Chapter XIII: The Volume of Money and the Volume of Trade--Trade and Speculation (2)

There remains, then, a total of 245 billions of check and money payments which are for something other than the ordinary trade of the country. What do these payments represent? Much of this total represents overcounting and duplications of various kinds, which we shall consider in a later chapter. Much of it also represents speculation and dealings other than speculative in securities. When we seek to find actual figures of transactions in any field, retail, wholesale, or speculative markets, or anything else, it is exceedingly difficult to find anything that approaches the amounts indicated by the banking transactions connected. I do not think that a record of all sales would show retail sales or wholesale sales anything like so great as the figures as we have allowed for them on the basis of the retail and wholesale deposits. When we look at the recorded figures of transactions on the speculative exchanges (or at estimates which competent observers make when records are not available), the figures, though very large, do not begin to equal the banking figures with which we have to deal. The New York Stock Exchange in 1909 showed sales, recorded on the ticker, of nearly 215 million shares of stock, with an approximate value of over 19 billions[271] of dollars. This was not an extraordinary year. In 1901 nearly 266 million shares were sold, in 1905, over 263 millions, in 1906, over 284 millions. A number of other years have approached the figures for 1909. If stock sales be a good index of general speculation, 1909 is a very satisfactory year from which to have got figures, as showing neither extreme speculation, nor extreme dullness--which latter was the case in 1896 when Kinley's other big investigation was made. The figures for shares sold, however, do not exhaust the business done at the New York Stock Exchange. "Odd lots," _i. e._, sales of less than 100 shares, are not recorded on the ticker. Mr. Byron W. Holt estimates that from 25 to 30% would be added if they were counted. DeCoppet and Doremus, of New York, who handle at least as much of the "odd lot" business as any other New York house, have given me the following information about the "odd lot" business: (1) the volume of odd lot sales is, roughly, from 20 to 25% of the volume of hundred share sales; (2) the odd lot business fluctuates in conformity to the hundred share market; (3) the odd lot speculator is just as likely to be a "bear" as is the hundred share speculator, and, in general, odd lot business is like the hundred share business. If we take the figure on which these two estimates agree, 25%, we may add 53-3/4 million shares to our 215, getting 268-3/4 million shares for 1909, with a value of about 24 billions. Bond sales recorded would add about 1 billion more. There are, further, some unrecorded sales, indeterminate in amount, but sometimes very substantial, when brokers have a number of "stop loss" orders. They match these before the market opens, and, if the prices are reached in the actual trading, these sales become effective automatically, without getting on the ticker. How extensive this is cannot be stated. It may sometimes add very substantially.[272] Thus, on the floor of the New York Stock Exchange we have dealings in excess of 25 billions for 1909. This is nearly as large as the figure we have assigned, on the basis of the bank figures, to total retail trade of the country, and it may well exceed the retail trade in fact. Recorded sales on other stock exchanges do not, in the aggregate for the country, bulk very large. For 1910, when New York shares reached 164 millions, the total for Boston, Philadelphia, Chicago, and Baltimore was something over 21 million shares.[273] The New York Curb has had "million share" days, but the average value of shares is low. But the dealings on the floors on the exchanges and "curbs" are far from all of the dealings in securities! Only securities which have been admitted by the authorities are dealt in on the exchanges. The volume of unlisted securities is enormous. Moreover, not all, by any means, of the sales of listed securities take place on the floors of the exchanges. The bond expert of a large banking house in Boston informs me that the "over-the-counter" business in Boston, both for stocks and for bonds, much exceeds the business in the Boston Stock Exchange, and others among Boston brokers have expressed the same opinion. The statement has been repeatedly made in the financial press that of the bonds listed on the New York Stock Exchange, ten are sold over the counter for one sold on the floor. Evidence on this point is not to be had in definite figures, of course, but I have found no one in Wall Street who regards it as extravagant. A single big bank in New York sold $550,000,000 in bonds in 1911--more than half the recorded bond sales on the Stock Exchange.[274] I should not know how to estimate the volume of outside dealings within many billions of "probable error." If ten billions of listed bonds are sold over the counter in New York alone, we may well suppose that the volume of over-the-counter sales of listed and unlisted securities at least is not smaller than the recorded sales on the floors of the exchanges. But this is all guess work. There are no definite data.

