The Recent Rise of the American Acceptance Market
[112]Probably the most important effect at this time [1915] of the Federal Reserve Act is the establishment of the American acceptance market. It may well be said that heretofore America has had no real money market. The only semblance of a money market previously existing in this country was the call loan market of New York City. That, however, did not truly reflect money conditions in this country, as it has more often reflected the secondary effect of some movement of the stock market.
The development of a real money market in this country was greatly hampered by the lack of a standardized credit instrument. In every other country the bank acceptance in which the element of credit risk has been practically eliminated is the standard instrument of credit, and the discount rate of such paper marks the level of the money market.
Bank acceptances were not known in this country prior to the operation of the Federal Reserve Act. For the benefit of those who may not be familiar with bank acceptances, I will briefly describe an operation giving rise to such acceptances. Jones, an importer of coffee in New York, desires to purchase a cargo of coffee in Rio de Janeiro. He goes to his bank in New York and arranges with them to finance the deal. Smith, the grower of the coffee in Brazil, makes the shipment to New York and draws a ninety days' sight draft on the New York bank for the amount of his invoice. This draft he then sells to some Brazilian bank.... The Brazilian bank then sends the draft to New York. It is there presented to the New York bank for acceptance. The New York bank accepts the draft by writing the word "accepted" across the face of the draft and affixing its official signature thereto. The draft now becomes the primary obligation of the New York bank. Of course, Jones, for whose account the New York bank accepted the draft, has obligated himself to provide the New York bank with funds to meet the draft, but if he should fail to do so the New York bank must pay the acceptance nevertheless. It is, therefore, the direct obligation of the New York bank, and as such it commands the best discount rates current. This briefly is what is known as a bank acceptance, i. e., a draft drawn on and accepted by a prime bank or banker.
Although this business is still in its infancy, it has reached important proportions and there is an active market for them in New York City. A number of brokers have taken up the business of buying and selling acceptances. Every morning they make the rounds of the various banks with the list of the acceptances they have for sale and the rates at which they are willing to sell them. Incidentally, they also learn whether the banks have any acceptances for sale and at what rates. As the credit risk is practically eliminated, acceptances are a very attractive form of secondary reserve; they are, as a London banker once expressed it, a means of enabling the banker to eat his cake and have it too—the banker by investing his money in acceptances earns the discount and at the same time he knows that his money is instantly available in case of need, so that they are almost as available as cash. This explains why the discount rate on acceptances ranges so low. Ninety days' sight acceptances sold in New York City at one time as low as 2 per cent. per annum and to-day prime acceptances command the excellent rate of 2-3/8 per cent.
The Economies and Advantages of "Dollar Credits"[113]
Many radical changes in the mechanism of international finance have occurred during the past fifteen months, since the beginning of the European war. Not the least important among these changes, viewed from the standpoint of the American importer, is the evolution in the methods of financing our importations.
Our imports in the way of commodities such as hides, coffee, rubber, wool, etc., etc., run into hundreds of millions of dollars annually, and these are financed generally through the medium of commercial credits established by the purchaser in favor of the vendor of the merchandise. Commercial credits, so called, are in effect a bank guarantee to the seller that his drafts covering certain merchandise, when drawn in accordance with the conditions prescribed in the credit, will meet with due honor on presentation to the accepting bank named in the credit instrument.
In order merely to gain an idea as to the importance and volume of such transactions, it is only necessary to glance at the totals of a few of our principal imports. In the year 1914 we imported, among other commodities, the following:
| Hides and skins | $120,289,781.00 |
| Coffee | 110,725,392.00 |
| Rubber | 131,995,742.00 |
| Wool (unmanufactured) | 53,190,767.00 |
Prior to the outbreak of the war in Europe, it is safe to assume that fully 95 per cent. of the credits issued to cover these importations were passed through London in the form of sterling credits; that is to say, credits available by drafts drawn in pounds sterling on London. Requests for the issuance of credits available by drafts drawn in United States dollars on New York were extremely rare, and they were issued only in exceptional cases.
Conditions have changed materially in this respect. The Federal Reserve Act grants to national banks the privilege of accepting drafts or bills of exchange growing out of transactions involving the importation or exportation of goods. This acceptance privilege was accorded to national banks only a short time before the commencement of hostilities abroad, and this fact in conjunction with the resulting dislocation in the delicate machinery of international credit brought about by the war, together with the coincidental establishment of American branch banks in South America, has contributed in a large measure to bring about the use of what is known now as "Dollar Credits."
