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61 S T C O N G R E S S \

2d Session

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/ DOCUMENT

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N o . 402

NATIONAL MONETARY COMMISSION

The Discount System
in Europe

P A U L M. W A R B U R G
M

»

*

Washingto/^XJovgrnj^edt; F a t i n g Office : 1910




NATIONAL MONETARY COMMISSION.

NELSON W. ALDRICH, Rhode Island, Chairman.
EDWARD B . VREELAND, New York, Vice-Chairman.
J U L I U S C. BURROWS, Michigan.

J E S S E OVERSTREET, Indiana.

E U G E N E H A L E , Maine.

JOHN W. W E E K S , Massachusetts.

PHILANDER C. K N O X , Pennsylvania.

ROBERT W. BONYNGE, Colorado.

THEODORE E . BURTON, Ohio.

SYLVESTER C. SMITH, California.

J O H N W . D A N I E L , Virginia.

LEMUEL P . PADGETT, Tennessee.

H E N R Y M. TELLER, Colorado.

GEORGE F\ BURGESS, Texas.

HERNANDO D . MONEY, Mississippi.

ARSENE P . P U J O , Louisiana.

J O S E P H W . BAILEY, Texas.

ARTHUR B . SHELTON, Secretary,

A. PIATT ANDREW, Special Assistant to Commission.




THE DISCOUNT SYSTEM IN
EUROPE.
By PAUL M. WARBURG.

