The Online Library of Liberty

A project of Liberty Fund, Inc.

• Notice.
• Mr M C Culloch’s Publications.
• Treaties and Essays On Subjects Connected With Economical Policy; With Biographical Sketches of Quesnay, Adam Smith, and Ricardo
• A Treatise On Money. 1
• Sect. I.—: Circumstances Which Led to the Use of Money. Principal Properties Which Every Commodity Used As Such Ought to Possess. Not a Sign Or a Measure of Value, But a Real Equivalent.
• Sect. II.—: Circumstances Which Regulate the Exchangeable Value of Money.
• Sect. III.—: A Moderate Seignorage On Coined Money Advantageous. Principles Which Should Regulate Its Amount. 1
• Sect. IV.—: Expense of a Currency Consisting of the Precious Metals.
• Sect. V.—: Paper Money. Principle On Which Its Value Is Maintained.
• Sect. VI.—: Whether Gold Or Silver Should Be Adopted As the Standard of the Currency, Or Whether It Should Consist of Both.
• Sect. VII.—: Standard of Money. Degradation of the Standard In Rome, France, Great Britain, and Other Countries. Effects of This Degradation.
• Tables Relative to the Money of the United Kingdom.
• Treatise On the Circumstances Which Determine the Course of Exchange.
• Inland Exchange.
• Foreign Exchange.
• Sect. I.—: Nominal Exchange.
• Sect. II.—: Real Exchange.
• Sect. III.—: Computed Exchange.
• History and Influence of Bills of Exchange.
• Essay On Interest and Usury Laws.
• A Treatise On the Letting and Occupancy of Land.
• 1.: Money Rents.
• 2.: Proportional Rents.
• 3.: Produce Rents.
• 4.: Service Rents.
• An Essay Showing the Erroneousness of the Prevailing Opinions In Regard to Absenteeism.
• Sketch of the History of Commerce, to the Sixteenth Century.
• Sect. I.—: PhŒnician Commerce.
• Sect. II.—: Grecian Commerce.
• Sect. III.—: Roman Commerce.
• Sect. IV.—: Italian Commerce In the Middle Ages.
• Sect. V.—: Vasco De Gama and Columbus.
• An Essay On the Rise, Progress, and Decline of Commerce In Holland.
• An Essay On the Rise, Progress, and Decline of the Hanseatic League.
• Essay On the Origin of the Compass.
• Sketch of the Progress of Maritime Law.
• An Essay On the Colonial System of the Ancients.
• Sketch of the Life and Writings of Francis Quesnay.
• Sketch of the Life and Writings of Adam Smith, Ll.d.
• Sketch of the Life and Writings of David Ricardo, Esq., M.P.

INLAND EXCHANGE.

Suppose a merchant of London orders his agent in Glasgow to send him a thousand pounds’ worth of cottons, and that it does not suit the agent to commission goods of equal value from his London correspondent, the latter may, notwithstanding, be under no necessity of remitting cash to Glasgow in discharge of his debt. Among countries or cities having a considerable intercourse together, the debts mutually due by each other, are found, in ordinary cases, to be nearly equal. The Glasgow agent, who has shipped the cottons for London, does not, therefore, transmit the bill drawn by him on his correspondent for their price to London to be cashed, as that would subject him to the expense of conveying the money home to Glasgow; but he gets its value from some other party in Glasgow, who has a payment to make in London on account of tea bought in that city, and who, unless he could procure such a bill, would be obliged to remit its price in money. The bill on account of the cottons is, therefore, either drawn in favour of the party in London who furnished the tea, or it is drawn in favour of the tea-dealer in Glasgow, and indorsed by him to the former, who, on presenting it to the purchaser of the cottons, receives its value, and consequently the price of the cottons, and the price (or part of the price) of his tea, at the same moment. This simple contrivance obviates the expense and risk attending the transmission, first, of money from London to Glasgow to pay the cottons, and, second, of money from Glasgow to London to pay the tea. The debtor in one is changed for the debtor in the other; and both accounts are settled without the intervention of a single farthing.

The bill drawn and negotiated in such a transaction as this is termed an inland bill of exchange. If the transaction had taken place between London or Glasgow and a foreign city, it would have been termed a foreign bill of exchange.

A bill of exchange may, therefore, be defined to be, “an order addressed to some person residing at a distance, directing him to pay a certain specified sum to the person in whose favour the bill is drawn, or his order.”1

The price of bills fluctuates according to their abundance or scarcity compared with the demand. If the debts reciprocally due by London and Glasgow be equal, whether they amount to £100,000, £500,000, or any other sum, they may be discharged without the intervention of money, and the price of bills of exchange will be at par; that is, a sum of £100 or £1,000 in Glasgow will purchase a bill for £100 or £1,000 payable in London, and vice versa. But if these cities be not mutually indebted in equal sums, then the price of bills will be increased in the city which has the greatest number of payments to make, and reduced in that which has the fewest. If Glasgow owe London £100,000, whilst the latter only owes the former £90,000, it is clear, inasmuch as Glasgow has a larger sum to remit to London than London has to remit to Glasgow, that the price of bills on London will rise in Glasgow, because of the increased demand, and that the price of bills on Glasgow will fall in London, because of the diminished demand. A larger sum would, consequently, be required to discharge a debt due by Glasgow to London, and a less sum to discharge an equal debt due by the latter to the former; or, which is the same thing, the exchange would be in favour of London, and against Glasgow. Bills on London would sell in Glasgow at a premium, and bills on Glasgow would sell in London at a discount; the premium in the one case being equal to the discount in the other.