For produce, cotton, and grain speculation we have, in general, estimates rather than records. For the Board of Trade, in Chicago, there is one quite striking piece of information. That is that the Federal War Tax of 1 cent per hundred dollars on grain and provision futures on the exchanges produced $2,000,000 in Chicago alone in 1915.[275] For the purposes of the tax, deliveries within thirty days were counted, not as futures, but as "spot" transactions. The tax was collected almost wholly on grain. If the above figure is correct, then it is clear that dealings in these futures of over thirty days aggregated 20 billions of dollars worth. This gives no estimate of spot transactions, which are, however, very great. All this trading involved less than 400,000,000 bushels of grain received at Chicago--a little over a billion bushels were received at all primary markets. The grain received at Chicago was, thus, (at 80 c. per bushel), sold sixty-two times over in these futures, and an unknown number of times in spot transactions. There are further enormous spot transactions in provisions of various kinds at Chicago.

Chicago is the great centre, of course, for this kind of speculation in the United States. It may well be the world's chief market, so far as futures are concerned, though evidence to establish such a thesis is not at hand. London and Liverpool are gigantic centres of commodity speculation. But we have numerous cities in the United States where such speculation is very great. St. Louis, Kansas City, Minneapolis, New Orleans, and other cities are active speculative centres. New York, while small in its volume of grain and produce speculation as compared with Chicago, is the world's centre for cotton speculation, and the world's centre for futures in coffee, though yielding precedence to Havre, Santos and Hamburg,[276] ordinarily, in the volume of spot coffee transactions, and though handling only a very small amount of spot cotton. The volume of cotton sold in an ordinary year in New York is 50,000,000 bales,[277] though only about 160,000 bales are ordinarily received there, in a year.[278] In the five years preceding 1909, the sales on the New York Coffee Exchange averaged over 16 million bags of 250 pounds each.[279] In 1915, 32 million dollars were deposited as margins in connection with this speculation in coffee, and in ordinary years this runs from 25 to 30 millions, according to the Treasurer of the Exchange. The relation between the margins put up and the total pecuniary volume of trading is not indicated, but in most exchanges the actual depositing of margins is a small fraction of the pecuniary magnitude of the turnovers. Both the Cotton and the Coffee Exchanges are international centres. The Coffee Exchange now handles large transactions in sugar, also.

Contacts between the organized exchanges and ordinary business are very numerous. Producers in every line who can do so protect themselves by "hedging" in the exchanges which deal in their raw materials. This is a commonplace, so far as millers are concerned. The writer has found millers in a town off the main lines of the railroads in Missouri who regularly sell short a bushel of wheat on the St. Louis Merchants' Exchange for every bushel they buy to grind. The business man who does not sometime take a "flier" in the market for other than hedging purposes is rare! But, apart from the organized markets there is an immense volume of speculation. If a wholesaler buys only what he can sell to retailers, it is not speculation. But if he buys in excess of the anticipated demands of his retailers, expecting to sell the excess at an advance to other wholesalers, he is speculating. If a farmer buys cattle to feed, he is not speculating, but if he buys them thinking to sell them at an advance in a short time, and does so, the transactions are speculative. The line is not easy to draw, in practice. Intention is shifting and uncertain. There is chance in every industrial, commercial, and agricultural operation. But for the point at hand, the test is simple: do more exchanges take place than are necessary, under the existing division of labor, to advance the materials of industry through the stages of production, and get things finally to the consumer? If so, the excess of exchanges is speculative. Trading between men in the same stage of production is speculation. It represents trading to smooth out dynamic changes, to bring about readjustments which would have been unnecessary had conditions really been static, and had the initial plans of enterprisers been adequate. Trading in anticipation of further trading with men in the same stage of production is speculative. This sort of thing, in the wholesale business, especially, is exceedingly common. This has been noted by Professor Taussig, and made by him an important point in the theory of crises. Dean Kinley[280] called attention to it as a matter of importance in connection with his investigation in 1896. The coming of cold storage, and the development of the canning industry have, I am informed by a colleague in the Harvard Business School, enormously increased this speculation among both wholesalers and retailers, and it is very important in most wholesale lines. There is short-selling in materials for construction purposes, and in metals, apart from organized exchanges, and, where possible, contractors in the building trade often protect themselves by means of future contracts with speculators who are selling short.

