CHAPTER XXIII
CREDIT
Analysis and description are much more important than definition. Definition at the beginning of a study is frequently a fetter, rather than an aid to thought. This is especially true in a field where phenomena overlap and interlace, and where the "pure principle," "essence" or "Wesen" of the thing defined never presents itself, but is only to be reached by violent abstraction. To pick out one element—as "futurity"[503]—as marking off credit from other things would be an illustration of this. Or to take the notion of promise, or contract obligation, in connection with futurity, is likewise to limit the field unduly, on the one hand, and to include things which do not belong there on the other. Thus, a contract whereby A is to build a house for B by the end of a year, receiving at that time, or in instalments as the work proceeds, a sum of money, is not a credit transaction. We have, however, promise, futurity, and a future payment of money all called for in the contract. On the other hand, if A sends B a telegraphic order for money, which B receives three minutes after the money is entrusted by A to the telegraph company, we have a credit transaction, with no element of futurity in it. Certainly there is less of futurity there than in the case where a laborer, working all day, is paid only at night for work done in the morning. Futurity enters into the values of all goods which are not destined for immediate consumption—capital values of long-time goods are discounted present worths of future values. Contracts, promises, and beliefs in promises run through the whole range of economic life,—the domestic servant, paid weekly, illustrates all three. Yet only a special class of these economic activities are commonly counted as credit transactions. Credit is really a part of the system of economic value relations not easily marked off in economic nature from the rest. Its clearest differentiæ are juridical rather than economic. It will be the purpose of the present chapter, in part, to blur, rather than to make precise, the line between credit and non-credit in economic phenomena, and to assimilate the laws of credit to the general laws of value.
This will involve, however, a careful analysis and precisioning of certain phenomena commonly counted as credit phenomena. Buying and selling on the one hand; borrowing and lending on the other: the distinction seems clear. It is in law. But what is it in economic nature? When a merchant discounts his own note at the bank, it is borrowing. When he discounts the note of another, his debtor, it is selling. If he writes before his endorsement of the note, "without recourse," (unusual at a bank, but common enough with real estate mortgage-notes) he has made a perfect sale, and is entirely out of the transaction. Is it, however, in economic nature a different transaction from the original one in which he got the note from a borrower? Legally bonds are credit instruments, and stocks are not. Stocks represent ownership. But practically, as an economic matter, both represent the alienation of control, on faith, to a small group of men, and practically, too, the difference between preferred stocks and bonds is often very slight. Whatever the legal rights of a bondholder, under the terms of his contract, the legal fact itself often is, under the growing practice of receiverships, that he cannot exercise his right to foreclose without such difficulty that it doesn't pay to do it. Very frequently indeed the junior bondholder will come out of a reorganization as simply a preferred stockholder—which is what he practically was all the time. He couldn't vote as a bondholder, but his voting rights as a stockholder commonly mean little! As a bondholder, if he held enough bonds, he might even have more influence on the affairs of the corporation than as a stockholder. The market is moved by other forces than the legal distinctions in corporate contracts! And market facts are not necessarily correctly told by the accountant's categories either. I shall trouble myself little, in what follows, with the juridical and accountancy problems of credit, save in so far as these bear directly on the more pertinent economic aspects of the matter. I am interested in the question of credit as a part of the problem of value and prices—and particularly from the standpoint of the problem of the value of money.
What difference is made in values and prices by lending and borrowing? What kinds of lending and borrowing are there? What shall we say of bank-notes, of bank-deposits, of bills of exchange? What difference is made by the money market? Behind the legal forms and the technical methods, what are the psychological forces at work? How are these psychological forces modified by the technical forms and methods? What are the economic differences between long and short time loans? How shall we draw the distinction between the "money-rates" and the long time interest rate on "capital?" Why can some things serve as collateral in the money market when others cannot? What sorts of credit are appropriate to commerce, to manufacturing, to agriculture? Is credit capital? Is an increase in credit an increase in values? The last two of these questions imply that we have a definition of credit. Perhaps the answers to some of the other questions may have given us such a definition. But analysis and description will precede definition.
The etymology of "credit" has sometimes been taken as the clue to the meaning of the word for economics, and the idea of confidence, or belief, has been made the heart of the matter. A man has good credit when others have confidence in his integrity, etc. Men lend to others when they can trust them to repay. Doubtless something of this sort was responsible for the original choice of the word. But when loans are made on good mortgage security, or on collateral security, the personality of the borrower may count for little or nothing. Confidence there is, but not confidence in the intentions of the borrower. The confidence is in the "goodness" (i. e., the value and marketability) of the collateral. The same questions are raised by the lender here which he would raise if he were going to buy the thing, instead of lending with it as security. None the less, I think that in the etymology of the word we have an important clue. We must generalize the notion, however, beyond the limits of confidence in personal intentions. It involves confidence in the general economic situation, in the future of business, in the permanence of values, in the certainty of future incomes, etc. Thus viewed, the element of confidence, though important in highest degree, is not peculiar to the phenomena which we call credit phenomena in economics. It appears wherever there are values which depend on future events. One does not need much confidence in buying potatoes or apples or meat—though in the case of meat quite a lot of confidence may be involved—and misplaced! But whenever the future is involved, whenever capital values of any kind are involved—lands, stocks, bonds, houses, horses, manufacturing equipment, etc.—the element of belief, confidence, hopeful attitude toward the future, is quite as much present as in the case of a loan. Nor is the element of personal confidence less present, often, in these things than in the case of a loan. Very often the value of a horse may depend in considerable degree on the integrity of the man who offers it for sale; the value of a piece of land may be much enhanced if a trustworthy owner makes certain statements as to the yields he has got from it; the values of stocks (really credit instruments, from the angle of economic analysis) may depend very much on the personality of the organizers and managers of a corporation. Personal prestiges may count for much more in these cases than in the case of a collateral loan.