On the supposition that the balance of £10,000, due by Glasgow, depresses the exchange on London one per cent., it appears, at first sight, that it will cost Glasgow £101,000 to discharge her debt of £100,000 due to London; and that, on the other hand, £89,100 would be sufficient to discharge the debt of London to Glasgow. But a very little consideration will serve to show that this would not be the case. Exchange transactions cannot take place between different cities until debtors and creditors of the one reside in the other. And hence, when the exchange became unfavourable to Glasgow, the premium paid by its merchants for bills on London would not go into the pockets of their creditors in the latter, but into those of their neighbours in Glasgow to whom London was indebted, and from whom the bills were purchased. The loss to Glasgow would, therefore, be limited to the premium paid on the balance of £10,000. Thus, supposing that A of Glasgow owes D of London £100,000, and that C of London owes B of Glasgow £90,000; A will pay to B £91,000 for a bill or order on C to pay D £90,000. In this way, the £90,000 of London debt at Glasgow would be cleared off; the premium, which is lost by the debtor to London in Glasgow, being gained by its creditor in the same place. If the business had been transacted in London, C, with £89,100, would have purchased of D a bill for £90,000, payable by A; so that, in this case, the gain would have fallen to the share of the debtor C, and the loss to that of the creditor D, both of London. The complexity of real transactions does not affect the principles on which they are founded. And whatever may be the amount of the debts reciprocally due by different places, the only disadvantage under which any of them could be placed by a fall of the exchange, would be the unavoidable one of paying the expense of remitting the balance of debt.

The expense of transmitting money from one place to another limits the fluctuations in the exchange between them. If 20s. sufficed to cover the expense and risk attending the transmission of £100 from Glasgow to London, it would be indifferent to a merchant, in the event of the exchange becoming unfavourable to the former, whether he paid one per cent. premium for a bill on London, or remitted money direct to the latter. If the premium were less than one per cent., it would be clearly his interest to make his payments by means of bills rather than by remittances; and that it could not exceed one per cent. is obvious, for every individual would rather directly remit money, than incur an unnecessary expense by purchasing bills on London at a greater premium than would suffice to cover the expense of a money remittance. If, owing to the badness of roads, disturbances in the country, or any other cause, the expense of remitting money from Glasgow to London were increased, the difference in the rate of exchange between them might also be proportionally increased. But in every case, the extent to which this difference could attain would be limited by, and could not for any considerable period exceed, the cost of remitting cash.

Exchange transactions become more complex, when one place, as is often the case, discharges its debts to another by means of bills drawn on a third place. Thus, though London should owe nothing to Glasgow, yet if Glasgow be indebted to London, London to Manchester, and Manchester to Glasgow, the latter may wholly or partially discharge her debt to London by remitting bills on Manchester. She may wholly discharge it, provided the debt due to her by Manchester exceed or is equal to the debt due by her to London. If, however, it be not equal to the latter, Glasgow will either have to remit money to London to pay the balance of debt, or bills on some other place indebted to her.

Transactions in inland bills of exchange are almost entirely conducted by bankers, who charge a certain rate per cent. for their trouble, and who, by means of their credit and connections, are able, on all occasions, to supply the demands of their customers. London, because of its extensive correspondence with other parts of the country, occasioned partly by its immense commerce, partly by its being the seat of government, and the place to which the revenue is remitted, and partly by its currency consisting of Bank of England paper, for which the notes of the country banks are rendered exchangeable, has become the grand focus in which the money transactions of the United Kingdom centre, and in which they are all ultimately adjusted. These circumstances, but especially the demand for bills on London to remit revenue, and the superior value of Bank of England paper, render the exchange between London and other parts of the country invariably in her favour. Bills on London drawn in Edinburgh and Glasgow were formerly made payable at forty days’ date, which was equivalent to a premium of about ½ per cent.; but, owing to the greater facility of communication, this premium is now reduced to twenty days’ interest, or to about ¼ per cent. Bills for remitting the revenue from Scotland are now drawn at thirty days; previously to 1819 they were drawn at sixty days.

