Readings in Money and Banking / Selected and Adapted

by Chester Arthur Phillips

Agricultural Credit Conditions in the United States

[198]The United States, although the leading country of the world in the amount of its agricultural products and in the extent of its banking business, is behind nearly every other progressive country of importance in the development of agricultural credit, i. e., short-time non-mortgage credit. Our manufacturing and commercial businesses are financed largely by means of such credit, and the capital invested in these industries is thereby rendered manifoldly efficient; not so with agriculture. Most farmers apparently make little or no use of short-time credit. There seems to be a wide acceptance in this country even among the farmers themselves of the dictum of Louis XIV, that: "Credit supports agriculture, as the cord supports the hanged." Is this a correct description of the situation? If so, what is the explanation, and what remedies if any are needed? The object of this paper is to throw light upon the answers to these questions.

First, as to existing banking facilities for agricultural credit, and their utilization by farmers. It is well known that the banking capital of the country is concentrated to a great extent in our large cities—to a greater extent than it would be if we had a well-developed system of branch banks like Canada—and that the banks of these cities are prevented by reason of their location from making many agricultural loans, even if they were so inclined. Of the 7,301 national banks in the United States September 1, 1911, 191 or 2.6 per cent. were located in the dozen largest cities of the country.[199] The national banks of these twelve cities, representing but 14 per cent. of the population of the country, had 37 per cent. of the national banking capital (capital, surplus, and undivided profits), 33 per cent. of the individual deposits, and 40 per cent. of the loans. It should be noted, however, that since the act of 1900, authorizing the establishment of national banks with a capital of less than $50,000 in small towns, there has been a continual and rapid increase in the number of national banks in small communities. On September 1, 1911, out of the total 7,301 national banks there were 1,966 with a capital of $25,000, and therefore presumably located in towns of less than 3,000 population, 372 with a capital between $25,000 and $50,000, and therefore presumably in towns of less than 6,000 population, and 2,297 with a capital between $50,000 and $100,000. Except for banks in towns not exceeding 6,000 population, the law as amended in 1900 does not permit any national bank to be organized with a capital less than $100,000.

Are the national banks which are accessible to farmers in a position under the law to meet farmers' needs? The answer to this question must be in the affirmative. Aside from the fact that national banks are not permitted to make loans on real estate security,[200] there is no restriction in the national banking act which would interfere with loans to farmers for agricultural purposes. Personal security alone is legally acceptable; the range of possible collateral security is practically unlimited; and there is no limitation fixed by law as to the period of loans. National banks therefore have a very free hand in regard to loans to farmers.

When we inquire concerning agricultural credit in banks under state charters we find conditions varying with the different States, but, with a few minor qualifications, it may be said that the state banking laws are free from restrictions that would hamper state banks and trust companies in extending credit liberally to responsible farmers. They are in a much better position in one respect to deal with farmers than are national banks, that is, in the matter of accepting real estate security. No state denies state banks this privilege, and such restrictions as exist upon its exercise are generally not onerous.

If commercial banks are comparatively unhampered by law in making short-time loans to farmers, it may be asked: To what extent are such loans made? Unfortunately practically no information is available on this question. In answer to an inquiry the Comptroller of the Currency wrote, under date of May 27 of this year, that no information with reference to short-time loans made to farmers by national banks had ever been compiled by the comptroller's office. The writer has found no trace of any investigation of this subject by state banking departments. For about a year he has taken occasion to inquire at every opportunity of individual bankers concerning their experience with regard to loans to farmers in different parts of the country. The replies received are so divergent that no conclusion can be drawn from them, except that the practice varies widely in different sections of the country and even in different communities in the same section, and that probably the farmers of the North Central and Western States borrow of commercial banks more than do those of the Eastern and Southern States. There is not sufficient evidence, however, for this latter inference to make it much more than a guess. In the absence of any comprehensive data, I shall resort to the unsatisfactory but representative replies from different parts of the country.

Neither of the two national banks in the city of Ithaca, N. Y., makes any appreciable amount of loans to farmers. Both claim to be willing to do so, but say there is practically no demand. In some of the neighboring cities, however, such loans by national banks are more common. The cashier of a national bank in a town of about 800 population in an agricultural section of northeastern Pennsylvania writes:

Our farmers as a rule are not large borrowers and want loans only in small amounts for short periods.

Farmers in general will not go on each other's paper no matter how good the parties are, for they have been so often taken in by wild-cat schemes that they are shy when their names are required to be placed upon paper. They realize also that they are not familiar with business methods in the commercial world and dare not trust themselves.

There is a moderate amount of borrowing by farmers in western New Jersey. Estimates made by bankers in Princeton as to the proportion of farmers in that neighborhood who borrow for short periods of local banks vary from 15 to 40 per cent.

A former president of a national bank in Indianapolis writes:

We came very little in contact with farmers. We made special effort to secure such business by sending to a considerable mailing list of carefully selected farmers, circulars and personal letters ... but the business did not come. My inference was that they dealt with the nearby small banks.

Of the situation in Lafayette, Indiana, a former vice-president of a national bank, writes:

About 50 per cent. of our business was with farmers. They borrow frequently from commercial banks, funds to be used for crop planting, crop gathering, purchase of agricultural machinery, improvements on the farm, purchase of cattle, and the carrying of cattle or hogs to maturity. Through Indiana these farmers' loans are very usual in the country banks, many preferring state charters so they may make these loans not only on personal but also on mortgage security.

Farmers are seldom able to give any but personal or mortgage security. A large percentage of them are sufficiently responsible to be entitled to and to receive reasonable credit without security.

