WIXLIB

Evolution of BankingTabernoe Argentarioe. Some of the banks carried business ontheir own account and others were appointed by theGovernment of receive the taxes. They used to transact theirbusiness on similar lines as those of the modern bankers.People used to settle their accounts with their creditors bygiving a cheque or draft on the bank. If the creditor had also anaccount at the same bank, the account was settled by an orderto make the transfer of such money from one name to another.To pay money by a draft was known as prescribere andrescribere, and the draft was known as attribution. Thesebankers also received deposits and lend money. Loan bankswere also common in Rome. From these loan banks, the poorcitizens received loans without paying interest. They lend moneyfor a period of three or four years on the security of land.The bankers preserved their deposits fully at first, but laterbegan to use them for their own purposes, creating depositsand granting credits out of nowhere. Since the canonical lawbanned the charging of interest on loans, bankers would insteadpay “penalties” for “delays” in payment and in effect pay intereston a disguised loan, and justified any misappropriations on thisbasis. Fractional reserve banking has created periods ofgrowth, followed by an economical crisis and failure of banks.The authorities failed to enforce sound banking practices, andoften granted banks a government license to operate with afractional reserve, while taking advantage of easy loans tofinance governments and public officials. Some rules createdgovernment banks to reap the profits. But banks were stillrequired to guarantee deposits.1.7

Fundamental of Banking2) Italy :During the early periods, although the banking business wasmostly done by private individuals, may countries establishedpublic banks either for the purpose of facilitating commerce orto serve the Government one of such banks was the Bank ofVenice. It was established in 1157. It is supposed to be themost ancient bank. Originally, it was not a bank in the modernsense being simply an office for the transfer of the public debt.And it was in Florence, where the growing banking industrygained great importance by the fourteenth century. From thattime have the bankers begun to misuse a portion of theirdeposits, inevitably causing a boom and a recession. Thisrecession was triggered not only by, Neapolitan princes’massive withdrawal of funds, but also by England’s inability torepay its loans and the drastic fall in the price of Florentinegovernment bond. The public debt was financed by thesespeculative new loans created. A general crisis of confidenceoccurred, causing the most important banks to fail between1341 and 1346. The recovery did not come until after the plague.The powerful Medici bank initially didn’t accept demanddeposits. Later on, their reserve ratio gradually worsened, andby its end dropped even below 10 percent. The bank was ruinedby the end of the 14th century like its competitors, and all of itsassets fell into the hands of creditors.3) Spain :As early as 1349, the business of banking was carried on bythe drapers of Barcelona. There it was subject to official1.8

Evolution of Bankingregulation. The drapers were not allowed to commence thisbusiness until they had given sufficient security. During 1401,a public bank was established in Barcelona. It used to exchangemoney, receive deposits and discount bills of exchange, bothfor the citizens and for the foreigners. During 1407, the Bankof Genoa was established. The bank of Amsterdam wasestablished in 1609 to meet the needs of the merchants of thecity. It accepted all kinds of specie on deposits. These depositscould be withdrawn on demand or transferred from the accountof one person to another. The bank also adopted a plan bywhich a depositor received a kind of certificate entitling him towithdraw his deposit within six months. These written orders,in course of time, came to be used in the same manner as themodern cheques. It is interesting to note that most of theEuropean banks now in existence were formed on the modelof the Bank of Amsterdam.4) Germany and Polland :The Fuggers were financiers from 1485 to 1560 and are knownas a particularly important banking family in Southern Germany.Dutch bankers played a central role in establishing banking inthe Northern German city states. Berenberg Bank is the oldestprivate bank in Germany, established in 1590 by Dutch brothers,Hans and Paul Berenberg in Hamburg. The bank is still ownedby the Berenberg dynasty.5) Holland :Throughout 17th century, precious metals from the New World,Japan and other locales have been channeled into Europe,1.9

Fundamental of Bankingwith corresponding price increases. Thanks to the free coinage,the Bank of Amsterdam, and the heightened trade andcommerce, Netherlands attracted even more coin and bullion.These concepts of Fractional-reserve banking and paymentsystems went on and spread to England and elsewhere.1.3.2 Evolution of Banking in USA :1) 1791-1811 : First Attempt at Central Banking :At the urging of Treasury Secretary Alexander Hamilton,in 1791Congress established the First Bank of the United States,headquartered in Philadelphia. It was the largest corporation inthe country and was dominated by big banking and moneyinterests. Many agrarian-minded Americans, uncomfortablewith the idea of a large and powerful central bank, opposed it.By 1811, when the bank’s 20-year charter expired, Congressrefused, by one vote, to renew it.2) 1816-1836 : A Second Try Fails :By 1816 the political climate was again in favour of a centralbank, by a narrow margin,Congress agreed to charter theSecond Bank of the United States. But when Andrew Jackson,a central bank foe, was elected president in 1828,he vowed tokill it. His attack on its banker-controlled power touched apopular nerve with Americans, and when the Second Bank’scharter expired in 1836,it was not renewed.3) 1836-1865 : The Free Banking Era :State-chartered banks and unchartered “free banks” took holdduring this period, issuing their own notes, redeemable in goldor specie. Banks also began offering demand deposits to1.10

