IN the previous lecture my object was to give you
a broad sketch of the general nature of the present
industrial struggle. I tried to show that modern
competition makes a considerable use of debased
and predatory methods, and that when its activities
are international these unfavourable features are often
developed on a very serious scale, as, for instance,
in the foreign trade policy of Germany, which is
not easily distinguishable from economic war. So
long as such methods were used it was for us to
defend ourselves against them. For such purposes
of defence, as well as in the interest of the general
efficiency of our industry, it seemed clear that we
should require larger business organisations, more
scientifically equipped and perhaps linked in wider
combinations or cartels.

The question now arises whether we are ready to
finance the new organisations. To instal thoroughly

1 The second of two lectures delivered at the Royal Institution on

April 19th and 26th, 1917 ; afterwards printed in the Economic
Journal for December, 1917.

97 G



98 PAPERS ON CURRENT FINANCE

up-to-date establishments on the scale now desirable
must clearly be a very costly matter ; and not only
for this purpose, but to secure foreign markets, and to
provide for the reconstruction of industry after the
war, very large financial provision must be made.

In one country, at any rate, quite exceptional
attention has been given to this question of indus-
trial finance. The German banking system, from
its first inception in the 'fifties, has devoted its re-
sources mainly to this purpose, and with remarkable
success. No doubt, as Kiesser shows, the industrial
bank was in its origin a French creation ; the move-
ment sprang from the enterprise of the Pereires and
their Credit Mobilier, and ultimately from the genius
of their master Saint Simon. None the less, the
French idea received its fullest development in the
banking system of Germany. Germany has gradu-
ally elaborated her financial organisation until it
has now become a principal, perhaps the principal,
instrument in the extension of her foreign trade and
political power.

We have now to consider the situation thus created,
and to inquire how far English traditional banking
policy is adapted to deal with it, and what new
developments are most urgently required.

The question is not new to experts. As long ago
as 1909 it was raised in the Times by a very able
article dealing, amongst other matters, with the
now classical case of the Eand Power Company.



FINANCING OF INDUSTRY AND TRADE 99

This was a case in which we lost orders for over two
million pounds worth of turbines and other electrical
plant, because German banks undertook to find a
large proportion of the capital required on condition
that their associated firms obtained the bulk of the
orders. It was said that the banks incurred no
great risk, because they only held the debentures
themselves, and placed the shares on the English
market ! The writer recommended the establish-
ment of " several industrial banks on Continental
lines, with a paid-up capital of five to ten millions
each." His concluding paragraph so exactly ex-
presses my own views that it may well serve me as
a text. ' There is a saying that ' trade follows the
Flag/ but it is none the less true that nowadays
* trade follows the Bank.' Successful commercial
warfare cannot be carried on by means of small
independent units, and it is only by strict co-operation
between the industrial, commercial, and financial
communities that this country can retain its position
among the nations of the world." l

Business was not particularly brisk in 1909 ; the
world had hardly recovered from the American crisis
of 1907. But practical men had no time to attend
to the matter, and the article only served as an
illustration for academic discourses. There has
been no lack of similar illustrations in subsequent
years.

1 The, Times Financial Supplement, October 8th, 1909.



100 PAPERS ON CURRENT FINANCE

We owe it to Mr. Runciman, more perhaps than
to any other single person, that the question has now
become one of practical politics. Speaking in the
House of Commons, January 10th, 1916, he ob-
served : " If we are to do more in the future our
banks must 'be a little more adventurous. If they
cannot, in consonance with their present system,
be more adventurous, let us have some additional
institutions. At all events, commercial banking must
play a large part if we are to hold our own against
Germany." As might have been expected, the
term "adventurous" acted on our bank boards like
a red rag on a bull. The annual addresses of bank
chairmen during the next month were a series of
protests against the Minister's advice. But it will
be noticed that Mr. Runciman was careful to speak
conditionally. In some way or other our banking
and finance must be more intimately associated with
our industrial and commercial enterprise ; but not
necessarily by direct assistance from what we in this
country call " banks " that is, the great deposit
or clearing banks.