These statements are sufficient to show that, how well soever bills of exchange may be fitted for facilitating the operations of commerce, and saving the trouble and expense attending the transportation of money, mercantile transactions cannot be adjusted by their means, except in so far as they mutually balance each other. A real bill of exchange is merely an order entitling the holder to receive payment of a debt due by the person on whom it is drawn. It is essential to the existence of such bill, that an equivalent amount of debt should be contracted. And hence, as the amount of the real bills of exchange drawn on any number of merchants cannot exceed the amount of their debts, if a greater sum be owing by them than they owe to others, the balance must either be paid in money, or by the delivery of some sort of commodities. If, as in the case referred to, Glasgow owe London £100,000, while London only owes Glasgow £90,000, a reciprocal transfer of debts may be made to the extent of £90,000. But the Glasgow merchants cannot discharge the additional £10,000 by means of bills on London; for, by the supposition, London only owed them £90,000, and they have drawn for its amount. This balance must, therefore, be discharged by an actual money payment, or by the delivery of some species of produce, or by bills on some third party indebted to Glasgow.

It is not meant by this to insinuate that fictitious bills of exchange, or bills drawn on persons who are not really indebted to the drawer, are either unknown or very rare. In commercial countries, bills of this description are always to be met with; but they are a device for obtaining loans, and cannot transfer real debts. A of London may form a connection with B of Glasgow, and draw bills upon him payable a certain number of days after date, which the latter may retire by selling bills upon A. The merchants who purchase, or the bankers who discount these bills, advance their value to the drawers, who, by means of this system of drawing and redrawing, command a borrowed capital equal to the amount of the fictitious paper in circulation. It is clear, however, that the negotiation of such bills cannot assist in transferring and settling the bona fide debts of two or more places. Fictitious bills mutually balance each other. Those drawn by London on Glasgow equal those drawn by Glasgow on London, for the one set is drawn to pay the other—the second destroys the first, and the result is nothing.

The raising of money by means of fictitious bills, has been severely censured by Dr Smith, who says it entails a ruinous expense on those engaged in it, and is resorted to only by projectors, or persons of suspicious credit. When fictitious bills are drawn at two months’ date, it is common to charge, in addition to the ordinary interest, a commission of ½ or ¼ per cent., which must be paid every time the bill is discounted, or, at least, six times a-year. The total expense of money raised in this way could not, therefore, supposing the transaction to be always on account of the same individual, and interest 4 per cent., be estimated at less than 5½ or 7 per cent. per annum, ex stamps; and the payment of so high an interest on borrowed capital, in a country where the ordinary rate of mercantile profit is not supposed to average more than from six to eight per cent., could not fail to be generally productive of ruin to the borrower. But it seldom happens that, in the negotiation of fictitious bills, the charge for commission falls on one individual. Loans obtained in this way are usually on account of two or more parties. At one time a fictitious bill is drawn by A of London on B of Glasgow: and, in this case, the latter will, before the bill becomes due, draw upon A for its amount, including interest and commission. At another time, the transaction will be on account of B, who in that case has to pay commission to his friend in London; so that each party may, on the whole, as Mr Thornton has observed, gain about as much as he pays in the shape of commission.

It is often extremely difficult to distinguish fictitious bills from those which have arisen out of real transactions. Neither does it seem to be of any very material importance. The character and credit of the parties whose names are attached to bills, are the only criteria by which merchants or bankers can judge whether they ought to negotiate them. The circumstance of an individual offering accommodation paper for discount, ought unquestionably, if it be known, to excite suspicions of his credit. But unless in so far as the drawing of fictitious bills may be held to be indicative of overtrading, or of a deficiency of capital to carry on the business in which the party is engaged, there does not appear to be any very good reason for refusing to discount them.

Within the last few years, it has been the practice to grant money orders, payable on presentation at the different post-offices, for sums of £5 and under. These orders cost 3d. for sums of £2 and under, and 6d. for sums between £2 and £5 inclusive; and as they are not paid unless the parties in whose favour they are drawn, or other parties well known to the postmasters by whom they are payable, appear to receive payment, there is no risk of the money getting into improper hands. This system has been found to be a very great accommodation to the public, especially to those having small sums to remit, and has been very extensively resorted to. In 1850,4,439,713 money orders were issued in the United Kingdom; the aggregate sum transferred by their agency being £8,494,498, 10s. 7d.

These observations will, perhaps, suffice to explain the manner in which transactions between different parts of the same country are settled by means of bills of exchange. They are, in general, extremely simple. The uniform value of the currency of a single country renders unnecessary any comparison between the value of money at the place where the bill is drawn and negotiated, with its value where it is to be paid; while the constant intercourse maintained amongst different parts of the same kingdom, by preventing those disturbances to which the intercourse between distant and independent countries is always subject, prevents those sudden fluctuations which frequently occur in the prices of foreign bills of exchange. We shall, therefore, leave this part of our subject, and proceed to investigate the circumstances which influence the course of exchange between different and independent countries.

[1 ] In mercantile phraseology, the person who draws a bill is termed the drawer; the person in whose favour it is drawn, the remitter; the person on whom it is drawn, the drawee, and after he has accepted, the acceptor. Those persons into whose hands the bill may pass previously to its being paid, are, from their writing their names on the back, termed indorsers; and the person in whose possession the bill is at any given period, is termed the holder or possessor.