In recent months we have witnessed the development of a myriad of liquidity generating "solutions." The Federal Funds Market has been joined by new branches in Nassau to raise Eurodollars, some banks have announced programs to participate loans in the money market, either under their guarantee or supported by their letters of credit and, finally, of course, bank holding companies have begun to announce the issuance of commercial paper. I submit we should not look at these as "solutions," but rather "symptoms" of an obsolete mechanism unequal to the task facing the country today, and clearly incapable of coping with the problems we are bound to face in the 70's.

Those of us buying Eurodollars today at over 8% to make prime-rate loans at 7-1/2%, or participating loans against our letters of credit, are sending out a message loud and clear that the commercial banker today is willing to pay a handsome price to continue to supply his customer's credit needs. Our record is clear in this respect. We have demonstrated our desire to assume the risks as the nation's credit intermediaries. No one will deny our right, title and interest in this function. A highly respected justice of the Supreme Court, Justice Cardozo, in 1930, put our role and function in the credit markets in very clear perspective. In the Case of Block vs. Pennsylvania Exchange Bank, he said, "The central function of a commercial bank is to substitute its own credit which has general acceptance in the business community for the individual's credit, which has only limited acceptability ... A bank manufactures credit by accepting the business paper of its customers as security in exchange for its own bank credit in the form of a deposit account ... A bank stands ready to exchange its own credits for those of its customers ... Whatever is an appropriate and usual incident to this substitution or exchange of credit, instead of being foreign the functions and activities of banking, is in truth of their very essence. It is the end for which a bank exists."

The problem, then, is how to translate our proven capacity and appetite for taking credit risks into a productive role for the economy and a profitable activity for our stockholders. One way out of the room is to solve the problem on the supply-of-funds side of the equation. I wouldn't want to make any bets on the near-term likelihood of relief under Regulation "Q," despite the fact continued growth in the money market mechanisms operating outside of the banking system, commercial paper, complicates the Feds monetary control program. We can't wish the inflationary bias away. Without substantial relief under "Q," in both rates and in terms, there is not much chance for the very near-term future that we will successfully reverse the wave of disintermediation which is taking place through a combination of substantial corporate liquidity and open-market borrowing activity by major corporations. Assuming that we cannot solve the problem through the funds-supply side of the equation without conflicting with the Feds responsibility to control the money supply, we clearly have to look in another direction.

Someone once told me that whenever I read a new book I should read an old one and I propose that we do just that. There is a book called, "The Bill on London." This book describes the history of the Bill of Exchange and carries the family tree of the Bill of Exchange back to the 4th Century before Christ. The mechanism has survived the intervening centuries and developed into what is known to us today as the Acceptance. The Acceptance has achieved its widest use and application in the London Money Market. As you know, it fulfills basically two functions. In international trade a bill drawn by a buyer is accepted by a bank or accepting house which assumes the credit responsibility and, in turn, removes the burden of financing goods in transit from the seller, if he elects to have the Acceptance discounted in the money market. The Acceptance is also used in London to provide short-term credit to trade and industry and, in this case, the underlying transaction is not necessarily international trade, but can be a bill drawn to finance seasonal or other short-term requirements. This variation to the theme is called a "Finance Bill". The intriguing characteristic of this two thousand year old mechanism is that it has direct application to the dilemma commercial banks face in this country today. The Acceptance mechanism permits the bank or accepting house to undertake the credit risk without necessarily having to provide the funds. Perhaps this is the time for us to reexamine the use of this tried and true method of financing as a long-range solution to our problem?

Does this transaction make sense to you in today's tight-money climate? A bank executes an Acceptance Agreement with a commercial customer which simply states that the bank will accept drafts drawn by the customer on the bank up to 180 days sight. The terms of the agreement would include a limit on the total amount of Acceptances outstanding at any one time, and a statement by the customer that the purpose of the financing was to carry his normal receivables and inventory requirements. The customer would then draw a draft on the bank, which it would accept in accordance with the agreement. The customer would obtain his funds by discounting the acceptance in the open market.

What have we done? The banker has performed his historic role, the one he knows best, that of the financial intermediary. He has substituted his bank's name for his customer's for a price, the Acceptance commission. The discount mechanism gave the customer access to the liquidity of corporations supplying funds to the commercial paper and other short-term money markets. The mechanism has achieved one other important objective. It has permitted the banker, in times of tight money, to satisfy the credit requirements of his medium-sized customers as well as his large customers. The smaller customer will pay a higher acceptance commission, but the Banker's Acceptance gives him direct access to a market for funds which otherwise would not have been available to him. His Banker's Acceptance has made his paper prime. The price to the customer is the discount rate of a prime Banker's Acceptance, today 6-3/4, plus an Acceptance commission, at present standard at 1-1/2%, or 8-1/4%.

Assuming this makes sense, how do we get there from here? The mechanism I have just described would not be an eligible Acceptance under present regulations. The Federal Reserve Act, Section 13, has set the following ground rules for eligibility: the Acceptance must represent the financing of a transaction which is either (1) the importation and exportation of goods, (2) the shipment of goods within the United States providing shipping documents conveying or securing title are attached, or (3) the storage in the United States or in any foreign country of readily marketable staples provided the draft or bill of exchange is secured at the time of the acceptance by a warehouse receipt. These incredibly archaic rules haven't even been updated to accommodate domestic shipment by air or containers. These carriers do not issue title documents. Furthermore, there seems little doubt that the drafters of the Federal Reserve Act in 1913 were probably more concerned about the liquidity of the Federal Reserve Banks themselves than they were about the private commercial banking industry. Under those circumstances, it is easily understood why they were so preoccupied with the importance of underlying transactions and commodities.

In any event, we could ask the question why is eligibility so important? From the standpoint of the purchaser of an Acceptance, eligibility may not be as important as it was in the early years of this Century. If it were, one-name paper of commercial banks in the form of negotiable CD's could never have been successfully introduced. I don't see a problem in marketing ineligible Acceptances, nor does it appear that new legislation is necessary to set an ineligible Acceptance mechanism in motion.

However, there is one gray area that you will have to explore with your counsel. Because under present regulations it would not be eligible for rediscount at the Federal Reserve Bank, an ineligible Acceptance may have to be included as borrowed funds for purposes of calculating your debt limit. Therefore, the growth of the ineligible Acceptance mechanism is likely to be constrained until eligibility requirements have been amended.

The Fed has indicated its willingness in the past to consider amendment of the present restrictive eligibility requirements of the Federal Reserve Act. A year or so ago, they went one step further and sent out a questionnaire to many banks on the subject of changing the eligibility requirements with respect to Acceptances. The regulators appear receptive to constructive suggestions for change. We don't have to rewrite the Federal Reserve Act tomorrow, but we should know which parts of the old machine need to be replaced and then get on with the job of replacing them. Acceptance eligibility requirements should be the first step.

Finally, we should recognize that neither this plan nor any of the "other solutions" will be successful escape hatches for banks trying to avoid restrictive monetary policies. This proposal is an attempt to smooth out the allocation of liquid assets to the country's borrowers with the commercial banker playing his rightful role of the intermediary, judging and assuming the risks of short-term credit.

As Justice Holmes once wrote, "The life of the law has not been logic, it has been experience." And as experience shows conclusively, the institution which is not allowed to compete, sooner than later belongs to yesterday.