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Ecw; ^ 

^arbarli CoQtge li&ror? 







I C^oogla 









I, " In this book (he editor of ' Tbe EcoDomist ' deals in hU o« 

origiiMl itnd ludd manner with varioui questions connected with 
. war and posl-war fiBaDce."-"/"** Financial Timti. 

" He Ireats oT the subject mainly in its relation to induitry, and 
smooths the path (or those who Rad tbe way rather thorny. 
Timely and iostnictive."— /^inawui/ Titms. 

THE MEANING OF MONEY. Eigliatnlh Imfratim. 
"Will supersede all other introductions to moneuuy science : a 
safe and indispensable guide through the mans of the monej 
market." — Pinaneial Ntva. 

STOCKS AND SHARES. Fijik Impmtian. 

" It is a good book, it is sure oF its pnbllc." — ifamingPost. 


" Mr. Withers mokes the topic interesting in spile al its obvious 
and irrepressible technioility. OccaiionaJly he renders it really 
amuaing." — Tie Financial JVewi. 

POVERTY AND WASTE. Thir<i ImPrtftian. 

" Views its subject from the advantageous position dt an im- 
partial observer, the respective cases for capital aad labour, rich 
and poor, being b-ought to the reader's attention in a convincingly 
logical manner." — Financial Times. 

WAR AND LOMBARD STREET. Fourth Impriition. 
' ' Nothing could be clearer or more enligbtenrng for the genertkl 
reader."— T"** Timei. 


" We heartily commend a timely work dealt with in popular and 
simple style, a standard financial work." — Mtrning Poit. 

LOMBARD STREET. Fmrik ImfrcnsH. 

A Description of the Money Market, by Walter Baoehot. 
Edited with a new Preface ty Hartuit Withbrs, "There is 
no city man, however rtpl his eip«tence, who could not add to 
his knowledge from its pages." — Financial fl/ewi. 

OUR MONEY AND THE STATE. Stcmd /mfreisiim. 

3S. 6d. net. 

'■Il should be re»dat once by every taxpayer. Mr. Withers' 

latest book can be most heartily commended. — Aforaivg Peit. 






"Qna, thnm Frmnd, M Me Tbeorit 
tlMd frtn del Labeui {oUner Bwiia." 



,,j,- A.Odglf 





...... .,Goo<;k " 


Much has happened in the Money Market since this 
book was written. The stress of the greatest war that 
ever deluged Europe in bloodshed has strained the 
strength of our credit system without breaking it ; we 
know now that if the financial power of the country is 
husbanded with care and statesmanship, it will be our 
trusty weapon until a secure peace is won, and our m^n- 
stay among the new problems and difficulties that peace 
will bring with it There never was a time when a 
clear understanding of our monetary system was more 
necessary to all iriio wish to form a reasoned judgment 
abont matters of great moment to the nation's well- 
being ; and if this book can help to throw light on this 
dark subject in ^9 time of crisis, its writer will have 
earned a reward of which he little dreamt when he wrote 
it — most of it in Kensington Gardens — in the peaceful 
spring and summer of 190S. 

it may be added that the chief theus worked out in the 
book needs a sl^ht extension in the light ot the war's 
experience. That every loan by a bank to a customer 
increases the volume of banking deposits Is now an 
acknowledged truism. But owing to the great extent of 

„.■ . A.oogle 


the investments made by the banks, in their patriotic 
readiness to finance the war by buying Government 
securities, we now have to reo^nize that investments 
made by banks have the same effect on their deposits as 
loans advanced by them. In days of peace their invest- 
ments were a comparatively small and constant item in 
their balance sheets, and so the fact that additions to 
them would swell deposits was of little importance. Now 
they have been rapidly increased owing to reasons pven, 
and have produced a corresponding increase In bank 
deposits, which has startled and puzzled some observers, 
who have regarded it as an evidence of a wonderful 
-growth-4n the nation's wealth amid the stress and waste 
of war. It is, in fact, an increase of paper credit, and 
might have produced serious inflation, but for the care 
and self<restraint with which the bankers dealt with the 
danger, correcting it by a reduction of their loans and 


6, LiKDCH Gardsh^ 
Ftbmary 13, 191&, 

NoTB,— Since &e above was imtten the policy of fiiuindng 
the war by banking credits hai been condnued, very much 
againat the wishes of the bankers, on on increanng scale ; and 
■eriona inflation has followed. 

r 30, 1917. 



This book is designed to meet the difficulty 
experienced by the average reader in understand- 
ing that part of a newspaper City article which 
deals with the money market It has beeo com- 
piled with as little reference as possible to other 
books, and chiefly expresses views and facts 
gathered from practical men at work in the great 
machine which it describes, one of whom has 
kindly read the proofs and made valuable sugges- 
tions. The difficulties of the subject are vety real 
to its writer, who has consequently aimed earnestly 
at clearness, risking platitude and iteration to 
achieve it Its shortcomings will be pardoned, by 
considerate readers, on the ground of tho limited 
leisure in which it was written. 

Jtmtuary, 1909. 


b, Google 




Diflertiit Knscs in which the word money ii used — Tho 
money of daily payments and the money of the money 
market — In the latter Knse, money means the loan of 
money — Tbe money market ii the place where money 
ii boirowed : and most of its business consists in giving 
mosey down for the promlso of money some day — It 
also gires mmey here for mo&ey ttnnewhen else, through 
eacbange operationi ...(••. 



Gtid, sUver, and bronie — Gold the most potent, and why- 
Barter — The kinc currency ; its defects in contrast witk 
tlie advantages of the gold [dece — The comparative 
steadiness of the nine of gold — Its universal accept- 
ability in economically civilized communities — Eftcct of 
variations in the available amount of gold — Silver not 
legal tender above £2 ; broaie, not above one ihiUiog . 



Gold economlied by the circulation of bank-notes, or bankers' 
promises to pay— Currency based on mittual iadebtednesi 


between buikers and the pnUic — Unfoitimats restdta 
of &ulty woridng of the sjvtem~ltM regtilation bj law, 
in the Bank Act of 1844 — Regulation evaded hf the um 
of cheques — ^Advantages of the cheque^ and iti riik»— 
Not le^ tender — Its convertibtlitr, and consequent need 
tot a gold baua 33 



The cheque a apecies of the genus bill of exchange — The 
difierence between a cheque and a bill ; time the chief 
element in the bill — The antiquity of the bill — Don 
Quixote's bill of ass-colts — Acceptance — A concrete ex- 
ample of a t»ll drawn against wheat sold — The beauties 
of the genuine bill — Antidpatory bills —Finance biUfr— 

* House bills 



The ri^t to draw a cheque gennaUy created by an advance 
made by a banker— A specimen balance-sheet — Cuirent 
and dqtoHt accounts — Nearly three-quarters of the 
deposits created by loans and discounts — The process 
traced — Parable of a little local bank — Banks and their 
public— The cash reserve — Fixed by law in the United 
States — Breakdown of American banking in 1907 . , 



The world-wide money market — International money most 
be immediately and unquestionably convertible— Money 
only so in London — Limited convertibility in France; 

Gennaiiyi New York— The draft on London the cash 
of iDtentational commerce— London's readiness in lend- 
ii^: — The elasticity of the English system — London's 
respouibility — Its foreign customers — An American 
opinion — The crisis of 1907 : its apparent lesson ; quali- 
fied by n doubt — World-wide lesponsibility &Ged by 
London ■•.......• 



The banks ^stlnguished and defined — The early days ol 
banking— Their romance and hnmoim — Joint-stock 
banking — Good effects of publicity — It»extension desir- 
able — Lord Goschen and monthly statements — ^A pattial 
reform — Bankii^ by branches — Its advantages, and a 
drawback— The banks usually r^ulate the price 6[ money 
in London and the market rate of discount ; provide 
credit Ictr Stock Exchange operations — The great 
importance of thor fimctions 107 



Originally mere intermediaries— Elementary explanations of 
discount market terms — The brokers' problem: the 
immediate outlook; the future prospect; chances of 
variation; Government finance; spectdatitHi ; fordgn 
demands ; iateniational politics • * . > . 138 



Accepting houses developed out of merchant firms — Not 
bankers, in the cheque-paying sense — Importance of 


their function ; partutUy dependent on the banks — The 
banks themselvei lai^e acceptors — Colonial and forei^ 
banks— Foreign trade pushed with the help of English 
credit— Effect on English trade — Foreign credits and 



FbctuBtions in esdunges doe to varutiiins in reUlire valno 
of currencies in different centres — These' variations due 
to balance of trade in its widest sense and [he rate of 
interest ruling — London and Sydney— London and Paris 
—Foreign exchanges the mechanism for the settle* 
■nent of international indebtedness — How this indebted- 
ness arises — England and the United Ststes — Balance 
settled by gold shipments, modified by finance biU^— 
Effect on exchanges of purchase and sale of securities — 
Loan Issues — Italy's purchases of its own debt — The 
rate of discount and the exchanges — Need ioi regulation 
of discount rate .•*••>•. 173 



Keeper of the nation's balance— Privilege of note issue— The 
banker^ bank— Provides emergency currency, Peel's Act 
having been evaded by the use of cheques, based on 
credits In the Bank's books—Keeper of the gold reserve 
— An expensive responubility — The external problem — 
Foreign demands created by credits given by the other 
banks — Summary of the Bank's fiinctions — Its organiia- 
titm — Court of Directors — Government by rotation — The 
test <rf results— The Bank of France .... 



What Bank rato mean^^Seldom efiitctive io nomal tunes- 
Lack of connection between Bank,rate and maiket rate—- 
Has to be .remedied by the Bank's borrowing — A dumay 
and artificial process — Regulation of market rate at 
times essential — Absence^^control exemplified b7 events 
of the Eummfr of 190S — Ctmnection between Bank rate 
and market rate might be established by i^reement 
among the banks, without sacrifice of elasticity . 



A specimen of its form — The Issue Department — The fidu- 
ciary issue — The metallic basis; silver in the Issue 
Department — The Bank's capital— The Rest—The Public 
and Other deposits — The bankers' balances— Suggestion 
for their s^arate publication — Obscurity on the assets 
side — Government and other securities — The Reserve 
—Consists chiefly of notes, which are to some extent 
based on securities 



The alleged inadequacy of tiie metallic basis on which 
English credit and currency are manufactured — The 
basis of credit consists, to a considerable extent, of 
credit — The bankers' balances at the Bank are repre- 
sented as to about fifty per cent, by cash, which consists 
chiefly of notes, about one-third of which is represented 
by securities — Suggestions for increasing the gold basis 
of our credit system — Gold to be increased must be 
brought in from abroad— Most easily and effectively, by 

A. 01 


h^het dUcount rate, to be arrived at bjr ndoction of 
onr-extended credits by tbe banks— For this purpose, 
pablicHr, if applied to all and at all times, wonld probably 
suffice 963 



The psycholc^cal reserve, based on confidence in our bankers 
— Realiiability of assets — The experience of the 1907 
crisis and its lesson — Our free gold market also a reserve, 
since it makes London's safety tbe interest of foreigners 
who nse its fodlities— Foreign assistance a weak and 
slow-working support , 384 



INDEX. ■ .300 





Thb meaning of Money is not a question of 
economic theory. The object of this volume is to 
explain a matter of plain, positive, practical fact, 
which is very important, very dull and very little 
understood ; and to do so as clearly as may be, and 
with the least possible use of the alarming appara- 
tus which generally affrights the casual reader who 
opens a book on a monetary subject. No columns 
of statistics will be paraded and deployed, the use 
of diagrams will be sedulously avoided, and as far 
as possible figures will be ruled out 

The word Money is associated with much coo- 
fusion and difl^culty in the minds of those who 
have not been obliged to think the matter out, 
because of the different senses in which it is used. 
In one sense it is perfectly simple, without the 
least reflection or examination. Everybody under* 
stands money in the sense of the pounds, shillings, 
and pence that we pay in the shape of coin, notes or 


cheques for everyday -wantB. But the other most 
common use of the irord leads to complication, 

^because in its second sense money means not 

\ money, but the pigney. 

This is the sense in which the word is used 
when we speak of a money market or a price of 
money, phrases which are wholly incomprehensible 
to those to whom this difference of meaning is not 
made clear. Any one who defines money roughly 
as a sovereign in his pocket, with which he can 
buy whatever he wants up to the extent of its 
purchasing power, does so quite naturally, for this 
is its most obvious meaning. But having got this 
meaning into tiis head, he is unable, and again 
quite naturally, to understand strange expressions 
in the newspapers which tell him that money is 
cheap or that the money market is tight He knows 
that the price ofa thing is the number of sovereigns, 
or fractions of a sovereign, that it will fetch* He 
also knows that no one will give him more than a 
sovereign for the sovereign that he has in his 
pocket, and he is equally convinced that the most 
cunning sophistries of the most skilful dialectician 
would never induce him to part with it for less. He 
therefore proceeds triumphantly to the conclusion 
that it is nonsense to talk about a price for money, 
and his argument is perfectly sound on the premises 
from which he starts. 

His mistake arises from the fact that, as has beea 


stated, money is often used in a quite different 
sense, namely, the loan of money ; or perhaps the 
matter can be made still clearer if we express it by 
saying that the words "price" and "market" are 
applied in a different sense when applied to money 
from their meaning in connection with any ordinary 
commodity. The price of a hat is the sovereign that 
you pay to become its owner ; the price of money 
is the sovereign or sovereigns that you promise to 
pay some day for the loan or temporary -use of it 
The market in wool or wheat is the place where 
you can buy these articles from the assembled 
merchants or dealers. The money market is the 
place in which you can borrow money. *^ 

It thus becomes apparent that the phrase which 
has proved a stumblingblock to so many genera- 
tions of schoolboys and more mature students— 
that money is a commodity which can be bought and 
sold like any other — is not true. Money is certainly 
a commo dity, but it cannot be bought and sold like 
any other, for that would imply exchanging it for 
itself, since buying 'and selling are nothing but 
the exchange of commodities for money, as distin- 
guished from barter, which is exchanging commo- 
dities for one another. Money can be borrowed or 
lent, and this is at once a perfectly reasonable and 
comprehensible transaction, which would never 
cause the least bewilderment in the mind of the 
most unmathematical schoolboy. It is perfectly 


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clear to Jones, minor, that it might be to his advan- 
tage, in the lean and hungry days towards the end 
of term, to take five shillings in hard cash and to 
promise to pay seven-and-siz aker the holidays, 
when everybody's pocket is bursting with metallic 
evidences of family affection. An'd this transaction, 
allowance being made for local and psychological 
variations, is a fair specimen of the business done 
every day in Lombard Street and in the other 
money markets of the world. 

The money market, then, is the place in whidi 
'— -r-4none y dowoia-exchanged fnr the promise nf mitnffy 
some day. And as the borrower, the man who 
wants money down, must obviously offer the lender 
an inducement to let him have it, it wttl always be 
found that the amount of money promised some day 
by the borrower is bi^er than the amount of money 
paid down by the lender. The difference between 
the two figures is the ratg pf i nterest, which is often 
loosely and confusingly described as the price of 

This rate of interest, as every one knows, is cal- 
culated "per cent," so much on each ;f loo borrowed. 
If you borrow ^^'looo for a year from your banker, 
and he charges you 3 per cent., or £3 per j^ioo 
for the advance, he will give you the right to draw a 
cheque now for ;f 1000, or to withdraw this amount in 
coin or notes, and at the end of the year you will 
owe him ;f 103a But this simple statement of the 

,,. . X.oogW- 



matter is complicated slightly in usual practice, 
because the interest is probably payable periodi- 
cally at the quarter or half-year. This complication 
becomes important in the case of loans for long or 
indefinite periods, but the broad fact remains that 
the chief operations of the money market consist 
of giving cash down in return for the promise of a 
little more cash some day, or of annual or half- 
yearly cash payments. 

Time i s thus the distinctive element in the most i -• 

ordinary and obvious transactions of the money " 

market, and dears away the difficulty which besets 
those who cannot understand how a money market \ 
can exist. To exchange money for money would 
be absurd; to exchange money now for more 
money some' day is evidently a quite reasonable 
convenience to a borrower who hopes to make 
a profitable use of the sum borrowed, and to earn 
more by Its employment than the price that he will 
have to pay for it And s^cfr je the other element 
which accounts for the test of the market's opera- 
tions. Besides giving and taking money down in 
return for money some day, it is also engaged in 
giving and taking money here for money some- 
where else. Hence arises the complicated and 
difficult mechanism of what is generally called 
"exciiange," which also becomes a comparatively' 
simple matter when it is clearly expressed and 
freed from confusing technicalities. The broad 



nieaniag of it is clear enough, if you reflect tliat 
when you buy a postal order you are conducting 
an exchange transaction. You receive a communi- 
cation from a tradesman in a town in which you 
formerly lived to the effect that his account, 
amounting to five shillings, has been long out- 
standing, and that he would be glad to have it 
settled. The five shillings are ready enough in 
your pocket, but the question is, how to get them, 
for example, from London to Bristol You can put 
two half-crowns in an envelope, register it, and 
so send your money at the cost of threepence. 
But the cheaper and more convenient method is to 
pay some one who has money in Bristol something 
to induce him to pay your debt for you there. 
That some one is ready in the person of the Post 
Office, which sells you an order for five shillings, 
payable at any ofiSce in the United Kingdom, for 
five shillings plus a penny. You put the order in 
an envelope and send the money at a total cost of 
twopence, and your tradesman presents it at the 
Bristol post-office and receives cash. Thus you 
have carried out an exchange transaction, which 
may be technically expressed by saying that you 
have bought a draft on Bristol, and forwarded 
it to your creditor, and that it has been met on 

Monetary transactions may thus be divided into 
three main divisions :— 



(i) Those in which money is exchanged for any '. 
kind of commodity or service ; ordinary buying or 
selling operations. 

(2) Those in which money down is exchanged ' 
for the promise of .money some day; these include \ 
al] kinds of loan operations, irom the discounting of 
a bill due sixty days hence to an issue of a war 
loan by the British Government 

(3) Those in which money here is exchanged for \ 
money somewhere else; and these are exchange 
operations, which have been crudely exemplified 
by the purchase of a postal order, but are by far 
the most complicated kind of monetary business, 
including such transactions as turning sovereigns 
into Shanghai taels, composed of silver, or into 
inconvertible paper notes, issued by some South 
American Republic 

' It will be observed that in all three there is 
one constant factor, which is money here and now, 
or cash. In ordinary buying and selling cash is 
exchanged for goods or services, as when we buy a 
pair of gloves across the counter of a shop, or send 
a reluctant cheaue to pay a dentist's account or 
a lawyer's bill 01 costs. In loan operatioos cash is 
exchanged for some form of security or promise to 
pay. In exchange operations cash is exchanged 
for drafts representing a right to money in some 
other place. And before we can go any further, 
it will be necessary to give some explanation of the 


different forms taken by cash, or money here and 
now. Everybody knows that when a payment is 
to be made it will take the form of coin, Bank of 
England notes, or, most probably, a cheque drawn 
on a banker; and the stages by which these forms 
of payment came into being are a well-worn story, 
which must be summarized briefly in the interests 
of clearness and completeness. 




The most obvious of the forms ol cash is the coined 
currency that we carry in our pockets, consisting 
of gold, silver, and bronze discs, stamped with the ' 
image and superscription of the king, and milled 
round the edges to prevent enterprising buUionists 
from shaving metal off their rims. Tliis pre- 
caution, it will be observed, is not considered 
necessary in the case of the penny. 

The most potent of these, in extracting goods 
and services from mankin<^ is gold. Since the 
purpose of this volume is an endeavpur to make 
money matters, as they are, clear and comprehen- 
sible, there is no need to enter, into, a^historical 
dissertation on the steps which Rave ra^&l gold 
into its position as the most impo^ant. mediHjD.of 
exchange, legal tender to any amount, and con- 
sequently, as we shall see later, part of the basis 
of credit in England an^ in economically civilized 
countries. But the more obvious reasons which 
produced this result may be enumerated. We have 
already seen that buying is distinguished from'~\ 



j barter by being an exchange of goods for money 
f instead of an exchange of goods for goods. The 
ihconvenience of a state of barter is evident on a 
moment's reflection, and it need not be said that 
as long as it prevailed commercial progress was 
almost impossible. The sad state of the hungry 
hatter, unable, in the days of barter, to get meat 
because the butcher wants not hats but boots, is 
a commonplace of the economic text-books, and 
it is clear at once that a long step forward has 
been taken when a community agrees to recognize 
one commodity as always acceptable in payment 
for others, so that any capitalist who is possessed 
of a store of it may always rely on being able to 
convert it into whatever he needs that is produced 
by his fellowa It is also evident that the 
commodity selected had to be endowed with 
certain qualities, chief among which were that it 
\ should be lasting, easy to pass from hand to 
< hand, and fairly uniform, that is, with not too 
i' great a difference in size and desirability between 
its various examples. The Old Testament story 
shows that in the primitive society depicted by it 
a man's wealth was gauged by the size of his flocks 
and herds and the number of his changes of 
raiment, and in the Homeric poems fine suits of 
armour are valued by the number of kine that they 
would fetch. Other instances of the use of articles 
of common consumption as currency include 


tobacco, hides, shells, bullets and oails. But ^he 
prevalence of beasts was sufficient to lead etymolo- 
gists to consider at one time that the Latin word 
for a beast, pecus, had been enshrined in the name 
for money, peainia, which has come down in English 
in the forms 'pecuniary and impecunlotis. This 
derivation is now abandoned, comparative philology, 
having decided that ^n<»»a is the same word as the 
English " fee," and is chiefly memorable for having 
prompted a passage, fiill of vivid faQ(^ and inspira- 
tion, in Carlyle's " Sartor Resarlus." " A simple ^ 
invention it was," says Herr TeufelsdrOckh, " in 
the old-world Grazier— sick of lugging his slow Oz 
about the country till he got it bartered for corn or 
oil — to take a piece of Leather, and thereon scratch 
or stamp the mere Figure of an Ox (or Feats); put 
it in his pocket, and call it Pecunia, Money. Yet 
hereby did Barter grow Sale, the Leather Money 
is now Golden and Paper, and all miracles have 
been out-miracled : for there are Rothschilds and 
English National Debts ; and whoso has sixpence is 
sovereign (to the length of sixpence) over all men ; 
commands Cooks to feed him, Philosophers to 
teach him, Kings to mount guard over him — to the 
length of sixpence." 

The oz was certainly at one time a standard of i 
value, though it may be doubted whether it passed 
generally as currency, even stamped on leather, 
fo»- Carlyle's hypothesis really requires a rather 


advanced stage of credit organization, with token 
money issued by graziers, and apparently accepted 
by a trusting and economically civilized public 
But in any case the oz must have been singularly 
ill-adapted for currency purposes ; not only was it 
I not lasting, but it was certain to deteriorate after 
/ a certain age, and finally to perish ; it was very far 
; from portable, as Carlyle's Grazier found ; and the 
difference between one ox and another in size, 
value, and other respects is so great that the kine 
circulation must have been singularly liable to the 
action of the great economic principle known as 
Gresham's Law, under which, as we shall see later, 
bad currency drives out good. 

All this has been somewhat laboriously set 

forth, because in these respects the oz is^ the 

very antithesis of the gold-piece, and having seen 

wherein the oz failed, we have already grasped the 

advantages of the sovereign. 

. The sovereign is permanent,* p ortable^ and of 

I universfd-a£C£;i£a]jility, eitKer in its own shape or 

melted back into its original bulUoa As it emerges 

I from the Mint, there is no appreciable difference 

between it and its fellows, and its long use as the 

standard money of the leading commercial nation 

* Comparatively permanent, tliat is. It is not wholly impervious 
to wear and tear, and M. de Launay, in his work on " The World's 
G<dd," estimates thil a gold coin would entirely disappear in 
eight thousand years. 




has given it a position which is unrivalled in the 
present and unparalleled in the past The different 
experiences to which one sovereign and another 
m^y be subjected make '3 difference to the length of 
time during which they preserve their full weight, 
but weight rarely becomes a question of practical 
importance to holders of the sovereign considered 
as cash, thoi^h it is always watched carefully by 
bullion dealers, who regard the sovereign merely as 
a piece of gold that may be melted into bars. TJie 
coinage is now so well cared for that for purposes 
of inland and retail exchange one may be taken to 
be as good as another, as long as we are certain 
that it is a real sovereign, duly stamped and milled. 
We are apt to take this inestimable convenience as 
a matter of course, but it is only secured by con- 
stant vigilance on the part of the responsible authori- 
ties, and throughout the Middle Ages untold loss, 
inconvenience and uncertainty was caused by the 
chronically chaotic state of the currency in this and 
other countries. 

In those good old days, monarchs who did not 
actually debase their own currencies by decreasing 
the amount of true metal in them, and then passing 
them to their unsuspecting subjects, were regarded 
as enlightened and disinterested reformers ; and the 
iD4>erfect methods of coinage employed even by 
the best-intentioned made it easy to sweat and clip 
the coins, that is to say, to shave bits off them and 


then pass them on. Here came in the opportunity 
1^ of the bullion dealer, and the process arose which 
I went on undetected for centuries until it was 
{ enounced and denounced by Sir Thomas Gresham, 
[Queen Elizabeth's great monetary adviser, who 
stated his famous economic law on the subje.ct 
The gist of which is, that if two coins are in circu- 
lation, one better than the other, the good one will 
be held back by any one who is wise enough to 
recognize its merits, and the bad one will be passed 
on ; so that after a time only the clipped and sweated 
coins will be circulating in the hands of the public, 
and the full-weighted ones will be either In the 
vaults of the bullion dealers or melted into bars. 
To protect themselves against the working of this 
law, our forefathers used sometimes to carry a small 
pair of scales, with weights representing a guinea 
and a h'alf-guinea, fitted into a neat case to be tucked 
into the pocket 

It has been claimed for gold, that one of its great 
advantages, which helped to raise it to its position 
of predominance as circulating medium and basis 
of credit, is its steadiness in value. It is, in fact, a 
\ common delusion that the value of gold is fized and 
■ ' never varies. The value of gold appears to be fized 
by the law which compels the Mint to take any gold 
that is brought to it and coin it into sovereigns at 
the rate of £i 175. loj^d. per oz., but that is only 
another way of expressing the fact that a coined 


sovereign is equivalent to so much gold ; bat because 
we arc accustomed to value everything in sovereigns 
many of us have been led into the assumption that 
gold which can always be made into so many 
' sovereigns per oz. must therefore be unchangeable 
in value. But if we keep fast hold of the fact that 
the value of a thing is what it will fetch, it will be 
seen at once that the sovereign^ or the gold from 
which it is coined, has no such charmed prerogative. 
When wheat is 353: a quarter the buying power of 
the sovereign, in the pocket of the miller who wants 
to buy wheat, is different from its value when wheat 
is 25s. But though the value of gold can be no 
more fixed than that of anything else, at the same 
time its comparative indestructibility, and the enor- . 
nous amoimt of it in existence intone shape or 
another, make its value depend much less than that . 
of most other things on the amount of the output 
at the moment 

Wheat, which is grown to be consumed straight- 
way, depends for its price on the prospects of the 
present crop and the amount left over of the last ; 
gold, which is mined in order to be kept in the form 
of plate, ornaments, coins and ingots, and is rarely 
abolished by consumption, is obviously much less 
dependent on the chances which may be tending 
to increase its amount more or less rapidly than 
usuaL For whatever its form, it may always be 
brought out and melted, and so come into the 

•^ „,■ ...C.oogle 


market in the shape of cash, as was recognized by 
the prudent Athenians * when in the days of their 
prosperity they overlaid the statue of Athene with 
gold, giving it a gorgeous appearance for the time 
being and leaving a reserve which could at any time 
be stripped off and turned into the sinews of war. 
Qold thus may be regarded as less likely to fluctuate 
•^ in value than most other commodities owing to the 
huge accumulated supply, which renders the new 
output for the time being a matter of comparatively 
little importance; and this fact, which has somer- 
times been exaggerated into a statement that its 
value is fixed, has certainly contributed, with its 
beauty as decoration and its commanding merits as 
currency, to the universal acceptability of gold, in 
economically civilized countries, in payment for 
goods and services. 

It is doubtless a mere convention that gives 
gold -its commanding position, and it may be con- 
tended that it would be much simpler, cheaper and 
more civilized to conduct exchanges by means of 
pieces of paper secured on national property, as 
thfe French Revolutionists tried to do with their 
essigna(s, or to abolish all need for mediums of 
exchange and help ourselves to whatever we want, 
rendering honest service in exchange by the mere 
impulse of our own consciences. But we are not 
concerned at present with any theoretical questions 
■ Thacydides, iU 13. 


of an ideal currency or absence of currency. The 
only currency that is of practical and everyday 
importance is that which is endowed with the 
virtue of universal acceptability. If the trading 
community will take a certain piece of metal every- 
where in payment for its goods and services, that 
piece of metal is good currency; and no most 
scientifically evolved substitute will take its place 
until it has won its way to the possession of the 
same virtue; And the lact cannot be gainsaid that 
gold is the one commodity which is universally and 
at all times acceptable in all civilized cmnmunities, 
and that all forms of promise to pay, or paper 
money, are acceptable id proportion to the readi- 
ness with which they can be turned into gold. And 
consequently we shall find, when we come to deal 
with the more interesting problems of the manu- 
facture of credit, that the convertibility of credit ' 
into gold is a matter that its manufacturers always 
have to consider and allow for carefully, and that 
consequently the amount of gold that they may 
possess in order to meet credit instruments that 
come it) for conversion, is necessarily a very im- 
portant factor among those which regulate the 
amount of credit that they can, or ought to, create. 

But even when the importance' of gold as the'" 
univers^ly acceptable medium of eichange is ad- 
mitted, it is often denied, by economic theorists and 
other critically-minded observers, that the amount 


of available gold is a question of any moment 
In theory it is easy to argue that, if the amount of 
gold were suddenly doubled, the world at large 
would not be a penny the richer, because the 
buying power of the gold would be halved, the 
price of everything would be doubled, we should 
have .twice as many sovereigns in our pockets, and 
should have to pay twice as much for everything 
that we wanted. But I venture to think that it is 
easy even in theory to push this contention too 
far; because any such great addition to currency 
and credit would have a great effect in stimulating 
production, and so would lead to a great addition 
to the number of real goods which humanity desires 
and consumes when it can get them. In so far as 
this was so, the, condition of humanity as a whole 
would be materially improved. Trade woidd be 
more active, and the many borrowers who are 
almost always in search of credit for the promotion 
of various productive enterprises would be more 
easily satisfied. In fact, the extent to which trade 
and economic progress have in the past been 
quickened by additions to the supply of the precious 
metals has produced a theory, with respectable 
authority behind it, which connects the develop- 
ment of civilization with mining activity. Perhaps 
the most stalwart and' uncompromising exposition 
of this theory is given by Sir Archibald Alison 
in his "History of Europe." "The two greatest 


events,"* he says, "which have occurred in the 
history of mankind have been directly brought 
about by a successive contraction and expansion of 
the circulating medium of society." These events 
were the fall of the Roman Empire, which, accord- 
ing to Sir Archibald, " was in reality brought about 
by a decline in the gold and silver mines of Spain 
and Greece," and the Renaissance, which he ascribes 
to the discovery of the mines of Mexico and Peru. 

Between these two theoretical extremes — one ' 
maintaining that the available volume of the precious 
metals is a matter of no importance, the other 
regarding it as the cause of the most momentous 
events in human development — it is probably safe 
to steer a midway course, marked by the buoys of 
actual fact. Experience shows that an era of active 
gold production may be accompanied by a fall in 
the prices of commodities, either because the multi- 
plication of commodities may be progressing more 
rapidly than the output of gold, or because inactivity 
of trade, perhaps due to some shock to credit, may 
be checking the demand for commodities. But when 
the more normal effect of increased gold supplies 
is at work, and the prices of goods are rising, the 
producers of the goods are thereby benefited, and 
set to work harder than ever to produce them. 
The mechanism of transport is extended and 
improved, the waste places of the earth are ploughed 

* VoL L cb. 1. 1 33. 



and watered, and the material heritage of mankind 
is increased and multiplied. So much so that the 
demand for credit and capital for the furtherance of 
these extensions is apt to become so keen, that, as 
we saw in thfe recent period of great commercial 
expansion, an era of active gold production may 
/ coincide with high rates for money. 

It is thus evident that innumerable and incalcu- 
lable considerations have to be enumerated and 
calculated before we can say with certainty either 
that variations in the amount of gold are of no 
importance, or that they will have results which 
can be deiinitely counted on. But for the purposes 
of our present inquiry there is no need to wonder 
what might happen if the available gold supply 
were doubled ; it may be asserted that, rightly tar 
wrongly, and up to axertain point, if any reasonably 
possible addition was made to the Bank of England's 
store of gold, the event would, in normal times, be 
welcomed by the commercial community. The 
position of the Bank would be regarded as stronger, 
the City would be cheerful and optimistic, and there 
would be so much more credit available for any 
borrower who had an enterprise to finance and 
could give good security. If there were no enter- 
prising borrowers with good security to offer, the 
new gold would certainly be useless. But, except 
in times of extreme slackness in trade, this is an 
improbable contingency ; and it also is improbable 
„.■ . ..C.oogle 


tbat extreme slackness in trade would last long, if 
it were treated with, sufficient doses of this medicine. 

We are thus wandering far afield from our con- 
sideration of sovereigns in the pocket to gold as 
part of the basis of credit But these monetary 
questions are all so inextricably entangled that It 
is almost impossible to mark them off logically and 
deal with them one by one. It is the universal 
acceptability of gold in civilized communities that ' 
gives it both its popularity in the shape of sove- 
reigns, and its importance as a wheel in the ma- 
chinery of credit And this importance is so great 
that it had to be -referred to on our first meeting 
with the metal in the course of this inquiry. 

The small change that we carry in our purses 
need not detain us long. It must be noted that . 
silver coins are not " legal tender " to the extent of '^ 
more than £2 ; that is to say, if you owe your tailor 
£1, you cannot legally satisfy the debt by handing 
him one hundred shillings or any other arrangement 
in silver. Probably it would not occur to you to do 
s<^ and if you did he would probably accept it, and 
the restriction is not apparently of much practical 
importance. Actually it is most important, for the 
dreary record of currency history is a long tale of 
the uncertainty and inconvenience which arose in 
the days when people tried to keep gold and silver 
circulating on equal terms at a fixed ratio, with the 
result tbat the one which happened for the moment 


to be less valuable as bullion continually drove out 
of circulation the one which was more valuable, 
thanks to the operation of Gresham's Law * and 
the quick and cunning bullion merchants. Bi- 
metallists maintain that the confusion and difiEcuIty 
of the two-metal system only arose because it was 
not scientifically and universally applied, and Bi- 
metallism has been endorsed by eminent theoretical 
authority. The sii^plicity of the single standard, 
however, has obvious practical advantages, and it 
may at least be claimed that England, by making 
silver legal tender only up to sums of £2, uid 
adopting what is called a gold standard, solved a 
problem which had puzzled the civilized world for 

f It may also be observed that our silver coins 
1 are mere tokens ; that is to say, they do not pretend 
to contain as much of the metal as would, if melted 
down, fetch as much as the value at which they 
circulate. At the present moment f there is roughly 
about fourpennyworth of silver in a shilling, which 
thus ha» a purely conventional and artificial value 
as currency. ""^ 

Bronze coins are legal tender sniy to the extent 
of one shilling. 

* See p. 14. t December, 1908, 




The exchange of a hat for a sovereign is a quite 
commonplace proceeding, but when we begin to 
exchange a hat for a piece of paper, which is only 
accepted because it is believed to be convertible 
into gold, the element of belief, that is to say of 
credit, enters into the transaction, and we have 
moved up a step on the ladder of economic 

The first stage, as we have seen, was from 
barter, by which goods were exchanged for goods 
to purchase, by which goods were exchanged for 
one commodity of universal acceptability. And a 
process of painful evolution finally decided that 
gold was best fitted to be that commodity. But 
an enormous expansion of trade was made possible 
when it was discovered that gold co uld be 
eco nomized by the use of pap ef whfch re^esented 
and multiplied it, and when confidence in a banker 
became sufficiently established to induce the com- 
munity to circulate his promis«s-4o pay iostgad of 
pieces of metal 

,,. . A.oogle 


ITie process of this evolution, also, was painful 

enough, and the loss and uncertainty caused by the 

bad and debased coin currency of the Middle Ages 

were rivalled by the ruin and disasters of the early , 

days of banking, when notes were issued without 

any regard for the assets which were behind them, 

or the ability of the issuer to meet them on pre- 

- sentation. Nevertheless, the appearance of the 

ybank-note marks the first step in the development 

/ ^ of banking as we understand it nowadays, that is, 

„ l-of a machinery for the manufacture of cre dit 
''"^ Before the bank-note won its way into circula- 
tion, such bankers as existed were chiefly gold- 
smiths and bullion dealers; they were sometimes 
loan mongers, collecting coin from one set of 
customers to lend it to another, or to discount bills 
for another, but it was only when they began to 
induce those who borrowed from them to take the 
cash advanced in the form of notes that the economy 
of metal became possible and the wheel of the 
credit machine began to turn to any purpose. The 
original goldsmith's note was a receipt for metal 
deposited. It took the form of a pnmiise to pay 
metal, and so passed as currency. Some ingenious 
■ i/goldsmith conceived the epoch-making notion of 
J jXgiving notes, not only to those who had deposited 
I jmetal, but to those who came to borrow it, and so 
jfouoded modern banking. 

As long as the bankers took care of coin and 

'- „,■ ...C.oogle 


Ingots for Jones and lent them to Smitb, the com- 
mercial community was gjven a certain convenience, 
by knowing where dealers in money were to be 
found, but the convenience was severely restricted 
When the bankers lent Smith not coin but a promise 
to pay coin, they soon discovered, since their 
promise to pay did not at once come back to them 
for presentation, that in the mean time they might 
safely accommodate Brown, Robinson and Williams 
with a similar number of similar promises to pay ; 
and so they hit oa the great device by which 
modem commerce transacts its business by means 
of evidence of mutual indebtedness between it and 
its bankers 

"ftTHrst sight there is something whimsical in 
the process of stimulating production and expanding*^ 
trade by an agreement between two parties to owe I 
one another something ; but this agreement is an T 
Important part of the structure of the modern j 
edifice of credit f 

Let us see it at work in the case of the primitive 
bank which we are now supposing to be emeiging 
from the bullion-dealing to the note-issuing stage. 
At first, we supposed it engaged in taking care of 
metallic money for Smith and l«iding it to Jones, i^ 
and its balance-sheet would stand thus, if we leave 
Qut its capital for the sake of simplicity : — 

Due to Smith . t jfio^ooo Loan to Jone* . • jf io,oao 


After it bad made the momentous step of 
inducing Jones to take its notes instead of metal, 
the balance-sheet would show the following 
development : — 

Doe to Smith . jfio^ooo Cash In hand . ;£ia,ooa 
Notes outstanding 10,000 Loan to Jones . 10,000 

Total ;£30)0oo Total j£20,ooo 

You will observe that since Jones has taken his 
loan in notes the cash originally deposited by 
Smith remains in the bank's hands, and the loan 
to Jones is represented by a liability of the bank 
to meet the notes which it has passed over to him. 
These notes, being a promise to pay by the bank, 
are in efTect a loan by Jones to it, and thus Jones 
and the bank have become mutually indebted. The 
bank has lent ;£'io,ooo to Jones, and he, by taking 
payment in the bank's promises to pay, is lending it 
;£'io,ooo as long as he refrains from presenting the 
notes and demanding cash for them. Jones and 
the bank are thus mutually indebted, and by their 
agreement to owe one another money the currency 
has been increased by ;f 10,000, and to that extent 
Jones is enabled to hire and load a ship for foreign 
trade, or otherwise to engage in productive 

When the bank finds that the notes which 
Jones borrowed are not qpickly presented, but are 



accepted by the commercial community for the 
payments that he makes in loading his ship, and 
passed on from hand to hand and remain out- . 
standing, it proceeds to the next step of making 
advances to Brown, Robinson and Williams, and 
the balance-sheet will be amplified as follows : — 

Dae to Smith . j£' 10,000 Cash io hand . ;^io,ooo 
Note) outstanding' 40,000 Loam to customers 40/xx) 


The great principle of currency based on mutual 
indebtedness has thus been extended ; the bank is 
liable for ;£40,oooof its promises to pay on demand,' 
and its customers are indebted to it for £40,ooa 
And this ;f40,ooo is in circulation, quickening the 
wheels of trade, increasing production and profit- 
able commerce. And the mutual indebtedness of 
the bank and its customers has brought this new 
currency into being. 

But it will be observed that the bank now owes V 
£50,000 in all, and holds only ;^io,ooo in metallic O 
cash against all these liabilities on demand. This ^ 
will probably be a safe proportion for it to work on 
in ordinary circumstances, but if it continued to 
increase the amount of its note issue without a pro- 
portionate increase in the amoimt of cash held 
against it, the day would come when some unfore- 
seen accident brought in an unusual number of notes 

■ X.Oi 



for presentation, and its fate would be sealed. In 
the early days of banking this sort of disaster was 
common enough, and folk found that they had sold 
their goods and services in return for notes which 
they had believed to be as good as gold and dis- 
covered too late to be worth only the paper that 
they were printed on. Th^ Tnan^if;^i;f«jYg "^ff"*- 
rgn cv out of mutual indebtedn ess had proved too 
easy and simple a process, and the necessity for a 
proportionate backing of gold had been ignored. 

Disasters of this kind not only reduced the 
number of note-issuing banks in England, but 
produced a body of opinion which aimed at making 
the bank-note a mere bullion certificate, only to be 
issued against a backing of gold to its fidl value. 
In London, the Bank of England had, since its very 
early days, possessed the monopoly of note issue 
as far as joint-stock companies were concerned, and 

/"the private banks had already ceased to i^sue notes 
when the question of the regulation of j/bc note 

-"issue was taken in hand in 1844. 

The body of opinion above referred to then pre- 
vailed, and it was decided by the Bank Act of 1844 
that in future any expansion in the Bank of 
England's note circulation must only be based on 
metal. Up to ;fi4,ooo,ooo it might issue notes 
against securities, aqd it was arranged that if any 
country note issues lapsed, two-thirds of them 
might be added to the amount of notes that th« 

I); .C.oot^le 


Bank of England might so issue, and this arraage- 
ment has since then raised the amount of bank-notes 
based on securities to nearly i8i millions. ' By the 
terras of the Act, the metal held agaiost any notes 
that might be issued above this line might be four- 
fifths gold and one>fifth silver; but the Bank has 
long ceased to hold silver against its notes, and any 
increase in their amount can now only be based on 
an increase in its gold store. 

Such are the conditions under which Bank of 
England notes are now issued, and since country 
issues are in these days a small item in the volume 
of currency in England, the only notes that need 
here be considered are those of the Bank of Eng- 
land, which are, like sovereigns, legal tender to 
any amount The value of a bank-note arises from 
the belief that it can be converted into gold and will 
be accepted as payment for goods. It therefore 
follows that since the Bank of England note is legal 
tender in England, it will be accepted in payment 
for goods as long as the British Government is 
strong enough to enforce the law of the land ; and it 
is obvious that it can be converted into gold as long 
a^ the Bank of England is solvent, that is to say, 
keeps sufficient gold in its vaults to meet its notes 
on presentation; and it is compelled to keep 
the gold equivalent of every note that it issues 
above the ;f 18,450,000, which it is allowed to issue 
against Government securities. The strength of the 

„.■ . A.oogle 



: Bank of England note thus depends on the power 
; o£ the British Government to enforce the law, and on 
I the solvency of the Bank of England. It is thus as 
strong as any mere promise to pay can be made, and. 
-, / is, for practical currency purposes, as good as gold. 
<; The consideration of the bank-note has thus 

. already taken us over the wavy and very ill-defined 
line which separates cash from credit For abank- — 
X- , note is both. It is , cash in that it is immediatel y 
V, ^ convertible into go ld, and^tJsjcrediUii_thatJLii^ 
prn misft to pay ^jinH Is only acceptable in payment 
for goods because it is believed to be as good as 
gold. Its use, in economizing gold and multiplying 
the effectiveness of the gold retained in the hands of 
the banker, has already been demonstrated, and it 
has also been recorded that the disasters which 
followed from its abuse, in days when bankers had 
not grasped the necessity for keeping an adequate 
proportion of gold to meet notes presented, and for 
keeping the rest of their assets liquid and realizable, 
led to a reaction. This reaction prompted the 
passing of measures in England which prphibited 
this economy of gold by means of the bank- 
note, and laid down that any increase in the Bank 
.of England's issue was to be based on an equal 
amount of gold in its vaults, each jfs-note being 
iictually represented by £$ in gold. 

If the apparent intentions of the Act of 1844 
had been carried out, the subsequent enormous 


development of English trade, if it had been possible 
at all, must have been accompanied by thf heaping 
up of a vast mass of gold in the Bank's vaults. 
But its intentions were' evaded by the commercial 
community, which had already appreciated the 
advantages of a currency based on mutual indebted- 
ness between itself and the banks. The commercial 
community ceased to circulate bank-notes under 
the new restrictions, developing the use for daily 
cash transactions of a credit instrument which had 
already acquired some popularity, namely, a draft 
or bill on its bankers payable on demand, and now 
commonly called a cheque. The drawing of cheques w 
was not in any way limited by the^ct_ofj844,jmdl ) 
the cheque was in many w ay s a more con venipnri . j 
form of jcurrgnj a than t he bank-note. For the'^ 
strength of the Bank of England note was in itself an 
inconvenience in one respect; since the nature of the 
note is such that any one who holds it can present 
it and be paid in gold for it at sight, a roll of them 
in one's pocket is as valuable a burden as so many 
sovereigns or gold bars, with the additional merit 
of being more easily carried by the owner, and the 
serious disadvantage of being more easily carried 
off by any one else. This danger is avoided or 
enormously reduced when the community adopts 
the habit, i^ot of carrying or sending bank-notes, but 
of drawing a cheque on its bank for every trans* 
action that it wishes to complete by payment 



The use of the cheque, however, involves the 
^lemeot of belief to a much greater extent than 
/ that of the bank-note. We have seen that the 
latter is certain of being taken in payment for 
goods or converted into gold as long as the British 
Government stands and the Bank of England Is 
solvent, but the exchangeability, of the former 
depen(te on the solvency of the drawer of the 
cheque — probably a private individual— and of the 
bank on which it is drawn. A shopkeeper who 
takes a cheque in payment for a pair of boots is 
liable on presenting it through his banker to have 
it returned marked with ominous signs, which are 
interpreted to mean that the customer's alleged 
b^ik refuses to meet it, because his accoimt is 
overdrawn, or perhaps because he never had an 
account with it at all Or it is barely possible that 
be may be informed that the bank on which the 
cheque was drawn has put up its shutters, though 
this possibility is happily <Mie that beed not be 
practically considered in these days, owing to the 
stability which centuries' of experience and the 
light of publicity have given to British banking. 