If banks were to keep, in cash, all the money depositee}
with them, business would come to a standstill and a
crisis would ensue. If banks were to lend to those who
apply for loans all the money on deposit with them, a
general panic and collapse would follow a short period of
overstimulation. Between these two extremes lies the
middle course, the finding of which is the problem, and
its practice the art of banking.
No mathematical rule can state the correct proportion
between reserves and demand obligations. The proper
solution of this question depends in each country on its
varying political and economic conditions and on its
financial system. This general principle, however, may
be safely laid down: with the present system of immense
deposits payable on demand, and, by right, payable in
gold, at the option of the payee, only that structure is
safe and efficient which provides for effective concentration of cash reserves and their freest use in case of need,
and enables the banks, when necessary, to turn into cash
a maximum of their assets with a minimum of disturbance to general conditions. In this respect recent events
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have made it clear that our system is an unqualified
failure. It is now generally acknowledged, even by those
who were formerly most unwilling to concede it, that the
end of 1907 witnessed one of the most impressive victories
of the central bank system. More specifically, it was a
victory of the "discount system" over the system of cash
advances, because the central bank is only a component
part, though a most vital one, of the discount system.
A close analysis of the discount system, on which Europe's
entire financial structure rests, therefore may be timely
and interesting.
I.
What is the essence and the object of "discounts?"
The original transaction, from which discounts finally
develop, is an advance; it is either an advance in cash,
or an advance in kind, i. e., the postponed payment for
goods received. As evidence of this advance, and as an
instrument on which to sue in case of default, the promissory note was created. So long as this note retains
this primitive form and function it is of comparatively
little value to the financial system of a nation. It represents nothing but a handy way of expressing an individual contract between two parties, embodying the
acknowledgment of having received a temporary advance
and the promise to pay it back.
Similarly, primitive part ownership in a business meant
an individual contract, entailing a definite locking up of
cash, inasmuch as such a contract could not be sold
except after prolonged negotiation and search for a new
partner. But gradual evolution led to the creation of
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the corporation, and the unsalable part ownership was
transformed into bonds or stocks, for which important and
well-regulated markets insured a ready sale.
A modern financial household is inconceivable without
the adoption of such system of mobilizing permanent
investments of this character. We are so accustomed to
this phase of economic development that we find it difficult to conceive how comparatively recent an achievement
this device is. Only a few, however, realize that we
have stopped halfway. Although we in America have
mobilized our permanent investments, our promissory
notes, or temporary investments, still retain their primitive
form, while Europe has not only mobilized its permanent
investments, but has in addition mobilized its temporary
investments by changing the promissory note, or
"bill/' into a "bill of exchange" and by creating large
discount markets where these "bills" can be "exchanged "
freely at any time.
"Discounts" represent—or, like our promissory notes,
ought always to represent—temporary indebtedness
which is to be paid off by the liquidation of the business
transaction for the carrying out of which the loan was
incurred. A bill may be drawn for cotton while it is
being harvested, or while it is in transit for Europe, or
while it is being manufactured into yarn, or while the
merchant that purchased the finished article continues
to owe the manufacturer therefor, or possibly even
while the finished article is being shipped back to the
same country from which the raw product originally
came. To bridge each of these periods a long bill might
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properly be drawn by the various parties who, each in
turn, handle the goods on their way from their original
state to their place of final distribution. The length of
the bill will depend on the underlying transaction; in
England, France, and Germany it varies, as a rule,
between two and four months, the vast majority of such
paper being issued for three months.
With us the promissory note is, generally, one-name
paper, while in Europe single-name paper is looked
upon with distrust and is scarcely purchased at all by
the banks. The European banker believes in having
several signatures on the bill that he buys, thus securing
more than one guaranty. Furthermore, additional signatures are evidence of the legitimate character of the
paper and show that the money was taken for a temporary transaction, not for permanent investment.
However, there are certain stages during the process
of manufacture when the producer is not yet able to sell
the bill on his prospective customer; or there may be
good reasons why a business man will prefer not to
divulge the name of his customers. For such and similar
cases the European banks or bankers either allow overdrafts (cash advances) or else they permit the customer
to draw on them a sixty or ninety day bill (whichever
may fit the case) which, when accepted by the banks or
bankers drawn upon, the customer can then sell at the
ruling discount rate wherever and whenever he desires
to do so.
Through the acceptance or indorsement of the merchant's note by the bank or banker the promissory note—
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from being a dead instrument and a nonliquid asset—
becomes a liquid asset, part and parcel of the system of
tokens of exchange which serve as a substitute for money
or as auxiliary currency.
The old promissory note is nothing but the evidence of
a commercial credit, the granting of which entails a
material business risk and must remain an individual
transaction only to be concluded by the few who happen
to be well acquainted with the issuer of the note and
are willing to take the hazard of granting that particular credit. Through the addition of the banker's
signature the question of the maker's credit is eliminated
and the note, instead of being a mere evidence of an
advance, is transformed into a standard investment, the
purchase and sale of which will be governed only by
the question of interest. This investment commands the
broadest possible market.
Acceptances are given by European banks and bankers
mainly for three kinds of drafts: the documentary bill, the
commercial credit bill, and the finance bill.
The documentary bill is probably the most important of
these three. If an American merchant buys coffee in
San Paolo, he will generally pay for it by opening for the
shipper a documentary credit in Europe; that is to say,
the American purchaser makes an arrangement with the
European banker, by which the latter agrees to accept,
let us say, a three-months' bill drawn on him with shipping
documents attached, covering a certain shipment of coffee,
the amount to be drawn being the equivalent of the
amount due by the American purchaser to the South
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American shipper. The shipper will have no difficulty in
selling to a bank in San Paolo his bill drawn on a first-class
European banking house, and thus will promptly secure
the money due him for the goods sold. The local bank in
San Paolo will buy the bill without hesitation (if the
shipper is not of the very best standing, the bank will
demand that the letter of credit against which the bill is
drawn be produced) because it knows that it need only send
this foreign bill to England, Germany, or France, as the
case may be, where, owing to the extensive discount
market in these countries, it can immediately rediscount
the bill, thus securing repayment in cash for the amount
invested. Indeed, if the Brazilian bank prefers to do so,
it can at the moment of shipment, by cabling to Europe,
fix the discount rate at which the bills will be discounted
upon their arrival in Europe.
When the bill reaches Europe, the drawee puts his
acceptance on it, and having thus obligated himself to pay
the bill when due, the documents are in most cases released
and sent to the American purchaser of the goods, who
opened the credit with the European bank. Of course,
the American purchaser pays a commission to the European banker for the service rendered. The compensation
depends on the standing of the purchaser and in part on
the question of whether or not the documents are to be
released upon acceptance (the American purchaser obligating himself to put the bank in funds before the bill falls
due), or whether or not the documents are only to be given
up by. the accepting bank against cash payment by the
purchaser. It may be said that the average compensation
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for such acceptance credit is between a quarter of i per
cent up to three-quarters of i per cent for three months,
according to the conditions of the case. The majority of
all shipments of merchandise, particularly those of raw
material, are everywhere " financed " in this way by documentary bills on Europe. It is interesting to note right
here that no matter how good may be the credit of the
American purchaser or of any American bank, whose
acceptance the purchaser may offer to the shipper in China,
South America, or Europe, no shipper in such countries
will, as a general rule, take the acceptance of an American
bank or banker, because the American bill has no ready
market, while the European bill is of very easy sale. It is
impossible to estimate how large a sum America pays
every year to Europe by way of commissions for accepting such documentary bills, and the other bills with which
we shall now deal, but the figures run into many millions.
This annual tribute to Europe resulting from our primitive financial system is not merely waste of money, but
reflects upon the dignity of a nation of the political and
economic importance of the United States.
Next in importance to the documentary bill is the
two or three months' bill drawn on a bank or banker as
a commercial credit granted by the acceptor to the customer. This transaction is a comparatively simple one.
It means that the European banker permits his customer,
whether residing in the banker's own country or abroad,
to draw on him at two or three months' sight, with the
understanding that the customer will put the accepting
banker in funds before the bill falls due, so that the
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drawee will not be called upon to advance any cash.
He merely gives his signature to an acceptance, which
the customer sells under discount, employing in his business the cash thus realized. The privilege of renewing
the bill at maturity is often agreed upon at the outset,
and the use to which the customer may safely and legitimately put the money realized from such a credit will
in part depend on this feature of the arrangement between banker and customer.
Large business firms will, as a rule, have such accommodation at their disposal in several countries and
they will draw against their credits on such countries as
have the lowest discount rate for the time being. They
