the exigencies of the quest of profits, as conditioned by the larger industry and the more sweeping business organization of the last few decades, the question of capital in business has increasingly become a question of capitalization on the basis of earning-capacity, rather than a question of the magnitude of the industrial plant or the cost of production of the appliances of industry. From being a sporadic trait, of doubtful legitimacy, in the old days of the "natural" and "money" economy, the rate of profits or earnings on investment has in the nineteenth century come to take the central and dominant place in the economic system. Capitalization, credit extensions, and even the productiveness and legitimacy of any given employment of labor, are referred to the rate of earnings as their final test and substantial ground. At the same time the "ordinary rate of profits" has become a more elusive idea. The phenomenon of a uniform rate of profits determined by competition has fallen into the background and lost something of its matter-of-fact character since competition in the large industry has begun to shift from the position of a stable and continuous equilibration to that of an intermittent, convulsive strain in the service of the larger business men's strategy. The interest of the business community centres upon profits and upon the shifting fortunes of the profit-maker, rather than upon accumulated and capitalized goods. Therefore the ultimate conditioning force in the conduct and aims of business is coming to be the prospective profit-yielding capacity of any given business move, rather than the aggregate holdings or the recorded output of product.
But this latest development in the field of industrial business has not yet come to control the field. It is rather an inchoate growth of the immediate present than an accomplished fact even of the recent past, and it can be understood only by reference to those conditions of the recent past out of which it comes. Therefore it is necessary to turn back to a further consideration of the old-fashioned business traffic as it used to go on by the competitive method before the competitive order began seriously to be dislocated and take on an intermittent character, as well as to a consideration of that resort to credit which has, in large part, changed the competitive system of business from what it was at the beginning of the nineteenth century to what it has become at its close.
Value of Loan Credit
(The Use of Loan Credit)
Credit serves two main uses in the regular course of such business as is occupied with the conduct of industry. - (a) that of deferred payments in the purchase and sale of goods - book accounts, bills, checks, and the like belong chiefly under this head; and (b) loans or debts - notes, stock shares, interest-bearing securities, deposits, call loans, etc., belong chiefly here. These two categories of credit extension are by no means clearly distinct. Forms of credit which commonly serve the one purpose may be turned to the other use; but the two uses of credit are, after all, broadly distinguishable. For many purposes of economic theory such a distinction might not be serviceable, or even practicable; it is here made merely for present use. It is chiefly with credit of the latter class, or rather with credit in so far as it is turned to use for the latter purpose, that this inquiry is concerned.
Suppose due credit arrangements have already been made - in the way of investments in stocks, interest-bearing securities and the like - such as to place the management of the industrial equipment in competent hands. This supposition is not a violent one, since a condition roughly approximating to this prevails in any quiescent period of industry when there is no appreciable depression. Under these "normal" conditions, the capital invested in any given industrial venture is turned over within a certain, approximately definite, length of time. The length of time occupied by the turnover may vary from one establishment to another, but in any given case the length of the turnover is one of the important factors that determine the chances of gain for the business concern in question. Indeed, if the general conditions of the trade and of the market are given, the two factors which determine the status and value of a given sound concern, as seen from the business man's standpoint, are the magnitude of the turnover and the length of time it occupies.
The business man's object is to get the largest aggregate gain from his business. It is manifestly for his interest, as far as may be, to shorten the process out of which his earnings are drawn,54 or, in other words, to shorten the period in which he turns over his capital. If the turnover consumes less than the time ordinarily allowed in the line of industry in which he is engaged, he gains more than the current rate of profits in that line of business, other things equal; whereas he loses if the turnover takes more than the normal time. This fact is forcibly expressed in the maxim, "Small profits and quick returns." There are two chief means of shortening the interval of the turnover, currently resorted to in industrial business. The first is the adoption of more efficient, time-saving industrial processes. Improvements of industrial plant and industrial processes having this in view are gaining in importance in the later developments of business, since a closer attention is now given to the time element in investments, and great advances have been made in this direction.55 A second expedient for accelerating the rate of turnover is the competitive pushing of sales, through larger and more urgent advertising and the like. It is needless to say that this means of accelerating business also receives due attention at the hands of modern business men.
But the magnitude of the turnover, "the volume of business," is of no less consequence than its rapidity. It is, of course, a trite commonplace that the earnings of any industrial business are a joint function of the rate of turnover and the volume of business.56 The business man may reach his end of increased earnings by either the one or the other expedient, and he commonly has resource to both if he can. His means of increasing the magnitude of the turnover is a resort to credit and a close husbanding of his assets. He is under a constant incentive to increase his liabilities and to discount his bills receivable. Indebtedness in this way comes to serve much the same purpose, as regards the rate of earnings, as does a time-saving improvement in the processes of industry.57 The effect of the use of credit on the part of a business man so placed is much the same as if his capital had been turned over a greater number of times in the year. It is accordingly to his interest to extend his credit as far as his standing and the state of the market will admit.58
But on funds obtained on credit the debtor has to pay interest, which, being deducted from the gross earnings of the business, leaves, as net gain due to his use of credit, only the amount by which the increment of gross earnings exceeds the interest charge. This sets a somewhat elastic limit to the advantageous use of loan credit in business. In ordinary times, however, and under capable management, the current rate of business earnings exceeds the rate of interest by an appreciable amount; and in times of ordinary prosperity, therefore, it is commonly advantageous to employ credit in the way indicated. Still more so in brisk times, when opportunities for earnings are many and promise to increase. To turn the proposition about, so as to show the run of business motives in the case: whenever the capable business manager sees an appreciable difference between the cost of a given credit extension and the gross increase of gains to be got by its use, he will seek to extend his credit. But under the regime of competitive business whatever is generally advantageous becomes a necessity for all competitors. Those who take advantage of the opportunities afforded by credit are in a position to undersell any others who are similarly placed in all but this respect. Speaking broadly, recourse to credit becomes the general practice, the regular course of competitive business management, and competition goes on on the basis of such a use of credit as an auxiliary to the capital in hand. So that the competitive earning capacity of business enterprises comes currently to rest on the basis, not of the initial capital alone, but of capital plus such borrowed funds as this capital will support.
The
