The History of Banking

The early History of Banking can be traced back to 5000 BC in Assyria and Babylonia, while ‘modern’ banking has its beginnings in Italy in the XIV century. See how the latter is linked to Poverty.

 

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Are the Banking History and the Money History the same?


In the strict sense of the question the answer is no. Yet, despite banking practices predating the apparition of Money as a payment method, since the 14th century both the History of Banking and the History of Money are intertwined.


Where does the word ‘Bank’ come from?


It comes from the latin word ‘Bancu’ or ‘Banca’ (the latter introduced in the Middle Ages) which means ‘Long Bench’. ‘Banca’ is also the current Italian word for ‘Bank’.

In fact, during the Roman Empire, moneylenders used to set up their trading spots along benches (‘bancus’).

In the Bible, in Matthew 21:12, there is a reference to the said ‘merchant benches’: ‘Jesus entered the temple area and drove out all who were buying and selling there. He overturned the tables of the money changers and the benches of those selling doves’.

By the way, the word ‘bankruptcy’ is associated with the Italian expression ‘banca rotta’ which means ‘broken bench’.


Does the early history of banking involve just the Assyrians and the Babylonians?


No, it does not.

‘Before Christ’ there is record of banking practices in Egypt, China, India, Greece and Rome as well.

Beside precious metals, transactions were based on grain, cattle, agricultural tools among other basic elements.

The places where transactions took place were usually palaces and temples; at the same time those places acted as vaults.

In Greece, in the 5th century before Christ, merchants were already used to practices such as deposits, credit and currency exchange among others.

In Egypt, around 300 BC, historians talk about a ‘trade credit system’ based on a network of grain banks and the implementation of ‘credit receipts’.

In China, in the 2nd Century BC there were accounts of coins and ‘letters of credit’ used among merchants.

The Roman Empire was the precursor of Banking as we know today. With the fall of Rome, the initial forms of banking gave way to a ‘modern’ conception of banking starting in the 14th century.

By the way, during the Roman Empire, charging interest on loans and paying interest on deposits became customary financial practices.


Was in fact charging interest on loans a usual practice all along the history of banking?


No, it was not.

The early centuries of Christianity brought up a ban on the practice of charging interest. ‘Usury’ was considered immoral (see ‘The Rule of 72’ for deeper analysis and quotes on ‘Usury’).

Note: The original meaning of the word ‘Usury’ was ‘charging any interest’.

Let’s recall as well that Islam has considered ‘Usury’ (i.e.‘Riba’ in Arabic) strictly prohibited up to this day.


When did the history of banking revived?


History of banking revived with the Crusades. The need to finance such war, made Italy at the end of the 13th century and beginning of the 14th the scenario for that revival. Banking practices as we know today were initiated at that time. Such practices then spread to the rest of Europe.


What was the workaround from ‘bankers’ for the Christian ban on ‘Usury’?


Since Jews did not have any prohibition to charge interest, Jewish goldsmiths were key players for the reestablishment of banking practices (see ‘Fractional Reserve Banking’ for a more detailed explanation on goldsmiths’ role in consolidating ‘modern’ banking practices).

A second way to by-pass the Christian prohibition on the charge of interest, was to create the concept of ‘selling interest’ instead of ‘charging interest’.

Another workaround was the introduction of the concept of ‘insuring’ loans against loss or potential debtor injury, and for payment delays.

Later, in the 18th century with the rise of Protestantism, European Protestants saw the opportunity to be freed from Catholic Church’s ban on ‘Usury’. As a result, beside Jew goldsmiths Protestant families entered the banking business.

Among famous families that emerged into the history of banking of the 18th century, the Rothschild family was noticeable for the banking empire it built.


What were the first major ‘modern’ banks?


Since medieval banks were disrupted by wars, it was only until the 17th century that the first major ‘modern’ bank was established: The Bank of Amsterdam (1609).

It was the first one to create bank money in order to have a uniform currency. It actually was declared ‘insolvent’ in 1819 when it fell short in its promise to 100% back up all its loans with gold. It is worthy to notate that what the Bank of Amsterdam almost implemented in the practice was a ‘Fractional Reserve Banking System’ without calling it that way.

The second major bank was the Bank of England in 1694, leveraging on Bank of Amsterdam’s example and on Monarchy’s urgent need to get funds at lower rates than the ones charged by regular goldsmiths.

The Bank of England actually gave origin to the concept of ‘Central Bank’: i.e. Small banks either in London or in neighboring towns needed a “correspondent” bank in London; as a result, the Bank of England started to fulfill that role.


What about the history of banking in the United States?