Farmers seem to endorse for each other much more readily than do those of other classes.... The reason is, I think, clear. Each knows pretty much everything about his neighbor's financial status, the amount and value of his land, his live-stock, and other visible personal property, the amount of any mortgage and when due. So much being thus in the open there is less of the secretive habit, so that the extent of the invisible personal property and debts is apt to be known.

A similar report comes from a national bank in Lincoln, Nebraska, from which the following extracts are taken:

The farmers of this state have need of accommodations of this kind to carry them through the crop season. As a matter of fact, they use short-time credit to fully as great an extent as do the business men in the city and smaller towns. In fact, I think it is true that in the smaller towns the bankers favor the farmers in preference to the small business men....

There is no doubt about the average well-to-do farmer in this state being able to furnish satisfactory security aside from mortgaging his farm for such temporary loans within any reasonable limitations. In some cases the banks take chattel mortgages on cattle or other live-stock, and in some cases where the farmer has a good equity in his farm they will not hesitate to take his personal note.

While I do not know that there is any particular difference between farmers and other classes in this state as to their willingness to go security for each other, yet very little of this is done any more. There was a time when it was not an uncommon thing, but it has become less and less until now there is very little signing done for others. In fact, the farmers feel that they are able to take care of themselves and do not ask others to sign with them, and are able to handle themselves without such an endorsement. This is true of all classes in this state.

I have never felt that in this locality farmers suffered in any way from lack of credit facilities....

A former bank examiner in the state of California, himself a farmer, writes:

The farmers of California do not to any considerable extent make a practice of borrowing money from local banks or money lenders for short periods....

In reviewing the various bank examiners' reports on some 500 state banks I recall very few instances of crop mortgages, and it impresses me that in many of the cases the mortgage was taken to obtain additional security for loans previously granted and secured otherwise.

I think it would be safe to say that the bankers as a rule have not favored short-time unsecured loans to farmers. They are, however, fast awakening to the fact that as a rule these are the safest loans a bank can make, and are making an effort to get in closer touch with the farmer. It would also be safe to say that the average small farmer does not as yet realize that he can obtain such credit at a bank.

Our farmers as a class are exceedingly reluctant "to go each other's security." Two-name paper is mostly confined to commercial transactions.

A college professor in the state of Washington informs me that short-time loans to farmers are common in that state, but that frequently the rate of interest charged is 2 per cent. higher than that on commercial loans—the explanation commonly given being that a farmer borrowing generally reduces the resulting deposit credit more rapidly than does a merchant.

In the Southern States, particularly in the cotton, rice, and tobacco sections, the use of crop liens for short-time loans appears to be much greater than in other sections of the country.[201] Such meager testimony as I have been able to secure seems to show that the amount of short-time agricultural credit extended by banks in the South is relatively small but rather rapidly increasing. The banks are catering more and more to this class of business.

Other evidence might be cited, but the above gives a fair picture of the situation as revealed by all the testimony received—a confused picture of widely varying conditions. Public opinion is now being aroused on the subject of agricultural credit, and pressure is liable to be brought for hasty and perhaps radical legislation. Obviously, the first step to be taken in the interest of a sane solution of the problem is to find out exactly what the problem is. To this end the writer would urge strongly the need of investigations by the Comptroller of the Currency and by the various state banking departments of the present facilities and practices in the matter of agricultural loans. In view of the increasing public interest in the subject the investigations cannot be undertaken too soon.

Although the farmers in any section of the country may not resort to the banks for short-time credit it does not follow that they are not receiving such credit. As a matter of fact they are often receiving it on a considerable scale and in the most expensive way. i. e., in the form of book credits with merchants. It is a common practice throughout the country for farmers to run up book accounts with local merchants during the spring and summer to be paid in the fall when the crops are sold. When this is done on any considerable scale the farmer probably pays more than bank interest under the guise of prices; and this is particularly true when he obligates himself to sell his crops to the creditor merchant. In the South this practice is carried to the extreme in the familiar "store-lien" system which holds many farmers in the cotton belt in a condition bordering on perpetual servitude. The custom is for the farmer to buy supplies of the local general store on credit for the year, agreeing to sell to the merchant his cotton crop in the fall, thereby cancelling the debt. A crop lien is generally given, and the merchant often dictates the character and the amount of the planting. The prices paid for cotton under this system are liable to be exceptionally low, and the prices paid by the farmer for his supplies exceptionally high. The system has proven a curse to many sections of the South. Witnesses before the United States Industrial Commission estimated the interest rates imposed by this system at from 20 per cent. upwards. Mr. George K. Holmes of the United States Department of Agriculture testified:

The rate of interest on the liens on the cotton crop of the South, it is safe to say, probably averages 50 per cent. a year. All cotton men will agree that it is at least that. The store system of the South is a sort of peonage; that is what it amounts to with the cotton planter.[202]

Since the Industrial Commission's report was published the banking facilities of the South have been greatly increased, and the banks are coming into closer touch with farmers, with the result that the store-lien system is gradually breaking down.

Another form of credit to farmers is that obtained from dealers in farm implements and machinery which the farmers frequently buy on time, paying interest during the credit period.

One informant, who has been a bank examiner, writes from California—and his testimony is applicable to many other sections of the country:

The new generation of merchants is not disposed to carry the farmer as of old and insists that overdue accounts be covered by promissory notes which are in turn hypothecated with their bank. In other words a clearer demarcation of function is being gradually brought about to the best interests of all concerned.

Such in general is the present situation in the United States in the matter of short-time agricultural credit as evidenced by the very indefinite and scant information available. What are the causes? Perhaps in them will appear some suggestions for the remedy.

