In 2008, British historian Niall Ferguson published an extremely insightful book on the phenomenon money. A must-read for anyone that wants to frame today’s economic reality in a broader, and deeper, context. A summary of the 362 pager follows:
Dreams of avarice
Examples in human history have demonstrated the need for money, and the availability of it, to smear the mechanics of economy. Barter is less efficient, and no money-less society has ever proven sustainable (both Communism and the Incas relied on brutal centralist absolutism and used human labor as currency). Hunter-gatherers will not trade, but battle for resources.
As far back as 600 BC, coins were used in modern-day Turkey. Greeks, Romans and later Chinese (221 BC) standardized coins as unit of account. Chronic lack of silver in the old world was only solved by the New world’s conquest (rich silver mines in Lima and Potosi). The silver overflow led to unprecedented inflation in Europe. There was no understanding that money did not necessarily had to be precious metal, but is just what someone else wants to give for it (sheets, grain, salt, cowrie shells, clay tablets could be used as money/promissory note and were transacted rather than the goods they represented). Until very late, USD could be exchanged for a certain amount of gold. Money –credit– is belief.
But money is increasingly intangible. All the cash in American hands (M2) represents 11% of the US total. All the rest is virtual, from the salaries that are transferred to the bank account to the credit cards that spend it.
Worse than having a money-based society is having no money availability. If banks do not exist, loan sharks will emerge and this will hold back economical development. In thirteenth century Italy Christians were prohibited from lending money with interest (“Usury”). Come in the Jews (ref. “Shylock” in Shakespeare’s Merchant of Venice) who had to fight and negotiate their position out of the ghetto. They were prosecuted repetitively in the Christian world and regarded as loan sharks, but provided credit where no one else could. Modern day real loan sharks will pop up everywhere, also in impoverished Western European neighbourhoods with no credit network.
Thus comes banking. The Medicis were the first ones to survive several generations, and to emerge from a clan of gangsters to influential bankers with great connections on European scale. They were among the first applying proper bookkeeping, portfolio diversification and to set up branches under agency agreements. The system was later copied and further developed by the Brits, Dutch and Swedes in the 1600s. Their banks however maintained a 100% gold reserve vs the deposits, thereby limiting credit creation. In England the bank note and the monopoly on it was another innovation towards modern banking. Spain was held back because of their “curse of resource abundance” to develop a banking system.
Next wave of financial innovation from England fueled the industrialization in Europe and beyond. The Bank of England got its role as ‘lender of last resort’ to combat liquidity crises. Industrial investment banks emerged as well as savings bank (round 1900). The rest of the world followed in creating central banks operating the gold standard. Only US were averse to the idea of a central bank, consequently to suffer the Great Depression with small undercapitalized banks and having to catch up later. The gold standard, providing exchange rate and inflationary stability yet transmitting crises and fueling a risk for deflation, was left in US in 1971. Another distinct quirk of US banking is the easy legal framework to go bankrupt then restart. This has been supporting entrepreneurship but nowadays mainly accommodates people who simply have no money and never will. Also European banks have been lending out more and more compared to the deposits they get. The loans banks have outstanding in the major economies are 150% worth of those economies’ GDP, which is a true credit boom compared to earlier decades.
Source: “The Ascent of Money“, by Niall Ferguson