But these two risks, one a practical one and the 
other theoretically in being, make the extensive 
use of cheques possible only in a community which 
Jias reached a high stage of economic civilization 
and is also blessed with a high level of general 
honesty among its members. And these features 


In the character of a cheque also made it obviously 
impossible that it could be given the privilege of 
le^ tender, that is, that any one could be bound 
by law to accept a cheque in payment for goods 
delivered or services rendered. No one could be 
compelled to take a piece of paper signed by an 
unknown person and purporting to be an order on 
■ bank of which perhaps he had never heard. So 
that the cheque has had to fight its way to its 
present supremacy without this advantage, and to 
drive gold and notes out of circulation, except in 
small and special transactions, in spite of the £act ■ 
that they were legal tender and it was not This 
it was enabled to do by its safety and convenience, 
and the power of the drawer, by varying the form 
in which he makes it out, to hedge it about with 
safeguarding restrictions, or to leave it convertible 
into cash by any one who presents it A cheque , 
is me^ly an order on a bank from one of its cus- ] 
tomers to pay some of the money which it holds 
on his account to a third party, or to himself if he \ 
wants to take out cash. It can be manufactured \ 
with a piece of not^paper and a penny stamp, but ■ 
it is much more usual to use one of the well-known ; 
regular forms supplied by banks to their customers. 

The convenience of the cheque follows from itsV 
safety ; if bank-notes are being sent, it is necessary \ 
to note all the numbers and register the packet ; a 
cheque, protected by being crossed and marked 


"not negotiable," goes sa/ely in an ordinary enve- 
lope. The words "o6t negotiable" do npt make a 
cheque not negoti^ible, hjit their effect ia/ that no 
holder of a chequje so marked can pass on a better 
title to it than he has himself; consequc^itly, if it 

A is stolen, any one who takes it from the t^iief cannot 
claim on it Further, the fact that it can be drawn 

ftk to the exact amount required is a great advantage, 
and its return to the drawer through his bank, when 
it has done its work and been cancelled, is an addi- 
tional convenience, and makes the cheque a record J \ 

^ and receipt, as well as a form of payment ' ^ 

But in considering the qualities of the cheque 
it must never be forgotten that it also, like the 
Bank of England note, is a certificate immediately 
Inconvertible into legal tender cash, gold or notes. 
It need bardly be said that the great majority of 
cheques are never presented to be turned into cash ; 
they are paid into banks by those who receive them, 
and crossed off against one another in the Clearing- 
house, where representatives of all the banks meet 
and exchange claims against one anofier; and 
cheque^ thus for the most part mere^t^t as in- 
dicators in the transactions which result in the 
daily transfer of an enormous amount of credit from 
one hand to another, the whole affair being finally 
reduced to a matter of book-keeping exchanges 
between the various bankers and between the 
various accounts in their books. But the fact that 
„.■ ...C.oin^le 


every cheque giv«s the holder, or his bask, the 
right to demand legal tender, gold or notes, from 
the bank on which it is drawn is highly important ; 
without it, the cheque could not have won its way 
to general acceptability, and could not be treated 
as cash, as it is rather heretically treated here, on 
the ground that it is, in the vast majority of cases, 
readily accepted in exchange for goods or services 
in ordinary transactions. And the immediate Con- 
vertibility into gold or notes, which is behind every 
cheque, means that an adequate supply of gold or ^ 
notes to meet them on presentation is as necessaiy 
to bankers who supply their customer^ with cheque- 
books as to those who formerly made advances to 
them in the shape of notes, or promises to pay. In 
these days when a banker leads money, he lends 
the right to draw a cheque and promises to meet 
it on demand, so that the principle of mutual in- 
debtedness as part of the basis of modem com- 
mercial currency is again evident And since the 
right to draw a cheque implies the right to call for 
gold or notes, the extent to which credit can be 
created by bankers will depend, among other things, 
on the amount of gold or notes that bankers hold 
against possible demands. A banker who has 
;fio,ooo in gold or notes at his command would 
be running too great a banking risk if he advanced . 
ten millions to the most unexceptionable customers ' 
against the most unexceptionable securities; for 


„.■ . ..C.oogic 


by doing so he would give them the right to take 
out ten millions in gold and cotes, and if even a ' 
thousandth part of the right were exercised, the 
banker's gold and notes would all be gone. And 
since, as we have seen, notes are mere bullion 
certificates, themselves immediately convertible into 
gold, we come back to gold as an element of first 

^ importance in the creation of banking credit Or 
we can express the matter more simply by saying 
that the amount of gold held by the banking com- 
munity as a whole will be a leading influence among 
those which determine the amount of the cheques 
that it can allow the commercial and financial com- 
munity, as a whole, to draw. All this is perhaps 
a little premature in a chapter which purports to 
be dealing with cash transactions. But the cheque,^\ 

- like the bank-note, is at once cash and credit, and ; 
it cannot be too early stated and understood that ' 
every credit operation implies a possible cash 
transaction, and that prudent banking consists in 
making due allowance for cash demands involved 
by the creation of credit 




Havihg reviewed the various fonns of cash, or 
money here and now, for whtch< goods and services 
are habitually exchanged, and for which the money 
market exchanges money some day or money 
somewhere else, we proceed to the bill of exchange, 
a versatile credit instrument which is often all 
these three forms of money in the course of its 
career. The complicated relations between the 
different kinds of money, and their habit of melting 
into another, are well exemplified when it is stated 
that the cheque , wi^ which we are supposed to 
have already dealt, is actually nothing else but a ^' 
bill of exchange, with which we now propose to ■'- 

But there is this difference. A cheque is a bill 
ofexchange payable on demand. A bill of Exchange, 
as ~we shall' See, 13 "^ order from A to B to pay *' 
a sum either to himself, A, or to a third party, C 
When it is payable forthw ith it is a c heque and 
-faeaMApw Uiy st amp ; wfteiTi ni payab leat a futuye 
da te it is a bil l of exchange . and bears a s tamp 
ad valorem, varymg.with the amount of the sum ' 




named It is characteristic of monetary nomencta- 
ture. which seems to try to confuse matters by apply- 
ing illogical and confusing names, that the title " bill 
of exchange " should be given both to the genus 
and to one of the species into which it is divided. 
Another distinction exists in the eye of the law, 
from the fact that a cheque, according to its legal 
definition, must be drawn on a bank, whereas a bill ' 
may be drawn on a bank but is more often drawn 
,. on a merchant or accepting house, or any debtor 
who gives his creditor the right to draw on him. 
The practice of the market-place, however, does 
not always follow the legal definition of the cheque, 
but applies the word to any bill payable on demand. 
■ ( The element of time is thus the real outstanding 
,<.^ j quality in the bill of exchange, which Separates it 
^ I from the cheque and justifies my reservation of it 
to a separate chapter apart from the forms of paper 

Logically, the reasons which included cheques 
under the category of cash would perhaps include 
the bill of exchange. Goods and services are con- 
stantly given in exchange for bills, and a good bill, 
drawn on an English bank or firm, is convertible 
into gold. But it has to go through two important 
< processes before it can be so converted. It has to 
be accepted, and it has either to be discounted or 
' to await maturity. 

The bill of exchange is of immemorial antiquity. 
" It is probable," says a great authority on its legal 

„..■ . ..C.oogle 



aspects " that a bill of exchange was in its original 
nothing more than a letter of credit from a mer- 
chant in one country to his debtor, a merchant in 
another, requiring him to pay the debt to a third 
person, who carried the letter, and happened to 
be traveling to the>place where the debtor resided. 
... It was found that the original bearer might 
often with advantage transfer it to another, and 
the assignee was, perhaps, desirous to know 
beforehand, whether the party to whom it was 
addressed, would pay it and sometimes showed it 
to him for that purpose ; his promise to pay was 
, the origin of acceptances." * 

It is obvious from this theoretical description 
of the early bill that it, like its modern descendant, 
was not immediately payable, since otherwise its 
bearer would most obviously and simply have 
tested the willingness to pay of the merchant on 
whom it was drawn, by presenting it for payment 
Acceptance is nothing else than the promise of the 1 
party on whom the bill is drawn that he will pay f (/ 
it at due date ; and this acceptance he signifies by/ 
writing his name across the face of it A cheque, 
in its legal sense, drawn on a bank, does not require 
acceptance, because its payment constitutes and 
includes its acceptance ; but a cheque, in the sense 
of a bill payable on demand, drawn on a firm which 
is not a bank, is often accepted. 

It is rather astonishing to find the authority 
* Bglts on Bills of Exchange. 

„.■ . ..C.oogle 


just referred to stating that there is no evidence 
that bills of exchange were in use among the 
ancients, though he refers to a passage in Cicero's 
letters which appears, to a lay mind, to establish 
the fact beyond doubt Writing to Atticus,* 
Cicero asks htm to consider whether the monetary 
requirements of his son at Athens can be provided 
by exchange operations, and it is interesting to 
see that the Latin phrase is a literal counterpart 
of the English— /^rm»Atri But although this pas- 
sage is not sufficient evidence, from a legal -point 
of view, that such a thing as a bill of exchange 
was used, it clearly proves the existence of some 
form of exchange machinery in Rome and Athens ; 
and it is safe to assume that the acute and quick- 
minded Greeks exchanged credits against the goods 
that they bought and sold between their busy cities. 

The precise age of the bill of exchange, however, 
Is a question of merely antiquarian interest We 
are -now concerned with its meaning and the func- 
tion that it performs in the monetary machine. It 
Is legally defined as "an uncondition^ order in 
I writing addressed by one person to another, signed 
Iby the person giving it, requiring the person to 
y Whom it is addressed to pay on demand, or at a 
* jfixed or determinable future time, a certain sum 
, _ in money to, or to the order of, a specified person, 
br to bearer." 

Thus says the law. But, as we have already 
* Cic n/ Att^ 13, 34. 

,,. . A.oogle 


seen, a bill of exchange becomes a cheque, in 
practice and in the eye of the tax-gatherer, when it * 
is payable on demand ; and in the eye of the law 
likewise when it is payable on demand and drawn 
on a bank. So that the distinctive part of its 
actual definition consists in its being payable af 
a future date Further, though it may be an order 
drawn by one par^ on another in the same street, 
nevertheless, since trade consists largely in the 
exchange of goods between persons separated by 
distance, it is usual to find that bills of exchange 
are drawn by the merchants or financiers of one 
centre on those of another. In other words, time t, 
is a constant element in the composition of a bill - 
of exchange, and space is a very usual one. When i 
Sancho Panza had his ass stolen by a rufllan 
whom his master's chivalry had set free from the 
grip of the law, Don Quixote consoled him with a 
promise of a bill of exchange (c/dula di eambto) for 
three asses out of five in his stable. As they were 
then wandering in the Sierra Morena, the elements 
of time and space were both present The bill 
was duly drawn on Don Quixote's niece, and ran 
as follows :— 

. " Dear niece,— At sight of this, my first bill of 
ass-colts, give order that three out of the five I 
left at home in your custody be delivered to 
Sancho Faoza, my squire ; which three colts I 
order to be delivered and paid for the like number 
received of him here in tale ; and this, with his 


acquittance, shall be your discharge. Done !n the 
' heart of the Sierra Morena, the twenty-second of 
August, this present year " 

"It is mighty well," said Sancho, "now you 
have only to sign it." 

"It wants no signing," said Don Quixote; "I 
need only put my cipher to it, which is the same 
thing, and is sufEcient, not only for three, but for 
three hundred asses." 

The draft was thus in many respects irregular; 
apart from the fact, with which the priest consoled 
Sancho when he found that he had lost it, that 
"one written in a pocket-book would not be 
accepted." Nevertheless, this bill drawn in jest 
by Cervantes on posterity more than three cen- 
turies ago, is a very fair parody of its modern 
counterpart Its verbiage, of course, has been left 
out, the bill of to-day being generally drawn with 
business-like brevity; but it is a definite order to 
' Don Quixote's niece, signed by his cipher, to 
pay a stated number of ass-colts, to Sancho, 
against value received from him at the place 
where the bill is drawn. The fact that this value 
received is wholly fictitious is not quite without 
parallel in modem practice. Modern practice, in 
its insatiable search for means of credit manu- 
facture, has often found it convenient to create 
bills of exchange out of nothing, drawing them 
against aspirations or expectations or speculations. 
And cases have been known in which an attempt 



was made to give the "kites," or accommodation 
paper, so produced, an air of demure respecta- 
bility by some reference to goods passing, as 
imaginary as the three asses which Don Quixote 
states that he has received from Sancho. 

The original essence of a bill of exchange was 
that it was a claim for the payment of a debt, 
based on the moving of saleable produce to the 
place at which it is expected to find a market 
The custom which made it payable at a date subse- , 
quent to its arrival, and the arrival of the goods, ; 
was presumably arranged in order to give the mer- , 
chant who received them, and owed the money for; 
them, time to dispose of them and gamer the pro- 1 
ceeds. But his acceptance of the bill, or acknow- \ 
ledgment that he h^s to pay the money at its date ' 
of maturity, makes it immediately negotiable, or 
convertible into cash, by the process of discount, 
which will be explained later. 

Let us take a concrete example, and simplify it 
by the elimination of many of the processes 
through which a modem bill actually passes. 

Silas P. Watt, farmer, of Dakota, sells his 
wheat,-crop for ;^2ooo to John Smith, of London, 
com-dealer; John Smith sees no reason why he 
should pay for the wheat before it has been shipped, 
knowing that a month or two must pass before it 
has reached him, and been marketed and turned into 
money in his pocket Silas P. Watt, on the other 
hand, sfees no reason why, during all this interval, 


he should have parted with his wheat and should 
have nothing to show for it ; and his banker or 
trust-manager, who has probably made an advance 
against it, is even more strongly convinced of the 
impropriety of such a proceeding. Consequently, 
thanks to the compromise which commerce has 
devised to meet this difficulty. Watt in Dakota 
draws a bill on Smith in London for £2000 payable 
at sixty days' sight— that is, sixty days, plus three 
" days of grace," after the bill has been accepted — 
and is able to give this bill to his bank or trust 
company to be realized in payment for the loan on 
his cropw The bank endorses the bill by signing 
/ its name on the back of it, and sends it to its agent 
I in London, together with documents showing that 
I the wheat has been actually shipped and insured 
against risks on the way, and on its arrival it is 
accepted by Smith, who writes his signature across 
the front of it to show that he acknowledges the 
indebtedness at the due date, and is given posses- 
sion of the documents. It is thereupon, supposing 
Smith's name to be good and in sound credit, a 
negotiable instrument which can be discounted, that 
is, turned Into as much ready cash as a promise to 
pay at a distant date is worth according to the cur- 
rent rate of interest For example, if the jfzooo bill 
has still a month to run and the current rate of 
Interest is 6 per cent per annum, its piresent value 
will be decided by simple arithmetic to be ;f 199a 
This is a very simple example of the manner in 


which the bill of exchange fecilitates trade by 
creating a piece of negotiable paper against a 
genuine trade transaction. Wheat was not waqted 
in Dakota, and is always wanted in London, and 
therefore its transfei* from Dakota to London gives 
it value by putting it into the place in which it 
will fetch a price. The interval is bridged by 
the bill, which finances the transaction from its 
begfinning to its end. When the bill falls due, if, 
as we may suppose for the sake of clearness, it has 
not been discounted. Watt or his bank (to whom 
we suppose him to have' passed it on) applies 
through his London agent for the money, and 
Smith, having in the meantime disposed of the 
wheat, has the necessary funds ready at his bank 
to meet his acceptance ; the agent places- the pro- 
ceeds to the credit of the bank in London, to be 
used as it may direct In actual practice, how- 1 
ever, the bank's agent would probably have dis- 1 
counted the bill and so turned it into immediate | 
cash on its arrival, and the bank in Dakota would 1 
already have sold drafts on London against it, to I 
customers in America who had payments to make J 
in England. ' 

A bill, such as this one that we have imagined, 
drawn against the actual shipment of actual pro- 
duce, and especially of produce of universal demand 
and immediate consumption, such as wheat, 
obviously possesses the great advantage of " pay- 
ing itself," according to the common phrase in 

„.■ . ..C.oogle 


\ Lombard Street The wheat comes to market and 
' 1 is sold, and cancels the debt created against it 

It thus begins to appear that the bill of exchange 
is not only a beautifully simple and efficacious 
device for financing commerce, but is also an ideal 
form of investment for bankers and others who 
are obliged by the nature of their business to 
keep their resources liquid, that is, readily con* 
vertible into cash. 

For a genuine bill of the kind described pays 
itself automatically, as we have seen, at maturity, 
owing to the necessities of the community, which 
must have wheat or perish, and a banker who invests 
his funds by discounting good bills has only to 
let some of his bills mature without replacing them, 
in order to replenish his store of cash. Bills drawn 
against wool, cotton, hides, and other raw materials 
of the principal industries which are turned into 
articles of universal consumption are, for practical 
purposes, equally good; for the goods behind 
the bill, being certain of a market, and likely, if 
anything, to rise in value in time of war or political 
scare, secure the acceptor against the chance of 
being "locked up," as it is called, with an asset 
which he cannot realize. 

It is this quality, inherent in a genuine bill, 
which gave rise to the saying that banking is the 
easiest possible business to conduct, when once 
the banker has grasped the difference between a . 
bill of exchange and a mortgage. We have seen 

„.■ . ..C.oogle 


that the genuine bill of exchange is easily negoti- y- 
able before maturity,' and on maturity is cash by 
the sale of the goods on which it is based. A 
mortgage or loan against real property, houses 
and land, is by no means readily negotiable, since 
the two expensive processes of survey and exami- 
nation of title are involved before it can be trans- 
ferred, and the security behind it is the most 
difficult of all to turn into cash, especially at times 
of political or other disturbance. "You may buy 
land now as cheap as stinking mackerel," says 
FalstaBT, when he brings news of Hotspur's 

But, as a matter of practical fact, a very large 
number of the bills drawn are not of this genuine 
character, and the use of this admirable and efficient 
instrument of credit has been so extended, that 
the distinction between it and a mortgage on real 
property is nowadays sometimes in favour of the 
latter, which has at any rate something behind it 

We have seen that the original justification of a 
bill of exchange arose from its being drawn against 
produce in the course of being marketed, or being 
worked up into a state in which it would be more 
valuable, and that the bill bridged the intermediate 
period by providing the buyer and seller with an 
instrument that could be immediately realized. A 
very short step in advance of this arrangement led 
the dealers in exchange to create bills at a time of 
year when no crops were ready to be drawn against, 

„.■ . A.ongle 


in order to make profits out of the provision of a 

form of remittance at these periods, and to cover 

themselves later on when the genuine produce bills 

began to come forward. Let us once more take a 

concrete case. In July, Silas Watt may want to 

make a payment in London for farming machinery ; 

he has no crop to draw against as yet, but his 

bank will sell him a draft on Xxndon, having made 

, I arrangements with Smith, who is now grown from 

i|a merchant into an "accepting house," to accejrt 

' '/|lbiUs drawn by it, for a- consideration, against 

I'fSecurities instead of produce. When Watt's crop 

'rs harvested, and a genuine bill on London is 

created by its sale, it will restore the American 

bank's credits in London, which were reduced by 

the draft that it bad provided to pay for Watt's 


When John Smith is described as having grown 
from a merchant into an accepting house, he is 
supposed to have passed through a process which 
has been a fairly common experience. Like many 
other merchant houses, he has given up the actual 
handling and selling of merchandise, though retain- 
ing the title of merchant, which is highly honoured 
in the City, and is confining his attention to the 
profits which he can more easily earn, if his name 
be good enough, by placing his acceptance at the 
disposal of borrowers who want to draw on him. 
The arrangement that he has made with Watt's 
banker, and with many other dealers in bills of 


exchange' in other parts of the world, eaal^Ies them 
to draw on oneitnother at any time, whether there 
be produce passing or no, and' brings into being 
the instrument known as a finance bill By this 
operation he and they create credit instruments 
which can be discounted and turned into cash, on 
the security of their names which are on the bills. 

This system of creating bills of exchange, as^ 
long as they are -created in anticipation of cropi 
movements and other genuine processes by which 
products are givm value by treatment and move- 
ment into the place where they are wanted, is quite 
legitimate, and tends, as will be explained in a later 
chapter, to steady the fluctuations in exchange, and 
to check unnecessary shipments of gold backwards 
and forwards across the hemispheres. 

But having discovered that profitable business 
was to be done by creating bills in anticipation of 
movements of produce or manufactures, the enter- ^' 
prising spirits of the financial community werei 
naturally impelled to go further, and create bills for t 
the mere purpose of discounting them and so pro- \ 
viding themselves with cash. As there was no ^ 
moving produce in question, they were created • ^ 
against property that would be difScult of realiza- 
tion, such as landed estate, or against securities 
which might or might not be easy to sell, or merely 
against the 'credit of the creators, and all the 
varieties of bills so produced differ more or le^s 
essentially from the ideal form of bill of exchange, 

„.■ . A.oogle 


which, as we saw, paid itself on maturity by being 
drawn against actual movements of produce of 
general and rapid consumptioa And there is often 
great difficulty in detecting from the appearance of 
a bill whether there be real produce behind it, or 
some other form of security, or nothing but the credit 
of the parties. Some bills carry on their faces a 
history of the whole transaction involved. The 
subjoined specimen, faithfully copied, with names 
altered, shows that Messrs. Laing, Mackay & Co., 
of Madras, the drawers of the bill, order John 
Smith & Co., a London accepting house, to pay to 
the Credit Banlr of India £i6g 45. 6rf., against hemp 
shipped to Bremen in the steamship Napoleon. 
Laing, Mackay &'Co, have probably sold the bill 
to the Credit Bank, and so provided themselves 
with funds for paying for the hemp. The bill is 
payable "three months after sight"; as it is drawn 
in Madras on June 11, we may suppose Uiat it 
arrives in London on July i. It is probably sent 
to the London office of the Credit Bank of India, 
by which it is immediately presented to John 
Smith & Co. for acceptance. They accept it by 
marking across it with a stamp — 

Accepted July i, 1908. 
Fatablx at thk Capital & Counties Bank, Ltd, 

and adding the signature "John Smith & Co." The 
bMl is thus payable three months after July i, with 
the customary three days of grace added, that is, 

„.■ . X.oogW- 





^ ^ 

^ 1 

"1 '^ 

^ 1 

1 ^ 


^ -i 



1 f 


Y !§ 



1 =« 








00 October 4. The bill is probably then dis- 
counted, that is, sold for cash, and on, or the day 
before, its due date the holder, whoever he may be, 
will pay it in, like a cheque, to his account at his 
own bank, which will collect the amount from the 
Capital & Counties through the Clearing House, 
and the Capital & Counties will debit John Smith 
& Ca The phrase which describes the bill as "this 
first of exchange " and orders its payment " second 
and third of same tenor and date not paid," shq^s 
that this is the original bill, and so the first of 
exchange. The " second and third " are the dupli- 
cate and triplicate of it; the second of exchange 
is sent by another boat, as a precaution against 
' delay, if the first should happen to go to the 
bottom of the sea, or be lost in the post. The 
third is generally retained by the drawer. 
More often the bill takes a form like this : — 

. j£3ooa New York, Stipt. yd, 1908. 

'|g At ninety days after sight of tbig Fikst of Exchango 

Second Unpaid) pay to the order of Messrs. Jones. 

I Two Thousand founds sterling, 

Value received, and charge the same to a/c as advised. 
To Jdin Smith & Co.\ 

London, i EVANS & PUGH. 

Experts in credit may be able to hazard a 
shrewd guess from the appearance of a bill, as to 
what is behind it But the phrase ".Value re- 
ceived " covers a multitude of mystery, and the 
difference between a genuine produce bill and . a 



piece of finance paper is often difl^cult to del^t*/ 
Finance bills being based 00 securities which ai&: 
less readily realizable, especially in times ot. 
apprehension and uncertainty, than genuine pro- 
duce of general demand, are obviously more likely ' 
to land their acceptors in difficulty if they have 
been accepting too many of them. NAnd it is thus 
easy to understand why, when there is any strain on 
credit, Lombard Street sometimes begins to talk 
seriously about the number of finance bills that 
are passing. 

Another class of bill that becomes unpopular 
when the market for credit is in a nervous state is jj' 
the "house bill," that is, the bill drawn by a firm or < 
company 00 itself If, for example, John Smith ; 
establishes his brother Robert in Oporto to finance '- ■ 
the port wine trade, and the Oporto Smith draws ( 
bills extenavely on Smith in London, being merely 
an oversea branch of the same firm, the bills so drawn 
will not be as good as if'they were drawn by one\ 
firm on another which is wholly distinct, and so\/ 
carried behind them the credit and resources of two ' 
establishments. If this paper became too common, 
the watch-dogs of the credit oi^aniiation would 
remark that there was too mitcfa Smith on Smith 
about, and would describe it, in its picturesque - 
phrase, as mere "pig on pork." 

The classical example of pig on pork is the 
order on Mrs. Micawber which Mr. Micawber gave 
to David Copperfield in the King's Bench prison. 



" Mr. Micawber," so David tells the tale, "was wait- 
ing for me within the gate, and went up to his room 
(top stoTy but one) and cried very much. He 
solemnly conjured me, I remember, to take warning 
by his hXe ; and to observe that if a man had twenty 
pounds a year for his income, and spent nineteen 
pounds nineteen shillings and sixpence, he would be 
happy, but that if he spent twenty pounds one he 
would be miserable. After which he borrowed a 
shilling of me for porter, gave me a written order 
on Mrs. Micawber for the amount, and put away 
his pocket handkerchief and cheered up." 

David would have found some difficulty In 
inducing anybody to discount that bill, though doubt- 
less Mrs. Micawber would have accepted it with a 
fine flourish, and with perfect confidence that "some- 
thing would turn up" before 'it was presented 
Nevertheless its complete worthlessness has been 
paralleled before now in the world of commercial 
fact, when foreign firms have established branches, 
consisting of a^Clerk and an office boy, in England, 
and drawn bills on them, which have been accepted, 
of course, by the clerk, who had authority to sign^ 
for the firm by procuration, and have then actually 
been discounted and turned into cash. 

Mr. Micawber has thus taken us a step further 
than Don Quixote. The Don drew a bill on his 
niece, whom he knew to be able and ready to meet 
it, in favour of Sanpho, against a fictitious delivery 
by Sancho to him of three ass-colts. Micawber, in 

„.■ . ..C.oogle 


a debtors' prison, drew in favour of David on his 
wife, who was then in process of being sold up. 
He doubtless believed, nay was certain, that his 
paper was as good as gold. So do many others 
who draw on a branch establishment which pos- 
sesses nothing but an office table; and this 
Micawberish optimism is at the back of a good deal 
of the exuberant energy which makes trade hum in 
times of activity. And consequently when trade 
slackens, and folk begin to consider Sceptically 
concerning the basis of the credit that has been 
built up during the humming period, there are 
sometimes some awkward moments of surprise and 

The importance of the bi ll of exchane e tlius lies ^ 
in a merit and a danger attached to it 'The merit is^ . 
the fact that in its genuine form it facilitates trad e 1 1 

b y creating credits »rt^ g? anppTying-fa^h a^aii^t I 
real pr oduce not vet market^j, aqd is-fll so an ideal j ■ 
form of investment for those whose investments 
must be liquid, or certain of easy realization. Thej , 
danger is the ease with which it can be created! ^ 
against securities which may not be readily market- \ 
able, or by being drawn on firms by themselves, or 
by correspondents, in order to provide cash for 
speculative enterprise; 




Having reviewed the various forms of cash, or 
money here and now, and the bill of exchange, 
which, from its ready negotiability and from its 
becoming cash on maturity, may be described as 
very nearly cash, we may pause aivd look back 
over the ground already traversed. 

We saw that gold, with auxiliary tokens of alver 
and bronze, is still the cash of the pocket for retail 
transactions, but that its use in big commercial and 
financial transactions was economized first by the 
use of bank-notes, and then, when the law laid 
restrictions on the use of bank-notes which pre- 
vented any increase in their issue except against 
an equal amount of gold, by the use of cheques. 
But we found that the general acceptability of 
notes and cheques arose from their being con* 
vertible into gold, which is the only form of pay- 
ment that is universally and always acceptable 
in the economically civilized world. 

Therestrictions on the bank-note have practically 
eliminated note issues in England except that of the 


Bank of England note, which being legal tender and 
backed by the gold in the bank's vaults is regarded 
as a bullion certificate just as good as gold, and has 
become itself part of the basis of credit That is to 
say, a banker who has Bank of England notes in 
his till is in a position to make advances to his 
customers on the strength of them, exactly as if 
they were sovereigns. The money of modern 
English commerce and finance is the cheque, and 
the credit dealt in in the London money market is 
the right to draw a cheque. We have next to find 1 
out how this right to draw a cheque is created, 1 
and we shall find that it is generally created by an 1 
advance made by a banker^ 

Since the cheque, is an order to pay gold o^ 
notes, it is sometimes assumed that all these orders 
which are turned over by the London bankers' 
Clearing-house, to the extent of some thirty millions 
a day, are orders drawn by folk who have acquired 
the right to do so by depositing gold and notes 
with the banks. And it is a common popular 
mistake, when*one is told that the banks of the 
United Kingdom hold over 900 miUions of deposits, 
to open one's eyes in astonishment at the thought 
(^ this huge amount of cash that has been saved 
by the community as a whole, and stored by 
them in the hands of their bankers, and to regard 
it as a tremendous evidelice of wealth. 

But this is not quite, the true view of the case; 


Most of the money that is stored by the community 
in the banks consists of book-keeping credits lent 
to it by its bankers. It is usually supposed that 
bankers take money from one set of customer and 
then lend it to other customers ; but in most cases, 
the money taken by'one bank has been lent by 

It will be remembered that when we were 
tracing the origin of the bank-note, we drew up an 
imaginary and simplified balance-sheet of a note- 
issuing bank showing- 
Doe to depositor! £iofioo Cash in band .. £iofioa 
Notei outstanding 40,000 Advances to cus- 
tomers .. .. 40,000 

IWKO £Sf>flco 

In order to simplify the matter, we left out the 
bank's capital reserves, investments, and other 
items which appear in balance-sheets, but, now 
that we have come to the point at which the manu- 
facture of the right to draw cheques h^ to be made 
as clear as may be, it^will be better to come into 
closer touch with the facts of the case and look at 
a bank balance-sheet of to-day. In order to get a 
fair average specimen I have taken the latest avail- 
able balance-sheets of half a dozen of the biggest 
banks, and put their figures together. But before 
we can consider them it will perhaps be safer, in 


the interests of clearness, to try to arrive at some- 
rough notion of the meaning of a balance-sheet 

A balance-sheet is a statement showing on the 
left side the balances of the amounts that have been | 
received, or are owin^^, by S»e company or firm that j 
issues it ; and on the right side the amounts that 
have been paid out by it, or are owing to it, or are 
held by it On its left side are the liabilities, on 
the right the assets. If you are not well versed in 
these mysteries you will probably be astonished to 
see the banks' capital among their liabilities ; but 
reflection will show that the capital was subscribed 
to the companies by their shareholders, to whom 
they have to account for it, and was invested in the 
assets on the other side. After this introduction 
to balance-sheets in general, let us examine the 
aggregated specimen that I have drawn up. 

U HPIbn* ^ Umioni 

Capital paid np .. 
Reserve Fund .. 
Current and deposit ac- 




Cash in hand and at the 
Bank of England .. 

Loans at call and short 

BiUs discounted and ad- 
" vances 




Profit and Loss account 


The above statement does not include the figures 


of the Badk of Engtaod, but is ao agglomeration of 
the balance^heets of six of the biggest of the 
ordinary joint-stock banks. 

The first feature that strikes the casual observer 
is the smallness of the paid-up capital of the 
banks when compared with the vastness of the 
figures that they handle. We see that only 16 
millions out of the 294 that they have to account 
for have been actually paid up by shareholders, 
though II millions have been retained out of past 
profits and accumulated in reserve funds, and i^ 
millioos are due to shareholders, for distribution 
as dividend or addition to reserve, in the shape of 
the projfit and loss account balance for the period 
'y covered by the balance-sheet A profit of i\ 
\ millions oh 16 is handsome enough, especially 
) wlien it is considered that most of these balance- - 
' sheets covered a half-year's work, but i^ millions 
out of 294 is a trifle, and it thus appears that 
^ 'a narrow margin of profit on their total turn-over 
ienables the banks to pay good dividends, and that 
tiie business of credit manufacture earns its reward, 
as might be expected, out of the credit that it 

Proceeding in our examination, we see that the 
item of acceptances on behalf of customers on one 
side is balanced by the liability of customers on 
acceptances on the other. This means that the 
banks have accepted bills for their customers (so 


making them first-class paper and easily negotiable), 
and are so technically liable to meet them on 
maturity ; but since the customers are expected to 
meet them, and have presumably given due security, 
this liability of the customer to the bank is an off- 
setting asset against the acceptance. And since the 
acceptadce business is a comparatively small item, 
and a bank's liability under its acceptances is not a 
liability in quite the same sense as its deposits, and 
does not immediately affect the present question of 
the manufacture of currency, it may be omitted for 
the present We-c^ thus simplify the balance* 
sheet by taking out this contra entry on both 

Further analysts of the liabilities shows that the 
capital, reserves, and profit and loss balance may 
be regarded as due from the banks to their share- 
holders, and that the remaining big item, current / 
and deposit accounts, is due to their customers. 
This is the item which is usually spoken of as the 
deposits, according to the tiresome habit of monetary 
nomenclature which seems to delight in applying 
the same name to a genus and one of the species 
into which it is divided. Just as the bill of ez< 
change is divided into cheques and bills of ex- 
change, so the banks' deposit accounts are divided 
into current and deposit accounts. But most people 
who have a banking account know the meaning of 
this distinctisn. Your current account is the / 


amount at your credit which you can draw out, 
or against wfaick you can draw cheques, at any 
moment ; your deposit account is the amount that 
you have placed on deposit with the bank and can 
only withdraw on a week's or longer notice,.a°<l it 
earns a rate of interest, usually i^ per cent below 
the Bank of England's official rate. The essential 
point to be grasped is the fact that the banks* 
deposits, as usually spoken of, include both the 
current and deposit accounts, and are due by the 
banks' to their customers. 

Now let us see how this huge debt from the 
banks to the public has been created. An examina- 
tion of the assets side of the balance-sheet proves 
that most of it has been created by money lent to 
their customers by the banks, and that the cheque 
currency of to-day i?, like the note currency of a 
former day, based on mutual indebtedness between 
the banks and their customers. For the assets side 
shows that the banks hold 43 millions in cash and 
at the Bank of England, 48 millions in investments, 
and 6 millions invested in their premises — the 
buildings in which they conduct their business — 
and that 180} millions have been lent by them to 
*heir customers, either by thfe discounting of bills 
or by advances to borrowers, or by loans at 
Ca\l or short notice. This last item is generally 
described in bank balance-sheets as "cash at call 
and short notice," but it has been lent, in most 
„.■ . ..C.oogle 


cases, to bill brokers, whose functions will be 
described later ; and though more readily called in 
than the advances to ordinary customers, it has 
nevertheless been lent, and so seems to be hardly 
cash in the ordinary sense of the word. We can 
now reconstruct our balance-sheet, leaving out the 
acceptances on both sides, as follows : — 

Due to shareholden .. aS^ Cash in hand and at Bank 
Due to cuatomers .. 349 of England ,. 


Due from' customen .. 180} 
mi 2771 

And it thus appears that nearly three-quarters of ' 
the amount due from the banks to their customers- 
are dite from their customers to the banks, having < 
been borrowed from them' in one form or another. 
And this proportion would perhaps be exceeded if 
we could take the figures of English banking as a 
whole. But that cannot be done at present, because 
some of the smaller banks do not separate their 
cash from their loans at call in their published 
statements. The greater part of the banks' deposits'! 
is thus seen to consist, not of cash p^d in, but of j 
credits borrowed. For every loan mak^s a deposit, 
and since our balance-sheet shows i8oi millions of 
loans, i8oi out of the 249 millions x.of deposits have ' 
been created by loans. "^ (x 


^ To show bow a loan makes a deposit, let us sup- 
. pose that you want to buy a thousand-guinea motor- 
car and raise the wherewithal from your banker, 
pledging with him marketable securities, and re- 
ceiving from him an advance, which is added to 
your current account Being a prudent person you 
make this arrangement several days before you 
have to pay for the car, and so for this period 
the bank's deposits are swollen by your ^f 1050, aDd\ 
on the other side of its balaace-sheet the entryf 
"advances to customers" is also increased by this) 
amount, and the loan has clearly created a deposit.^ 
But you raised your loan for a definite purpose,/^ 
and not to leave with your bank, and it might be | 
thought that when^you use it to pay for yout-,| 
car the deposit would be cancelled. But not so./ 
If the seller of your car banks at your bank^ which ' 
we will suppose to be Parr's, he will pay your), 
cheque into his own account, and Parr's banlc's 
position with regard to its deposits will be unA 
changed, still showing the increase due to your) 
loa^ But if) as is obviously more probable, he] 

' banks elsewhere — perhaps at Lloyd's — he will pay] 
your cheque into his account at Lloyd's bank, and) 
it will be the creditor of Parr's for the amount) 
of £1050. In actual fact, of course, so small a] 
transaction would be swallowed up in the vast! 
mass of the cross-entries which each of the banks 
every day makes against all the others, and would 


be a mere needle in a bottle of hay. But for the ', 
sake of clearness we will suppose that this little f 
cheque is the only transaction between Farr'sj 
and Lloyd's on the day on which it is presented ;\ 
the result would be that Parr's would transfer \ 
to Uoyd's £ioso of its balance at the Bank ofp 
England, where, as we shall see in a later cha'pter, ) 
all the banks keep an account for clearing purposes, j 
And the final outcome of the operation would be/ 
that Parr's would have ;^ioso more " advances tof 
customers" and ;fio50 less cash at the Bank of 
-England among its assets, while Lloyd's would^ 
have ;£'io5o more deposits and ;f 1050 more cash at 1 
the Bank of England. But the j£'ioso increase in* 
Lloyd's deposits would have been created by youi{ 
loan, and though it will be drawn against by the| 
man who sold you the car, it will only be trans-j 
ferred perhaps in smaller fragments to the depositsi 
of other banks; and as long as your loan is out- , 
standing there will be a deposit against it in th^l 
books of one bank or another, unless, as is mo5t|l 
unlikely, it is used for the withdrawal of coin ofr' 
notes; and even then the coin and notes are pro-j 
bably paid into some other bank, and become i 
deposit again ; and so we come back to our original \|i 
conclusion that your borrowing of ;f 1050 has in-''i' , / 
creased the sum of banking deposits, as a whole,' ^' ^ 
by that amount 

The same reasoning agp^$jwhenever a 'bank 



makes a loao, whatever be the collateral, or pledge 
deposited by the borrower, whether Stock Ex- 
change securities, as in the case cited, or bales of 
t cotton or tons of copper ; or, again, whenever it 
discounts a bill In each caSe it gives the borrower 
or the seller of the bill a credit in its books— in 
other words, a deposit ; and though this deposit is 
probably — almost certainly — transferred to another 
bank, the sum of banking deposits is thereby in- 
creased, and remains so, as long as the loafis are 
in existence. And so it appears that the loans of 
I ^OQe bank make the deposits of others, and its de- 
^ posits consist largely of other banks' loans. 

The matter is thus more complicated and diffi- 
cult to follow under the system of banking by 
deposits and cheque-drawing than in the old days 
of note issue. When notes were the curroicy of 
commerce a bank which made an advanc«' or dis- 
counted a bill gave its customer its own notes as 
the proceeds of the operation, and created a liability • 
for itsel£ Now, a bank makes an advance or dis- 
counts a bill, and makes a liability for itself in the 
corresponding credit in its books ; but this liability 
is in most cases almost immediately acted on and ' 
drawn against, and so transferred to another bank 
by being paid in as a deposit in the shape of a 
cheque on the lending bank. This cheque gives 
the bank which receives the deposit the right to 
so much of the lending bank's balance at the Bank 



of England, and the average result of the vast 
mass of credits so created and transferred roughly 
balances itsel£ 

In order to try to see the process at work, let 
us take out all the loans, discounts, and advances 
from the balance-sheet on page 59, and the corre- 
sponding deposits, and then build them up again. 
Their excision would leave the balance-sheet, sim- 
plified in other respects, thus— 

*- BUlionii/i, ■ MiT lurfjC 

Capital and reserrei .. 37 ' Cash In hand and at 

Profit and loss .. l| th« Bank „ -\ ,. 43 

Carrent and deposit ac- Investments ., .. 48 

CDuuU „ ., 68| Premijes .. ,. 6 

97_ 97 

If, next day, each of the six banks lent ten 
millions which were drawn against and paid into 
one or other of the six, the aggregate of cash in 
hand and at the Bank would be unaltered, and the 
aggregate deposits would be increased by sixty 
millions, which would be represented by loans and 
advances on the other side, thus — 

UilUiiiaar^, HBlau tf ^. 

Capital and reserves 37 Cad> In hand and at the 

pn^t and loss ., i) iWnk 43 

Cuimt and d^osit Investments .. 48 

accoanti .. .. 138) Loans and advances .. 60 

Premises h •< 6 

»57 IS7 


And 50 the process could be continued till we 
arrived at the actual figures originally shown. The 
supposition that the operations would result in 
transfers between the six banks, and not to any 
Qf the others, makes out example look artificial, 
though if we could get sn aggregate balance-sheet 
for all the b&nks, this supposition would be fac^ 
though complicated by possible withdrawals of gold 
and notes, the amoimt of which would, however, 
be a small fraction of the total^mounts transferred. 

But perhaps we can make the matter clearer by 
eliminating the question of other banks, and their 
action and reaction on one another's position. Let 
us take the case of a little local bank with a com-_ 
plete monopoly of the banking business of a country 
town, in which it lends to every one who- is in a 
position to borrow, and takes the deposits of every 
one who has a banking account And let us suppose 
that this community is completely isolated, as far 
as' money' matters are concerned, from the rest of 
the country. We may draw up an imaginary and 
simplified balance-sheet for the bank as follows ; — 

I £ 

Capital .. .. loc^ooo Cash in hand .. 300^000 

DeposHt.i .. i,so^foo Investments .. 40^000 
Discounts and 

advances - ,. 1,000,000 

With these small and sim[de fipires befor% us, 


and the conception in our minds of the small and ■ 
compact community whose banking business they 
represent, it is easy to see the whole thing at work 
in imagination. The little town could not have 
deposited £1,500,000 without advances from the 
bank because there never was such a sum in the 
place. It has presumably deposited £100,000, since 
the bank holds £200,000 in cash, of which £100,000 
may be taken as having been contributed by the 
subscribers of its capital The rest of the deposits 
have been provided by the bank itself which, on 
the strength of its £200,000 of cash, has discounted 
bills for the local paper-mill and chair factory, and 
made advances against any securities or commo- 
dities that its customers had to borrow on and it 
considered good collateral, and has also given 
credits in its books for £400,000 against securities 
bought by it The borrowers have probably been 
generally provided by the producing, manufac- 
turing, and trading classes of the community, who 
have discounted bills and taken advances in order 
to finance themselves over the periods that neces- 
sarily elapse between outlay and realization in 
their various enterprises. This does not mean that 
their trade is unsound They are earning regular 
profits^ but before one profit is garnered they 
are at work in search of another, and borrowing 
the wherewithal to seek it; and by meeting their 
demands the bank is fulfilling the obvious and most 
„.■ . ..C.oogle 


useful business of a bank io financing production 
* and industry. The. land-holding, investing, and 
professional classes, who live-ultimately on the pro- 
ducers and distributors, taking toll from them in 
the shape of rent, interest, and fees, probably do 
most of the depositing, paying back to the bank 
the cheques that they receive, drawn by those who 
acquired the right to draw by a discount, loan or 
overdraft. Part of the loans raised by the pro- 
I ducers and distributors will be drawn out in coin 
I for the payment of wages, and will work their way 
I round, through the tills of the shopkeepers, back to 
the bank, when the shopkeepers pay in; for the 
retail dealers necessarily,' from the nature of their 
trade, habitually deposit a considerable amount of 
currency with their bankers, while other people 
igenerally deposit cheques. And thus it appeiars 
/ that the banking credits provided by the bank for 
// one set of customers, in the shape of loans and 
/ discounts, come back to it from another in the 
I shape of deposits created by the loans and 
' t discounts. 

In this case we see that a bank in this excep- 
tional and monopolist position can, on a small cash 
basis, Create, by discounting bills and making loans, 
the right to draw cheques, confident in the ezpecta- 
tioQ that the cheques drawn by one customer will 
be paid into it by another; or that, on the rare 
occasions on which the .right to draw is used by 

„.■ . ..Coogle ^ 


withdrawals of' actual coin or notes, the coin or 
notes will find their way back to it, being deposited 
with it by those who receive them. And when 
its loans are repaid, or bills that it has discounted 
are met on maturity, this can only be done by 
the customers who have borrowed from it OP 
taken bills to it for discount, paying it with a 
cheque on itself, and so cancelling a deposit; of 
perhaps by paying it in coin or notes, which they 
will get from some one Who has cancelled a deposit 
in onler to withdraw them. And so its loans aod- 
discounts create deposits when they are entered 
on, and cancel deposits when they mature, though 
in actual practice their place would more probably 
be taken by fresh loans or discounts. 

