It will be apparent that these points are not entirely unrelated. A man of excellent business ability, for instance, would have his business properly organized, and on the other hand, if it were found that a business was poorly equipped and managed, it would be certain that the man's business experience or business capacity was strictly limited. Investigation of these two kinds, however, usually serves to furnish a more adequate basis for a sound judgment of the risks involved. Perhaps one may conclude from this analysis that before deciding to extend credit one should at any rate have confidence in two points: (1) in the ability of the borrower to pay as promised; and (2) in his willingness or intention to pay. One is a matter of property and business ability; the other a question of honesty and business reliability.

7. THE VARIOUS KINDS OF CREDIT

The modern world has been called a credit society. The Germans, for instance, classify the stages in the evolution of industry as follows: barter economy; money economy; credit economy. The mechanism of credit would therefore appear to be the center and core of modern industrialism. While this characterization may well be pushed too far, it is certainly true that credit today is found in practically every variety of business transaction and is in fact the basis for the great mass of commercial exchanges. The divisions of credit have been classified as follows: Public Credit; Capital Credit; Mercantile Credit; Individual or Personal Credit; and Banking Credit.

By Public Credit is meant chiefly the borrowing operations of governments, whether national, state, or local, through the issue of interest-bearing securities. The government promises to pay interest on a bond from year to year and to repay the principal at some stated future date. The purchaser of the bond accepts the government's promise of intention to pay and has faith in its ability to keep that promise. The government by means of its credit is therefore able to secure funds for present needs. An issue of paper money by the government is another example of a credit operation. Even without any fund for redemption purposes an issue of paper money will not for a time depreciate to worthlessness; a promise of ultimate redemption will give it some value so long as faith in the word of the government is not entirely shattered. At any rate, a partial reserve in coin,

as in the case of our greenbacks at present, will maintain the value of paper currency. To the extent of the uncovered issue we have a pure credit currency.

By Capital Credit, or Industrial Credit, to employ another term, is meant the credit used by corporations in procuring the necessary capital required in their business operations. The corporation agrees to return to the purchasers of its bonds at some future date the equivalent of the funds borrowed, with interest. The bondholder thus extends funds to the corporation because he believes the credit of the corporation is good. The purchaser of stock, also, trusts his funds to the managers of a corporation, and it is understood that he is to receive dividends in the future (if earned) and ultimately, if the business is liquidated, a return of his share of the capital. There is the obvious difference between a holder of stock and of bonds that one is an owner and the other a creditor, that the returns to the one are wholly contingent, and to the other definite, in so far as the mortgage is adequate. But credit, through the entrusting of one's funds to a third party, is an essential element in both.

It is the usual practice to exclude from Capital Credit investments made by individuals in a business partly or largely their own, such as a partnership. The difference between this sort of investor and the purchaser of securities, says Prendergast, is this: "Where a few men invest their funds in a business, those funds invariably represent their entire available means of wealth. They are working for themselves alone, and the profits of the business, whatever they may be, go to the owners alone. These owners . . . have placed all they possess at the risk of the business. . . . . On the other hand, the general investor, who is seeking merely a nominal or reasonable interest upon the funds invested, is careful to so place those funds that his investments will be very well distributed," with a consequent lessening of the total risk. To use the economic terminology, the one is primarily a risk-taker and after profits, while the other is, as far as possible, a risk-avoider and is satisfied with interest alone. A better distinction between the two types of investment, however, is that credit, so far as fixed capital is concerned, is almost negligible in the case of the general investor, while with the purchaser of securities credit is the very basis of the transaction..

Mercantile Credit is the credit used by producers, wholesalers, commission merchants, retailers, etc., in connection with the manufacture and sale of commodities, that is, with the movement of goods

from first producer to ultimate consumer. For instance, a manufacturer who buys raw materials to be made into finished commodities may agree to pay the producer of the raw materials only after he has sold his product. He has thus been "trusted" by the producer; there has arisen a "time obligation," a future payment. Or the manufacturer may at once pay the producer with cash, procuring the cash by a loan from the bank, which he promises to repay after the goods are manufactured and sold. In this case he has used his credit with the bank instead of with the producer of the raw materials; but it is obvious that the nature of the operation is the same. A wholesaler or retailer may likewise purchase the goods he wishes to sell, on time, or on funds borrowed from a bank, as the case may be, agreeing to repay the loan after the goods are sold.

Mercantile Credit is to be distinguished from Capital or Industrial Credit by the character of the business which employs it and the nature of the use to which the funds are put. A characteristic feature of Mercantile Credit is that it usually runs for a short time, whereas Industrial Credit is usually extended for long periods. Mercantile Credit is represented by promissory notes and bills of exchange rather than by bonds or stock certificates.

