So here goes…to avoid the time, risk, and hassle of constantly sending specie back and forth over long distances to pay for goods, merchants*, factors, planters, and other actors engaged in long-distance trade used credit instruments. One in particular, the bill of exchange, was central to Anglo-American trade and a fixture of commerce throughout the Mississippi River Valley. Bills of exchange were written orders to pay a given amount of money after a stated interval. Short-term (60-90 days) and highly liquid (easily convertible to cash), these orders most often represented the value of some consigned commodity, usually cotton. The closest modern equivalent to a bill of exchange is an international check. Merchants had used bills of exchange to settle accounts since the sixteenth century. The point of them was to connect buyer and seller in an efficient manner.⍒
Financial historians often give examples to show how bills of exchange passed from hand to hand. While conveying a complex reality to the reader, these explanations, unfortunately, often do more harm than good. They leave the reader with a head-spinning sensation, and not in a good way! So here's my own example...Let's say a Mississippi planter wished to buy manufactured goods for his plantation. After the fall harvest, the planter gave his cotton crop to a factor, or middle man. The value of the planter's cotton was $1,000 and the factor would make arrangements to ship the crop to New Orleans. Next, the factor would draw up a bill of exchange for $1,000 and give it to the planter. The bill would be "drawn on" the BUS branch in New Orleans, payable in 90 days.⍹ With bill in hand, the planter could then walk into the Second Bank’s branch office in Natchez. In a process called discounting, the Bank took possession of the bill, deducted interest up front, and gave him $985 in bank notes (a circulating medium that functioned as cash), which the planter would then use to buy manufactured goods at a local store.⍬
I deliberately left out a few other details in this transaction so as to not overwhelm the reader. Virtually everyone who participated in a market economy relied to some degree or another on credit, mostly because there was a delay between the time a product was produced and when it was consumed. Bills of exchange were one way of providing this credit. In effect, the planter received payment several months before his cotton shipped from New Orleans to New York and then on to Great Britain. Rather than waiting long periods of time for the transportation of specie, BUS branch officers in New Orleans and Natchez merely made entries in their account books, shipping specie only when necessary or when exchange rates made it more profitable.
Bills of exchange served a variety of purposes but in this context they were facilitating Anglo-American trade. It was through cotton sales that American merchants settled foreign debts with Great Britain. Americans were unable to use bank notes to pay foreign debts, but foreign bills of exchange in pound sterling, whose value was based upon the price of cotton, helped Americans secure British credit, buy British manufactured goods, and make payments to the British bondholders who owned American securities (Lepler 17). Access to British capital, thus, depended in large part on Americans’ ability to grow and export cotton, the crucial ingredient without which England’s workshop of the world, its textile mills, would have been unable to function.
The Second Bank of the United States (BUS) was the nation's largest dealer in domestic and foreign bills of exchange. The BUS had an interesting and unique relationship with bills of exchange. If you are curious and want to know more, be sure to look out for my eventual book, and perhaps an article on the subject.
* Merchant, a generic term, could refer to any number of occupations, including: a traveling peddler; an owner of a country store; a dry-goods retailer; an exporter; a wholesale jobber devoted to one particular line of goods; or an importer.
⍒ Bills could pass from hand to hand, but unlike bank notes, they required endorsements, or signatures, for each transaction. The price that individuals paid to obtain bills of exchange (the exchange rate) depended on supply and demand. The interest rate charged by banks for purchasing bills of exchange—and handing out notes in return as part of the discount process—was usually 6-8%. Condy Raguet, A Treatise on Currency and Banking (Philadelphia: Crigg & Elliot, 1840); Robert E. Wright, The First Wall Street: Chestnut Street, Philadelphia, and The Birth of American Finance (University of Chicago Press, 2005).
⍹ In the accounting parlance of the times, “drawn on” or “drawn against” meant that the credit instrument, once negotiated, or cashed, would deduct funds from that particular locale. A bill “drawn on New Orleans” would deduct funds from a financial institution in New Orleans.
⍬ The author wishes to thank Robert Wright and Richard Kilbourne for patiently explaining the intricacies of this labyrinthine credit system. In this hypothetical transaction, the BUS lent to the planter at 6% interest, which was the price the planter paid for the risk that he would be unable to pay back the loan. At the end of the ninety days, when the bill came to maturity, or fell due, the factor paid back the full $1,000 to the bank. This example is a simplified version demonstrating only one component of a complex network of trade and credit instruments involving several financial institutions. For each transaction recorded in New Orleans, there was likely a corresponding trade involving other credit instruments from New York banks and London mercantile houses.Even two hundred years ago, the number of different actors and occupations brought together for a seemingly simple transaction such as transferring Mississippi cotton to Manchester textile factories was surprisingly complex.
Value: 500 pounds sterling
Duration: Sixty Days After Sight
Date: August 27, 1836
Drawer: The Bank of the United States. This is the person or firm drawing up the bill. It is usually stated at the bottom, right-hand corner of the check. The President of the Bank, Nicholas Biddle, has left a signature, or endorsement, along with the Bank's cashier, Samuel Jaudon.
Drawee: Baring Brothers, London. This is the person or firm upon whom the bill is drawn. The drawee is typically listed on the bottom, left-hand side of the bill. I know, kinda confusing, so let's think of it this way: When the bill is negotiated, or cashed, funds would be deducted from this person or firm. Perhaps another way to think about this transaction is that the drawee is the person or firm putting forth the funds in this transaction. This is the person extending credit.
Payee: N. Robinson, the Second Bank's agent in Great Britain. The person or firm who will eventually receive payment in this transaction. If you've ever written a rent check to your landlord, your landlord is the payee. When the payee receives this bill, s/he will sign the back of the bill.
Explanation: This is a foreign bill of exchange drawn by the Bank of the United States (drawer), drawn upon--or drawn on--Baring Brothers (drawee), in favor of N. Robinson (payee). The duration of "sixty days after sight" means that the payee will have to wait 60 days before he can access the funds. After that 60 days, Robinson (the payee) could go to Barings (drawee) to receive funds, or alternatively, he could pass the bill onto someone else. The Bank of the United States kept an account with Baring Brothers, a merchant banking firm in Great Britain. Barings and the BUS were two of the most significant financial intermediaries that helped facilitate Anglo-American trade. So when American cotton exporters shipped cotton to Great Britain and when the British, in turn, bought American securities and sold manufactured goods to Americans, they relied on Barings, the Bank of the United States, and the Bank of England to keep all of this in motion without too much inconvenience to importers, exporters, producers, and consumers. Barings extended credit to the Bank of the United States. At the time, the pound-to-dollar ratio was about 5:1, so 500 pounds would have been about 2,500 dollars at the time. If you want a modern equivalent, and you want it to be precise, use the MeasuringWorth website and enter in the figures. As a general rule of thumb, multiply by about 40-50 to get the equivalent in modern US dollars. So $2,500 would be about $100,000-125,000, a lot of money! We should regard this not as an exact equivalent, but an estimate with many caveats. At the end of my most recent article in American Nineteenth Century History, I explain all of the reasons why it is so difficult to take a dollar in the 1830s and find an exact equivalent in today's dollar.
If you look at the back of the bill, shown below, you will see "Pay Malcolm & Co. or order" and then an endorsement of an agent below. To wrap up, the BUS is drawing on its foreign funds to pay Malcolm & Co (most likely) for British manufactured goods that will be imported to the United States. Bills of Exchange did not have to be cashed right away. In fact, they could pass from hand to hand, almost in the same way that cash would circulate from hand to hand (except that with a bill of exchange one would deduct interest).^