CHAPTER III.

Definition and Growth of Credit—Contributes to facilitate Production by distributing Capital in the most advantageous manner—Circulation of Bills, &c.—Disadvantages attending the great facility with which Credit is given by Shopkeepers.

Having seen, in the last chapter, the effects resulting from the accumulation and employment of Capital, our attention is next called to the subject of Credit. This is most commonly represented as a very effective agent in the production of wealth; and though its influence has been, in this respect, a good deal exaggerated, it is, notwithstanding, of very considerable importance.

Credit is the term used to express the trust or confidence placed by one individual in another when he assigns him property in loan, or without stipulating for its immediate payment. The party who lends is said to give credit, and the party who borrows to obtain credit.

In the earlier stages of society credit is in great measure unknown. This arises partly from the circumstance of very little capital being then accumulated, and partly from government not having the means, or not being sufficiently careful to enforce that punctual attention to engagements so indispensable to the existence of confidence or credit. But as society advances, capital is gradually accumulated, and the observance of contracts is enforced by public authority. Credit then begins to grow up. On the one hand, individuals who have more capital than they can conveniently employ, or who are desirous of withdrawing from business, are disposed to lend, or transfer a part or the whole of their capital to others, on condition of their obtaining a stipulated premium or interest for its use, with what they consider Edition: current; Page: [71] sufficient security for its repayment; and on the other hand, there are always individuals to be met with disposed to borrow, partly and principally that they may extend their businesses beyond the limits to which they can be carried by means of their own capital, or purchase commodities on speculation, and partly that they may defray debts already contracted. These different classes of individuals mutually accommodate each other. Those desirous of being relieved from the fatigues of business, find it very convenient to lend their capital to others; while those who are anxious to enlarge their businesses, obtain the means of prosecuting them to a greater extent.

It is in the effects resulting from this transference of capital from those who are willing to lend to those who are desirous to borrow, that we must seek for the advantages derivable from credit. All the operations supposed to be carried on by its agency, how extensive and complicated soever they may appear, originate in a change in the actual holders or employers of stock. Nothing, indeed, is more common than to hear it stated that this, that, and the other undertaking is carried on by means of credit; but this is an entire mistake. Wealth cannot be produced, nor can any sort of industrial undertaking be entered upon or completed, without the aid of labour and capital; and credit is neither the one nor the other All that it can do, and all that it ever does, is to transfer capital from one individual to another, a transfer which it is most probable will make it be employed to greater advantage. A few remarks will render this apparent.

It is plain, that to whatever extent the power of the borrower of a quantity of produce, or of a sum of money, to extend his business, may be increased, that of the lender must be equally diminished. The same portion of capital cannot be employed by two individuals at the same time. If A transfer his capital to B, he necessarily, by so doing, deprives himself of a power or capacity of production which Edition: current; Page: [72] B acquires. It may be presumed that this capital will be more productively employed by B than by A; for the fact of A having lent it, shows that he either had no means of employing it advantageously, or was disinclined to take the trouble; while the fact of B having borrowed it, shows that he conceives he can advantageously employ it, or that he can invest it so as to make it yield an interest to the lender and a profit for himself. It is obvious, however, that except in so far as credit may bring capital into the possession of those who may employ it most beneficially, it contributes nothing to the increase of wealth.

The most common method of making a loan is by selling commodities on credit, or on condition that they shall be paid at some future period. The price is increased proportionally to the length of credit given; and if any doubt be entertained with respect to the punctuality or solvency of the buyer, a farther sum is added to the price, to cover the risk that the seller or lender runs of not recovering the price, or of not recovering it at the stipulated period. This is the usual method of transacting business where capital is abundant and confidence general; and there can be no manner of doubt that the amount of property lent in Great Britain, Holland, and other commercial countries, in this way, is very much greater than all that is lent in every other way.

When produce is sold in the way now described, it is usual for the buyers to give bills to the sellers for the price, payable at the expiration of the credit; and it is in the effects growing out of the negotiation of these bills that much of that magical influence that has sometimes been ascribed to credit is believed to consist. Suppose, to illustrate this, that a paper maker, A, sells to a printer, B, a quantity of paper, and that he gets his bill for the sum, payable at twelve months after date: B could not have entered into the transaction had he been obliged to pay ready money; but A, notwithstanding he has occasion for the money, is enabled, by the facility of negotiating or discounting bills, to give the requisite credit, without disabling Edition: current; Page: [73] himself from prosecuting his business. In a case like this, both parties are said to be supported by credit; and as cases of this sort are exceedingly common, it is contended that half the business of the country is really carried on by its means. All, however, that such statements really amount to is, that a large proportion of those engaged in industrial occupations do not employ their own capital merely, but also that of others. In the case in question, the printer employs the capital of the papermaker, and the latter employs that of the banker or broker who discounted the bill. This person had, most likely, the amount in spare cash lying beside him, which he might not well know what to make of; but the individual into whose hands it has now come, will immediately apply it to useful purposes, or to the purchase of the materials, or the payment of the wages of the workmen employed in his establishment. It is next to certain, therefore, that the transaction will be advantageous. But still it is essential to bear in mind that it will be so, not because credit is of itself a means of production, or because it can give birth to capital not already in existence; but because, through its agency, capital finds its way into those channels in which it has the best chance or being profitably employed.