Whatever form the connection takes, it must
involve the system in some share, though not neces-
sarily a dangerous share, in the " venture " insepar-
able from enterprise. If we are going to abandon
adventure to the United States and Germany we may
look forward confidently to the decline of our com-
mercial supremacy. It was precisely by adventure



FINANCING OF INDUSTRY AND laAfWff 101

it was originally won. The famous companies who
called themselves Merchants Adventurers knew that.
The extraordinary development of German business
in the last twenty-five years, both at home and
overseas, is largely due to the adventure, wisely
considered and carefully planned, of her great bank-
ing groups.

But it does not follow that it is the proper business
of the English deposit banks to engage in this adven-
ture, at any rate in a direct fashion. Bagehot,
writing forty-four years ago, and with our English
type of bank in view, says : " Adventure is the life
of commerce, but caution, I had almost said timidity,
is the life of banking." The dictum has been
widely approved ; but like most epigrams seems a
little strained. After all, even the accepted type of
deposit banking is one great adventure. Jevons's
famous estimate, in 1876, of the English banking
position will not soon be forgotten. ' The whole
fabric of our vast commerce is found to depend upon
the improbability that the merchants and other
customers of the banks will ever want, simultaneously
and suddenly, so much as one-twentieth part of the
gold money which they have a right to receive on
demand at any moment during banking hours." *

There seems a spice of adventure, then, even in
the present system of deposit banking ; and it

1 A banker in 1890 put the proportion at ^th : Cobb, Threadneedle
Street.



102 TAPERS ON CURRENT FINANCE

explains the bankers' panic at the outbreak of war.
The fact is that banking, no matter of what type,
is, like insurance, a question of probability. It is
a question of statistics or " experience," as the
insurance companies say, whether any given business
risk may be wisely undertaken. This applies equally
to deposit banking and to industrial finance. Dr.
Biesser is inclined to think that the danger to a bank-
ing system arising from an extension of deposits is
even greater than that arising from a possible lock-
up of funds in industrial finance. But perhaps both
Germans and English tend to over-rate the danger
of business with which they are less familiar.

It must be admitted that our deposit banks are
not equipped so well for the business of industrial
finance as their Continental, and especially their
German, rivals. They carry enormous call liabilities
on a minimum reserve, and they work mainly with
their customers' capital, not their own. " My own
brains, and other people's money," was Lord Over-
stone's pithy description of his business. Lord
Inchcape recently protested that English banks
could not engage in industrial finance, because they
ought not to risk their depositors' money to make
larger dividends. His protest was very widely en-
dorsed ; but it seems entirely beside the mark, not
to put it more strongly. Do the German banks
trade with their depositors' money to make higher
dividends ? On the contrary, German bank dividends



FINANCING OF INDUSTRY AND TRADE 103

are less than half those declared in this country;
and for the good reasons that they trade mainly on
their own resources and hold larger reserves. Biesser
tells us, as the result of an inquiry into 169 banks,
that the paid-up capital and reserve of these banks
was 45 per cent, of their liabilities. The proportion
in this country at that time was about 9 per cent. ;
it is now as low as 7 per cent. Hence the German
banks can extend their industrial and trading ven-
tures without serious risk to depositors, especially
as their shareholders are content with modest divi-
dends. It is possible, as Biesser's criticisms imply,
that they may have carried their ventures somewhat
too far ; and it is evident that they were beginning
to drift into the easier courses of deposit and financial
banking. But there can be no sort of doubt that
the older type of industrial banking has been a main
cause of the remarkable expansion of German trade.
If we survey the world generally, and the mass
of economic literature, we shall find that opinion is
unanimous, except perhaps in this country, that the
proper and primary business of a banking system
is to finance * industry and trade. This was emi-
nently the case with the old Scottish system, which
has been praised by experts in all countries, and
often described as the classical banking system.
How comes it, then, that there should be any doubt

1 1 use this word in contradistinction to mere discounts and short
loans.



104 PAPERS ON CURRENT FINANCE

as to the suitability of such work for the English
banks of to-day ?