The chief reasons for the backwardness of the United States as compared with Europe with regard to agricultural credit may be briefly summarized as follows: (1) Our wonderful agricultural domain where good land could be had almost for the asking, and where for generations land was so cheap and labor and capital so dear that intensive cultivation was generally unprofitable. (2) The prosperity of our farmers who have not been forced by dire necessity to resort to credit as were the farmers of Germany at the middle of the last century when the Raiffeisen co-operative banks were first organized. (3) The nomadic character of a considerable part of our agricultural population as it has moved continually westward in taking up of new lands, and more recently as it has been retracing its steps or moving northward. (4) The isolation of our farmers in this country of large farms and "magnificent distances." (5) The rapid growth of the manufacturing and commercial business of the country—and that largely in the hands of the same class of people who control the bulk of the banking business.[203]

Add to these circumstances the obstacles which farmers always encounter in the matter of credit, as compared with manufacturers and merchants, obstacles such as the uncertainty of crops and the strongly seasonal character of the farmer's credit demands, and we have a sufficient explanation for the backwardness of agricultural credit in this country.

To emphasize most of these causes, however, is to brand oneself as belonging to a past generation. Our domain of free arable land is practically gone; good farms must be bought, and for them ever increasing prices must be paid.[204]

The era of hand cultivation is giving way to that of farm machinery propelled by horse-power and even by steam, gasoline, or electricity, with its resulting great increase in the efficiency of labor. Eleven years ago the editor of The Dakota Farmer, in his testimony before the United States Industrial Commission, put the matter tersely, and with little exaggeration, as affecting his own section of the country, at least, when he said: "When I first worked out it took five binders to follow a machine, one man to rake off, and one to carry the bundles together. Now the hired girl frequently drives a machine that does the whole business."[205] Some idea of the extent of this increase may be obtained by reference to the following figures compiled from census reports:

Value of Farm Implements and Machinery in the U. S.[206]

Year	Value 000,000	Per Cent. Increase
1910	$1,265	69
1900	750	52
1890	494	22
1880	407	50
1870[207]	271	10
1860	246	62

The increase in the value of farm implements and machinery per acre of land in farms from 1900 to 1910 was from $0.89 to $1.44, or 61.8 per cent.

An analysis of the figures for farm machinery by geographic divisions shows a marked difference in the rates of increase, but the tendency in all sections during the last forty years has been decidedly upwards, the greatest growth having been witnessed in the decade ending 1910. During that decade the lowest rate of increase in any section was that of New England, 39 per cent., and the highest that of the Mountain States, 163 per cent.[208]

Another development which is making larger demands upon the farmer for working capital is the increasing use of artificial fertilizers, the expenditure for which in the United States approximately doubled from 1880 to 1900.

As the result of such tendencies and of the rapid depletion of our free domain, farming in the United States is losing its old-time kinship to mining and becoming more like manufacturing. More and better machinery and more power are needed on most farms in the interest of efficiency. This calls for short-time credit. But a supply of good machinery requires a fair sized farm for its efficient utilization—hence the need for larger farms and for mortgage credit to make their purchase possible. Upon this subject there are some very illuminating data in Warren and Livermore's Agricultural Survey of four townships in Tompkins County, N. Y., from which the following is quoted:

The value of farm machinery increases rapidly with the size of the farm.... Any one who has ever made a list of the necessary farm machinery will see at once how inadequately these small farms are equipped. Yet their machinery costs nearly twice as much per acre as that on the larger farms that have nearly three times as much machinery. Machinery can be used more effectively on large farms. One mower, one hay rake, one tedder, one hay loader, one corn harvester, one grain harvester, one grain drill, one manure spreader, one potato digger, one potato planter, can do their work on a 250 acre farm as readily as on a small farm. Few of the small farms have half of these tools. If a small farm does have nearly all the list, it cannot use them enough to pay for the investment. The more efficient and numerous machines become, the larger our farms should be. It is interesting to notice how many of the tools are of very recent development. Almost half of the value of farm machinery on a well-equipped farm is invested in machinery that has been perfected in the last few years.

Much the same situation exists in regard to an adequate equipment of horses.

Three or four horses are the smallest number that can be used efficiently with modern machinery.... The small farms have not enough horses to make efficient teams and yet they are over-supplied with horses compared with their area. On these farms there are only 15 acres per horse. On the largest farms, one horse farms three times this area, with no resulting decrease in crop yields.... When we consider the cost of keeping a horse we see what a great advantage the larger farms have.

Forces like these are counteracting what is commonly thought of as the normal tendency of agriculture to move toward more intensive cultivation on small farms, with the result that the average amount of improved farm land per farm actually increased instead of diminishing in the United States during the last decade. This does not mean less intensive cultivation, in fact quite the contrary; it means more intensive cultivation, but by the efficient utilization of good machinery and of power. It means further, as said above, a demand for mortgage credit for the purpose of enlarging farms—and that, at rapidly increasing farm prices.

The farming population is becoming more settled now that the free lands are practically gone and the frontier has disappeared.[209] The isolation of the farmer is rapidly becoming a thing of the past, with the advent of rural free delivery, rural telephone, the automobile, and the parcels post. The farmer no longer buys gold-bricks nor is duped by fraudulent lightning-rod schemes except in the pages of the comic supplements.

When seeking credit the farmer can offer better security than ever before. His markets are larger, better organized, more certain, and more accessible. The risk of crop failure is less, thanks to the wonderful progress of scientific agriculture. There are few pests which cannot now be readily controlled by the intelligent farmer, who takes time by the forelock. The problem of moisture is growing less serious every year with the improvements in irrigation, dry farming, and the more scientific diversification of crops.