From this parable of a little bank In an imagi- 
nary isolated community we can see how an exactly 
similar process works in English banking as a 
whole, though in its case the question is compli- 
cated by transfers from one bank to another. The 
historical evolution of the business tells the same 
tale. Banking inits note-issuing stage lent currency 
to its customers in the shape of its promissory 
notes, and had on the assets side its loans, and in 
the liabilities, its notes outstanding. It manufac- 
tured notes which it lent Now, it manufactures 
credits in its books, and current and deposit 
accoimts have taken the place of notes outstanding 
on the debit side of its balance-sheets. 




It caoQOt conduct this manufacture without the 
assistance of its customers, and it may be con- 
tended that these banking creditsmre manufactured, 
not by the banks, but by the customers who apply 
to them, and, by the security that the customers 
bring, and the bankers approve of, as fit coUateraL 

it is certainly true that the banks cannot make 
advances unless somebody asks for them, and their 
capacity for doing so thus depends on the needs of 
the community, and also on the supply of unpledged 
property that the community has available as 
security. Whether the manufacture be conducted 
'^by the banks or by their borrowing customers is a 
question of little moment, as long as the fact is 
grasped that the greater part of the deposits shown 
in bank balance-sheets have been brought into 
being by means' of book-keeping credits — whether 
in the form of discounts, advances, or overdrafts — 
granted by banks to customers, and passed on by ' 
these customers to others. 

The broad conclusion arrived at is that banking 
deposits come into being to a small extent by cash 
paid into banks across the counter, to a larger but 
still comparatively small extent by purchases of 
securities by the banks which create book credits, 
and chiefly by loans from the banks which also 
create book credits. 

There is nothing alarming in this conclusion, 
though people who have been accustomed to regard 

I); .C.oogle 


bank deposits as so much cash paid in are sometimes 
startled when the other side of^'the m&tter is 
put to them, and feel that banking credit is a 
kind of questionable conspiracy between banks 
and their customers. A little reflection shows that 
, it is a beautiful piece of evenly working mechanism, 
by which coin is economized and a perfect currency <> 
is provided with extraordinary ease and cheapness. 
Nor need any sense of disillusionment be felt when 
it is realized that bank deposits, in so far as they 
are borrowed, are evidences of indebtedness quite 
as much as of wealth. 

Everybody knows that in all long-established, 
well-ordered and industrious communities vast 
stores of wealth arc accumulated ; and even if they 
could be heaped up in banks and expressed in 
figures nothing would be gained by the informa- 
tion. - But the contemplation of this mass of in- 
debtedness, and of the cheque currency with which 
it is passed from hand to hand, is novel, stimula- 
ting and unique. It is a wondrous example of 
human ingenuity applied to the cheapening and 
furtherance of trade, finance and speculation. 
There is nothing quite like it anywhere else, and 
its development has only been rendered possible 
by the confidence, based on solid experience, of 
the majority of Englishmen in one another's com- 
mercisd probity, and readiness to carry out a 
contract at all costs. 



y ' The only defect in the system is its perCectioa 
'''^English banking has been so abjy and successfully 
conducted, and has moved forward so steadily, 
especially since the foundation of the great joint- 
stock banks and the publicity which their establish* 
ment made necessary, that it sometimes becomes 
difficult to realize that banking is not merely ■ 
matter of quickening the wheels of commerce' with 
a plentiful supply of credit when trade is prosper- 
ous, restricting credit when it outgrows its cash 
tiasis, writing ofT a few bad debts occasionally, 
and, year in and year out, making splendid profits 
by lending people the right to draw cheques, on 
the assumption that nearly all the cheques so 
drawn will be cancelled against one another, and 
will never involve a demand on the banks for 
legal tender cash. To the modem generation of 
bankers, to whom such a thing as a run on an 
English bank is a matter of tradition, a mere echo 
of a bad old past which is gone for ever, banking is 
sometimes a little apt to present itself as the simple 
process described above. But the thoughtful 
bankers, that Is the great majority of the wary, 
cool-headed men who carry on this curious and 
magical business of providing curren cv and credit 
o n a basis of mutual indqbt'^f^"^'i B |jetwf!pn_thffm- 
selves and their customers, know well enough that 
t^ere is"an6tHeT'srde"to'"lKe questioa" Just as a 
man cycling through a crowded street depends, for 



his life, not only on bis own skill but also on the - 
care with which the rest of the trafBc is driven, so 1 / ' 
the English banking system is dependent on the 1 
sanity and sense of the public as much as on its ' 
own soundness. • -■ ■ 

This dependence of the banks on the sanity arid t ' 
sense of the public arises out of the fact that bank I %/ 
deposits are payable in cash, either on demand, \ 
or in theory at a week's notice; and even the 
deposits at notice are practically liabilities on 
demand, because if any one who had money de- 
posited at notice wanted it suddenly, a banker 
would find it very difficult to refuse to let him draw 
it Hence it follows that if the public, or a con* 
siderable portion of it, became suddenly bereft of 
sense and sanity to a sufficient extent to make it 
want to take its money out all at once, the position 
of the banks would be uncomfortable, if they were 
not amply provided with coin and notes, and so 
able to quell the outbreak by meeting its first 
demands with a bold front 

It might appear that since bank deposits, as has 
been demonstrated, are largely created by credits 
given by way of -15an or discount, any bank which 
happened to be subjected to the inconvenience of 
a run would only have to call in loans from its 
debtors to meet the demands of its depositors. 
But the matter could not really be settled by this 
simple method, in the first place because banks 



(habitually make loans for fixed periods but have 
to meet' liabilities, as we have seen, on demand; 
and, in the second, because in the case of a panic 

/ severe enough to cause a run on a bank, a large 
number of its debtors would almost certainly be 

I obliged to admit their inability to repay their 
advances. The bank would find itself reduced to 
the unpleasant predicament of having to try to 
realize the securities or commodities, or other 
cifllateral pledges, against which the loans had 
been granted, and in the state of panic which 
our hypothesis postulates would find it extremely 
difficult to do so, and would probably find it im- 
possible to do so as rapidly as demands were 
pressed upon it 

Moreover, since we have already seen that the 
loans of one bank create the deposits of another, 
the attempt by one to call in its loans w<Juld 
inevitably cause pressure on the deposits of the 
others, and so the evil would swell and spread in a 
vicious circle. - There is, however, no need to 
dwell on the possible horrors of a hypothetical 
banking panic. So much had to be said in order 
that the tremendous obligation might be realized 
which lies behind this business that is conducted 
50 smoothly and easily, and that some appreciation 
might be gained of the responsibility that is faced 
by the affable and imperturbable gentlemen who 
conduct it. And it was also necessary to bring 

■ X.Oi 



the skeleton out of the banking cupboard in order 
to emphasize the stern necessity for unceasing 
vigilance on the part of the banking world in the 
matter of its first weapon of defence against an 
outburst of public insanity which might start an 
importunate demand for cash from its bankers. 

For in this matter the public and the banks act 
and react on one another, and the public is much 
less likely to be bitten with a mania for hoarding 
its money instead of leaving it in banks, if it knows 
that the banks are strong enough to meet a sudden 
demand without flinching. And hence it follows 
that, by keeping a strong line of defence in the! 
shape of legal tender cash, the banks can do much I ' 
to prevent the danger from arising, gainst which) 
it is intended to protect them. Just as we saw 
that the note-issuing banks ran serious risks when 
t^ey made advances in the form of their own notes 
without due regard to a store of metallic cash in 
which to meet their notes when presented, so the 
modem cheque-making banks have to keep an 
adequate proportion of legal tender cash against 
the right to draw cheques that they lend to their 
customers, or become liable to by other means. ^ 

If it were not for the fact that the credits which , . 
they lend represent the right to draw cheques 
payable on -demand, the extent to which they 
could lend would be only limited by the demands \ 
of their customers, and the amount of security J 

„.■ .-.Coogle 


that thdr customers could provide. But this 
all-important fact makes the question of an 
adequate cash reserve against their liabilities an 
essential factor in the problem. 

This reserve of cash consists of the gold and 
Bank of England notes that they have in their tills 
and in their vaults, and their balance at the Bank of 
England ; it is the first line in the assets side of the 
balance-sheet, "cash in hand and at the Bank of 
England." On the other side, among the liabilities, 
we saw the entry "current, deposit and other 
accounts," and, if you work out the proportion of 
cash against those liabilities, you will see what is 
the proportion which the banks, whose position is 
there displayed, think it rjght and proper to keep. 

There is no hard and ^t rule on the point in 
England, and it would be absurd if there were, fpr 
the' circumstances of banking business differ so 
widdy, that what is a barely adequate proportion 
for one would be wastefuUy excessive for another. 
r Good banking consists in giving as much assistance 
as possibleJo trade in the matter of credit, and at '. 
the same time restricting credit as soon as the pro- j 
portion between cash and liabilities is below the/ 
point at which prudence and caution require that 
it should stand. This is the happy mean that the 
banker has to find. The exact point at which the 
mean stands is a matter which he is best able to 
judge ; and though the desire to earn big dividends 



and the pressure of competition are strong 
Incentives to him to place Iiis ideal proportion too 
low, on the other band the fine traditions of English 
banking and the wholesome dread of criticism, and 
of the moods of the multitude, are eloquent ai^^ 
ments in fevour of wisdom and caution. 

Giood bulking is produced, not by good laws, 
but by good bankers. Just as the most carefully 
planned constitution will inevitably break down if 
the men at the helm of government are incompetent 
or dishonest, so no skilfully devised banking system 
will make banking good, unless the banking is con- 
ducted by straight and able managers, or defend 
banking from suspicion by its customers, if other 
wGieels in the financial machine have been proved 
to be unsound. 

In the United States the national banks in the 
chief cities are compelled by law to keep a cash 
reserve equal to twenty-five per cent of their 
deposits, and are liable to inspection by Govern- 
ment ofiScers whose business it is to see that the 
cash is duly there. And yet, the panic of the autumn 
of 1907 saw the banks of the United States obliged 
to suspend payment because of mistrust on the 
part of the American public, which would have with- 
drawn most of its cash if the banks had not adopted 
the simple expedient of refusing t6 pay it. This 
mistrust was no doubt exaggerated, and in the 
case of most of the American banks was wholly 
„.■ . ..C.oogle 


UQwairanted But Americans, Id discussing the 
matter, generally admit that it had a certain amount 
of basis. The mere bet of legal regulation of 
the amount of cash probably makes the banks in 
America less careful with regard to the nature of 
the rest of their assets. Some of their managers 
are apt to think that, as long as they comply with 
the law, they have done all that is necessary, and so 
make inadvisable advances and hold unrealizable 
securities, perhaps because they are told to do so 
by some finuidal group that controls them. 

There seems to be little doubt that the mistrust 
of the American public was to some extent due to a 
suspicion that its banks had been too closely con- 
nected with a great speculative campaign conducted 
on the New York Stock Exchange. But it also arose, 
perhaps chiefly, out of events over which the banks 
had no control, such as insurance scandals and 
revelations concerning th^ conduct of'the Trusts,* 
owing to which' a general feeling of uneasiness 
concerning the whole financial position had been 
generated. Another cause, not of the panic but of the 
helplessness of American banking in the face of it, 
appears to have been the old-fashioned one of lack 
of cash, since the law concerning the cash propor- 

* InAmericftaTnistmeansKcambiiiationof coEBpaniuorbnu- 
neuei with the object of controlling an Industry; a trust company 
(sdll in the Amerioui sense) u to all Intents aiui ptuposes a banl^ 
witbout-the rigbt of note-issue and lets strialy regulated by law. 


tions had been set aside by the cfeation of a lai^e 
number of State banks and trust ccunpanies ' which 
did-banking business, but were not amenable to the 
twenty-five per cent law, and their weakness, in 
the eyes of indiscriminating depositors, infected 
the banks which had duly complied with the law, 
and multiplied the demands on them. This in- 
teresting side-light on the panic has been clearly 
displayed in an article by Mr. F. S. Mead, in the 
AtianHc Monthly of February, 1908. 

In England, where the law imposes no rules on ( 
bankers in this matter, the public feels assured that I 
its money is protected by the integrity and ability V 
of those to whom it is entrusted. As long as this 
confidence lasts-, all is well ; but any one who trades 
on public confidence has not only to merit it, but 
also to provide for any accident that might arise if, 
in spite of his meriting it, the public were to with- 
draw it owing to some mistake on its part Hence 

^ bankers have to be constantly alive to thenecessity 

^ for k^ping their position strong. 

This they do, in the first place, by maintdning 1 
a high proportion of legal tender cash to liabUities. / 
And legal tender cash means gold or Bank of Eng- ^ 
land notes. And as Bank of England notes, above a 
certain number, can only be issued against gold, we 
come back once more to gold as an important part 
of the basis of credit 

* See note, p. 8a> 


Bankers* credit, as we have seen, consists of 
advances given to customers against goods or 
•ecurities, and to that extent the goods and 
lecurities may be said to be the basis of credit 
But since prudent banking demands that the extent 
of credits given must depend on the amount of the 
banks' legal tender cash, and that is gold or its 
. equivalent, the amount of gold that is available in 
/ the hands of the banks, or of their bank, the Bank 
^^ of England, is In some respects the most important 
/ influence on the supply of credit 
' And now we are beginning to see why it is that 
so much importance is attached to the movements . 
of gold to and fro across the Continents, and why 
an increase in the supply of gold in London makes 
discount rates easy and sends up the prices of 
securities, unless balanced by counteracting influ- 
ences. Gold being the basis of credit, tt obviously 
follows that, when there is more gold, credit will 
be more abundant, and that therefore bills will be 
discounted more cheaply, that is to say, the promise 
of money some day will fetch more money to-day ; 
and that securities will go up in price, becauseV 
money wherewith to buy them is to be had on mor&y 
reasonable terms. But if counteracting influences, 
such as higher prices of commodities which necessi- 
tate a greater amount of credit for financing trade, 
are at work at the same moment, these effects of ah ' 
increase in the amount of gold will be veiled^ But 


they will be at work, and the increase of gold will 
be producingits effect, though it may not be detected 
on the surface. /■ 

Nevertheless, this dependence of the money 
marlcet, and of the City as a whole, on the question 
of the amount of gold available is often a stumbling- 
blqclc not only to the uninstnicted public, but also 
to theoretical economists, who are apt to see in it 
a remnant of the Mercantile system. This system, , 
with a view to keeping treasure in the country 
against an outbreak of war, endeavoured to regulate 
trade so that we might export more than we im- 
ported, creating a balance of exports, for which, it 
was hoped, the foreigner would pay in gold. 

There is this much of resemblance between the , 
two systems, that both the Mercantilist wanted, I 
and the money market wants, to liave a certain I 
amount of gold in the country. The Mercantilist 
wanted it because, in days when the credit system 
had not been developed, war could only be financed 
with cash, a store of which was therefore desirable; 
and we saw in a former chapter that the Athenians 
achieved this object and glorified the Acropolis and 
their goddess by overlaying her statue with gold.* 
The only mistake made by the Mercantilists in this^ 
connection lay in the trade regulations that they 
made with a view .to securing their object. The 
money market wants gold because gold is the only 
• p. 16. ' 



universally acceptable form of payment in times of 
panic, and is therefore needed as the banker^ reserve 
against accidents, ^nd so regulates the supply of 
credit, because prudent bankers cannot give credit 
beyond a certain proportion to their holding of 
legal tender cash* gold or its equivalent. 

And indeed, when we arrive at the conclusion 
that gold is the basis of credit, we are only re- 
stating the factv which emerged in Chapter III., 
that all forms of cash are gold or representatives of 
gold, bank-notes being payable in gold if the holder 
demands it, and cheques being payable in gold or 
bank-notes. For since every credit involves a right 
to draw gold or notes, and notes are based on 
gold, it follows that credits cannot be given unless 
there is an Adequate amount of gold in the hands 
of the banks which give them. 




So iar money has been dealt with chiefly as a matter 
of internal experience, and from the point of view 
of the relations between the Englishman and his 
banker. In the account given of the origin and 
development of the bill of exchange the horizon 
was expanded for a time, but otherwise our atten- 
tion has been concentrated on the forms of cash 
with which we English buy and sell commodities 
and services, and the process by which these forms 
of cash, and the right to draw and use them, are ' 
created by our bankers and their customers, through 
loans against goods and securities. 

But the money market is a very much bigger and 
more interesting affair than it appears to be from 
this merely insular examination. It is, in &ct, the 
most interesting of all markets, because it is world- 
wide to a greater extent than the market in anything 
else, with the possible exception of wheat 

■^ The use of money in cash transactions is J 
obviously world-wide ; wherever men buy and sell 

'- they must use some medium of exchange which is 



f commonly accepted in their country, even though 
it be only an inconvertible paper dollar printed at 
the caprice of a Central American Republic But 
money in its wider sense, in the sense of bankers' 
credits is also a matter of world-wide use, or at any 

"^rate demand, and it is only in London that money of 
this kind is to be had freely, and in the fullest mean- 
ing of its real definition, which implies, as we have 
seen, the right to demand, and the certainty of 
receiving, payment in gold. 

It is clear that in order to be of any use in inter- 

f national finance, money must be immediately and 
unquestionably convertible into gold, the only form 
of payment which is universally and always accept- 
able in economically civilized countries. And money 
of this kind Is only to be had in Londoa 

In a pleasant American comedy produced very 
many years ago, one of the characters, holding out 
vO a bundle of papers to her husband, exclaims, 
\^ lU " What's this ? You said you'd give me some 
^. ^''^^■moneyl" "That's so," says the husband, "and so 
u A it is. Why, it's Wabash t" Wabash was the name 
J Ijf of a railroad stock of somewhat problematical value, 
i ^ and quite useless as a medium of exchange for the 
1^ purposes of household shopping. And any one 
who has a credit in any other centre but London, is7 
liable to find himself, when he tries to realize it and 
turn it into cash, met by an offer of Wabash, or 
something equally inconvenient for his purposes. 
„.■ . ..C.oogle. 


The French are clever and versatile financiers, 
and the unfailing thrift which distinguishes ' the 
inhabitants of their country gives it a great and 
almost unsatiable power of absorbing iavestments, 
so that Paris is a very important factor in the inter- 
national loan market But the frppch temperament- 
is essentially cautious, and the Bank of France does 
not attempt to do the business that we regard 
as banking, which includes readiness to meet all 
demands in gold. Its notes are convertible, but/ 
convertible at its option into either gold or silver ;| 
and it frequently takes advantage of this option, 
when it considers it undesirable to part with its 
gold. So that any one wlio has a credit in Paris has 
a credit which is of no international value, except 
in so far as he can make use of it, by means of the 
machinery of exchange, to buy a credit in London, 
which is convertible as a matter of course. 

In theory Berlin has a gold standard, and the 1; 
notes of the Imperial Bank are theoretically payable V 
on demand in gold. But Germany is young as a 
financial nation, and its banks have been so busily 
and deeply engaged in promoting the industrial 
activities of the country that their resources and 
energies have been hitherto absorbed by this task, 
which they have performed with great success. 
Consequently they have not yet addressed them- 
selves to this question of international banking and 
of being prepared to meet all demands on them in 

I);,. :,C.oi">t^le 


gold; and any one who wants to draw on the 
Imperial Bank's store to any large extent is likely 
to find obstacles: and difficulties in his way, and is 
moreover likely to be met with a most discouraging 
countenance when next he requires accommodation. 
With the store of sagacity and scientific method 
that it has available, it is probable enough that Berlin 
may one day rise to the full rasponsibilities of a 
monetary centre, ready to face the real tasks of the 
international banker. At present, it is chiefly 
engaged with the solution of internal problems. 

In New York the right to gold is less ostensible, 
but in ordinary circumstances more practicable. A 
credit in the United States carries with it the ri^t 
to legal tender ctirrency, an<f the general prob S feui i^'*^ ' 
of securing what is called a gold 'certificate and 
turning it into the metal But in the autumn of 1907, 
the whole American system broke down, and an ' 
interesting form of emergency currency, created to 
fill the gap caused by an outbreak of hoarding on 
the part of both the public and the banks, became 
the only available medium of exchange. It took the 
I form of "clearing-house certificates " issued by the 
I American banks, but whatever else they certified, 
f it was not a certainty, or even a chance, of obtain- 
ing gold. 

It is a cherished ambition among Americans to 
see New York some day established as the monetary 
centre of the universe, and with their vast natural 

"^Kxt^ AMBITION -^^„T^^.^, 


resources and population there is no doubt that 
the United States can achieve any material tasks 
that they choose, if they can leani the necessary 
lessons and develop the necessaty character. At 
preseat the characteristics of the typical American 
business man seem to fit him to do most things 
better ttian banking. His haste to grow rich, his 
ea^er enthusiasm and buoyant optimism followed 
by plunges into apprehension and depression, his 
quickness and versatility, his keen sensibilities, his 
craving for speculative excitement, and his genius 
in exaggeration — all these qualities make him an ' 
excellent producer, a first-rate distributor, a miracu- 
lous advertiser, an unapproachable gambler, and a 
somewhat questionable banker. There are hundreds ^ 
of good bankers in the United States, who take a 
scientific interest in the problems of their business 
such as is comparatively rare among their English 
brethren. But they are developed in spite of their 
environment, and of the atmosphere of eager enter- 
prise which makes it difficult to observe the hum- 
drum laws and limitations of bulking. 

In 1907, the American banks were so strongly 
suspected by their own public of having made indis- 
creet use of their opportunities and capacities, that 
the public preferred to take care of its own money. 
And American banking met the situation by re- 
fusing to meet demands on it Banks that can be 
80 suspected by their own public, and can meet the 

,.. A.oogle 


suspicion in fuch a manner, have much to do and 
undo before they can constitute themselves into an 
international banking centre. Thoughtful Ameri- 
cans, from whose illuminating conversation I have 
gleaned these explanations of the shortcomings of 
American banking, also point out that it has not yet 
distinguished between solvency after an interval, 
and readiness to meet demands at once and without 
question. It seems, they say, to think that it has 
done all that can be expected if it holds securities 
that will ultimately, if it is given time, be capable 
of realization ; and has not grasped the fact that no 

/banker who takes a serious view of his banking 
responsibilities, could ask to be given time ia meet- 
ing demands on him. The internal effects of the 
Kceat panic will doubtless soon be forgotten ; but 
it will be long before intematioo^ finance will look 
with much confidence on a draft cm New York, 
which has been shown by experience to be in- 
convertible in times of crisis. When it has lived 
down this lapse, and provided the confidence that 
. is now lacking, and the necessary machinery of a 
discount and money market, American banking 
may set about making New York the monetary 
centre of the world. And an American can learn 
anything, if he thinks it worth while. 

Some of the smaller centres meet drafts on them in 
gold, but their limited resources limit their powers. 
Pr^Ktical financiers of all nationalities will admit that 




a draft on another centre is only valuable from the I 
international point of view from the readiness with | 
which it can be turned, through the machinery of \ > 
exchange, into a draft on London, which is the real | 
cash of international commerce and finance, because 
money in the real sense of the word, gold or its 
W equivalent, is only to be had, always and without / . > 
^ 'q uestion, and to an y amount, in London. But this '' 
Is only one of several reasons which make London 
pre-eminent as the money &ctory. Its money is not^ , 
only more genuine, that is, more undoubtedly con- / 
vertible than that of any other centre, but is also { ;' ,. 
under normal circumstances both more cheaply and \ ' 
easily produced to suit the convenience of the user. 
In recent years London has not been able to 
boast that its money is cheaper than that of all 
other centres ; in the first place because the South . 
African war destroyed a vast mass of English 
capital, and gave foreign countries, fronv which we 
bought material for it, claims on us which we have 
since then been painfully liquidating; and, in the 
second, because the great strain on the money 
machine caused by the extraordinary and world- 
wide activity of trade during the period which 
culminated in 1907, imposed on London, as the 
world's money factory, the necessity for guarding 
the basis of credit by the maintenance of high rates 
for money. 

Perhaps it should here be explained that when 


B large and increasing number of people require 
money, or the right to draw a cheque, for trade or 
other purposes, they naturally have to pay more for 
it, that is, they have to promise more money some 
day for the money here and now that they borrow. 
And the centre which alone is prepared to meet 
demands on it in gold is obliged to be especially 
careful to make them pay more, that is, to charge 
higher rates for money, so as to keep the demands 
on it within bounds, and also because, by charging 
higher rates, it attracts gold from abroad by a 
process which will be explained later. 

But even though money was not always cheaper 
' in London than elsewhere, it was always more 
easily to be had. In the case of the most obvious 
form of credit-raising, as for example when foreign . 
governments are raising loans or American rail- 
roads are offering bond issues, there are times 
when France is a readier market for the borrower 
than England, owing to the greater thrift of the 
French people, which gives the Paris banks a bigger 
mass of accumulated capital to handle ; but even 
then Paris often hands the borrower most of the 
money in the shape of a draft on London, and in 
times of uncertainty or strain London becomes the 
only place in which the loan-issuing machinery can 
work. In the summer of 1907 Japan wanted a loan 
to spend on the South Manchurian railway. It 
was a most inopportune request, for at that time 
„_■ . ..C.oogle 



the springs of capital had dried up under the 
stress of intensified drafts on them, and all the 
foreign lenders, who had previously competed for 
the privilege of supplying Japan's monetary 
needs, were deaf to the appeal But London, 
having in former years prospered by reason of 
Japanese loans, found the money, with a bad grace, 
it is true, and amid protests against borrowing at a 
moment so ill chosen ; but found it, at a time when 
in no other centre could such an operation have 
been contemplated. 

This power is due to the unparallelled freedom A^' 
and elasticity which mark the English system. It 
has been shown that bankers' money here merely 
means the right to draw a cheque, and is generally 
created by a banker lending it to a customer, who 
passes it on to a creditor, who pays It into another 
bank, and so one bank's loan becomes another / 
bank's deposit ^This system could be continued' 
indefinitely if bankers were reckless, for the only 
checks on the multiplication of bankers* money are 
the supply of unpledged security, concerning the 
fitness of which as collateral the banker decides, 
and the relation that the banker thinks it right to 
maintain between liabilities and cash assets. And 
when the supply of ordinary bankers* money runs 
dry, borrowers have, as we shall see in a later 
chapter, another source to tap in the Bank of 
England, which again can lend as freely as it 


pleases, for in its case its loans probably become its 
own deposits, and the only restraint imposed upon 
it also is discretionary regard for the proportion 
between its cash and liabilities. 

Now this elasticity is found nowhere else. In 
|y| New York bankers have to keep their compulsory 
J 2$ per cent of cash to liabilities, and the multi- 
plication of credits, which create liabilities, is thus 
I restricted by law. And the legal tender currency 
of the United States is peculiarly inelastic, though 
efforts are now being made to correct this defect 
In Paris the amount of the note circulation of the 
Bank of France is limited by law, and the credit 
facilities available are limited by French caution 
and fear of taking risks. In Berlin complete elas- 
ticity exists in theory, and this theoretical elasticity 
of the German system is sometimes held up as a 
model for imitation in England, by reformers who 
fix their attention on the regulations in the two 
countries relative to the issue of bank-notes. In 
this respect Germany can certainly claim greater 
Yreedom. In England, as we have seen, after a 
fixed limit has been passed, not a note can be issued 
unless backed by gold ; in Germany, also, there is 
a limit on the number of notes that may be issued 
against securities, but it may be passed at any time 
on payment of a tax of s per cent interest on the 
further issue, and consequently when borrowers 
are prepared to pay more ihan s per cent to the 




Reichsbank, it can manufacture notes for them as 
rapidly as it considers to be prudent 

The elasticity of the German system thus only I 
arrives when money is at a high price, and in j 
England elasticity is constant and chronic, since^ 
the supply of currency here does hot depend on 
the number of notes issued, but on the power 
of the community to draw cheques which is fur- 
nished to it by its bankers without any legal 
restriction, and subject only to the limits imposed 
by the prudence of the bankers, and the supply of 
unpledged security. The German system is very 
scientific and excellent on paper, for a banking- 
machine which is at the note-issuing stage of 
development Under it notes can always be had 
at a piice, and the high price involved reduces 
their volume when they are no longer needed. 
But we have seen that, at present, the preoccupa- 
tion of German banking with the task of financing 
industrial development imposes restrictions on its 
other activities; and hitherto the elasticity of 
its currency arrangements has been hindered, 
for jntemational purposes, by the fact that the 
currency created is not, in practice, to be I'elied 
on as completely and unquestionably convertible^ 
The success with which Germany has faced and 
dealt with other problems makes it highly prob- 
able that this one of international banking will 
be faced by it and dealt with in due coursa 
„.■ . ..C.oogic 


But at present it leaves the responsibility to 


The frequent assertion that money and a money 
market in the full sense of the words are only to 
be found in London, is not made by way of 
vainglorious boasting of English supremacy in 
this respect— rather, as will be seen later, because 
the very fact carries with it a danger and a 
responsibility that must on no account be lost 
sight of in any examination of London's mone- 
tary position. I am not attempting to deduce, 
from the unquestionable fact that London is the 
J only monetary centre tliat is always ready to 
J!^. undertake the full responsibilities of international 
y Jllbanking, that Englishmen are naturally abler and 
J) / llmore trustworthy bankers and financiers than any 
I other nation. There Is much to be said for this 
contention, and both the virtues and defects of 
the English chan^ter help it to produce good 
t bankers. But it must be admitted that English 
J / bankers have had the advantage of longer and 
/ less interrupted experience, and that exceptional 
I circumstances have enabled them to make fi^l and 
' profitable use of it At present, however, we are 
dealing with the facts of the present day and their 
consequences rather than their causes. 

Quick-witted foreigners were very ready to see 
the advantages which London's credit ^stem pro- 
vided for them. " l-o I " they said, " here is a banker 

„_■ . ..C.oogle 


who has the courage- to be prepared at all tunes to 
pay demands on him in gold, and the good luck or 
some other quality which enables him to do so. 
Moreover, he has a delightfully simple system by 
which any one who borrows from him becomes bis 
<nreditor. Let us go and get a credit in Londoa" 
So they brought their securities and borrowed 00 
them, or brought their bills and discounted them, 
and so raised credits here, which they were enabled 
to count in their balance-sheets as so much gold 
in hand. And all this suited London very well, 
because London, being a banker and not a philan- 
thropist, always charged its foreign — or any other 
-customers rather more for the loans and dis- 
counts than it allowed them for the credits so 
created, and also made various commissions and 
profits out of the process. And the foreigners, 
having begun the system of depending on London 
as a banking reserve centre, found it convenient to 
continue, and many of them decided that-k was not 
safe to keep credits here which were on^ produced 
by borrowing, and that they ought to have more 
real balances in London which were really their 
own ; and so they sent over goods or securities to 
be sold here, and left the money in London as a 
gold reserve. And this agaiq suited London's con- 
venience very well, for it took the goods and 
securities in exchange for its promise to pay, and 
now' has the use of its customers' money to lend to 


other people. Which it does with easy freedom 
and profit to itself, and is enabled to continue to 
earn and expand this very comfortable income by 
merely being prepared to meet demands in- gold, 
when called upon. This may seem to be rather 
an easy mode of eamteg a living, but the respon- 
sibility is, in fact, so great that no other centre 
tries to do business on the same lines. 

But lest it should, be thoueht that this account 
of the relations between London and her foreign 
customers is a creation of a bombastic fancy of 
a patriotically biassed Briton, let me quote an 
American opinion. 

In 1901 a meeting of the American Bankers' 
Association was held at Milwaukee, and a paper 
was read by Mr. A. B. Stickney on the " Medium 
of Exchange and the Banking Function." In the 
course of this discourse he made the following 
remarks : — 

" England has sp organized her capital by means 

of her magnificent banking system that she is the 

banker of the world, and collects tribute from all 

I the nations of the world in the form of interest, 

' not for the use of her wealth or capital, but 

I for the use of her credit. Paradoxical as it may 

sound, it is .literally true that by means of her 

splendid banking organization England collects 

interest upon millions and millions of her own in> 

debtedness to other nations. It is a very profitable 

„.■ . ..C.oogle 


business to collect interest on what one owes, and . 
it is this which makes England the creditor natioa"/- ' 

The same interesting paper, which is printed 
together with many other thoughtful and illumi- 
nating utterances by practical American financiers, 
in a book called " Practical Problems in Banking and 
Currency," throws some light on the vexed question * 
of the divergent interests of English trade and 
English finance, which make some English traders 
hostile to the international banking business done 
by their bankers. Mr. Stickney tells them that 
"the'wares of commerce follow the drafts of com- 
merce," in other words that the unrivalled inter- \ 
national trade done by this little island is partly I ^ 
due to its unrivalled banking system. " I venture \ 
to suggest," he says to his American audience, 

^ "that you may subsidize ships to sail the seas, and 
your armies and navies may carry the flag to all 
the islands of the seas, but you wilt never control 
the commerce of the world, nor the wealth of the 
world, nor the world itself, until you have a bank- 
ing system which-can manage the exchanges of the . 
world during commercial crises, and maintain at all ■• 
times a fairly uniform rate of interest" 

As to the maintenance of a fairly uniform rate 
of interest, London cannot compete with Paris. 

- Paris, thanks to the protection given to the Bank ^. 
of France by its right to meet demands in silver if 
it choose to do so, maintains a level of uniformity to 



which English traders, harassed by the greater 
fluctuatioQsofThreadoeedle Street, sometimes point 
with envy. But it is fair to remind English manu- 
facturers that the big profits earned by London's 
International banking are a strong argument in 
favour of its advantage to the community as a whole, 
and that, even from their own point of view, it may 
be .questionedwhetherthe serene tranquillity of rates 
in France would not be readily exchanged by their 
French brethren and competitors for the ease and 
elasticity of credit operations as conducted here. 
['' The business of managing the exchanges of the 

EWorld during commercial crises is obviously thrown 
upon London, as things are at present, by its 
position as the only monetary centre which is 
prepared to produce gold on demand. In the 
autumn of 1907, when sudden crisis compelled the 
United States to liquidate their financial position, 
they ceased to a great extent from buying other 
people's goods, and began to sell everything in the 
shape of securities and commodities that they could 
dispose of, and, being a very rich and resourceful 
nation, held the civilized world in fee for the time 
being, demanding payment in gold. 
^^•Vearly all the gold shipped to New York at 

I that time, estimated to Jiave amounted to some 
twenty-five millions sterling, came from London. 

But London, or the Bank of England, which, as 
usual at times of crisis, took a firm hold of London's 


THE CRISIS OF 1907 loi I 

operations, decided very early in the proceedings 
that it was not prepared to finance America's ' 

demands out of its own bullion-vaults. And so^ y 
it raised its rate for money, and thus, by setting fy"^ 
in motion a process, the working of which will be 
explained in a later chapter, pulled in gold from 
other centres to such an extent that some four- 
fifths of the amount shipped to the United States 
were supplied by foreign contributions. 

It was, to all appearance, a very remarkable 
demonstration of London's complete cotffrol over^ 
the world's exchanges, and an interesting feature J 
of the operation was the fact that Paris and Berlin, 
though obliged from motives of self-protection to 
let some of their gold go to assuage the American 
craving for it, did not send it direct to New Yo?k, 
butto.London. Because they knew that gold that 
Mrent to London could be got back again after a 
reasonable interval, but the state of affairs then 
prevalent in America made them very uncertain 
concerning the time that might elapse before the 
monetary arrangements of the United States could 
return to normal conditions. 

It was thus shown, by the events of this memoi> 
able crisis, that London's tremendous responsibility 
of providing gold when it is required anywhere by 
a pressing emergency, is one that can be bravely 
and cheerfully borne as long as England is in 
a position, by applying sufficient twists of the 


monetary screw, to force other nations to contribute 
their share to the common necessity. And at first 
sight it would appear that London's power to do so 
was demonstrated in a very unmistakable manner. 
Regarded superficially, the events of 1907 seemed 
to show that the Bank of England's rate has only 
to go up to a certain point, and the Bank Court 
need only to show a sufficiently stiffnecked deter- 
mination to put it still higher if necessary, for gold 
to pour in from other centres. 

Nevertheless, it must not be forgotten that the 

|. great producing power of the United States was a 

I potent assistance to Xxindon in this particular case. 

1 We have seen that the Americans left off buying 

other people's goods and sold everything they could 

sell, so making the rest of the world their debtor for 

the time being. And it is an open question as to 

how much of the gold that was drawn into London, 

and so on to New York, came because it was owed 

to New York, and how much was drained out of 

other centres by London's masterful policy. 

In most economic questions, these insoluble 
problems lie under the surface, and it is because 
it is so easy to miss them, and to ignore, or be 
ignorant of, their presence, that many people find 
it easy to be quaintly dogmatic about economic 
matters, which, in fact, become more and •more 
complicated and obscure, the more thoroughly they 
are understood. 


But whatever doubt there may be as to the causes 
of the ease and success with .which London carried 
through its task of managing the world's exchanges 
during the latest crisis, there is no doubt whatever 
that the task lay upon London, owing to its position 
as custodian of the only gold reserve which ii/^ 
available at all times to all comers. 

And hence emei^es the consideration that i 
.English banking, which we have already seen to 
depend on the sense and sanity of the public at 
home, is also liable to pressure and disturbance 
if the public anywhere in the world, in any centre 
in which eccmomtc development has made con- 
siderable progress, takes it into its head to mis- 
trust the custodians of its money. 

And ' this consideration opens up a wide field. 
Sense end sanity in money matters may be expected 
with a fair approach te confidence in the British 
public, and also in the public elsewhere. But else- 
where, in countries where bulking is less soundly 
conducted, the publicmay at times, without any 
loss of its sense or sanity, find genuine cause to 
mistrust its bankers. The mistrust of its bankers 
Shown by the American public In 1907 was pro- 
bably misplaced, as far as most of the banks were 
concerned ; but it arpse largely from suspicion of 
the trust companies, whicn conducted banking 
business on questionable lines, and were suspected 
not without reason. Between the well-conducted 


banks and the ill-conducted trust companies, the 
American public, recognizing no distinction, could 
not be expected to discriminate. The strength of 
a chain is that of the weakest link, and the reputa- 
tion of the banks of any country in the eyes of 
the uninformed public is, in times of difficulty and 
mistrust, that of the least ably managed. 

This complication, to which the leading and most 
prudent English bankers are very keenly alive, 
accounts for the energy with which they try to 
impress on their more backward brethren the duty 
of maintaining a high ideal of strength and caution. 
The latter are rather apt to resent what they regard 
as unwarranted and officious good advice from folk 
who, in their view, would do better to mind their 
own business. But banking in all countries hangs 

I together so closely, that the strength of the best 
may easily be menaced if scandal arises owing to 
I the mistakes of the worst 

' But at present we are concerned with the 
foreigner; since it has been shown that banking 
trouble in other countries is almost bound' to 
throw strain on London, and that in other countries 
banking trouble may sometimes arise from bad 
banking, we begin to ^ee how many possibilities 
have to be guarded against by the London money 
market, and with how many thousand eyes and ears 
and with how acute telepathic perception it has to 
watch the signs of financial weather. We saw, in 



examining ttie relations of the banks with their home 
customers, that the perfection of the system and 
the absolute smoothness of its working, sometimes 
produce its one defect, in the shape of an inability 
on the part of some few unimaginative bankers to 
see reason for counsels of austere prudence. And 
in the relations of the English money market with 
its foreign customers we find the same thing. The I 
system is so perfect and elastic and easy, and / 
works so freely and prettily, that at times it runs j/^- 
the risk of working just a little too welL ' 

When Falstaif was ordered on active service 
again, immediately after his Shrewsbury exploits, 
he complained that " it was always yet the trick of 
our English nation, if they have a good thing, to ' 
make it too common." Our English nation has a 
good thing in a credit system of marvellous elas- 
ticity. Clever foreigners appreciate the beauties 
of it very fully and are always ready to make eager 
use of it, raising credits here by means of finance 
' paper or other devices, and sometimes it happens 
that we "make it too common." At the time of 
the latest crisis, the London market was very 
well prepared "for possible trouble, because it 
had recently suffered from a fit of virtuous self- 
ezamination on the subject of the kind of paper 
that it was prepared to handle, and the number of 
finance bills current had been drastically reduced. 
But this is a matter which requires constant 


vigilance. It is not good business for the London 
market to give credits, too readily and too cheaply, 
against securities that could not easily be realized, 
to customers whose demands for cash are likely to 
be at any moment inconvenient The problem of 
gold reserves, of which we hear so much from time 
to time, IS only one side of a very big and many- 
sided question ; another side is the necessity for 
holding only the most readily realizable assets, 
and yet another is the need for vigilance, common 
sense and promptitude in the regulation of the price 
of bankers' money. ' The double responsibility that 
the English money market has to face, of pro- 
viding credit and currency for its home customers, 
and of^meeting drafts on London from all parts of 
the world, in gold on demand, makes its functions 
doubly interesting. And these functions will be 
most simply set forth by means of a description 
of the various members which compose its body. 

The chief and most important members of the 
London money market are the banks, bill-brokers 
and discount houses, accepting houses and foreign 
bankers, all of which are clustered round the 
central figure, the Bank of England. Their mutual 
relations and dutie^, and the manner in which the 
Bank of England regulates the action of the rest, 
can only be understood when we have seen with 
what class of work each of them is busied. 




Ws have now considered the vEirious forms of cash 
money, and the process of the manufacture of the 
money, or right to draw a cheque, which is dealt in 
by lenders and borrowers in the money market ' 
And we have seen that the right to draw a cheque 
in England carries with it the immediate and 
invariable right to demand gold, and so makes 
London the monetary centre of the world, since 
elsewhere this free convertibility of the currency 
of the country is not to be relied on with the 
same certainty. The tremendous responsibility 
undertaken by the London money market is thus 
apparent, and we have now to examine the various 
wheels of the great machine by means of which it 
carries on business. 

In our chapter on the manufacture of money we . 
formed a distant acquaintance with the greatest of 
these wheels, when we saw that tlie cheque cur^ 
rency of England is manufactured by the banks, 
largely through the loans and discounts by means 
of which they create deposits which represent 

„.■ . A.oogle 


, /mutual indebtedaess between them aod their 

The provision of currency has thus passed into 

/the hands of the other banks, and the Bank of 
England's note issue is chiefly used as a basis of the 
cheque currency which they provide, that Is, is held 
In reserve by them to meet cheques that may be 
presented for payment in legal tender cash — notes 
/ or gold. Before we go further, however, we must 
make sure of what we mean when we talk or write 
about the banks. I have beaded this chapter 
" Cheque-paying Banks," manufacturing a very ugly 
phrase in the hope that it may be clear. For it 
may be said that the essential (unction of English 
banking, which differentiates it from other insti- 
. tutions which are very nearly biit not quite banks, 
I is this fact that it gives its customers the right to 
J draw cheques against credits arising sometimes 
, I from the deposit of cash, more often from advances 
J I against security or the discounting of bills, and is 
/ prepared to meet these cheques on presentation 
\ by paying coin or notes across the counter. The 
phrase cannot claim the watertight completeness 
of a logical definition, but it is roughly descriptive. 
It includes the country banks, which in their turn 
bank with the London banks. The cheque-paying 
banks, in 'short, for the purposes of this inquiry 
must be taken to include the native banks of this 
country, with the exception of the Bank of England, 


which may be regarded either as the foundation of 
the banking edifice or as a pinnacle on its summit, 
but in any case stands by itsel£ But they do not 
include the merchant firms aod accepting houses, 
who do a business which is often described as 
banking, but do not meet cheques drawn on them 
with legal tender cash, but with a cheque drawn on 
one of the banks which we classify as cheque paying. 
It need not be said that banking groped its way 
to its present perfection through many difficulties 
and mistakes. A Royal Commission which in- 
quired into the subject in the> early part of the jt 
nineteenth century laid bare the feet that in 1793 . (£** 
more than a hundred English country banks fai!ed,r J ■> 
and that in 1810 to 1817 six hundred closed their*)/^ (b^' 
doors. Novelists of earlier generations ma^ef'? 
effective use of bad banking in the plots of their ~^^ : : 
novels, and actual fact was even more romantic "^ " , 
than fiction in the days when the speed of a post- 
chaise fiill of bullion might save a bank which was \\(' = 
troubled by a nm, and difficulties of transport c"' 
were increased by the highwaymen who infested «»''' ' 
the roads. In 1793 "a general panic was raging in _ -i. 
London; many bankers failed, some of whom acted /i,*^- ■ 
for their northern brethrea Fresh Lpndon agents 
had to be appointed and duly advertised in the 
local papers. This helped to spread alarm. Every 
holder of a note was anxious to convert it into 
gold. Scores of country bankers were in London, 


trying, by any-means, to gather the precious metal, 
with which, when obtained, they immediately posted 
home, disregarding the perils of robbery on the 
. road. The very bank that had reported ' all quiet 
and undisturbed ' en the 20th had before the close 
of the month (March) first a clerk and then two 
partners in London seeking gold, a supply of which 
tbey obtained and carried north with all speed. 
Mr. Rowland Burdon, partner in the Exchange 
Bank, Newcastle, was in the metropolis upon the 
same missioa On the return journey his post- 
chaise was stopped by footpads, who pinioned the 
banker and rifled his pockets. The bullion fortu- 
nately escaped their notice;" * 

It is recorded in the interesting work just quoted 
that the great banking family of Backhouse of 
Darlington were wont, when they found it neces- 
sary to replenish their gold store and were anxious 
to avoid the suspicions that would be aroused if 
they were known to be doing so, to drive quietly 
off in a gig as if about to visit a local meeting and 
to change into a post-chaise and four at Scotch 
Corner, a noted place on the North Road The 
practice throws an interesting light 00 the extreme 
care which had to be exercised by bankers in early 
days in order to do nothing which could possibly 
excite suspicion. ' And having mentioned the Back* 
house family I cannot avoid the well-known story 
* Maberly Pliillipt, " Histoiy of Basks, Bankers and Banking.* 

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of the attempt made, according to legend, by Lord 
Darlington early in the nineteenth century delibe- 
rately to break their bank. It is stated that he 
actually instructed his tenants to pay him their 
rents in Backhouse notes, meaning when he acquired 
a sufficient number of them to present them all at 
once, demand gold, and so make the bank put up 
its shutters. Jonathan Backhouse was apprised of 
this intention, and went off to London post-haste 
for the necessary supply of gold. On his way 
back one of the fore-wheets came off the chaise, 
and rather than wait to have the wheel replaced 
the banker piled the gold at the back part of the 
chaise, so "balancing the cash" and driving into 
Darlington. upon three wheels. "By this sudden 
coup, the bank was so well provided with specie 
that when Lord Darlington's agent presented a 
very large parcel of notes they were alt promptly 
cashed, the Quaker quietly remarking, 'Now tell 
thy master that if he will sell Raby, I will pay for 
it with the same metal'" * 

Finally, I must risk still further the charge of 
irrelevant anecdotage by telling the story of the 
man who came down the steps of his bank, the door 
of which had been closed against him, stumbled 
under the shock of his ruin into ^he arms of a friend, 
and apologized by saying, " The fact is, I had lost 
my balance" 

• Ibid. 



