Another result will, however, come from this. At the present time, as I have said, a loan must be held until maturity. One of the great needs of the country is a discount market, a market in which we can buy and sell commercial paper that has been endorsed by banks, so that the credit of the original maker is not taken much into consideration. We need to create a situation so that banks will buy and sell commercial paper in that market, so that they may buy one day and sell perhaps another day soon after, as we now make call loans one day and possibly call them the next day if our position changes. The existence of a discount market of that character would, I believe, be of the utmost importance to commerce as well as to the banks of the country. It is impossible to have such a discount market here without a central bank fully qualified to meet the responsibility that a central bank should bear,' that is to say, in the last resort to rediscount commercial paper. We are willing to invest our funds in commercial paper under that condition. If we know that when we need partially to liquidate our portfolio, and the market will not repurchase commercial paper, we can go to the central bank and have that paper rediscounted, we can afford to buy it. It is the ability to go ultimately to the central bank for discounts that will create the discount market.

The advantage of a discount market will be that we shall no longer have to keep a great amount of funds in call loans based on stock-exchange collateral. With a minimum reserve fixed by law, all banks naturally run pretty close to that minimum. This means that they must have some part of their loanable funds in a form in which they can readily convert them into cash; that is what we call the line of a secondary reserve. Today we are forced to carry this line of secondary reserve in loans upon stock-exchange collateral because that is the only type of loan which is immediately convertible into cash. That type of loan is all right in ordinary times, because it is immediately convertible into cash. It is, however, exactly the opposite of the ideal bank loan in that it has no self-liquidating quality. The only way the loan can be paid is by shifting it, either directly or through the sale of the collateral. There is no self-liquidating quality about it, and while it is satisfactory in ordinary times, it is full of the gravest danger at a time when it becomes impossible to shift it. If we redis

This was written two months before the passage of the Federal Reserve Act, when there was still controversy over the central bank.-EDITOR.

count commercial paper in the way outlined, we shall no longer feel under the necessity of carrying large amounts of stock loans; there would be liberated for commercial uses here in New York several hundred millions of dollars. Money now devoted to stock loans belongs to the loanable funds of both New York and out-of-town banks, for many out-of-town banks come into our call loan market, their loans reaching two or three hundred millions.

A discount market will at times attract foreign capital, because it will create paper of a form suitable for the use of foreign banks. At present there is practically no loaning of foreign capital on American commercial paper.

That it is very desirable to create a central bank or banks that will have power always to loan to member banks is obvious. If the measure now before Congress will accomplish it, it will bring lower commercial rates for the whole business community of the United States. It will accomplish a leveling process; rates will go up somewhat in the cities and down in the country districts; that is to say, there will no longer be the funds devoted to the very low-rate stockexchange loans that we now have, and those funds going into commercial borrowing will tend to lower the general level of the commercial rate. It will become easier to transfer funds from one community where there is an overflow of loanable funds to another where there is strain. All these results would be accomplished, not because banks would continuously go to these central banks and borrow money, but because they would have a place to which they could go as a last resort. They would not want to go there normally; they would not expect to borrow money at a low rate from the central banks and reloan it at a higher rate; but the ability, in the last resort, to go there would give a liquid character to commercial loans, and that liquid character would bring the improvements that I have outlined.

152. THE NATURE AND ADVANTAGES OF BANK ACCEPTANCES

A bank acceptance consists of the extension of the bank's credit to a customer by which the bank permits the use of its own credit by its client for a consideration, such credit being either secured or unsecured, depending entirely upon the business character and

Adapted from a pamphlet on Bank Acceptances, issued by the Guaranty Trust Company, of New York. (Copyright, 1915.)

financial responsibility of the applicant. A bank acceptance may be created as follows:

A B & Co. in New York buy of C D & Co. in Galveston a quantity of merchandise. In order to reimburse C D & Co. in a convenient manner, A B & Co. arrange with their bank to accept on presentation the drafts of C D & Co., with documents for the merchandise attached. CD & Co. thereupon, under the terms of the sale, draw on the bank, which accepts the drafts, taking the documents. The draft thus becomes a bank acceptance. Then ensues a credit operation between the bank and A B & Co. as to what disposition is to be made of the documents and under what terms A B & Co. shall receive the documents from the bank. (It must be borne in mind that the bank is primarily liable upon its acceptance and the security for its acceptance is the merchandise for which it so acted.) This is usually easily adjusted. A B & Co. undertake by some means or other to provide the bank with funds prior to maturity of the draft in order that the acceptance for which the bank stands responsible, at the request of A B & Co., may be met.