may use all foreign credits at the same time when the
interest rate at home is higher than the rates ruling abroad,
and, conversely, they may at times cover all their foreign
credits and use only the financial accommodation offered
at home, if, for the time being, the home rate is lower
than the rates abroad.
The vast majority of these commercial credit bills are
drawn without collateral, but there are many instances
where the drawer of the bill gives security to the acceptor by the pledge of his own bills receivable or of
claims against his customers or of merchandise or similar
collateral.
The total volume of bills representing commercial
credits given by one country to any other is relatively
unimportant as compared to the amount of documentary
bills issued, but large numbers of such bills are drawn by
the home customer on the home banker, especially in
France and Germany.
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In England, bank and bankers generally avoid accepting long bills for home customers, whom they prefer to
accommodate by cash advances, but they accept very
largely for out-of-town customers. The joint stock
banks in England make it a rule to accept only against
collateral, while important private banking firms and
banks, which often make accepting their exclusive business, grant uncovered credits to a very large extent.
In France and Germany no line of demarcation of this
kind exists; banks, large and small, and private bankers
as well, accept with or without collateral, according to
their own best judgment. The aggregate amount that
a firm in any of these countries will accept must, of
course, bear a certain relation to its own resources. But
this proportion differs according to the character of the
general business done by such firm. A bank doing an
extensive general banking business will accept to the
extent of a part of its capital only, while banks or bankers
devoting themselves exclusively to the business of accepting will accept an aggregate amount representing many
times their own capital.
Since the rate for a three-months' cash advance is
very much higher than the discount rate for threemonths ' bills, it is nearly always more advantageous for
the customer to draw on the banker and to pay the commission for acceptance and, in addition, the European
stamp tax, rather than to pay the rate of interest charged
for a three-months' cash advance.
This heavy difference between the discount rate and
the rate for cash advances most eloquently illustrates the
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different valuation applied by the European banker to
an investment of easy sale—the discount—as compared
to one that locks up cash for even the comparatively short
time of three months in a nonliquid asset.
Finally we must mention the so-called finance bill.
Some finance bills are drawn and accepted within the
same country, while some are issued in one country and
drawn on another. The first class is drawn by home
brokers on banks or bankers against stock-exchange
collateral, which, for the time being, it is cheaper to
carry by an acceptance credit than by a cash advance.
But there is generally some discrimination against finance
bills, as the idea prevails in the banking community that
discounts ought to be based on temporary commercial or
industrial transactions and not on undigested securities.
The central banks in general absolutely refuse to buy
such finance paper, and, as the prejudice against local
finance paper is even stronger than that against foreignborn finance paper, the amount of such paper issued
within the boundaries of each nation is comparatively
small.
The foreign finance bill is drawn by a bank or banking
firm in one country on a bank or banking firm in the other
country, either with or without collateral. It is drawn in
order to profit by the difference between the interest rate
in the country where the bill is issued and the discount
rate in the country on which the bill is drawn. A great
many of these bills are drawn on France, where the
interest rate is generally lowest, and on England, which, as
a rule, has indeed a somewhat higher rate of interest than
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France, but which, on the other hand, is a more liberal
acceptor, and finally on Germany. At certain periods
the largest amount of such bills probably originates in the
United States, being drawn chiefly on independent
European banks or bankers against stock exchange
collateral. Very substantial sums, however, are drawn
without collateral by American firms on their own branches
in Europe. These so-called "house bills," which were
very popular in the past, have during recent years met
with a good deal of antagonism on the part of the European discounters, and in consequence are not used so
freely as they were in years gone by.
The most regular customer in drawing finance bills is
Russia, whose bankers, owing to the comparatively high
rate of interest generally ruling in that country, almost
constantly use whatever acceptance credits foreign bankers are willing to place at their disposal, the collateral
generally being Russian commercial paper.
II.
There are, then, two primary kinds of bills in use in
Europe—the one drawn by the producer, manufacturer,
or trader on his respective purchaser and accepted by the
latter, and the other the bill drawn on and accepted by a
bank or a banker.
Let us now consider how these bills are discounted in
Europe. While methods differ in the various European
countries, the result in all cases is the same, and, as we are
chiefly interested in results, it will be preferable not to
cloud the question by going into too much detail respecting
the various usages, but rather to state the main principles.
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Stated very generally, and fully bearing in mind that
there are exceptions to the rule, it may be said that the
bulk of the bills drawn on mercantile firms go to the banks
or bankers direct from their customers, and it may also be
said that these bills do not circulate very freely in the open
market, while the bills accepted by banks and bankers are
freely sold and circulate freely in the open market.
There are three kinds of purchasers of discounts in all
important financial centers: One is the central bank of
each country; the second is the banking community at
large, which means banks, bankers, and brokers, who form
the regular investors; the third is the irregular investor
within and without the country.
The relationship between the central bank and the discount market is a most important one. While in normal
times only a small proportion of the business is done by the
central bank, the existence of this bank is all-important to
the whole financial structure, because even if a bank makes
it a rule not to rediscount with the central bank and in its
general business keeps independent of this institution, the
fact remains that in case of need it can nevertheless rediscount with the central bank every legitimate bill, both
bankers' or mercantile acceptance, so that every legitimate
bill represents a quick asset, on the realization of which
every bank or banker can always rely. Consequently no
investor, bank, banker, private capitalist, or financial
institution will ever hesitate to buy good bills. Furthermore, there will not be in critical times any rush to sell
good bills, as everybody in these countries knows that
there is no better and safer investment, because for no other
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investment is there an equally reliable market. It is this
confident reliance that creates the enormous discount
market in modern financial economies and which renders
it possible for untold millions of discounts to change hands
daily, sometimes without any change whatever of rate or
else with fluctuations of only one-sixteenth or one-eighth
of i per cent per annum. The literal meaning of
*' credit'' is confidence. Our whole structure is based on
credit, or confidence, and not on cash. Unless this confidence is absolute—and it can not be absolute under an
admittedly defective system—the whole edifice is unsafe.
Another factor which helps to strengthen this confidence and to render the system perfect is the existence of
strict and uniform laws concerning the issuance, the indorsement, and the collection of such paper, and particularly regulating the right to "protest" and promptly to
sue the maker, the indorser, and the acceptor.
Finally, it is necessary for the development of a vast
discount market that there be established a system of the
freest exchange of money all over the country, rendering
possible an easy collection of bills everywhere.
The central-bank system of the various countries has
been fully dealt with in separate articles, and we may
therefore confine ourselves to stating only the general
outlines of this system as far as it relates to the discount
market.
It is one of the main duties and privileges of the government banks to buy legitimate paper, with bankers'
acceptances or bankers' indorsements. As the government banks from time to time buy this paper, the volume
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of their circulating notes, which they issue in payment,
increases, while, on the other hand, when they collect this
paper at its maturity and thus reduce their holdings of
discounts their outstanding circulation decreases. This
means that they expand or contract according to the
requirements of trade, because discounts represent progressive stages in the process of commerce and industry.
However, this is not a merely automatic process, for when
those entrusted with the management of the central bank
see the necessity of exercising a restraining influence on the
business community, they raise the rate at which the bank
will discount, and in this they are generally followed by the
other banks of the country. The government bank's discount rate, which is uniform for everybody, is, as a rule, so
much higher than that of the general banks, and the restrictions as to the character of the paper which the government
bank can take directly are so much more rigid than the requirements of the commercial banks, that in normal times
the bulk of the business is done by the general banks and
bankers. Only when the demand for money increases,
does the rate of the general banks begin to approach that
of the government bank, but when this happens the government bank, as a rule, raises its rate, so as to maintain
its margin over that of the general banks. a
The government banks consider themselves more or less
as custodians of the national reserve, ready to take an
active part in the nation's business only in times of emergency. The distinction should, however, be carefully
a Some of the government banks at times establish a private discount
rate, lower than the official bank rate. We shall, however, not enlarge
upon this point in order not to complicate the question unduly.
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observed between the abnormal crisis and what we may
call the normal emergency, arising periodically in consequence of certain economic changes, like crop movements
or the particular requirements for special industries at
fixed periods, which, as experience shows, subside as regularly as they occur. When these normal emergencies
arise, the central banks do not ordinarily raise their rate,
but, for a time, meet all the requirements at the usual, or
at a very slightly increased, rate and allow their circulation
to increase with the result that the reserves go down.
When the government banks anticipate, however, that
more than a normal emergency will have to be dealt with,