Land speculation, in varying volume, is found in every part of the country. There is speculation in leases, in options on real estate, and in options on leases.[281] It may be noticed, too, that sales of "rights," of puts and calls and straddles, and other contract rights, are regular factors in the organized exchanges. Wherever profits are to be made by leveling values as between different places or different times, speculation arises, and, with dynamic change, this means everywhere, in every business, and all the time! The shifting of labor and capital from industry to industry, leveling returns to capital and labor, involves an enormous amount of trading that would not occur in a "normal equilibrium." Much of this the Stock Exchange does. That is what it is for. But much of it has to do with unincorporated industry, and a vast deal of speculative exchanging takes place to this end apart from the organized exchanges.

Speculation in bills and notes, by note-brokers and particularly by dealers in foreign exchange, occurs on a large scale, and accounts for a great deal of the banking figures. This has nothing to do with physically determined trade. From the standpoint of Professor Fisher's "equation of exchange," it must be barred, if the contention that "trade" is determined by "physical capacities and technique" is to be adhered to. Speculation in demand finance bills is barred in any case, since "money against checks," and "checks against checks," are excluded by his definition.[282] But as an explanation of no small part of our unexplained 245 billions of dollars, these items must be brought in. They are "double counting" from the standpoint of Professor Fisher's equation. They are, however, speculation. An official in a great New York banking house, in charge of the foreign exchange department, writes that in times when exchange rates are fluctuating, enormous quantities of drafts on Europe will be bought and sold, during a period of a couple of weeks or months, whereas under other conditions such transactions might amount to little with the same volume of imports and exports. The part of this which is between banks, a very big item, would not count in the 245 billions, but to the extent that foreign exchange brokers outside the banks participate, their activity helps to explain our 245 billions.

If it be true that speculation, including all manner of readjustment to dynamic changes, makes up the overwhelming bulk of trade in the country, then Fisher's _indicia_ of variation in trade, weighted as they are, are totally misleading. The same is true of Kemmerer's _indicia_ of "growth of business."[283] These are: population, tonnage entered and cleared, exports and imports of merchandise, postal revenues, gross earnings of railways, freights carried by railways, receipts of the Western Union Co., consumption of pig iron, bituminous coal retained for consumption, consumption of wheat, consumption of corn, consumption of cotton, consumption of wool, consumption of wines and liquors, market values of reported sales on the New York Stock Exchange. Only the last of these is in any sense an index of speculation. It is swallowed up by being put on a par with the other fourteen items. Its influence on the final index, made by averaging the others is, as inspection shows, virtually _nil_. Out of the twenty-six years his figures cover, the general index moves counter to the share sales 14 times! Utterly random figures would have come nearer to the facts in the case. It is particularly striking that Professor Kemmerer, whose total figures, as Professor Fisher's, rest for their absolute magnitude on Kinley's investigation,[284] should assign 89% of his estimated trade (183 billions in 1890) to wholesale commodities,[285] (with 3% to wages, and 8% to securities), when Kinley's figures show that wholesale deposits are a minor fraction of the total!

The constancy in the figures of these two writers for trade from year to year, a general steady, upward growth, does indeed suggest that trade is determined "by physical capacities and technique," and that it does stand as a great, independent, inflexible factor, independent of money and deposits, constituting a real causal coefficient with them in determining prices. If, however, speculation is as big a factor as our analysis would indicate, then trade is a highly flexible thing, varying enormously from year to year, moved by a multiplicity of causes, among them _fluctuations_ in particular prices, and the ease and tightness in the money market--the quantity of money and deposits.