The real advantage derived from the use of bills and bank-notes as money, consists, as will be afterwards seen, in the substitution of so cheap a medium of exchange as paper, in the place of one so expensive as gold, and in the facilities which they give to the transacting of commercial affairs. If a banker lend A a note for £100 or £1,000, he will be able to obtain an equivalent portion of the land or produce of the country in exchange for it; but that land or produce was already in existence. The issue of the note did not give it birth. It was previously in some one’s possession; and it will depend wholly on the circumstance of A’s employing it more or less advantageously than it was previously employed, whether the transaction will, in a public point of view, be profitable or not. On analyzing any case Edition: current; Page: [74] of this kind, we shall invariably find that all that the highest degree of credit or confidence can do, is merely to change the distribution of capital—to transfer it from one class to another. Occasionally, too, these transfers are productive of injurious results, by bringing capital into the hands of spendthrifts: this, however, is not a very common effect; and no doubt they are, in the majority of instances, decidedly beneficial.

The following extract from the evidence of Mr. Ricardo before the Committee appointed by the House of Lords in 1819, to inquire into the expediency of the resumption of cash payments by the Bank of England, sets the principles we have been endeavouring to establish in a very clear point of view.

“Do you not know,” Mr. Ricardo was asked, “that when there is a great demand for manufactures, the very credit which that circumstance creates enables the manufacturer to make a more extended use of his capital in the production of manufactures?” To this Mr. Ricardo answered, “I have no notion of credit being at all effectual in the production of commodities; commodities can only be produced by labour, machinery, and raw materials; and if these are to be employed in one place, they must necessarily be withdrawn from another. Credit is the means, which is alternately transferred from one to another, to make use of capital actually existing; it does not create capital; it determines only by whom that capital shall be employed: the removal of capital from one employment to another may often be very advantageous, and it may also be very injurious.”

Mr. Ricardo was then asked, “May not a man get credit from a bank on the security of his capital which is profitably employed, whether vested in stock or land? and may he not, by means of that credit, purchase or create an additional quantity of machinery and raw materials, and pay an additional number of labourers, without dislodging capital from any existing employment in the country?” To this Mr. Ricardo answered, “Impossible! an individual can purchase machinery, &c. with credit; he can never create them. If he purchases, Edition: current; Page: [75] it is always of some one else; and, consequently, he displaces some other from the employment of capital.”1

It must, however, be observed that these considerations apply principally to the case of those who lend and borrow capital in specified sums and under peculiar conditions. But in addition to the capital lent in this way, a very large amount is lent under what may be called “shop credits,” or by selling goods to customers, to be paid for at their convenience; and we have little doubt that the granting of such credits is, on the whole, most injurious. Rich people may dislike the trouble of paying ready money for what they buy, and it is of little consequence to them whether they do or do not. But it is quite otherwise with the middle and especially with the lower and labouring classes. The facility of obtaining goods on credit, or of which the payment is deferred to some future period, tempts even the most considerate persons to indulge in useless expense, and is inconsistent with and subversive of the spirit of economy. A man of moderate means who pays ready money for whatever he wants, seldom makes unnecessary purchases. He buys those things only which he cannot well do without; and as he is never in debt, and is consequently independent of butchers, bakers, and so forth, he is able to supply himself with articles wherever they can be had best and cheapest. This is an immense advantage. Most people, and especially the poorer classes, when they get considerably indebted to a shop, really become its slaves, and dare not venture to find fault with the price or the quality of the goods they get from it. And hence it is that the circumstance of Co-operative Societies generally dealing for ready money only is one of their principal recommendations. It renders their members more industrious, orderly, and economical than they would otherwise be. We believe indeed that it would be good policy with a view to the diffusion of habits of forethought Edition: current; Page: [76] and economy to take away all power to sue at law for debts under some thirty or fifty pounds. A regulation of this sort would be for the advantage of shopkeepers as well as of their customers. It would make the former more cautious to whom they gave credit, and save them from the frequent losses they incur by the inconsiderate way in which it is too often granted. But it is a mistake to allege that it would either destroy or take away all credit. It would do nothing of the sort, but it would purify and place it on a firm basis. An individual who had failed to make good his engagements, need not, except under very peculiar circumstances, make another application for goods on credit. And hence the acquisition of a character for punctuality, or the exact performance of whatever one undertakes, would be found to be of the greatest importance, and would be sought for accordingly. But the keeping of the poor out of temptation by the check it would give to the machinations of those who wish to enthral them by getting them into their debt, would be its most advantageous effect, and would infinitely more than over balance whatever inconvenience might attend the introduction of the system. The multiplication of courts for the adjudication of debts merely tends to increase the evil. This is a case in which, if we would do any good, we must take the bull by the horns, and hinder the contraction of petty debts with legal liability.

Edition: current; Page: [77]