The Ascent of Money
‘Behind each great historical phenomenon,’ Harvard historian Niall Ferguson writes, ‘there lies a financial secret.’
For example, one of the great innovations of early medieval Italy was the bond, used to finance wars among the Italian states. ‘After the creation of credit by banks,’ Ferguson writes, ‘the birth of the bond was the second great revolution in the ascent of money.’
This paper wealth allowed the owners of securities to live where they liked, increased the importance of cities as the place where the rich wanted to be, undermined old elites and created a new social order.
Bond markets are powerful because they are the judges of a country’s creditworthiness, determining the interest rates the state will have to pay investors and the cost of its credit.
When governments debase currencies by simply printing more money, they render government bonds pretty much worthless because interest payments lose their value.
Bonds are still as popular as ever: governments can finance nation-building efforts and state expenses (through a combination of borrowing and taxes), and citizens get a fixed income in an uncertain world.
After the invention of banking and the rise of the bond market, the modern, limited-liability ‘joint-stock’ company was another crucial step in the ascent of money.
It allowed many people to take a stake in big, risky ventures (such as financing a fleet of ships sailing to the Dutch East Indies to acquire spices), yet it limited the downside. If things went belly-up, you lost only your stake, not personal wealth like your house. Of course there are risks in investing in stocks, but they provide a lot more potential upside than bonds.
That is, of course, over the long run, taking into account the failures of individual companies and stock bubbles and busts. Ferguson includes long sections on the Mississippi land bubble of the eighteenth century, the 1929 stock market crash, the tech bubble of the 1990s and the financial crisis of 2007.
The first modern insurance fund was created by two Church of Scotland ministers, Robert Wallace and Alexander Webster, and a mathematician, Colin Maclaurin, who were motivated by the penury of wives and children left behind when a minister died prematurely. Their ‘Scottish Ministers’ Widows’ fund’ would take in premiums and invest them, and the widows and orphans would be paid out in annuities from the fund’s returns. What became Scottish Widows became the model for all funds insuring against premature death.
As voting rights extended to more of the population, pressure grew on governments to offer lower-cost schemes to protect against illness and unemployment.
The first social insurance legislation was passed in Germany in the 1880s by Otto von Bismarck, providing an old-age state pension. Britain copied it in 1908 with its own means-tested pension for those over 70.
The Beveridge Report of 1942 called for the establishment of national compulsory schemes for social insurance so that ill-health and unemployment would no long carry terror and stigma. As time passed the welfare state became a right citizens expected, whatever the cost.
The modern house mortgage is actually quite a new innovation. In 1920s America, for instance, mortgages were much less common, and if you could get one they lasted only four or five years.
You paid only the interest each month, then one balloon payment of the whole capital outstanding when the mortgage ended. When the Great Depression hit, many banks simply withdrew their loans, and foreclosures happened at a rate of a thousand a day.
Franklin D. Roosevelt’s New Deal wisely included measures for greater housing affordability. He set up the Home Owners’ Loan Corporation for the refinancing of mortgages and lengthening the terms of mortgages up to 15 years.
Ferguson argues that the English-speaking world has a particular passion for property, which has made countries, including the UK, US, Australia and Canada, into genuine property-owning democracies.
Ferguson wrote the final lines of the book in April 2008, and so the strength of the financial crisis and likely recession tempered somewhat the book’s theme of the civilising power of finance.
Yet even big financial catastrophes, in his mind, do not contradict the good that financial innovation has done.
In places like the East End of Glasgow, many people lack access to proper banking and are forced into the grip of loan sharks.
His point is that poverty is most usually to be found where there is an absence of financial institutions and services, not because they are present.
Copyright © Tom Butler-Bowdon, 2017. The above is an abridged extract from 50 Economics Classics by Tom Butler-Bowdon, published by Nicholas Brealey Publishing.