Personal or Individual Credit obviously takes its name from the fact that it is connected with individuals rather than with public or private corporations. It is the means by which an individual may secure goods for consumption purposes without an immediate payment of cash. The laborer who settles his bills on the weekly pay day, the salaried man who pays by check at the end of the month, and the farmer who settles his account at the village store when he sells his crops are cases in point. Personal Credit is distinguished from other credit in part by the character of the security furnished by the borrower, and in part by the use that is made of the things borrowed. The basis of the security is an indirect one, consisting primarily, not of actual property in hand, but of a recognized earning power from personal or professional services. The things borrowed are generally used for immediate consumption rather than for further production. Such credit is therefore often called "Consumption Credit." It is also sometimes spoken of as "Retail Credit," because it is used primarily in retail transactions. This, however, is confusing, because such a term might mean the credit of the "retailer" himself.

Personal Credit is usually extended without requiring a deposit of collateral as security and even without a written promise to pay in

the future. A promise is, however, implied, and the entry on the books of a retail store is the evidence of the credit transaction. "Book Credit" is a name commonly used in this connection; but this name describes not so much the character of the credit operation as the manner of "evidencing" the credit transaction. The credit on the books is an evidence that a personal credit has been granted.

The fifth form of credit has been called Banking Credit. As is well known, banks furnish funds to borrowers of every description; it is to the banks that one in need of credit naturally turns. But by Banking Credit is not meant the credit extended to individuals, corporations, merchants, and governments. Such forms of credit fall within the classifications given above. The essence of Banking Credit may be discovered only in the answer to the question, Where do the banks procure the funds which they loan to the business world? These funds are procured in part from the banks' own capital, and in part from the funds that have been left with them by individual depositors; but in the main it is through the use of their own credit.

A bank uses its own credit in much the same way as does an individual. A man who is responsible morally, who has a reputation for business honesty and ability, and who has security in the form of commodities that enter into trade, is able to borrow on his credit. He uses his good name and his property as means of securing funds for immediate use. A bank, likewise, if it possesses the confidence of the community, is able to extend its business by means of its credit. The simplest use of its credit is found in the entrusting of funds by depositors with the bank-for safe-keeping or use, as the case may be. There is a more important way, however, in which our large commercial banks use their credit. A bank with $100,000 cash on hand is able by means of its credit to do a business equal to five or six times this amount. This is accomplished through borrowing on its credit. Just as a government borrows when it issues paper currency, so a bank borrows when it creates obligations, either in the form of bank notes or deposit accounts against which checks may be drawn. The ordinary commercial bank usually owes on demand several times the amount of its cash. A bank is safe in thus extending its obligations so long as the management is efficient and the resources other than cash are ample. There are some special problems involved in the use and control of Bank Credit, but in essence it does not differ from the other forms of credit that have been enumerated.

8. COMMERCIAL VERSUS INVESTMENT CREDIT

Viewing credit apart from particular groups of persons or organizations, such as governments, corporations, wholesalers and retailers, banks, and private individuals, two distinct types of credit may be distinguished, namely, commercial and investment credit. This classification is of the foremost importance from the standpoint of economic analysis and a clear understanding of the principles underlying the various forms of banking operations.

Investment credit is that which is used in the financing and development of business enterprises such as railroads, factories, workshops, stores, farms, and mines. The funds borrowed are invested in fixed or durable forms of capital goods, as distinguished from consumptive goods. In consequence, the borrower does not expect to be able to repay the loan within a few weeks or months; rather, he plans to pay the principal of the loan out of the accumulated earnings of the business in the course of several years. The lender, similarly, regards such a disposal of his funds as permanent; hence the term investment.

Commercial credit, on the other hand, is used in financing the manufacture and marketing of goods, and it has to do only with consumptive goods. It is only another name for the mercantile credit described in the previous selection, viewed from another angle—that of the use to which the funds borrowed are put. Unlike the borrower of investment funds, the borrower here wishes to use his funds only temporarily. A concrete case will serve to illustrate the difference: A borrows, let us say, $10,000 and purchases a stock of goods with the money. Two months later he sells these goods for $11,000, or at a profit of 10 per cent. The goods purchased thus furnish the direct means of liquidating the loan. The borrower for investment purposes, on the other hand, invests the $10,000 in a factory. He does not contemplate selling the factory within a few weeks or months. On the contrary, he expects to use the factory for many years in the manufacture of commodities. It may take ten years or more before the accumulated profits will permit the repayment of the principal of the loan. The latter is a long-time process, requiring years for fruition; the former a short-time operation, carried to completion in a few weeks or months. It is by means of the former that industries are developed and continued; it is by the latter that the manufacture and marketing of goods are accomplished, that commodities are transferred through