The 18th century in the US was very rich in events:

First of all, history tells us that around 1750 the US was living a time of prosperity. In Benjamin Franklin’s words:

‘It is impossible to find a happier and more prosperous population on all surface of the globe’.

He explained why:

‘In the Colonies we issue our own money. It is called ‘Colonial Scrip’. We issue it in proper proportion to make the products pass easily from the producers to the consumers. In this manner, creating ourselves our own paper money, we control its purchasing power, and we have no interest to pay to no one.’

The ‘Colonial Scrip’ money did not make the British bankers happy and the next year the Colonies were ordered to use instead the gold or silver debt-based money, issued by the English bankers.

The return to such a debt-based money system caused an economic depression in the US, out of a significant reduction (around 50%) of the money in circulation.

People’s distress was the breeding ground for the declaration of the ‘Revolutionary War against England’ (aka ‘American Revolution’) and later ‘Declaration of Independence’ in 1776.


Aren´t there writers who talk about the ‘Tax on Tea’ as the trigger for the ‘American Revolution’?


Yes, there are; yet as Benjamin Franklin stated:

‘The Colonies would gladly have borne the little tax on tea and other matters, had it not been the poverty caused by the bad influence of the English bankers on the Parliament. That has caused in the Colonies hatred of England, and the Revolutionary War’.


Was the need to shield the Colonies against English bankers’ influence the reason why the American Constitution (signed in 1787), explicitly stated in Article 1, Section 8, paragraph 5: ‘Congress shall have the power to coin money and to regulate the value thereof.’?


Yes, that’s right!


Did English bankers give up on their intent to maintain dominance on the United States banking system?


No, they did not.

Despite the American Revolution and the Constitution, and as a result of many pressures on President George Washington, a British-led bank called the ‘Bank of the United States’ was created in 1791. It had a 20-year charter.


Was the ‘Bank of the United States’ owned by the nation?


No, it was not.

Despite its name, the Bank of the United States was the ‘bank of bankers’. In other words, it was owned by private bankers and set up to assist the rest of private banks in the image of the Bank of England. Its charter ran out in 1811.


In the history of banking, was it the last try from English bankers to keep their power on the US banking system?


No, it wasn’t.

English bankers put an ultimatum on the US government for renewing ‘Bank of the United States’ charter; otherwise the British government would launch a war against the US.

Since charter’s renewal was not granted, the British government declared war against the United States in 1812.

After thousands were killed, the US Congress gave up and finally granted renewal of ‘Bank of the United States’ Charter in 1816.


Was Abraham Lincoln’s Presidency of significance for the history of banking in the US?


Yes, it was!

Abraham Lincoln was elected in 1860 after having promised to abolish human slavery. When 11 southern states in favor of slavery, declared there will to separate from the Union, Lincoln realized that a Civil War was inevitable (it in fact took place between 1861 and 1865).

Being short of money to finance the war, Lincoln initially looked for financial support from New York bankers. Since interest rates offered by the NY bankers were so high (up to 36%), Lincoln forgot about the said bankers and decided to follow Colonel Dick Taylor’s advice:

‘Just get Congress to pass a bill authorizing the printing of full legal tender treasury notes, and pay your soldiers with them, an go ahead and win your war with them also’.


Was that advice the origin of the ‘Greenbacks’?


Yes it was!

The history of banking registers that between 1862 and 1863 Lincoln ordered the issuance of $450 million of debt-free money called ‘Greenbacks’. That money allowed him to finally win the war and preserve the Union.


Why those Treasury notes were called ‘Greenbacks’?


People called those Treasury notes ‘Greenbacks’ since they were printed with green ink on the back.


Why did ‘Greenbacks’ only last until 1863?


Despite ‘Greenbacks’ having being called by Lincoln the ‘greatest blessing the American people have ever had’, bankers undertook a campaign to sabotage them.

Lincoln was still focused on putting an end to the war and preserving the Union, so he purposely postponed fighting back the bankers until after the war.

In the meantime, Corruption within Congress members finally led to the ‘Greenback Law’ revoking in 1863.

Congress replaced the 'Greenback Law' by the ‘National Banking Act’.


Did the ‘National Banking Act’ establish debt-free money issued by the nation as the ‘Greenback Law’ did?


No, it did not.

‘Greenbacks’ are recorded in the history of banking in the US as the last currency so far issued debt-free by the nation.

The ‘National Banking Act’ replaced ‘Greenbacks’ with interest-bearing money (see ‘How is Money Created’) issued by private banks instead.


Did Lincoln succeed in reestablishing the ‘Greenbacks’?


No, he did not.

The war ended on April 9, 1865 but Lincoln was assassinated five days later.


Did the ‘National Banking Act’ reestablish nation’s prosperity?


