordinating the advantages of both the principles have evolved various systems or methods of notes issue. The main systems of note issue prevalent in different countries of the world are (1) Partial Fiduciary System. (2) Proportional Reserve System. (3) Minimum Reserve System. These systems are now discussed in brief.
(1) Fixed Fiduciary System. Under this system, a fixed amount is laid down by law which need to be covered by government securities. Notes issued in excess of this amount must be fully backed by gold. England adopted this system in 1844. The ‘system lacked elasticity and was not capable of satisfying the needs of trade and industry. This system was abandoned in 1913 in favour of proportional reserve system.
(2) Proportional Reserve System. Under this system, the central bank is to keep a certain percentage of the total notes issued in gold. The r is to be covered by sound government securities, trade bills etc. This system remained prevalent in USA, Great Britain and over a large part of the world. The proportional reserve system was also adopted by State Bank of Pakistan (SBP) and it remained enforced till December 1965. This system was abandoned in 1965 as it was rigid and lacked elasticity. The State Bank of Pakistan could not give guarantee for full convertibility of notes. The State Bank of Pakistan has now adopted a new system of note issue named as Minimum Reserve System.
(3) Minimum Reserve System. The proportional reserve system of note issue has been replaced by minimum reserve system in Pakistan in 1965. According to this system, the central bank is required to keep only a minimum amount of reserve in the form of gold and foreign exchange securities. The central bank can expand note issue in accordance with the volume of business activities without backing of gold. The level of currency backing by gold is fixed at Rs. 1200 million in Pakistan. The merit of this system is that it ensures an adequate supply of currency to meet the business demands of the country. In other words, the method of note issue is sufficiently elastic. The demerit is that paper currency issued is practically inconvertible in this system.