Leon, in the state of Guanajuato in Mexico, is a city of some 2,000,000
inhabitants and sprawls over miles of a countryside which used to be
farmland. In the 1950's Leon was much smaller, with only about 250,000
inhabitants.
In the 1950's the city was the national center of a bustling
shoe-manufacturing industry. Back then, the Mexican market for shoes was
protected from foreign competition, and Mexico with a population of some 35
million obtained its shoes from Leon manufacturers.
The industrial activity in the production of shoes was intense, and
Capital was always scarce. Money to finance the operations of a multitude of
manufacturers of shoes and related industrial activities was very scarce and
all business faced a constant struggle for liquidity to keep operations
going.
Bank credit was extremely scarce; the productive enterprises related to
the manufacture of shoes could not obtain any significant amount of bank
credit; their discipline in accounting and elaborating financial statements
was minimal - to produce, sell and collect was the immediate necessity - and
could not meet the bureaucratic requirements of the banks.
The struggle to stay in business was an unrelenting ordeal.
The scarcity of money in the productive system led to entrepreneurial
invention to cope with the problem; the entrepreneurs resorted to issuing
post-dated checks, in lieu of money, which they did not have.
A successful businessman might have in a desk-drawer a number of
post-dated checks. Some of the post-dated checks were signed by serious
businessmen, and whoever received their post-dated checks in payment could
rely on collecting cash for them at a future date; others were signed by
less-creditworthy individuals who had a spotty history of not honoring their
post-dated checks promptly on the stipulated date. The acceptability of an
endorsed post-dated check depended on the reputation of the issuer.
The post-dated checks circulated among the producers, often with a long
list (on adding-machine paper) of endorsers' signatures pasted to the check.
Collection of post-dated checks therefore depended on the character of the
individuals that issued them. Collecting could be a time-consuming problem,
but the pressing need of the entrepreneurs to remain in business offered no
other alternative than to accept them in lieu of cash.
The legal process for collecting a post-dated check (in itself an illegal
instrument) which had not been paid in cash was so time-consuming that it was
rarely resorted to. The courts were so bureaucratic that if a post-dated
check could not be cashed after several attempts at pressuring the issuer, it
was simply put in a drawer and written-off.
Some businessmen, however, were of a rash temper and so cash-starved that
they employed the services of a special "collection agency". For
its special services, the "agency" charged a heavy fee.
This "collection agency" consisted of one man, known in Leon as
"El Guero" Marquez. ("Guero" is a colloquial Spanish term
used in Mexico and means
"yellow haired").
An un-cashable post-dated check would be handed over to El Guero, whose
arrival at the office of the issuer of the check caused hands to tremble and
faces to blanch with fear. El Guero would simply present the check and say,
"I'll be around for payment tomorrow." Cash payment was almost
invariably made the next day.
The reason for the speedy liquidation of the post-dated check was that
those who received a visit from El Guero knew that their lives were over if
they did not come forth with the cash to cover the check.
Upon his death, a few years later, one of his relatives revealed that El
Guero had murdered at least 30 men in the course of his career as a collector
of bad checks.
I have described the improvisation to which the entrepreneurs of Leon
resorted to keep their production of shoes flowing. Necessity forced them,
entirely spontaneously and illegally, to invent a cash-substitute; the system
continued to operate up until the 1980's, when new banking regulations forced
the system to close down; it was a system based principally on confidence
that the debtor would fulfill his promise to have the funds in the bank,
against which the post-dated check could be cashed.
I mention this improvisation which took place in Leon, because their
problem - a problem which presents itself in all cases of production of
consumer goods in the division of labor - would not have existed, had they
enjoyed the system of "Real Bills" of the Scottish during the time
of Adam Smith; a system which functioned admirably, supported by a strict
legal penalty for not fulfilling promises of payment.
Briefly, the system of "Real Bills" functioned as follows:
The Manufacturer of shoes sold his shoes to the Retailer. The manufacturer
presented his Bill, payable in 90 days. The retailer "accepted" the
Bill and signed his name to it. This Bill was the next best thing to gold
(which was used as money at that time) because according to the Scottish
legal system, a Bill not paid within 24 hours of its presentation for payment
placed the whole business and personal wealth of the Accepter - in this case,
the Retailer - up for sale at auction; the proceeds to be used to pay the
Bill which the Retailer had not been able to liquidate on time.
The legal system operated effectively to protect the "Real
Bills" system from default by non-payment, and thus avoided the need to
hire a paid killer to enforce payment, as happened from time to time in Leon.
However, the penalty of defaulting on a Bill presented for collection was
not the only factor guaranteeing payment, because the default forever
tarnished the reputation of the Acceptor of the Bill. Enterprises in England
and Scotland proudly put the date of their foundation after their corporate
names, to indicate that they had never once defaulted upon a Bill presented
for collection.
The Manufacturer in possession of a credit instrument which, beyond any
doubt, would be redeemed (in gold, in the XVIIIth Century) at the end of 90
days, went to the Banker (or in fact to anyone who wished to obtain gold at a
discount) and sold his Bill to the Banker at a discount, receiving in
exchange cash funds with which to continue his productive activity.
Alternatively, the Manufacturer might pay the Tanner for the leather he
supplied by endorsing over to him, the Bill accepted by the Retailer.
Thus the whole productive system of Scotland was furnished with liquidity
by the existence of the "Real Bills", a credit system not based on
loans, but on the liquidation by the consumer, of merchandise produced for
consumption within the period of 90 days. There was no need for scarce cash
(gold) to pay for all exchanges.
The charge imposed by the system of "Real Bills" was not
interest, but discount, which are two different concepts applied to differing
operations.
A loan is a credit covered by a promissory note, and is not
self-liquidating - the loan may be renewed. Interest is paid on loans. A Bill
of Sale of merchandise payable in 90 days is self-liquidating because the
merchandise will be sold for cash to the final consumer within 90 days. It is
subject to a discount which varies with the intensity of consumption.
Producers of consumer goods in every part of the world, at any time in
history, require self-liquidating credit to operate efficiently. When they do
not enjoy a legal system which supports the existence of self-liquidating
credit, they resort to improvised alternatives - one of which is to write
post-dated checks, and another, to hire killers to collect dishonored
post-dated checks.
For much more on "Real Bills", see www.professorfekete.com