It would be pleasant to linger over the romance 
and humours of the primitive days of banldng, but 
it is perhaps still pleasanter, and certainly more 
profitable, to record that both the comic and tragic 
side of bank failures, as a common experience, are 
to the present generation only a matter of traditioa 
And yet they are not really a matter of very ancient 
history, and I have talked with a grey-haired 
manager of a country bank, now absorbed into a 
great joint-stock concern, who was behind his 
counter during a run and asked a customer who 
came in to draw his balance how he would take it, 
and was astonished by being asked for the bank's 
own notes. 

r The improvement in English banking has been 
iLI coincident with the development Qf joint-stock bank- 

\ ling, a fact which is the more interesting because 
•it was noted by keen-eyed Adam Smith that the 
jotot-stock system is particularly well suited to bank- 
ing. His reasons are worth quoting. "Though," 
he says, "the principles of the banking trad« 
may appear somewhat abstruse, the practice is 
capable of being reduced to strict rules. To depart 
upon any occasion from these rules, in consequence 
of some flattering speculation of extraordinary 
gain, is almost always extremely dangerous, and 
frequently fatal to the banking company which 
attempts it But the constitution of joint-stock - 
companies renders them in general more tenacious 


of established rules than any private co-partnery. 
Such companies, therefore, seem extremely well 
fitted for this trade."* 

Apart fr<Hn this regular working by nile and | 
tradition, joint-stock companies have for some time I 
been subjected to greater publicity than private 1 
firms. When there is a large body of share' 
holders, it is impossible to maintain the same digni- 
fied secrecy and reserve concerning the position of 
a business, which is generally observed by private 
enterprises: and any bank which has to issue a 
statement of its position is bound to issue a strong 
one, or it would at once be the subject of cavil an4 
suspicion, which might have unfortunate results. 
Hence-it is that publicity has compelled the banks 
to keep themselves strong, in wholesome fear of the 
criticism of their rivals and of other members of 
the monetary body. A good balance-sheet was soon 
seen to pay those who produced and published it, 
and the banks found that by giving publicity to 
their position they gained and maintained public 
confidence : so much so that nearly all the private 
banks, though not bound to do so by law, now 
publish annual or half-yearly balance-sheets. 

Publicity has thus done much for banking, and^l 
its good effects are generally recognized by thejl 
most enKghtened bankers of tonday, some of whom 
are strong advocates for its extension. The regular 
* " Wealth of Natiotu," bocA v., chapter i. 



; . publication of half-yearly balance-sheets was a great 
1/ step forward. But much may bappep between 
January i and Jime 30, and again between July i 
and New Year's Eve, and the freedom and facility 
with which the English system of banking works 
is a temptation to bankers to employ too freely the 
admirable machinery with which they supply credit 
and currency to the commercial and financial com- 
munity, and to build up too big a basis of credit on 
too small a foundation of cash. The fact that their 
doing so facilitates trade and finance and quickens 
the wheels of commerce all the more efficiently, as 
long as no untoward result follows, makes it 
difficult to advocate reform without affecting the 
interests of a targe and powerful multitude, and 
also necessitates the greatest care in dealing 
with a very delicate and difficult subject Never- 
theless, it inust be remembered ttiat trade and 
speculation that are based on inflated credit and 
inadequately secured currency carry with them 
dangers that are unpleasant to contemplate even in 
Imagination, and it may also be contended that the 
strength of the resistance to ttte more frequent 
application of publicity to the position of the 
banks is in itself a sufficient evidence of the urgent 
necessity of the reform. 

It has long been recognized that it is the duty 
of currency-creating banks to issue frequent state- 
ments of their position. The Bank of England has 

U-- . ■.C.oot^le 


published a weekly account regularly ever since 
the Act of 1844; the Bank of France does the same^ 
and so do all the chief Continental banks of issue. 
And in New York, where there is no central 
bank, there is a weekly statement of the position 
of the Associated Banks. It may be contended that 
since the Bank of England makes this weekly 
statement, and is the keeper of the ultimate reserve 
of the country, all tl^at is necessary is already 
done, and that English banking is in this respect 
quite as subject to publicity as its Continental 
counterparty But the conditions in England ara 
wholly different, for, as we have seen, the develop- 
ment of the use of cheques in England has reduced 
the position of the Bank of England's note issue to 
one of quite secondary importance as currency, 
and has made the banks on which the cheques 
are drawn, the chief creators of currency for 
this country. The publication of the Bank of 1 
England's weekly account shows how much gold it 
has, and how many notes it has issued against it, 
but tells us nothing as to how much credit the other 
banks have built up on the basis of this gold and 
these notes. 

After the crisis of 1890, which was faced with 
most satisfactory equanimity by the English banks, 
the late Lord Goschen urged on the bankers the 
desirability of a higher proportion of cash reserves, 
and, doubtless observing that in order to malnUdn 


a continually higher standard, more frequent pub- 
licity was essential, asked for monthly statements. 
His suggestion was immediately adopted by most 
of the principal London banks. This was some- 
thing gained, but the partial nature of the reform 
robbed it of much of its advantage, and attached to 
it obvious evils and unfairness. None of the private 
banks followed Lord Goschen's hint, and one of the 
greatest of them, which has since joint-stocked itself 
in conjunction with a lai^e number of other private 
firms, still remains outside the circle of monthly 
publishers of statements. And none of the country 
banks, with which the country branches of the 
London banks are in continual competition in one 
place or another, considered that Lord Goschen's 
admonition in any way concerned them. 

The bankers who had followed it were thus 
placed at a disadvant^e, if it be a disadvantage to 
have an incentive applied to them in the direction 
of prudent banking. And it must be admitted that 
from the point of view of earning dividends and 
obliging customers, that banker is temporarily 
favoured who has least inducement to restrict his 
credits according to the dimensions of his cash, 
though ultimately he runs all the greater risk of 
being a danger to himself and to the rest of the 

Certainly the banks which do publish monthly 

(statements of their position appear to regard the 


are I 



fact as a handicap to wliicti their competitors are| 
not subjected, and the reluctance of the latter I 
join the movement is presumptive evidence i 
favour of the view that they make an un£ur use of 
their comparative freedom from publicity. If this 
be so, there is clearly all the more reason why 
-publicity should be applied to them. 

Moreover, it has become evident that eveik 
monthly statements are insuCBcient if they are tol 
show the position on one day only, the day on 
which the statement is made out, and are not to 
give some evidence of the relation between the 
banks' cash and liabilities throughout the period 
covered. A periodical "tightness of money," as \/' 
I^mbard Street calls it, towards the end of every 
month, when the monthly statements of the publish- 
ing banks are being prepared, leads irresistibly to 
the conclusion that some of them call in loans ot 
diminish discounts, and so increase their cash 
holding in order to make their position stronger- 
on the day of its publication. One of them, the 
London and County, in order to show that it at 
least is no party to this system of publishing 
misleading statements, adopted early in 1908 the 
practice of giving the amount of its daily average f 
cash holding throughout the mpnth, and has thus * * 
led the way towards the abolition of a practice 
which is obviously quite unworthy of the high 
traditions of English banking. I 


It might, perhaps, be unfair to expect all the 
Aianks to give a fiill statement of the daily average 
[position of their cash and deposits, owing to the 
I extra amount of clerical work involved, and an 
' efficient alternative was advocated a few years ago 
by a distinguished chairman of the Bankers' In- 
stitute in the course of a presidential address, in 
which he suggested that all banks should publish 
a weeldy statement 

The present system by which publicity is applied 
to banking, iince a year in some cases, once 9 half- 
year in others, and once a month in others, is clearly 
illogical and unfair, and the fact that obstinate re- 
sistance is offered to publicity, especially by certain 
of the country banks, only shows how necessary is 
its application. 

As will be seen later, the question is intimately 

{connected with the wider problem of the collective 
gold reserve, and it has been insisted over and over 
again by practical and distinguished bankers that 
the proportion of cash to liabilities, in the case 
especially of some of the country banks, is in- 
adequate, and that periodical publication of their 
position is an important step towards a remedy for 
this eviL All that is asked of the banks is that they 
y should show what they are doing, and the reluctance 
R of some of them to do so is not a favourable sign. 
' The fact that the great majority of the banks do 
give adequate attention to the relation between 


their cash and their liabilities rather increases the 
difficulties of the question, because it brings into 
being a school of thought which maintains, after the 
manner of Doctor Pangloss, that all is for the best 
in the best of all possible banking worlds, and 
resents any suggestion of improvement as an 
impertinent intnision; but these optimists must 
remember that, if ever banking trouble should arise 
lo this country, they must not expect the public to 
discriminate too nicely between the good banks and 
the less good, so that an indiscretion on the. part of 
a weaker brother might cause serious inconvenience 
to bankers of the most strait-laced virtue. But the 
more frequent publication of accounts is a matter 
which will inevitably be settled, and let us leave it 
with the hope that the next step will not, like the 
last, be taken by the banking world as the result of 

It has already been stated that the great im- 
provement in English banking, which has changed 
the picturesquely exciting system illustrated at the 
beginning of this chapter for one of monotonous 
solidity, has coincided with the development of 
banking by joint-stock companies. And it is in- 
teresting to note that the law of the land, as far as 
it could, presented an insuperable obstacle to this 
development It gave a monopoly of joint-stock | -|^^ 
banking in London to the Bank of England, but it 1 
defined banking,as banking was when this monopoly 1 ' i 



was given, as the right to issue notes. But when 
the nature of banking changed, and it became 
the business of a banker not to give a customer a 
credit and let him take out notes, but to give a 
customer a credit and let him draw cheques, it was 
perceived that the Bank of England's monopoly did 
not prevent the establishment of joint-stock banks 
in London ; and so the law, in spite of its manifest 
intention, was practically annulled by a change in 
banking practice which its framers could not 
possibly have been expected to foresee. 

It was in 1834 that this discovery bore fruit in 
the foundation of the London and Westminster 
Bank, and since then it may be said that English 
banking has passed into the hands of the joint-stock 
banks by their rapid development, by the readi- 
ness with which they absorbed the old private 
banking firms, and finally by the action of a large 
number of the latter, which were amalgamated in 
1896 into a great joint-stock bank, named Barclay 
and Company, after the principal firm among its 

The distinguishing feature of the new banking 
which has thus grown up is the system of banking 
by branches. In former days each bank stood by 
itself with its customers all in one neighbourhood, 
and if it had branches they were quite few and con- 
fined within a comparatively small area. The new 
banking opens branches all over the country, or 



buys the interests of other banks, and seems to 
seek to diffuse its business as widely as possible. 
The consequence is that English banking, instead 
of consisting of a lai^e number of small firms or 
companies providing monetary facilities each for 
its little band of customers, has been systematized 
Into a compact anny, composed of a few well- 
regulated and strongly equipped regiments, each 
of which has its companies and outposts scattered 
up' and down a big area, but worked from a common 
centre, and with excellently organized arrange- 
ments by which the needs of each district can be 
witched over and provided for. 

This development has great advant^es, the 
most obvious of which is the imposing magnitude 
of the gigantic modem banks as compared with the 
pigmyfirms of the old system of separate entities. 
Since the banker trades on public confidence, and 
size is the most impressive quality for striking the 
public imagination, the process of amalg^ation 
and branch building has certainly strengthened 
banking in a most important respect And it 
need hardly be said that it has also done a great 
work in regulating the ebb and flow, of monetary 
facilities and providing a numt^er of channels, 
all connected with the central reservoir, by which 
the process of financial irrigation can be most 
easily and cheaply conducted, and the supply can 
most readily be applied to any part that may 


happen to be sufiering from drought As long as 
all goes well in the world of banking -the present 
system will readily be acknowledged to be a greaV,- 
Improvement on its predecessor^ ^ 

At the same time, it must not be forgotten that 
this multiplication of bank branches has also 
multiplied the number of points at which the bank- 
ing body is vulnerable, and that, if it should so 
happen that all did not go quite well in the banking 
world, and every branch open became a sucker 
Instead of a feeder, the magnitude of the defenders' 
task would be greatly increased by the diversity 
of the outlets for the banks' life-blood A cash 
reserve which would be adequate enough for 
an institution which keeps all its liabilities under 
one roof may easily be meagre for one which has 
smaller liabilities scattered over different points in 
a score of counties. 
\ From this point of view the size of a bank, which 
y Is so striking an indication of solidity in the eyes 
of the uninstructed, presents a different aspect on 
closer examination. For it is usual to measure the 
size of a bank by its deposits, in other words by its 
liabilities, and by the number of its branches. And 
when the liabilities are not only great but wid^ 
spread, they become still more misleading as a test 
of greatness. In estimating the wealth of an indi- 
vidual we should hardly begin by enumerating the 
number of millions that he owed, and the number 



of places in which he owed then;. We should 
admire the magnitude of his credit operations, but 
in assessing his solidity we should most of all want 
to know how liquid were the assets which he held 
against this mass of debt And so with banks. The 
bigger they are, and the more widely scattered 
their places of business, the greater is their need 
for prudence and foresight It need not be said 
that these platitudes are fully recognized by those 
tn charge of the many-branched banks. 

We have seen that the banks, by creating the. 
cheque currency with which English commerce and 1 ^ 
finance is now conducted, play a supremely impor* I ^ 
•Inrt and responsible part in the domestic economy | 
of the London money market But this is only \ 
one side of their importance. They also, in normal 
times, that is, at times in which it is not necessary 
for the Bank of England to intervene and control ^ 
the position, regulate the price of money in London t Ifir 
as indicated by the rate for day-to-day loans and 1 
short fixtures, and the discount rates for bills of all I 
dates. To A certain very limited extent, it is true, * ' 
they are controlled or affected at all times — or at 
nearly all times— by the Bank of England's official 
rate, because the allowance that they make to 
depositors for the use of their money is generally 
—though not invariably — i^ per cent, below Bank 
rate. But, besides the funds which they hold on 
deposit, they also have very large sums left 


with them on current account,* on which they in 
most cases pay no interest at all, so that it often 
happens that they can and do lend in the money 
market at a lower rate tlian they pay to depositors. 
And the price at which they lend in the money 
market makes the market rate for loans, except on 
quite rare occasions. 

It seems to be impossible to go straight forward 
in this inquiry, and now we must pause and ezplaia 
the meaning of this phrase, the market rate for loans. 
If I may be allowed to express it with a view to clear- 
ness and simplicity rather than fulness and precision, 
it means the rate at which the banks are prepared to 
lend money — or the right to draw a cheque— to the 
bill-brokers. The bill-brokers ought to be explained 
too, but they must wait for the next chapter, and in 
the meantime can be described -roughly as s'pecialists 
who devote themselves to discounting bills, or act- 
ing as intermediaries in the discountiog of bills. If 
you look at the ag^egate bank balance-sheet drawn 
up to illustrate our chapter on the manufacture of 
money, you will see on the right-hand side among 

■ The only bank* which at present separate current from 
deposit accounts in theii bidance-sheeta are — The Union of London 
and Smith's Bank, Messrs. Glyn, MiUs, Carrie & Co., and Hetm. 
Hoarc On June 30, 1908, the Union owed ^£34,304,000 on 
GDurent account, and £11,813,000 on deposit account, the former 
being thus rather oiore than 'double the latter. At the same dat« 
Glyn'i current accounts were ^£10,009,738, and their deposit 
accounts ;£4,3S9,48&, On July l^ Messrs. Hoare showed current 
accounts j^i|885,8i9, and deposit accounts ^£561,519, 

I, Google 


the assets first the cash in hand and at the Bank of 
England, th% bank's first line of defence, and then 
" loans at call or short notice." * These loans are 
made day by day by the banks to the bill-brokers, 
money lent to whom is regarded by bankers as a 
second line of defence, since it is habitually placed 
either " at call " from day to day or for periods which 
do not usually exceed a week; and can thus, in 
theory at least, be called in readily. The phrase also, 
in some cases, covers loans from banks to stdck- . 
brokers ; but when the rate for money is quoted in 
the City, it usually means the rate between banks 
and bill brokers. And any one who reads the open- 
ing paragraph of a newspaper money article and is 
puzzled to find that there was very little demand for 
money, and. day-to-day loans were easily to be had 
for some apparently absurdly unremunerative rate, 
need not therefore infer-— as sometimes happens — 
that a great revolutfpn has been effected in human 
nature, and that money is no longer an object of 
man's ambitioa The phrase generally misleads 
those who are not used to City jargon, and I once 
heard an indignant gentleman in a railway carriage 
vehemently asserting that the newspapers talked 
Infernal nonsense, because he had apparently 
strayed by some mistake into the money article of 
the one that he had been reading, and had learnt 
from it that money was " unuseable," and that 



balances had been offered in vain at i per cent It 
appeared that he had spent the previous day in a 
fruitless endeavour to induce his bank to allow him 
an overdraft on the security of certain pictures, 
apparently his own works, and of quite proble- 
matical value; he had offered to give up to lo per 
cent for the accommodation, and was so deeply 
stirred by the statement that there was no demand 
for money at i per cent that be roundly dismissed 
all City journalists as unfit even to be art critics, 
which appeared to be the extreme limit of condem* 
nation in bis opinion. 

It is very important that the meaning of the word 
"money" as used in the Qty should be clearly 
grasped, for we shall find that the rate for this 
money and the facilities for getting if are most 
important wheels in the machine, and it is essen- 
tial to keep a tight hold of the correct significance 
of the phrase. 

Money, then, has a special sense when spoken 
of by the chief dealers in it, thus presenting yet 
another example of the confusing inconsistencies of 
economic nomenclature. In this sense it is usually 
a loan granted by a banker to a bill-broker for a 
day or for a period not exceeding a week. The rate 
for this class of accommodation thus represents the 
price of the right to draw a cheque given to a 
borrower of the highest possible credit against 
securities of the tiigbest possible class, and for the 


shortest possible period And it is thus quite mis- 
leading to draw any inference from it concerning 
the rate that ought to be paid under different 
/' This rate is, in normal times, practically decided 
\ by the cheque-paying banks. Other lenders, such 
as the Indian Government'? representatives, or the 
finance houses or merchants, sometimes have large 
balances employed among the bill-brokers, but the 
deciding voice concerning the value of th^ rate for 
short loans is ultimately that of the banks. And it 
is in the extreme elasticity of this rate that we 
begin to detect the great difficulties that have to be 
coped with by those who control the London money 
market I must be allowed for the moment to beg 
the question that the London money market has to be 
controlled, and to add that many of the difficulties 
^t London's position arise from the fact that many 
members of the money market do not adequately 
recognize that it has to be controlled, and that even 
those who do waver constantly between the horns 
of a dilemma which is ever present, one being their 
own immediate interest, and the other that of the 
market as a whole and in the futures 

For example, any given bank^ at any given 

moment may most reasonably consider that the 

rate at which he lends money 'to the bill-brokers is 

"a question which merely concerns himself and his 

duty to his-sh^eholders. He has so mudi cash, so 


. much invested in securities^ so much advanced to 
customers, and a further proportion which he can, 
according to the rules by which he regulates his 
business, lend to the bill-brokers at call or short 
notice. Any rate for this is better than none, and, 
if the bill-brokers only bid him i( per cent 
for it, why should he not take it rather than lose 
the profit to be made by the creation of so much 
credit 7 If be does not, be will very probably cause 
the bill-brokers to go across the street and bid a 
rival bank i^ per cent, and the only result of 
his abstinence will be to swell the profits of 
a competitor. From the point of view of the 
individual banker these arguments are irrefutable. 
And yet it is much to be desired that some 

. system could be devised of more harmonious agree- 
ment among bankers as a whole, by which the rate 
for money, in the City sense of the word, could be 
made less mercurial, and especiaUy could be pre- 
vented fi-om falling to a merely nominal level, and 
so, as we shall see, unduly depressing discount rates, 

N encouraging all kinds of kite-flying and the pro- 
duction of finaoce paper, turning the foreign ex- 
changes against London, and increasing the diffi- 
culties of those responsible for the maintenance of 
the gold reserve. 

We have seen that the banks supply. English 

\ commerce and finance -with most of its currency, - 
and also regulate the price of money i^he money 


market^ But we have not nearly exhausted their 
important functions. They also, in normal times,! 
are chiefly responsible for regulating the discount! 
rate in London, that is, the rate at which bills of 1 
exchange drawn, as described in a previous chapter, ■ 
for payment at a future date, can be turned into 
tmtgediate cash. This market rate of discount is 
an even more momentous matter than the market 
rate for money, because it has a very important 
bearing on -the foreign exchanges, another of the 
complicated questions which have to be dealt with 
later onu^.The importance, in fact, of the marketyj 
rate arises largely out of its effect on the 1 1 
market rate of discount; if the bill-brokers are/ | 
supplied freely with money at low rates, and think 
that they see a probability of the continuance of 
this free and cheap supply of credit, they are 1 
naturally encouraged to discoun^ills at low ratesi-'V 
so that the banks which regulate the money rata / 
thus exercise a strong and direct influence on thq ' 
discount vate. v 

But they also exercise a still stronger and more \ 
direct ^ne by being themselves large discounters 
of bills, so much so that many bill-brokers contend 
- that it is the bankers who directly determine the 
market rate of discount And this is probably true, 
fqrmostofthe bill-brokers are chiefly intermediaries, 
^nd only discount bills with the object and intention 
of promptly rediscounting the greater number of 


them ; and the bankers are the chief buyers with 
.whom they can most regularly count on placing 
the bills that they take ; consequently, when ft is 
known that two or three of the chief banks are not 
talcing bills below, for example, 3 per cent, this 
.^^ fact has a marked effect on the market rate of dis- 
count, that is, the rate quoted by the bill-brokers. 
f And as the market rate of discount is an important 
/ , factor in influencing the foreign exchanges, which 
in tiurn are an important factor in influencing the 
inward and outward movements of gold, we come 
round once more to the great importance of the 
. policy pursued by the banks with regard to dis- 
counting bills. 

^ Still more important sind delicate do their duties 

f become when there arises any question of dia- 

I criminating between the classes of bills that will be 

I taken, whether the objection be to bills of a certain 

I kind, or to bills drawn on a certain house. By 

merely intimating to the bill brokers that he does 

not want many * " house bills," or many bills drawn 

on a certain name, or that he is not taking paper 

which is too obviously of the kite-flying order, a 

bank manager can at any time profoundly aifect the 

inner working of the financial machine. The exercise 

of such a power has to be handled with the nicest 

discretion, for any such intimation, especially when 

- the paper of any particular accepting house is 

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objected to, generally produces a good deal of 
gossip and conjecture, and is certain to have some 
effect on the credit of the firm that Is indicated as 
having been accepting more heavily than its re> 
sources are considered to warrant 

And this part of the bankers' duty in watching 
over the volume of acceptances, and seeing that the 
accepting houses do not overstep the bounds of 
prudence, is complicated by the fact that the banks 
have themselves lately taken up the business of 
acceptance to a greatly increased extent But this 
feature in their business will be more fitly discussed 
when we come to consider the position and function 
of the accepting houses as such. . 

Finally, the bankers fulfil a highly important\%/ 
function by providing credit facilities for Stock I 
Exchange speculation. This they do both directly 
and indirectly. Directly by making loans to their . 
customers on the security of stocks and shares 
which the latter buy, not as investments, but be- 
cause they think they will rise in price, or will return 
a higher rate of interest than the rate which the 
banker will charge for the loan; and indirectly by 
making loans to members of the Stock Exchange 
which the latter employ in financing the speculative 
commitments of the public The rates earned by 
bankers for this kind of accommodation are gene- 
rally profitable, and the most strait-laced moralist 
would hardly question their right to proVide credit 


for this purpose. In fkct, in the case of direct loans 
to his ordinary customers, the banker need not 
necessarily know that the transaction is intended 
for speculation. Let us suppose that you arrange 
with your banker for an advance against a line of 
Argentine bonds, which you want to buy because 
you think you see a chance of reselling them at a 
profit, or because you can buy them to pay you 
5 percent, and you can get a loan from your banker 
at 3 per cent, and pocket the difference of 2 per 
cent In such a cas^ as far as your banker knows, 
you may want the credit in order to buy a house, 
or to engage in some productive commercial opera- 
tion. Nevertheless, in most cases he is probably 
In a position to make a fairly accurate guess, and 
when he is lending directly to members of the Stock 
Exchange, he knows well that in nine cases out of 
len^he is financing the purchase of securities by 
those who for one reason or another are not in a 
position to pay for them, and so is focilitating the 
speculative holding of stocks as opposed to the 
real possession of them by investors who have 
paid for them out of savings. 

By performing this function, within due limits, 
the banker is carrying out a perfectly legitimate 
side of his business, and assisting operations which 
are beneficial to the community as a whole. The 
majority of speculators probably lose more money 
than they make, but If they choose' to Indulge in 

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this expensive form of amusement, it is not their 
banlcer's business to interfere with it, and during 
the course of the process they are unconsciously 
rendering a financial service by promoting the 
freedom of markets and facilitating dealings in 

Nevertheless, the readiness with which banker^ i 
can place credit at the disposal of speculators | 
sometimes has bad effects, which have to be 1 
watched for carefully by those who regulate the I 
supply of it 

For example, there can be no doubt that it was 
an important cause, among others, of the abnor- 
mally high level to which the prices of well-secured 
stocks were forced in the period of exceptionally 
cheap money in 1896-97, when Consols touched 1 14, 
and "gilt-edged" securities could with difficulty be 
found to yield the buyer 2i per cent This state 
of things was a great hardship to the real investor, 
and was undoubtedly brought about to some extent 
by the number of enteiT)rising folk who borrowed 
from their banks at i per cent or so against gilt- 
edged securities yielding 2^1 per cent, and pocketed 
the. difference accruing from the yield on the stock 
and the profit arising from the advance in its price, 
which continued merrily up to a point The de- 
moralization of the gilt-edged market, dating from 
that golden period, and quickened by subsequent 
wars and other causes, is still being painfully 



lived down. But this is a point wliicti perhaps 
does not directly concern the banker, as such, 
though as a large holder of securities he is affected 
by any tendencies which warp the true course of 
markets. Still, he is quite justified in arguing that 
he is not to blame if his customers, by the use that 
they make of the credit that he gires them, pro- 
duce abnormal effects on prices. 

More to the purpose is the fact that Stock 

^ Exchange securities are only to a limited extent 
liquid, that is to say, realizable at a moment's 
notice, and that the more a banker wanted to call 
in credit granted against them the less liquid they 
would be. It was once gravely contended by a 
gentleman who was opposed in principle to the 
existence of Government debts, that if every holder 
of Consols wanted to sell at once, and there were 
no buyers, the price would be nit. Which is one 
of those absurd truisms which contain their own 
refutation in their, very truthfulness, but never- 
theless are only caricatures, so g^tesque as to be 
unrecognizable, of a very real fact In this case 
the fact is the less exciting platitude that the more 
people there are who want to sell stock, and the 
fewer who want to buy it, the lower its price will 
be, and the-less easy it will be to sell it at all It is 
boasted that the market in Consols is so free that 
they can be sold on Sunday. And there are other 
securities enjoying the advantage of an international 



market, that is, of being freely dealt io in Paris 
and on the other Continental Bourses, which can 
really be disposed of at any time, at a price. But - 
they are not many, and in times of difficulty or 
crisis, the possibility of which can never be wholly 
absent from the mind of a prudent banker, it is' 
quite conceivable that securities, quoted ofHcially 
at substantial prices, could not be turned into cash 
on any terms, and that the lending banker might 
find the credit that he had granted used to draw 
away his cash, without being able either to compel 
his customer to repay him or to convert the col- 
lateral and so replenish his resources. 

From this it must not be inferred that bankers 
commit any indiscretion in conducting this class of 
business. All these matters are questions of degree^' 
and if due attention be given to the class of security 
advanced against, and the extent to which these 
transactions are entertained, nothing can be said 
against them by a reasonably minded critic As we 
have seen in a previous chapter, the finest class of 
security for a banker to hold or to finance is the 
bill of exchange drawn against real produce of \ 
universal consumption which is moving into the 
hands of those who will consume it, and so will 
pay for itself in due course. In all other securities 
the existence of a buyer to meet the views of the 
seller is more or less problematical However 
intense the panic, the human race must be fed 



and clothed, but the extent to which it will take 
securities from those who want to sell them will 
vary in an inverse ratio to the severity of the panic. 
And though it would be absurd to argue from this 
ground that bankers ought to hold nothing but 
produce bills, it is quite relevant that the limits to 
the negotiability of some other securities should be 
constantly kept in view. 

This chapter has grown to a portentous length, 
which must be excused owing to the great impor- 
tance of its subject " I am always willing to run 
some hazard of being tedious in order to be sure 
that I am perspicuous," said Adam Smith, and was 
fortunate in being able to write so confidently. I 
have to face the certainty of being tedious, and can 
only hope that I run some hazard of being per- 
spicuoua What I have tried to make clear is the 
{ enormously important function of the cheque- 
L P^yitiS banks in the English money market. Reca- 
pitulated in tabular form it may be expressed 
thus: — 
iGl By providing their customers with cheque- 
\^ooks they create the currency which settles the 
great majority of commercial and financial trans- 
actions and much of the retail tra£5c of daily 
^0 By discounting bills and making advances to 
^ I bill-brokers and other customers they create the 
credits by which commerce and finance are carried 


on ; and fhese credits become in turn their liabili- 
ties on current and deposit account 
J rG^They regulate, in normal times, the current rates 
/ Er money in London. 
UcjThey regulate, in normal times, the discount 
rates current in London, which have an important 
effect on the foreign exchanges, and so on the 
maintenance of London's gold reserve. 
J (^(V/They are large acceptors of bills, and so, again, 
\ facilitate commerce and create instruments which 

are readily convertible into cash or credit. 
pS)By advancing to customers or stockbrokers 
■T \ against Stock Exchange securities they facilitate 
i speculation, and thus to some extent affect the 
prices of stocks and shares. 

It is a tremendous function, and it follows 
obviously that the cheque-paying banks are in the 
aggregate the most important members of the 
financial body. We shall find that, with one ex- 
ception, the other members asre more or less 
dependent on them, and can only work with the 
assistance of the credit created by them. The one 
exception is the Bank of England, which exercises 
special functions which will be more fully described 
hereafter, and in abnormal times regulates the 
whole course of the money market But even^it 
derives much of its power from the &ct that it 
acts as banker to the cheque-paying banks. 



We have seen that the main functiQDS in the manu- 
facture of credit and currency are performed by the 
cheque-paying banks, and we have now to examine 
the operations of several minor but important 
subsidiaries, which the specializing tendency of 
civilization has called into being. 

The banlES manufacture money by making ad- 
vances, that is, giving the light to draw cheques, 
against all kinds of security and by buying or, 
according to the technical phrase, discounting bills, 
that is, giving the immediate right to draw a cheque 
or cash in return for an instrument which conveys 
the right to cash at a later date. The bill-brokers 
appear to have originally performed the function of 
intermediaries between the banks who were buyers 
of bills and the merchants who had bills to dispose, 
of. This function they still carry on to a great 
extent, and, in so far as they remain bill-brokers, 
this is the chief part of their business. But several 
distinctions' have arisen through the natural ten- 
dency to diversification of function, and it may now 




be said that there are roughly three classes of firms 
to be included under the titles which head this 

(i) There Is the bill-broker pure and simple, who 
devotes himself entirety to.taking a parcel of bills 
from the merchants, accepting houses, foreign and 
colonial banks, and other chief agents, who receive 
them in batches by every mail, and selling them 
there and then on the best terms that he can obtain, 
receiving a commission for his pains, and for his 
knowledge of the market This variety, which is 
the real survivor of the original bill-broker, is now 
comparatively rare. It is commonly described by 
the term "running broker." 

(3) There is the retail dealer in bills, who is still 
generally called a bill-broker, but does not work on 
commission but buys bills outright, either from the 
running broker, or from the merchants and accepting 
houses, or from foreign correspondents, but never- 
theless does not, as a rule, hold them himself luitil 
they mature, but sells them to the banks and other 
/ buyers, selecting the dates and classes of paper that 
^ the several buyers may happen to require. From 
the nature of his business, the retail dealer requires 
more capital and credit than the bill-broker pure and 
simple, because it may sometimes happen that his 
goods may remain on his counter for more or less 
time, until they happen to suit the fancy of a pur- 
chaser His capital, however, is, as a rule, small 


when compared with the volume of his turnover, 
and he depends on credit, most of which is advanced 
by the banks, for the financing of the bills of 
which he daily remains the holder. It will be re- 
.' membered that the banks habitually have consider- 
'^ able sums lent to bill-brokers "at call and short 
notice," and that these loans were described as their 
second line of defence, as being most easily called 
in. Their first line of defence, as need hardly be 
repeated, is their holding of "cash in hand and at 
the Bank of England." 

t(3) Out of the retail dealer in bills has grown 
fie discount hou se, an institution which still does a 
ertain amount of retail business, but is at the same, 
time in a position, owing to larger capital and more 
( extended credit, to "run a much bigger book," as 
^the jargon of the craft would phrase it ; that is, the 
discount house is to a greater extent a permanent 
holder of bills and depends in a minoraegTee~on 
the momenliffy fluctuations in the price of credit 
Nevertheless, the discount houses are very large 
users of borrowed money, and regularly announce 
rates which they allow to depositors, these being 
generally slightly above the rates offered by the 
banks. Owing to this fact, of the slightly better rate 
I allowed by them, they generally have the control 
1 of a considerable amount, placed on deposit with 
\ them by merchants and financiers, but at the same 
time, though their dependence on credit supplied 


by the banks is not as great as in the case of the 
retail dealer in bills, it is still sufiScient to make 
a serious difference to their operations, whenever 
the banks have occasion to reduce their loans. 

Having thus, for the sake of being perspicuous, 
classified and distinguished the three kinds ^of 
dealers in hills-, we may proceed to eliminate the 
real bill-broker, the almost obsolete dealer on com- 
mission, and to apply the term bill-broker to the 
two classes who have grown out of him and are 
still called by his name^ in accordance with the con- 
sistently illogical manner in which the City applies 
titles and descriptions. 
. As we have seen, the distinction between the 
other two classes is solely one of degree, the degree 
being the extent to which they hold bills perma- "^ 
nently, and depend for financing their operations 
on credit obtained from the banks. At the head of 
the body stand some few private firms of old stand- 
iag, great wealth and first-rate credit, side by side 
with two big companies which have applied the 
joint-stock system with considerable success to the 
business of dealing in . bills, and an old firm which 
has now been joint-stocked, but whose capital is 
held privatelyand in few hands. Underthis leader- 
ship the market is compact and well-organized. 
The business is one which requires exceptional \ 
abilities and alertness, and the market rate of ^ 
discount in London is perhaps the most sensitive 
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and trustworthy barometer of interoational mone- 
tary conditions. 

It was stated in the last chapter that the market 
rate is reflated in normal times by the banks, and 
we have now seen more clearly why this should be 
so, having found that the bill-brokers depend to a 
great extent on the banks both to supply them with 
credit and to buy bills from them. Nevertheless, 
though the average level of the rate is thus regu- 
lated, the action of the bill-brokers themselves has 
an important influence on its daily fluctuations and 
so may make a considerable difference to the move- 
ments of the foreign exchanges. 

In order to realize the complicated nature of the 
problem that has to be solved by a bill-broker when- 
ever he buys or sells a bill, let us endeavour to 
enumerate some of the chief considerations which 
determine his judgment on the points that have to 
be home in mind. We will suppose he is offered 
a line of first-class paper due in three months' time, 
the present date being the lait week in June. 

But first it will be necessary to try to get a clear 
understanding of the meaning of the terms in which 
the discount market expresses the conduct of its 

We will suppose then that the bill is offered 

to the broker at 4 per cent, that is to say, that 

4 per cent per annum is the rate of interest 

which is deducted from the face value of the 

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bill, which it will realize in three months* time, in 
order to induce him to give cash for it In other 
words, he is asked to give £99 to-day for each ;tioo 
in the amount that he will receive on presenta- 
tion of the bill on maturity. As the calculation of 
discounts is very puzzling to the uninstructed in- 
quirer, perhaps it is better to be still more arith- 
tnetically elementary, and point out that as three 
months is a quarter of a year, the 4 per cent per 
annum is divided by four to arrive at the dis- 
count for three months, and hence it is that since 
the current discount rate is 4 per cent, we must 
knock £1 off each ;f 100 of the bill's face value on 
maturity in order to arrive at its cash value on 
this basis. This rough calculation is only an illus- 
tration, of course, and the bill-broker, or his clerks, 
will work the problem out much more finely on 
the actual number of days in the bill What has to 
be made clear is the fact that a bill is a security I 
with a price, just like the stocks dealt in and quoted 1 
OD the Stock Exchange, but that, instead of quoting 
the cash price for it, the market quotes the discount 
or the differeQCe between its cash price and its face 
value on maturity. It is quite reasonable and simple 
when one thinks it out, that an instrument that 
will realize £100 in three months' time should only 
be worth £99 at the present moment, if 4 per cftnt. 
per annum be the current rate arrived at by the 
higgling of the money market But the number 



of people who have never taken the trouble to 
work out this elementary but tiresome problcnij 
and consequently flounder when they think or talk 
about the discount market, is a continual astonish- 
ment, and must be my excuse for giving so much 
space to a statement which is about as informing 
as I + I B 3. 

Another frequentrcause of confusion in this con- 
nection, though it also is dissolved by a moment's 
thought, arises out of the fact that the market 
is described as firm when discount rates go up, 
that is, when the price of the bill goes down. A 
firm discoimt market would result, we will suppose, 
in a'rise in the discount rate from 4 to 4| per cent, 
and the result of this would be that the cash value 
of a bill with a year to run (for the sake of simplicity) 
would fall from 96 to 95}. It is quite clear and 
reasonable that if money is more valuable the 
; , present price of a bill that will not mature for a 
U' year becomes less, because the buyer is giving 
immediate cash in return for the promise of cash a 
year hence But to people who are accustomed to 
the expressions current on the Stock Exchange the 
notion of a firm market resulting in a fall in the 
price of the securities bandied in it is often very 
r confusing, for on the Stock Exchange, when they 
/ talk of a firm market, they mean one in which there 
. f is a strong demand for the securities handled by 
•J it and a consequent rise in prices. When the 



Consols market is firm Consols j 
discount market is firm bills : 
only another way of saying that c 
the commodity in which the market i 
goes up. 

All this is very platitudinous, but I have known 
an occasion on which a financial journalist was 
taken to task, by a man of high standing in the 
City, for stating in hi^ money article that the 
discount market was weak, with easier rates, owing 
to the scarcity of bills. In this case a practical 
banker of many years' experience bad fallen into this 
trap, so that I must be excused for giving a consider- 
able amount of space to the endeavour to warn less 
well^nformed inquirers against it- A moment's 
thought shows that when bills are scarce and in 
demand, buyers who want them will have to take 
them at lower rates, that is, at higher prices, so that 
'the newspaper statement objected to was perfectly 

Having done our best to put a fence round this 
tiresome pitfall, let us return to our bill>broker, 
who is still wondering whether to buy a parcel of 
three months' bills at 4 per cent in the last week of 
Jane, and let us examine a few of the principal 
iactors that will determine his decision. 

In the first place he has to consider the immediate^ 
circumstances of the market and the prospect 
being able to resell the bills forthwith a 

le immediatet 
ospect of his I 
1 at a profit, \ 

■ .C.oot^lc 


or to finance them comfortably if he be obliged to 
retain them. 

The last week of June is a most unencouraging 
period from this point of view. The close of the 
two halves of the year are habitually marked by 
two processes, both of which severely restrict the 
supply of credit and of cash. In the last week of 
June and the last week of December an enormous 
volume of actual payments is made throughout the 
country, increasing materially the demands on all 
the banks for cash, and, at the same time, a large 
number of firms and companies, including some 
of the banks themselves, are making preparations 
for their half-yearly balance-sheets, that is to say, 
reducing credits granted to customers, and so 
increasing the proportion of their holdings of cash: 
As there is not enough cash to meet these two 
demands, it is nearly always necessary for the Bank 
of England to fill the gap ; and in the period im- 
mediately preceding the turn of the two half-years 
it is usual for borrowers to go to the Bank of England 
and obtain credits with it for sums which sometimes 
amount to fifteen or twenty millions. Part of 
these credits is used for the withdrawal of actual 
currency, notes and gol^, for the cash payments 
that have to be made all over the country ; the rest 
is left to the credit of the borrower — or some one 
to whom he transfers it — in the books of the Bank 
of England, and the financial community is thus 

I); ,l..oi">t^le 


enabled to show a fine round sum of "cash in hand 
and at the Bank of England," a credit in the Bank 
of England's books being universally regarded as 
quite as good as, and much safer than, so many 
sovereigns in the pocket 

Our bill-broker, of course, has no need to think 
of all this ; it is all so well known to him that it is 
part of his being. But it is a very important factor 
in the problem that he is debating. For the first \ 
consequence that arises is the probability, or cer- 1 
tainty, that he will be unable to resell the bills to I 
the banks, or to other regular buyers. At such a | 
season, the banks are most unlikely to increase 
the number c^ their bills, and will probably not 
even replace those that fall due and are paid off. 
They will have a considerable stock of bills in their 
portfolios bought with a view to the cash demands 
at the end of the half-year and maturing within this 
very week; and the maturity of this paper will be 
one of their weapons in providing the cash that they 
will require for their customers and themselves. 

Since, then, the bills under consideration by the 
bill-broker will not be easily convertible into im- 
mediate cash, he is faced by the problem of having 
to finance them himselC And from what' has been 
said above it is clear that during the next few days 
this is likely to be an expensive matter. * 

As we have already seen, the bill-brokers^ 
depend largely on a supply of credit from the banks I 


>, for financing their business, and our friend has, 
\ in all probability, been already apprised by his 
Ibankers and other providers of credit that they 
ihave, at the present moment, other uses for their 
funds. For the advances to bill-brokers have been 
described as the banks' second line of defence, and 
when they wish to increase their first line, which 
is their cash in hand and at the Bank of England, 
or to maintain it when it is diminished by their 
customers' demand for currency, they at once do so 
by calling in these loans to bill-brokers. So that 
far from expecting to be able to obtain the where- 
withal, from ordinary sources, for financing the 
parcel that is offered, the bill-broker ,in question is 
probably already severely pinched in the matter of 
credit, and knows tha.t if he takes these bills he 
will have to borrow from the Bank of England is 
order to pay for them. And borrowing from the 
Bank of England is an expensive operation, since 
it usually charges, for advances, i per cent aboiw 
Its official discount rate, which, again, is almost 
always well above the loan rates current in the 
outside market. 

So much for the adverse aspect of the immediate 
conditions. Against them we have to set the keen- 
ness of the seller, which induces him to offer an 
exceptionally fine parcel of bills at a rate which is 
tempting to the buyer, a high rate, that Is to say, 
which means a low price for the bills ; also the fact 

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that as most buyers of bills are cramped Id the 
matter of credit by the seasonal demands already 
alluded to, and so are not in a position to compete 
eagerly for them, the present moment is a time in\ 
which the bold bargain-hunter, prepared to face the 
inconveniences of the moment, can often reap fine ' 
profits by the exercise of a capacity for disregarding 1 
immediate loss. 

The forbidding appearance of the immediate 
conditions thus works both ways. In order to take 
the bills the broker knows that he will have to 
borrow from the Bank of England for at least a '^ 
week, and that the higher- rate paid for this tem- 
porary accommodation will make a hole in the 
profit that he hopes to make on the bill during the 
course of its currency ; but if future prospects are 
Inviting he will be willing enough to do this, and 
it is the future prospect that will sway his decision. 

And now the vastness of the problem really 
begins to open itself out, and our broker, if of an 
imaginative turn of mind, may well fancy himself 
like a doubtful partisan, standing on 'a hill-top and 
vainly trying to peer through thick mists, with the 
aid of a somewhat ine£Bcient spy-glass, into a great 
plain in which a battle is being waged by a number 
of forces of shifting and incalculable strength, and 
knowing that his life depends on throwing in his ' 
lot with the winning side. 

In the immediate futur^there lies the probability 


of a spetl of cheap money, when the usual reaction 
takes place after the satisfaction of the temporary 
demands at the end of the half-year, and after the 
distribution of the dividends on Government stocks 
early in July, which results in transferring to the 
handsoftheordinarybankssomefouror five millions 
previously held by the Bank of England on behalf of 
the Government These millions then become avail- 
able at the market rate for loans, instead of at Bank 
rate, or ( per cent above it After that, according 
to the normal tendency of the year's monetary his- 
tory, the demands of holiday-makers and harvesters 
at home ought to begin to tell; while the great 
demand for currency all over the world, which 
generally shows itself during the autumn, when 
the crops of ths^ chief agricultural countries are 
being gathered and garnered and shipped to the 
consumers' markets, ought just to be showing its 
force during the latter period of the currency of the 
bills offered, so that their date of maturity should 
be happy, enabling the holder to replace them on 
favourable terms. 