they successively raise the rate in order to protect the
reserve and to force liquidation, and in order to deter all
branches of industry from entering upon far-reaching
obligations.
Bach government bank has a very decided interest in
keeping its gold holdings as large as possible and in preventing the gold from leaving the country. If an augmented demand for money and credit accommodation
increases the amount of notes outstanding, the government bank, by raising its rate, purposes not only to encourage a general contraction of business and to force the
general banks of the country to contract, but also to attract foreign money into the country by the inducement of
the higher interest return.
Most of the central banks in normal times accumulate
large amounts of foreign bank paper. This is done for a
two-fold purpose: First, in order to withdraw funds from
the home market at a time of ease, thus creating a reserve,
secondly, for the purpose of warding off withdrawals of
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gold by use of the foreign bills when foreign exchange rates
approach the gold exporting point.
The relationship of the central bank and of the general
banks to the discount market differs somewhat in the various countries. In France and Germany, where the big
banks have taken up, more or less, all branches of the banking business, the intercourse between customer and bank
on the one hand, and bank and central bank on the other,
is a pretty direct one. While a large business is still done
by brokers and consequently in the open market, a majority of the transactions is carried on directly between customer and bank and bank and central bank.
In England the various branches of business have, so far,
been kept more strictly separated. The investment business in England is largely done through brokers. There are
large check banks doing exclusively a deposit account business; there are certain firms devoting themselves almost
exclusively to the flotation of loans, either international or
domestic; certain other firms doing exclusively a business
of acceptance (for documentary or covered or uncovered
credits, as explained above); still other firms doing almost
exclusively foreign exchange business, while certain large
companies and private firms devote themselves entirely
to the discount business; and finally there are the bill
brokers, doing an intermediary business between the customer, the banks, and the discount companies.
The enormous amount of bills held by the discount companies and bill brokers in England is to a very large extent carried by them through loans on call from the
banks. The banks regulate the average plus and minus
of daily demands over daily maturities, to a large degree,
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by calling or increasing these call loans or else by buying
or selling discounts. If, on balance, money is called
from the discount companies or bill brokers, short bills
will go to the Bank of England. In France and Germany,
where the big banks have less hesitation in rediscounting
freely with the central bank, the organization of discount
companies and bill brokers is eliminated, and in order to
settle the daily balances, short bills are sent to the central
bank directly by them.
It may safely be said that in normal times the big banks in
Europe do not rediscount their long paper with the central
bank. For in such times maturing paper and money on
call takes care of the daily demands made upon them, and
if the demand reaches larger dimensions they send their
short maturities for discount and collections to the central bank. It is a sign of somewhat abnormal conditions
and a signal for banks and central banks to exercise caution, if the bills discounted by the general banks with the
central bank gradually change from short maturities to
bills having a long time to run. It is of interest to know
that the average life of all bills taken by the German
Reichsbank in 1907 was thirty-two days, and of those taken
by the Banque de France twenty-six days. The Reichsbank's investment in discounts was 13.8 per cent of the
total of all discounts in circulation in Germany during that
period; the Banque de France held 12.5 per cent of the
total French circulation of discounts. Similar statistics
concerning the holdings of the Bank of England are not
available. 0
& On December 31,1908, the Reichsbank held in German bills 1,032,000,000
marks; of these, 44 per cent were payable within fifteen days, 17.4 per cent
within sixteen to thirty days, 24.8 per cent within thirty-one to sixty days
and 13.9 per cent within sixty-one to ninety days.
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Not only do banks and bankers invest in discounts, but
financial institutions, industrial corporations, private
firms, and individuals do likewise. Instead of keeping all
their idle money on deposit, they invest a certain proportion in paper drawn on banks and indorsed by banks or
discount companies, thereby giving stability to the whole
financial structure. This is in striking contrast with conditions as they exist in this country, where unemployed money
is to far too large a degree deposited with banks and
trust companies, with the result that this idle money, which
must earn interest, is finally piled up in the large money
centers, especially in New York, and is there lent out on
the stock exchange in the shape of call loans, forming an
element of danger for the whole structure.
Moreover, the discount system plays a most important
role as an equalizer between nations. Money flows where
it can earn the best return, provided it can there be
invested with safety and with a confident expectation
that the investment can easily be resold and the proceeds
of the sale easily collected.
If England has a private discount rate of, let us say,
4 per cent, and if, at the same time, there is in France
a discount rate of 2 per cent, it stands to reason that
the big French banks and the French public will invest in
English bills, and that French money will go to England.
The same holds good, of course, as to German, Austrian,
Russian, or Scandinavian bills. The French banks would
not buy the individual note of an English, German,
Austrian, Russian, or Scandinavian merchant whom they
do not know, but they do know and can value the acceptance or the indorsement of the foreign banks that offer
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and indorse or accept this paper. They would, however,
not buy this paper, unless they knew that it could be
rediscounted at any time in the home country.
Between the indebtedness of one nation to another and
the actual settlement of that debt in gold, there lies, as a
buffer, the borrowing power of the banking communities
of the respective countries. This buffer with us has
proved lamentably weak, because of our lack of a discount
system. Because of this lack our bills are practically
unsaleable. It is not customary with us for a bank or a
banker to indorse and to offer for sale the promissory
note which he has purchased, nor is it customary for
our banks and bankers to accept bills drawn on them, and
so the United States has no American paper to offer which
Europe could buy. Therefore when the necessity develops
of temporarily attracting foreign money into the United
States, there is nothing to fill the gap except our securities
at bankruptcy prices and o u r ' ' finance bills'' drawn by our
banks and bankers.
That is to say, the American banker, instead of adding
his own credit to that of the American merchant or manufacturer aiid thus using the merchant's signature to legitimize his own demand for accomodation, locks up the
unfortunate promissory note and secures for himself an
entirely new credit on his own resources, quite independent
of the original transaction, instead of simply infusing life
into this dead note.
But our bankers' bills inevitably bear a financial
character, and therefore will not be regarded as favorably as would be commercial paper; moreover, since the
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drawers and, to an even greater extent, the European
acceptors are comparatively few, European bankers must
at times limit their purchases for fear that they are getting too large an amount of paper drawn, accepted, and
indorsed by the same firms.
Moreover, as these bills, drawn, as the case may be,
in pound sterling, francs, or marks, normally sell at the
same rate of private discount as all the other long bills in
the country, the European finds no particular inducement
to purchase them. When, therefore, there is an excessive
amount of these American bills offered, the consequence is
discrimination and, what is worse, a feeling of uneasiness
and distrust.
If, instead of this unfortunate method of financing, we
could offer American paper drawn in dollars, showing its
commercial origin, and indorsed by American banks or
banking firms, we could vastly multiply the avenues
leading into the vaults of the European banks, and
our bills would be well distributed instead of going into
a few channels which can so easily be closed, and which,
as the past has shown, were very energetically and
disastrously closed just at the time of our greatest need. 0
° Our own system being absolutely inelastic, we have become accustomed to use as a substitute the power of our banking community to borrow
in Europe. We thus use Europe as an auxiliary financial machine; but
we forget that our weight has become so great as to threaten the safety
of the European machinery when we are compelled to use it to its utmost
capacity in order to provide for our needs. Europe, in sheer self-defense,
refuses under those circumstances to let us borrow, and by the simple
means of refusing our finance bills renders useless our reserve of elasticity.
Thus, instead of securing additional means of assistance at the most
critical moment, we find ourselves suddenly forced to dispense with a
most important part of our machinery, upon which we were wont to rely
in normal times. This is what happened during the panic of 1907, and
history will repeat itself, unless we adapt our system to our growth.
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What an anomalous and inefficient system which,
instead of using the credit of the whole nation—producer's, manufacturer's, and merchant's credit joined to
that of the financial institutions—demands that a few
banks and banking firms should furnish single-handed the
accommodation for a nation of ninety millions of people!
3We shall now consider the discount system in its
position as the basis of the whole financial structure, and
contrast this system with our own.
The European financial system is constructed upon
discounts as its foundation; the American system is constructed upon bonds and stocks as its foundation. Bank
notes in Europe are issued mainly against bullion and
discounts; in the United States mainly against bullion
and bonds.
The quick assets held by European banks against
their deposits consist of discounts or call loans, largely
secured by discounts. The quick assets of American
banks—promissory notes being unsaleable and cash
reserves being unavailable—are primarily call loans on
stock and bond collateral.
In Europe the daily plus and minus of money requirements are adjusted by the use of the discount market—
that is to say, in a final analysis, by purchase or sale
of bills. (Calling in or putting out money on call where
the loans are secured by bills amounts, in effect, to a
sale or a purchase of bills.) In a last analysis this means
that in Europe attempts to liquidate are primarily appeals to the whole nation to liquidate its temporary com23




