201. Commercial Credit Finance Illustrated

Take the commercial credit business as it applies to the import of merchandise, say, from the Far East to New York. Suppose a New York house to have bought a hundred cases of bristles in China, How can the transaction be financed and the payment effected? On closing the contracts for the bristles by cable, the first thing the importer would do would be to go to his banker and get him to issue a commercial letter of credit to fit the terms of the contract. Such a letter of credit would be addressed to some bank in London and would authorize that bank to "accept" the four months' sight draft of the sellers of the bristles in China, up to a certain amount and under certain conditions. These conditions, having to do with the attaching to the drafts of the bills of lading, insurance certificates, etc., are all set forth in the credit.

The banker in London having been duly advised of the credit on him that has been issued, the letter of credit itself would be sent out to the seller of the goods in China. The latter would then go ahead with the shipment. First, the bristles would be insured and a certificate to that effect received from the insurance company. Next they would be put aboard ship and a certificate to that effect (bill of lading) received from the steamship company. Having these documents in his possession the seller of the bristles would next draw a bill of exchange, in pounds, on the London bank mentioned in the credit, the draft being at four months' sight or six months' sight, as set forth in the credit. To this draft he would pin the bill of lading and the insurance certificate, and then, taking the letter of credit with him, he would go to the local bank to sell the draft, get his money, and thus close the whole transaction so far as he is concerned.

202. Part London Plays

Just at this point should be mentioned the reason why London was brought into the transaction at all - why, in fact, the seller of the goods did not draw direct upon the buyer in New York. In the first place, because a sight draft drawn on some small New York mercantile house would be just so much waste paper out in China; in the second place, because a draft in dollars drawn on a bank in New York, no matter how good its standing, would be but little better. To get his money the shipper of the bristles has to be able to draw in pounds of sterling and on some first rate London bank.

Having drawn his sterling draft for the full value of the merchandise, the seller of the goods takes the draft to his bank, shows the letter of credit which gives him the authority to draw, and turns it into local money. The bank is glad enough to take the draft. Exchange on London is always in demand and most of the local banks' business consists in buying bills of exchange just of this kind. So the shipper of the merchandise takes his money, and is finished with the transaction.

At this point in the operation the merchandise has been sent off on a slow steamer to New York and the bill of lading and the four months' sight draft on London, representing the value of the goods, is in the hands of the local bank. The latter now loses no time in sending off this draft (pinned to it is the bill of lading) to London, in order that the draft may be "accepted" by the bank on which it is drawn.

For the sake of clearness suppose the draft to be drawn on the London City and Midland Bank. A month passes, and one day the draft is presented for "acceptance." Detaching from the draft the bill of lading and the insurance certificate, the cashier of the London City and Midland Bank writes across the face of the draft, "Accepted, Payable June 23." He gives the draft back to the man who brought it in. He keeps the bill of lading and the insurance certificate. June 23d is four months off. The accepted bill of exchange may be discounted and rediscounted a dozen times between now and then, but the cashier of the London City and Midland Bank has no interest in what happens to the bill or where it goes. All he knows is that in exactly four months that bill of exchange will fall due, and, coming out of somewhere, will be presented at his wicket for payment.