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Art. 12.-EXCHANGE AND THE AMERICAN LOAN.

EXCHANGE is simply the purchase and sale of the money of one country, payment being made in the money of another country. In practice, it amounts to buying from a banker dollars or francs or marks payable as banking credits in New York or Paris or Berlin respectively, by paying therefor to the banker English money in London. (The actual exchange of currency over the counter, as is done by travellers for pocket money, may be ignored.) The rate of exchange is the price at which at a given moment foreign money will be sold. It is obvious that if a banker has 10,000,000l. in London and $50,000,000 in New York, he can go on selling money in one or other place till he has $100,000,000 in New York and nothing in London, or 20,000,000l. in London and nothing in New York. Of course in practice he sells or buys both ways, one transaction cancelling in a measure the other, and what concerns him is the balance of exchange. At the end of a month he may have 5,000,000l. in London and $75,000,000 in New York. He will then become the more anxious to sell exchange on New York than on London, so he will offer to give, say, $4.88 for 17. instead of $4.87, in order to facilitate the equalisation of his balances in the two countries.

Now, although one naturally thinks and speaks of a deposit in bank as money, what one has in reality is not money but a banking credit. In normal times, such banking credit in London and New York is readily convertible into either notes or gold, but it is important to seize the distinction. The bank owes the depositor not specific money but a bankable credit. So it is that our international banker, whose operations we have been following, in reality sells banking credits in London in exchange for banking credits in New York, or vice versa. Many considerations may therefore enter into his calculations beside the simple one of the relative size of his balances. It may be well to indicate a few:

1. Interest for time and at call may be higher or lower in London than in New York. The banker, other things being equal, will be anxious to have his larger

balance where the interest is higher. Therefore whatever affects the rate of interest affects exchange.

2. The probable future course of exchange due to the approach of a season of the year when heavy exports may be expected (as, for example, the export of cotton from the States to England), will lead the banker to incur liabilities in London, relying upon future remittances in payment for such exports cancelling his obligations. He will thus sell freely in New York in June, July and August, even borrowing freely in London, while counting upon the autumnal crop to equalise the situation. If one knows a dividend is to be paid on Jan. 1, one often anticipates it by a Christmas purchase. As the size of the expected dividend often determines the cost of the Christmas gift, so the banker anxiously studies the crop reports in an endeavour to anticipate the probable amount of the payments that will result from the export of the crop, or, as he expresses it, what volume of exchange will be created.

3. The probable future course of exchange, due to the export or import of manufactured goods, is also of great interest to our international banker. The import of an excessive amount of luxuries may counterbalance a large portion of the cotton exports. And it matters vastly whether the States are exporting or importing steel. The whole problem of the future business activity of a country concerns exchange vitally, in addition to the indirect effect on the rate of interest.

4. The investment market in bonds and stocks may also play an important part. A nation may be buying or selling on balance a large amount on Wall Street. If all England is selling her securities, every pound sterling of value is so many dollars available in New York.

5. If under abnormal conditions a question arises as to the solvency of a country's business or financial life, the banker will hesitate to accumulate credits in that country. Exchange will rapidly move against it, and by the very fact tend to create the condition it fears. Such a movement of exchange, if persisted in, means a violent attack on the resources of the country affected, and at the best is a heavy tax upon its wealth. In the Civil War in the States, the nation was forced from a gold basis. It recovered because of its vast natural resources,

but it was only in 1879 that specie payments were resumed, although the war ended in 1865.

6. Speculation plays a part, and at times like the present a most significant part. When the banking world foresees a great movement in exchange it acts precisely as when it anticipates a great rise or fall in stocks. It buys and sells with a view to profit from the transaction itself, and not in the course of normal business. The result is inevitably the acceleration, often violent, of the movement of exchange in the direction it would otherwise have taken more slowly.

7. Sentiment and psychology have their influence as in all subjects wherein the human will operates. It is a source of strength to Great Britain that the mind of the world has been taught that English finance is as stable as her sea-power.

