Financial History and Intermediation
Introduction
Why together?
• Innovation is the main driver of economic development and growth
• Banking and Corporate Finance deal with entrepreneurs obtaining finances to fund innovative ideas
• This is an issue as old as mankind
• The first part of the course will give you the historical perspective
• The second part of the course will provide you with theory, real cases and empirical evidence on
intermediation and entrepreneurship
Financial history: objectives
1. History and Financial history are important and need to be studied
a. Economic growth over the very long run
b. The origins of money and finance
c. Institutions, finance and economic growth
i. Venice during the middle ages
ii. Britain, 1600-1850
1. The industrial revolution
2. History and Financial history can provide important lessons for the present
Long run economic revolution
The world until 1750 looked like a relatively “boring’ place. The GDP per capita remained fairly constant
for more than 2000 years: the growth of the GDP per capita in Britain between 1000 BC and 1750 AD was
approximately 0.1% per year. However, something happened after 1750: the Industrial revolution
After the Industrial Revolution the Income per person changes (great divergence). The steady period before
this is called the Malthusian Trap.
Malthusian world
Each society has a birth rate, determined by customs regulating fertility, but increasing with material living
standards. The death rate in each society declines as living standards improve
- If the birth rate is higher than the death rate, the income per person goes down.
- The effects of isolated technological advance the income per person goes up because the society can
produce more income (birth rate and death rate stays the same)
- If the birth rate schedule goes up, the income per person goes up
A positive technology shock increases income → extra income increases birth rate and reduces death rate →
population increases → positive population growth is not sustainable – the economy has to go back to a
situation where birth rate equals death rate → Malthus calls this process: positive check (plagues, wars,
famine)
,Escaping the Malthusian trap
Technology
Technological improvement increased returns from education. New technologies are more complex:
education is needed to make them work. Education is expensive. Families prefer to have fewer children but
better educated. With complex technology a rise in income does not produce a rise in population
Institutions (legislation, courts, rule of law, quality of the government, schooling)
• Better legal protection (in every dimension: individual vs. individual, individual vs. government)
• Credit market flourishes (the risk of being expropriated gets lower)
Since courts are working, there is less need of “clan protection”… family size can be small
Better institutions correspond also to better schooling and more technology… marginal returns from
education are higher.
Is there a role for Finance?
Probably… but let’s start from the beginning
Finance
1. Reallocates value through time
2. Reallocates capital
3. Reallocates risk
Babylon and the temple
Babylonian citizens paid compulsory tributes (Tithes) to the temple. They were payable in grain, oxen and
sheep; later monetary tithes were not unusual, and they appeared in connection with the tithes due from the
members of the royal household. The temple also derived income from its own agricultural fields, in excess
of the needs of the temple itself.
Time value of money
Old vase inscription: 13 gur of grain, interest bearing at the rate of 1/3 gur per gur. Abum and Nawar have
borrowed from Samas and Ur. At harvest time in the payment month, they shall measure up the grain and its
interest. 5 witnesses
Reallocation of Risk: Dilmun trade
Ancient Mesopotamia had quite some long distance trade. These voyages were financed with equity and
debt.
Medium of exchange: China
- Bronze age: China developed already a monetary system based on shells
- Shells were portable, countable, not perishable
- Shells were rare in the yellow river… money was scarce.
- Even nowadays the Chinese character that means shell is included in the characters used to indicate
wealth, money, possession, sell, trade, redeem, financial guarantee/collateral
Finance and institutions: the republic of Venice, 400-1797
Venice: an overview
Venice was founded around 400-500 AD. The population of the surrounding areas sought refuge in the
islands of the Northern Adriatic Lagoon. Throughout the middle ages, it gained importance as maritime
power. The apogee of her power was between the XIV and XV century. Born as a republic, dies as a
republic (in 1797).
The Beginnings
Established as a vassal states of the Byzantine Empire, it maintained a republic form. At the head of the
“republic” there was a Doge (which in many occasions wanted to become a king). Exploiting the great
geographical positions and the weaknesses of the two empires, Venice gets rich with mercantile and long
distance trade.
