1. Foreign exchange of money is the purchase and sale of the right to receive a given kind and weight of metal at a specified time and place. Par of exchange is the number of units of the standard coin of one country that contain the same amount of fine gold (or silver) as the standard coin of the other country. Usually the English pound is taken as the basis in the tables which express the ratio of the gold in the standard coins of different countries. The gold shipping point is par of exchange plus or minus the cost of moving the actual metal; it varies with means of transportation and communication. The par of exchange between England and America being $4,866 and the cost of expressing and insuring a gold pound between New York and London being approximately .03, the shipping point for the export of gold from New York is $4,896. At the upper and lower limits, there is a motive for shipping gold as a commodity. If each transaction were independent of all others, the cost of exchange would be the weight of metal called for, plus grains enough more to pay for loss of interest, cost of freight, risk, and trouble. In such a case it would cost $4,896 to remit one pound; while a debt of one pound payable in London would at the same time be worth $4,836 to the creditor in New York. When, in New York, a number of men having bills to pay in London meet a number of owners of bills receivable in London, a market for London drafts is created and a rate of exchange results somewhere between the shipping points. In this is the explanation of the variation of the rate, and of the facts that the cost of outward exchange sometimes is less than the par of exchange and that the value of foreign drafts sometimes is above par.

Purpose of foreign exchange.

The rate of foreign exchange.

Variation about par of exchange.

The balancing of foreign exchanges is of essentially the same nature as the domestic cancelation of indebtedness. It is going on constantly between two merchants in the same town, between two banks in the same town who represent groups of merchants, between men in neighboring towns, between distant states like New York and California, and between the trading nations of the world. The price of exchange to the individual is reduced by the specializing of the business in the hands of a few dealers, permitting cancelation of indebtedness or offsetting of exchange, and greatly reducing the amount of bullion to be transported. Exchange varies above and below par as conditions change. When the movement of money is into the country, drafts on London are bought and sold for less than par, for every pound draft thus remitted to London reduces the need of shipping gold to this country, while every London draft collected in New York at such a time increases the need to ship gold.

The cash balance of international trade.

2. International shipment of money is always just the amount needed to balance the accounts due. The proposition that in the long run the value of imports must equal the value of exports, while the fundamental truth in the theory of international trade, must be understood in a broad sense. Into the balance between the traders of two nations enter many items: the cash values of the imports and exports of each; freights, insurance premiums, and commissions; the expense of Americans traveling in foreign lands, and the cost of the foreign service of this government (such as the salaries of consuls and of diplomatic representatives) which count as the importation to America of an equivalent amount of food, clothing, and sundry services; subsidies and war indemnities to foreign nations representing, as they do, an expenditure, which at the moment may be paid in coin, but which, as is to be more fully explained, must be offset ultimately in some way by exports.

Many credit transactions affect the balance one way or another until settled. The loans made by European capital to the American government or to individuals and corporations in America, as well as the European capital expended in purchasing American enterprises, require the remitting of gold to New York, and thus offset many imports of goods to New York otherwise calling for the remitting of gold to London. In the direction opposite to this, act the interest payments and the eventual repayment of the principal loan, for these require either money or goods to be exported from America to the value of the obligations. Loans that run for years thus offset annually (in their accruing interest) a portion of the exports of the debtor country. An excess of exports may therefore at any given moment indicate either that the country is in debt or that it is getting out of debt. An excess of exports is generally looked upon as an evidence of national prosperity; but it is absolutely inconclusive on the point. Finally, after all the items of imports and credit paper purchased abroad are set opposite the items of exports and promissory papers sold abroad, the balance is paid in gold bullion and is shipped one way or the other. Evidently the amount of gold shipped is but a small fraction of the total volume of transactions.

Industrial indebtedness is represented in various forms: bills of lading for goods shipped, drafts made by the creditor on his debtor for goods shipped or property sold, checks or letters of credit of travelers, bonds and notes public and private. These are the objects dealt in by the bankers who are the agents to carry on the work of exchange.

3. The territorial distribution of money is both a determined and a determining factor in international trade. It appears to be determined in that the balance of all accounts for or against the country must be settled eventually in money. After any such a settlement one country has less, the other more money than before. The change in the amount of money at once reacts on prices and becomes a determining factor in international trade. The flow of money out of a country causes money to tighten, interest rates on short loans in the large cities to stiffen, and prices slightly to fall. When prices fall, imports decline, as the country is not so good a place to sell in; when prices rise, imports increase, as it is a better place to sell in. As the opposite effect is produced on exports, there occurs immediately a change in the quantity of money which continues until the national credits and debits balance and for a brief time remain in equilibrium. If the trade of a country with its neighbors continued long to give a balance of imports of goods and of debit items (exclusive of money) it would ultimately be drained of all its coin, and would default payment or cease to import. If the trade constantly gave a balance of exports and credit items, money would continue to flow in, until prices rose to unexampled heights. In fact no such extreme is even remotely approached, for a slight movement of money in either direction at once influences prices and sets in motion counteracting forces. Decade after decade the circulating medium of leading countries changes only slightly in amount, and the fluctuations during periods of so-called "favorable balance of trade" and of "unfavorable balance of trade" represent only the smallest fraction of the value of goods passing through the ports of the country.

Various credit items entering into the balance.

Relations of the international flow of goods to the flow of money.