The fact is, and it is very important that we should
recognise it, that in England we have developed a
system of banking quite peculiar to ourselves. The
late Mr. Gr. H. Pownall, whose death at this juncture
is greatly to be deplored, laid stress on this point
in his last published work. " The British banking
system," he tells us, " differs from all others . . .
and it cannot conform to the conditions of the half-
bank, half-investment, or pioneering conditions of
foreign concerns." 1 Even if we accept his inference,
it only goes to show that our banking system requires
some supplement, for we cannot afford to neglect
business which all foreign banks regard as essential ;
and this is the case of the critics. But what is the
peculiar character of English banking, and in what
way does it limit its power of financing industry ?

When Englishmen speak of their banking system
they do not include under the term, as a foreigner
would, the whole financial machinery of the London
market. They have in view the great deposit banks,
connected by the Clearing House, in intimate relation
with the Bill Market and the Stock Exchange, and
centring in the Bank of England. Outside this
system lie a large number of firms and institutions
of the utmost importance for sound industrial finance,

1 English Banking : Three Lectures at the London School of Economics,
1914, p. 24.



FINANCING OF INDUSTRY AND TRADE 105

but usually ignored in current discussions, because
these discussions have been almost wholly concerned
with the " banks." We shall have to return to
these outside institutions later. Our present ques-
tion relates to the " banks." What were their
main activities, the chief economic functions to which
their resources were devoted ? Their resources were .
for the most part engaged in the creation and cir-
culation of two great currencies : one national or
domestic, the other international, a world currency.
The first currency is the well-known cheque, or
bankers' money, in which the bulk of our domestic
payments are made ; the second, the still more
widely-known London bill, the great clearing in-
strument of the financial world. The flotation of
these currencies involves the banks in the heaviest
responsibilities, because it is absolutely essential to
keep each at a rigid parity with gold, convertible on
demand. How serious the responsibilities are was
shown to the least expert observer by the events of
August, 1914. Now it is important to notice that
neither of these responsibilities has to be borne to
any important extent by foreign banks. In Europe
generally the note takes the place of the cheque
with us, the cheque currency being relatively small.
The note is, in practice, and generally in law, legal
tender ; and hence the issuing bank is not subject
to the danger of a run due to internal panic. It is
a usual rule that the amount of the issues must not



106 PAPERS ON CURRENT FINANCE

exceed three times the " cash " held by the banks
of issue ; but this cash reserve is not definitely ear-
marked as issue reserve, as with us, and may carry
other banking liabilities. It is clear, then, that the
Continental banks, in consequence of their compara-
tive freedom from our currency responsibilities, are
better able to turn their attention to other banking
duties.

But this is not to condemn the policy by which
English banks have built up these currencies. We
can hardly exaggerate the services thus rendered by
them. They have carried the machinery of remit-
tance to the point of absolute perfection ; it is ex-
tremely convenient, prompt, and costless. Internal
exchange rates, the plague of European countries
even to the end of the eighteenth century, have com-
pletely disappeared in Great Britain since that time. 1
It is possible that improvements may not stop here.
During the war we originated a system of gold deposits
in foreign centres Ottawa, Cape Town, Bombay,
etc. which we may hope to see developed after the
Peace, until, at least within the Empire, external
exchange may also disappear.

Of course, remittance is not in these days the most
important of the services a good banking system is
expected to render. Still, it is very easy to under-

1 They still exist, with small charges, in the United States ; though
the new Federal Reserve Board is promoting measures to abolish them.

For further illustration of this matter, see the letter on Fixed
Exchange, in the Appendix.



FINANCING OF INDUSTRY AND TRADE 107

rate its value. Remittance was once the merchant's
greatest difficulty. It caused the rise of modern
banking expedients. It would be unfair to overlook
the valuable facilities of our English remittance
service just because it works so smoothly and cheaply
that we rather take it for granted. Both our banking
currencies are of national importance, not only in
their immediate and obvious effects, but in their
indirect consequences. This is recognised far beyond
our shores. Many foreign countries France, Holland,
Russia, and Germany in particular are making
great efforts to extend the use of the cheque ; and I
need hardly say that our position as the world's
clearing-house, in virtue of the wonderful currency
of the London bill, is at least equally envied. Both
currencies have served us well under the stress of
war. The cheque system has enabled us to avoid
large issues of notes and to minimise inflation of
currency ; while the reputation of the London bill
has greatly facilitated the operations of our colossal
war finance, and the adjustment of exchange diffi-
culties.