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mercial investments, the brunt of such liquidation being
borne by the entire community, and the pressure being
constantly subdivided, every member of the community
thus contributing his share.
As a majority of discounts represent goods in process
of production or on the way to consumption, liquidation
with them primarily expresses itself by a falling off in
new production, while the consumer, on the other hand,
can not stop consuming and must therefore continue to
pay. The brunt is thus borne by the whole nation and
adjustment follows without violent convulsions.
In sharp contrast with such a system the attempts to
liquidate* in the United States are directed primarily
at the contractors of stock exchange loans. This
means that a comparativley limited number of debtors
are called upon to sell their securities. This they
can do only by finding new investors, who, as a rule,
are at such times comparatively rare, because when
acute pressure arises it generally originates in the inability of the investor to purchase because of lack of funds
or in his unwillingness by reason of his distrust of the
financial situation. The concomitant of this is that those
forced to sell securities at such times must offer them
at sufficiently reduced prices to bring about an entire
change in the attitude of the investor. The difficulty
here is that violent reductions of prices in themselves
cause distrust, and low prices caused by distrust not only
frighten away purchasers but, in addition, unsettle the
owners of securities and thus cause them to join the ranks
of the sellers. An acute convulsion, therefore, must
inevitably follow before the tide can be turned.
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In order to bring about relief from strained financial
conditions the depositor must be transformed into the
investor and foreign money must be attracted into the
country. To accomplish either the discount system is the
most efficient.
The insurance premium for each transaction is commensurate with the risk of the same. It is for this reason
that an even moderately attractive interest rate for discounts in modern countries will attract the foreign capitalist and the home depositor, as both know that an investment in discounts can be realized on at any moment
without material sacrifice, and this is at the same time the
explanation of the fact that, with our defective and
explosive financial system, we must offer tremendous
interest rates or our securities at bankruptcy prices in
order to attract foreign money or turn the home depositor
into an investor in critical times. Everybody knows that
under our system convulsions must follow acute strains
and must precede a cure, and therefore the average investor
waits for the debacle before purchasing. And this attitude
in itself accentuates the range of fluctuations, which, under
the European system, is far less wide.
Of course, general liquidation in Europe includes a
liquidation of securities, just as liquidation in the United
States also includes liquidation of commercial paper as it
matures. But the difference is that in Europe bills will be
the main factor and securities will play a much more
subordinate part, while with us just the reverse is true.
A few words ought to be said here about the disastrous
effect of our obsolete usury laws.
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There does not exist any law fixing the maximum rate
of discount in any of the important European states.
During the development of the central-bank system
attempts have at times been made to keep money rates
low by compelling the central bank not to charge more at
any time than a given rate. History shows, however, that
such attempts have invariably ended in failure, and the
fact is now generally accepted that the fixing of a maximum rate kills the efficiency of a modern financial system.
Such a system requires elasticity and the theoretical
possibility of adapting itself unreservedly to all conditions that may arise. The mere fact that the system
provides for such means of free defense so strengthens the
whole structure that where no such restrictions exist
exorbitant rates are, as a matter of fact, the exception;
while in a country like ours, where such restrictions prevail,
abnormal conditions become a regular occurrence.
High call rates do not tempt either home or foreign
investors, the latter particularly being barred from freely
profiting by a high call rate by the fact that rates of
exchange for remittances from one country to the other
vary constantly, so that, unless the margin of interest can
be secured for a fairly long time, at least a month, the
profit in interest is not large enough to compensate for the
risk of a possible loss in the rate of exchange.
It is obvious that, when European discount rates are
higher than 6 per cent, we must be able legally to make
time loans at rates exceeding 6 per cent, if we are to
protect ourselves. Discount is time money on call, and
in a modern community time money—not the call rate—is
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the decisive factor in the constant flow of money from one
country to the other.
Our usury law prevents the free development of rates
for time money and incidentally prohibits the establishment of as wide a time-money market as exists in Europe.
Since legally and officially our time-money rates can not
exceed 6 per cent, the call rate, which is a fairly unimportant factor in Europe, must become the deciding factor with us. It is a most extraordinary (almost an
amusing) fact that these call rates, fluctuating from a
fraction of i per cent up to the confiscatory rate of ioo
per cent and sometimes even more per day, and bringing
ruin to the weak, should be the direct consequence of a
law aimed at protecting the very people whom it destroys.
Usury laws in Europe, where they exist at all, apply
only where the borrower is in dire distress when seeking
and accepting a loan, and where the lender knowingly
profits by the borrower's helpless situation when exacting
usurious rates. Usury can be judged only in the light of
the surrounding circumstances; and usury laws in Europe
generally apply only to individuals. Our law, which prevents solvent firms of bankers, merchants, manufacturers,
or brokers from contracting for money on time at more
than 6 per cent, implies not only undignified tutelage, but
unsound business judgment. The recent crisis has shown
that charging people in need more than 6 per cent is
not necessarily taking advantage of them. On the contrary, it would have been a blessing to them, and in
many cases their salvation, had they been able to borrow
money at an even much higher rate. This unsound and
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completely indefensible usury law is, however, the reason
why we must have daily settlements on the stock exchange, and why our system must in this respect also
be strictly opposed to the systems of Europe.
In England, France, and Germany there exist monthly
or half-monthly settlements of stock exchange transactions, and as stock exchange loans run from one settlement to the next the amount of money employed on the
stock exchange between settlements remains stationary.
If, at the settlement, it develops that commitments on
the stock exchange have increased and that a larger
amount of money is needed there, so much additional
money will under normal circumstances be withdrawn
from the bill market and go into the stock exchange. If
less money is wanted on the stock exchange, so much
more will go into the bill market.
Without entering upon a discussion of the question of
cash stock exchange dealings versus stock exchange dealings per settlement (for which, be it said in passing, a
suitable method of weekly stock exchange settlements
can probably be devised for this country, combined with
provisions for proper margining in order to prevent overstimulation to gambling), we are, for the purposes of this
article, interested only in the effect of this method of cash
dealings on the whole financial system. An exclusive
system of cash dealings brings about the preponderance
of the call loan on stock exchange collateral. But for the
existence of the seducing call loan, which is one of the
gravest dangers and curses of our system, we should have
been forced to develop our bill market as a regulator of our
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daily money requirements. In that case, instead of seeing the idle money of the whole nation poured into stock
exchange loans when trade is inactive—thus unduly stimulating speculation when it should be discouraged—and
again withdrawing money from the stock exchanges in
order to provide for the business of the whole nation
when trade becomes active—thus bringing about anxiety
and convulsions on the stock exchange in the face of
prosperity—we should have a system based on bills; that
is to say, based on the broad foundations consisting of
the commerce and trade of the whole nation, and we
should then enjoy an almost uniform rate of interest all
over the country, gently rising and falling within moderate bounds, instead of the violent fluctuations and unbearable conditions to which we are now subjected.
The aggregate amount invested by a nation in trade and
commerce should be and is many times the amount invested in stock exchange loans, which latter represent
undigested securities and securities carried for speculative
investors. Our way of doing business may be illustrated
by two adjoining reservoirs, one small and one very large.
The small one represents the stock exchange and contains
the call loans; the large one represents the general business
of the country, as expressed by commerce and industry.
In Europe the small reservoir is regulated by pumping
water into it from the large one or by withdrawing water
from it into the large one. In this way the outflow and
inflow of the large reservoir are scarcely perceptible, and
yet there is no difficulty in regulating the small one. With

