As a result of the arrangements they have with their foreign correspondents and the bal ances they carry abroad, foreign exchange bankers at primary points are always in a posi tion to buy any exchange which may be offered them, and to sell any exchange which may be required. A large packing house in Chicago, for instance, may have made a shipment of meat to Amsterdam and as a result be offering its drafts drawn in guilders at 15 days' sight upon the buyer of the goods in Holland, or upon some Dutch bank designated by him. Of these drafts the packer, if his standing is good, will have no difficulty in disposing at whatever happens to be the current rate of exchange at the time for bills of this character. Some banker will readily take them off his hands, knowing that he, the banker, can send the bills to his correspondent bank in Amsterdam for credit of his account, later drawing his own bills upon the balance thus created. Very pos sibly at the time that he buys the bills drawn against the meat shipment, the foreign ex change banker knows of a place where he can sell drafts drawn by himself at a rate of ex change which will show him a profit on the transaction. Nor does it make any difference whether the drafts he buys are drawn against meat or wheat or copper or whether they are payable at sight or at 15 days' sight or at 90 days' sight. All is grist that comes to the foreign exchange banker's mill. His ac count with his foreign correspondent is a melt ing pot into which he can put bills of exchange of every variety, the whole appearing after col lection and discount as a cash balance upon which he can draw his own drafts.
The profit made by the foreign exchange banker comes from the fact that he can regu larly secure a better rate of exchange for the drafts drawn by himself, which he sells to his clients, than he has to pay for the mercantile bills of exchange which he buys from other clients and with which he is continually re plenishing his balance abroad. Between bank ers' bills and mercantile bills, however good the latter may be, there is always a difference in the rate of exchange. Between the bill drawn by the banker of good standing and the mer chant of good standing this difference is com paratively slight, but as between the bill of the banker and the merchant whose paper is not so well known, although it may be good, there is a very considerable difference in the rate. It is just here that the foreign exchange banker makes the bulk of his profits. The bill of this mercantile house he knows is perfectly good, but because the paper is not particularly well known it does not perhaps command the full market price. This paper the banker buys knowing that it is good and that it will be paid upon maturity, and against this paper he sells his own bills at a considerably higher rate of exchange.
Aside from the trading on rates described above, there are, of course, great speculative possibilities in the foreign exchange market for those who choose to take them up. By buying
bills, for instance, and accumulating a large balance abroad without selling his own drafts against such balance, the banker puts himself in a position where he will greatly profit through any rise in rates which may take place — or vice-versa. Foreign exchange bankers, too, sell exchange for future delivery and con tract to purchase drafts at fixed times in the future, at rates which they figure will show them a profit. These, of course, are only one or two examples. The opportunities for specu lative operations in foreign exchange are prac tically unlimited.
The par of exchange between two countries having different monetary standards as, for instance, Great Britain with the pound sterling and the United States with the dollar, is the price of the gold unit of one country expressed in the currency of the other. In a new gold pound sterling (sovereign), for instance, there is an amount of gold which, at any sub-Treas ury in the United States, is worth $4.8665. This sum is, therefore, the par of exchange between Great Britain and the United States.
From this par of exchange the rate fluctuates upward and downward according to the supply and demand. If American merchants or bank ers have large payments to make on the other side and drafts drawn in foreign currencies are in great demand, it naturally follows that the price in dollars which must be paid for each pound sterling, mark or franc, as the case may be, will increase (that the rate of exchange will rise). If, on the other hand, a large amount of drafts drawn on foreign points in foreign currencies are being offered for sale to bankers engaged in the foreign exchange business, it stands to reason that less American dollars will be paid for each pound sterling, mark or franc, as the case may be (that the rate of exchange will decline).
The principal influences having a tendency to cause the rate of exchange at any given point to rise are as follows: Heavy Imports of Mer chandise imported must be paid for — usually by means of a draft drawn in the currency of the country from which the goods are coming. If, thus, imports run heavy, there is necessarily a big demand for drafts to send over to the shippers from whom the goods are coming. The natural effect is to cause a rise in the rate at which bankers are willing to sell such drafts.
Heavy Imports of Exactly as merchandise imported into the country must be paid for, so securities imported into the country must be paid for. The moment a market be gins to repurchase on a large scale its securities held abroad, or to purchase foreign securities, there is set up a strong demand for bills of exchange drawn on the market where the buy ing is being done to settle for these securities. A time when New York, for example, is buying stocks heavily in London, is apt to be a time when the demand for sterling drafts is so great as to give the sterling exchange market a strong upward tendency.