Conditions then point to an increasing need for agricultural credit, and to improving circumstances for its safe development.

If the time is ripe for a greater use of bank credit in agriculture, how is that credit to be obtained? Broadly speaking, four methods may be mentioned, only the last two of which are deserving of much attention at the present time. They are: (1) Establish government agricultural banks; (2) adopt the Egyptian plan of a government guaranty to an agricultural bank established with private capital; (3) encourage the farmers to organize co-operative credit societies on some such plan as the Raiffeisen or Schulze-Delitzsch banks of Germany; (4) utilize more effectively in the interest of the farmer our present banking machinery, and improve it where it is defective.

The suggestion of an agricultural bank owned and operated by government, either state or federal, is not worthy of serious consideration in this country at the present time. The history of such banks both in Europe and America has generally been a disastrous one, although a few have succeeded. Some exist to-day which are performing useful services to farmers, notably in the line of mortgage credit, among which may be mentioned those of the Australian States and New Zealand,[210] and the recently established one in the Philippine Islands. The success of such institutions is not such as to justify any attempt to establish them in the United States, at least until every reasonable effort has been made to solve the problem by means of private and co-operative effort.

The other plan, commonly known as the Egyptian plan[211] from its most important example, seeks to eliminate the evils of a purely government bank and to take advantage of its meritorious features. In Egypt the agricultural bank is owned and financed by private capital; it enjoys, however a government guaranty of principal and of 3 per cent. interest. Its administrative expenses are kept low by an arrangement with the Egyptian Government by which the Government tax collectors make collection of instalments on the Bank's loans at the time of the collection of the regular land tax, for which the Bank pays a small commission. The Agricultural Bank of Egypt has had a phenomenal success, rendering an invaluable service to the Egyptian fellaheen, and at the same time yielding good profits to its owners. It was this type of bank that the United States Government authorized established in the Philippines by the act of March 4, 1907, but the interest guaranty of 4 per cent. has so far proved too low to attract capital into the enterprise.[212]

A bank organized on the Egyptian plan is well adapted to do pioneer work among ignorant farmers, where the apparent risks and heavy administrative expenses prevent private capital from entering the field. A government guaranty, however, hardly seems necessary in the United States, and our people would probably look askance at any proposal for a great agricultural bank or banks of this type with branches scattered throughout the country. It is contrary to our banking traditions, and, like the plan for a strictly government bank, should not be thought of until plans for meeting the need by private initiative have been fairly tried and found wanting.

When one considers the question of the improvement of agricultural credit in the United States one instinctively thinks of the co-operative credit banks of the old world, because of their phenomenal success for a half century and more, the simplicity of their structures, the ease with which they may be established, and their ready adaptability to the widely varying conditions found in a great country like the United States. The description of the wonderful success of these institutions as told by Henry W. Wolff in his People's Banks reads like a fairy story. Although the success of co-operative banks has been great in nearly every country of Continental Europe, nowhere else has it been so great as in Germany, the country of their origin, and it is to Germany one naturally turns first for suggestions. There we find four types of co-operative credit banks, Landschaften, Ritterschaften, Schulze-Delitzsch banks and Raiffeisen banks. The first two are co-operative associations loaning money on land mortgages, and securing funds largely through the issue of bonds against the collective mortgages. Being concerned with long-time mortgage credit they do not fall within the province of this paper. The other two types of banks deal especially with short-time credit, the one chiefly in the towns and cities, and the other with farmers in the rural communities. It is with the latter that we are most concerned. Let us therefore consider briefly the essential features of the Raiffeisen system.

These features are: (1) Organization on the strictly co-operative principle, none but members having the right to borrow, although non-members may make deposits. (2) Limitation of loan operations to a very small area in which all farmers are acquainted with each other. A bank's field of business, the founder believed, should not cover a parish of less than 400 people nor of more than 1,500. The banks were to be, therefore, purely neighborhood affairs. There is a sympathetic but well-informed neighborhood opinion which prevents the squandering of loans. (3) Unlimited liability of all members for the debts of the bank, a necessary corollary of which is the provision that membership is obtained only by election by those already members. (4) The working capital of the bank is obtained chiefly from the following sources: (a) Small savings "drawn, either from within the area covered by the bank, in which case it comes both from members and non-members, the former being rewarded where possible at slightly higher rates in order to encourage membership; or from without the area, in which case it of necessity comes from non-members."[213] (b) Loans from the provincial bank of the district, or more importantly from the central bank of the Empire at which the local bank keeps a current account and with which it may rediscount its paper. Funds are also sometimes obtained from other banks or from private individuals. (c) A purely nominal share capital which the banks did not originally have, and which they have been forced against their will to issue. The requirement is now usually met by the issue of a few low-priced shares of which no member can hold more than one and upon which no dividend is paid. (d) Two surplus funds called reserve funds; one used exclusively to cover losses, and the other being the principal reserve fund (Stiftungsfund), commonly used for "positive improvements, such as the extension of the premises or the establishment of a burial fund."[214] In this fund must be placed two-thirds of the annual profits. The fund cannot be distributed among the members, even though the bank be dissolved. In such a case it is held in trust for a time for a new bank, should one be established, and if no such bank is established it must be used for some work of public utility. A recent publication of the International Institute of Agriculture[215] analyses the total working capital of the rural banks of Germany for the year 1909 as follows:

	Amount in Marks 000,000	Percentage
Share capital	22.4	1.2
Reserves	51.0	2.6
Deposits on current account	189.1	9.8
Savings deposits	1,455.6	75.2
Other liabilities[216]	217.5	11.2
Total working capital	1,935.5	100.0