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us, the reverse is done. If there is a shortage of water in
the large reservoir we draw on the small one and, in order
to increase the water in the large reservoir by perhaps an
inch, we empty the small one altogether, or else in order
to decrease the amount of water in the large reservoir by
an inch, we fill the small one to overflowing.
Moreover, the discount system transforms into one large
body of water a network of separate reservoirs, insufficiently connected with each other and each filled or emptied
according to local supply or demand. The channel by
which they are united is the discount rate, which
would apply to bankers' paper alike in San Francisco and
New York or in New Orleans and Seattle. It is a mistake
to think that the size of a country will render such a system
ineffective; for whether water is being withdrawn on one
side of the basin and simultaneously added at the other
far distant end, the surface of the water will be fairly level
on both sides. In order to keep the height of the water
within definite limits there is a strong main which brings
additional water and a wide outlet to take care of
the overflow; this is the function of the central bank.
Where there are several faucets and outlets—that is,
branch offices of the central bank—the effect may indeed
be secured more rapidly and fluctuations in the height
of the water will be somewhat smaller; but the equalizing power of the discount rate will remain the same.
The benefit of fairly normal interest rates is bound to be
reaped under such a system; it is only a question of the
degree to which it is possible or desirable to secure this
result.
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Finally, we must dwell for a moment on the effect of the
discount system on the highly important questions of
reserves and of elastic note issue.
The central-bank system and the discount system can not
be separated; they are absolutely interdependent. The
discount system can not exist without a central bank to
which it may resort in case of need and, on the other hand,
the central bank can not exist without an efficient bank
rate—that is, without the means of protecting itself and the
nation through its powder to influence upward of downward the general interest rates of the country. History has
shown that without such power the central-bank systemf ails.
The central bank must not be so intimately and so
directly connected with the nation's general business that
it can by its change of policy directly affect individual
concerns. Between the central bank and the public there
should be, as a buffer, the general banking community of
the country, which should use its own credit and its own
resources to modify the effect of changes in the bank rate,
where the public can not so quickly adjust itself to changed
conditions. But the central bank must be able to influence the banking community sufficiently to enable it to
regulate the general tendency of the money rates of the
country. To achieve this is one of the functions of the
discount system. With such a system, and only with
such a system, can the most important further development safely be reached, viz, that of dividing the banking
reserves of the nation into two kinds of reserves, the cash
reserves and what we may call the working reserves.
Working reserves are represented by quick assets easily
convertible into cash credits available to meet the demand
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obligations of a bank. Under a central bank and discount system these are the main reserves kept by the general banks.
Cash reserves are kept almost exclusively by the central
bank, there available to permit the general banks to convert cash credits into actual cash whenever needed.
This system is based on confident and immutable reliance by the banks on the fact that against good and legitimate bills a cash credit is always obtainable at the central bank, and that no one will therefore needlessly withdraw or hoard cash. Capital invested in discounts, though
considered as good as cash, yet draws interest, while capital invested in actual cash, besides entailing material risk
in the safe-keeping of the same, means a loss of interest.
There is therefore no danger that cash withdrawn from
one institution by reason of distrust of its solvency will be
hoarded instead of being deposited in some other institution and thus finally reverting to the central bank without
material delay.
Overstimulation of business, or other economic reasons,
may bring about an increased demand for cash at home or
an outflow of gold abroad. Such withdrawals of cash the
bank will, as we have already seen, meet in various ways.
But actual hoarding must be a thing inconceivable in a
modern country organized to settle its enormous daily
business with a comparatively small amount of actual
cash.
To maintain the right proportion between the demand
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s t a n t care. I n Europe this is t h e function of t h e central
bank, which concentrates its attention and energies almost
exclusively on this duty, and which should therefore be
kept free from too intimate and direct contact with the
general business of the country.
The general banks, on t h e other hand, organized t o be
money-making concerns and devoting their energies, as
they do, to taking care of t h e requirements of t h e general
public, can not be expected individually to watch this problem of t h e cash reserves of the nation. Moreover, such a
d u t y can not possibly be performed by 21,000 competing
institutions, which can only protect themselves b y attacking one another. There m u s t be one central reserve to
which all unemployed cash will inevitably return, and to
which everybody can apply, or an acute demand for cash
will unavoidably bring forth hesitation to pay in cash, as
happened with us during the last crisis. Hesitation in
paying cash only increases the drain, which each bank can
meet only b y drawing on t h e reserves of t h e other banks,
and if to these unbearable conditions there is added a foolish law (unavoidable under a decentralized system) which,
by making it obligatory to keep 25 per cent of t h e deposits
in cash, renders t h e cash reserves absolutely useless, there
can be only one consequence, viz, runs b y t h e public,
runs by t h e banks, hoarding by t h e banks and b y the
public alike, and finally a general suspension.
If after a prolonged drought a thunderstorm threatens,
what would be t h e consequence if t h e wise mayor of a town
should a t t e m p t to meet t h e danger of fire b y distributing
t h e available water, giving each house owner one pailful?
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When the lightning strikes, the unfortunate householder
will in vain fight the fire with his one pailful of water, while
the other citizens will all frantically hold on to their own
little supply, their only defense in the face of danger. The
fire will spread and resistance will be impossible. If, however, instead of uselessly dividing the water, it had remained concentrated in one reservoir with an effective system of pipes to direct it where it was wanted for short,
energetic, and efficient use, the town would have been safe.
We have parallel conditions in our currency system,
but, ridiculous as these may appear, our true condition is
even more preposterous. For not only is the water uselessly distributed into 21,000 pails, but we are permitted
to use the water only in small portions at a time, in proportion as the house burns down. If the structure consist of four floors, we must keep one-fourth of the contents
of our pail for each floor. We must not try to extinguish
the fire by freely using the water in the beginning. That
would not be fair to the other floors. Let the fire spread
and give each part of the house, as it burns, its equal and
insufficient proportion of water. Pereat mundus, fiat
justitia!
But, to continue the metaphor, the central bank and
discount system provides not only for a centralization of
reserves and for concerted action in accumulating and in
using the same, but it also furnishes the means of reaching
and of creating a new supply of water.
Most of the central bank systems provide that a certain amount of bank notes may be issued against discounted bills. It would lead beyond the province of this
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article to state in detail to what extent each country
requires bank notes to be covered by cash and to what
proportion they may be issued against discounted paper.
The principle, however, is observed in all countries enjoying a central bank system, that, as all bank notes represent
demand obligations payable in cash, the amount of notes
not secured by cash must at all times bear a certain safe
proportion to the amount of cash held by the central
bank.
In calculating the amount of cash required we must add
to these unsecured notes the other demand obligations of
the central bank, viz, deposits against which cash or bank
notes may at any time be demanded, and which must,
therefore, be treated as unsecured notes. As the Bank of
England keeps a large part of its deposits invested in
discounts, and not in actual cash, the same principle
applies to it as to the German Reichsbank and the Banque
de France, notwithstanding the fact that the Bank of
England cannot issue any unsecured notes, while the other
institutions named may issue a certain amount of unsecured notes. While the English system lacks the pliability of the German and French methods, and therefore
requires more frequent and more energetic adjustment
by changes in the bank rate, the main principles are the
same in all three countries.
The bulk of the demand obligations of central banks,
notes and deposits alike, so far as they are not covered by