But quite apart from speculation, it is not true that trade is a mere matter of physical capacities and technique, a passive function of production. Rather, one would almost have to reverse the relation. Production waits on trade!

Production, as now carried on, is primarily conducted in the expectation of _sale_, and of profitable sale. Trade does not go of itself, automatically. Rather, it is a highly difficult matter, calling for the highest order of ability, and the labor of innumerable men. In general, I think it safe to say that in ordinary times, the manufacturer loses vastly more sleep over the question of how he shall market his output, than he does over the question of how he shall produce it. A clerk in the Westinghouse Air Brake Company, engaged in the accounting department, spoke recently to the writer of the "productive end" of the business. On inquiry, it developed that he meant the selling department! He stated that the manufacturing department also, in the language of the employees, in that corporation, would also be termed "productive," but that the selling department was _the_ productive department.

If one reflects a little as to the proportion of "costs" that go into selling, as compared with technical "production," I think my point will be clearer. Advertising has developed so enormously that it needs little discussion. It has been stated that the "Sapolio" people once tried, after their reputation seemed thoroughly established, to stop advertising, with such disastrous results that very extraordinary efforts were required to reestablish the brand. Number 2 wheat is not advertised, in the great magazines, but innumerable brands of flour get newspaper and magazine advertising,--some of them in such a periodical as the _Saturday Evening Post_, and even those which are locally consumed are commonly advertised in the local press. Nor is it only finished products, of the sort that must be sold to the fickle public, that involve these heavy selling costs. The writer has in mind a corporation producing a high-grade type of glazed retort, in the production of which it has virtually a monopoly, since the clay with which it is made does not coexist with the skill to make it in any other place. The particular product is an indispensable part of many important technical processes. Substitutes made of other clays, and by other companies, are known by the trade to be unsatisfactory. The buyers are all highly trained business men. Here, if anywhere, selling costs should be slight. But the chief selling agent of the corporation has found it necessary, in order to keep the business going, to incur huge expenses for entertaining his customers, finds it necessary to incur great travelling expenses, to use only the most expensive hotels, and, incidentally, to drink a great deal more than his personal inclinations would call for, in keeping the business for his house. I waive discussion of the extraordinary fees which a trust promotor makes, in effecting a consolidation of big business units,--a process of exchange. I am speaking now of the ordinary costs involved in ordinary trade. The army of travelling salesmen, the body of stenographers, who write letters, with various "follow-ups," in the effort to get more business, the growing complexities of such letter writing, in which all suspicion of "circularizing" must be allayed, one-cent stamps being absolutely taboo!--these things are the commonplaces of business. They are in the primers in the "commercial colleges" and "schools of commerce." Only the orthodox economist, with his doctrine of the impossibility of general overproduction, is ignorant of them!

This feature of modern business has been much elaborated in a recent book which has not received the attention it merits--though its strength is rather in criticism than in constructive doctrine. I refer to Dibblee, _The Laws of Supply and Demand_.[286] Dibblee makes an interesting contrast between commercial and manufacturing cities, maintaining that the former necessarily outgrow the latter--a contention which London, New York, Chicago and other places strikingly illustrate. He presents a truly remarkable fact about London:[287] a recent report of the Commission on London Traffic states that there were in London 638 factories registered as coming under the Factory Acts, with an average horse-power of 54. The total power employed within the London area under the Factory Acts, chiefly used in newspaper printing, was 34,750 horse-power--just one-half of what is required for the steamship, Mauretania! This is the greatest city in the world. What do its millions do for a living?[288] The town of Oldham,[289] he asserts, with 100,000 inhabitants, has spindle capacity enough to supply more than the regular needs of the whole of Europe in the common counts of yarn. To _market_ the output of Lancashire, "the merchants and warehousemen of Manchester and Liverpool, not to mention the marketing organization contained in other Lancashire towns, have a greater capital employed than that required in all the manufacturing industries of the cotton trade." Accurate estimates of the proportion of "selling costs" to costs of technical production are doubtless impossible, for the general field of trade, and precision is unnecessary for my purposes. Dibblee's conclusion, after contrasting retail and wholesale prices, and analyzing the expenses incurred in selling prior to the wholesale stage, is that the cost of marketing is at least equal to "real cost of production," occasionally only slightly below it, and often far above it (62).[290] If one considers how large the item of "good will" often bulks in the value of "going concerns"[291]--good will being in large degree often just a capitalization of prior costs of this nature--Dibblee's estimate need not be exaggerated. Trade connections, trade-marks that have reputation, etc., often represent enormous output in thought, work, and expense. Selling costs may, like other costs, be divided into "prime" and "overhead" costs. Some of the latter lead to long-time consequences, pay for themselves only in the long run. These may be "capitalized" in "good will."[292] Of course, not all good will is got at a cost. Much of it is adventitious.

