47. Name as many reasons as you can why collateral may be required. 48. In the case of loans to investment bankers and stock exchange operators, is collateral security indispensable to a safe extension of credit?

49. Indicate the changes on a bank's balance sheet that would result from the following collateral loaning operations:

a) A loan of $40,000 for three months at 6 per cent is made on the basis of collateral composed of bonds and stock, the margin being 20 per cent.

b) The foregoing loan is paid at maturity by a check on this bank. Meanwhile the value of the collateral had shrunk until the margin was only 10 per cent.

c) The bank makes a $50,000 call loan, the call rate at the moment being 6 per cent. Collateral is deposited with a market value of $60,000.

d) The bank calls the foregoing loan (c) and the broker is unable to pay, whereupon the bank sells the collateral for $55,000, receiving in payment a check on another bank in New York. The loan had run for thirty days, and the call rate during this period had averaged 8 per cent.

50. What governs the rates on call money? How do they compare at present with other rates?

51. How is it ever possible for an individual to pay as much as

100 per cent for the use of money?

52. How can banks afford to accept only 2 or 3 per cent on money loaned at call? Are they not losing on such money?

53. What is the difference between the demand loans of banks outside of New York and the call loans in New York?

54. How do you account for the different rates on the different types of loans, as shown by the chart on page 393 ?

55. What is the purpose of overcertification? of "morning loans"? Are the latter any safer than overcertification?

56. How large a margin should be required with the following collateral: (a) unlisted common stock of a good substantial concern? (b) listed preferred stocks of an industrial corporation? (c) railroad bonds? (d) municipal bonds? (e) grain warehouse receipts? 57. What is meant by "mixed" collateral? Is there any advantage in it?

58. Do you see any objection to making collateral loans for fixed capital purposes?

59. In what respects does a bill of lading differ from other collateral ? 60. Would you prefer a bill of lading as collateral to stocks and bonds? Why, or why not?

61. Could produce dealers and others who borrow on bills of lading as collateral not obtain loans on their unsecured notes?

62. As a banker, would you grant loans more readily and for larger amounts where bills of lading were given as security? Why, or why not?

63. In what respects does a warehouse receipt differ from securities as collateral?

64. As a banker, would you refuse to lend to, say, a produce dealer except upon the deposit of a warehouse receipt as collateral? 65. Would you lend a larger sum with than without a warehouse receipt as collateral? Would you grant any lower rates? 66. Do you think it probable that warehouse receipts and bills of lading are used as collateral whenever they are available for the purpose? Why, or why not?

d) Investments of Commercial Banks

67. Study the financial statement of your local banks and ascertain how many different types of investments they hold.

68. In what respects are bonds better investments for commercial banks than stocks? than mortgages?

69. In what respects are short-term notes superior as bank investments to bonds?

70. Why are United States certificates of indebtedness a popular form of bank investment?

71. Why are bonds with an early maturity date regarded as particularly desirable types of bond investments for commercial banks?

72. Do you see any general disadvantage in investments as compared with collateral loans?

73. Would you support the doctrine that commercial banks should not invest in securities and thereby furnish funds for fixed capital purposes?

NOTE.-Final judgment on this issue should be reserved until after reading chapter xxiii.

REFERENCES FOR FURTHER READING

Agger, Eugene E.: Organized Banking, chap. i.

Dunbar, Charles F.: Chapters in the History and Theory of Banking, 3d edition, revised and enlarged by O. M. W. Sprague, chaps. ii and iii.

Holdsworth, John Thom: Money and Banking, chap. viii, x, and xvi.

Kniffin, William H.: The Practical Work of a Bank, chap. xiii. Moulton, Harold G.: Principles of Money and Banking, Part II, chap. iv.

Phillips, Chester A.: Readings in Money and Banking, chap. ix. Scott, William A.: Money and Banking, chap. vii.

Shaw Banking Series: Credits and Collections, chaps. vi, vii, and viii.

White, Horace: Money and Banking, Book III, chap. ii.
Willis, H. Parker: American Banking, chap. xiii.

CHAPTER XX

COMMERCIAL BANKING AND THE FINAN

CING OF FOREIGN TRADE

In the foregoing discussion of the practical operations of commercial banks, the analysis related primarily to the part these institutions play in financing local or domestic business requirements. In the present chapter our attention will be specifically directed to the relations of commercial banks to the financing of foreign commerce and industry.

I. FINANCING IMPORT TRADE

In illustrating the principles of foreign exchange in chapter viii it was pointed out that the American exporter customarily draws a bill of exchange on a London importer, or on a bank designated by him, and then offers the bill for sale in the New York market. It has, however, not been true that the British exporter to this country commonly draws a bill upon the New York importer, or a designated bank, and offers this bill for sale in London. The practice has rather been for the American importer to buy a sterling bill of exchange from an American bank and remit this in payment, or for the foreign exporter to draw a draft against a London bank rather than against a New York institution. In considering the part that commercial banks play in the financing of import trade, we must therefore first consider the reasons for the common practice of drawing these bills on London rather than on New York.

Until after the adoption of the Federal Reserve System in 1913 United States banks were not permitted to accept drafts drawn against them. Now a British exporter would not draw on an individual in New York because of the difficulty in disposing of such a bill at a reasonable rate-unless the

1

individual importer chanced to have an international reputation. It was accordingly much cheaper for the exporter to receive a bill drawn on a London bank; for this could be promptly discounted at a low rate in the London discount market. And even were a draft accepted by an American importer of international reputation, it could still not be discounted in the London market on as favorable terms as London bills. Through the use of London bills the British exporter was, moreover, enabled to avoid the "risk of exchange, that is, changes in the rate of exchange between the two countries; for if he possessed a British bill, payable in sterling in London, subsequent changes in the rate of exchange would not affect the volume of funds which he would receive.

Commercial letters of credit are widely used in financing imports. The financing of import trade is typically effected through the use of an extremely interesting financial device, developed during the last twenty-five years, and known as the commercial letter of credit. A concrete illustration will reveal the nature of this form of credit operation.

Suppose an importer in New York desires to buy $10,000 worth of silk from a firm in Hongkong. The American importer is not known to the Chinese exporting house and it is out of the question for the Chinese exporter to draw a bill of exchange upon the New York importer and secure the funds by discounting the bill at a Hongkong bank. Moreover, since the importer's credit standing is unknown to the Hongkong merchant, the latter cannot well afford to take the chance of shipping the goods on credit and waiting, say, six months for payment. An arrangement is therefore made whereby the credit of the New York house is, in a sense, guaranteed by a financial institution in which the Hongkong exporter may have confidence.

The New York importer goes to his banker and secures a commercial letter of credit. The letter of credit is addressed to the exporter, and it authorizes a bank, say, in London, to accept the six-months sight drafts of the Hongkong exporter of silk up to a certain total sum and under certain prescribed