The striking fact brought out by these figures is that out of nearly two billion marks placed at the disposal of farmers, less than[217] 11.2 per cent. was furnished by outsiders, while more than 88.8 per cent., was provided by the savings and other deposits of the farmers themselves and of the local public. (5) A fifth feature of the Raiffeisen system is that the bank's administrative organization is simple and democratic. Final authority on local questions resides in the general meeting in which every member has one vote. There is elected annually a committee of management consisting usually of five or six directors who meet weekly. As a check upon this executive committee there is also elected annually a council of supervision consisting of from six to nine members. A biennial audit is made of the accounts of each bank by an accountant employed by the district or central union. The books of the bank, except the individual deposit ledger, are open to the inspection of all members. Officers of the local banks serve without compensation, except the treasurer who has no vote in the making of loans.... (6) Advances take two forms: the ordinary loan (of which the name is sufficiently descriptive), and the current account which is similar to the Scotch cash credit. The latter constitute about a third[218] of the total and show a tendency to increase in proportion to the ordinary loans. The period of the ordinary loan varies from six months to three years; and in exceptional cases it may be even longer.[219] Loans are repayable in instalments covering interest and part of the principal, or in lump sums. Banks reserve the right to call a loan on four weeks' notice. The average credit advanced per member is 500 marks, and the average interest rate probably somewhere between 4 and 5 per cent. Although mortgage and other collateral security is sometimes accepted, the banks' chief reliance is personal security, and the great bulk of the loans are made on two-name paper.

The Raiffeisen banks are organized into provincial federations with provincial banks at their head, and these in turn into a national federation with a central bank at its head. These provincial banks and the central bank "equalize the need of credit of the individual banks, supplying them with money when required and employing their surplus funds."[220] A large proportion of the German co-operative banks and other co-operative agricultural societies are federated in a single national organization, the National Federation of Darmstadt.[221]

Such are the leading features of the greatest agricultural credit system of the world. To the American the surprising thing about it all is that such co-operative credit banks are practically unknown in the United States, although there has been a remarkable development here in recent years of other forms of co-operation among farmers.[222] This surprise is the greater when one bears in mind that "whole counties have been populated in the Northwest by European agriculturists who came from neighborhoods where they were familiar with agricultural co-operative credit, and yet not a society of co-operative credit for these immigrants has been established from the beginning to the present time."...[223]

What is needed now—and possibly about all that will be needed in the future—is a campaign of education among the farmers themselves rather than one of legislation; although the development of such societies will doubtless be furthered in many states by legislation, such as was recently enacted in Massachusetts (ch. 419, Acts of 1909), freeing them from some of the hampering provisions of the general banking act of the state. Conditions are so widely different in different sections of the country, and among different classes in the same section, that co-operative agricultural credit societies will need to be given a fairly free hand in such matters as limited or unlimited liability, the amount of share capital, receipt of deposits, etc., so that they may adapt themselves to local needs. A reasonable amount of government supervision on the part of the banking departments of the states seems desirable.

Passing now to the question of the better utilization of our existing banking machinery, we may consider it first from the standpoint of the Government, then from that of the banks, and finally from that of the farmers themselves.

The provisions of the national banking act (Revised Statutes, Sec. 5137) are too rigid in the matter of loans on real estate security.[224] National banks are, of course, intended to be banks for business men, and their assets should be quick assets in so far as their liabilities are quick liabilities. But it should not be overlooked that the modern farmer is a business man, that he needs active credit for the efficient conduct of his current business, and that land is the only kind of collateral many farmers can give that is acceptable to bankers. Many worthy farmers are not willing and some are not able to secure satisfactory endorsers to their paper. Crop liens, except in the South, are not usually very acceptable to banks. The ability of the farmer to give mortgage security to national banks in case of need would often prove a great help. Furthermore, now that a majority of our national banks have savings departments, and that savings deposits might wisely be made withdrawable subject to advance notice, it is not unreasonable that these banks should be permitted to invest at least a substantial part of their savings funds in the same kinds of mortgage securities that are open to the investment of funds of savings banks; provided, of course, that due care be taken to prevent the juggling of accounts between the commercial department and the savings department of the bank.

Another form of desirable legislation in the interest of the farmer consists in the abandonment of our unscientific bond secured bank-note circulation for a scientific system, and in the rendering of our deposit currency more elastic. The more the farmer resorts to bank credit as a means of financing his current business the more will he suffer from the seasonal inelasticity of our bank-note and deposit currency. Farming business is pre-eminently seasonal in character; the farmers over the greater part of the country need funds most at about the same times of the year, i.e., the fall and spring. A great increase in the demand for currency and capital, say in the fall, under an inelastic currency and credit system like our own, means to the farmer, highest interest rates at just the time when he needs most to borrow, greatest scarcity of cash at just the time when his need for cash is the most urgent, and prices depressed by a tight money market at the time of the year when he has most to sell. It is doubtful if any class of people in the country would benefit more from a thoroughgoing reform of our banking system than would the farmers.

The apportionment of responsibility between farmer and banker for their not having gotten together better is an impossible task. Although some exceptions must be made, particularly in the Middle West, as a general proposition neither has appreciated the opportunity which the other offered.

The banker must be brought to realize that one of the best kinds of paper in the world is short-time business paper bearing the names of two responsible farmers. He should be an adviser and friend to the farmer as much as to the city customer. He should make the farmer feel that a productive loan to him is not of the nature of a favor reluctantly granted—as so many farmers complain—but rather a business proposition profitable to both, as gladly given as it is received. He should further co-operate with the local business men in preparing financial ratings of farmers, to fill the gap left by the inability, to be hoped temporary, of mercantile credit agencies to rate farmers as extensively as they do other business men of like capital.