In the light of the doctrine that trade is independent of money and credit, one wonders why it should be thought necessary to extend branches of American banks to the South American markets which we are now reaching out toward. And why have Americans, from the beginning, been constantly increasing commercial banks?[293] It is easy to sneer at the efforts of the successive frontiers in our history to provide themselves with banks of issue as based on a delusion, the delusion that bank-notes are "capital," and to say that their real need was, not more bank-credit, but more real capital. They needed more tools and live-stock, doubtless, but is that the whole story? And were their banks of no assistance in getting the additional capital of various sorts? And was it a matter of no consequence that they had an abundant medium of exchange? It seems almost childish to put such questions, but the quantity theory has as its logical corollary that to multiply banks is quite useless and wasteful, since the only result is to raise prices. If increasing bank-credit cannot increase trade or production, this corollary is inevitable. Indeed, the case may be more strongly stated. Quite apart from the wasted labor of bank-clerks and the waste of banking capital, the effect of increasing bank-development, on quantity theory reasoning, is harmful. If increasing bank-credit is to raise prices without increasing trade, then, on quantity theory reasoning, it must _depress_ business. The reason is that rising prices in a given region make that region a bad place to buy in, and so curtail its exports. This is, indeed, the quantity theory explanation of international trade, to which attention is later to be given. The country which is expanding its banking facilities most rapidly will suffer most in competition in the world markets. This is why the United States have so little foreign trade! It also explains the rapid strides that China and Central Africa have recently made in capturing the world's markets. I submit that there is no flaw in this argument, if the premise of the independence of volume of trade and volume of bank-credit be granted. It follows from the quantity theory. That it is no caricature of Fisher's argument will appear, I think, from the following quotation,[294] which very nearly states what I have just been saying, though it does not draw the conclusion that banking is a bad thing: "The invention of banking has made deposit currency possible, and its adoption has undoubtedly led to a great increase in deposits and consequent rise in prices. Even in the last decade the extension in the United States of deposit banking has been an exceedingly powerful influence in that direction. In Europe deposit banking is in its infancy."[295] Happy Europe, troubled only by war! It is greatly to be hoped, in the interests of American agriculture, that the efforts to increase agricultural credit facilities will fail!

We are driven to one of the most fundamental contrasts in economic theory, which appears under various guises and in different forms: statics _vs._ dynamics; transition _vs._ equilibrium, theory of prosperity _vs._ theory of goods; normal tendency _vs._ "friction."[296] Perhaps Professor Fisher, and the quantity theorist in general, would dismiss many of these considerations as not applicable to the general principle, which is a "normal" or "static" or "long run" law, not subject to considerations of this sort. It is scarcely open to Fisher to defend himself this way, because of his exceedingly uncompromising statement regarding even "transitional" relations between volume of trade and money and credit. I shall not reply to anyone who offers such an objection by a general tirade against "static economics." I believe thoroughly in the method of economic abstraction, and in reaching general principles by ignoring, provisionally, in thought the "friction" and "disturbing tendencies" which often make the first approximations look somewhat unreal. But I raise this question: to what feature of our economic order do we chiefly owe it that we can make such abstractions? By virtue of what does friction disappear? What is it that makes our abstract picture of economic life, as a fluid equilibrium, with its nice marginal adjustments, its timeless logical relations, correspond as closely as it does to reality? The answer is: MONEY and CREDIT.[297]

It is the _business_, the _function_, of money and credit, as instruments of exchange, to bring about the fluid market, to overcome friction, to effect rapid readjustments, to give verisimilitude to the static theory, to make the assumptions of the static theory come true. Where exchange is easy and friction slight, there will not be two prices for the same good in the same market. Speculators, seeking profits of fractions of a point, will prevent that. By multiplying exchanges, they will level off values and prices. Because money and credit have done their work so thoroughly in the "great market," it is possible for men to talk about static theory, and to work out economic laws in abstraction from friction, transitions, and the like.