According to the normid behaviour of monetary 
1 events, the buyer of a bill at a good price at the 
lend of June ought thus to be able to reckon on a 
' short spell of ease during which he would ^e able 
' to finance his purchase on very favourable terms— 
■ perhaps getting his money at 2 per cent against 
the bill which we suppose him to have bought at 


4 per cent — and a gradually hardening tendency, 
which should not, however, reduce him to the 
necessity of giving more for his money than he 
was earning on his bill, or being obliged to sell 
his bill at a loss, owing to inability to provide the 
wherewithal to carry it 

But it need not be said that monetary events 
do not habitually move along the lines of normal 
behaviour, and even along these lines a little swerve 
in one direction or another may suffice to upset 
calculations that have to be reduced to the fine 
terms required by the Iteen competition of the dis- 
count market in London. The slackeningof general 
trade may greatly reduce the demands of com- 
mercial customers on the bank% and so throw a 
mass of credit back on them which they will pour 
out among the bill-brokers at nominal rates; a 
quickening of trade may have an equally marked 
effect in the other direction and upset all expec- 
tations of the spell of easy money which was to 
have made the holding of the bills a profitable 
transaction. A cold, wet summer will check 
holiday travel and expenditure, while a brilliaat 
season will send a shower of currency through 
tourists' pockets into the hands of hotel-keepers 
and others who provide for their wants ; and the 
extent of this outward tide will be among the 
innumerable items that will affect the volume of 
what is called money in Lombard Street The 


quality and date of the harvest is another matter 
that affects the monetary position, and ia ciJculating 
its probabilities the weather has once more to be 
allowed for ; for if at the harvest season something 
like an ideal English summer is reigning, and 
farmers think that they can rely on the continuance 
of favourable skies, they will proceed leisurely 
and gradually, and the supply of currency that 
they will require will be so much the less ; but if 
the season is capricious, and a burst of harvesting 
weather arrives, everybody will want to save his 
crop at once, and each farmer will be pouring all 
the labour that he can get on to his fields and 
wanting money for wages, and for all the other 
expenditure that moving a crop entails. 

And when he has balanced, as well as he can, 
I the chances of trade, travel, and harvest require- 
iments, the bill-broker must not forget the possible 
ieffects of an equally elusive factor, namely, the 
(demands of Government finance ; these do not, as 
a rule, count heavily at the period during which the 
parcel of bills offered is supposed to be current ; as 
we shall see in a later chapter, it is in the January 
to March quarter, when the income-tax is being 
gathered, that the money market is habituaUy 
pinched by the transfer of cash to the Government's 
balance at the Bank of England ; but throughout , 
the year it is always possible that the Treasury 
will intervene with some unexpected demand in the 


shape of an issue of Treasury bills, or, on the other 
hand, may make money unexpectedly plentiful by 
allowing its balances to run below their normal 
level. For owing to the fact that the Bank of Eng- 
land is the Government's banker, the Government's 
money is in its hands, and consequently when the 
Government holds Un unusually large sum, there is 
so much locked up, and not available in the outside 
market. So that the amount of the Govemmeat 
balances is always one of the items in the monetary 
problem, and the difficulty of calculating it is 
increased by the Olympian aloofness with which 
the Treasury conducts its operations — far away 
from the chaffering and huckstering of the market 
which it often affects so profoundly — and also by 
the Oriental mystery in which the movements of 
Government finance are shrouded. .,• „ 

And as if weather, ttad*, and Government finance 
were not sufficiently incalculable factors in the pro- 
blem, there arises the purely psychological question , 
of the possible extent of speculation on the Stocky 
Exchange. We have seen that the banks, which 
/ supply the bill-broker with money, employ a con- 
siderable amount of the credit that they make and 
handle, in financing the requirements of those who I 
buy stocks and shares and pay for them with bor- \ \ 
rowed money. Consequently, if an imusually large.: j 
number of people come to the conclusion that a purrf ,-' 
chase of securities with borrowed money is likeljK ' 


to be profitable, the supply of money available for 
the bill-broker may be curtailed And the reasons 
which suddenly impel the public to indulge in one 
of its periodical outbursts of speculation are, 
perhaps, as complicated a psychological problem 
as anybody could ever be asked to solve. 

And yet we are still only on the threshold of the 
bill-broker's difficulty. 

For all these things happen, or do not happen, st 
home and more or less under his own eye, and when . 
he proceeds, as he must, to consider the possibility 
I of foreign demands, he is face to face with questions 
which are much more difficult to answer and much 
more important in their effects. The movement of 
currency into the country for harvesting and holiday 
purposes, or the piling up of the Government's 
balance at the Bank, or the demands arising out of 
an unexpected outburst of speculation, may cause 
inconvenience, and perhaps, if their effects are par- 
ticularly unanimous and untoward, make a serious 
difference to the profit on a bill : but a sudden 
foreign demand and a considerable export of gold 
might easily be followed by a complete alteration in 
the whole aspect of the' market — a rise in Bank rate 
and a readjustment, for the time being, of 'the valae 
of credit at home and abroad. 

Having devoted so much space to the considera- 
tion of the bill-broker's problem, and having dis- 
covered that we have only touched the surface of 


it, it seems vHser on the .whole to leave him with his 
problem and our sympathy. For any attempt to . 
enter in detail into the innumerable causes which 
affect the demand for money abroad would lead us 
into a discourse of most formidable area. 

But it may be mentioned incidentally. that the 
risks of foreign politics and of international friction, 
the mere hint of which is often sufBcient to affect 
the sentiment of the money market, are among the 
items in the enigma which has to be solved, or 
guessed at, by our bill-broker before he arrives 
at his decision. And it need not be said that any 1 
serious shock to credit occurring in any part of the 
commercially civilized world might easily upset all ' 
his calculations. 

It is not, of course, implied that ai\ these matters 
are actually revolved by a bill-broker before he 
makes up his mind about any of the numerous 
transactions which make up his day's business. If 
this were so, the work of the discount market would 
never get itself done. But they, and many more, are 
the data on which he has to work, and a rough-and- 
ready view of the balance of all these possibilities 
and hypotheses has to be at the back of his head 
somewhere in his sub-conscious intelligence. 
f The essential difference between him and the j 
' banker lies in the fact that the banker makes credit, 1 
\ while the broker sells credit, relying on being able 
j to buy it cheaper. The conditions most favourable 

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to the broker are a high discount rate, which is the 
price of the credit that he sells, and a low rate for 
\ money, or short loans, which are the credit that he 
[ buys. The broker has need of keen and sensitive 1 
alertness as opposed to the level-headed sagacity 
which is the most necessary asset of the banker. 
But the most important feature in the position of 
I the bill-broker is that he constitutes the second 
line of the banker's defence, and consequently first 
feels the effect of any monetary pinch. If money is 
wanted suddenly by other customers whom bankers 
think fit to oblige, or if it is thought necessary to 
restrict the supply of money, the advances from 
bankers to bill-brokers are likely to be straightway 
curtailed. And this is an additional reason whidi 
makes a large supply of alert and open-eyed intel- 
ligence so necessary for his success. 




It ought by this time to be clear, unless the propor- 
tion of the perspicuity of this work to its tediousness 
has been most lamentably inadequate, that what we 
call money generally means credits with a bank, and 
that most of these are created either out of loans 
made by the bank or by some other bank, or by the 
discounting of a bill, which is only a special form 
of loan. 

Further, the bill has been shown to have advan* 
tages- over any other form of security, because 
the shortness of its currency ensures a speedy 
return of his cash to the holder, and because it 
Is drawn, or ought to be, against actual produce 
moving into consumption, so that, as is claimed by 
those who deal in it, a good bill of exchange pays 

It will also be remembered that the original bill 
of exchange was an order drawn on the purchaser 
of the produce by the seller, instructing him to pay 
its price to himself or some other party at the end 
of a period during which the purchaser might be 


expected to have disposed oFthe produce, either in 
it^ original form or worked up for consumption by 
'^ ^ome process of manufacture. And the purchaser 
'^ of the goods accepted the bill by signing his name 
across it — that is, acknowledged that he would be 
liable for the sum named at the due date, and so 
.became the acceptor of the bill After which the 
/ bill, drawn by a good name and accepted by a good 
I name, and with the necessary documents in order 
\ showing that goods had been duly shipped and in- 
' sured, was as sound and attractive a security as 
the most sceptical money-lender could require, and 
could readily be discounted and advanced against 
i It is necessary to pick up these threads which we 
left flying loose when we turned from the considera- 
tion of the forms of money to that of the principal 
>^ wheels in the machine which produces money. Of 
these we have found that the banks are the chie^ 
since they provide the right to draw cheques, which 
are the currency t)f English commerce, and give 
credits against indebtedness, which is called into 
being by the fact that trade habitually' lives on the 
profits which it is in process of realizing, and could 
not proceed with its present unceasing velocity if it 
had to wait for their realization before it went on to 
its next task. Next w£ examined the operations 
and responsibilities of the bill brokers, the retail 
dealers in bills, who are, as it were, an offshoot of 
the banks specializing on the selection of bills to suit 

■ X.Oi 



the requiremcDts of the bankers as to date, etc, 
and keeping them in stock with the assistance of 
credits chiefly furnished by the banks. It is now>, 
necessary to consider the functions of those who' 
manufacture the bills, against which the banks < / ! 
and discount houses jointly or severally provide ; 

In describing the bill of exchange in Chapter IV. 
we took the simplest possible case in order to keep 
the ground as clear as might be of confusing obstruc- 
tions, and imagined an American farmer, Mr. Silas 
P. Watt, selling wheat to a London merchant, Mr. 
John Smith, and drawing a bill on him for the value 
of the produce. By so doing we not only attuned 
a measure of clearness which would otherwise have 
been impossible, but also got down to the ultimate 
facts of the case. For the real manufacturers ofi : 
real produce bills are still the grower of the produce I \ ' 
and the merchant who handles it in its ultimate' 
market Without them the produce could not come 
into existence, and without produce there could be 
DO bills, except of the kite-flying order, as drawn 
by Mr. Micawber on Mrs. Micawber. 

Nevertheless, modem processes of specialization 
have introduced certain intermediaries between the 
producer and the merchant in the ultimate market 
As matters are arranged now Mr. Watt would sell 
his wheat to a merchant in his own country, and it 
would probably pass through many hands on paper 


before it was finally shipped. It wouldJw financed 
in the mean time by advances from American banks, 
and the bill drawn against it, when finally shipped, 
would be drawn by an American bank or finance 
house on its correspondents in London, who 
would be a firm devoting much if not most of its 
time and attention to this specialized industry of 

Since this inquiiy is confined to the machinery 
of money in London, we can leave out the producer 
and the American merchant and their bankers and' 
confine ourselves to the London end of the bill, 
that is, the London name which is written across ii; 
' and so marks it as accepted. 
r It is easy to understand how a distinct class of 
'accepting houses ^rew up out of the merchant im- 
'' porters who origiually accepted bills in the course 
1 1 of their importing business, that is, accepted orders 
on themselves to pay for goods which were in pro- 
cess of being forwarded to them. The readiness 
with which the acceptances of thedifferent merchants 
would be discounted and turned into cash would 
vary considerably with the difference in their repu- 
tation and standing, and the caution with which 
they were credited in the matter of conducting 
, their business. And the varying readiness with 
' which certain acceptances were discounted would 
inevitably express itself in varying rates at which 
their bills could be placed. It would thus naturally 


follow thatitwouM profit merchants of second-rate 
standing to give a commission to those whose repu- 
tation was more eialted in order to secure a more 
attractive signature than their own, and so get baclc 
the commission and a little more by being able to 
finance their operations more cheaply than by means 
of their own acceptance. 

The merchants of first-class credit would thus 
find that they could let out the use of their reputa- 
tions on profitable terms, and proceed to specialize in 
this branch of business, which consisted in exunining 
the bills put before them for acceptance, keeping 
themselves well acquainted with the means and 
standing of the drawers of them, and giving their 
acceptance, for a commission, to such paper as I 
fulfilled the requirements of their discrimination. \ 

The foreign connections arising out of the 
original trading operations, with which they laid 
the first foundations of their mercantile position, 
naturally ted these houses into providing monetary 
accommodation for the governments of the countries 
with which they traded, and there thus grew up out 
of the ranks of successful City merchants a class of 
merchant bankers, financiers and accepting houses, 
which, along with the old private banking houses, 
constituted a sort of aristocracy in the City, which 
still survives to some extent They are often 
described as merchant bankers, but it is important I- 
to remember that they are not bankers in the strict 

■ X.Oi 



cense of the term— that is, they do not pay cash 
across the counter against cheques drawn on them — 
because it is from their ranks that the directors of 
the Bank of England are chiefly recruited, and as 
we shall see in a later chapter, a director of the 
I Bank of England must not be a banken 

The importance of the function of the accepting 
house need not be emphasized. If the producer of 
the produce is the original creator of the bill, it is 
(the acceptor who, by his signature, gives it currency 
I and hall-marks it for the purposes of the London 
^ market A banker or broker who discounts a bill 
and parts with cash or credit in exchange for iL^ 
cannot be expected always to know the position and \ 
trustworthiness of the drawer, and must oilen rely 
on the name of the acceptor as his sole guide in 
appraising its merit So that it is by the judicious 
and properly regulated use of their names that 
the accepting houses put into circulation an enor- 
mous mass of credit instruments, the supreme 
merits of which as liquid investments have already 
been insisted on with " damnable iteration." 
I Nevertheless, the office ot the accepting houses 
' is still dependent on that of the banks, because 
.1 the bills that they accept, though thereby greatly 
, ! furthered in their progress towards becoming cash, 
I do not actually become cash until they have been 
'' ■ discounted. And this is done either by a banker or 
] by a bill-broker, who works with credit, generally 


furnished to him by a banker. A bill that cannot 
be discounted is of no' use to the holder until its 
day of maturity, and is not until then a credit instru- 
ment in any sense. ' And we thus come back once 
more to the supreme importance of the banks in 
London's monetary polity. 

For the power of the accepting houses to give 
currency, by their acceptance, to paper concerning 
th% merits of which they are be&t in a position to 
discriminate, is one that is obviously liable to 
dangerous abuse, and in their case the check of 
publicity is absent, since the private nature of their 
business keeps it free even from the ceremony of a 
half-yearly published balance-sheet A very little 
carelessness, a very little error on the side of 
optimism, and a very little neglect of the principle 
that the basis of a real bill should be real produce 
moving into consumption, and there are all the 
materials for a dangerous inflation of credit And 
the banks, wluch ultimately provide the means by 
which acceptances are turned into cash or credit, 
have thus an important responsibility thrown upon 
them, and one which is not apparent to the general 
public, to which the whole machinery of acceptance 
is more or less a mystery. 

The question is complicated by the fact that, as 
has already been mentioned, the banks have them- 
selves undertaken the business of acceptance to an 
extent that has increased rapidly in recent years. 



The excellent sanity with which the banks conduct 
their business makes this complication more ap- 
parent than real ; and the dependence of the accept- 
ing houses on the good opinion of the cheque-paying 
banks concerning their paper is modified by the 
fact that they can ultimately have recourse to the 
Bank of England, through a bill broker. The Bank 
of England requires two British names, of which 
one must be Uie acceptor's, on bills that it dis< 
counts, and a bill accepted by a British firm and 
endorsed by a London bill-broker ftilfils its require- 

. ments. And the Bank of England has before now 
intervened with effect when the paper of an accept- 
ing house has been unreasonably considered too 

: '. plentiful by the other banks. 

, i Nevertheless, the opinion of the banks concern- 
ing the paper of an accepting house is very impor- 
tant to it ; and the position is curious which makes 
the banks at once the watch-dogs over the volume 
of acceptance, and large, increasingly large, accep- 
tors themselves. It is possible that, in the early 
days of their experience in this line of business, the 
banks gave their acceptance too cheaply, and it is 
natural that the accepting houses should regard 
their intrusion into it with an unfavourable eye. 
It is also very essential that the banks should re- 
member that the least irregularity or carelessness 
on their part in the selection of the paper that they 
hall-mark with their acceptance might have very 

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far-reaching effects, if it came to lig^t and were the 
subject of City commeat, because the general body 
of their customers and depositors would be ex- 
tremely likely to misunderstand it ; and that what 
would be a mere indiscretion in an accepting house, 
which does not depend for its existence on the con- 
fidence of the'uninstructed multitude, might mean 
disaster to a bank, which does. 

At the same time, if watched over with due care, ' 
the growing interest of the banks in acceptance 
business seems to be a perfectly natural process 
arising out of the increasing requirements of the 
expanding trade of the world. It is difficult for the 
ranks of the old accepting houses to be recruited ; 
it has lately been done with success, but a finn that 
enters on the business has to have capital and credit 
at its command, such as are rarely to be Ibund in 
the hands of folk who are prepared to risk them in 
a new enterprise, the technicalities of which have 
to be acquired with patience, and perhaps through 
costly experience. The extent to which the old 1 
houses can accept is restricted by the obvious limits \ 
which are imposed on the amount of business, espe- 
cially of busmess in credit, that can be done by any 
one firm. And the reputation and position of the 
banks seem to qualify them naturally to fill the 


An important part of the machinery of accept- 
ance is also furnished by the Indian and Colonial 

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banks, which, naturally again, ^ve a large part 
of their attention to providing exchange between 
London and the country with which they are con- 
nected, and to handling the paper which its trade 
calls into being. The high reputation of the Indian 
I banks, and the skill with which the bills endorsed 
■ by them are marketed, makes the prices fetched by 
' their bills often a leading factor in the quotations 
i of the discount market 

Finally, in considering the main springs which 
' feed the flood of acceptance, we come to the London 
'' agencies of the chief Continental banks, which play 
a very important part both as sellers and buyers of 
j bills. Foreign financiers were quick to detect the 
^ advantages of the English credit system, and to turn 
them to their own profit and to the furtherance of 
the trade of the countries that they represent It 
is often contended that the rapid expansion of 
German trade, which pushed itself largely by its 
elasticity and adaptability to the wishes of its cus- 
tomers, could never have been achieved if it had 
not been assisted by cheap credit furnished in 
London, by means of which German merchants 
ousted English manufactures with offers of long 
credit facilities to their foreign customers. 

Ad instructive example of this system of pushing 
business on credit, and of its disastrous results to 
all parties when carried too far, was lately furnished 
by the embarrassments of German traders with 


Japan. A letter from the Tokio correspondent Of 
the Economist, dated May 8, and published on May 
30, 1908, dealt with the financial and commercial 
strain and depression then ruling in Japan, and its 
adverse effect on foreign (non-Japanese) merchants, 
and proceeded, in the following passage: — 

" Almost all the foreign fimu thus far a£fecteil are German, 
uid the reason is not Ear to seek. Years ago, the Japanese 
import trade was chieflj carried on upon a cash basis. A 
Japanese metchant gave an order foi goods, against wtiich hs 
deposited bargain monej,' and when the merchandise arrired 
h« took delireiy only after paying the baUnce. The Gennaa 
merchants, however, gradually introdueed a credit system. 
First the goods were permitted to be taken away, and payment 
deferred until they reached the go-downs of the Japanese pur- 
diaser, this concessitm being made on the quite reasonable 
plea that, as soon as the latter had the goods in his possession, 
he would be able to get adrances on them from the native 
banks, and liquidate his account. But the time limit was 
gradually extended . . . until delivery was pemitted to be 
taken against promissory notes for as long as from three to six 
months. Though the British merchants stood out against the 
practice as long u possible, tiiey were compelled to follow 
suit to some extent ; but, holding that such an extension of 
credit was dangerous in Japan, they never went so far as their 
German competitors. So long as things went well in this 
country the credit qvtem worked satisfactorily, aad during the 
boom after the war, there can be no doubt that the business 
handled by the Germans went ahead more rapidly than diat in 
the hands of British merchants, who preferred to work on the 

■ X.Oi 



<dd coDseivatiTe linei. As aooa, bowerer, m a period of 
■tiingencj in money uid contnctioD in trade took place, 
difl&cultiei began to arise . . . Very heavy losses have been 
suffered. U is not too much to say tiiat in the last six months 
the German merchants have lost far more than tbej gained 
during the two yean of the boom by the extension of the 
credit syaton. Once more it has been shown that unsoimd 
m^ods (rf doing business, whatever advantage they may bring 
foi the moment, aie disastrous in the long run." 

This instructive message is an example of much 
that has been happening in many other countries 
besides Japan, Morocco having been another field in 
which seed of this sort is believed to have been 
plentifully sown. No one can quarrel with the 
(Germans for making use of the credit weapon in 
-leztending their trade, though their over-extension 
iof credit facilities has had results which fall on 
others besides themselves; still less can they be 
blamed for their cleverness in taking full advantage 
of London's monetary machinery, and providing 
themselves in London with the credit with which 
they wheedled away England's customers in 
countries where credit facilities were an attrac> 
tive novelty, over-indulgence In which has since 
proved unwholesome both for the giver and the 

It is very probable that the extent to which they 
did so is much exaggerated, since in a £ase of this 
kind, in .which figures are necessarily not availably 

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an active imagioatioa roams at large. But it is at 
least interesting to note that England, having done 
so much to establish the foundations of Cjennan 
military and political greatness at the time of 
Frederick the Greaf, when it subsidized the young 
kingdom of Prussia at a critical period in its Titanic 
stru^le,* has also given a helping hand to German 
trade with the facilities so cheaply offered by the 
London discount market 

' Let us hope that our German friends are duly 
grateful, and let us avoid the mistake of imag^ing 
that we have done ourselves any permanent harm 
by this assistance. It is to the economic interest of 
humanity at large that production should be stimu- 
lated, and the economic interest of humanity at 
large is the interest of England with its mighty 
world-wide trade. Germany has quickened pro-\ 
duction with the help of English credit, and so, it \ 
may be remarked, has every economically civilized 
country in the world. The fact that all or most of 
them, including our own colonies, develop their 
resources with the help of English capital- and credit, 
and then do their utmost to keep out our products 
by means of tariffs, makes it appear to superficial 
observers that England provides capital for the 
destruction of its own business. But, in practice, 
the system works quite otherwise. For all these 
countries that develop their resources with our 
* Culyle, " Frederick the Gnat," boolc xviJi. ghapter 11. 


money, aim at developing an export trade and 
selling goods to us, and as they have not yet reached 
the point of economic altruism at which they are 
prepared to sell goods for nothing, the increase in 
their production means an increasing demand for 
our commodities and services. And in the mean 
time the interest on our capital and credit, and the 
profits on working the machinery of exchange, are 
a comfortable addition to our national income. 

This digression is not quite as irrelevant as it 
seems, for there is a strong feeling among the manu- 
facturing classes that the facilities given by the 
London money market to foreign borrowers are 
detrimental to English trade. This contention 
cannot be set aside as lightly as it sometimes is by 
the defenders of our banking system. The obvious 
\ answer to it is that England makes profits out of 
I ita credit factory which very much more than com- 
1 pensatfe it for any handicap imposed on its manu- 
i factures of other commodities. But it must be 
admitted that this Is only a partial answer, and that 
if the handicap were real and persistent, its working 
would tend to make England a banking, discounting 
and exchange-dealing nation rather than a manu- 
facturing nation ; ia other words, it would tend to 
turn our energies into financing, calculating, and 
book-keeping, rather than producing and working 
on commodities. This process would not nece^ 
sarily be an evil, but is a matter which might 


have important economic and social results, and 
ought not to be ignored if it were really 4t work. 
The organization of foreign banking which places 
credit facilities, borrowed in London, at the dis- 
posal of foreign manufacturers, is a matter which 
calls for respectful imitation in England. There 
ought to be no possible ground for the assertion, . 
- which is sometimes heard, that English traders t-^- 
cannot borrow in their own market as cheaply as 
foreigners. A remedy for this evil, if it really exists, 
would be merely a matter of organization and co- 
operation between our mercantile and banking 
communities, and its further discussion is obviously 
out of place in a merely explanatory work. 

This excursion into complicated questions of in- 
ternational trade was necessitated by the appearance 
of the agencies of foreign banks as an important item 
among the institutions whose acceptances give cur- 
rency to bills of exchange and enable them to be 
discounted or sold for cash. They also at times \ 
have an important influence on discount rates by i 
dealing on the other side of the market and^buying '^ 
English bills. And both these operations, whether 
they raise credits on this side by selling their own 
bills, or obtain a credit due at a later date by buying 
and holding £ng;lish bills, give them a hold on 
London's gold. In fact, their holding of English 
bills is arranged with this direct object. Some 
Continental institutions always keep a portfolio 

'./ as 


Eocked with bills on London, constantly replaced 
as they mature, so that in time of need they may 
take gold from London to replenish the basis of 
their note issues. And this fact is one that obviously 
has to be continually remembered and allowed for 
by the directors of the Bank of England, which has 
London's store of gold in its keeping. And more- 
over, the dealings of foreign houses In tails of 
exchange have an important effect on the foreign 
exchanges, and bring us face to face with the neces- 
sity for an explanation of that formidable subject 




The foreign exchanges are really a fairly simple 
matter if we keep them free, as far as possible, from 
the technicalities which are the delight of experts in 
the subject, who generally expound it They were 
exemplified in Chapter I. by the purchase of a postal 
order, and they may be described as the mechanism 
by which money here is exchanged for money some- 
where else. In the example there given the business 
was simplified by the existence of the machinery of 
the Post Office, which is prepared to undertake 
exchange transactions at fixed rates. 

In the exchanges of the large amounts which 
iDternatiooal commerce makes payable in one place 
or another, the bill of exchange plays an important 
part But the essential point to be grasped is the > . 
fact that fluctuations in rates of exchange are caused V y 
by variations in the relative value in the currencies y^ 
of the two centres between which the exchange is ' 
quoted. If a large number of Londoners have pay- '. 
ments to make in Paris, or want to send money : ■ ; 
to Paris, a large number of people will want to / 


exchange sovereigns for francs, and the valu6 of the 
sovereign will be depreciated when expressed in 
francs, and the Paris exchange will move "against 
London." The most obvious reasons which will 
cause this variation, or stimulate this demand in 
l' London for remittances to Paris, will be the balance 
of trade in its widest sense — the excliange of com- 
modities and all kinds of services between England 
and France — and the rate of interest ruling in the 
two centres. If Paris sells more goods and services 
to London, more people in London will have pay- 
ments to make in Paris ; and if the rate of interest 
be 3 per cent in Paris and 2 per cent in London, 
money will tend to flow from London to Paris to 
earn the higher rate, and the demand for remit- 
tances to Paris will thus be further stimulated 

Since bills of exchange play an important part 
in this business of the exctianges, it is perhaps safer 
to repeat here that a bill of exchange is an order 
by A directing B to pay a sum of money to himself, 
A, or to a third party ; that the cheque with which 
you tell your bank to pay £2 to your butcher is, 
in fact, a bill of exchange ; but that the term, in its 
more usual meaning, implies an order on a person 
at some distance in space to pay a sum at 56me 
distance in time. As, for example, when a dairy 
farmer in New South Wales sells butter to a pro- 
duce merchant in London, and draws a bill on him 
at sixty days' sight. When the bill is " accepted " — 

„.■ . A.oogle 


that is, when the merchant acknowledges his liability 
to pay by writing his signature across the bill— it 
becomes a negotiable instrument and can be dis- 
counted and turned into cash. 

It can also, evidently, be used wherewith to pay 
any debts that the farmer may have to meet in London. 
If he owes a similar sum to his harness dealer, he can 
hand the bill over to him and let him collect the 
money from the merchant ; and the one bill will thus 
have paid two debts. It has paid the farmer on ' 
behalf of the produce merchant, and the harness 
dealer on behalf of the farmer. Or if the farmer owes 
money in other parts of the world, a bill on London 
is always acceptable ; if he has bought hay-making 
machinery in America, the draft on his merchant 
could be used equally well to pay for it, for there 
would be plenty of people in the United States who 
have payments to make in London and will give a 
certain number of American dollars to the manu- 
facturer of mechanical hay-makers for his order on 
the London merchant 

And here comes in the difficulty which makes 
the foreign exchanges apparently so obscure. 
When it was a matter of a payment between 
London and Sydney, there was no question of a 
difference of currency, for in both these places the 
sovereign is the unit in which pajrments are ex- 
pressed. But when a draft on London has to be 1 
sold in America, the relative value of the sovereign [ 

,.. A.oogle 


^^nd the dollar comes Into the calculation. And 
the unfamiliar observer is puzzled by the fiict that 
these relative values continually fluctuate, with 
the result that the table of exchange quotations 
constantly varies, and the exchanges are said to 
move in favour of or against a particular country 
in a manner which is very extraordinary to him, 
since the intrinsic value of the currencies that they 
represent is un^dtered. 

We shall arrive at a clearer understanding of 
the matter if we leave out for the present this 
question of exchange of different currencies and 
return to that of the exchange between London and 
I Sydney. These two towns use the sam e coi n of 
the same fineness as legal tender and as money of 
account, and therefore it might be supposed that 
any one who has to make a payment of £20 in 
Sydney would have to put down in London 
exactly £20 plus a payment to the colonial banker 
who sells him the draft for his trouble and expense 
in sending the money. 

But this is not sa Owing to the fact that 
Australia constantly has to remit to England in 
order to meet interest on debt, etc., the Australian 
exchange Is normally in favour of England ; that is 
to s^, a credit on London. is more sought after in 
Sydney than a credit on Sydney is sought after in 
London, because the drain of money is habitually 
from Sydney to London. 

„.■ ■■X.oogW- 



Hence, if you g^ to an Australian bank's 
London office and buy a draft on Sydney with your 
cheque on the Westminster Bank, you are giving 
It money in London in exchange for money in 
Sydney, and we have seen that money in London 
is relatively more valuable than money in Sydney 
owing to the exchange being normally in favour of 

Consequently, the Australian bank is prepared 
not indeed to give you an order for ;f 20 and some- 
thing over in Sydney in return for your London 
cheque for ;f 20, but to do what comes to the same 
thing, namely, manage your remittance for you for f 
nottiing, making no charge for its trouble. 

But if the movement were reversed, and some one 
in Sydney were buying a draft on London, he would 
have to pay ;£20 plus a premium, because the ex- 
change is in favour of London ; ttiat is, a sovereign in- 
London oermally commands more than a sovereign 
when compared with a sovereign in Sydney. 

Here, then, we have an example of the working 
of the laws of exchange between two countries in 
which the coins into which drafts are convertible 
are identical, and if cmce we can grasp the logic of 
this, we have gone a long way towards simplifying 
the more complicated question of the exchanges 
between countries with different currencies. ^ ^ 

For the broad principle is the same everywhere, t^ 
Whenever, for any reason, one place. A, has to' 



send more money to another place, B, than B has 
to send to it, B's currency will be relatively more 
I valuable, and the exchange will be in favour of B. 

Let us consider the matter again in the case of 
Sydney and London and suppose that instead of 
going to one bank to arrange your remittance you 
went into a regular martcet wherein were assembled 
representatives of many Australian banks and 
exchange dealers, and waving your cheque on the 
Westminster before them asked them how much 
money in Sydney they would give for it If the 
pressure to remit money from Sydney to London 
were keen, they would all be eager to have your 
London cheque, because by buying it in exchange 
for a draft on their Sydney balance they would be 
increasing their London credit at the expense of 
their Sydney credit without incurring the cost and 
risk of sending coin or bullion from Australia. 

Consequently competition would impel them to 

Igive you something more than £'20 in Sydney, but 
that something more would be limited by the 
expense of sending coin and bullion. If we sup- 
pose, for the sake of simplicity, that expense to be 
covered by 6d. per pound, it would pay them if 
the demand were eager enough to give ;f 20 los. for 
your London cheque.' Beyond that it would not 
pay them to go. If you tried to insist on ;^20 los. id., 
it would be cheaper for them to send coin from 
Australia. So that in this case £20 los. (or 


£1 OS. 6d. per pound) would represent what is 
called gold point, and if your London cheque really 
fetched that price, the exchange between London 
and Sydney would be said to have gone in iavour 
of London up to gold point, and the movement of 
gold from Sydney to London might be expected to 

In the case of large amounts, and of places far / 
distant, the element of time becomes important. 
If exchange between London and Sydney were at 
par, it might still pay an Australian banker to give 
more than a sovereign in Sydney for ajsovereign 
in London because he would receive the sovereign 
in London at once, and bis balance in Sydney 
would only be drawn on five weeks hence when the 
draft arrived. So that he would have the use of 
your money for five weeks, and in times when, the 
rate of interest is high this i« an important 

In the example just considered, where the ex- 
change between London and Sydney was strongly 
In favour of London, it was supposed that a sove- 
reign, or a sovereign's worth of credit, in London 
might fetch £1 os. 6d. in Sydney. If the tendency 
of the balance of indebtedness were flowing in the 
other direction, and there were a great demand for 
drafts payable in Sydney, London's currency would 
be depreciated as compared with Sydney's, and a 
sovereign here might only fetch 19s. 6d. on the 



other side. But this depreciation colitd only 
work up to the point at which it would pay 
those who have debts to pay in Sydney to pack 
sovereigns and send them rather than make use of 
the machinery of exchange. If you were offered 
only 19s, in Sydney in exchange for your sovereign 
here you would obviously inform the dealers in 
exchange that you preferred to dispense with their 
services, and would ship the sovereigns to your 
Australian creditor. 

Restating the matter yet again In the effort to 
be clear, we may express it by saying when the 
number of people who want to send money from 
Sydney to London is greater than the number of 
those who want to send money from London to 
Sydney, the latter will be in an advantageous posi- 
tion, and able to buy drafts on favourable terms : 
but that the amount in Sydney that their sove- 
reigns or cheques representing sovereigns in Lon- 
don will fetch cannot rise above the exact equivalent 
plus the cost of remitting coin from one centre 
to the other. When that point Is reached the 
exchange is at gold point. 

What is called the mint par between the two 
places is in this case the sovereign, and if the cost 
of remittance, insurance, etc, be 6d., as we have 
supposed for the sake of simplicity, the outside 
fluctuation of the exchange will be 15. ; for if it 
cost Sydney over aos. -Cd. to buy a sovereign in 

„,.. ..C.oogle 


London, Sydney will ship gold to London rather 
than buy drafts ; and if a sovereign in London fetch 
less than 19J: 6ti in Sydney, Sydney will import 
gold from London. 

We can now proceed to consider the question 
as it appears when the balance of indebtedness is 
being settled between two countries which use a 
different currency. 

In France the unit is the franc, so that when a 
Frenchman wants to send money to London he 
wants to exchange francs into sovereigns; con* 
versely, an Englishman who wants to send money 
to Paris has to exchange sovereigns for francs. 

The relative value of the two currencies 
measured in the amount of gold contained in the 
sovereign and the 20-franc piece is 25/ 32c to the 
sovereign. The normal exchange or mint par is thus 
ruling when the Paris cheque is quoted at 2^. 22c. 

The cost of sending gold in either direction may ' 
be taken at 7c ; so that if you ship gold each sove- 
reign's worth of it will be worth to you in Paris 
2s/. 15c, having shed 7c on the way in expenses. 
Consequently, if you can buy a bill on Paris at any 
higher rate it will pay you to do so rather than 
send gold. 

Whether you will be able to do po will depend 
on the value of money in Paris as compared with 
London, and on the balance of indebtedness between 
London and Paris. If the^rate of interest is higher | 


rin Paris than in London, London will want to send 
money to Paris to earn the higher rate, and if Paris 
has been selling us more goods and securities and 
services than we have been selling to her, Paris 
will have more bills on London arising out of those 
sales than London has bills on Paris ; consequently, 
the demand in London for bills on Paris will be 
keener than the demand in Paris for bills on 
London, because London has more remittances 
to make. 
L Hence it will follow that the seller of a bill on 
\ Paris will be able to get more favourable terms, and 
the exchange will be, as it is called, in his favour ; in 
other words, his francs will be relatively more valu- 
able than the sovereign, and the sovereign will fetch 
less when expressed in frajacs. And if the balance of 
indebtedness be heavy enough, and the competition 
of^hose who want to buy drafts on Paris — that is, 
to exchange sovereigns for francs— be keen enough, 
the value of sovereigns expressed in francs will go 
down to 25/. 15c, and then those who have remit- 
tances to make will begin to ship gold instead of 
buying drafts, the Paris exchange having gone 
down to gold point 

- When the balance is the other way, and London 
/has been selling more goods and securities and 
services to Paris than Paris has been selling to 
London, bills on Paris will be more plentiful than 
bills on London, and the French importers of goods, 



etc, will have to compete for drafts on London in 
which to make their payments. That is, they will 
have to pay more in francs, which will be relatively 
depreciated, for the sovereigns that they need fdr 
the payment of their debt^ and their competition 
will force the exchange up towards 25/ 29c, which 
will be the other gold point, when shipments of the 
metal may be expected. But it must not be for- \ 
gotten that the relative value of money in the twc 1 
centres is a constant influence which may increase 
or modify the movement of exchange due to tht j 
Influence of indebtedness for goods and services^ 
If London has sold large amounts of goods to Paris, 
but money is dear in Paris, the two influences will 
tend to counteract one another ; London will leave 
the proceeds of Its sales In Paris to earn the higher 
rate of interest, and as long as it does so those sales 
will not affect the exchange. 

It may have been noted that the French ex- 
change is against London when it is low and in 
London's f^our when it is high. And this is 
natural and inevitable when we consider that the 
quotation expresses the value in francs which a 
sovereign will fetch. WheB this value is low the 
holder of a sovereign receives less in francs, and so 
the exchange is very literally against him. When 
you want to buy francs with your sovereign, the 
more francs you get for it the better it is for you. 
When the rates of exchange are quoted in English 


money, it is otlierwlse. The Argentine 4ollar !s 
quoted in pence. When it rises from 48^. to 48|(£ 
it moves against England, because it fetches more 
pence, and any one who wants to exchange sove- 
reigns for dollars will receive less of them. This 
is one of the small complications which make the 
question of the exchanges so difficult to the inex- 
perienced. But it can always be met by considering 
that the ultimate fact expressed by rates of exchange ^ 
is the relative value between a sovereign and a 
foreign currency. When the sovereign buys more 
of the foreign currency the exchange has moved in 
our favour; when it buys less the exchange has 
moved against us. 

ir^ It thus becomes evident that the foreign ex- 
I changes are a mechanism by which international 
indebtedness is settled between one country and 
' another, and that rates of exchange are the prices 
: at which the currencies of the various countries are 
' expressed relatively to one another. When the 
balance of claims between two places does not 
t roughly agree gold has to Be shipped to settle the 
^ difference, unless it can be met by what is called 
ad>krage, which consists of dealings in bills on 
other centres. For instance, London may not have 
e'nough claims on Paris to set off the claims of Paris 
on it, but may be able to fill the gap with bills on 
Beiiin, or some other centre, which Paris may 
happen to want 


The system on which the exchanges work is 
thus similar to that of the bankers' Clearing house 
in Londoa In it the claims of the clearing banks 
are crossed off* against one another, and any balance 
that is due, for example, from the Westminster 
Bank to the County, is settled by the deduction of 
part of the Westminster's credit at the Bank of 
England and its addition to the County's. But in 
the case of international indebtedness, the balances 
have to be settled by shipments of gold. Such, at 
least, is the theoiy of the matter, though the restric- 
tions that most of the chief Continental centres 
place on withdrawals of gold often prevent, or at 
least postpone, the working of the machinery of 
exchange in accordance with theory. 

The broad principle which has been thus set 
forth and exemplified is the ultimate basis of the 
movements in the rates of exchange between all 
countries, even those which have currencies based 
on different metals, or in the case of those in which 
the currency is based on nothing but the printing- 
press. But it need liardly be said that there can be | 
no gold point in the case of countries with a currency | ^ 
which consists of silver or of inconvertible paper | 
notes. Nevertheless, even in their case, though the 
fluctuation of exchange is complicated by variations 
in the price of silver or by new issues of paper cur- 
rency, yet the balance of relative indebtedness be- 
tween them and other countries is still an important 


factor, ready to assert its complete predominance 
at any moment when other complicating influences 
cease from troubling. 

Since, then, it is largely on the mutual indebted-l 
ness of various countries that rates of exchange are ■ 
' based — though we must not forget the influence of 
the rate of interest in the various centres— let us see 
bow this mutual indebtedness arises. 
K^ The most obvious cause of it is the mutual 
I exchange of natural produce and manufactured 
I articles — the balance of trade, as it is generally 
\ called. This we see chronicled in the monthly 
returns issued by the Board of Trade of British 
imports and exports. These always show that 
England has imported goods of much greater value 
than those which she has exported, and because 
there is no published record of her other exports — 
her invisible exports, as they are sometimes called 
— superficial observers are often very much fright- 
ened about the state of English trade ana draw 
astonishing Inferences, the most notable of which 
was propounded by a colonial premier who told an 
English audience that England had to export 
annually so many millions of golden sovereigns to 
pay for the balance of the cost of her imports over 
that of her exports. 

In fact, an "unfavourable" balance of trade, 
which is the misleading description given to 
this condition of the purely commercial relations 


between one country and another, is one that 
can only be afforded by countries of the highest 
economic development which are in a position 
to supply other countries with credit and other 
services, which the other countries have to pay for 
with their goods. And the distinction of possess- 
ing an unfavourable trade balance is shared with 
England by France and Germany. 

At the same time, those who are alarmed by the 
extent of the difference between the value of our 
visible exports and imports are justified to this 
extent, if they consider that it is better for England 
to be a manufacturing country than a creditor and 
banking country. A lai^ part of our invisible I 
exports consists of services rendered by the clerk- \ 
ing and financing classes, and those critics of our \ 
trade position who do not ignore them, but maintain 
that they would prefer to see them replaced by 
goods worked up by the producing and manufactur- 
ing classes, take up an attitude which is perfectly ^ 
logical The more common course, however, is to 
ignore these invisible exports altogether, as was 
done by Mr. Seddon in the speech referred to above, 
and to deduce the alarming conclusion that we are 
living on our capital, and otherwise in a terribly 
decadent and deplorable condition, from the com- 
mercial point of view. 

This being so, though it is an oft-told tale, it 
Is perhaps worth white to enumerate some of the 



invisible exports by means of which we fill the bif 
gap between the values of our imports and exports 
of visible goods. 

Let us consider the case as It stands between 
us and the United States. The United States 
supply us with a vast and valuable amount of food 
and raw material, and take from us manufactured 
goods, the amount of which is severely restricted 
by their high Protectionist tariff. On the other 
hand, we export to them the following " invisible " 
items: — 

•^ (i) Shipping freights. Our ships carry goods 
to and from them all over the world. 
•^ (2) Interest coupons. The American securities 
held by English investors yield a constant income 
in interest, to meet which the United States has 
to send goods. 

•^(3) Insurance facilities. The English insurance 
companies and firms do a large business in the 
United States, and draw thence a regular income 
in premiums. 

^ (4) Banking facilities. The large sums spent 
annually by Americans in Continental travel are, to 
a great extent, financed by drafts on London, on 
which London takes toIL Still greater, probably, 
is the profit that London regularly makes by dis- 
counting bills for America, financing its speculations 
by carrying over shares for it in the London market, 
and making advances in other forms. 

„.■ ...C.oogle 


*'($) Pleasure, social amenities, titles, and art 
treasures. Americans in times of prosperity spend 
a constantly increasing amount in travfil and enjoy- 
ment in England. Many of tliem, it is said, are 
anxious to cut a figure in what is called Society, 
and ttie lavish expenditure in which they indulge 
is believed to be of some assistance to this ambition. 
All this expenditure here on their part has the 
same effect on the balance of Anglo-American in- 
debtedness as an English export It is also welt 
known that the scions of ancient English families 
frequently find wives among the attractive daughters 
of America, and the big dowries that the latter bring 
with them amount to a considerable annual charge 
on the United States. The habit of purchasing art 
treasures, lately rife among rich Americans, is 
another item in the balance. The fact that owing 
to American tariff regulations many of these art 
treasures are left here does not, of course, interfere 
with the effect on international indebtedness pro- 
duced by their purchase: 

^ (6) Family affection. Many of the English, 
and especially Irish, settlers in America regulariy 
remit sums to their parents and- families in 
England, taking nothing in return but affection 
and gratitude. Every one who has read "Some 
Experiences of an Irish RM." remembers the 
picture of McCarthy, the horse-dealing farmer 
who charged Mr. Bernard Shute ^^4$ for a mare, 


saying, "She's too grand entirely for a poor farmer 
like me, and if it wasn't for the long weak family 
I have, I wouldn't part with her for twice the 
money." The long weak family was explained by 
Mr. Flurry Knox to be "three fine lumps of 
daughters in America paying his rent for him." 

The above list might be continued, but sufficient 
examples have been given to show that there are 
many more exports in heaven and earth than are 
dreamt of by the philosophy of the Board of Trade 
returns It must not be supposed that the move- 
ment of these items is all in one direction. American 
ships carry English goods, American insurance 
oEBces do business in England, and Englishmen 
spend money on travel and sport in America. It 

(is only claimed that on the above counts America 
normally owes more to England than England owes 
to America, and that credits under these heads 
go far to neutralize the so^alled "unfavourable" 
balance of trade. 

It need not, of course, be supposed that the final 
balance, after allowing for all exports and imports, 
visible and invisible, must be exactly equal between 
any two countries. It is periectly possible for one 
country to be normally indebted to another year in, 
year out, on this balance of trade in its widest sense, 
and yet to be in a perfectly wholesome economic 
condition, being kept so by being in a contrary re- 
lation with some other country. It will thus be able 


to meet the bills drawn on ft by its creditor with 
those that it draws on its debtor, and thus the sum 
of mutual indebtedness is crossed off and cancelled 
all over the world, or met, when at any time the 
supply of bills is inadequate, by movements of 
bullion to settle the balances. 

This case arises, for example, when the chief, 
agricultural countries are reaping and moving their ' 
crops. They hold, for the time being, the manu- 
facturing countries in fee, and they need gold for 
the actual circulation of currency in the producing 
districts. And, consequently, gold moves normally! 
to the United States, Egypt, and Argentina in their 
harvesting seasons. 

It is in these cases that the utility arises of the t 
practice, referred to in earlier chapters, of drawing 1 
bills in anticipation of crop movements. Without 
this arrangement, countries whose staple export is 
harvested at a certain season would take payment 
in gold for it at that season, and would, during the 
rest of the year, have to remit in gold for the goods 
and services that it buys from other countries. But 
the dealers in exchange, and the more legitimate 
class of finance bill,* provide the means by which, at 
times when such a country has nothing to export, the 
exchange dealers will make good profits by creating 
bills against nothing, but in anticipation of the crop 
that is in the ground, with the result that the countryV 
* Pi«e4>- 

„.■ . A.o.igle 


I exports less gold in its off seasons, and imports less 
' when its crop is ready. Its imports of machinery 
in July are paid for by semi-fictitious remittances, 
created by exchange dealers who draw finance 
bills and so raise credits, and these bills are met 
later by the shipment of the country's crops in 
September, and by the bills genuinely drawn 
against them. And so the clumsy necessity for 
sending gold backwards and forwards across the 
oceans is reduced, though not extinguished 

It need not be said that It is quite impossible to 
gauge the amount and value of the invisible com* 
modtties, which, «i above enumerated, have sp Im- 
portant an effect on the balance of international 
indebtedness, and so on the foreign exchanges. And 
one of the most elusive of the influences which-thus 
complicate the question is that of the parchase and 
sale of securities between one country and another. 
But it has to be considered now because it is 
closely connected with the main question dealt with 
in thif inquiry. 