Our banking, in short, is quite first-rate of its
kind ; but, naturally, it has the defects of its quali-
ties, and these have much limited its sphere of action.
I have said that the maintenance of the two cur-
rencies involves heavy and incalculable responsibi-
lities. They work with marvellous smoothness in
fair weather, but they almost presuppose it. If



108 PAPERS ON CURRENT FINANCE

the conditions of credit and foreign trade are seriously
disturbed, as they were in August, 1914, the inter-
national currency may involve the banks in almost
insuperable difficulties. The domestic or cheque
currency weathered that storm remarkably well,
but the extraordinary measures of relief conceded to
the bankers may be taken as some measure of their
apprehensions.

Hence the banks which carry these liabilities are
all for short-term loans on the most easily realisable
security. They often claim that goods in their pro-
cess from raw material to the finished product in the
hands of the consumer at home or abroad will always
be freely financed by English banks. 1 No doubt ;
but what they have in view when they say this is
mainly short loans, not the long and often large loans
necessary, not only for the inception, but even for
the extension and reconstruction of an enterprise.
It is a further consequence of their position that
our banks must incline to prefer financial to industrial
business. Stock Exchange loans are usually for
fourteen days ; bills can be bought in the bill market
for the shortest maturities ; money can be lent at
call. What investment could be more ideal than a
three-months' Treasury Bill ? Millions can be in-
vested in this way without a moment's thought or
consideration. What infinite pains and inquiry

1 1 have heard a great banker say he would advance on anything that
was marketable, even sardines. But these are short loans, not finance.



FINANCING OF INDUSTRY AND TRADE 109

would be necessary to invest the same amount in
industrial loans ! Again, most financial loans are
on first-class collateral security, security which can
be instantly realised, so long as the banks are able
to rely on an effective and vigorous Stock Exchange. 1
This is, indeed, an essential condition of financial
banking, but London is admirably situated in this
respect.

The inevitable consequence of these considerations
is that there is a natural tendency, not confined to
this country, but stronger here, for banks to prefer
financial to industrial banking. This is an old story.
As long ago as 1797, Sir Francis Baring complained
that the discounts of commercial paper at the Bank
of England were very small compared with its finan-
cial operations. This is perhaps necessary in the case
of a national bank. But it is the same with the
joint-stock banks, specially founded to supply in-
dustrial and commercial needs. A distinguished
Manchester banker wrote last February that " in
contradistinction to banks of the German type our
banks are financial institutions." If the difficulty
is more acute here, it is felt in some other countries.
The French Government appointed a Commission
in May, 1911, to study the question of making

1 Ceteris paribus securities are more marketable in proportion to the
amount of the issue. Big foreign loans will therefore be preferred as
collateral to usually smaller industrials. This is another argument for
larger industrial combinations. Cf. the German Dyers, with their
35,000,000 of capital.



110 PAPERS ON CURRENT FINANCE

adequate provision for industrial advances. Even in
the United States, where banking has never been
afraid of adventure, we find the Wall Street Journal,
as early as 1904, complaining that " the special
temptation to which our banks are now subjected
is the temptation to turn from commercial to
financial banking." The new Federal Reserve Act
contains a provision expressly inserted to discourage
this tendency. Only " commercial paper " is to be
admitted to rediscount by the Federal Reserve
Banks. 1

With us, everything is sacrificed to " liquidity,"
though liquidity must certainly break down under
any serious strain, as it almost implies fairly normal
conditions. The net result is that English money
goes to finance foreign industry instead of our own.
Mr. Grant tells us that in 1912, out of 191,000,000
of new issues on our market, only 17,500,000, or
less than one-eleventh, represented home issues ; in
1913 the proportion had fallen to one-thirteenth, or,
according to the Hon. R. H. Brand, to one-seven-
teenth. It is open to German banks to take up
unlimited funds in our short-loan market (and simi-
larly in Paris) to finance German industries, or to
finance foreigners on terms which rob us of our
natural share in their trade. Our own money is
thus used against us because our great banks are
too timid to take primary risks. They prefer to

