COMMERCIAL BANKS

Auckland Star, Volume LXIX, Issue 286, 3 December 1938, Page 5 (Supplement)

COMMERCIAL BANKS

Their Origin Their Work

""TRADING in bills of exchange is A the greatest service performed by the banks for merchants trading overseas. As the cheque is the most popular method of payment within a country, so the bill or exchange is the most generally accepted method of settling oversea debts. Though these bills may be "inland" or "foreign," attention is given to the latter, which are the more numerous. A New Zealand firm, Tartans, Ltd., buy merchandise from Black and Co., London. The goods being ready for dispatching, Black and Co. draw a set of bills of exchange. There are three copies of the documents in order to safeguard against loss or destruction in transit. To the copy of the bill that is dispatched is attached the . shipping documents. These consist of an insurance policy, covering the goods against marine risk (fire, shipwreck, etc), and the bill of lading, which describes the number, brands and marks of the packages consigned. It is a certificate from the shipping company declaring the goods to have been loaded. The bill of exchange, to which these shipping documents are attached, is a specially printed form with an embossed duty stamp, and states five facts. The date, clearly written eo that it cannot be easily altered, is at the top right-hand corner. From this date the term of the bill is calculated. The term, sometimes called the tenor or currency of the bill, is stated. This is the length of time that will pass before the b'U matures, or has to be paid. Such terms are commonly for 30, 60 or 90 days. The amount, or contents of the bill, is stated in figures at the top lefthand corner, and in words in the body of the bill. This amount is expressed in the currency of the country which pays the bill. Then the parties to the bill are stated. These are known as the drawer, the drawee and the payee. In the transaction considered Black and Co. is the drawer, and Tartans, Ltd., are both the drawee and payer. Finally there is the necessary duty stamp.

Black and Co. hands this credit instrument, with its shipping documents, to the company's banker, who, through his New Zealand agent, delivers it to Tartans, Ltd., for acceptance. When received, Tartans, Ltd., write across the face of the bill the word "accepted," and add the date, '"lie word "accepted" means "I will pay on due date." The shipping documents are then removed and the goods delivered on arrival. When the bill matures, Tartans, Ltd., pay the amount to the agents of Black and Co.'s banker, who remits to London. BANK NOTES. During the events leading up to the Civil War in England, the London merchants became anxious over the safekeeping of their stocks of gold. Already they had been depositing coin with the goldsmiths, who acted as their agents. The hostilities dislocated trade and made the transport of money difficult. Therefore, instead of keeping a portion of their gold supplies with the goldsmiths, the merchants began to store their full stocks in the strongrooms of these early bankers, who issued receipts for these deposits. Instead of paying in gold, the merchants then began to transfer these receipts to one another in payment for goods or services. These documents were really titles to stated amounts of gold. This was the beginning of the bank note system, which was further developed after the goldsmiths turned bankers. The banks discovered that only a part of their stocks of gold were on demand at any given time. This led to the practice of making loans, which has been considerable. A further effect was the issue of bank notes which were promises to pay stated sums on demand. Compared with coin these notes were convenient to count, handle and carry. Although less durable, the loss of notes was not so serious as the loss of gold, because when it was certain that they had been destroyed, new notes were issued. This practice the banks still follow. In time, banking experience showed that a large number of notes were in constant circulation. Consequently demands for payment were never made upon them. When the right of issue came to be fully vested in the Bank of England the numbers and value of such constantly circulating notes were greatly increased. This section of the note issue is the fiduciary issue, i.e., an issue which the banks are confident will always remain in public use. The term fiduciary is derived from the Latin fiducia meaning trust or trustiness. In 1924 the fiduciary issue of the Bank of England was about £20,000,000.

The Bank of England note* are issued in sums of £5, £10, £20, £50, £100, £500 and £1000. The £1 and 10/ notes are treasury notes, issued by the authority of the Imperial Government. These may be exchanged for Bank of England notes, and consequently, under certain conditions, may be exchanged for gold. In practice notes are seldom converted into gold, except by those who want coin for some special purpose, such as paying debts in foreign countries. In New Zealand the Reserve Bank notes may be normally exchanged for gold when in lota of not lees than £1000. The form of a bank note, printed on specially prepared paper to prevent easy imitation, states the name of the bank of issue, and bears the promise to pay the bearer the amount stated on demand. It may seem strange that in receiving a bank note, only a promise to pay in gold ik obtained. A bill of exchange or a cheque is also a form of promise. The difference is that the promise in the bank note is given by an institution whose power to pay is unquestioned by the public; that in a bill of exchange or cheque is from an individual who may not be well known. Because of the number of notes in use, the bank? of issue have to exercise care in their release, so that their reputation may remain high and that the note-holders shall be protected. Frequently the State enforces this by law. The note issue may be guaranteed in several ways. The Government may itself guarantee the amount of notes, or it may compel the banks to hold sufficient funds to redeem all notes above the fiduciary issue, or it may make the note-holders the first call on the assets of any bank that fails. In any case, bank notes are always legal tender, and their use conserves the gold supplies of the nations which allow their issue. THE CLEARING HOUSE. The clearing house is the name given to the machinery by which the banks balance the value of the cheques held by them at the expense of one another. The importance of the clearing house is shown when the London institution handles about 1,000,000 cheques each working daf„ In 1920 the total value was £300,000,000. The method of the clearing house system can best be understood by first referring to the customers of a single bank. In a J variety of ways the clients of the bank buy and sell to one another. Each makes his payment by a cheque issued by the same bank of which all are customers. When these cheques

8y.... D. K. Boyd

[are paid in the amount* stated on them are deducted from the accounts of the persona drawing the cheque* and placed to the credit of the client receiving the document. Thus the indebtedness of the customers to one another is settled by book entries in the bank, and no coin is required for any of the transactions. In the clearing house the banks are themselves clients, and have accounts in the same manner as their own customers have with themselves. The same system and offset is used as described above, with the difference that it is the banks which have accounts and draw cheques. The explanation of this state of affairs is simple. In the example already giveu the traders all had their accounts at the same bank. In practice this does not actually happen. The clients of one bank deal with manufacturers, merchants, tradesmen, etc., who have their accounts kept by other batiks. Thus, in the cours» of business every bank will have paid into it the cheques drawn on all the others. Often these cheques will lncluds items from distant towns and country branches. Each bank sorts out the cheques issued by the other members, and sets out their amounts and total value. The bank messenger takes these groups of cheques to the clear* ing house, where they are exchanged* to the same value, for those of his own bank, presented by the agent* of the other institutions. This pro* cedure is carried out at regular timervals, and when the clearing house closes for the day the total payments of cheques are set out. Invariably it is found that the total value of cheques drawn on soma banks is greater than on others. Therefore, on the day's working, one bank, on behalf of its members, will actually owe money to another. This difference, required to make a balance, is paid by a cheque drawn by one bank in favour of another, and lodged in the bankers' bank, which is the Bank of England in London, or ReserVe Bank in Wellington for England and New Zealand respectively. Before this custom of having a bankers' bank was established the payment of the amount to create a balance was made in coin or bullion. This involved the holding of larger gold balances by the individual banks, so that they could pay out to one another as required. The present system makes this additional security for the banks unnecessary, and so liberates a larger supply of gold upon which additional credit is built, thus ..further assisting industry and commerce. The work of the clearing house is one of the greatest services a central bank can discharge in the community.