Review of theoretical and practical situations
Issuance of Credit
Creditors sometimes require no other assurance of repayment than the debtor's credit standing, that is, one's record of honesty in fulfilling financial obligations and one's current ability to fulfill similar obligations. Sometimes more tangible security, such as the guarantee of a third party, is required. Also, the debtor may be obliged to assign the rights to some other property, which is at least equal in value to the loan, as collateral security for payment. Bonds placed on sale by a corporation are often secured by a mortgage on the corporation's property or some part of it. Public borrowing, as by the issuance of bonds of a government, is usually unsecured, resting on the purchaser's confidence in the good faith, taxing power, and political stability of the government. When goods are sold on a deferred-payment plan, the seller may either retain legal ownership of the goods or hold a chattel mortgage until the final payment is made. The depositing of funds in a bank for safekeeping may also be regarded as a form of credit to the bank, as such funds are used for loan and investment purposes, and the bank is legally bound to repay them as an ordinary debtor.
The groundwork of the American credit system was laid early in the history of the U.S. The 18th-century (public) loan offices and (private) land banks were the first American credit institutions. The Bank of North America, chartered in 1781, was the first commercial bank. The U.S. Constitution, by affording protection to private property, by prohibiting laws impairing obligations of contracts, and by ruling out
fiat money, did much to set the stage for the growth of many new credit institutions. Among those that arose during the succeeding half century were business corporations, the stock exchange, trust companies, savings banks, many more commercial banks, and credit-rating firms. The development of a national banking system during and after the American Civil War, culminating in the creation of the Federal Reserve System in 1913, enormously enhanced the role of credit. In recent decades an estimated 90 percent of all business in the U.S. has been transacted by means of bank credit.
Rates of interest charged by banks are influenced by discount rates, or the rates the banks have to pay central banks on loans and discounts. In this way the discount policy is a means of regulating the volume of bank credit. Formerly, when credit control was not common and the international gold standard was in operation, discount rates were influenced chiefly by the movement of gold; an increase in the rate caused an inflow of funds from abroad and a drop in the rate caused a flow of funds out of the country. Between 1931 and 1936 all nations abandoned the gold standard. Today governments employ numerous forms of credit control, and monetary standards themselves are based on the credit of each nation.
The workings of credit control are well illustrated by the operations of the Federal Reserve System, which influences the volume of credit by buying and selling government securities, changing requirements for depository institutions, setting the discount rate, and altering margin requirements on security purchases.
Since the Truth in Lending Act became effective in 1969, advertisers of consumer credit have been required to reveal all relevant terms of their credit extensions if they advertise any one specific credit term, such as the down payment required, the amount of any installment payment, or the dollar amount of the finance charge.
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