As a factor in creating the existing demand for Dollar Credits, the establishment of American branch banks abroad cannot be emphasized too strongly. Through these branch banks, a new and adequate medium for the liquidation of transactions as between the United States and certain South American countries, especially the Argentine, Brazil, and Uruguay, has been placed at the disposal of our merchants. A direct channel is now open to the ebb and flow of credit transfer between the United States and the countries mentioned, and, as a natural sequence, the former disparity existing against the dollar, as compared with pounds sterling and the principal continental exchanges, has disappeared. The resulting equalization in the rates of exchange benefits the American merchant to the extent of relieving him of the tribute formerly paid to the indirect channels of liquidation, or, in other words, to the foreign banker.
The Dollar Credit is of capital importance to every American merchant who is interested either directly or indirectly in the importation of commodities of any character. A study of the advantages accruing from this form of credit will demonstrate the desirability of its general employment as the vehicle for financing not only our own imports but also those of other countries. Primarily, it is more economical than the Sterling or Continental Credit, for the initial commission cost of issuance is lower. Secondly, it is based on a known quantity, the dollar, a factor of supreme importance in these days of extreme and violent fluctuations in the exchange rates, and therefore all exchange risk is eliminated from the operation as far as the importer is concerned. Maturities drawn under Dollar Credits are due and payable in dollars on a given date, and no question arises as to what the exchange rate on London may be ninety days after acceptance of the bill.
Under existing conditions in the New York money market, and considering the present low rates of interest actually in effect, the use of Dollar Credits is proving to be particularly attractive to the American importer as the medium for financing his importations. The rate of discount in New York for prime bank acceptances is 2-1/8@2-1/4 per cent. per annum, and a broad, well-developed discount market now exists, with an ever-increasing demand in evidence for this class of paper. On the other hand, the rate of discount in London for prime ninety-day bills is 4-3/4 per cent. per annum, with operations restricted in a far from normal market. A comparison of these two discount rates will show a difference in favor of New York of 2-1/2@2-5/8 per cent. per annum. In addition to this difference in interest, there is also a difference in the initial cost in the form of commission for issuance, as between credits available by ninety-day drafts drawn on New York in dollars and those available by ninety-day drafts drawn on London in pounds sterling. This difference in commission in favor of New York will average 1/2 per cent. per annum, and when added to the saving in discount or interest already noted, will show a net saving on the Dollar Credit of 3@3-1/8 per cent. per annum, which accrues to the importer through the use of Dollar Credits in his operations.
Quite apart from the direct economy to the individual resulting from the use of Dollar Credits, is the broader question of the economic value accruing to the nation as a whole through the designation of the dollar as the basis of value in our credit transactions with the rest of the world. Since 1903, when the total of our imports amounted to $1,025,719,237, the volume of our imports has increased rapidly, and in 1914, the total imports reached the enormous sum of $1,893,925,657. These figures cover products from all parts of the world shipped direct to our own shores, and while no nation enjoys higher international credit than the United States, yet it is a fact that in order to finance the movement of our imports we have been compelled to have recourse to indirect channels and call on foreign money centers to furnish us with the necessary credit facilities to take care of a large part of our importations. Naturally, we have been obliged to pay for this accommodation, and the service has cost us millions of dollars annually in interest, commissions, etc.
These charges can be saved and an important economy effected, thus benefiting our commerce as a whole by the general designation of dollars in our foreign credit transactions. The purchasing power of the dollar in foreign markets is much greater to-day than it is in normal times because of the varying premium which the dollar commands at present practically throughout the world. The time is unquestionably opportune to increase the prestige of the dollar and to standardize its use in the liquidation of our direct purchases abroad. Co-operation and concerted action on the part of our merchants to the end of generalizing the use of Dollar Credits is therefore a duty, which will bring about lasting benefit to the economic fabric of our commerce.
The New York Foreign Exchange Market[114]
A market may be defined as the coming together of buyers and sellers. It therefore involves all the mechanism necessary to facilitate their intercourse. One may speak of a general market or of a local market, of a market in one or in another place. Thus, there is the New York market for the buying and selling of exchange on London. A bank in New Haven, Connecticut, may be a part of that market if it buys from and sells to it. That market includes, besides the commercial and industrial organizations which buy or sell drafts, all middlemen of whatever class who engage in the trade.
The middlemen may be divided roughly into three classes. First may be mentioned banks which do a regular foreign exchange business, buying bills from those who have them to sell and selling their own drafts on foreign correspondents to persons desiring to remit. Much of this business is done by foreign exchange banks which carry on little or no other business. Some of it is done by ordinary commercial banks, such as United States National Banks, in addition to their other banking business. Second, we may call attention to those exchange dealers whose principal business is to buy commercial and bankers' bills, and to resell them, chiefly to banks. Third are the independent brokers who make small commissions by bringing buyers and sellers together. These do not invest their own capital, do not, that is, buy bills of exchange in the market, but assist those desiring to sell bills to find buyers, and vice versa....