Bills, drafts, etc., arising in domestic clearings, payable in any place, are sometimes spoken of as the "exchange" of that place, although in practice "exchange" is pretty generally limited to bank drafts. A draft on a New York bank is thus "New York exchange," on a Chicago bank it would be Chicago exchange, and so on. In the main, however, the term "exchange" is confined to drafts on the larger centers. Drafts on smaller towns, when employed, enjoy no special designation. The basis of this discrimination in nomenclature is probably the fact that the bulk of the demand is for the drafts on the larger centers.

Having funds in hand in one place is, of course, not the same as having funds available in some other place, hence in any given community "exchange" on another place is not necessarily something of uniform value. The value of "exchange" like that of every other economic good tends to fluctuate with the changes in the forces and conditions that underlie demand and supply.

In the main reference has already been made to the circumstances, in any given community, underlying demand for and supply of exchange on some other center. They are the economic dealings of individuals in the community with others on the outside. The dealings which result in "credits" for the community concerned, will in the end figure directly or indirectly on the supply side of exchange. In like manner the dealings which result in "debits" will be found to exert their influence on the demand side.

Where the exchange operations are of sufficient volume a market for "exchange" may develop and the rates quoted from day to day may be variable. The rate for New York exchange, for example, in some of the larger cities of the United States, is regularly quoted in the newspapers. As the demand for New York funds increases the rate advances. As the supply relatively to the demand increases the rate declines. As with other prices determined under competitive conditions the rate for "exchange" tends to be uniform throughout the market. Moreover, the fluctuating rates apply in the main not to small individual operations, but to the large operations in round amounts by the banks themselves, or by the larger firms having relatively heavy payments to make. As far as the individual is concerned, he is usually able to handle his out-of-town remittances or collections through his local bank on some fixed basis, the fluctuations in the rate that affect his bank being absorbed by the bank itself in the shape of extra profit or extra cost, as the case might be. Thus the New York Clearing House fixes rates of collection for out-of-town items for all its member banks. On the other hand, in the interior, New York funds in reasonable amounts, can usually be had for the asking by any bank depositor.

Domestic exchange

The value of exchange depends upon demand and supply

Circumstances underlying demand and supply

A market for domestic exchange may develop

There are of course, under normal conditions, positive limits within which domestic exchange rates can fluctuate. These limits are determined by the cost of shipping "lawful money."In foreign exchange operations, discussed in the following chapter, the limits within which the rate fluctuates are spoken of as the "gold points," because of the general reliance upon gold bullion as a final means of payment in this sphere of exchange. In domestic exchange operations, owing to the general availability for reserve purposes of other forms of money beside gold, the limits of fluctuation of the exchange rate may be called the "currency points."

A moment's reflection will reveal the necessity for such limits. "Exchange" is simply a right to demand the lawful money of a country, in the place on which such exchange is drawn. Obviously nobody will normally pay more for a mere right to demand money in a given place than it would cost actually to ship the money itself. In like manner the possessor of such a right to demand would in the sale of his right not be willing to sacrifice more than it would actually cost to have the money itself forwarded to him. As exchange is said to be at a "premium" when the rate for it advances above par and at a "discount" when the rate declines below par, the general statement may be made that the premium or discount on any form of domestic "exchange" in a given market cannot normally exceed the cost of shipping currency either to or from the center on which such exchange is drawn.

The prices may fluctuate but they rarely affect private individuals

The fluctuation is normally limited

The elements entering into such cost are familiar. There is, of course, first of all the transportation cost. This would obviously vary with the kind of money that was shipped, namely metallic, paper, etc. It would vary also with the kind of transportation agency that might be employed, and the rates thereon that might be charged. Akin to the transportation charge is the insurance premium covering the risk naturally involved in the shipment of money. In so far, also, as the money in process of shipment is not available for reserve purposes there is an element of cost represented by the loss of interest. Finally reference might be made to incidental charges like packing, carting, etc. Looking at the costs as a whole, however, it may be said that at any given moment the range of fluctuation of domestic exchange rates is determined by the most economical combination of elements in shipping cost that can be obtained.

Currency movements may or may not have an important bearing on reserves. Where a bank may count as equivalent to cash reserves in its own vaults the balances carried with institutions elsewhere, the shipment of currency may involve simply a shifting of the location of reserves. But where balances elsewhere are either as a whole or in part unavailable for reserve purposes, currency shipments have an obvious bearing on a bank's reserve position, and hence on its general capacity to serve the community. In any event, however, the cost of shipping currency represents an expense the necessity for which should be reduced to the lowest possible level.

Elements entering into the cost of shipping currency

Currency movements may affect reserves

The necessity for them should be narrowed as much as possible

Selected References

J. G. Cannon, Clearing Houses (Volume 6, Publications of the National Monetary Commission).

C. A. Conant, Principles of Money and Banking (1905), Book V, Chapter V (Elasticity Of Bank Credit: Overexpansion And Contraction).

W. S. Jevons, Money and the Mechanism of Exchange (1907), Chapters XX and XXIII.

C. A. Phillips, Readings in Money and Banking (1916), Chapter XVII.

W. A. Scott, Money and Banking (1910), Chapter VIII (Reserve Organization And Utilization).