When one country raises, a public loan In an- 
other, everybody is well aware of the transaction, 
and there is no difficulty about the matter. For 
lezample,Brazil borrows three millions in the London 
Vnarket by an issue of 5 per cent bonds. The issue 
Is advertised and subscribed, there is an open market 
in the bonds, and it is all clear and above-board. 
Brazil has exported to England three millions' worth 


of its promises to pay ; England has retutned to 
Brazil tliree millions* worth of money or credit, or 
the right to draw on London, either by t^ng gold 
or by using its credits here to cancel debt elsewhere, 
or to make any purchases required- The immediate 1 
effect of the transaction will be to turn the exchange I 
in favour of Brazil, though it must always be ^e- I 
membered Uiat the overt working of this effect may 
be veiled by other influences. During the currency \ 
of the loan the effect of its existence will be to turn ' 
the exchange in favour of London, because Brazil 
will be obliged to remit periodically to meet the 
quarterly or half-yearly interest payments and the 
s«^ce of the sinking fund established to extinguish 
the loan gradually by purchase or drawings ctf the 

Hence it is that no debtor country — that is, no 
country which has borrowed extensively from the 
investors and money-lenders of other countries — 
can afford the luxury of what is called an unfavour- 
able trade balance; In order to meet its interest 
payments and its sinking fund arrangements, 
must habitually ship more goods than it receives, 
since the lenders are continually sending it interest 
coupons and drawn bonds, the payment of which 
it has to provide for either with goods or with 
fresh borrowing. ^ 

In other words, what is usually called a favour- 
able trade balance may generally be taken as a sign 

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of the economic dependence of the country which 
possesses it 

The same effect on the exchanges is produced 
when the borrowing is done, not by thft Govern- 
ment of the borrowing country, but by companies ; 
as, for example, when the Pennsylvania Railroad 
sells £4,000,000 bonds here, the operation for the 
moment turns the exchange in favour of tlie United 
States, but during the currency of the bonds pro- 
duces a periodical claim by London on New York 
for interest payments. 

These public issues of loans are potent and ob- 
vious influences on the exchange. But an equally 
important effect, which is di£5cult to trace, Is p^ 
duced by the purchases of securities ma^e by the 
investors of one country in the Bourses of another. 

It is the natural tendency for a debtor country, 
as it makes economic progress, to buy up gradually 
the securities on which it has borrowed from others, ■ 
and so to ixduce or extinguish the amount that it 
I has to provide abroad for interest payments. For 
example, Italian Rentes, the public debt of Italy, 
were formerly largely in the hands of foreign 
holders in France, Germany, and England. Italy's 
economic progress has been remarkable ever since 
her ambitions in the direction of colonial expansion 
and world-politics received a timely check on the 
Red Sea. Since then she has developed her in- 
ternal resources with great success, and she has 



been assisted by the possession of an inexhaustible 
asset which she exports continually, or rather lets 
other people come and enjoy. For Italy holds the 
world in fee as an exporter of Beauty — beauty in 
scenery, beauty in atmosphere, beauty in buildings, 
sunshine, association, and a hundred other things, 
besides her art treasures, which it would be absurd 
to call priceless, because to think of price In con- 
nection with them would be a vulgar -irrelevance. 
Every year an increasing number of travellers from 
all lands pours into Italy to see these things, bring- 
ing circular notes and other-forms of drafts where- 
with to pay their way ; and, in order to meet these 
drafts and to feed the balances with their Italian 
agents on which they are drawn, the other countries 
have to send Italy goods, or services, or securities. 
Thus Italy has been enabled to buy up a large pro- 
portion of her own securities which were formerly 
held by foreign investors. Consequently, she has 
largely relieved herself of the drain against coupons, 
and her exchange has moved rapidly in her favour. 
So much so that travellers in Italy who have not 
been there for some years are astonished to find 
how much less valuable the English sovereign has 
become when measured by its exchange price in 
Italian currency. 

These purchases of securities by the investors 
of one nation in the Stock Elxchanges of others are 
a constantly fluctuating element, which has a marked 



efTect on the balance of national indebtedness, and 
Is extremely difiScult to trace or gauge. EquaUy so 
is the perhaps stiU more important element pro- 
vided by the shifting from one centre to another of 
the more highly specialized forms of securities, chief 
among which is the bill of exchange. And when we 
arriVe at the ebb and flow of this restless ocean we 
come to the point at which the foreign exchanges 
most obviously affect the main subject of our in- 
quiry, and It begins to tie clear that this attempt to 
explain them was by no means an irrelevant inflic- 
tion. For the movements of bills of exchange from 
one centre to another depend to a great extent on 
the rates of discount respectively current in them. 
If the rate of discount be relatively low in London, 
bills will be poured in from abroad to be discounted 
land turned into cash here, and foreigners will use 
Itheir credits here, and draw bills on London and 
jdiscount them ; and so our imports of securities 
will be increased, and the exchanges will be turned 
against us. And if the exchanges are against us, 
and gold is being taken from London, this state of 
affairs is remedied by a rise in the rate of discount 
here, which checlcs this import of bills and impels 
foreigners to remit funds to London to be employed 
in the purchase of bills ; and if the process is con- 
tinued, we begin to export securities, and thus turn 
the exchanges in our favour. And so we begin to 
lee the great importance of the market rate of 




discount, owing to its effect on the foreign ex- 
changes, and through them on the ease or difficulty 
with which our supply of gold is maintained _. 

We have thus arrived, through the thorny laby- ^ \ 
rinth penetrated in this chapter, at a result which */ 
may be summarized thus * — %r^ 

The foreign exchanges are the expression of j[ . 
international indebtedness. '^'-'■UiTT^''*' "*■ --^ '"^■■ 

International indebtedness la the balance arising I 
from the exchange between countries of goods, 
services,and securities. The movement of securities, 
especially of bills of exchange, depends largely on 
the discount rates current in the chief financial 

The discount rate has thus an important bearing { 
on the foreign exchanges. 

It has also been shown that when the foreign -. 
exchanges go to a certain point, gold will be taken 1 
from London, because, for example, it will pay better ■ 
to send gold to Paris than to take only 2$ fir. is c 
for one's sovereign on 'change. 

And gold is part of the basis of our credit ""; 
system, since the notes and cheques which we use I 
in commercial and financial transactions are all con- ' 
vertible on demand into gold, and cannot safely 
be multiplied beyond a certain point unless the 
stock of gold ready to meet them if asked for be 
Increased also. 

So that we are now beginning to see more clearly 


the Importance of the market rate of discount, and 
the need for its sagacious regulation. 

The marlcet rate of discount depends, on the one^: 

Ihand, on the supply of money, and, on the other, on I 
the supply of bills of exchange which come forward } 
to be turned into money. We have already examined^ 
the chief parts of the machinery which creates and 
handles money and bills of exchange— the banlcs, bill- 
brokers, and accepting houses — and we found that 

.'in normal times the supply of money and the level 
of discount rates are regulated by the banks. We 

' are now in a position to try to understand the 
functions of the institution which takes control of 
the machinery when times are not quite normal, and 
regulates the supply of moi^cy and the market di** 
count rate in order to affect the foreign exchanges 
when this intervention is considered necessary. 
This institution is the Bank of England. 






Every schoolboy knows, and most grown-up people 
have consequently forgotten, that the Bank of 
England was fended in i gg^ to finance William Ill's <^ 
Government Since its foundation it has been the 
keeper o f the nati onal balance and the channel — 
through which the nation has conducted its financial 

Its notes are the only form of paper currency J--_^ 
that is legal tender in England, that is to say, that 
has to be accepted in payment of a debt, and it is 
the only ioint-sto jjt_bank which is allowed to issue^ 
notes in London. As we have seen, the advantages 
possessed by the cheque have enabled it to supplant 
the note as circulating currency, but the Bank's 
privileges in the matter of note issue undoubtedly 
were of great service to it in its earlier history, and 
were an important cause of the prestige which now 
makes its name a household word for stability and 
soundness throughout the civilized world. It may 
also be presumed that they were an indirect cause 
of the fact that now gives the Bank its source of 


greatest strength and importance, namely, its posi- 
,'' tion as the bapkcQlbank. 

It has already been shown that the Bank of 
England's privilege in the matter of note issue in 
London was intended to give it the monopoly of 
joint-stock banking in London, and that the flank 
of this monopoly was only turned when it was dis- 
covered that note issuing was not an essential part 
of banking. The result of this discovery, instead of 
weakening the Bank of England by the creation of 
a host of nimble competitors, strengthened it 
by providing it with a number of enterprising 
and wealthy customers, who developed Jbanking 
facilities all over the country in a mann^ which 
would have been impossible to it without a radical 
alteration in its machinery and constitution, left 
with it the cash balances that were not required for 
their till money and country reserves, and so not 
only increased its dignity and visible strengttj, but 
made its task of financing the Government sanpler 
and cheaper, reducing it to a great extent to a ipatter 
^ entries in its own books. 
* For see what happens when the Government 

Iha's to pay its quarterly dividends on Consols and 
other Government stocks, and finds itself in need of 
two millions or so for this purpose. It borrows two 
millions from the Bank of England, and the Bank 
of England gives it a credit for this amount in its 
books, against which the Government draws its 


dividend warrants. But only a small fraction of 
this amount is actually withdrawn. For the most 
part the warrants are paid into the other baaks to 
the credit of their Consoh-owning customerSj and 
are paid in by them to the Bank of England to the 
credit of tteir balances with it So that instead of 
making a great provision of cash the Bank only has 
to set its clerks to «(Ork with their pens rather faster 
than usual, and the thing is done. Thus two of the 
principal duties of the Bank of England, its manage- ) 
ment of the Government's money matters and its \ 
custody of the other banks' balances, fit into and \ 
assist one another very aptly. 

Equally simple is the Bank's still more Important. V 
task of prnvirfinp ; emerpenp y mrrfjry, and again/ 
for the same reason, the fact of its being banker tot 
the collective banking community. In all econo- 
mically developed communities there are periods 
when the normal supply of cash is insufficient, aS|/ 
for example, at harvest time in agricultural countries 
and at the ends of the quarters, when everybody has 
to pay his rent and meet other periodical demands, 
and especially in this coimtry at the end of the two 
half-years, when a Iai;ge number of firms and com- 
panies all over the kingdom draw up their balance- 
sheets and strive to show a fine proportion of cash 
in their assets. And at the end of the December 
half-year these demands coincide with a big move- 
ment of actual currency into circulation to provide 

I);,. :,C.oi">gle 


for Christmas travelling and money paid over 
tradesmen's counters for Christmas presents and 
the material ingrediitnts of Christmas jollity. Con- 
sequently, at these periods there comes a seasonal 
demand for what is called money, and the Bank of 
England, by reason of being the bankers' bank, is 
able to provide it with extraordinary ease and 

(For money in England, as we have long ago 
recognized, chiefly means a credit with a bank, carry- 
ing the right to draw a cheque. In so far as it 
means actual coin and notes, the .problem here Is 
the same as elsewhere, and the periodical with- 
drawals of these for the cash payments alluded to 
periodically afi'ect the Bank's reserve. But the great 
proportion of the seasonal demands are met by 
cheques, and a large part of them, those arising out 
of the desire to show large cash holdings in balance- 
sheets, are for ornamental purposes, and are only 
j wanted to impress shareholders and customers. 
^\ Hence it follows that a large proportion of the 
emergency currency required at the end of the 
, quarters is created for show and not for use, and is 
borrowed from the Bank, not to be withdrawn or 
passed on, but so as to figure in balance-sheets 
included among "cash in hand and at the Bank ol 

We thus arrive at an important distinction be- 
tween the credits given by the Bank of England and 



those of the other credit-making banks. When the 
latter make an advance against any kind of security 
or buy stock for investment, they create a deposit 
and give a right to draw a cheque, which is probably 
exercised; the cheque drawn transfers the cus- 
tomer's credit to the customer of some other bank, 
and, as we saw in Chapter V^, the loans of one I 
bank create the deposits of another, except when I 
the loans are raised with one bank for repaying 
another. But in the case of the Bank of England, 
its position as the bankn-s' bank results in any | 
credits that it makes for its customers being left 1 
with itself, having been transferred from one bank ** 
to another in its books ; and, wha^ is still more im- 
portant, the credits that it makes rank as cash for \ 
the rest of the banking world, so that the demand for 
cash for ornamental purposes in balance-sheets can 
be satisfied with remarkable ease by book entries. 
And thus banking development has outwitted and 
eluded the well-meant effort of the Legislature to 
guide and regulate it 

The B ank of F "^^lff"■^'« """"p^^iy nf nntr iriiur> 
which was intended to give it the mnnnpnly of joint, 
stoc k banking in the metropolitan area, wasJuilUfied 

by tSe discovery th at ntftf. isgning'waa not thf mntjf I 

important^art of banking, and yet some years afier 
this discflygry had been marke d by the foundation 
of th e joint-stock banks , which are now7coIIectivel5%' 
the Bulk of England's biggest and most important 

„.■ . ..C.oogle 


customer, the Legislature passed ao Act which 
elaborately regulated the note issue of the Bank of 
England as if its note issue were still th.e central 
feature of its business and the only thing which 
merited the consideration of parliamentary wisdom. 
I '' It will be remembered that the Bank Charter 
' Act of 1844, or Peel's Act, as it is sometimes called, 
laid down the principle that the amount of notes 

I issued by the Bank against securities should not 
exceed the sum of £14,000,000, unless by the sur- 
render of the note-issuing privilege by other banks, 
which exercised it, of course, outside the circle of 
the Bank of England's monopoly. Any more notes 
I issued were to be based on metal held in the Bank's 
\ vaults. 

The business of a bank, as the word is now 
understood, consists in providing currency payable 
in gold, and earning a profit by calculating the 
amount of gold that it is necessary to hold against 
this liability. The Bank Charter Act thus proposed 
to revolutionize banking by taking away from the 
Bank of England the right of allowing it to judge 
for itself of the proportion between cash and secu- 
rities that it held on the assets side of its balance- 
sheet against the notes issued on the other. " Your 
securities," it said in effect, " are to remain as they 
are, and for every extra £$ note that you issue in 
future you shall hold £s in coin or bullion." 

As to what might have happened if the Act 

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had worked in the maQoei intended by its pro- 
rooters, is a matter of interesting but idl6 specula- 
tion. Banlcing evolution has evaded or avoided 
the question by the development of a habit of re- 
garding a credit in the books of the Bank of England 
as just as good as so many bank-notes or sovereigns 
or bars of bullion. Borrowers do not, as a rule, 1 
ask it for notes, but for a credit in its books. * 

By means of this system emergency currency \ 
and credit are provided with extraordinary ease. ^ 
It has grown automatically, commands complete 
confidence, and works with a perfection that no 
theoretically planned scheme can rival If the 
supply of money runs short, borrpwers come to 
the Bank of England with securities of the kind 
that it approves, and in the course of a few 
minutes' conversation with the principal of the 
discount office add a million or two to the basis 
of credit as expeditiously and easily as the ordi- 
nary citizen can buy a pair of gloves. The machine 
is a miracle of ease and efficiency. 

The result, as it appears in the published state- ■ 
ments of the Bank's position, is merely that the Bank 
of England shows an increase in securities on one 
side of the balance-sheet— these being the securities 
against which it has made advances— and an increase 
in deposits on the other; and the popular habit 
of gauging the position of a bank by the amount 
of its deposits would lead hasty observers to the 

„.■ . A.oogle 


gratifying conclusion that some fresh mass of acca- 
mulat«d wealth had been stored up and deposited at 
the Basic, and that it and its customers were richer 
than ever. Really all that has happened is that the 
Bank of England has lent "money" to some more 
borrowers, and, being banker to the other banks, 
has been able to do so by making a book entry, 
instead of seeing the " money " taken away frttm it 
in the shape of notes or coin. 

Actually, of course, the Bank of England's posi- 
tion has been, when strictly considered, weakened 
by the operation, because the increase in deposits 
is an increase in liabilities, and the increase in lia- 
bilities without an increase in cash necessarily 
means that the proportion between cash and liabi- 
lities has been lowered, and the proportion between 
cash and -liabilities is the most obvious touchstone 
that is first applied to the position of a bank in 
considering its apparent strength. And this ques- 
tion of the cash brings us to the Bank of England's 
k other most important functicm — that of acting af 
Af keeper of the gold reserve for the rest of the bank- 
ing communiQr. 

This function, it is interesting to observe, also 
arises out of the fact that the Bank of England is 
banker to the other banks. They, by keeping their 
balances with it, have^ as we have seen, greatly 
facilitated the readiness and despatch with which 
the Bank finances the Government and creates 

/ \*< 


emergency currency; but, at the same time, they 
have imposed on it this heavy burden and respon- 
sibility of maintaining the ultimate reserve, and the 
Bank of England is never able to forget that Its 
liabilities are not as the liabilities of other banks, 
since they contain that big block of bankers' 
balances, which the other banks regard and 
treat as cash, and use as part of the basis for the 
soaring structure of credit that they build up. 

The obligation and responsibility are all the 
more onerous, because they have arisen, as it were, 
as an unsuspected irrelevance, and were long un- 
recognized and unacknowledged. It might have 
been thought that when the Bank Charter Act of 
1844 had definitely laid down the duty of the Bank 
of England with regard to its note issue, all that it 
had to do was to carry out its legal responsibility 
with due punctuality, and, for the rest, to carry on 
banking business on ordinary banking lines. 

This, in &ct, was the view long entertained by an 
influential section of the Bank's Court of Directors, 
and its bllacy was exposed in that most brilliant of 
all essays in practical economics, Walter Bagehot's 
great work on "Lombard Street" Bagehot not only 
exposed the fallacy, but killed it, buried it, and 
damned it To do the Bank Court justice, it should 
be mentioned that even those of the directors who 
maintained it in theory did not advocate its practice 
but spoke of a 33 per cent cash reserve as adequate \ 


though the ordinary banks w>uld even now regard 
such a proportion as extravagant. In these days, 
even the theory has been abandoned, and the Bank 
of England has so effectually recognized the gulf 
that separates it from other bankers that it normally 
qhows a proportion of cash to liabilities that is 

. jtoughly twice as large as that shown by those of 
the other banks which are strongest io that respect, 
and perhaps twenty times as high as that which 
is apparently considered adequate by the weakest 
In other words, the Bank might, if it reverted to 
the theory that it was only one bank among many 
working on the same principles, double the amount 
of its liabilities with a corresponding increase in its 
investments and dividends without altering the 

I amount of its cash. 

It is true that the greater part of the Bank of 
England's cash reserve in the banking department 
consists of its own notes issued by its issue depart- 
ment But these notes are secured according to the 
provisions of the Bank Charter Act, and the other 
banks, with the practice of which we are now com- 
paring the Bank of England's, include in their cash 
not only Bank of England notes but credits' in its 

But Bagehot's brilliant criticism of the manner in 
which the Bank recognized its responsibilities was 
chiefly concerned wiui its handling of the demands 
brought upon it by intenud crises, and in days wheq 


an Internal crisis meant a demand all over the 
country for Bank of England notes. Since its 
publication the position has been modified in two 
important respects. In the first place, the develop- , 
ment of the use of cheques and of book-entry credits 
has been so great that it may fairly be inferred that 
at least the early stages of an internal crisis need not 
have much effect in the shape of a demand for notes. 
It is, of course, possible, that a panic might arise in 
England so severe that members of the mercantile 
community might refuse to accept one another's 
cheques in payment of debts, and that we should 
take a temporary step backwards to the exdusive 
use of sovereigns and Bank of England notes. In \» 
that case the situation would have to be met by a [-j 
suspension of the Bank Act in the old-£ashioned | 
style, the temporary abrogation of the limits imposed | 
by it on the Bank's freedom of action, and the un- 1 
limited creation of notes to meet the demand. But 
apart from actual general cataclysm it seems reason- 
able to expect that any gap in credit might probably 
be filled by a mere ralaigemeot of the Bank's 
advances, and a consequent increase in the credits 
which it gives to other credit-makers to serve as a 
basis for their operations. In other words, instead of^. 
the Bank's reserve being depleted by internal panic, 
it might have the effect of merely increasing its ■■ 
holding of securities and its liability under deposits, \ 
as normally happens at the end of the half-years. ' 

„.■ . ..C.oogle 


In the second place, the problem that the Bank 
of England has to face is much more external than 
it seems to have been when Bagehot wrote. During 
the last thirty-five years the machinery of internal 
credit has worked so well and smoothly, and sue- 
ceeded, in 1890, by the application of the principle 
of co-operative assistance, in facing a very serious 
difficulty with so little discomfort — when the magni- 
tude of the possible disaster is considered — ^that the 
possibility of real internal panic is almost forgotten, 
and is ignored by some of our less prudent banking 
institutions to an extent which is perhaps a little 
dangerous. On the other hand, the general adoption 
of the gold standard by the economically developed 
countries of the world, accompanied by the fact that 
London has remained the only market in Which 
every draft and every credit are immediately con- 
vertible into gold as a matter of course, has greatly 
: intensified the responsibility of the Bank of England 
I as custodian of a gold reserve, which is liable to be 
I drawn on at any time from all quarters of the habit- 
I able globe from which a draft on London may be 

The difficulty of this task that it has to perform 
is increased, if not created, by the fact that it has, in 
normal times, little control over the extent to which 
these credits in London are granted. For here again 
we find that the other banks are once more ultimately 
responsible, just as we have seen that they are now 
„.■ . ..C.oogle 


chiefly responsible for the creation of a mass of 
Internal credit and currency, which they build on the 
foundation of the Bank of England's reserve, but 
expand at their own discretion and at rates which 
have no connection or sympathy with the official rate 
that is named by the Bank. By the bills that they 
discount and lend against, by financing the bill* 
brokers, and by advancing against Stock Exchapge 
securities, the other banks give foreign financiers a 
pull on the Bank of England's reserve, and the Bank 
of England is expected to maintain it' This responsi- 
bility is shared by the accepting* houses, which by 
accepting for a foreigner, create a bill which he can 
discount at the Bank of England through a bill- 
broker, and so give him credit which he can convert 
into gold. 

Owing to the extent to which banking facilities \ 
have been developed outside it, the Bank of 1 
England's official rate is often a quite empty i 
formula, and the business of the London market is \ , 
carried on without any relation to it ; and herein is 
another point in which the money market of to-day 
differs from that described in Bagehot's " Lombard 
Street," for we find Bagehot constantly assuming 
that any change made by the Bank of England in 
its rate would at once affect, and be followed by, 
those current in the open market "At all ordinary 
moments," he writes, "there is not money enough 
in X^mbard Street to discount all the bills in 



Lombard Street without takiog some money from 
the Bank of England" This is no longer true. 
Nowadays the Bank, in order to make its rate 
effective often has to take special measures of a 
kind which will be described later. 

At present let us recapitulate the work that the 

Bank of England has to do, and then briefly con- 

Asider the organization by means of which it faces 

^ its responsibilities. 

-^' /]> ( It keeps the balance of the British Government 

and manages its finance. 

, ri , f It keeps the balances of the other banks, which 

^- ■^' treat their credits in it^ books as equivalent to cash. 

; 'JY ^t provides emergency currency at seasons of 

^-"'stringency, by expanding its book-entry credits and 

so increasing the amount of this so-called cash. 
J -J It keeps a cash reserve which is relatively about 
.^wice as big as those of the other banks which are 
strongest in this respect, and perhaps twenty times 
as big as those of the weakest 
,;, y /' It keeps the central gold reserve of the one 
money market in which any form of credit instru- 
ment is immediately convertible into gold, and so 
has to be ready for any emergency that may arise 
anywhere, making somebody with a credit in 
London aetermined to take away its proceeds in the 
shape of metaL 

Its advantages and responsibilities are thus 
very evenly divided. Its acting as banker to the 

,,. . A.oogle 


Government gives it prestige which is invaluable,'^ 
conveys the impression that it always has the 
Government behind it, and jnjact often prndtirffs 
the mistfllrf^n nn^JQa^t hat it is g StStB 'TititUtifm, f / 

i^te ad of a company^ with stock-holders. And itsf 
holding of the balances of the other banlcs enables 
it to lend money to Government and to create 
emergency currency by a mere transfer in its 
books. On the other hand, since the bankers '' 
use their balances with it as cash and as the basis V' 
of the credit that they make, the Bank of England I i ' 
has therefore to see to it that the reserve against | ' 
these balances is not exposed to the demands 
of too many other customers; and hence the 
relatively high proportion between its cash and 
liabilities, which tells heavily on its power to 
earn dividends. This obligation of maintaining a 
relatively bi^ cash reserve is increased in inten- 
sity, and made more difiScult in execution, by the 
fact that the Bank of England holds the central 
gold stock of the one free market in gold in the 
world, and has to be prepared to meet at any 
moment demands on it that may come forward 
from ^road, and have been rendered possible by 
credits given by its credit-making customers, or 
created by accepting houses in the shape of bills 
discounted with it through a bill-broker. 

Having thus reviewed the Bank of England's 
responsibilities and privileges, difBculttes and 


advantages, let us see what kind of machinery and 
oi^acization it brings to bear on its problems. 

It is like no other bank in the world, and 
Its eccentricities begin before you have crossed 
its threshold. Its external appearance, which its 
inhabitants and frequenters take as a matter of 
course, makes the country visitor gape with wide- 
mouthed wonder ; one of them, on learning to his 
surprise that' it was not Newgate Gaol, accounted 
for his error by saying that be thought it must be 
a prison because it had not any windows. Except 
where pierced by windows over the mam entrance, 
the Bank's external walls are all solid, but of course 
it is part of its business to be among other things 
a fortress, capable of resisting physical attack by 
needy gentlemen too eager in the interests of the 
better distribution of wealth. It has done so before 
now, as every one knows, because the story of the 
Gordon Riots is told not only in history books but 
in "Barnaby Rudge." Even more obvious and 
impressive is the low level of its roof, and the 
fact that this big block of space in a spot where 
ground is worth so much a foot is covered by a 
building most of which consists of vaults and 
two stories. An enterprising American, viewing 
sadly this waste of an invaluable site, remarked 
that if that old bank had a live president, he would 
run up twenty floors on the top of it, make ten 
times its dividends as a real estate company, and 


not bother any more about the mouldy old banking 

Internally it boasts spacious courtyards and a 
garden full of brilliant bloom and green leaves, in 
seasons when such things are possible, making a 
most effective and restful contrast with the grim 
grey walls, the roar of traffic outside, and the jingle 
of gold that can be heard occasionally from the big 
hall in which notes are being cashed' It also con- 
tains a certain amount of consecrated ground, part 
of its site being an old churchyard. Hence it was 
that an unfortunate giant, who was also a clerk in 
the Bank, fearing that his seven feet of skeleton 
would be too valuable a prey for the body-snatchers 
to miss, got himself buried within ther Bank's walls 
in the vain hope that his bones might there rest in 
peace. Not many years ago some workmen mak- 
ing alterations in the vaults came on a gigantic 
human jaw-bone; it was sold to a dentist, who 
proudly exhibits it to patients, and so the giant's 
fears have been partially realized," 

When we come to consider the Bank's organiza- 
tion, its most striking features are the constitution 1 1 
of its Court of Directors, and its system of govern- \ [' 
ment by rotation, and these are points on which the 
Bank's critics have fastened with the keenest energy 
and determination. 

The Bank Court is a committee recruited cliiefly ''. 
* F. StnUcer, "Tfaa MoMy Maiket,* cb. tt. 

■ X.oogic 


f'from the ranks of the accepting houses and mer- 
chant firms, and its members are nominated by 
\ itself subject to the purely formal confirmation of 

' I the shareholders; and it Is an iinwritten law that 

; no banker In the ordinary sense of the word, that 
I is, no one connected with what we call the cheque- 

i 1 paying banks, can be a member of it 

At first sight this is one of those anomalous 
absurdities so common in England, and so puzzling 
to the intelligent foreigner, who cannot understand 
why we suffer them. A Court of Directors ruling 
the Bank of England, and so performing most im- 
portant banking functions, and yet disqualifying for 
membership any one with an expert knowledge of 
banking, is a tempting subject for an epigrammati- 
cally minded satirist But in fact this anomaly, like 
many of our others, not only works excellently well 
in practice, but is, when calmly considered, clearly 
based on sound common-sense. For in the fii^t 
place it would obviously be undesirable that a 
member of one of the outer ring of banks should 
have the insight into the position of his rivals which 
membership of the Bank of England Court would 
give him, unless all the others were similarly privi- 
leged. But if all the outer banks were represented 
on the Bank Court, it would become a committee 
of unwieldy dimensions, perhaps reproducing or 
reflecting in the Bank pailour the rivalries and 
jealousies that stimulate the outer banks to work 


against one another, but are not conducive to their 
working together. And the question of proportion- 
ate representation would be difficult to settle. As 1 
It is, the Bank Court, being free from connection 
with the outer banks except by keeping their 
balances, is able to watch their proceedings with 
a wholly impartial eye, and, on occasion, to make < 
suggestions with salutary effect 

Moreover, the functions, already described, that 
are performed by the Bank of England, are obviously 
different in many important respects from those 
fulfilled by tlie outer banks. Its chief customers, 
the Government and the other banks, are so special 
io kind that the custody of their funds has to be 
approached from a special point of view, and the 
Bank's duty of maintaining the gold reserve by regu- , 
lating the ebb and flow of the international bullion 
stream is a problem forwhich the ordinary banker's 
trainit^; would be of little assistance, and for which 
the Bank's directors are obviously better qualified, 
.; owing to the closer touch with business affairs 
abroad, which arises from their connection with 
the accepting houses and merchant firms. 

Nevertheless the narrowness of choice that\ 
limits the Bank Court in selecting its new members 
is certainly one of the drawbacks of its organization, 1 
and its difSculty in finding fit recruits tends to 
increase owing to the changing conditions of modem 
business. Some widening in the sweep of its net 


seems to be desirable, and will doubtless be brought 
about by the alertness that the Bank has shown In 
recent years in adapting itself to alterations in its 
environment As- an example of this alertness it 
may be mentioned that the Bank was one of the 
first institutions in the City to adopt female clerical 
labour on a considerable scale. 

More genuine are the objections to the rotatory 
>, system, by which the Governor of the Bank holds 
office for two years, having previously served for 
two years as Deputy Governor, and then— so say 
the critics of the system,— just at the time when he 
has mastered his duties, retires into the obscurity 
of the Committee of Treasury, which is composed 
of members of the Court who have " passed the 
chair." Apart from the objection already noted, 
one result of this system is that a Bank director is 
not likely to become Governor until he has been 
many years a member of the Court Consequently 
i the new members of the Court have to be chosen 
, when young, in the hope that in twenty years or so 
I they may be capable Governors, and this is some- 
times a matter of perilous hazard 

It cannot be denied that the system by which 
the Governor is put into the chair is somewhat for- 
tuitous. Nevertheless, it has its advantages. The 
Committee of Treasury represents a body of experi- 
ence which is always at the Governor's service, 
and the periodic tenure of office makes the Governor 


more inclined to lean on the experience and sug- 
gestions of his colleagues on the Court, and of the 
heads of the various departments, and to be less a 
self-sufficing autocrat than he would probably 
become if he held oflRce permanently, as is often 
proposed. And it is very important that the ruler 
of the Bank of England should be amenable to, and 
express, the broad common-sense of the commercial 
community as a whole, and not the prejudices and 
convictions of any individual, however gifted. But 
it is not the purpose of this work to enumerate and 
examine the many proposals that have been made 
for improving the constitution of the Bank of 
England. Subjected to the test of results, it shows 
a record that is not only unrivalled, but unap- 
proached. For no other institution in the world 
attempts even to face the problem of being always 
ready to carry out the immediate conversion of 
any draft on the centre of which it is the head, 
which is cheerfully and composedly undertaken 
by the Bank of England. The elasticity of th&i 
English system, which works with the Bank asVA 
its centre, is the envy of the world, and any'i 
alteration^ however slight, in so delicate a machine 
as a credit system, might have effects which were 
not at all intended. 

The Bank of France is frequently pointed to as 
the ideal exponent of international banking by those 
whose test of the merits of a bank is the infrequency 

„.■ . ..C.oogle 


of the movements fn its official rate. HJs view 
naturally appeals to Chambers of Commerce and 
the mercantile community, which chiefly desires to 
have its money first of all cheap, and secondly, 
steady in price; But the cause whi ch^Jceeps the 
ofSci al rate of the Bank o f France. sDJiteadjrJs^he 
fact that the Bank of Fiance^ is. got, faced by 
tlie pr6blem involved by b;!inlti" g ^"'''"^ss a» we_ 
urideratand it, namely, the imm*"^'''tfi JOfcCtin g of 
liabilities in gold.^ France istill cherishes relics of 
Bi^metallism, and its Bank is consequently able 
to please itself as to whether it will meet its notes 
in gold or silver. Seated beliind this comfortable 
rampart, which protects him from most of the shocks 
that banking flesh is heir to, the Governor of the 
Bank of France can maintain the most dignified 
steadiness in his rate, knowing that if too many 
claims are presented on him, he can tender payment 
for them in five-franc pieces, mere token counters 
whose bullion value is less than half the price at 
which he can, by the law of France, hand them to 
creditors in payment of claims. He is thus enabled 
to refuse to part with gold except as and wh6n he 
pleases. It is a delightful position, but it is not 
banking, as we understand it, and it has its limita- 
tions ; at times of crisis even the Bank of France 
is unable to ignore altogether what is happening 
in the outside world, which is wanting to turn 
securities and commodities into gold. 


In the last quarter of 1907, for example, when 
the Araerican crisis threw an exceptional strain on 
the world's money market, the Bank of England 
feced the position with cool-headed readiness, and 
was prepared to meet all demands on it from 
America, and to rdnforce itself by putting its rate 
up and drawing in gold irom otiier centres. The 
determination which it showed finally compelled 
the Bank of France to take some share in the 
international burden and to send three millions of 
its gold, not to America but to London, whence it 
knew that it could rely on getting it back. It has 
been commonly stated that the Bank of England 
asked it to cany out this operation, but this is 
quite untrue. The whole arrangement was made 
outside the Bank of England, which approved 
of but by no means asked for it The Bank of 
France made an excellent and profitable invest- 
ment in sterling bills, and helped to mitigate a 
storm which threatened the French monetary com- 
munity with unpleasant consequences. And at the 
same time it was enabled to pose very gracefully 
as fairy godmother to the world at large, and 
superficial observers cried out that there must be 
something in its management that enabled it to 
play this pretty part. If the Bank of England had 
the right to meet its liabilities in five-shilling pieces 
containing half a crown's worth of silver, it might 
perform with equal brilliance ; but ihen the whole 


of the very profitable exchange and banking busi- 
ness which is based on the immediate convertibility 
into gold of the draft on London, would be an 
impossibility. Under these circmnstances it might 
be quite easy to keep the Bank of England's rate as 
steady as that of the Bank of France. But Bank 
rate has not yet been explained, and it, and its 
relations to the market rate, will require a fresh 




BANKrate'is the official sutuBUutL^te at which thtljjjh 
Bank ot England will discount bills. It differs " 

from the mnrlr^t r^l^ nf iWufntint in that it IS ^ 

normall Ahiglfev and in that it is no^ji cons tantly / 
fluc tuating rate, shifting with the supply "of and 
demandfot-Jiins, but is I5j*4 *nd announced 
everyiliursday morning at a special meeting of 
the Bank Court, and except under most unusual 
cittumstances Is not changed on any other day. 
But the fact that it is only the minimum is occa- 
sionally enforced in practice, if the Bank finds that 
too many bills are being brought to it for discount ; 
on such occasions it sometimes refuses to take bills 
except at a higher rate, which usually becomes the 
official rate on the following Thursday. For loans 
and advances the Bank usually charges half per cent' 
more than for discounting bills. When the Bankl 
is discounting bills at the official rate, or making : 
advances at or above it, Bank rate is said to be 
effective, because the Bank is then in a position to \ 
re£ulate,moreorless, the price of money in London. ' 


It should be noted that the official rate only 
rules at its head o£Gce, and there only partially. 
\ The Bank of Ei^land discounts at the market rate 
for private customers at its head office and also at 
lits branches; in fact, according to the frequent 
complaints of the other banks, it competes with 
them in the country by under -cutting in the 
matter of rates in a manner which annoys them 
seriously, and with some reason. Here again the 
Bank has been elbowed into a very difficult posi- 
tion by the force of circumstances. Its branches 
were never a spontaneous creation, but were 
founded by it largely in answer to a demand for 
them in the country which arose out of special and 
temporary conditions ; now that the industrial and 
agricultural centres have been enmeshed In a net- 
work of banking facilities, the branches of the 
Bank of England remain, and necessarily make 
some exertion to justify their existence Hence 
very natural grumbling on the part of the other 
banks, which say that the Bank of England takes 
their money and uses it to underbid them in their 
own territories. 

This grievance against the Bank of England 

i)rings into view at once an important quality of 

I the official Bank rate, namely, the fact that it is io 

\ normal times, seldom effective. If the Bank then 

wants discount business, it has to take bills at a 

lower rate. If it took bills in the country only at 


Its official rate its customers, the other banks, 
would have no genuine cause of complaint, and the 
Banb would get few bills, if any ; but when it steps 
off its pedestal and enters into the chaffering circle 
of the market, and chaffers against the market with 
the market's money, the mar ket has reason to f eel 
tiiat it has a g rievance. 

'Ihis want of connection betw een the ofScialf 
rate and the mark et liiXt fl^'Sg has t he effect o f 
lea'ri ng the market rate wholly without refpilation . 
The market rate, as has already been shown, is atn ' 
most times practically arrived at by competition 1 
among the other banks and hiding between them,/j 
the bill-brokers and the sellers of <ihe bills ; and 
hence it follows that it is ruled by mere hap- 
hazard cross-currents of individual conceptions oo 
the subject of any particular business proposition 
that may come forward, and is not directed by the 
guidance of any consideration for the welfare of 
the market and of the monetary world as a whole. 
An individual banker or bill-broker who wants to 
add to his holding of bills or renew his maturities 
n^urally. discounts at the best rate he can ge^ and 
cannot be expected to stop and wonder whether 
his purchase at a lower rate of discount will have 
an adverse effect on the foreign exchanges, or give 
some foreign financier too close a hold on London's 
store of gold. Hence it often happens that we 
read in the mcmey articles of the newspapers 


remarks expressing regret concerning the rapidity 
with which rates are being allowed to decline, as if 
the bankers and bill-brokers were carrying out 
some questionable and immoral transaction, when 
all that they are doing is to buy the bills that they 
want at the only rate at which the conditions allow 
them to do so : and it must seem strange that City 
editors should shake their heads ao sadly about the 
behaviour of the discount market, while they accept 
a rise or fall in Consols as due to the inevitable 
action and reaction of supply and demand in the 
stock market 

The justiBcatioQ for this attitude towards the 
movements of the discount market arises out of the 
very close connection which we have already seen 
to exist between the market rate of discount and 
. the foreign exchanges. When the market rate of 
discount is allowed to fall relatively low in London, 
bills of exchange are naturally sent here in increas- 
[ing numbers from foreign countries to be dis- 
counted; that is to say, our imports of securities 
^re stimulated, and so the balance of international 
indebtedness is affected, we have more payments 

• to make abroad, and the rates of exchange tend to 
move towards the point at which it pays better to 

i ship gold than to buy drafts. The London rate is 

i normally low when compared with those of other 
centres ; but the extent of its relative lowness is a 

I question of degree ; and when this degree becomes 

„.■ . ..C.oogle 


exa^erated in a manner which the general monetary 
outlook does not seem to justify, a situation arises 
which occasionally calls for deprecating comment 
by the Press, which endeavours to reflect the 
judicious opinion of the City. The individual^, 
bankers and brokers, however, whose competition ] 
depresses discount rates, are little deterred by these 1 
considerations ; tn the first place, because each one / 
would think it absurd to suppose that his individual i ' 
action would have any appreciable effect; in the / 
second, because even if it had, he would consider ( 
that he could not be expected to refuse a fine parcel ] 
of bills in order that by holding out for a higher S 
rate he might prevent an adverse movement in the '""^ 
exchanges. Adverse exchanges make them cautious 
in their purchases of bills in their own interests, 
because adverse exchanges generally hold out a 
promise of higher rates, and so encourage buyers 
to wait But individual buyers cannot be expected ^ 
to be deterred by consideration for the interests of 
the market as a whole. 

So once again we arrive at the fact that the store 
of gold which the Bank of England is expected to 
keep is constantly threatened by a mass of credit 
created by the other banks, which work without 
any immediate reference to the Bank of England's 
' position, but to suit the requirements of their own 
business. And thus the bea utiful elasticity of our 
monetary syste m leads to a certain lack of cohesion . 



which requires, occasionally, drastic measures by 
the Bank of England to correct it 

This lack of cohesion is a comparatively modem 

I development, and has arisen out of the great growtii 

I of the credit-making machinery which is outside of 

the Bank of Et^land, but is loosely founded on its 

/ reserve, and renders its reserve liable to attack by 

V every credit given to a foreigner, by means of a 

discount or an advance In B agehot's time th e 

power of the Ban k of En gland was eyi d en riy jnuch 

rooi«^^^iIy^ezercised, and we find him stating, in 

the passage quoted on page an, that in normal 

times Lombard Street could not discount its bills 

without the help of money provided by the Bank. 

In other words, when he wrote, Ba nk rate wa s 

always elfective, sayeoiL£2ceEtii2DaLfi£casions. 

So'iax is 'this now from being so, that in order 
to make its rate effective, the Bank of England 
.bften has to borrow money that It does not 
(want, because, the market supply of money being 
'abundant, it knows that the bankers and brokers 
will continue to discount bills at rates which wiU 
keep the foreign exchanges against us, unless a 
curtailment of the supply of money is carried out 
In other words, the credit-making machinery has 
worked so efficiently io the output of its product 
that the Bank of England, which has to be ready 
to meet the liabilities so created, has to take some 
of the output away from its holders, and pay them 



k rate for restricting their temptations to take bills 
u too low rates. 

) THb it does by going into the money market 
and borrowing. Any money that it borrows cas 
only b« got back from it by being borrowed again, ** 
and it, of course, only lends, at its head office, at the 
official rate, or | per cent above it 

It has already been observed that* when the 1 
Bank of England lends money the result of the 
operation is generally expressed in a book entry, 
by which it shows more securities (which it has 
received as collateral) among its assets, and more 
deposits among its liabilities. When it borrows, 
the book entry of course works similarly, but con- 
trariwise ; its holding of securities is reduced by 
the fact that part of them is pledged to the lenders, 
and the amoimt that it borrows cancels so much 
of its liability under deposits, in other words, re- 
duces the balances of the other banks, and so 
narrows the basis of credit, makes money dear, 
brings the market rate of discount into some con- 
nection with the official rate, influences the foreign 
exchanges, and increases the probability that gold 
will be sent to London, or that gold which arrives-' 
will not be taken for export By this roundabout 
process the Bank finally arrives at its object of 
protecting or increasing its reserve. 

It has been said that by borrowing money the I 
Bank of England reduces the balances of the other / 



banks; this it does either directly by borrowing 
part of their balances from them, or indirectly, by 
borrowing from the bill-brokers and finance houses, 
who pay it what they lend with cheques on the 
banks, which to that extent cancel the bdance of 
the banks in question at t^e Bank of England. The 
banks in question, having their balances at the Bank 
thus reduced, either reduce the credits that they 
have based on them, or more probably restore 
their balances by calling in money from the bill- 
brokers, their loans to whom have already been 
described as their second line of defence, kfter their 
holding of cash in hand and at the Bank of England 
The bill-brokers, from whom these loans are called 
in, first have recourse to the other bankers .and 
money-lenders, trying to fill the gap that has 
been made in the funds on which they work their 
business, but are finally, as it generally happens, / 
driven to the Bank of England, whence they have/ 
to borrow part of the money that it has borrowep 
' from the market, and will have to pay for it at or 
over the official rate, which is thus made effective, 
and becomes a controlling factor in market rates. 
The system is thus clumsy and artificial, and, as 
has been observed, is comparatively novel, having 
been brought into existence by the great develop- 
ment of the activities of the other banks, which 
have manufactured credit so successfully that part 
of the output has sometimes to be absorbed by the 



Bank of England, which does not want it, but has 
to prevent the evil consequences that might result 
from its over-abundance. 

The bill-brokers, whom we have seen to be the 
first sufferers when the Bank of England thinks 
it necessary to reduce the overgrown mass of 
credit, generally wax eloquent concerning the 
absurdities of the system, the hardship involved to 
all legitimate users of credit wKen It is thus arti- 
ficially controlled, and the monstrous interference 
with the natural laws of supply and demand, which 
ought, they contend, to be left to regulate the 
value of money like that of every other commodity. 

