7. Export letters of credit.—In some countries where banking facilities are undeveloped, it may be difficult for the foreign customer to obtain a letter of credit on New York or London, or even to make a dollar remittance. In financing the exports to such countries, a different system is necessary in order that the American exporter can obtain his money without awaiting remittance from abroad. This system is effected thru what are known as "export letters of credit," which are issued by an American banker without the intervention of a foreign bank. The general nature of letters of credit has been explained in the chapter on Bills of Exchange. Their service in financing exports can be best understood by a con crete example. Williams, of Chicago, sells a ship ment of machinery to a firm in Honduras where there are no direct exchange facilities with New York and it would be very difficult for the Honduras mer chant to purchase a draft on New York. Under these circumstances Williams, not wishing to wait until a remittance is forthcoming, goes to his banker with invoices, bills of lading and other documents and asks him for an "export letter of credit." The ship ment, we will say, is worth $10,000 and against this the Chicago bank gives Williams a letter of credit authorizing him to draw at ninety days against its London correspondent for £1,800, or about ninety per cent of the amount of the invoice. This draft on
London for £1,800 Williams sells in the exchange market in New York or Chicago (the letter of credit being his authorization) ; he receives dollars therefor at the current rate of exchange for ninety-days bills and obtains the bulk of his money. The documents are forwarded by the Chicago bank to its correspond ent in Honduras which collects the whole amount. $10,000. This is then remitted in pounds sterling to London to the credit of the Chicago banker. Before the , ninety-days draft, originally drawn, matures, there will have been received in London more than sufficient funds to retire it, and neither the Chicago bank nor its London correspondent have had to dis burse any money. The difference between the amount of the draft, £1,800, and the remittance from Honduras, less any charges, is paid to Williams by the Chicago banker and the transaction is closed. As an alternative, the Chicago bank itself could have drawn the draft on its London correspondent for £1,800 and turned over to the exporter the dollar proceeds. By this method a better rate would be obtained for the draft and the exporter is saved the trouble of an exchange transaction.
London has direct relations with almost every part of the world and thus becomes the natural clearing house between countries whose exchange transactions with each other are limited.