No, it did not.

The ‘National Banking Act’ resulted in a tremendous credit crunch which meant a dramatic reduction of money in circulation (see ‘How is Money Created’), with almost 60,000 business failures recorded in just ten years, and the subsequent impoverishment of the population.


Was there anybody who picked up on Lincoln’s idea to reestablish the ‘Greenbacks’?


Yes, there was.

The history of banking recalls a few names. One of the most renown was William Jennings Bryan who ran for President in 1896.

Although he realized that it was going to be impossible to defeat the powers that were backing up the other candidate, he did not stop expressing his conviction that the ‘Greenbacks’ should be reestablished.

Bryan said:

‘We believe that the right to coin and issue money is a function of Government… Those who are opposed to it tell us that the issue of paper money is a function of the bank, and that the Government ought to get out of the banking business. I tell those people that the issue of money is a function of the Government, and that the banks ought to get out of the Government business... When we have restored the money of the Constitution, all other necessary reforms will be possible, but until this is done, there is no other reform that can be accomplished.’

(Note: There are authors though like Stephen Zarlenga - "The Lost Science of Money" - who identify William Jennings Bryan as fundamental for promoting the passing of the Federal Reserve Act of 1913).


What was the next major event in the history of banking in the US?


After Lincoln’s assassination the road was paved to the event that would lay foundation to the current banking system: The Federal Reserve Act of December 23, 1913.

On that day, Congress handed over the power to issue money to the ‘Federal Reserve Corporation’ (or simply called the ‘Federal Reserve Bank’) which despite its name is a privately-owned bank.

As such, the ‘Federal Reserve Act of 1913’ was an event of great relevance; it was indeed an inflexion point in the history of banking in the US.


What about the history of banking in the 20th century?


The major event in the history of banking in the 20th century was the ‘Great Depression of 1929’.

Two key elements provided the scenario for increased financial speculation and lack of regulation that led the way to the Wall Street Crash of 1929:

On the one hand, the power to issue money in the hands of a privately-owned bank, the Federal Reserve (see the ‘Federal Reserve Act of 1913’) and on the other, the ‘Fractional Reserve Banking’ System.

Note: Due to the fact that the ‘Great Depression of 1929’ was such a dramatic event in the recent history of banking and with such devastating consequences, we treat it separately.


From a banking and financial system standpoints what were the measures taken after the Wall Street Crash of 1929?


Amid heated debate, John Maynard Keynes’s theories reinforcing the current monetary practice that is up and running until today, prevailed over those of Henry Simons and Paul Douglas.

The latters had delineated a plan called the ‘Chicago Plan’ that would have put a stop to the private creation of money as a debt, by nationalizing the Federal Reserve Bank ( thus reverting the Federal Reserve Act of 1913) and preventing the private banks to issue money.

On the other hand, with the purpose of impeding future financial excesses and speculation, and to fill the gaps in financial regulation, two instances were executed:

First of all the ‘Glass-Steagall Act’ was passed in 1933. In a nutshell, the Act separated the investment banking from the commercial banking. The intention was to avoid riskier banking investment activities from triggering commercial banking failures in the future.

Secondly, to guarantee proper financial regulation, the US Securities and Exchange Commission – SEC was established in 1933 as well.


What was the relationship between the ‘Gold Standard’ and the ‘Bretton Woods Agreement’?


In a few words, ‘Gold Standard’ means ‘money convertibility to gold’.


In the history of banking, the Gold Standard's origin is traced back to the 14th century.

The ‘Gold Standard’ was a practice that became usual in many countries, from the first moment ‘paper money’ (also called ‘banknote’ or ‘bill’) appeared in Europe. In a nutshell, people holding banknotes could redeem them at any time by their equivalent in gold.


On the other hand, the ‘Bretton Woods Agreement’ resulted from a summit held in Bretton Woods, New Hampshire USA in July 1944, where delegates from all 44 Allied Nations made up a plan to reconstruct the international economic system. Let’s remember that World War II was still on-going.


‘Bretton Woods’ established procedures to regulate the international monetary system, and also institutions such as the IMF (‘International Monetary Fund’) and the IBRD (‘International Bank for Reconstruction and Development’, which today makes part of the WB - ‘World Bank Group’).


In addition, ‘Bretton Woods’ established the obligation for the signing countries to tie their currencies to the US dollar. That meant in the practice that their values would always be in reference to the US dollar.

At the same time, the US dollar value was tied to the ‘Gold Standard’, which meant that anyone possessing US dollars could claim their redemption in gold.


In 1970, France demanded gold from the US, in exchange for France’s reserves in US dollars.