Further, in connection with the element of belief, or confidence. Borrowing is expensive, and men do not borrow for amusement. That borrowing and lending may increase, it is not enough that lenders have confidence in the ability of borrowers to repay. Borrowers must also have confidence in the future of their businesses, in their ability to make enough out of the loan to pay the expense involved, and have a surplus left over. I abstract here from consumption loans. They play a very minor rôle.[504] The analysis in an earlier chapter, based on Kinley's figures, showing that retail trade is less than one-eleventh of the total pecuniary transactions in 1909, and that the percentage of credit instruments used in retail trade is much lower than in other transactions, will justify us, when quantitative questions are involved, in abstracting from consumption loans. Since such loans will be chiefly employed in retail buying, and since we know that most retail buying does not result from loans for consumption purposes, we may conclude that modern credit is overwhelmingly of a different sort. Most of it arises from business activities of one kind or another, and rests on expectation of profit and loss.[505] Such loans are not made when borrowers, as well as lenders, have not confidence in the transactions they mean to put through.
So far the thing has run in terms of individual calculation of profit and loss. But even the most sagacious business men do not play a lone hand. No one is uninfluenced by the expectations and feelings of others. In general, business confidence is in large degree a matter of social psychology, resting on suggestion, contagion, etc., as well as on cool calculation of profit and loss. Even where men are able in considerable degree to free themselves from the prevailing optimism or pessimism, they must take it into account. The man who extends his business when nobody is in the mood to buy, when no one will make contracts with him, runs a very fair chance of bankruptcy, even though there be, in the technical facts of industry, no reason for the prevailing pessimism. A man with large resources, which are not fully employed, seeing that the prevailing "bad business" is "largely psychological" may, indeed, take advantage of the fact, get his labor and raw materials cheaply, and produce some staple in advance of his market. If he can afford to hold his surplus, he may make large profits by so doing. But usually business men will not, in such a situation, have the surplus resources to enable them to put through such an undertaking, and hence, even though they may recognize that the rest of the business world is irrational, they must, perforce, conform to its irrationality, and their sober estimate of the prospects of a given undertaking may be just as much adverse as if they shared the feeling of gloom which all about them feel. They meet it from the banker from whom they wish to borrow. Even if able to borrow, they meet it from the dealers to whom they are accustomed to sell their products. The prevailing gloom is as much a fact with which they must reckon as is the price of their raw materials, or the technical qualities of those raw materials.
Further, business confidence is not a matter in which each man counts one! There are centers of prestige, men and institutions whose attitude toward the future counts heavily indeed in determining the attitudes of others. These prestiges may arise from various causes. Recognized wisdom and probity may give a man great prestige in economic matters. There are financial writers and students of the market, not necessarily men of great wealth, whose opinions are exceedingly influential in making business confidence. The wisdom without the probity is not enough. Some men, known to be sagacious students of the market, have been known to succeed in their plans by telling the truth, with the result that everybody else did the wrong thing! They made business confidence, but not the sort that was complimentary to them. Other men have prestige, influence in making business confidence, by virtue of possession of large wealth. They are, first, in position to lend largely. Their decisions count directly for more than the decisions of thousands of other men. The very fact that they have confidence in the future, apart from anything else, means a tremendous increase in effective business confidence—which we are here concerned with. The optimism of a man who can neither buy nor sell nor borrow nor lend, because he himself has no economic resources, and no prestige, is like the desire of a penniless beggar for an economic good—its effect on the market is not great! But further, the fact that a rich man is lending makes possible activities which would not otherwise be possible, and so justifies confidence on the part of those who wish to deal with those to whom he lends. Such a man may, on the other hand, borrow. His borrowing, for business activity, justifies confidence on the part of those who would deal with him. Quite apart, therefore, from any influence on the opinions of others growing out of respect for his judgment, or less rational reaction to him, he can do much to make or unmake business confidence. But commonly, also, such a man is a center of prestige, as well as a controller of economic power by virtue of his wealth. Men look to him for their cue. If he has confidence enough in the future to risk his great wealth, surely smaller men with smaller interests need not be afraid. Vitally important centres for the making and controlling of business confidence are the banks. Having intimate knowledge of the affairs of many business men, of business men in many different lines, they are in a position to judge wisely of business prospects. Having great power to make or refuse loans, they can encourage or chill the enthusiasm which business men may independently develop. The whispered word of a banker may well count for more than the half-page advertisement of a promoter. But the banker is not all powerful. His influence is much greater, often, in restraining than in evoking business confidence. Bankers may during long periods be quite unable to increase their loans, though they tempt borrowing by easy rates.