1 There is, however, some talk now of relaxing this regulation.



FINANCING OF INDUSTRY AND TRADE 111

give acceptances, as Sir Edward Holden says his bank
does, of bills " of the leading banks in the world."
The bills thus accepted can be discounted in London
ad libitum , and at the lowest rates. The amount
usually lent on short loan here can hardly be less
than 150,000,000; while Mr. Keynes put the total
of London acceptances before the war at 350,000,000.
It was estimated that in 1912 we were financing
Germany by acceptances to the extent of 70,000,000
a year. 1

Thus our own industries go a-begging, or are driven
to the tender mercies of the company promoter,
while we lend large sums through foreign banks,
on terms which deprive our industrials and merchants
of trade. 2 It is a great sacrifice to make at the altar
of Caution. Judicious Adventure might in the long
run prove a better investment. Some will say
perhaps that it is unfortunate, but that London
can only retain its position as the world's clearing-
house on condition of allowing international finance

1 The power of the London market is enormous : as was shown by the
ease with which it carried nearly 1,150,000,000 of Treasury bills in
December, 1916.

2 Prof. Henri Hauser says that the position is much the same in
France, where they have not quite the same excuse. " A French
merchant may see the counters of one of our credit establishments
closed to him, while a German banker thereupon opens for him a credit,
thanks to the resources assured to the German banker by the French
establishment. This is truly disconcerting." It is, indeed ; for German
finance means German control, German espionage and " penetration.'*
See an illustration of this in the Jour. Inst. Bankers, November, 1917,
p. 342.



112 PAPERS ON CURRENT FINANCE

of this type. This may be doubted ; but in any
case we should not overlook the other side of the
account. The preference for financial banking is
intelligible enough. It may conceivably be neces-
sary for banks of the peculiar English type. But it
is certainly disastrous for English industry and trade.
They require long loans and large loans ; and this
not merely to instal new undertakings, or to equip
older ones with up-to-date plant, but even in many
cases to enable going concerns to obtain big compe-
titive contracts. Our enterprise would equally benefit
by the skilled advice which a great financial house
or a bank of the German type is often able to
give. Neither kind of assistance can be obtained
from our banks. The only alternatives are resort to
the company promoter or the sale of debentures to
a finance or trust company. These are mere make-
shifts, utterly inadequate.

After all, the financing of industry and trade
should be the main business of banking, using that
term in its broader sense. It is the banking system
which collects and concentrates the savings of the
community : it should be its chief care to see that
these are placed at the disposal of its own industry
and trade, under the besir possible conditions for
success. 1 This is precisely what the German banks

1 It by no means follows, as so many people are now clamouring, that
these credit facilities should be extended to all kinds of business
indifferently, big or small. Nothing would be gained by such a policy,
which might indeed be considered retrograde. A recent report of the



FINANCING OF INDUSTRY AND TRADE 113

have done. They have done it with such conspi-
cuous success, and by methods and machinery so
radically different from our own, that a study of
their methods is perhaps the best way by which we
Englishmen can approach the subject. German
methods are all the more suggestive for our present
purpose because German success is mainly due to
organisation, and it is precisely the organisation of
our ample existing resources, rather than the creation
of new institutions, which is our most urgent need.

GERMAN BANKING METHODS.

The German banking system is in its general
structure not unlike our own. Unity of control
and discount policy is secured by the position of
the Reichsbank, whose influence in the money
market is at least as great as that of the Bank of
England, fortified as it is by legal powers which our

British Chamber in Brazil deserves notice in this reference. The
Committee reporting agree that there is something to be said for helping
able young men to set up for themselves. But their general view is
thus expressed : " They think that at present ample credit facilities
are obtainable by all well-established British firms in Rio de Janeiro,
and that these firms would not welcome any desire on the part of the
banks to give (further) credits. Experience has shown that an increase
in credit facilities means that third- and fourth-rate firms are thereby
enabled to compete for business which ought to be in the hands of
first-rate firms, and excessive speculation and cutting competition are
the results," etc. Jour. Lond. Chamber, November, 1917, p. 275.