That unexpected request, along with the mounting pressure on the US government expenditures for the Vietnam War made the US government, on August 15 1971, to unilaterally end direct convertibility of the dollar to gold.


Was August 15 1971 the end of the ‘Bretton Woods Agreement’ and the ‘Gold Standard’ system?


Yes, it was.

The history of banking marks that date as the official end of the ‘Bretton Woods Agreement’ and of the ‘Gold Standard’ practice.

From that moment on the US dollar became a fully ‘fiat currency’ backed by nothing else than the credibility on the Federal Government and on the US banking system (see ‘How is Money Created’).


In that respect, we could have thought that the end of the ‘Bretton Woods Agreement’ and of the ‘Gold Standard’ practice was like going back to the ‘Greenback’ times (i.e. Money created out-of-nothing); yet the banking system that we have since then, presents two big differences with the 'Greenbacks':


On the one hand, money creation remained and still remains in the hands of private banks (i.e. In the US, headed by the Federal Reserve) instead of the nation’s hands (as was the case with the ‘Greenbacks’).


On the other hand, Money is presently created by private banks as a debt that carries the obligation to pay interest to the same banks.


'Greenbacks' on the contrary were created by the Nation 'debt-free' (as mentioned above, in the history of banking in the US, the end of the 'Greenbacks' in 1863 marked the last time debt-free Money was issued up to this day).


Is it fair to say that the end of the ‘Bretton Woods Agreement’ and of the ‘Gold Standard’ practice marked the beginning of an era of ‘monetary deregulation’, ‘exponential public debt’, increased ‘financial speculation’ and unethical financial practices in a number of countries, especially in the leading ones?


Yes, it is.


Private banks’ creation of money (see ‘How Is Money Created’) backed by nothing else than the ‘credibility’ on banking institutions and on governments, that started after 1971, saw the explosion of issues in a number of fronts, like world debt, augmented speculation and unethical financial practices resulting in financial bubbles, periods of great inflation and economical instability with subsequent financial crises.


In 1980, the ‘Glass-Steagall Act of 1933’ was repealed, providing a clear indication that the lessons learned from the ‘Great Depression of 1929’ had been forgotten.

At the same time, it was a message to the international financial community that financial regulation was a thing of the past.

In 1986, the deregulation of the London Financial Market (known as the ‘Big Bang’) was another action on the same line.

By such deregulation, retail banks started to buy investment banks. That practice saw the emergence of ‘Universal Banks’.


Can we pinpoint the origins of such ‘deregulation’ mentality?


Yes, we can.

Carl Menger's Austrian School of Economics, Ayn Rand and her disciple Alan Greenspan (Federal Reserve chairman for 20 years!), Milton Friedman and the Libertarians, to name a few; and their ‘free market’ / ‘laissez-faire’ school that enrooted for over 40 years in the World Economic system, Economy faculties, professors and consequently Economy students from all over the world, financial bodies and so on.


The consequences of such culture were devastating; they reached its climax with the ‘Global Economic Crisis’ that burst in 2008 as a result of the ‘Subprime Mortgage’ swindle.


The public debt crisis of 2011-2012 in Europe is simply one of the many consequences of the ‘2008 Global Economic Crisis’ and of the 'Money As Debt' system.


Note: The ‘Global Economic Crisis’ is such a critical event in the most recent history of banking that we treat it separately.


Can we expect that the history of banking would take a different path after the ‘free market’ / ‘laissez-faire’ and ‘deregulation’ fiasco?


This is our hope.


The words of Mr. Alan Greenspan in October 23 of 2008, when he declared at a Congressional hearing (the 'House Committee on Oversight and Government Reform'), have to resound in all Economists and Economy regulators of good will. On that day, he admitted that his ‘premise establishing that the markets could be trusted to regulate themselves was wrong’.


The history of banking has provided mankind with wise lessons that have been repeatedly ignored or forgotten.


The ‘free market’ / ‘laissez-faire’ and ‘deregulation’ fiasco is the most recent example. The ‘Colonial Scrip’ and the ‘Greenbacks’ as debt-free money issued by the nation, were two more.


We, fighters of Poverty and Economy community in general have to learn from the history of banking and in particular from the ‘Colonial Scrip’ and ‘Greenbacks’ positive experiences.


With respect to the ‘free market’ / ‘laissez-faire’ and ‘deregulation’ fiasco, we have to understand that financial regulation is extremely necessary and beneficial!


We hope that as we speak, many Economy books that have ignored the ‘Colonial Scrip’ and ‘Greenback’ models and/or preached the ‘goodness’ of the ‘free market’ / ‘laissez-faire’ and ‘deregulation’ school have already being rewritten.


Do you clearly see the tight connection between the modern History of Banking and Poverty?

 

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