Their position is certainly one with which a / 
disinterested observer can readily sympathize, for 
they are constantly tempted, not to say forced, by 
the free credit facilities given by the other banks, 
into taking bills at rates which have an atlvei^ 
effect on the foreign exchanges ; and then the Bank 
of England, in order to rectify the position, has to 
reduce the mass of credit, and the bill-brokers find 
themselves, with their portfolios full of bills taken 
at low rates, artificially deprived of the wherewithal 
to carry them, and obliged to pay an unexpectedly 
high price for money to finance their bills, or 
rediscount them with the Bank of England at a loss. 
■^ Nevertheless their appeal to economic first 
principles, and the natural laws of supply and 
demand, does not seem to bear examination. Even 
„.■ . A.oogle 


in the production of agricultural and industrial 
commodities the law of supply and demand, if left 
unfettered, brings many evils in its train, the most 
obvious among which are the periodical speUs of 
exuberance and depression to which the producing 
industries axe habitually exposed, to their own loss 
and that of the community as a whole. For some 
time past the civilized world has submitted to these 
evils as inevitable or as small in comparison with 
the great benefit arising from the increase in pro- 
duction that has taken [dace under the system of 
unrestricted competition ; but there are very plain 
Indications that this acquiescent attitude is being 
modified. The modern trend of production is cer- 
tainly in the direction of conjrdination, co-operation, 
combination, and regulation; and unrestricted com- 
petition seems to be graduaUy retiring into the 
obscurity of obsolescence. 
r But in this matter of the supply of credit and 
I of credit instruments it has long been recognized 
that regulation is essential, and that the free 
V play of supply and demand cannot be left to itself 
because of the vast and wide-spreading disasters 
that result to the whole of a community from any 
dislocation in the machinery of credit MoreovA-, 
it must be remembered that supply and demand 
cannot possibly work as effectively in the case of 
money as in that of an ordinary commodity, because 
of an important and essential difference which sets 


a great gulf between money, in the modern English 
sense, and concrete and tangible commodities. 

CTTiis difference lies in the fact that the cost of pro- || 
duction of money is a negligible factor in its price. 
If the farmer is bid ;f 1000 for his crop, his answer 
will be strongly influenced by the amount of work 
and capital that have been spent on producing it, 
and will be required for producing another; when a 
banker is bid 4 per cent for a loan of j^iooo for six 
months, in other yirords, is offered ;f 1020 siz.month5 
henc^^^iin^^iooo to-day, the sum that it will have 
cost him or somebody else to produce that £'1000 
will hardly enter into his calculation ; for it will be 
merely a matter of cheque drawing and book entries 
involving a certain amoimt of penmanship, and 
whether the lp»n is for £1000 j&t jf 1,000,000 will 
make little diflference— veryJitely none at all— to 
the cost involved to the^C9>^1icer of it. It was quite 

, otherwise%rtiek-mtSn^ Consisted of metal that had 
to be dug out and treated ; but now that money is 
a matter of book entrie^ and pieces of paper, which 
pass current because they are convertible into gold 
and so have to have a certain amount of gold behind 
them — but are brought into being according to the 

nvarying views of bankers, as to bow much may safely 
be based on a given quantity of gold — the supply of \ 
money can obviously be multiplied without any ques- \ 
tion of cost, so long as borrowers have security to | 
offer^and bankers are prepared to make book entries. \ 


Regulation is in fact already an accepted part of 

our monetary system, and we have seen that the 

Bank Charter Act carefully and precisely regulated 

the number of bank-notes that might be created. If 

the bank-note had retained its position as the most 

important of our credit instruments^ Bank rate 

would have retained its control of the money 

market, that is to say, the rate at which the Bank of 

England was prepared to provide borrowers with 

notes would have remained the dominant factor in 

the price of money. But we have seen that the 

regultUion arranged by the Bank Act has been set 

aside by the development of the use of cheques, and 

the dominant factor in the price of money is now 

the rate at which the other banks are prepared to 

provide borrowers with the right to draw cheques. 

/ Hence it is that the Bank of England, which is 

/ j expected to keep a gold reserve for the whole 

'economic body, English and foreign, whence any 

Jone who has a cheque on England can help himself 

N^{ at a moment's notice, is only in exceptional dr- 

^cumstances able to regulate the supply oi credit 

r^which is based on its reserve. 

rw. ' These exceptional circumstances arise (i) when 

V^ ' trade is so active that the lending power of the other 

banks has reached its limit, and so any more credit 

required has to be provided by the Bank of England, 

f/^y at its price, and so Bank rate is effective ; (3) when 

\J the payment of the direct taxes in the January to 


March quarter sweeps millions into the Treasury's 
account at the Bank of England, which thus obtains 
control of the position ; (3) at the end of the q\i&Tters(^ 
when the demand for credit and currency generally 
exceeds the outside supply, and the Bank of England ^..^^ 
has to fill the gap on its own terms ; and (4) when (^^ 
the Bank of England decides that the conditions of 
the international money market make regulation 
imperative, and so borrows money that it does not 
want in order to curtail the mass of credit created 
by the other banks, and force discount rates up to 
a point at which they will have the desired effect on 
the foreign exchanges. 

In times of crisis or of strong external demand for 
gold it need not be said that the Bank of England 
holds control either because it has taken measures 
to get it, or because the demand for credit has 
reached the limit of the outside, supply, or the 
exports of gold have narrowed the basis of the 
outside supply. The weak point in the system | 
is that in ordinary times, and especially when the f 
price of money is declining, the Bank has no control I 
of the position ; the credit factory of the other 
banks works away merrily and unregulated, pro- 
bably rather too last, and perhaps laying up trouble 
for the next spell of depression ; and in the meantime 
the Bank's task of increasing its reserve with a view 
to this next spell of depression is rendered difficult 
or Impossible, because it has QO voice in the value 


of mooey, which regulates the discount rate, which 
rules the exchanges. 

An interesting example of the working of this 
weakness in our system was afforded in the summer 
of 1908. Every one who has followed the recent 
events of monetary history, knows that for sonie 
years the abnormal activity of trade and other 
influences had caused chronic monetary stringency, 
which culminated in the American crisis of 1907. 
This eruption effectively checked the abnormal 
activity of trade, and monetary stringency gave 

^ place to abundance. The Bank of England which 
had stood in the breach In defence of the economic 
world during the crisis, and by raising its rate had 

\^ drawn in gold from seventeen different countries 
to supply America's needs, led the way in recog^ 
nizing the change in the position, and reduced its 
rate rapidly from 7 to 3^ per cent during the spring 
of 1908, thus allowing other centres, whose reserves 
had been depleted during the crisis, to replenish 
them out of the gold which arrives regularly in 
London from South Africa and elsewhere. This 
was the obviously wise and sensible policy, but after 
it had been carried out it might have been thought 
that the next step was to set about securing that 
increase in the Bank's gold store which had long 
been urged as desirable, and was then rendered 
possible by the great change that had come over 
the money market's position 


Whether the Bank Court did or did not desire 
to do so, is known only to itself; It may have had 
infonoation which led it to believe that monetary 
prospects iHTomised continued ease, and that there 
was no need to re^et the course of events. But-^ 
■the point to be noted is that even if the Bank had | 
wished to increase its gold store, it would have been | 
impossible for it to do so, unless it had intervened | 
and borrowed a very targe amount from the market ; i 
and this is a weapon of which it naturally only 
makes use when the outlook makes its employment-'^ 

Bank rate was still 2^ per cent, but it was wholly ~ 
Ineffective andan empty symbol The market rate was 
of course the rate at which the business was dpne, 
and its low level had the inevitable effect of sending 
p mass of bills to be discounted here, and of pre- 
venting foreign holders of English bills from renew- 
ing them as they fell due, much less increasing their 
purchases of them. And so England's imports oil 
securities were stimulated to a point at which it] 
had to send gold continually to the Continent, instead j 
of using it to build up the reserve. 
^ And this happened largely owing to the want of 
I connection, in times of monetary ease, between the 
\ official rate an(J the market rate. The only con- 
\ nection that exists between them arises because the 
} rate which bankers allow to depositors is more or 
less regulated by Bank rate, and is usually i^ per 


cent below it It might be supposed that this con- 
nection would suffice to establish some relation 
between the Bank rate and the market rate of dis- 
count, because it would be natural to infer that the 
bankers would expect to make some profit between 
their depositors and their borrowers ; if that were 
so it would follow that the rate at which they would 
lend to the bill-brokers could not Call much lower 
than I per cent below Bank rate, and that the 
market discount rate would thus be kept more or 
less approximately in touch with the official rate. 
But this expectation is not borne out in practice, 
because the large amounts of credit * that the banks 
handle, besides those which are represented by sums 
deSnitety placed on deposit, make the deposit rate 
a factor in part only of their business. The principle 
on which tiiey seem to work is the theoiy that it is 
better to get some sort of rate than none, and each ' 
one considers that if it refuses to lend to the bill- 
brokers at the rates which are supposed to be 
current, its neighbours will only get all the more 
I business ; and so in times of monetary ease, com- 
petition and rivalry deliver the bankers into the 
liands of the bill-brokers, who get money out of 
them on merely nominal terms, and then proceed 
to discount bills at rates which are unwholesome 
for the foreign exchanges. 

So, to return to our example, the sy^em 
• P. 124. 


worked in July, 1908, when Bank rate was 3) per. 
cent, the rate allowed by bankers to depositors 
was I per cent., the rate at which bankers were 
lending to bill-brokers was i per cent, the market - 
rate of discount was i^ per cent, the foreign ex- ^ 
changes were adverse, and alt the gold that came 
into London from the mines of Johannesburg 
went on to Paris or Berlin, It went to Paris 
because the low level of discount rate here made it 
unprofitable for French banks to renew the English 
bills that they held, and so gold went to pay for 
them as they were presented, and it went to Berlin 
because the low level of discount rates here enabled 
Berlin to pour bills — much of them mere finance 
paper — into this market to be discounted, and gold 
went to pay for these imported securities. 

We thus see in this example the direct chdn 1 
of causation between the competition and rivalry ! 
among the banks, which incite them to lend money I 
to bill-brokers at, or sometimes below, the rate at' 
which they borrow it from depositors, and the'. 
consequent inability of the Bank of England to \ 
increase its reserve, because the operations of the / 
other banks drive gold abroad. This result of their 
(5ompetition and rivalry, besides being injurious to 
the wider interests of the money market, is unprofit- 
able to the banks. If we could for a moment Imagine 
that they could lay aside their rivalries and make a 
mutual arrangement by which they agreed not to 



lead money to bill-brokers or anybody else at a 
I lower rate than \ per cent above that which they 
I, are giving to their depositors, it is {Probable that 
the amount that they would lend would be reduced ; 
but, on the other hand, the rate that they would 
receive on the sums lent would be very materially 

The -result would be that they would make less 
credit in times of ease, and in times of ease the 
superflui^ of manufactured credit is a dangerous 
temptation to speculators and kite-flyers — so much 
so that it has been observed by a seasoned and 
exceptionally well-placed watcher of the money 
market that " bad debts are made when 'money is 
cheap"; the banks' proportion of cash to liabilities 
would be higher, and their position would be 
stronger; their profits would be greater or no 
less, and the connecting link between Bank rate 
and the market rate would be established to an 
extent which would stilt permit of all desirable 
elasticity, but would provide a minimum beyond 
which the divorce between the two would prob- 
ably not be stretched. For the market rate of dis- 
count, as has been shown, depends to a considerable 
extent on the ciurent rate for loans from the banks 
to the bill-brokers. 

Whether such an agreement is possible Is another 

question. But the fact that a considerable number 

: of the banks already work 1:^'™^^"^ agreement in 


deciding on the rate at which they will lend money l; 
to their Stock Exchange clients is in favour of the | 
possibility. And since the bankers already to some 
extent regulate the rate that they allow to de- 
positors by Bank rate, such an arrangement as 
Is here suggested would introduce no new prin- 
ciple and effect no revolution, but merely carry the 
application of an established principle a step further. 

It would bring the Bank rate and the market rate 
into touch, yet quite distantly and elastically, and 
without establishing any cast-4ron link between 
them. And it would enable Bank rate to work, not 
as now, with the assistance of artificial and expen- 
sive measures that have suddenly to be decided on 
and executed by the Bank of England, and upset 
calculations, and cause inconvenience and irritation, 
but by a continuous and normal relation between it 
and the lowest [Hice at which credit is available in 
the mai^et. 

Under such circumstances the other banks 
might fairly claim to have a more definite influence 
on the movements in Bank rate ; and any process 
which would lead to closer co-operation between 
them and the Bank of England would be a gain. 




The account issued every Thursday by the Bank 
' of England, giving a statement of its position, is 
. generally regarded as the key to the condition of the 
London money market as a whole and is so awaited 
I and examined with keen interest Much Ingenuity 
is often required in unravelling the meaning of 
the movements in the various items, for the 
return, which is drawn up in accordance with 
the requirements of the Bank Charter Act, is 
by no means a model of lucidity. And some 
attempt at comprehension of the return is so 
essential to those who wish to grope their way 
through the mysteries of the money market, that 
we must now try to arrive at some sort of distant 
acquaintance with it Further than that we need 
not expect to ga It may be sdd of all balance- 
sheets that they are useful as a general indication, 
but apt to be misleading if used as a basis of detailed 
inferences, except by those who can go behind th« 


figures and find out what they really mean. In the 
case of the Bank retuni, which may be said to be a 
balance-sheet of a kind, only the broadest and most 
guarded deductions are possible, and they should 
be accepted with caution. Parliamentary wisdom, 
expressed in the Bank Act, decreed that the note- 
issuing business of the Bank should be separatee! 
from its banking business, and that this separation 
should be shown in its weekly account, which gives 
two separate statements, one showing the position 
of the Issue Department, the other that of the 
Banking Department It has frequently been sug- 
gested that this distinction is unreal and only 
darkens counsel, and that the Bank return would 
be clearer and simpler if the two statements were 
put together. There is something to be said for 
this view, but perhaps hardly enough to justify an 
alteration which would change the face of the 
return so completely and confuse comparisohs 
with its predecessors of the past sixty odd years. 
Overleaf is a specimen of the account as now pre- 
sented. Its figures are influenced by its being the 
last return of a half-year, so that the Other Deposits 
and Other Securities are increased by the Bank's 
provision of emergency credit. But it will serve as 
an illustration :— 




AN ACCOUNT paisiiiiit to the Act 7 and « VICT. cap. 32, for 

the week endioE on Wcdnoday, the itt day of Jnl^i >9o>> 




Goremment Debt 11^15,100 

Other Securities ,. 7^434,900 

GoldCoin&BoUioit 37,034,38$ 
Silver Bullion 


Dated the and day of July, 1908. 

J. G. Naixhs, Cli{^C<uMr. 


proprielon' Capital 



ities .. 

Other Securities .. 

(iocludiog Ex- 

Notes .. 

chequer, Savings 

Gold and Silvu 

Banks, Commif 

Coin « .. 

■ionen of Na- 

tional Debt, and 

DlTidend < Ac- 



Other DcposiU .. 


Seven - Day and 

Other Bills .. 





jf 78,660,71 3 

Dated the 2nd day of July, 1908. 

J. G. Nairm, ChUfCashUr. 


On the left or debit side of the statement of the 
Issue Department we find one item, that of its 
notes issued and outstanding, and it must be care- 
fully observed that their amount is not that of the 
Bank's note circulation, because a large proportion 
Is retained among the assets of the Banlcing 
Department, and constitutes most of T^at is gene- 
rally called the Bank's reserve. The Bank's note 
circulation is arrived at by subtracting the notes 
held by the Banking Department from those issued 
by the Issue Department, by which process we 
arrive at the amount of notes that are circulating 
at home and abroad or are held by the other banks 
to meet daily demands for cash. 

On the other side of the dividing line that 
separates the assets and liabilities, of the Issue 
Department appear the items on which the hank- 
notes are secured. First comes the Government 
debt, swollen to over 1 1 millions from the ^1,200,000 
to advance which to Dutch William the Bank was 
originally founded ; this is not represented by any 
holding of stock, but is a book entry between 
the Government and the Bank, and this item should 
be noted, because one of the suggestions made for 
the creation of bigger gold reserves advocates that 
the Government should pay this debt to the Bank 
in gold and that the Bank's fiduciary note issue 
should thus be permanently reduced The fiduciary 
(confidential) issue is that part of the issue that is 


based not on gold but on this Govermnent debt 
and the next item, Other Securities, which consist 
of British Government stocks; these two aggr^te 
nearly i8i millions, and this figure is at present 
the limit up to which the Bank is allowed to issue 
notes against securities. It was arrived at by the 
provision in the Bank Act which fixed the fiduciary 
Issue at 14 millions, and arranged that the Bank 
should be permitted to take over two-thirds of the 
authorized powers of any country bank which 
thereafter might allow its note issue to lapse. By 
means of these lapses, which arose chiefly owing 
to the absorption of country banks by companies 
which had London offices and therefore were 
debarred from note issuing by the Bank pf 
England's monopoly, the fiduciary issue has grown 
from the 14 millions at which it was fixed by the 
Bank Act to the 18^ millions now shown. 

Above this limit every note must have a bullion 
basis, and is as a matter of practice invariably based 
on gold. The Bank Act, however, allows one-fifth 
of the metallic basis of the note issue to consist of 
silver, and the weekly account as published by the 
Bank of England regularly contains the line " Silver 
coin and bullion ".with a blank opposite to it This 
power possessed by the Bank of basing part of its 
note issue on silver is often forgotten, but its 
existence was brought home to the City in 1897 
when the Chancellor of the Exchequer and the 

„.■ . X.oogW- 


Governor of the Bank seriously discussed a pro- 
- posal for putting it into practice. The arrangement 
was evidently due to pressure brought to bear 
on the Government of the day by the Bimetallists, 
who believed that silver and gold could be made 
to circulate on equal terms at a ftzed ratio, to the 
benefit of all concerned, and this mooted concession 
on the part of the Bank of England was part of a 
scheme for improving the position of silver. But 
it was nipped in the bud very early in its history. 
The Times found out what was afoot and exposed 
the scheme with dramatic effect There was such 
an outcry in the City that no more, was heard of 
the project, and gold remains the sole basis of every 
note that is issued by the Bank above the i8i 
million limit 

Proceeding to the Banking Department, the first 
item that we see on the liabilities side is the pro* 
prietors' capital, which speaks for itself, being 
obviously the amount subscribed by the original 
stockholders of the Bank, with subsequent additions. 
It differs from the capital of the other English 
banks by being in stock instead of shares, and by 
being fully paid up, whereas it is now the fashion 
for banks to have a reserve in the shape of a liability 
on their shareholders for uncalled capital But 
though the stock of the Bank of England is fully 
paid, authorities differ as to whether there is 
further liability on it It-is not a practical question, 

„.■ . ..C.oogle 


however, or one that need keep proprietors of 
Bank stock awake at night, and Parliament has 
distinguished the stock by including it among the 
iovestments open to trustees. 

The next item is the Rest, under which quaint 
, name the Bank holds what most other banks and 
I companies, which are fortunate enough to possess 
! one, call a reserve Th^ is, it is an accumulation 
of profits which have not been distributed as 
dividends but kept in hand to strengthen the Bank's 
position. It may seem at first sight puzzling that 
the possession of a liability should strengthen a 
company's position, but this liability, like the sub* 
scribed capital, is a liability only between the Bank 
and its shareholders, and is, of course represented 
by assets on the other side of the account, so that 
the proportion of assets to real outside liabilities — 
the demands that the Bank's customers can make 
on it— is strengthened by its existence; Unlike the 
reserve of an ordinary bank or company, however, 
the Bank of England's Rest constantly fluctuates, 
and it may be supposed that it more or less contains 
the Bank's profit and loss account balance. But it 
is shifted about from week to week in a manner 
which an outside observer can note, but not under- 
stand, and apparently mOst of the profit and loss 
balance is included in the Other Deposits, which will 
be dealt with later, and is transfecred to the Rest 
when it is wanted to pay dividends withaL At any 

THE R£ST 349 

rate, {t is not unusual to see a large amount sud- 
denly added to the Rest at the end of February and 
August when the Bank completes its half-year, and 
from the amount of the Rest at those dates it is 
possible to calculate what the distribution will be 
when the Bank Court assembles for the " making 
of a dividend." For the Rest is never allowed to | 
fall below 3 millions, and the amount above that I 
level at the end of the half-year is roughly the sutA { 
available for distribution. It may be noted that ' 
this three-million level of the Rest has been constant 
during many decades, and has not been increased 
in accordance with the addition to the Bank's out* 
side liabilities. Bagehot's " Lombard Street " gives 
the Bank return for the last week of 1869 with the 
Rest just over 3 millions and the Other Deposits 
at 18 millions odd. At the end of June, 1908, the 
Rest is still just over 3 millions, and the Other 
Deposits are 51 millions odd. 

The Public Deposits are the balances of the) 
various departments of the British Government, I 
which are held and administered by the Bank of , 
England as its banker. They fluctuate according ' 
to the briskness or sluggishness of- the revenue 
payments, and the rapidity or slowness with which 
the Government is making its various disburse* 
meats. A large sum is taken off them at the be- 
ginning of every, quarter, when the dividends on 
Consols and other Government stocks are paid, and 

„.■ . ..C.oogle 


this sum is transferred to the Other Deposits, or 
ultimately finds its way there. The payment of the 
Government dividends thus tends to make money 
abundant^ for it means that a credit at the Bank of 
England has been taken from the Treasury and 
turned into "cash in hand and at the Bank of Eng- 
land" in the control of the other banks, who can use 
it as the basis for the manufacture of more credit 
Ob the other hand in the March quarter of the year, 
when we are all paying our income-tax and house- 
duty, the Public Deposits swell, the Other Deposits 
dwindle, and money becomes scarce or "tight" in 
the City phrase. It is important to remember 
'.that an increase in the Public Deposits means 
an increase of credits over which the Bank 
keeps command and control, but an increase 
in the Other Deposits means an increase in its 
liabilities to the general public and in the "cash 
at the Bank of England" which is used, like gold 
or notes, as a basis for credit-making by the other 
banks. It thus follows that when the payment 
of the direct taxes Jn the March quarter swells the 
Public Deposits at the expense of the Other, by 
the transfer of credits from the taxpayers to the 
Treasury, the other banks, in order to maintain 
their balances at the Bank of England, have to call 
in funds that they have lent They accordingly 
reduce their loans at call or short notice with the 
bill-brokers, and the latter in order to fill the gap 


generally have to borrow from the Bank of England 
and so restore the basis of credit by produdng 
fresh supplies of cash at the Bank of Engluid, 
which take the place of those which the tax- 
gatherer's activity has transferred from the banks' 
to the Government's balance. The bill-brokers, 
being thus the chief sufferers from this seasonal 
stringency, cry out with great vigour upon the 
iniquities of a system which thus locks up the 
money of the tax-payer in the control of the Bank 
of England, which wilt only lend at a rate which is 
normally higher than that current in the market ; 
and they maintain that trade is thus penalized and 
the clock of economic progress put back, and that 
it is necessary to adopt measures for a radical 
alteration in the whole arrangement, by which the 
big balance accumulated by the Treasury in the 
March quarter should not be retained by the Bank 
of England, but distributed among the other banks, 
which would be prepared to lend at the market 
rate. In all these objections there is a certain 
amount of reason, but they are overwhelmingly 
answered by the practical fact that this normal, 
tightness of money in the March quarter gives the 1 
Bank of England a much-needed opportunity of \ 
replenishing its reserve against the demands of the \ 
latter half of the year. If the Bank rate and market 
rate were kept normally in closer touch there would 
be no need for the Bank to take advantage of the 


period of tax-^thering and tightness in order to 
strengthen itsdC And then it might be possible 
to discuss measures for relieving this spring-tide 
ctrsin on the bill-brokers, not by such revolutionary 
means as they are fond of suggesting, but by 
modifying the system under which the bulk of the 
direct taxes are paid in the last quarter of the finan- 
citi year, and perhaps by accelerating the rapidity 
with which the tax-gathered money is paid out again 
, by the Treasury. But as things are at present, the 
'.long period of control of the position which is 
'^secured to the Bank by the transfer of taxes to the 
public Deposits, gives it its only chance of strength- 
' eniag itself except by the adoption of borrowing 
^measures to which it is naturally reluctant to resort 
. "Other Deposits" is the comprehensive title 
under which the Bank includes all its liability on 
' deposits to any one but the British Government 
Within this item is locked up the secret of the real 
position of the money market, for it contains the 
balances of the other banks, and as the Other De- 
posits rise and fall it is ^rly safe to expect that 
that part of the basis of credit which consists of 
the cash at the Bank of England which they show 
in their .balance-sheets also expands and contracts. 
This expectation is fairly safe, but it must be re- 
membered that the Other Deposits contain many 
other accoimts besides those of the banks. It is 
generally believed in banking circles that the 


average amount of the bankers' balances Is 22 to »$ 
millions. In the return given on page 244 they were 
probably swollen by the usual proceedings at the 
end of the half-year. But perhaps about 20 millions 
consisted of liabilities to other creditors, including 
governments, municipalities, and the Bank's many 
private customers. It thus follows that the really 
interesting movements that take place in the books 
of the Bank of England are hidden from the public 
gaze, for they are transfers to and from the various 
accounts which are included in the Other Deposits, 
and therefore do not affect their totaL And hence it 
is that the Bank return, though in some senses a 
very full statement of the Bank's position, is only a 
tantalizing indication of the outside of > things, of 
which monetary students crave hungrily for- details. '. 
It is often suggested that more light should ber 
thrown on the position by the separation of thej ' 
bankers' balances, in the weekly return, from thosej 
of the Bank of England's other customers. Thisl 
demand for more light is attractive, but extreme 
caution is desirable in approaching this very 
delicate question. In the first place, h may be 
observed that no other bank makes any dis- 
tinction in its balance-sheet between the various 
classes of its customers, so Xhat the Bank of 
England by separating the Public and Other De- 
posits makes a certain concession to the peculiar- 
ities of. its position. It is also clear that the Bank 


of England could not fairly be asked to give a 
separate statement of the balances of its banking 
customers unless they themselves expressed a 
definite and unanimous desire that It should do so. 
As their banker It is their confidential servant, and 
it has no right to tell the general public what they 
have got in its books, singly or collectively, unless 
tmder instructions from them. 

The Bank of England is generally believed 
to be opposed to the separate statement of the 
bankers' balances and has tieen publicly accused 
— apparently without foundation— by a bank chair- 
man of instigating the Treasury to block a motion 
fn Parliament for a return showing them. But it 
appears that the Bank does not, as such, object to 
the separation in the return of the bankers' 
balances from the Other Deposits, if requested to 
show them by all the other banks or by an order 
from Parliament It is asserted, however, that at 
certain periods of the year these bankers' balances 
are larger than the Bank of England's reserve, and 
'. this may well be the case, when the banks are calling 
' in loans for balance-sheet purposes at the end of 
the half-years, and the bill-brokers are thereby 
driven to the Bank to supply the rest of the com- 
munity with emergency credit, by borrowing from 
it for a few days, until the other banks are once 
' more lending freely. The publication of the 
bankers' balances, swollen in this manner to a total 

„.■ . ..C.oogle 


above that of the Baok's reserve, might lead to i 
false deductions by the general public, and it is 
therefore conceivable that the Bank might with- 
draw the facilities hitherto granted for the pro- 
vision of this emergency credit The withdrawal 
of these facflities would be inconvenient to traders 
and other users of credit, though it would tend to 
the increase of the cash reserves normally held by 
the banks. 

The little item of a few thousand pounds'-worth 
of seven-day and other bills — "a trifle, some ten- 
penny matter," as Prince Hal says— represents an 
old-fashioned form of remittance still used for 
certain revenue payments. 

We now tura-to the other side of the account 
to consider the assets which the Bank holds against 
these liabilities to its stockholders and customers. 
We have seen that the two first liabilities, capital 
and Rest, are owed by it only to its proprietors, and 
are therefore not a debt in the same sense as the 
others, and, when working out the proportion of 
cash to liabilities, it is only the liability to cus- 
tomers, the Government and other depositors, and 
the holders of seven-day and other bills, that is 
included in the calculatioa 

In its treatment of the liabilities side of its 
account we found that the Bank to this extent 
gives fuller information than other banks, in that it 
separates the Public from the Other Deposits ; but 

I);,. :,C.oi">t^le 


on the asieta ude its statement, which, be it re- 
membered, was arranged for it by Parliameot sixty 
I odd years ago, is distiDguished by obscurity. It 
mains qo distiiictioa between its investments, its 
\ loans and its discounts, all of which are stated 
\ under the heading of securities, these being dis- 
\tinguished as Government and Other. In this case 
again Government means only British Government, 
and the item Government securities covers the 
Bank's holding of Consols and other British Govern- 
ment stocks, Treasury bills, Exchequer bonds, and 
other short obligations of the Government, and any 
loans that it may have to make to the Treasury in the 
shape of Ways and Means or Deficiency advances, 
when the exigencies of "supply" or of dividend 
payments compel the Government to draw on its 
banker. As these temporary borrowing operations - 
by the Treasury are indicated more or less by the 
weekly returns of public income and expenditure, 
published in the GazetU, it is possible with their 
assistance to get a dim glimpse of the meaning of 
the movements in the Government securities in the 
Bank return ; but these Government returns are 
slow in appearance, inadequate in information, and 
obscure in expression, and any one who attempts 
to find his way with their help towards * compre- 
hension of the relations between the Government 
and the money market is entering a path full of 
pitfalls. It is rather curious that the money market, 



which so often has to come to the asststaace of the 
Government by subscribing to Treasury bills or 
otherwise, submits patiently to handing over its 
money to a borrower whose operations are veiled 
in so much mystery, and at the same time are of 
such great importance^ Broadly, however, it may 
be stated that when the Government securities ' 
item rises, either the Bank has been increasing its 
holdii^ of Consols or other Government obligations, 
funded or unfunded, or else has been making some 
sort of an advance to the British Government ; and 
when it declines, it goes without saying that one of 
the contrary operations has taken place, that the 
Bank has been selling its Consols, etc, or having 
an advance repaid by the Grovemment ; but there is 
yet another possibility, for the Bank may have been 
borrowing from the market and giving some ot its 
Government stocks as security. When it borrows I 
in order to curtail the supply of credit it is usual to / 
see a decrease in the Government securities, and i 
sometimes in the Other Securities likewise. But it] 
is important to remember that when the Bank lends 
money to the market its holding of Government 
securities is not thereby affected ; very probably it 
lends on the security of Consols, but this security 
is only collateral and the borrowers' promise to 
pay is what it relies on first, and it therefore in- 
cludes advances to any borrower but the British 
Government under Other Securities. 



The Other Securities are thus already to a great 
extent explaioed. They include all iDTestments 
held by the Bank, other than obligations of the 
1 British GoTernment ; all advances to its private 
t customers, or to bill<brokers, stockbrokers, muni- 
cipalities, colonial Governments, accepting houses, 
colonial or foreign banks, or any one, except the 
British Government, who may have need of its ser- 
vices and possess the wherewithal to obtain them ; 
all the bills that it has discounted, whether in order 
to provide credit for the I^ndon bill-brokers, when 
ca^ has been called in from them by the other 
banks, or in the ordinary course of trade. The 
comprehensive nature of this item thus entails much 
wariness in drawing conclusions from its move- 
ments, and it is often suggested that the Bank 
return would be a much more lucid statement of 
the position if its loans, discounts and investments 
were separately stated instead of being thus massed 
together. The gain in lucidity would certainly be 
enormous, and it is diificitlt to see that any valid 
objection can be raised against this step in the 
direction of publicity and clearness. 

Finally, having thus arrayed the obscurities 
which clog any attempt to unravel the meaning of 
the Bank return and the movements in its various 
items without assistance from those who know 
what is behind the figures, we may arrive at 
the one broad and platitudinous conclusion that 



can invariably be drawn from ft ctiange In the 
Baait's holding of securities. It is safe to expect \ 
that any increase in the securities will pro \ 
tanto increase the supply of money, and any de- < 
crease will reduce it For since every amount \ 
lent means a corresponding credit in the Bank's ' 
books, an increase in the securities causes a cor- 
responding increase in the deposits, either Public 
or Other; and if the Public deposits have been 
Increased by an advance from the Bank it may 
be assumed that this has been done because the 
Government has payments to make, and that the 
Increase will shortly be transferred to the Other 
deposits, and so will be added to the "cash at the 
Bank of England" in the books of other banks, 
which is regarded as equivalent to gold as part of 
the basis of credit Or the increased credit may 
be employed in the withdrawal of actual currency 
from the Bank, which will so be added to the cash 
in hand of the commercial community. At the j 
same time it is equally true that an increase in the ' 
Bank's securities, though it tends to make money ; 
cheap, is generally accompanied, and caused, by I 
ileamess of money, which drives bon-owers to the \ 
Bank in order to increase the supply. 

And now we come to the last two items on the 
assets side of the account, which taken together 
constitute what is generally spoken of as the 
reserve of the Bank of England. It should be noted 



that this reserve Is, In accordance with the confus- 
ing habit of economic phraseology, a reserve in 
quite a different sense from the reserve or reserve 
fund of another bank or company. Ordinarily a 
company's reserve means an accumulation from 
protits which have not been distributed as dividend 
but kept in hand for use in case of need. The 
Bank of England, as we have seen, possesses a 
reserve of this kind, and calls ft its Rest But when 
' we speak or write of the Bank's reserve we mean 
\ its holding of cash in the Banking DepartmeoE ' Th^ 
the account before us it consists chiefly of notes 
with a comparatively small proportion of coin 
and bullion; the coin and bullion may be called 
the Bank's tilt money, the coin that it iias in 
hand to meet cheques drawn on it, and for other 
ordinary banking business. Any more gold that 
, comes into the Bank's hands goes into the Issue 
Department, and notes are issued against it and 
put into the assets of the Banking Department 
It is a confusing and complicated arrangement that 
makes the notes a liability of the Issue Depart- 
ment and an asset of the Banking DeparUnent, 
but we can simplify it a little by regarding the 
notes of which the reserve largely consists as 
bullion certificates representing gold in the vaults 
of the Issue Department 

For practical purposes we are justified in doing 
BO, but it must not be forgotten that notes are not 



actually quite bullion certificates, since as we have 
seen they are to some extent based on securities 
and Government debt, and in the account before us 
about one-third of the backing of the notes is thus 
composed. And it thus appears that the liabili- 
ties of the Banking Department of the Bank of 
England, which are used as the basis of credit 
by the rest of the banking community, are repre- 
sented as to one-half or rather more by securities, 
and as to most of the rest by notes, which are again 
represented as to about one-third by securities. It 
is a beautiful if rather complicated development of 
the use of credit, and economy of metal, but the 
attractiveness of the system, on paper, and its 
smooth working in practice, make it all the more 
essential to be sure that the solidity of the machine 
is carefully watched over, and that metal is not 
economized to a dangerous extent 

This part of the Bank oX.^ilgllitld's task is the 
more difficult' becau se it h gs no control over thg 
e xtent to which its hankin g puatn mers create credit 
All that it can do is to try to muntain its reserve 
by the use of its rate, when its rate is effective, but 
the quantity and quality of the credits that are 
given to the commercial community both local and 
foreign by the other bankers are matters which are / 
necessarily in the hands of the latter. And the 
elasticity of the system, which is one of its chief { 
attractions, thus results in the Bank's reserve being ; 



liable to be depleted by credits given by its cus* 
tomers, over which it can have no control An 
advance given by one of the other banks to a foreign 
financier, in the shape of a loan against securities, 
or an acceptance or the discount of a bill, may mean 
that the foreigner takes advantage of the credit so 
given to demand gold ; this demand will fall ulti- 
mately on the Bank of England, which will take the 
gold out of its vaults and cancel a corresponding 
number of notes. As it obviously cannot cancel 
notes in circulation it has to cancel those in its 
Banking Department, «nd so its reserve is thereby 
diminished by an operation of which it had no 
knowledge. And we so come back once more to 
the importance of the other banks, and see that the 
manner in which they conduct their business of 
credit-making has a very considerable bearing on 

( the problem of the defence and maintenance of the 

V Bank of England's reserve 





Having thus completed our inspection of ttie main 
wheels in the monetary machine, and arrived at a 
necessarily rough and elementary notion of the 
manner in which they work together and react 
upon one another, we are in a position to consider 
the problem that has for many years exercised 
the banking world, namely, the alleged inade^ 
quacy of the metallic basis on which the monetary/ 
machine manufactures credit, and the measures^ 
necessary for reinforcing it 

This inadequacy has been asserted over and 
over again by bank chairmen at half-yearly meet- 
ings, and by presidents of the Bankers' Institute in 
the course of inaugural addresses, and the few 
dissentients who deny its existence, generally 
complicate matters by maintaining that what is 
wrong is not the lack of gold but the over-extension 
of credit We need not pause to consider this deli- 
cate subtlety. Whether the foundation be too small 
for the building, or the building be too big for the 
foundation, the same practical conclusion arises, 
„.■ . ..C.oogic 


namely, that either the building must be reduced, or 
the foundation must be increased, or both processes 
must be carried out together. And when we find 
bankers themselves maintaining that the gold basis 
of their credit operations is inadequate, it must 
be admitted that their evidence is of the greatest 
possible weight, and that any outsider who gainsaid 
it would incur a heavy responsibility. 

We have seen that banking in England, in its 
modem sense, works without any legal fetter or 
restriction, and we have seen reason for being 
thankful that it does so. And we have also seen 
that it has perfected a marvellously efficient system 
of credit, with a metallic basis economized with 
unparalleled skill and success. And the more 
closely one examines the basis of credit, the more 
clearly it becomes apparent that that basis itself 
consists to a considerable extent of credit 

For example, we saw that the half-dozen big 
banks whose balance-sheets we amalgamated on 
p. 59, had as the cash basis of their liabilities on 
current and deposit account, which amoimted to 
349 millions, 43 millions of cash in hand and at the 
Bank of England — nearly 18 per cent, a high pro- 
portion according to present ideals It would be 
interesting to know bow much of this is gold. One 
of the banks included, the Union of London and- 
Smith's, which we have referred to before as being 
conspicuously explicit in its balance-sheet, shows 
„.■ . ..C.oogle 


this same quality agaib by separating, alone among 1 
Its peers, its cash in hand from its casb-«t the Bank 
of England. It had on June 30, 1908, jf 3,009,000 of \ 
cash in hand andj£'3,4i2,ooo at the Bank of England. \ 
If th«e figures be a safe guide to the position of 
the Union's brethren, which we must admit that 
they may not be, we shall be within the mark if we 
assume that, out of the 43 millions held by the 
a^regated six, 20 millions are cash at the Bank of 
England, that is, are a liability of the Bank of Eng- 
land to these six banks. But the Bank of England's 
normal proportion of cash to liabilities in its Bank> 
ing Department ranges from about 35 to 55 per cent; 
and if we take it at 50 per cent, we are again doing 
ftill justice to the position; so that of these 20 
millions on which the six banks have based credits 
10 are represented by cash held by the Bank of 
England Moreover, the cash held by the Bank 
of England's Banking Department consists chiefly 
of its own notes, and its notes, though regarded for 
practical purposes as a bullion certificate, are actu* 
ally backed by securities to the extent of nearly 
i8i millions — almost exactly one-third of the out- 
standing amount of notes in the return given on 
p. 244. We thus arrive at the conclusion that, of't 
the cash at the Bank of England which other banks | 
use as the basis of credit, half may be taken as '; 
represoited by securities and half by cash, and -; 
that this cash is itself represented as to one-third j) 
„.■ . ..C.oogle 


by securities and two-thirds by gold. The 30 
millions of cash at the Bank of England are thus 
found to be based on £6,666,666 of actual gold 

And this is not alL For a considerable propor- 
tion of the cash in hand shown by the otlier banks 
I will certainly consist of Bank of England notes, of 
which we have seen one-third to be represented by 
paper. Stall and success in the economy of metal 
could hardly be carried further. 

The reasons which make a gold basis necessary 
for credit were traced in earlier chapters, and may 
be roughly summarized as arising from the fact 
that gotdjs the only commodity that is e^rywhere 
and always in the economically civilized...wQrld— 
accepted in payment of a debt, and that readiness 
to meet liabilities in gold, at once and without— 
question, is an essential part of a banker's business,.^ 
as understood in this country. . - 

The liabilities of bankers to the public we have 
seen to be created, for the most part, by securities 
that they buy and advances that they make in one 
form or another, the advances being the much 
bigger item, and bankers' liabilities form the credits 
with which the financial and commercial body 
carries on its business, and against which it draws 
the cheques, which are the most important part of 
our currency. The problem of banking is the crea- 
tion of these credits for the service of commerce, 
with due consideration for a suflicient-basis of gold 


to meet the demands which these liabilities render 
possible. A banker who holds too high a proper* { 
tion of gold curtails his own or his shareholders* 1 
profits and the credit resources of the commercial \ 
community. The banker who holds too low a pro- | 
portion runs a risk of being unable to meet bis 
liabilities, to the detriment of his bank's credit, and | 
with the possibility of raising a storm which might 
shake the whole banking community. Between 
these two evils the banker is asked to steer a middle 
course along the line of prudence and common- 
sense, and he !s now convicted out of his own 
mouth of having erred a little on the side of making 
too much credit out of too little gold. 

The fkct that the banking world is in a position 
to air iq public the existence of this error of its own 
is a comforting proof of Its own confidence in 
itself, and indicates very clearly that the extent of 
the error is not considerable. It is the healthiest 
possible sign of the soundness of the banking posi- 
tion, and shows that the alarmists who point to the 
higher level of banking reserves held in other coun- 
tries, and then draw terrifying inferences concerning 
the conditions prevalent here, are exciting them- 
selves needlessly. As long as bankers are criticizing 
themselves and one another in publi(^ we may be 
sure that the evil is not very deep-rooted. Never- 
theless, the dangers involved by this evil, which 
have been pointed out above, are such that it should 


be removed at once. And so, though this book is 
only designed to make monetary matters a little 
clearer to those who do not understand them, it 
would not be complete without some account of 
the suggestions that have been made for the 
solution of the problem. 

Among these suggestions many seem to indicate 
that the desired increase in the gold basis of credit 
is to be acquired by taking gold out of one pocket 
and putting it into the other. Whether it is to be 
done by the Treasury keeping a reserve against its 
banking liabilities to savings bank depositors, or by 
its repaying its debt to the Bank of England in 
gold, or by tlie establishment of a national gold 
reserve at the expense of the taxpayer, or by an 
issue of £i notes against gold, or by the amass- 
ing of a special reserve by the banks to be 
deposited at the Bank of England under special 
safeguards, and only touched in times of need — 
and all these proposals have been put fo^ard 
as a solution of the problem— it never seems 
to be observed that the amount of gold in the 
country will not be directly increased by any of 
them. For whether the Treasury or the banken 
produced the gold for the new reserve or to repay 
the bank, etCu it could only be got by either taking 
it from the Bank of England's vaults and putting 
it back again, or by taking it out of the tills of 
the other banks and putting it into the Bank of 
„.■ . X.oogW- 


England's. And in either case the relation of 
the amount of credit to its gold base would be 

If, as is generally acknowledged in the City, the | 
gold tuisis of our credit be inadequate, it must be \ 
increased— since we do not dig out gold in this . 
country, and have no big hoards that can be drawn 
on in our stockings and our pockets— by imports, [ 
or rather by the retention of a largef proportion of \ 
the imports of gold which come here regularly week \ 
by week from the mines of Johannesburg. 

These mines are the chief source which feeds the 
London bullion market Every Saturday the Union 
Castle steamer from the Cape lands a parcel of raw 
gold from the Rand ; every Monday it is dealt with 
in the bullion market, and after being refined goes 
to its purchaser. A certain proportion is always 
taken by " the trade," that is, the goldsmiths and 
others who use it in the arts and in commerce, and 
a certain proportion nearly always goes to India in 
the form of small and specially polished bars dear 
to native hoarders. The rest, if there be no com- 
petition, goes to the Bank of Ejigland, which pays 
for it, or gives credit for it, at the rate of £^Hfs. gd. 
per oz. When there is competition, foreign buyers 
take part of the parcel or all of it ; and sometimes 
the Bank of England secures a share by paying 
rather more than Its statutory price, though it 
rarely bids higher than 77A vi^d,, which is the 
„.■ . A.oogle 


rate at which gold is coined into sovereigns. But 

gold is best secured or retuned, not by bidding for 

it in the bullion market, but by influencing the 

' foreign exchanges through the discount rate current 

; in the open market 

I It has been shown in preceding chapters that 

the foreign demand for gold chiefly depends on the 

,' I state of the exchanges. If the Paris cheque is at 

I '\ 2$/. 13c. it is cheaper for any one who has a remit- 

' ^^ance to make to France to send gold rather than 

^uy a draft And the state of the foreign exchanges 

is influenced by the market rate of discount; if the 

market rate is li per cent here and 1} per cent in 

Paris, French holders of English bills will not renew 

them as they fall due, but send them over to be 

collected and take the j>roceeds away ; and, as we 

have seen that it pays better at a certain exchange 

to take the proceeds in gold than by the purchase 

of a draf^, gold goes from London to Paris. 

Sometimes the foreign demand for gold arises 
from uneasiness, financial or political, at some 
foreign centre, which impels it to bid eagerly for 
gold, even though it may not be the more profitable 
form dF remittance. But these operations are ab- 
normal and exceptional, and it may be said that as 
a general rule, and with allowance for the innumer* 
/ able exceptions that complicate the working of the 
; most watertight economic law, gold is taken from 
'.London when the exchanges are against us, and 


the exch anges are Jnfluen cedby t he marke LcattLQ/ j^ / 
discount, which_affects the import and exp ort,jf ■ ; / 
securities, and so the trade balance in the widest * 
sense of the term. 

^ It therefore seems to follow that in order to 
attract gold, or to retain a larger share of the gold 
that comes here from the English-owned mines in \, 
Johannesburg, it is necessary to have a temporarily 

^ higher level of discount rales here. For, if we set >. 
about the business io the only other possible way, / 
by paying a higher price for fold than anybody else \ 
in the bullion market, it is most probable that we ( 
shall only make matters worse, because as fast as / ,' 
the gold is accumulated, the faster will discount/^ 
rates go down, and the more the exchanges will go! 
against us, and the keener will foreign competition ', 
for gold become. For as monetary matters are at , 
present arranged, any increase in the gold reserve 
stimulates expectations of cheaper credit and -en-' 
courages the bankers and bill-brokers to buy bills 
at lowftr rates. 