bullion, must be covered by discounts—that is, by promises to pay in bullion within a short time. They must be
covered not by permanent but by temporary investments,
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so arranged that a very large amount thereof falls due
every day and can thus be used to offset the cash demands
made upon the bank. We have already mentioned that
the holdings of the central bank consist largely of short
maturities. The central bank meets the situation by
collecting these as they fall due, keeping down the bank's
new purchases by an increase in its rate designed to
attract new purchasers of the long paper coming into the
market, and at the same time to bring about a curtailment of business. Finally, it increases its circulation and
temporarily reduces its reserves.
This means sound elasticity, based on discounts and
safely restricted by the proportion maintained between
holdings of cash and of discounts.
Elasticity does not mean expansion, but expansion and
contraction. Contraction, we are inclined to say, is even
more important than expansion. Ability on the part of the
central bank in normal times to decrease its holdings of
discounts and to increase its reserves, without any material disturbance, is most essential to the system, because
without such preparatory work the bank could not safely
render assistance when called upon in active or anxious
times. But the additional benefit of contraction is that
it prevents inflation, with all its dangerous consequences.
This system is elastic not only in its structure; it is
elastic also in its operation. This is a most important
fact; for each situation must be dealt with on its own
merits according to the circumstances of the particular
case.
Thus, certain periodic and normal demands for cash, as
well as a domestic drain caused by distrust, must be met
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by paying out freely. A foreign drain, on the other hand,
must generally be met by an energetic increase of rate,
while a drain both domestic and foreign must be treated
by varying combinations of both methods. The discount and central bank system enables the nation to
meet these situations by concerted but varying action
adjusted to meet each individual case. Is it credible
that in a modern country like ours men should profess
to believe that all these emergencies can be met by
automatic, iron-clad rules, fixing a definite percentage
of reserves and an adjusted scale of taxes, applied
without possible discrimination to constantly varying
and contrasting conditions, and the whole problem being
complicated by the disconcerted action of 21,000 competing banks?
Notes issued against discounts mean elasticity based on
the changing demands of commerce and trade of the
nation, while notes based on government bonds mean
constant expansion without contraction, inflation based
on the requirements of the government without connection of any kind with the temporary needs of the toiling
nation. Requirements of the Government should be met
by direct or indirect taxation or by the sale of government bonds to the people. But to use government bonds
or other permanent investments as a basis for note issue
is unscientific and dangerous.
If the Panama Canal costs $500,000,000 we shall have
$500,000,000 additional currency, whether the nation
needs it or not. But what sane reason can be found to
make the currency of the nation dependent on whether
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or not we build a canal? And why should we have more
currency if we decide to build a sea-level canal rather
than a lock canal? If we were not so well protected by
our immense exporting power, we should suffer even
worse and more frequent catastrophes through our system
of issuing notes without maintaining a safe proportion
between gold-secured and uncovered notes and through
our device of a circulation not based on temporary investments and therefore incapable of contraction. There can
not be any doubt that a continuance of such a system
must prove disastrous. The economic law that bad
money always drives out good money can not be safely
disregarded, and it is only a question of time when its
effect will show itself.
The Aldrich-Vreeland Bill, while only a temporary
measure, is an important step in advance, inasmuch as
for the first time it admits commercial paper as a basis
for note issue; but this measure, even if enacted as a permanent law, can not bring final relief, as the note issues
not only remain decentralized, but, so far as based on discounts, are grafted on prior note issues based on bonds.
This means that having been forced to stretch a rubber
band for so long a time and to such an extent that it has
become inelastic, we expect to restore elasticity to this
old and frayed band by tying to it a small elastic piece.
But by so doing we shall only have lengthened the band,
which can never contract within the length which has
become inelastic.
If we compare the net results of the discount system with
those of the bond-secured system, we find that in Europe
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rates of interest fluctuate within comparatively small
limits, while the outstanding circulation constantly contracts and expands within wide ranges. With us it is the
reverse: The outstanding circulation, once it is issued,
remains fairly stationary, while the rates of interest fluctuate violently from i to 200 per cent.
The discount system enables the country to concentrate
its reserves and to use them freely when needed; it brings
about a clear distinction between the working reserves of
the general banks and the actual cash reserves needed to
protect the circulation of the country. With us such a line
of demarcation can not be drawn and our reserves become
hopelessly decentralized and prove absolutely unavailable in times of stress.
The discount system recognizes the fact that issuing
money and making money are two entirely distinct functions, which are at times antagonistic to each other. It is
the duty of the money-issuing bank to restrain the moneymaking bank when the latter wants to go too far or too fast.
Therefore note issuing and general banking are separated
in Europe, the power to issue notes being more or less centralized. With us, on the contrary, general-banking power
and note-issuing power are lodged in the same banks, and
the note-issuing power is not centralized.
In Europe an effective discount rate protects the country from foreign and domestic drains alike, while no such
protection exists with us.
The discount system mobilizes the resources of the banks.
It turns the bank's most legitimate investment, its commercial paper, into its quickest asset, and by so doing
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creates a new means of exchange, available both at home
and abroad.
Under our system investments in commercial paper are
tantamount to a locking up of funds, which remain fixed
assets till they mature.
The discount system establishes a broad market for commercial paper and this market forms the basis of the note
issues, and at the same time provides for an easy adjustment of the demand and supply of money, the burden
being borne by the whole nation.
Under our system notes are issued against bonds, and
the daily adjustment of the demand and supply of money
primarily spends itself in an increase or a decrease of call
loans on stock-exchange collateral. Contraction and liquidation mean an onslaught on the security market with resultant disturbances. It is a result of the foolish attempt
to regulate the big reservoir by means of the small
one.
There is an old banking rule that no bank may grant
credit on other terms than those on which it receives credit.
The truth of this adage is obvious and the extent to which
this principle is carried out is the test of safe or unsafe
banking.
Safe employment of the millions upon millions deposited
with the banks is one of their foremost duties. The European system has adapted itself to this problem. Our
system makes really safe banking an impossibility. An
American banker invests his deposits in unsalable commercial paper and by so doing invests a call obligation in
a time loan, which is bad and unsafe banking. As he is,
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however, practically compelled to do business in this way,
he must, on the other hand, keep a large amount of assets
on call in order to meet the first onrush of his depositors.
In spite of the fact proved by our last panic, that, through
the faultiness of our system, these call loans can not
always be depended on when called and are therefore not
as available as cash, it is, nevertheless, the only conservative way in which an American banker can invest a large
proportion of his deposit money—unless he buys foreign
exchange and thus places his money abroad. Banks have
been criticised for placing so much money in stock-exchange loans and the stock exchange has been criticised
for absorbing so much money. Neither of them deserves
blame. It is our system that has made the stock exchange
the clearing house for the money of the whole nation and
that has immobilized our commercial paper. It is our
system that renders the banker helpless, leaving him to
choose between the Scylla of locking up his capital and
the Charybdis of adding to the accumulation of call loans
on the stock exchange, thus placing further weight on
this colossus on glass feet.
The discount system, by creating sound conditions,
makes the small bank independent and safe. Under
present conditions the small bank with us is dependent in
critical times on the assistance of the large institutions
and on the arbitrary will of the Secretary of the Treasury,
limited as this is by his (very uncertain) ability to help.
The central bank, the backbone of the discount system,
has everywhere proved a check to plutocratic monopoly.

