Before the passage of the Federal Reserve Act, national banks were prohibited from taking mort gages, except to secure a previously existing debt, and they were severely criticised when they took mort gages indirectly. Any national bank not situated in a central reserve city may now make loans secured by real estate under certain restrictions which are ex plained in the chapter on The Federal Reserve Sys tem.
Real estate and other forms of permanently in vested capital are bad collateral for a commercial bank, because it is difficult to realize upon them quickly.
12. Single and paper bears the name of the maker only. A credit instrument on which the names of more than one per son, firm or corporation appear, either as makers or indorsers, is called double-name paper. At first thought it would appear that each additional indorse ment that goes on a paper makes it all the more secure, and that, therefore, two- or three-name paper is better than single-name paper. This would be true if the paper bearing two or more names originated in the same way as single-name paper. This is seldom the case, and the best paper in the United States is gen erally of this latter class. An examination into the source of the two kinds of paper will reveal the rea son for this apparent contradiction.
A retailer buys a bill of goods which he intends to sell in ninety days. Not having a sufficient amount of capital to pay for the goods at once, he arranges with the wholesaler to carry him for the period, and turns over his note for ninety days. The wholesaler, in turn, indorses the note over to his bank and pays the manufacturer from the proceeds. Thus the bank gets double-name paper. Many of the strongest wholesale houses, however, have adopted the custom of carrying their customers on their books without taking a note. They discount their own notes directly at the bank, in order to get funds with which to meet their obligations. Banks usually scrutinize the bor rower's business carefully before granting this kind of loan. Strong retailers also often discount their notes directly at the bank, so that they may take ad vantage of the usual discount for cash. Custom has thus made single-name paper the stronger in the United States, for the simple reason that it is put out by stronger houses.
Much is to be said in favor of using double-name paper as it is used in Europe. If a wholesaler makes a legitimate sale, he can discount his customer's note or accepted draft at the bank more readily than he can obtain a loan upon a mere financial statement, whether his own condition is exceptionally strong or not. On the other hand, it is noted that retail pur chases are made in small amounts and that if a note were put on the market for each purchase the market would be filled with small notes drawn for odd sums with varying dates of maturity. This would compli
cate bookkeeping transactions. Yet it is desirable that wholesalers should take promissory notes, rather than carry their customers on book account, but it seems equally desirable that the transition to such a practice should not be made so suddenly as to em barrass traders who have become accustomed to the single-name paper system.
13. American finance, accept ance is a comparatively new term. We must look to Europe to find a well-developed system of accept ances. Mr. Paul M. Warburg, in an excellent mon ograph on the subject entitled "The Discount System in Europe," points out that we have given our per manent investment securities a nation-wide market thru the creation of the corporation and the trans formation of the old unsalable partnership shares into bonds and stocks, which are readily negotiable. But our promissory notes, or temporary investments, still retain their primitive form and have only a local market. In Europe, the "bill of exchange" is in general use and great discount markets have been created where these bills can be exchanged freely at any time.
It must be understood that we are dealing here with bankers' acceptances. Trade acceptances have al ready been discussed in the Modern Business Texts on "Credit and the Credit Man," and "Corporation Finance." The discount of such acceptances at a bank offers no peculiar features which call for com ment. Let us see how the bankers' acceptance arises. Suppose Jones buys a bill of goods from Smith for which he wishes to pay at the end of ninety days. He arranges to have his banker accept a draft drawn for the amount, payable in ninety days, and instructs Smith to draw the draft, furnishing him with evidence that the bank has agreed to accept. Smith easily dis counts the bill with his banker, who forwards it to Jones' banker for acceptance. When Jones' banker stamps the word "accepted" across the face of the bill, he transforms it into a virtual promissory note of the bank and gives it wide negotiability. It can now be readily traded in the market and it serves as one of the many substitutes for money. The accepting bank, of course, charges a commission for its service, the average charge being from one-fourth to three fourths of one per cent for three months, according to the conditions of the case. Acceptances form a most desirable kind of investment for bankers, as they have a ready market thruout a wide territory.