The farmer, on the other hand, must be educated by the banker, the press, and the agricultural school and college, to the advantages of credit as a mean to the more efficient working of his farm. This should be done with caution, for credit is a two-edged sword. The farmer should be encouraged to borrow only when it is very clear that he can use additional capital so productively that it will pay. But what industrious farmer could not use profitably some additional capital every year, could he obtain it at as reasonable rates as does the merchant? The farmer must learn to keep careful accounts. He must be made to realize that the banks are open to him as to other business men, and that the bulk of the country's short-time commercial loans, as likewise of the agricultural loans of Europe, are made on the very same security he is capable of giving, i.e., two-name paper of honest, industrious business men.

Farm Credit in a Northwestern State[225]

LONG-TIME LOANS

In North Dakota the average farm mortgage runs for 4.94 years; and the average interest rate is approximately 8 per cent. (accurately 7.88 per cent.). This 8 per cent. does not include the expense of abstracting titles, examining the property, and the recording of the mortgage. These fees are invariably paid by the borrower. Nor does this interest rate of 8 per cent. take account of the bonus that is frequently exacted, in the newer regions, from the borrower for the privilege of securing a loan; nor does it allow for the sum the borrower loses in paying his yearly interest in advance, which is deducted from the principal. While the practice of exacting a bonus is not common, it is generally the custom to deduct the entire year's interest in advance; assuming an 8 per cent. rate, the farmer therefore pays $80 interest not on $1,000 but on $920, which brings the rate up to 8.7 per cent.

While the average prevailing rate, according to our returns, is approximately 8 per cent., the rate varies in different parts of the state, depending upon the local conditions. The rates are lowest in the eastern tier of counties, and rise gradually towards the western part of the state, where the rate runs up to 10 and 12 per cent., which is also the rate in the eastern part of Montana. That the 8 per cent. rate is quite general for a large part of the state is evidenced from the fact that 25 of the 45 counties report an average rate of 8 per cent. or more. In only 4 counties is the rate less than 7 per cent., and in no county does the average fall below 6 per cent.

The above figures are conservative. They are based on returns submitted by bankers who would naturally understate rather than overstate the rate of interest charged in their respective localities. Furthermore, we have a check on these bank returns in the replies received from farmers. As a rule the rates reported by bankers and farmers are nearly identical in their respective counties. It is safe to conclude, therefore, that the average rate on farm mortgages for the entire state is about 8 per cent.

SHORT-TIME LOANS

Short-time loans are of two kinds, bank loans and book credit advanced by retail stores. The bank loan is made on the farmer's note, generally unsecured, though often secured by a chattel mortgage. According to the reports received from 125 banks, the average length of time for these short-time loans is 8-1/2 months; and the average rate of interest is 10.75 per cent. The average rate reported by farmers residing in 22 different counties was 11.07 per cent.

An effort was made to compare rates paid by farmers with those paid by business men on short-time loans in the same locality. The same banks that reported an average of 10.75 per cent. to farmers averaged only 9.18 per cent. on loans made to merchants and manufacturers. Fully 95 out of the 125 reporting banks stated that the rate was higher for agricultural short-time loans than for commercial loans; 26 reported the rate to be the same for both classes; and only 4 reported a lower rate for the farmer. As North Dakota, however, is not a manufacturing nor a jobbing state, commercial paper is scarce, and consequently comparisons of the above nature are apt to be misleading. The significant fact remains that the farmer pays from 10 to 11 per cent. on small loans, for short periods of time.

Store or book credit is a form of short-time loan which is perhaps more important than bank credit. In a state where the bank charges a high rate of interest, the farmer is more likely to buy merchandise on credit than to borrow from the bank and pay cash. The North Dakota farmer is rarely denied credit at a country store. To secure information on this form of credit, questionnaires were mailed to implement and hardware dealers, as well as to farmers. One question asked of implement dealers was: "What percentage of farmers pay cash in buying farm machinery?" The answer from 54 firms, located in 35 counties, was that only 13 per cent. of the farmers pay cash, 87 per cent. buying on time. Out of 29 farmers reporting only 6 pay cash in buying machinery and supplies. These book accounts run anywhere from three months to two years; the average account is carried about one year (12.37 months). The farmer contemplates making payment immediately after his prospective crop is marketed. In case of crop failure the retailer will carry the account over until the next harvest season.

It is quite common for the dealer to obtain a note from the farmer—the note generally bearing a 10 per cent. interest rate from the date of issue. Often, however, the note does not begin to bear interest until the farmer has failed to make payment at the expected time, that is, immediately following the harvesting season. The 54 implement and hardware dealers reported an average of 10.26 per cent. interest per year on these notes.

It is more difficult to secure uniform information from dealers on the subject of book credits, especially with reference to the interest rates charged on such accounts. The practice varies. Usually an interest rate is added to the credit price depending on the duration of the account. There is no common discount rate for cash purchases, though 7 per cent. is most common, that is, 7 per cent. of the credit price. This brings the credit price of a $160 binder down to $150 for cash. As a matter of fact all dealers quote two prices, the cash and the credit price, the difference between the two depending upon the reputation of the buyer, the shrewdness of the seller, and the degree of competition in the particular locality.

On this point, replies from farmers do not differ materially from the replies of the implement dealers. The difference between the cash price and the credit price of a binder is usually given as $5 to $10, and a wagon or plough, as $3 to $5. The general discount rate is 7 per cent. off the credit price.

