MECHANISM OF BANKING. 153 it merely records on paper a Right which already exists, and it is used for the purpose of transferring that Right to some one else. It is to be observed that all Banks whatever are Banks of "Issue." The very meaning of the word to "Bank" is to "issue a Right of action or Credit, in exchange for Money or other Debts; and when once the banker has "issued" this Right of action to his customer by writing it down to his Credit, it makes not the slightest difference in his liability whether he delivers his own Promissory Notes to his customer, or whether he merely creates the Credit, and gives him the Right to transfer it to some one else by means of a CHEQUE. 7. The preceding considerations shew what a complete mistake it is of the nature of "banking," to say that bankers are merely agents between persons who want to lend and persons who wish to borrow. This is entirely untrue in the ordinary sense of the words lending and borrowing: because in the ordinary case of "lending," the lender deprives himself of the use of the capital he lends. But when a person pays in money to his banker's, it is not his intention to deprive himself of the use of it on the contrary he means to have as free use of it as if it were in his own purse. The customer, therefore, lends his money to his banker, but yet at the same time has the free use of it the banker employs that money in promoting trade; upon the strength of its being deposited with him, he buys debts with his Promises to pay, several times exceeding the amount of the cash placed with him, and the persons who sell him their debts have the free use of the very same coin which the lender has the same right to demand. Thus the lender and the borrower have the same right at the same time to the free use of the same money and all banking depends on the calculation that only a certain small portion of each set of customers will demand the actual cash, but that the majority will be satisfied with the mere "promise," or the Credit. Banking is a species of insurance: it is theoretically possible that a banker may be called upon to pay all his liabilities at once just as it is theoretically possible that all the lives insured in an office may drop at the same instant: or it is theoretically possible that all the houses insured in an office might be burnt at the same time. But all insurance and banking is based upon the expectation that these contingencies will not happen. A banker multiplies his liabilities to pay on demand, and keeps by him a sufficient amount of cash to insure the immediate payment of all claims which are likely to be demanded at one time. If a pressure comes upon him he must sell some of the securities he has bought, or borrow money on them. When the customer discounts the bill with his banker he parts with the property in it just as when he sells any other article. The bill becomes the absolute property of the banker, which he may sell again, or pledge, or deal with in any way that suits his own interest best. The banker does not get payment from his own customer but from the acceptor of the bill. He buys the bill from his own customer, and sells it to the acceptor: merely retaining his own customer as a security in case the bill is not paid. The bills in the portfolio of a banker are exactly similar to the goods in the shop of a retail dealer. The retail dealer buys the goods from the wholesale dealer, and sells them at a higher price to his customers and as he makes a profit by so doing, the goods are CAPITAL to him. Bills are goods, or merchandise, which the banker buys from his own customers at a discount and sells them at a higher price to the acceptors: and as he makes a profit by so doing, the bills are CAPITAL to him precisely in the same way as the goods in the shop of any retail dealer. 8. London bankers continued to issue their own notes till nearly the end of the last century; the last London banker's note we have seen is dated 1793: but they never were forbidden to issue notes till the Bank Act of 1844. Consequently if a customer has a Credit in a bank at the present day he can only draw out the cash; or give a cheque for it to some one else. It is sometimes supposed from this that the London banks are Banks of Deposit like those of Venice, Amsterdam, and Hamburg. This however is a very great error. All banks purchase Money and Bills by "issuing" Credit, or Rights of action, against themselves they create Credit exactly as they have always done : the only difference is that they have discontinued one of the methods in which they formerly allowed their customers to put COMMON ERROR AS TO THE NATURE OF DEPOSITS. 155 it into circulation: but they continue the other. Customers can only now circulate Bank Credits by Cheques, and not by Cheques or Bank Notes; but the Credit created is exactly the same. 9. It is necessary to advert to an error which is very common, and to warn the reader against. Many persons not being aware that the word "DEPOSIT" in banking language means the CREDIT CREATED in exchange for Money and Bills, when they hear or read that a Bank has such an amount of Deposits, conceive that the Bank has that amount of cash to trade with. When it is said that a great London Joint Stock Bank has perhaps £25,000,000 of " Deposits" it is almost universally believed that it has 25 millions of actual money to "lend out," as it is erroneously called. And every half year we see summaries in the newspapers shewing that the Joint Stock Banks have in the aggregate perhaps £200,000,000 of Deposits, and it is supposed that they have that quantity of money to trade with, But it is a complete and entire delusion. These 