8. The movement of exchange does not depend wholly on the relations of two countries, say those of England and the States, as we have hitherto for simplicity's sake stated it. If France owes the States on balance, and the States owe England, and England owes France, the transfer of banking credits becomes a matter of mere bookkeeping. So at the present moment it is the in debtedness of the Allies to the States on joint balance which must be reckoned with, and not the indebtedness of Great Britain alone. In settling the joint balance London must pay the penalty of being the clearing-house of the world.

In normal times the fluctuation of exchange between gold-standard countries is at once checked by the export and import of gold so soon as such fluctuation becomes excessive. The sovereign is worth $4.8665 and is always worth that in American gold. But, since the sovereign is in London, it is easier to buy exchange at 4.84, let us say, than to export gold and pay freight and insurance. At 4.82, approximately, gold will flow out. Similar when exchange rises to about 4.90, the States will stip gold to London. It therefore follows that if exchange falls to 4.80, and yet no gold leaves London, an abnorn al condition exists. There must be a financial crisis wh leads the Englishman to pay a big price to keep the old at home. If the fall is still greater and persists, ther it becomes difficult to avoid the conclusion that it is becg 180

England has neither the gold wherewith to pay her debts nor (which is more important) what the States will regard as the equivalent of gold.

One should pause long enough at this point to remark that, for practical purposes, exchange in its worldsignificance and effects is a matter of bankable credits and not of gold or of ultimate wealth. It is a question of immediate liquid credit. And credit, whereas it may depend on gold resources and physical property eventually convertible, is something quite different in itself. One cannot send one's house in London to New York to pay a debt; one can, however, transfer one's bank account by cheque to an international banker and receive credit in a New York bank which can be transferred to the creditor. On the other hand, one may succeed in finding some man in possession of a London Bank credit with which he is willing to part in exchange for a mortgage or sale of the house. There is of course a limit to thus turning houses into exchange, because after a time the owners of houses may not be able to find owners of bank credits to trade with them.

We are now, perhaps, in a better position to appreciate the reasons why the Englishman has concerned himself so little over this problem of exchange. There is no mystery about it. When one draws aside the veil, the banker is seen studying well-known causes which every one can as readily understand as he. A qualitative analysis is within the power of all, although quantitatively it may be more difficult to estimate the resultants of several forces operating upon the rate of exchange. First of all it will be apparent to the most casual reader of our analysis, that it is the debtor who needs to concern himself, not the creditor. The creditor receives the currency of his own country; it matters little to him what his debtor pays for it. And, speaking roughly, it has till recently been America who was the debtor, England who was the creditor. We are not forgetting the fact that exchange must somehow be balanced. For, although the Englishman has of course to balance exchange, he has done so by the purchase of foreign investments; and at any moment he has had it in his power, by asking more for the loan of his money, by ceasing to invest abroad, or even by selling a few of his past

accumulations, at once to move exchange in his favour. In August 1914 a most startling illustration of this was afforded when American exchange on London was suddenly forced up from 4.86 to 6.00, and even above.

Now, ever since the States became a nation exchange has been within the control of England, not of America. Moments there have been when exchange moved violently against England, but she had only to use her latent power and a response came. Such has been the experience of Englishmen for generations. The debtor studied the subject, the English creditor ignored it. Of course, the question primarily was, What will it cost to buy a pound in London? not, What will it cost to buy a dollar in New York? And that was the business of the American. The rate of exchange was accordingly quoted

in dollars in London.

To-day a change has come over the face of things. England is no longer actually or potentially the mistress of the world's exchanges. The several forces which we have sketched above under eight heads are with one exception operating in unusual force against her. It may enable us more closely to appreciate the data of the problem, if we follow the influences seriatim.

1. The rate of interest is generally lower in London than in New York.* There are several causes, the first of which is permanent, the others temporary, contributing to this result.

(a) The disposition of the English people to expect lower rates. This is a greater factor than one might easily realise; custom in England exercises great restrictive influence against high rates.

(b) The issuance of legal tender currency, which is of course an inflation of credit by the amount issued.

(c) The sale of treasury bills and the making them available as collateral security for advances by the Bank of England, which must result again in an expansion of banking credits without any counterbalancing increase of resources.

(d) The contraction of normal business, with the resulting increase of loanable funds.

* The rate of interest on floating capital is at present lower in New York than in London (EDITOR).

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