The implement dealers and the farmers are all agreed that cash payments would be preferable if rates on bank loans were reduced. The farmer, however, is often afraid to approach the banker for a loan. On the other hand, the farmer does not always see that the book credit is quite as expensive as bank credit, if not more so. The prevailing high bank rate, however, from 10 per cent. to 12 per cent. on short-time loans, does not encourage cash payments.

Are the foregoing rates too high as compared with rates in other communities? The Crop Reporter for April, 1913, shows interest rates on short-time loans in every state in the Union. In 1913, the North Dakota rate exceeded that of all other States; in 1912, it exceeded all but Oklahoma.

Farmers as a rule think that rates are fixed arbitrarily by the bankers and other money lenders in the community. That fundamental laws of supply and demand have any controlling influence is apt to be overlooked. Without attempting to justify the high rates let us state some of the conditions which help to explain them. The demand for capital in a growing state is always greater than can be met by the local supply. In 1890, North Dakota farms were mortgaged for $11,168,854; in 1910, for $47,841,587; in 1920 it will doubtless reach $150,000,000. Outside capital is attracted into the state by high rates of interest. Two life insurance companies, the Union Central of Cincinnati and the Northwestern Mutual of Milwaukee, loan heavily in the state. In 1910 the Union Central Life Insurance Company reported a total investment of $5,489,087.33 in North Dakota real estate. Local banks use farm mortgages in borrowing money from banks in large cities outside of the state. Every town and village has its money-lender who acts as agent for foreign investors in farm mortgages. Banks within the state compete for capital by offering high rates of interest on time deposits, and pay all the way from 4-1/2 to 7 per cent. interest on deposits. The rate on loans must necessarily be higher under these circumstances than where banks are paying 2-1/2 and 3 per cent. interest. The high interest rate paid on bank deposits is evidence of the lack of local capital to satisfy the local demand.

The inability to attract foreign capital on lower terms is due primarily to the character of the investment. The newness of the state, the instability of its population, the character of its agriculture, all make for uncertainty. Hence the speculative character of the farm mortgage as security for a loan. In the eastern counties where the land has long been under cultivation, where the population is more stable, and where mixed farming has in a large measure supplanted the bonanza wheat farm, rates are correspondingly lower than in the newer portions of the state. As the element of risk is eliminated from investments, interest rates will come down. At least this seems to be the consensus of opinion among bankers.

The character of the farming is frequently mentioned as a prominent factor in the credit situation. A crop failure under a single crop system, such as is practised in North Dakota, is likely to find the farmer in bad straits. The payment of interest on the mortgage is delayed or deferred. The local bank or loan company is obliged either to carry the farmer along for a year or to foreclose. Since many farm mortgages are held by outside investors, the annoyance is sufficient to reflect itself in an increased rate of interest. Because of this fact many bankers are urging mixed farming as a means of reducing rates. This aspect of the question is well expressed in a communication from a banker in Stark County who says:

It is our belief that the scarcity of money and the high interest rates are largely due to poor farming. The people having money to loan know well that our farmers here have a very uncertain income according to their present methods of farming, and would expect a much higher rate commensurate with the risk taken when they can find people where money can be placed more safely. As conditions are here now, some people have not paid all their interest, for at least three or sometimes four years. In the older slates, like Iowa for example, where people farm well, interest rates are much lower. As soon as our farmers can show that they are safe and will take care of their obligations promptly, they can command the lowest interest rates that may exist. We believe it more necessary to work on better farming methods, encouraging them, than on better interest rates, for the lower interest rates are a natural consequence of better farming.

Another factor is the character of the population. One prominent banker says of North Dakota farmers: "They lack a sense of responsibility. Farm loans require constant care, hence high rates." Another complaint is: "Farmers are careless in not making prompt payment or renewals of obligations." Some bankers think the high rates due to too much borrowing; that is, too much liberality in the loaning of money. Injudicious loaning leads to extravagance, and naturally calls for high rates to offset the risks involved. One banker in analyzing the situation claims that the legal restrictions placed on the loaning power of banks is responsible for unduly high rates. In support of this view it might be stated that while the total farm mortgages in the state in 1910 reached the $50,000,000 mark, the power to loan on real estate by all banks, state and national, was less than $5,000,000. Banks are forced to loan on the personal note of the farmer, secured by a mortgage, instead of taking a direct mortgage on the property. Other banks turn these mortgage loans over to trust companies, and collect a commission from the farmer for placing the mortgage.

Commissions are responsible for at least from one to two per cent. of the rate when loans are handled by real estate agents and loan companies. In the case of loans by life insurance companies, the state agent generally receives one per cent. and the local agent, at interior points, receives one per cent. Two per cent. could be saved by the farmer if the money could be borrowed directly from the investor, without the aid of an agent.

Allowing, however, for all these local conditions—the great demand for capital in a new and developing country, the inability to attract sufficient outside capital because of the risky character of investments, the irresponsible character of some elements in the population, the character of farming methods, the commission agent, and the legal restrictions handicapping banks—allowing for all these conditions, and because of some of them, it is believed that the farmers by organizing co-operative credit associations could reduce the rate of interest on both long- and short-time loans; and, furthermore, that such co-operative credit facilities would be a means of improving the methods of farming, would encourage stability in population, and would make the farmer feel that he is not being discriminated against in the borrowing and employment of capital.

Cattle Loan Banks[226]

Consumers desiring a reduction in the cost of food supplies will be interested in a study of the operations of cattle loan companies and in the development which these may reasonably attain as a result of the provision in the Federal Reserve Act for the rediscounting of agricultural paper.

