London. For if the country banker insists on a high rate of discount for bills drawn upon good London houses, the drawer will send them to a bill broker in London, who will get them discounted and remit the money to the drawer. But with regard to those bills which are not payable in London, a higher rate of discount may be obtained.
The cheapness of money in London has the effect of diminishing the number of bills drawn upon London. A London merchant who sends an order for goods to a country manufacturei, instead of saying, "Draw upon me at two months," will say, " Allow me the discount, and I will send you the cash." If he can get an allowance of four per cent. discount, and borrow the money in London at two per cent., he will make an additional profit on this transaction. As the surplus quantity of money in London thus becomes diffused throughout the country, the rate of discount will gradually advance in London and fall in the country.
Although a low rate of interest indicates the abundance of capital, and hence may be considered as a favourable circumstance in the condition of any nation, yet it produces some injurious effects: it occasions the removal of capital to foreign countries; it weakens the inducements to frugality and accumulation; and it encourages speculative and hazardous undertakings. Persons who can obtain but a low rate of interest for their money, are often induced to engage in speculations which promise to yield a more profitable return. All seasons of speculations have been preceded by a low rate of interest.
In the year 1818, a select committee of the House of Commons was appointed to consider the effects of the laws which regulate or restrain the interest of money, and to report their opinion thereupon to the House. After examining twenty-one witnesses upon the subject, the committee delivered the following report: -
"1. Resolved, - That it is the opinion of this committee, that the laws regulating or restraining the rate of interest have been extensively evaded, and have failed of the effect of imposing a maximum on such rate; and that of late years, from the constant excess of the market rate of interest above the rate limited by law, they have added to the expense incurred by borrowers on real security; and that such borrowers have been compelled to resort to the mode of granting annuities on lives, - a mode which has been made a cover for obtaining higher interest than the rate limited by law, and has further subjected the borrowers to enormous charges, or forced them to make very disadvantageous sales of their estates.
"2. Resolved, - That it is the opinion of this committee that the construction of such laws, as applicable to the transactions of commerce as at present carried on, has been attended with much uncertainty as to the legality of many transactions of frequent occurrence; and, consequently been productive of much embarrassment and litigation.
"3. Resolved, - That it is the opinion of this committee, that the present period, when the market rate of interest is below the legal rate, affords an opportunity peculiarly proper for the repeal of the said laws."
In the Bill passed in 1833 for the renewal of the charter of the Bank of England, a clause was introduced, which exempted bills not having more than three months to run, from the operations of the laws against usury.1
VI. Effect of Discounts on the Circulation. - The discounting of bills, by banks of circulation, will have the same effect in changing the currency as the deposit accounts but will not operate so rapidly. When a bill is discounted, the banker issues his own notes to that amount; and when the bill is paid, he receives a part of the amount in gold, or silver, or in notes of other banks. If, however, the bill be not a local bill, that is, if it be not payable in the place in which the bank is established, it will be paid in the currency of the place where it is payable, and its payment will not have the effect of diminishing the local currency. While the issue of notes upon the deposit accounts depends altogether upon the depositors, the issues in the way of discount depend altogether upon the banker - he may discount, or not discount, as he pleases. If he discounts with real capital, he does not thereby increase the amount of the currency - for that capital must, in some way or other, have been previously employed. If he discounts with that portion of his banking capital which is raised by deposits, he does not increase the amount of the currency, but gives it increased rapidity. If he discounts with that portion of his banking capital which is raised by notes, he increases the amount of the currency. As banks of circulation always issue their own notes, it would seem that their discounting business is carried on exclusively with this last description of capital, but it is not so. It is very possible for a banker to issue his own notes for all the bills he discounts, and yet nine-tenths of the bills in his possession shall represent real capital. For, although in the first instance, the banker's notes are given for the bill, yet these notes may not stay in circulation until the bill becomes due: the bill may have three months to run, the notes may return in three days. If the notes given in exchange for the bills remain in circulation until the bills become due, then do the discounts create a banking capital equal to their own amount. But if the bills have three months to run, and the notes remain out only one month, then they create a capital to only onethird of their amount, and the other two-thirds must consist of capital derived from other sources. If the notes remain out beyond the time the bill falls due, then do the discounts create a banking capital beyond their own amount.
1 The laws against usury were repealed in 1854.
It may be observed, that in order to trace the effects of banking, it is necessary to mark particularly the way in which the bankers employ their money. It is not by the creation of a banking capital, but by the way in which that capital is applied, that the greatest effects are produced upon the currency, and upon the trade and commerce of a country. Money employed in discounting bills drawn for value will encourage trade - if employed in discounting accommodation bills, it will promote speculation - if advanced as dead loans to persons out of trade it may lead to extravagance - if invested in the funds, it will raise their price and reduce the market rate of interest - if kept in the till, it will yield no profit to the banker, and be of no advantage to the community.