7. Banks and speculation.—In an ordinary market there are millions of securities purchased and held on speculation. While these securities are regarded as belonging to the who has bought them, they are in reality in possession of the banks which hold them as collateral for loans they have made upon them. The money lenders and bankers, therefore, have the largest •amount of money invested in speculative se curities, and the greater proportion of this money, it must be remembered, is the surplus funds of the coun try banks and a portion of their reserve loaned to the New York banks.
So-called country banks, which include not only those in rural districts but also those in towns and cities having but a small population, have during a large part of the year, surplus funds for which they cannot find a profitable investment. The surpluses of the farmer, the merchant and the manufacturing company have given the country banks deposits in excess of the demand for money. This is particularly true in the agricultural districts of the middle west and south where the banks have difficulty in finding a sufficient quantity of three and four months promissory notes to keep their funds employed. On the other hand the banks in large reserve and central reserve cities, par ticularly those in New York, are almost always in the market for purchasing the surplus funds of country banks, either upon time or call—that is, for a certain period of thirty, sixty or ninety days,—or for borrow ing with the understanding that the money will be re turned immediately upon demand. The interest paid for these surplus funds is usually low, averaging about 2 per cent. The country bank, however, is willing to invest its surplus money in this manner, if no other use can be found for its funds, for the low rate is attractive. It happens, therefore, that not only the percentage of the reserve of the bank which under the law can be sent to reserve agents but also the unloaded funds of the bank are sent to the large cities. A very large percentage of this surplus money goes to New York. It is estimated that under normal conditions over 200 million dollars coming from this source alone are in the hands of the New York banks.
We recollect that a very large proportion of the loans of the New York banks are made to stock brok ers. This class of business men forms the most im portant customers of the bank, in fact, some of the largest banks of the country have few customers ex cept the brokers. It is the brokers who create the
enormous demand for money which enables the New York banks under ordinary times to absorb the sur plus funds which are offered to them from all other sections of the country.
8. Securing the loan, "over-certification."—Sup pose a broker has purchased $100,000 of stock for a customer. He contemplates securing an $80,000 loan from the bank on this stock. In order to negotiate the loan he must have the stock in his possession so as to be able to offer it as collateral at the time the ap plication is made. On the other hand, however, be fore he can get possession of the stock from the seller he will be called upon to make payment in full. In the meantime it is probable that the broker will have a balance in bank which is much too small to enable him to draw a check for the amount of the purchase price of the stock. Here is a gap which must be bridged in some way. The broker must get the money and it is only the banks which can supply it. With out some arrangement the whole business of specula tion would cease. Until a few years ago this gap was bridged by the practice of over-certification. Un der this arrangement when the broker is called upon to pay for the $100,000 of stock he draws a check upon his bank to the order of the firm from whom he has purchased the stock for $100,000. This check is sent to the bank where the broker keeps his account for certification. This is a practice which is quite com mon in all banking communities.
Certification consists of a formal indorsement of the check of the bank guaranteeing that it will be paid when presented. It is intended to be a certification by the bank that the broker has sufficient funds on de posit to meet the check when it is presented. This guarantee is affixed by the cashier or paying teller of the bank, who endorses the check across its face cer tifying that the signature is correct and also that the bank is willing to pay the check upon presentation and identification, or when it comes thru the clearing house. This process is explained in greater detail in the Text on Banking. The broker's balance is perhaps only $25,000, nevertheless the bank has certified a check for $100,000. This is called over-certification and is simply one form of the great system of credit existing in the banking and brokerage business.