Having thus groped our way to a conclusion as 
to the method by which an increase in the gold 
basis of credit is to be secured, let us try to dis- 
cover who should bear the expense, if any, of the 
operations that have to be carried out More gold 
ts wanted, because it is considered by the banking 
community that the amount of currency and credit 
U too big for the foundation of gold on which it is 



based The creation of this currency and credit is 
profitable to those who make them and to those 
who use them, in other words, to the bankers, 
including the Bank of England, mod to the com- 
mercial and financial community, including the 
Government, which makes both permanent and 
occasional use of the credit machine. And it seems 
obviously fair tliat those who benefit by the exten- 
sion and elasticity of our currency and credit system 
should make any sacrifice that may be necessary 
for the establishment of a stroi^r foundation 
for it 

Whra bankers approach this question they are 
fond of pointii^ an accusing finger at the Post- 
Office Savings Bank, and the fact that the Treasury 
keeps not one farthing of metallic reserve against 
the millions of liability that this bank has in its 
books ; and they maintain that the Treasury ought 
to lead the way by makii^ amends in this matter 
and providing a reserve of gold against the Savings 
Bank deposits. With all deference to the eminent 
authorities who have enunciated this theory, I 
venture to think that they are shooting at the 
wrong mark. The manner in which the Treasury 
has handled this question of Savings-Baok finance 
is open to vigorous and voluminous criticism, but 
it is happily irrelevant to the present problem. 
Thp Post-Office Savings Bank is not.A baQk-Jll_ 
the ordinary sense 'of tBe word, and ^?l^ nothing. 



t o '^'^,y**!\j^!!J;_j!i'!?^*:l?^ "*^ '^trTj\e*^^^^"E *^* - 

^bas» of currency and ^redit^becaus? it. issues na- 
currency~iui3"creates no credit. No one draws a 
cheque on the iPost-Office Savings Bank, and no 
borrower goes to it with securities or bales of wool 
to ask It for ao advance. It Is a trust company * 
rather than a bank, and the fact that it has the con- 
solidated fund of the United Kingdom to draw on 
at need makbs the provision of a gold reserve for 
it a needless and expensive luxury. 

The point at which the Government touches/ 
on the gold reserve question lies rather in thel 
fact that it is to a certain extent responsible fo#; 
one of the weaknesses Id the basis of credit and.. 
currency, by permitting the Bank of England toy 
Issue notes against a promise to pay by the \ 
Treasury. We have seen above that one of the \ 
assets held in the Bank's Issue Department agdnst 
Its note issue is a loan to the Government standing 
at eleven millions odd. Since the Bank Charter 
Act was passed the cheque has to a gnreat extent 
taken the place of the note for the purpose of 
currency, and the note has become a basis of 
currency, being held chiefly by bankers in their 
tills and cash reserves, and as part of the founds 
tion on which they build their fabric of credit 
This being so, without any disrespect to the 

■ In the English mok, meaning u tnrestment company. 



frameri of the Act we can point out that a piece 
of paper which is used as a basis for currency 
and credit ought to be as tittle as possible based 
on other pieces of paper, in other words that the 
fiduciary part of the Bank's note issue mig;ht with 
advantage be reduced. And a very simple and 
obvious method of curtailing the proportion of 
paper that is behind the bank-note would be for 
the Government to repay gradually its boolc debt 
of eleven millions, perhaps at the rate of half a 
million or a million per annum, according to the 
prevalent conditions. There would be no need 
to ask the Treasury to make this repayment in 
gold and to expect it to go into the bullion market 
and bid for the necessary metal I have tried to 
show that this is not the best way to increase the 
gold store, and in any case it is not an operation 
that the Treasury is well qualified to carry out 
All tliat is wanted is that the Government should 
out of the Sinking Fund give the Bank a cheque 
for perhaps half a million a year, in redemption of 
its book deb^ which heads the assets in the Issue 
Department A small part of the Sinking Fund 
would be devoted to this purpose and would be 
redeeming debt, which is its businessL 

Let us see what would follow. In the Issue 
Department account in the Bank return the notes 
Issued and the Government debt would both be re- 
duced by half a million. In the Banking Department 


account the Public Deposits would be reduced by{ 
half a miUion and likewise the notes held on thel 
other side, forming part of the Bank's reserve, j 
The reduction m th e Public Deposits would ulti- 
niatel y reduce the Other Deposits, b ecause tile "use 
nf '^Irinj^Fiind monnyfrrr nanrrllatinn nf thJi drtit 
wouIH^^uce the amount that would otherwise be 
transferred to them through purchases of Consols or ,. 
other stock. Th ci propor tion o f me tal^behind thej/' 
bank-note would thus be increased. If the process 
were sufficiently gradual it would cause no approach 
to monetary stringency; but it would insensibly 
narrow the paper basis of credit, and this narrowing 
would have to be made good by the attraction of 
gold to take the place of the cancelled paper. At 
the same time it is chiefly a waste of time to discuss 
such a measure, i>ecause in the first place it would 
imply an alteration in the Bank's charter and much 
Parliamentary discussion and delay; and in the 
second, since most of the proiits of the Bank's 
fiduciary issue go to the Government, the loss fol- 
lowing on its reduction would fall on the tax-payer, 
who would consequently look sourly on it We 
must try some line of less resistance. 

The attraction of gold to increase our store is 
best secured, as I have tried to show, by means of 
the market rate of discount The market rate of dis- 
count is regulated in normal times chiefly by the 
action of the outer banks, and we thus arrive at their 


share in the operations which are necessary for the 
reinforcement of the basis of credit and currency. '^ 

Their share ought to be substantial For they 
issue most of our modem currency in the form of 
cheque-books to be filled up by their customers, 
and manufacture most of the credit by rnakii^ 
advances, discounting bills, and financing the 
discount houses. Any undue extension of cretUt 
that exists may fairly be laid at their door ; for 
we have seen that the Bank of England, which 
is the greatest credit-maker of all, because the 
credits that it makes are regarded as cash by other 
credit-makers, exercises a selMenying restraint in 
the matter and habitually shows a very much 
higher proportion of cash to liabilities than the 
other banks. 

IKnce, then, the other bankers are themselves, 
responsible for the undue extension of credit, 
which they themselves have stated to be a problem 
requiring attention, it would seem that they them- 
selves coutd very easily settle the matter, by 
( quietly and gradually paring away the over-grovth 
1 until the volume of credit was brought within a 
^ satisfactory relation to the cash on which it is based. 
And it would also seem that this simple process 
would be the more expeditiously set about because 
its operation, as we shall see, would itself have the 
effect of helping to attract or retain gold, so that 
the strengthening profcesa would go on at both 


ends at once— the reduction of credit would\ 
Increase the basis of credit, and the improvement 1 
in the proportion between the two would thus \ 
double its pace. Moreover, it would appear that 
a period of pronounced ease in the money market, 
due to slack trade and reaction after the American 
crisis, jrould be an ideal opportunity for the banks 
to set about curing the malady with which they 
find themselves to be aSIicted. 

Thb opportunity presented itself, and nothing \ 
was done. And for the very good reason that the \ 
banks are human. The need for reform has been ', 
put forward by big men in the banking world 
representing the big banks ; and the lesser lights 
representing the smaller banks do not like the 
notion of seeming to be led or instructed. More- 
over, it is, as a rulje, the smaller banks that are the 
worst offenders in the matter of over-extension of 
credit, and they fear that a self-denying ordinance 
would affect their profits more than those of their 
bigger brethren. So they, or some of them, resent 
the whole discussion, urge that any restriction of 
credit would be bad for trade, refer the question to 
committees, ventilate proposals for the acquisition 
of gold by somebody else, and maintain that this 
is a national question which ought to be solved 
at the national expense, and so on. AH this is 
very natural and reasonable and human, but 
does not quicken progress. And the advocates 


of refbnn are forced to the melancholy conclusion 
that agreement among the banks, which is the 
I obvious and simple way of securing it, seems to 
. be impossible. 

I This result is the more lamentable because the 
smaller banks are asked to do very little. Nobody 
suggests that a cast-iron rule oi^t to be laid down 
as to the proportion between cash and liabilities 
that a bank ought to keep. All that is needed is 
an extension of the publicity, which, partially and 
iUogically applied, has already been coincident 
with a great increase In tunking solidity and 
-■ In other words, It is only suggested that the 
I banks should show what proportion of cash to 
I liabilities they habitually keep. This is already 
done by nearly all the biggest, strongest and most 
successful, and the adoption of the practice by the 
rest seems a most modest suggestion in the 
direction of reform- 

We have seen in a former chapter that, under 
present arrangements, some banks publish a yearly 
balance-sheet, most of them a half-yearly, and a 
select few issue a monthly statement of cash and 
liabilities ; of these last, one shows its average 
daily cash holding throughout the month, the 
rest show the position on one day. In the case 
of some of them it is known that this statement 
gives a fair view of their normal position, but in that 

„.■ . ..C.oogle 


of others it is suspected that loans are occasionally 
called in or bills are allowed to run off, with a 
view to making a good display of cash, so that 
the statement is to some extent misleading; and 
the habitual development towards stringency 
shown at the end of every month lends colour 
to this belief The more acute development of 
stringency towards the end of each half-year, 
though to some extent due to other causes, also 
tends to show that the many banks which prepare 
balance-sheets only at those periods, restrict 
credits with the same object 

It is therefore contended that, If all banks i 
regularly showed their habitual position, the 1 
over-extension of credit would at once be cured, > 
because the over-extension of credit is carried. 
out by thelanks which do not issue feriodical- 
s'tateinents," "or" prepare' foir Jhem by cdltng la 
ioans. Therefore, say the advocates of reform, 
If all the banks agreed to make monthly state- 
iments showing their average position, not the 
position on a certain day, this calling in of 
loans when publicity is applied, and over-extension 
of loans when it is withdrawn, would be made 
Impossible. Another suggestion with high autho- 
rity behind It and probably equally efficacious, 
proposes that every bank should make a weekly 

It is pleasant to build castles in the air, even in 

I);,. :,C.oi">t^le 


the monetary air, and in spite of the difficulties in 
the way of this simile reform, let us see how it 
would wor^ and what effect it would have on this 
question of the gold reserve 

u^ immf^iaff; gffject_w ould bc thc blott ing out 

^ of a certain amount of credit whi ch ought not to bc 

' t&'eusletice, because its makers,. .thsma^ySS cook 
sider it advisable to blot it out temporacilyjuWhea- 
ever'they have to show their position. This effect 
would be inconvenient to the users of this credit, 
and so great care would have to be exercised, and 
the matter woiild have to be dealt with cautiously, 
gradually, and af^er due notice. 

,^ ' In consequence of this reduction of credit, loan 
rates would probably be temporarily higher and dts- 

' count rates likewise: The trading community would 
find the process of financing itself rather more 
expensive, but need not be ' appreciably tncoo- 
venienced. The experience of the autumn of 1906 
shows that trade can maintain great activity with a 
6 per cent Bank rate. It is highly important in 
the best interests of trade that banking credit 
should be soundly based, and the trader is obviously 
one of the parties who ought to be asked to con- 
tribute to any expense that may be involved by 
the improvement of Its basis. The Government 
mi^t, for a time, have to pay a higher rate on its 
Treasury bills, but the Government again, as a large 
ind continuous user of credit, ought to contribute. 

„. . A.oogle 


And though prophesying about economic 
processes is a dangerous amusement; there is 
evwy reason to expect that the higher level of 
rates established by the curtailment of credit 

"would very quickly provideJts_own_jemcdy by 
thelattractionjo: jetention of gold, and a consequent 
increase of the gold basis of credit resultigfciait^ 

i. expansion tQ.lhe.,pid. level. After that it would 
only be necessary to take care that the proper 
proportion is preserwd, artd this ought to be 
easily effected by means of the publicity which we 
are supposing ourselves to have secured, especially 
if at the same time a link, of the kind suggested in 
Chapter XII., could be established between Bank 
rate and market rate. Bank shareholders as a 
whole need suffer no loss ; for a time there would 
be less bad credit .made, but the price of good 
CKdit would be a shade higher, and this shade 
would probably sufBce to maintain banking profits. 
Shareholders in banks which have never traded in 
bad credit would probably benefit, and the banks 
which have relied too much on the over-extension 
of credit for making profits would suffer some 
temporary loss, but ultimately benefit by being 
induced to reform their methods. 

We have thus arrived at the conclusion that in 
order to improve the basis of credit it would be 
desirable, if it were possible, to reduce the amount 
of the Bank of England's fiduciary note issue by 



the gradual reduction of the Government's book 
' debt to the Bank, thus making the bank-note, 
which is itself used as cash and a basis of credit, 
more a bullion certificate and less a credit 
Instrument But we dismissed this as impracticable, 
at present, owing to Parliamentary and political 
reasons and suggested— or repeated a suggestion 
that has high practical authority behind it— that 
much might be done if it were possible to curtail the 
'' supply of bad credit by Inducing all the banks to 
show how much cash they habitually hold in pro* 
portion to their liabilities. And we showed some 
reason to believe that these measures would 
promptly increase the gold reserve, which is the 
metallic basis of credit, so enabling good and well- 
based credit to take the place of the bad and inflated 
credit that had been abolished. 

As the gold came in attracted by the higher 
discount rate the balances of the other banks in 
the Bank of England would be increased; or if 
they preferred to increase their own cash holdings, 
they could take out bank-notes to hold in their 
tills, leaving the gold on which they were based in 
the vaults of the Bank of England. For it seems 
desirable that the strengthened gold reserve should 
be patent to the world, and it would be BO more 
effectively if aggregated in the Bank of. England 
than if scattered about in the vaults and tills of the 
other banks. 


If once the apparently insuperable obstacles in 
the way of putting these measures into effect could 
be overcome, the process would work quickly, 
cheaply and effectively. And it need not l>e carried 
very far. England has no need to heap up a 
mountain of gold. Our banking system is happy 
in the possession of other reserves besides its 
metal, and with them we shall deal in the next 




It has been necessary to lay a good deal of stress 
on the necessity for an adequate proportion of 
gold among the assets held by bankers against 
the credits that they create for their customers^ 
because in times of crisis gold is the only com- 
modity that is of universal acceptance, because It 
Is the essence of the English banking system that 
all demands are payable immediately in gold, and 
because a large holding of gold is thus the strongest 
evidence that a bank can show of its readiness to 
meet its engagements. 

Ntvertheless, it must not be Inferred that a 
high proportion of gold is the only necessity, or 
is by itself sufficient for safety in banking. The 
national banks in certain cities of the United 
States are bound by law to keep a proportion of 
35 per cent of their deposits in gold or legal tenders, 
a higher proportion than any of our banks, except 
the Bank of England, think it necessary to show. 
And the United States has recently suffered from 
a panic in which its banks made no attempt to 
meet their liabilities, and their high proportion of 

„,.. ..C.oogle 


cash did not save them from demands which they 
were quite unable to meet It is no part of the 
task now attempted to trace the causes of this 
remarkable panic, but it was certainly not accounted 
for by lack of cash in the banks, though Mr. Mead's 
article in the Atlantic Monthly of February, 1908, 
already referred to,* has shown how the legal limit 
on the cash proportion of the national banks had ' 
been stultified by the growth of state banks which 
deposited part of their reserves with the national 
banks, so that a pyramid of banking credit had been 
built up on a cash reserve which had shown a 
steadily diminishing proportion to it 

Lack of cash, though it did not cause the panic, 
thus appears to have been an important reason 
for the helplessness with which American banking 
succumbed before it Xhe more immediate inHu* 
ence which produced it, however, would seem to 
" have been a conviction in the mind of the American 
public that the other assets held against the de- 
posits of the United States banks had not been 
judiciously selected. 

A dreary procession of scandals, disclosures, 
and revelations had shown that the methods of 
American finance had been in many ways ques- 
tionable, and the suspicion had gone abroad that 
the banks had been too closely connected with 
these undesirable performances, and also that their 


fnTcstments and loans had been arranged to suit 
the convenience of groups of operators interested 
in Stock Exchange speculations. In the case of 
most of them the suspicion was probably ground* 
less, but in banking matters the public does not 
easily discriminate, and the good banks and the 
bad fell under the same ban. 

In England such a development as the control 
of a chain of banks by a gambling group, and the 
use of the banks' credit to further the group's 
gambling, is impossible. And the chief reason 
why we can bank with a comparatively small cash 
proportion, and with no legal obligation, is because 
. English banking— in the eipressive phrase of an 
, American who recently discussed the matter with 

f me— "works with a psychological reserve," that 
Is to say, has won and keeps public confidence by 
means of the character of our bankers. It is be- 
cause they are so sound, so straight, so sensible — 
from an American point of view, so unenterprising 
—that they are able to build a bigger credit fabric 
on a smaller gold basis, and even to carry this 
building to a height which they themselves have 
decided to be questionable. This psychological 
reserve is the priceless possession that has been 
handed down through generations of good bankers, 
and every individual of every generation that 
receives it can do something to maintain and 
improve it. 

„,■'.. .C.oogle 


A high cash proportioa is of little avail if the 
rest of the assets consist of securities which cannot 
readily be realized, of advances to insolvent cus- 
tomers against insufficient collateral, of bills of 
exchange drawn agiinst anticipations of produce 
that may some day have a market, or of loans on 
real estate of great promise, but of problematical 
value if offered for immediate sale. The securities 
that a bank can hold among its assets are com- 
paratively few ; and the best of them, as has been 
frequently pointed out, are genuine bills of exchange 
representing real produce of universal demand 
moving into consumption. 

Such bills pay themselves 00 maturity. The 
stocks dealt in on th6 Stock Exchange, which have 
to find a purchaser before they can be turned into 
cash, are thus in quite a different category, and it 
Is only the best and most readily negotiable of them 
that can really be considered by a banker either 
as an investnient or as collateral security for ■ 
loan. It need hardly be said that the fuller the 
extent to which securities meet the requirements 
of the austere banking ideal, the less the yield 
upon them will be, so that prudence and profits 
seem at first sight to point out different paths. 
And the possibility looks so extremely remote of 
any sudden application of the test of ready 
negotiability to banking assets, that the temptation 
to earn better profits by neglecting the dictates 
„.. ...l^oogle 


of the strictest prudence must oitea be almost irre- 
sistible. Wliether they work for themselves or 
tor shareholders, bankers are naturally impelled 
to try to earn good profits; a big dividend is so 
satisfactory an end to a half-year's work, and makes 
the shareholders' meeting so complacently com- 
plimentary and contented, that it must be difficult 
for bankers to remember that the strength of the 
bank is the first and last consideration, and the 
manner in which, on the whole, our bankers do so, 
is a remarkable exercise of patience. 

They are doubtless fortified by the reflection 
tliat the extremely remote possibility of the appli- 
cation of the test of ready negotiability to banking 
assets is one of those occurrences which appear 
when least expected, and that the connection which 
international finance establishes between all the 
countries of the world makes an outbreak of mis-* 
trust anywhere else a cause of possible trouble 
everywhere, so that the area of possible disturbance 
has been enormously widened. It is all to the 
good that the American crisis of 1907 passed by 
without the smallest appearance of an inclination 
on the part of the English public to take money 
from the banks and hoard it, and it is pleasant to 
record that the Governor of the Bank of England, 
in a speech at an annual bankers' dinner delivered 
in July, 1908, paid a handsome compliment to the 
manner In which English bankers had met the 


crisis, and had carefully av<^ded the mistake that 
is sometimes committed by bankers in troublous 
times of calling In credits, and so^creating an 
atmosphere of mistrust 

Nevertheless, now that that difficult corner has 
been successfully turned, and the business of credit- 
making goes on as if it had never existed, there can 
be no harm in pointing out.that ttie danger wai 
nearer and more real than was pleasant An in- 
judicious word in a newspaper might have sufficed 
to start the mischief and it was within measurable 
distance of starting by itsel£ At least, a friend 
of mine — a solicitor of seasoned experience, and of 
a most unexcitable and unhysterical temperament 
— told me one Sunday morning in the course of 
the crisis that he did not at all like the look of 
things, and that he was thinking of withdrawing 
from his bank a large amount of clients' funds for 
which he was responsible. The chief influence 
which restrained him was the difficulty of knowing 
what to do with the money, and in what form to 
take it The alternatives that suggested themselves 
to him were opening an account with the Bank of 
England, putting Bank of England notes away with 
a safe deposit company, or in his strong room at 
the Law Society, or burying gold in his back 
garden. While he doubted between these coiu^es 
the financial sky cleared, and he finally did nothing. 
But if one man of strong common-sense and most 


conservative habit of mind was pondering these 
possibilities, it is more than probable tliat many 
others were doing likewise ; and if the lessons of 
the American crisis are taken as meaning that 
English banking Is so secure in the confidence of 
its home customers, that no infection of external 
trouble need be feared, bankers ore laying a flat- 
tering unction to their souls. In fact, it demon- 
strated once more the perennial need for all the 
safeguards with which good banking can surround 
itself, adequate cash reserves, and careful selection 
of the rest of the assets held against deposits with 
a view to readiness of realization. 

Another reserve possessed by English banking, 
which enables it to work with a smaller cash re- 
serve than is considered necessary in other coun- 
trietf, is the fact that its gold is not locked up and 
protected by artificial means, but is immediately 
at the service of the first comer who presents a 
valid demand on it It seems paradoxical that this 
unprotected state of the English gold store should 
enable us to do business safely with less of it, but 
it is literally true, because the practical result is 
that gold flows London, when London 
signals for it with a high discount rate, since every 
one knows that gold which goes to London can 
be got back agaia And the benefit that London 
confers on international banking, by providing 
this most useful facility of always obtaining gold, 

„.■ . A.oogle 


makes it most important for iatemational banking 
to take care that London is not overstrained by 
performing this function. Because if these facilities 
that are given by London alone did not exist, the 
whole machinery of international banking would 
be thrown out of gear. Consequently, if a crisis 
became so severe that London bad to resttlct its 
facilities in this respect, other centres which 
habitually keep balances in London which they 
regard as equivalent to so much gold— because a 
draft on London is as good as gold— would find 
themselves very seriously inconvenienced. And i; 
It thus follows that it is to' the interest of the other 1 
centres, which trade on these facilities which London I 
alone gives, to take care that London's task is not jj 
made too difficult This interest is especially strong 
in the case of the foreigners who keep a balance in 
London which is borrowed. London Is continually 
lending its name on a bill, and giving credits, which 
make the cash of international transactions. In 
times of crisis it can cut down these credits, and 
call in loans from all the world. This power is 
in itself a reserve, but its exercise would take time, 
and the length of time would depend on the ability 
of our foreign debtors to get gold from their central 
banks. But the fact that foreigners habitually owe 
41s large sums which we should call In if we were 
pressed makes them desire to save us from being 



Hence comei the result that when a crisis arrivei^ 
as it did in the autumn of 1907, and an abnormal 
demand for gold in one cotutry threatens to paralyze 
the International money market, the task of pro- 
viding the required gold falls on London in the 
first place, but all other centres see that it is to 
their interest to give what help they can, and to 
relax some of the restraints and restrictions with^ 
which they protect their gold stores. In &ct 
London drew in the gold required for New York 
from seventeen other countries. It must not be 
supposed that it did so entirely owing to the good- 
will and enlightened self-interest of th09e respon- 
sible for the currency arrangements of other 
centres. To « great extent the suction was 
compulsory, and arose from the determined use 
of the Bank rate pump by the Bank of England 
and also from the fact that the United States were 
selling all that they could sell, and reducing their 
purchases to aminimum, and so compelling a stream 
of gold, through London, to themselves. But at 
the same time there can be no doubt that the 
readiness with which all the other countries pro- 
duced coins «nd bars to send to London was 
greatly assisted by the knowledge that when all 
was over London would certainly send back their 
contributions as soon as they were in a position 
to ask for them. 

Nevertheless, satisfactory as were the results 



of the latest crisis in showing that London's power 
of drawing in gold is at least as strong as ever, U 
is not safe to base on them the Inference that 
London can altogether neglect the question of its 
gold reserve and rely entirely on always being able 
to get gold in from other centres by raising its 
Bank rate. 

In the first place, as has already been intimated, 
it is hard to be certain how much of the gold obtained 
In 1907 was brought by our Bank rate, and how much 
by the action of American finance, which called in 
its balances through London all over the world, 
and created new ones as fast as possible by selling 
everything that it could turn into cash. 

In the second, it must be remembered that the 
crisis of 1907 was an American affair, and English 
banking was not affected by the smallest breath 
of suspicion. But if England had been the centre 
of disturbance, instead of the ministering angel, it 
is exceedingly doubtful whether gold would have 
come in as fireely as it did. None of the other 
countries were willing to send gold to New York, 
which was the storm centre; London had to take 
the whole responsibility for doing that And if 
London were itself the storm centre, who would 
there be to take its place and responsibilities 7 
Imagination is struck dumb by the contemplation 
of what would happen if ^uch a proposition 
were presented to the leaders of finance In 


other centres, and of the well-meant suggestions for 
tntemational conferences and international clearing- 
house certificates which would be produced and 
ventilated as palliatives for a situation which would 
require prompt action, and the placing of a certain 
amount of gold in the place in which it is wanted. 

Ultimately, and after delays th;U would be btal, 
London could probably compel gold imports by 
sales of securities and commodities, and by calling 
in loans from foreign customers, but in the meantime 
the mischief that might be wrought is incalculable, 
and the mere suggestion of the possibilities of 
the position shows very clearly that London is a 
monetary physician who cannot afford, undet* any 
circumstances, to be siclc The confidence of its 
customers, both home and foreign, is an asset which 
' enables the English banking system to provide an 
astonishing amount of credit on a very economical 
cash basis, but this confidence can only be main- 
tained and secured by the strictest attention to the 
austerest rules of banking caution, expressed in a 
continuous strengthening of cash reserves, and 
increasing vigilance with regard to the soundness 
and negotiability of the other assets held against 




AmR this long ramble through rough country, 
it is perhaps worth while to review and sum Up 
the conclusions arrived at in its course. 

We have seen that gold and silver were the 
commodities which universal acceptance advanced 
to the position of being taken in payment for all 
goods and services, and so became money as man 
emerged from the state of barter. 

That gold finally reduced silver to a secondary 
place, and is now the only metal which is legal 
tender in England in payment of unlimited amounts, 
our silver coins being mere tokens, current by 

That banking economized the use of gold by 
the issue of bank-notes, payable on demand in gold 
by the issuing bank. 

That, after a period of much groping and uncer- 
tainty concerniAg the principles which should 
regulate the note issue, the law laid down a hard- 
and-fast rule which stated the number of notes 
which might be issued in England against securities, 

„.■ . A.oiigle 


ordaining that any more notes required by the 
commerce and finance of the country must be based 
on metal 

That this restriction of the basis of paper money 
was evaded by the banking community by means 
of the use of cheques, drawn against banking 
credit ; tliat these cheques, though payable in gold 
on demand, are, to an overwhelming proportion, 
met by book entries, and crossed off against one 
another by the various banks through the mechan- 
ism of the Clearing house ; and that their safety and 
convenience have almost ousted the banknaote and 
caused the cheque to take its place as the currency 
of commerce. 

Iliat the responsibility for the manufacture of 
currency and credit has thus passed into the lianas 
of the banks, which carry it on without any restric- 
tion except that dictated by their own discretion 
and judgment 

Thai a credit system has thus been evolved of 
extraordinary elasticity and perfection, so perfect 
in fact that its perfection is its only weakness. 
This weakness arises from the ease with which 
credit and currency can be created without any 
relation to the gold basis on which they are ulti- 
mately founded, since gold is still the only form of 
payment that is certain of acceptance everywhere 
in times of crisis. 

That this multiplication of credit Increased the 


difficulty of maiataining the gold reserve, a task 
which has been entrusted by custom and common 
consent to the Bank of England. 

And though this book is Intended merely as an 
elementary explanation, and not a criticism, still 
less an attempt at construction, we have amused 
ourselves by considering some of the many devices 
sui^ested by which the admitted inadequacy of the 
gold basis of our credit manufacture could be in- 
creased. And we came to the conclusion that the 
cheapest, simplest, and most eMcacious would be 
(i) the establishment of a connection — quite elastic > 
and only occfisionally "operative — between Bank 
rate and market rate, so that the power of the Bank 
to influence the foreign exchanges should not have 
to be enforced or created by artificial and clumsy 
methods; and (2) greater publicity of banking 
accounts, so that all banks should periodically show 
their position, not on any given day, but on the ■. 
average throughout the preceding period. By this \ 
means it was hoped that much of the over-extension 
of credit now complained of wouUl be abolished, 
and it might be possible to do away with the un- 
fairness of the present system by which the strong 
prudent banks keep a strong prudent cash reserve, 
' and their weaker brethren, sheltered behind their 
strength, carry on business in a manner which they 
are seemingly reluctant to submit to the test of 


Measures of thiS' kind could be carried out by 
bankers themselves, without any Parliamentary 
Interference or discussion, which, once started, 
might lead to unforeseen and undesirable results. 
For this reason we dismissed as impracticable a 
reform which is theoretically attractive, namely, 
the reduction of Bank of England's fiduciary note 

It need not be supposed that the periodical 
statement of the average position is an unheard of 
and revolutionary principle, as applied to English 
banking. The Bank Act of 1844 provided "that a 
weekly account shall be sent by every banker 
issuing notes to the Commissioners of Stamps and 
Taxes, of the amount in circulation each day of the 
week; and also an average amount of the said 
weekly circulation ; . . . the weekly average to be 
published in the London Gasette." Also " that the said 
Commissioners shall have full power to examine all 
books at all seasonable times, of such bankers as 
issue notes." These weekly averages appear to 
this day In the London Gazette, but the -ousting of 
the bank-note by the cheque has robbed this effort 
by Parliament to secure publicity, of most of its 
intended effect 

We have seen how rough ;md heavy a hand 
this same Act laid on the delicate banking machine, 
prescribing that in future it was to issue no more 
notes except against metal, and so taking away from 

„.■ . A.oogle 


It all its power of economizing metal by the use 
of notes, and restricting its enei^es to printing 
bullion certificatea Happily the banking machine 
was able to evade tbese drastic restrictions, but the 
manner in which it was then handled should serve 
as a reminder to those who now manage it, that it 
is above all things desirable that they should them* 
selves make some serious attempt to carry out the 
reform which has been pointed to as necessary by 
leading members of their own body. 


AocirTANcx. J9, 50, 60, 61, t6o 
Accepdng HooMi, 48, 160 rf Mf . 
Aliton, Sl( ArcbilMld, 18 
Ameniliec, u export*, tSg 
ABtcrican buiki, 79, 80, SS rf uf., 

184 •'«r. 

— — ctUi of 1907. Sm Ctisit. 
" 184 

e^Nutl, 1S9 

t, 16. 83 

^/teAKJAi*et^,8i, 98s 


Bagcbot, aej, >ii, 318, 349 

BakDCMheet, S9 

Bfl*"" of indebtednai, 179, 18a, 

Balance at taie, 186 (f uf. 

" snbToonbl^" ^n itf eeecMmk 

development, 187 
^— cumot 1m affixded tf dditor 
ca<uiti7> 193 
Bank Act of 1844..S8, 30* 31, 904, 

aoS, 109, 14>, J43, 373, 19S 
Btuikeri, erolTed from p>Id«B>itht and 
bullion dMlen, 04 
InditBte o( 363 
Banking hcilitiei, h expotti, 18S 
Bank of Kngland, 199 a Mf. 
■ttanpt to pvt diver beUnd Iti 
note* 3+7 

Bftok of Et^land, 



capital Hock, 347, 155 

et^ at, bula ofacdit, 365, 366 

Committee 0/ T^eamiy, siS 

oon^ared with Bank at France, 


oontnd of the market bj, 334, 335 
credh with, rt^atded ai caih, 147, 

S03, 30S, S07, 313 
diteowiti at aiarket rate, 334 
Dlredon 0^ 316 
eztanal ajipMnDce of, 314, 315 
fmrndationo^ 199 

Goremmott Mcuritiei Iteld by, ajt 

GoTcmoi at, 3i8 

hifp ptap<tftiai of cath held bj. 


liabilitia o^ ■* baiii of oedit, 361 
management of American critli I7, 

100, 311 

motMpolj o^ 119, 300 
nation's bank, 199 
□otet ot Sn Bahk>hoti. 
official ntc of. Sm Bakk kats, 
oiganliatloD at, 315 ^ ttf, 
open to bwTowen, 93, soj 

■ X.oogW 

BuIe of Englsiid, untimud— 
Otbn DepodU irith, ajs, 153, 

Otba Secnritiei, held by, 1 j8 
preranted from '«"*"''"g resore 
by othn bsnki' openitioiii, 339 

—^credit, 14S 
PabHc D^ndti with, 149, ip, 

255 - 
K*erv^ 339, 360 4t Iff, 
Rest, 34S, 149, iss, ate 
ntora, 141 a stf- 
leren-di; mnd oEhei bilU, 155 
BtDk-Qotei, >4 a Af q 395 
Bftnk ^Eii£l«iidX iS, 19, 199, 303 
batscd Ml p^>ct to the eiten 

OQfr-thiid, 365 
I»ni of aedit, 57, 3Sa 
fidndaiy, 345, 374, aSl 
K(M H htAM of, 346 
GoTcmmait debt u buii o( 


legftl tender, S9 

dver H bub of, 146, 347 

~~~-Ureii2tli 0^ 39, 30 

Bank of Fiance, Sn Fianck, 

Bink VMt, aa^aitf. 

couuectiug link with muka nte, 


. condition! wUch make it cffectiTc^ 


luket nte. 

ditconnection bom 

33S. "37 
effect of, in 1907 ,.393 
fonnerlj ilwaT* cllectire, a3S 
nidc cSectiTe by bOTTOfrin^ 338 
irftcn iocffecliTe, 11 1 
Bank*, American, 79, So, 88 4 itq^ 
103, 384 « «j. 
Colonial, 165 

Englisli, 107 d uf. 
acceptanccitrf, 60, I3ti l63tf«y, 
balaoce-ihee^ 59 
balance* of, at the Bank nt 

En^and, 339, 330, 35a, 153, 
branch office* ot, lao, I3i 
eaih leteiTc of, 78, 115 
Goafidenee of public in, 81, 386, 

coKipetatloB of with Bank of 

England, dednbl^ 341 
ciurent accoonta with, 61, 134 
debt <rf to the paUic created by 

louii, 63, 366 
dependent en the pnblie^t Muity, 

7S. 103 
depoRt aoxnnti with, 57, 61, 134 
discoontcn of bill*, 139 
effect of operatiooa ol^ mi the 

Bank'a Tcaerre, 339 
Ulore* ammg, 109 
loam bj to the Stock Eachangei 

regulate the market nte of dl*- 

■ price of money, 133 

leapootible fin ezteniioncf credit, 
Foreign, 171 d uj, 
Indian. 165, 166 
Barclay ft Co., I30 
Barter, ic^ 1 1 
Berlin, 87, 94, lol, 339 
Bimetallim, 33, 330, 247 
Bill offichangetSI, 37 t<i^., 174,175 
acceptance ^ 39, 50 
aotidpatory, 48, 191 
ux&^tj ti, 39, 40 
a* an inmatment, 46, 135, 157 
contraited with mor^ag^ 47 
diitingnisbcd from che^DC^ 38 
fi"»»ee. 49. S3. '38 

302 INI 

HU of Eiduutge, ctnAmtd— 


import! ud cxpoTti ot, 196 

kpl definhioa of, 40 

■pace ui clement in, 41 

qtednen* of, 51, 51 

time, Ml clemeDt In, 41 

QnizMe'i bOl of ui-colti, 41 
Bill broken, 114, tij, 138 a ug^ 
III, 130, 131, 238, 240, 3ji, a7I 
Bondi, drawn, u eipottt, 193 

nln of, u fnctoi in exchftnge, 194 
BnodKi, buildns by, lao, lai 
Brun, cfRct of loMi bf tm etxiuage, 

BroDM, 9, la 
Bullion, 11, 

dealen, 14 

BMiket. a69, aji, ^74 

tettla bkluiee of indebtedoo^ igl 

CAKLn.^ II, 169 
CMh, cdned, 9'fl' 
none; bere and now, S 
P«per, a3 attf. 
Cidi RetCTTc, fixed bj Uw In Dm 
UniUd StMci, 79 
lack of, an elentent in the Amcilcui 

ctUiof 1907..80 
Loid G«Khen nrsei Inaeue of In 
ETi£l.n.1, 115 
Ouunben of Commeice, and Btmk of 

France IM 
Cheque, 31 tf Af. 

bued' OD legal tender cub, 77 
diitingnUhed from UU of eicliaiiEe, 


Immediatelj oonTOtible, 34, 77 
n« b; book entiiei, agfi 
not \tgti tender, 33 
*' not iMfodable," 34 

Cleuing honte, 34, 185 

Colonial banka, 165 

Con&doK^ an met of Engtiili bant 

ine, Sl> 186, 394 
CowoJa, 133, 134, lae, 349 
Coctdnental banki, 166, 171 
Coapou, aa eaporti, 18S, 193 
Ctcdit, buk-nota la, badi of, J7 
Bank of England'i liabUitiet aa 

bad* at, a6i, a6$ 
caah at Bank of ffnglaty l ^ bull 

of,aes, 366 
GODiiiti of the ri^U ta dnw a 

credit aa bull of, 164 
ga\d u buii o^ 9, 17, 11, 36, Si, 

8a, 963, a66 tt itj. 
goodi and tecnrltie* aa ba^of^ 81 
Inadeqaacf of metillle bui* of, S63 

mumfkctnred bj bankai and tbeii 

I badi of, 153,961 
it, 963, ayi, 376, 

Cii^ of 1907.. 100, 109, 111,98s, 

Bank of EncUnd and, 100, Sti 
pn e rHth banken and, 180 
of i8go..ti5,9ia 
Correnc;, bad drivel ont good, II 
bank-note H baaii of, 373 
chaotic itale of, in Middle Agn, 

dbeqne, baled oa mitnal indebted- 

Gcnned, 9 d i^. 
commoditiei ued ai, 11 
emergency, aoi, 113 
note, 94 a nj. 
Cnnent accoiint,6i,' 134 

CMier Depadu, I 


DAnoft(ue,44> 5° 

DepoHl Kcoimt, 6i, 6>, I»4 
Depont^ with duconut homes, 140 
with banki, cancelled by repaj- 

maite, 71 
— — created bf louu, 64 tint, 
^— payable in caih, 75 
— late allowed od, 63, 133, 337 
•^^ Kgaided ai evidence of weal tb, 
DiKonnt, 44, 143 4t itf, 
EHiMUDtboniei, 13S tt uf. 
Diiconnt late, eSecl of, in exchanfct, 
196, Z26, 339, 331, 337, 338- 
biKhcT, required to attrac' gold, 171, 

low, lendi gold abioad, 339 
DoUu, American, 175, 176 

ATgeoline, 184 
Dowries, an item in inteuational io> 

dcbtednen, iSg 
Draft, 6, 31, tSS 

on Loodon, convertibilitj of, 31a 
Drawn bonds, ai export^ 193 

Economist, 167 

Elasticity of Engliih lytten, 93, 196 

lead* to lack of coheiioD, 317 
EraeTgeiicy durencjr, 301, 313 
EzchaDge, 5, 6, 173 tt ug. 
affected bj ditcount ntc, 196, 316, 

339, 331, 337, 33S 
between London and Pari*, 174, 

ttteet of) on demand for goU, 178 

foTowable, 176 It itf. 
taXta ot, 173 
Eiporii, Mttttf, 

Family affection, m export, 1S9 

.X 303 

Fiduciary note Ivue, 345 
toggeated reduction of, 174 

Finance billi, 1)9, 53, 118 

Fint of ^change, 53 

Flodx and henb, DteatBie of wealth, 

Forelga bank^ 166, 171 

Fianc, lit tt ttq, 

France, limited conreitibilitr of note* 
in, 87 
ready market for the bonowct, 91 
Dnbvoanble trade balance o^ 187 

France, Bank o( 87, 94 
protected by option ctf payment ia 

lendi gold to London, lai 
Frederick the Great, 169 
Freight*, a* export*, 188 

Germany, 87, 94, 187 

German tisde aod EngUih credit, 

Gl]«, MilU, Curie & Co., 134 n. 
Gold, 9 tt itq, 
accnmolated inpply of, 16 
attracted by high di*coDnt rate, 171, 

bad* of credit, 9, 17, 11, 3^ 81, 

83, 363, 366 t 
basil of note issue, 346 
cwned, gttuj. 
conTertibility into, of the <baft on 

London, 333 
demand for, &llt ca Bank erf 

Engbtnd, 363 
• depend* on exdungel, 178 tt 

economiied by paper, 33, 395 
goe* to acricnltnnl eoontrict at 

harvest time, 191 
incieaae in ttore of, recocniicd ai 

dedrable, 336, 971 
India, Fi^:i)l«r bnycr n^ 169 

304 mr 

le^ tendn, 9, 19S 

^nfHiiiTin of exdUDSCt 9 

nonMd effect of incretiea npplr 

of; 19, ao, 171 
pc^t, iSo 
KKm, 363 H uq. 
■ent KbroKl br Io» ducoont nte, 

•cttlM fnleniatioiua bade baluce, 

(hipwcntt of, reduced b; utid- 

paloiy Irills, 192 
ftuidard in Engl and, 31 
tUtua of Athene, overUid with, 16 
itstntoiT price ol^ 369 
tteadiaen o^ in Tkloe, 14, 15 
ttiuTcnal accepUUlity of, 16, 17, 

variadoiu In amonnt of, 18, 19, l3 
Mine of >ot fixed, 14. ^5 
weekly airiTsl* of, 369 
GoUfmitlu, cvlr banken, 34 
and llie bollioa market, 169 
Goecben, Loid, 115 
GoTOiuneiit, •■ Eftctor b money 
ma^Mt, 150k I5>> >53> '35> *^ 
351, 35$ 
wer of credit ntcbine, 373 
Goreniment Debt to Bank of England, 
ban* of note inne, 145i 373 
tnggeated lepaytacnt o^ 345, 374 
GoTenunent lecuiities, iu Bank 

letom, »57 
GreAam'i Law, II, 14, 31 

HOABK & Co., 134 s. 
Homer, 10 

India, ngnlai buyer of gold, 369 
IndUn bankl, 165, 166 
Indian Gorenunent, 137 

InmnuiM facilitiei ai aqxwti, 188 

Interest, late o^ 4 

Intetect coopou, at caportt, 188, 

International banking, dependent oa 

Lcmdon, 391 
Italy, economic progicM of, I94 
exporter of Beauty, 195 
hai bon^ back her debt, 19J 

JAPAM, 93, 166, 167 
Johannesburg, 369, 371 
Joint-stock banking, i(3, II9, IIO 

KiNX, drcnlatloo, 13 

standard of value, lO 
"Kites," 43 

LWAL tender, 9, 31, 33, 34, 77, 39S 
Loan isnie, influence on "fhingr, 

" I^ombard Street," Si^ebot's 107, 

31 [,338,349 
London and Comity Bank, pnUishei 

aTerage caih holding 117 
London, In^oitanM of, to Intel- 

nfti""*' finance, 85 <f leq., 391 

<^ Mr- 
London and Westffiinitet Bonk, ta» 

Mud, F. S., 81, 385 -^ 

Mercantile qrtlem, S3 

Mint, 14 

Money, boA-keeiMng credits, 5S 

cost of production ol^ 333 

different senses oC a 

leather, 11 

paper, il 

market, 3, 4 

some day, 4, 7 

somewhere else, 5, 7 

Spedal City, meaning of, 13$ 


Untna] l&dditedQCA htsi$ cS com- 
wtacj, 15, 21 

tt iiq., ICO, II 


Notc^ B«iik, >4 tt teq,. 
Bake or Ensland. 
cufa, >"'-'firE of, 37, 38 
folfUmitlu', 14 

'" «ofj£i, a68 

Old TuTAHKifT, 10 
Other Depotit*, 2%i 
Ox, Mcwnnqr, 11 

dof nliw, II 

Pahduxi, Dr., 119 

Panic, cfo:t o^ 76 

Paper cath, 33 a itf, 

— — moaef, 'I, 33 

Parii, 9a, 101, 174, 181 *t ttj,, 

nnima, II 
/Ww, II 

Pleasure, aj export, iSg 
PoM-Office SafiDSi Bank, 173 
Fnblie depoaiti, 349 i^ uf. ' 

Pnblidtyin banking, 74, 113 ttteg,, 

27$, 381, 397 

Qvaxm, diam a bill, 41 

Rate of intemt, 4 
>^ a factor in oxchaage, 181, 1S3 
R^nklim of moner market eitentlal, 

arraoged b; Bank Act, 334 
Rmabwnce, ig 
IUmtvc, Bank of Englaad'i, 360' 

Goiutitnted hj free cooTolibilitj, 

EX 305 

Rcferre, miHiaui-- 

(old, a63£f*tj, 

p(]>cbd(^cal, 385 
R«it, Bank of England'!, 148, X491 

Roman Empire, fall of, 19 
Rtuming broker, 139 

Savings bank, 368, 373 

Seccod of exchange, 53 

Seddon, Mr., 187 

Secuntiet, morements of, ai factor ia 
exchange, 193 tl mj. 

Seren-day and odtet biUi, 355 

Sinking fond, 374 

Silver, 9, 19 

coin* mere tokena, is, 395 
cuireocy and exchange, 18$ 
fixed ratio with gold, 31, 33, 347 
legal tender np to £2, 91 
may be wed ai baiii of Bamk of 
EngUnd notei, 39, 346, 347 

Sixty days' nght, 44 

Smith, Adam, Ii3 

SoDtu A£ricMi minci, 369 
war, gt 

Sovereign, advantage* o(^ I3, 13 

Stickney, A. B„on Engliih bukin^ 

Stock exchange and the money 
market, 153 
bankers' loan* to, 131, 133, ill 
aecudlie*, limited rcalixability tiS, 

Tajufts, 169, 188, 1S9 

Taxpayer, and gold re*etve, 168, 37J 

T«i-p<^enti, effect on money market, 

153, 334,3So#*«7. 
T^ma, 347 

Titlei, ai export*, 189 
Trade, and the money marked 151, 


3c6 in; 

Tiadc^ UluK« e^ t86 «f Mf , 
Tnden', £rieranca ■cmimt buUDg 

t^ncm, IOCS ijrok 171 
TrattCo., 8o«., 3731*. 

Cnioh of Londoa and Snilh't twik, 
134 '^>&« 

Uikiled Suto, 79, S8 rf up., lU 



Wcatiici ud the moMT 

market, isi, 


Whe^, I. 

niuble i 

mt« Hub 






b, Google 


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