If Ba has Be hold the acceptance until payment or maturity, it is said to be "in depot." Ba may at any time order Be to sell it in the London discount market, thereby increasing his balance with Be, against which he can sell bills in America. As long as Ba or his agent holds the bill, he is creditor to Ea and Ie, but as soon as it is sold to De, Ba puts himself in funds and De becomes the creditor. Since the great majority of export bills drawn are acceptance bills and are sold in the discount market, and the bills used in the import trade are likewise sold in the discount market, it is evident that the persons who really finance foreign trade, the ultimate creditors, are such parties as De or, if De be a bank, the still more ultimate creditors are to a degree the creditors of De The volume of funds held by all the De's for such investment, and the volume of bills so offered for sale, determine the size of the discount market, the discount rates, and the degree in which their city becomes the money market of the world. The lower the rates of discount, the higher the price goes for bills and the cheaper the cost of financing trade; and the larger and wider the discount market the surer is the buyer or holder of bills of finding a ready, continuous, and steady market for his items, and the safer do such short-time investments become. The banks of any country, having a good discount market naturally, therefore, buy the better forms of rediscountable commercial paper to form their secondary reserve, and divorce themselves from dependence upon long-term corporate securities and the financial market for their second line of defense, a dependence which has characterized the banking system of the United States.
Exporters, like Ea, offer bills for sale. The larger the volume of exports the larger will be the supply of exchange for sale in New York on London. The offers of bills will be made by ex porters to bankers who act as middlemen. The bankers, having bought the bills and thus procured credits in London, are in a position to sell exchange at low rates. Exchange may be offered for sale by any party who has money in England due to him. The supply of bills for sale, therefore, is determined by the amount of funds owing to Americans, but the largest part of this is due to exported merchandise, and for that reason the supply is seasonal, varying with the times of exportation. The rest of the supply comes from parties who are selling securities or other investments abroad, who are borrowing abroad by the sale of bills, who are reducing their bank balances abroad with a view to investing at home or to increasing their cash reserves, who own foreign securities or property from which interest, dividends, or rent is received, who are traveling or living in America and draw funds from abroad, who employ the services of Americans in various ways, etc.
The Reciprocal Relation of Exchange Rates in Two Markets In case Ie takes the initiative in making, payment to Ea he will ship gold or buy a bill in London from Be and remit to Ea. If he ships gold, neither the demand for bills in London nor the supply of bills in New York will be increased; the operation will proceed and leave the market for exchange as it was, except in so far as the movement of gold may tend to affect the bank discount rate.
If Ie buys a bill from Be and remits it to Ea, who collects from Ba, then Ba's home funds are reduced but his balance with Be is increased, and Ba is then readier to sell bills on London; the sup ply of bills, in other words, will be increased, and to the same amount as if Ea had' drawn directly on Be. Be, on the other hand, has greater funds in his vaults but his balance with Ba is reduced, and he will now wish to buy bills to remit to Ba for sale and credit to rebuild his balance. The demand for bills in London will increase. A rise in the demand for bills in London means a fall in the demand for bills in New York; the same inverse relation obtains in the supply of bills.
If, therefore, in early autumn, American exports to England increase, bills of exchange in New York on London will be plenti ful relative to the demand, or bills of exchange in London on New York will be scarce relative to the demand, or both. In fact the two variations are synchronous and reciprocally reverse.
Fluctuations in the Rate of Exchange The bidders for bills of exchange in New York would be will ing (as above explained) to pay up to $4,896 for a £1,000 bill, but whether they would have to pay that amount would depend upon the relative demand and supply of bills there. If the importa tion of merchandise or any other event occasioning remittances to England should occur and cause an increase in the demand for bills, the competition among buyers for bills would become more intense and sellers could ask and get more for their bills; the price would, therefore, tend to rise up to, but not normally beyond, the gold export point. At that point those bidders for bills who had not yet bought bills would find it more profitable to export the gold. The situation would not be changed if the English credi tor drew on the American debtor and sold his bill to Be, for Be would remit it to Ba for collection and Ba would have to make settlement with Be by sending bills or, if the rate of exchange were above the gold export point, by sending gold.
In the actual practice of business,' importers, manufacturers, dealers, etc., rarely do ship gold themselves but continue to buy and send bills, for they have not the knowledge or shipping facili ties or a large enough debt to warrant their shipping the gold themselves. The shipping of gold is handled by a few large banks which specialize in foreign exchange, and competition among them keeps the price of bills at or below the gold export point. When the price of bills rises up to this point, one or more of these banks despatch gold to London rather than pay the high prices for bills to remit. Looked at from the supply side, it may also pay some banks, which are not under any necessity of buying bills to send abroad, to ship gold, for they are then in a position to sell bills, at the gold export point at most, to persons having remittances to make, and to undersell their competitors whose foreign balances are nearly or will soon be exhausted. In fact, bankers anticipate such times of high exchange rates and ship the gold in advance of need. This supply of bills keeps the price down to the gold export point or lower.