In the static state, all speculation is banished. There are no price-fluctuations to be smoothed out, no new prospects to be "discounted," no uncertainties to be guarded against by "hedging." Seasonal goods will, of course, have to be carried over from one season to the next, but this will involve merely warehousing and the use of capital--"time speculation," involving many sales, does not come in. One sale to the capitalist who carries the seasonal goods, with a sale by him to the man who means to use them, will suffice. It has been shown before that the great bulk of trade is speculation. But speculation is banished from the static state. Speculation is a function of dynamic change, waxing and waning with the degree of uncertainty that exists, the new conditions to which readjustments have to be made, the "transitions" that have to be effected. In other words, the laws governing the volume of trade are dynamic laws, laws of "transition periods," and so the whole notion which underlies the quantity theory, of "normal periods," "static" relations, etc., is here irrelevant. Volume of _trade_, as distinguished from volume of _production_, is controlled by the number and extent of the "transitions" that have to be made. The chief work of money and credit is done _in_, and _because of_, "transition periods." Assume a normal equilibrium accomplished, and you have little trading left to do. It will still be necessary, if you have the division of labor, and private enterprise, for goods to pass through as many different hands as there are different independent enterprisers in the stages of production, and on, through merchants, to the consumer. It will still be necessary to pay wages, rents, dividends and interest. But there will be no selling of lands, of houses, of factories, of railroads, or of securities representing these. By hypothesis these are already in the hands best qualified to hold them. The "static equilibrium" presents "mobility without motion, fluidity without flow."[298] The static picture is a picture of completed adjustment, where no one has an incentive to change his work, or his investments, because he has already done the best that he can for himself. It is, therefore, a picture of a situation where there is little incentive for those exchanges which make up the great bulk of the volume of trade in real life.

Hence the curious phenomenon that very much of static theory has been developed in abstraction from _money_ and _credit_. Mill's theory of international values, for example, abstracts from money. "Since all trade is in reality barter, money being a mere instrument for exchanging things against one another, we will, for simplicity, begin by supposing the international trade to be in form, what it is in reality, an actual trucking of one commodity against another. So far as we have hitherto proceeded, we have found the laws of interchange to be essentially the same, whether money is used or not; money never governing, but always obeying, those general laws."[299] Other writers have similarly held that money is a mere cloak, covering up the reality of the economic process. Schumpeter, for example, holds that money is, in the static analysis, merely a "Schleier," and that "man nichts Wesentliches uebersicht, wenn man davon abstrahiert."[300] _On the static assumptions_, of the fluid market, with friction, etc., banished, money is, indeed, anomalous and inexplicable. It is a cloak, a complication, a vexatious "epi-phenomenon." There is nothing for it to do, and there can be, consequently, no "functional theory" developed for it. Static theory may be ungracious in ignoring its own foundation. But static theory is grotesque when it seeks to support its own foundation! Static theory is possible only on the assumption that the work of money and credit has been done. What, then, shall we say of static theory which seeks to explain the work of money and credit? Yet precisely this is what is undertaken by the quantity theory, with its "normal" or "static" laws of money and credit. A functional theory of money and credit must be a dynamic theory. To talk about the laws of money, "after the transition is completed" is to talk about the work money will do after it has finished working. For a functional theory of money and credit, we must study the obstacles that exist to prevent the fluid market. We must study friction, transitions, dynamic phenomena.

To this problem we shall come in Part III. For the present, I am content to have disproved the quantity theory contention that the volume of trade is independent of the quantity of money and credit.