The cattle loan company, commonly referred to as "cattle bank," is a middleman between borrowing cattle-owners and lending bank-managers. Its business methods and forms closely parallel those of real estate mortgage loan companies except for the fact that cattle loans are of shorter duration and secured by mortgages of the chattel variety. Cattle loan companies, incorporated under state charters, have been operating in such cities as Fort Worth, Denver, East St. Louis, St. Joseph, Portland, South St. Paul, Omaha (2), and Kansas City (3), some of them for over twelve years; and one is now being organized in Chicago. These companies have a paid-in capital stock ranging from $50,000 to $300,000, and are usually closely affiliated with a national or state bank, as are trust companies in the larger cities.

These companies are informed of desired loans through country bankers, or by receipt of direct applications, the latter usually from the larger "cattle-growers." In some cases the company on its own initiative urges cattlemen in whom it has particular confidence to undertake feeding operations at a time when the beef market offers a favorable opportunity for such production. In every case a salaried examiner of the company inspects the plant and herd of the cattle-grower and his personal capacity and integrity before the granting of a loan. And thereafter the examiner, on his regular circuit, maintains a continuous inspection and volunteers advice designed to protect the value of the security given for the loan. When a loan application has been acted upon favorably, a promissory note and chattel mortgage are taken. The funds of the company then advanced to the borrowers may be utilized to buy more cattle, to pay outstanding debts such as those for feeding expense, or, as is often the case, to buy the very cattle which are pledged as security for the loan. In a few cases where the cattle-grower enjoys an exceptional credit, funds will be advanced for the full purchase price of a herd for seasonal feeding purposes, or to develop two-year-olds into finished four-year-old beef cattle. The loans granted are seldom less than 60 per cent. of the known value of the cattle.

To secure a buyer for the note and mortgage is the second primary function of the cattle loan company. If the loan is a small one, usually $10,000, it may be sold entire, the chattel mortgage assigned and the note indorsed to the buyer. If the loan is a larger one, of $50,000 to $100,000, it is necessary to subdivide it in order to provide a ready sale. The mortgage and note are assigned in parts of $5,000, $20,000, or other denominations, to suit the convenience of the buyers of the paper. In this case the assigned parts, since they are indorsed by the loan company, are equivalent to a "debenture" issue secured by a pledge of specified assets held by the company for the protection of the note-holders. The size of mortgage loan most frequently made is $10,000, while loans of $100,000 are exceptional.

The business of cattle loan companies approaches closely to the functions of the commercial paper broker. The cattle loan company has an advantage over the commercial paper broker in that the favorable location of the company—always at the receiving cattle-market of the district in which its loans are exclusively placed—enables it fully to protect its interest by claiming the proceeds of sales of mortgaged cattle. This is particularly true in the case of range cattle, which can be readily identified by the mortgaged brands.

To cover expenses of administration the cattle loan company secures for itself a part of the interest paid on the loan. The rate charged the borrower is usually determined by conditions in the locality where it is made, sometimes running as high as 10 per cent., and again, influenced by general rates for capital, falling as low as 7 per cent. From this gross interest charge a commission has to be given to the local banker who makes the loan, expenses of examination and management must be met, and an appropriation made to a contingency reserve fund to cover occasional losses incurred from the circumstance that the companies usually become surety, by indorsement, for the final payment of all the loans which they have placed with lenders. These deductions determine what may be safely paid to eastern purchasers of the paper, usually 5 or 6 per cent.

Holders of cattle paper have never suffered in times of financial panic from failure to pay at maturity. Cattle, like grain, are a cash commodity purchased by retailers and sold by them, largely for cash, to satisfy a relatively constant consuming demand. This characteristic is retained even in time of panic.

Maturities are usually six months for feeding purposes; and less often of two and one-half years for developing two-year-olds for market. This two and one-half year paper is occasionally converted into the six-month variety by the sale of notes running for six months, based upon the two-and-one-half year mortgage. These notes are taken up at maturity by the loan company and reissued or renewed for like succeeding periods until the original loan is repaid.

In the past this form of loan has not been so desirable as it will be in the near future. It has been a relatively long-term investment; and while perfectly liquid at maturity and enjoying a good rate of return, it has not possessed a sufficiently wide market to insure salability at those times when the demands of depositors and local customers for accommodation press in upon the investing bank. This difficulty will be fully corrected by the expected operations of the Federal Reserve Act. Eastern bankers possessing these six-month notes will probably find them readily rediscountable with the local federal reserve bank at any time up to maturity. And a considerable amount of two-and-one-half year notes may be held to advantage, since, if properly selected with successive maturities, one-fifth of their total amount will be immediately rediscountable when necessary.

By rendering this form of agricultural paper liquid before maturity the Federal Reserve Act will have become a most important influence for enlarging the amount of capital devoted to this branch of industry. Already eastern bankers have scouts touring the Western States to study this form of banking with a view to investing several millions of dollars each. Interest rates upon these loans will unquestionably be reduced in time through such increased competition of lenders. The loan companies will hardly suffer, however. While charging the cattle-grower less, they will be enjoying a larger turnover and should welcome this new development. The four or five million dollars placed in such loans yearly by the average loan company, as at present constituted, is but a fraction of the loans that may be placed by them within a few years.

By reducing the interest cost charged to cattle-growers an important service will have been performed for the consumer. Such a reduction will increase, in the first instance, the cattle-man's profit and induce him to increase his holdings. The benefit of increased production at lowered expense should, in time, be passed on to the final consumer of beef.

This phase of the operations of the Federal Reserve Act will be of distinct benefit, and possibly also the least dangerous of all forms of legislation designed to assist American agriculture.