Sunday, December 31, 2017

A short history of banking


The earliest-known money-lending activities have been identified in historical civilizations and societies including Assyria, Babylon, ancient Greece, and the Roman Empire. Modern-day banking can be traced back to medieval and early Renaissance Italy, where privately-owned merchant banks were established to finance trade and channel private savings into government borrowing or other forms of public use. Private banks were typically constituted as partnerships, owned and managed by a family or some other group of individuals, and operating without the explicit sanction of government. Amsterdam became a leading financial and banking centre at the height of the Dutch Republic during the 17th century; succeeded by London during the 18th century, partly as a consequence of the growth in demand for banking services fuelled by the Industrial Revolution and the expansion of the British Empire. The first shareholder-owned bank in England was the Bank of England, founded in 1694 primarily to act as a vehicle for government borrowing to finance war with France. Despite its important role in raising public finance, the Bank of England did not assume its modern-day position as the government’s bank until the 20th century.

Acceptance of the principle that banks could be owned by large pools of shareholders was key to the evolution of modern commercial banks. Shareholder-owned banks could grow much larger than private banks by issuing or accumulating shareholder capital. The shareholder bank’s lifetime was indefinite, not contingent on the lives and deaths of individual partners. The Bank of England was originally incorporated with unlimited shareholder liability, meaning that in the event of failure shareholders would not only lose the capital they had invested, but were also liable for their share of any debts the bank had incurred. The same applied to private banks constituted as partnerships. Unlimited liability was seen as essential, because banks had powers to issue banknotes, and might do so recklessly unless their shareholders were ultimately liable when the holders of banknotes demanded redemption.



In England the introduction of shareholder banks was inhibited by the prohibition, until the early 19th century, of the issue of banknotes by banks with more than six partners. During the 18th century, the population of small private banks had increased; but many had insufficient resources to withstand financial shocks. Legislation passed in 1826 granted banknote-issuing powers to private banks with more than six partners headquartered outside a 65-mile radius of London. In 1844 the issue of banknotes was tied to gold reserves, paving the way for the Bank of England eventually to become the sole note-issuing bank. The inscription that appears on all English banknotes ‘I promise to pay the bearer on demand  the sum of ....., signed by the Chief Cashier on behalf of the Governor of the Bank of England, dates historically from the time when the Bank of England accepted a liability to convert any banknote into gold on request. The gold standard was abandoned by Britain at the start of the First World War,  reintroduced  in 1925 but abandoned again, permanently, in 1931.

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