200 millions of "deposits" are not "deposits" in cash at all: they are pure Credit, and are exactly equivalent to so many Bank Notes. They are nothing but an enormous superstructure of CREDIT, built up on a comparatively small basis of bullion, exactly like the note circulation. These figures do not shew the quantity of cash at the command of the banks to trade with: but they shew the quantity of Business they have done, and the liabilities they have created. These apparent Deposits, then, which so many writers think are Cash, are nothing but the CREDIT the banks have created in exchange for the Cash and Bills which figure on the other side of the balance sheet as Assets. These considerations give an explanation of some very well known phenomena respecting Joint Stock Banks which publish their accounts, and give interest on "Deposits," according to the rate of discount. When the Rate of discount rises very high it is universally observed that the apparent "deposits" in banks decline, and it is very commonly explained by saying that when interest rises very high people take their money out of banks to invest it in other ways. But such an explanation is paradoxical on the face of it. Banks raise the rate of interest to attract money not to drive it away. Besides if one asks contractors, or builders at such periods, they will say that work is stopped because people put their money into banks for the sake of the high interest. Thus we meet with two diametrically contrary assertions as to the flow of money at such periods; but if we understand the real nature of these so called "deposits " the reason of their diminution is plain: because when the rate of discount rises very high, it stops the discount of bills, it stops the creation of CREDIT; in fact it is not a diminution of Deposits in cash, but it is a CONTRACTION OF CREDIT. This erroneous notion of the real meaning and nature of "deposits" in banking language may lead to great mistakes in estimating the stability of a bank. That depends on a due proportion being kept between the Deposits or the liabilities and the cash and it may very well happen that while the "deposits" were apparently mounting up, and might lead many persons to believe that the actual quantity of cash was increased, it might be nothing, perhaps, but a dangerous extension of Credit. And if this were carried to too great a length, the bank might be in the most dangerous position just when it was apparently most flourishing. A private banker on a large scale may have an application to place £10,000 to the credit of a customer: if he does so it immediately counts as a "Deposit” in banking accounts. A railway company may request their banker to place £100,000 to their credit. If the bank does this such a transaction goes to swell up the figures of the "Deposits" in their published accounts, which may lead to very erroneous inferences by the public who do not know the mode in which banking accounts are made up. 10. A "banker" then having purchased either money or Securities from his customers by creating or issuing Rights of action, or Deposits, we have now to consider how the customer may operate upon these Credits. Every banker does business exactly in the same way, and when their respective customers begin to operate by means of Cheques, the following different results may ensue― 1. The actual money may be drawn out. MECHANISM OF BANKING. 157 2. The Credit may be transferred to the account of another customer of the same bank. 3. It may be an order to pay another bank. But in this case if the Bank A is ordered to pay the Bank B so much, the chances are that B will be ordered to pay A very much the same amount. If the claims of the two banks on each other are exactly equal, the respective Cheques, or orders, are interchanged, and the Credits readjusted to the different customers' accounts accordingly, without any payment in money. If it should happen that the claims of all banks against each other exactly balanced, any amount of business might be carried on without requiring a single coin. If the mutual claims of the different banks against each other do not exactly balance, it is only necessary to pay the differences in coin. We have seen that the transfer of a Credit from the account of one customer to that of another in a Bank is exactly equivalent to a payment in money. There is an office for the express purpose of effecting these transfers of Credit from one bank to another. This office is called the Clearing House, and we have given an account of it in a subsequent chapter. By its means all the Banks which make use of it are practically united into one huge Bank for the purpose of transferring Credits from one to another. During the course of the year 1874 upwards of £6,000,000,000 of Credits, or Debts, were interchanged, or transferred from different banks to each other, by means of the Clearing House. And just as Banks are brought into a closer degree of relationship with each other by such means, the less is the quantity of coin required to carry on the business of the country or rather the more gigantic is the superstructure of Credit which may be reared up on a given basis of specie: and in fact the stupendous amount of Liabilities, or Credit, which the perfection of the present banking system of London has permitted to be erected on a small basis of specie, has already begun to inspire uneasiness among well-informed persons. From the foregoing considerations we see that a merchant deals with Credit; but a banker is a dealer in Credit. A merchant brings his Debts payable some time after date, for sale, and by a flourish of his pen, the banker buys them in exchange |