"In all rich countries there is a number of men forming what is called a moneyed class. These men are engaged in no trade, but live on the interest of their money, which is employed in discounting bills, or in loans to the more industrious part of the community. The bankers, too, employ a large capital on the same objects. There is, perhaps, no manufacturer who limits his business to the extent that his own funds alone will allow; he has always some portion of this floating capital increasing or diminishing according to the activity of the demand for his commodities. When the demand for silks increases, and that for cloth diminishes, the clothier does not remove with his capital to the silk trade, but he dismisses some of his workmen, and he discontinues his demand for loans from bankers and moneyed men: while the case of the silk manufacturer is the reverse; he wishes to employ more workmen, and thus his motive for borrowing is increased; he borrows more, and thus capital is transferred from one employment to another without the necessity of a manufacturer discontinuing his usual occupation."1
III. Glasses of Bills. - The bills presented to a bank for discount may generally be divided into the following classes:2
1. Bills drawn by producers or manufacturers upon wholesale dealers.
2. Bills drawn by wholesale dealers upon retail dealers.
3. Bills drawn by retail dealers upon consumers.
4. Bills not arising out of trade, but yet drawn against value, as rents, etc.
5. Kites, or accommodation bills.
1 Ricardo's "Principles of Political Economy," page 84.
2 To these five classes should be added a sixth, viz., bills drawn upon bankers; whether for the remittance of money from abroad, or for acceptance by bankers on behalf of their customers, in order to facilitate negotiation.
The first two classes of bills are the best, and are fair legitimate bills for bankers to discount.
The third class ought not to be too much encouraged. They are for comparatively small amounts, and are drawn by shopkeepers and tradesmen upon their customers. To discount these bills freely would encourage extravagance in the acceptors, and ultimately prove injurious to the drawers.
The fourth class of bills, though sometimes proper, ought not to be too much encouraged. Persons out of trade have no business with bills.
The last class of bills should almost always be rejected. To an experienced banker, who knows the parties, the discovery of accommodation bills is by no means difficult. They are usually drawn for even amounts, for the largest sum that the stamp will bear, and for the longest term that the bank will discount, and are presented for discount soon after they are drawn.1 The parties are often relations, friends, or parties who, from their avocations, can have no dealings with each other.
Not only the parties and the amounts of bills are matters of consideration to a banker, but also the time they have to run before they fall due. A bill drawn for a long term after date, is usually styled, not perhaps very properly, a long dated bill. A bill drawn at a short term, is styled a short dated bill.
Is it most for the interest of a bank to discount long dated bills or short dated bills?
First, There is more safety in discounting short bills, because the parties may fail before the long ones become due. Secondly, If any given amount of capital be employed in discounting bills, it will accumulate more rapidly by discounting short bills than long bills, operating in the same way as money placed at compound interest, which increases the faster, as the times of paying the interest are more frequent. Thirdly, If a bank charges commission on the amount of the bills discounted, the commission will be more in the course of a year upon any given amount of capital employed in discounting short bills than employed in discounting long bills. Fourthly, If a bank issues notes, a greater amount of notes will be issued in discounting a succession of short bills, than by discounting long bills. Thus if I discount a bill for £1,000 drawn at twelve months after date, I issue only £l,000 of notes; but if I discount in succession four bills each, having only three months to run, I issue, in the course of the year, £4,000 of notes. Fifthly, Long dated bills lock up the funds of a bank so that they cannot be discounted with safety but from the bank's own capital: for if a bank employs its deposits or its circulation in discounting long dated bills, and payment of the notes or deposits should be demanded, the long dated bills could not be re-discounted, and the bank must stop. Sixthly, Long bills may encourage speculation. Persons may purchase large quantities of commodities in the expectation that the price will advance before the long bills which they accept in payment shall fall due. But if the bills are of short date, the speculation will be prevented.
1 It is not wise to rely upon these methods of distinguishing an accommodation bill; such characteristics are now too well known. The best protection is to be found in a knowledge of the parties to the bill.
First, The amount of discount is greater on a long bill than on a short bill. If, therefore, a gentleman out of business wants a temporary advance, and proposes to draw a bill on his friend, it is better to advise him to draw a long bill than a short one. Secondly, Long bills will employ a larger amount of capital. If a banker discounts any given amount per week, he will always have twice the amount of bills current, if they are drawn at four months' date, than he will have if they are drawn at two months. And, as bankers wish to employ their capital, it will be more for their advantage to discount such bills as will employ the largest amount. Thirdly, The discounting of long dated bills, being a more permanent advance of capital, is more beneficial to the commercial and agricultural classes in the district. If a retail dealer can get long bills discounted, he can afford to give longer credit, and this will induce his customers to buy more goods of him, and he will do more business. If a manufacturer or wholesale dealer can get his long bills discounted, he also can give longer credit, and will sell more goods. If a landlord can get a long bill on his tenant discounted, he need not urge him for rent, and the money may, in the interim, be employed in improving the land. The discounting of long bills is similar to a permanent advance of capital. The money may be profitably employed, and be reproduced before the long bill may become due, but if the bill be short this cannot be done.1