There are certain distinct advantages both to banks and their customers to be derived from the creation of acceptances. These may be summarized as follows:

1. Bank customers can ordinarily borrow by this means more cheaply than by their straight note.

2. The use of acceptances makes it possible for banks and trust companies to properly and conveniently finance legitimate business transactions of their customers without using any of the bank's funds or the use of any additional funds.

3. Banks having surplus money which cannot be readily employed at the time can invest it in prime acceptances, which can either be held until maturity or sold in the open market, should such action be found necessary.

4. Acceptances of well-known institutions will more and more be sought as short-term investments and will be especially valuable for such a purpose, principally on account of their ready marketability.

5. Banks and trust companies can accept for a commission the paper issued by their best customers and sell it in the open market, thus adding to their business another feature which can be a source of definite profit.

6. The presence of the name of the accepting bank makes prime to the extent of the credit of the accepting bank the paper on which it appears. This at once eliminates the necessity and bother of checking the drawer or several endorsers upon paper, as the primary responsibility rests with the accepting bank. If this is in good credit all other names on the paper become proportionately of less interest.

7. With the development of the use of bank acceptances, the knowledge of the relations that the borrower has with other institutions, which the credit-extending banks will thus have, will create a condition of almost

automatic registration of paper, thus more than ever protecting the banks as well as the borrowers from the evil results of the overextension of credit.

BANK ACCEPTANCE

153. PROVISIONS GOVERNING BANKERS' ACCEPTANCES1

I. DEFINITION

In this regulation the term "acceptance" is defined as a draft or bill

of exchange drawn to order, having a definite maturity, and payable in

1 Federal Reserve Board Circular No. 18, September 7, 1915, containing amendments to the act approved March 3, 1915.

dollars, in the United States, the obligation to pay which has been accepted by an acknowledgment written or stamped and signed across the face of the instrument by the party on whom it is drawn; such agreement to be to the effect that the acceptor will pay at maturity according to the tenor of such draft or bill without qualifying conditions.

II.

STATUTORY REQUIREMENTS UNDER SECTIONS 13 AND 14 Section 13 of the Federal Reserve Act as amended provides that— (a) Any Federal Reserve Bank may discount acceptances―

(1) Which are based on the importation or exportation of goods;
(2) Which have a maturity at time of discount of not more than
three months; and

(3) Which are indorsed by at least one member bank.

(b) The amount of acceptances so discounted shall at no time exceed one-half the paid-up capital stock and surplus of the bank for which the rediscounts are made (except by authority of the Federal Reserve Board and of such general regulations as said Board may prescribe, but not to exceed the capital stock and surplus of such bank).

(c) The aggregate of notes and bills bearing the signature or indorsement of any one person, company, firm, or corporation rediscounted for any one bank shall at no time exceed 10 per centum of the unimpaired capital and surplus of said bank; but this restriction shall not apply to the discount of bills of exchange drawn in good faith against actually existing values.

Section 14 of the Federal Reserve Act permits Federal Reserve Banks, under regulations to be prescribed by the Federal Reserve Board, to purchase and sell in the open market bankers' acceptances with or without the indorsement of a member bank.

III. RULING

The Federal Reserve Board, exercising its power of regulation with reference to Paragraph II (b) hereof, rules as follows:

Any Federal Reserve Bank shall be permitted to discount for any member bank "bankers' acceptances" as hereinafter defined up to an amount not to exceed the capital stock and surplus of the bank for which the rediscounts are made.

The Federal Reserve Board has determined that, until further order, to be eligible for discount under section 13, by Federal Reserve Banks, at the rates to be established for bankers' acceptances:

(a) Acceptances must comply with the provisions of Paragraph II (a), (b), (c) hereof.