It would be easy to criticise the view so ingenuously expressed :
but there is truth in it. It is possible that excessive competition may
injure business, as I tried to show in a previous article ; and the multi-
plication of small firms does not make for efficiency.
F.C.P. H



114 PAPERS ON CURRENT FINANCE

Bank does not possess. It is surrounded by joint-
stock banks which in size are not far behind our
own. Indeed, one of them, the Deutsche, claimed,
as the result of its latest amalgamation (February,
1917) with the Nord-Deutsche Credit-Anstalt and
the Schlesische Bank, to be the largest bank in the
world. 1 Taking the mark at its pre-war parity (a
great concession) the paid-up capital and reserve of
this bank were (March, 1917) 25,000,000, and its
total resources 185,000,000.

Here we may stop to note that in all systems
there is a tendency to large-scale banks ; even in
the United States, where legislation has put many
obstacles in the way of their growth. Big banks
are the order of the day. It is idle to inquire whether
the big banks have made big business, or whether
it is the scale of business that has determined the
size of the banks. One might as well ask whether
the egg or the hen came first in time. Big banks
and big business are necessary consequences of the
same general trend of development, which makes
big finance essential. Bagehot foresaw this nearly
fifty years ago. The days of small banks, he said,
would soon come to an end. Riesser holds that

1 It is now left well behind by the London City and Midland Bank,
which, since its union with the Belfast Banking Company hi June
last, shows a total of deposits over 200,000,000 ! [The Deutsche
figures were stated as 283,465,000 on Dec. 31st, 1917 ; the deposits
of the London City and Midland, since the recent amalgamation, are
294,797,450. Five clearing banks now hold deposits to the amount
of over 1160 millions.]



FINANCING OF INDUSTRY AND TRADE 115

" banking business, even of a domestic nature, can-
not be undertaken by establishments of only mode-
rate size, because heavy risks have to be taken.
This applies in even greater degree when it is a ques-
tion of foreign operations, because the risks are still
more serious." Hence bank amalgamations are in
progress everywhere. Canada and Sweden present
some of the latest examples. They have nowhere
gone further than in this country. The movement
has been justified by its results. As Mr. Drummond
Eraser showed ten years ago, it is the big banks
that progress most rapidly. The smaller banks can
barely hold their own.

This question of scale apart, the difference between
English and German banking is most marked. Orga-
nisation, elaborate and methodical, is the charac-
teristic of the German system and the source of its
power. In banking, as in industry, though individual
units are often very large, they rely on the method
of the cartel rather than of the combine. Each of
the leading banks has a large group of allied banks
working in general co-operation with it. Thus the
Deutsche group, even before the last amalgama-
tions by the Deutsche, had a (paid-up) capital of
nearly 50,000,000 ; the Disconto group a capital of
33,000,000 ; the Dresdner more than 16,000,000 ; the
Berliner Handelsgesellschaft 15,000,000 ; the Darm-
stadter 13,000,000 ; the Schaafhausen 10,500,000.
Thus the six leading banks controlled a capital of



116 PAPERS ON CURRENT FINANCE

137,500,000. The whole British banking system,
the Bank of England excluded, only holds paid-up
capital and reserve to the amount of 110,500,000.

Further, in addition to this primary grouping,
the German banks are specially organised in other
ways to deal with large financial propositions. They
combine to carry on particular classes of operations ;
classes based sometimes on geographical and some-
times on industrial or technical conditions. Thus
you have combinations for Chinese or for South
American trade, and, again, combinations for financ-
ing the electrical or the dyeing industries, or for
special operations of a technical kind overseas. They
also form syndicates or Konsortiums for handling
particular loans or other big financial ventures.
It need hardly be said that such organisation as our
banks have is mainly concerned with matters of
banking practice in the narrow English sense of the
term, and is not aimed at co-operation in finance.

The result is that in Germany risks which even
the largest banks might regard as dangerous are made
quite manageable by distribution. There is a regular
standing machinery for underwriting. All risks, too,
can be more safely t^ken because the capital of the
German banks is so much larger in proportion to their
liabilities than in England. Some of our largest
banks only show a proportion of 5 per cent, as against
the German 45 per cent.