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We can not close this short essay on the discount system without a few words about its historical development.
We are apt to believe, on this side of the ocean, that
the European central bank and discount system have
existed for centuries, that this system is the natural
development of conditions as they exist in those countries, and that it was achieved without those radical
changes in existing systems, which with us would be
necessary in order to modernize our system.
This is a mistake. As will be seen by the history of
the various government banks, published by the Monetary Commission, conditions in almost all the countries
now enjoying a centralized note issue, were in former
days similar to those which now prevail with us. Aside
from the Bank of England and the Banque de France, it
is safe to say that all the important central banks have
been created within the last forty years. The discount
system has been developed to its present importance only
within the last sixty years. The immense accumulation
of wealth during the last half century, the phenomenal
growth of capitalization and of daily transactions, brought
about the fullest development of every time and money
saving device, such as checks, stocks and bonds, clearing
houses, stock exchanges, and produce exchanges.
The mobilization of the promissory note and its development as the fundamental and most essential part of the
whole financial structure is probably the most important
phenomenon in modern financial evolution. Without it
the far-reaching use of credit tokens as substitutes for cash
is neither complete nor safe.
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It is inconceivable that the United States, a nation that
leads the way in industrial progress and that more than
any other nation weeds out old machinery and replaces it
by the newest appliances, should be either unable or unwilling to modernize thoroughly its financial system and to
discard old-fashioned financial machinery, which other
peoples have long since thrown upon the scrap heap. We
are not invited—at this juncture—to suggest a solution for
the problem involved in modernizing the American Currency and Banking System, but are only asked to report
the facts. 0 We may, however, state the case in this negative way: The question can not be solved by simply copying one of the European methods; for our prospective system will have to be adapted to our own peculiar conditions.
But, irrespective of the shape it may finally assume, any
system we adopt will prove ineffective and disastrous, unless it be constructed on bills instead of on bonds, and unless it provides for a concentration of cash reserves and of
the power to issue bank notes.
a The writer has grappled with this problem in his address entitled " A
central bank system and the United States of America." (American Economic Association Publications, Vol. X, No. i, Papers and Discussions of the
Twenty-first Annual Meeting.) To those familiar with his earlier attempts,
"Defects and needs of our banking system" (New York Times Annual Financial Review of January 6, 1907), and " American and European banking
methods and bank legislation compared" in " T h e Currency Problem and
the present Financial Situation" (The Columbia University Press, 1908),
he tenders his apologies for the repetition, unavoidably connected with this
attempt to deal with aspects previously covered.

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