,Constitutional changes (810-1032)
International trade made a good number of families rich. They were not individually powerful, but they were
collectively powerful enough to significantly constrain the power of the Doge.
The election of Domenico Flabanico as Doge was an important moment in Venetian history. He was
a wealthy silk merchant, and most subsequent Doges over the next centuries were also merchangts involved
in long-distance trade.
Further, his reign ushered in constitutional innovations that significantly constrained the powers
Doges
1. The election of the Doge was to be respected in full: a Doge would no longer be allowed to appoint
his successor
2. Doges were required to consult with a two-member Dogal court of judges and abide by the court’s
decisions.
The great council
Ïn 1172, there was the introduction of a limited franchise elected parliament known as the Great Council.
This further constrained the power of the Doge.
The doge had to publicly an oath of office. The oath explicitly listed what the Doge could not do, for
example, expropriate state property or preside over cases against himself.
In all important decisions the Doge was required to consult with a six-member dogal council that was
elected by and accountable to the Great Council
By 1192 the Doge could do almost nothing without approval of the council.
Dogal dynasties
- Curves above the box denote a connection between father and son or brothers
- Curves below the box denote connection involving sons in law or nephews
From politics to Finance: the Colleganza
Long Distance Trades required a large investment.. and involved big risks..
These problems were resolved with the Colleganza. Basically a credit contract where a young entrepreneur
with ideas but no money could be matched with wealthy lender.
The colleganza
There are two parties, the traveling merchant and the investor (or sedentary merchant). In Venice, the
sedentary merchant gives cash or wares to the traveling merchant, who then boards a ship with other
merchants for an overseas destination, say Constantinople. In Constantinople, the travelling merchant sels
the wares and uses the proceeds to buy other wares for resale in Venice.
A colleganze specifies the names of the two parties, the capital contributed by the sedentary investor
and states how profits will be split. Once the travelling merchant brings back the wares to Venice, the
accounts of the Voyage are settled and the relationship is dissolved. Usually, the sedentary merchant
provides all the capital and receives 75% of the profits. He also takes the losses (if any). The travelling
merchant contributes no capital and receives 25% of the profits.
, Colleganza: a case study
The life of Zaccaria Stagnario provides an example of the economic
and social mobility in early Venice. His grandfather Dobramiro was
a Croatian slave who was freed when his Venetian owner died. His
father, Pancrazia, was a helmsman. In 1199, Zaccaria travelled in
Colleganza to Constantinople and this experience paid off
handsomely. By 1207 he held office as councillor to the first
Venetian Podesta in Constantinople and was rich enough to be a
sedentary merchant in two colleganzas for the large sum of 200
Byzantine hyperpeppers, an amount equal to seven months’ salary of
the Duke of Crete. Upon his return to Venice, Stagnario integrated
himself into the highest social and political circles.
Early XIV century – the Serrata
By the XIV century the Great Council was controlled by a group of
rich families. The serrata consolidated the power of rich “old”
families within the council. First, the electoral law was changed to
favour incumbent. In 1323, the membership in the great council was
made a hereditary position. Only men whose fathers and
grandfathers had been in the Great council could hold seats.
Back to the economy
In 1321, instead of convoys of primarily privately owned and
operated galleys, Venice moved to a system of State Owned galleys
that were auctioned off to private operators. The state chose the
destinations and sailing dates of the convoys of galleys and then
auctioned off the galleys for the duration of the trip. “Only nobles were allowed to participate in this auction,
an exclusive privilege that gave them control of the financial and commercial operations of the fleet.”
Colleganza and Social Mobility (1073-1342).
… and then the decline
The wealth distribution in Venice became more and more skewed towards rich families who controlled the
routes of international trade. Venice lack the inventive and leadership to face major challenges: The advance
of the Ottoman Empire and Vasco de Gama’s discoveries of Trade Routes.
1797: The Fall
Finance and the Industrial revolution in Britain