Evolution of Bankingenhance commerce. In response to a rising volume of checktransactions, the New York Clearing house Association wasestablished in 1853 to provide a way for the city’s banks toexchange checks and settle accounts.4) 1863 : National Banking Act :During the Civil War the National Bank Act of 1863 waspassed.This created national banks, which issued circulatingnotes that had to be backed by U.S. government securities. Anamendment to the Act required taxation on state bank notesbut not on national bank notes, effectively creating a uniformcurrency for the nation. Despite taxation on their notes, statebanks continued to flourish because of the growing popularityof demand deposits, which had taken hold during the FreeBanking Era.5) 1873-1907 : Financial Panics Prevail :Although the National Bank Act of 1863 established somemeasure of currency stability for the growing nation, bank runsand financial panics continued to plague the economy. In 1893a banking panic triggered the worst depression the UnitedStates had ever seen,and the economy stabilized only afterthe intervention of financial mogul J.P. Morgan.It was clear thatthe nation’s banking and financial system needed seriousattention.6) 1907 : A Very Bad Year :In 1907, a bout of speculation on Wall Street ended in failure,triggering a particularly severe banking panic. J.P. Morgan was1.11

Fundamental of Bankingagain called upon to avert disaster. By this time most Americanswanted reform of the banking system, but the structure of thatreform was cause for deep division among the country’scitizens. Conservatives and powerful “money trusts” in the bigEastern cities were vehemently opposed by “progressives.”But there was a growing consensus among all Americans thata central banking authority was needed to ensure a healthybanking system and provide for an elastic currency7) 1908-1912 : The Stage is Set for a Decentralised CentralBank :The Aldrich-Vreeland Act of 1908, passed as an immediateresponse to the panic of 1907, provided for emergency currencyissues during crises. It also established the National MonetaryCommission to search for a long-term solution to the nation’sbanking and financial problems. Under the leadership of Sen.Nelson Aldrich, the commission developed a banker-controlledplan. William Jennings Bryan and other progressives fiercelyattacked the plan; they wanted a central bank under public, notbanker, control.The 1912 election of Democrat WoodrowWilson killed the Republican Aldrich plan, but the stage wasset for the emergence of a decentralised central bank.8) 1914 : Open for Business :Before the new central bank could begin operations,theReserve Bank Organizing Committee, comprised of TreasurySecretary William McAdoo, Secretary of Agriculture DavidHouston, and Comptroller of the Currency John SkeltonWilliams,had the arduous task of building a working institution1.12

Evolution of Bankingaround the bare bones of the new law. But by Nov. 16,1914,the12 cities chosen as sites for regional Reserve Banks wereopen for business,just as hostilities in Europe erupted intoWorld War I.9) 1935 : More Changes to Come :The Banking Act of 1935 called for further changes in the Fed’sstructure, including the creation of the Federal Open MarketCommittee (FOMC) as a separate legal entity, removal of theTreasury Secretary and the Comptroller of the Currency fromthe Fed’s governing board, and the establishment ofmembers’terms at 14 years. Following World War II,theEmployment Act added the goal of promoting maximumemployment to the list of the Fed’s responsibilities. In 1956 theBank Holding Company Act named the Fed as the regulatorfor bank holding companies, and in 1978 the HumphreyHawkins Act required the Fed chairman to report to Congresstwice annually on monetary policy goals and objectives.10) 1980: Modern Banking Industry Reforms :The Monetary Control Act of 1980 required the Fed to price itsfinancial services competitively against private sector providersand to establish reserve requirements for all eligible financialinstitutions.The Act marks the beginning of a period of modernbanking industry reforms. Following its passage, interstatebanking proliferated, and banks began offering interest-payingaccounts and instruments to attract customers from brokeragefirms. Barriers to insurance activities, however, proved moredifficult to circumvent. Nonetheless, momentum for changewas steady, and by 1999 the Gramm-Leach-Bliley Act was1.13

Fundamental of Bankingpassed, in essence overturning the Glass-Steagall Act of 1933and allowing banks to offer a menu of financial services,including investment banking and insurance sales11) 1980 to 1990: Deregulation :Legislation passed by the federal government during the 1980s,such as the Depository Institutions Deregulation and MonetaryControl Act of 1980 and the Garn–St. Germain DepositoryInstitutions Act of 1982, diminished the distinctions betweenbanks and other financial institutions in the United States. Thislegislation is frequently referred to as "deregulation," and it isoften blamed for the failure of over 500 savings and loanassociations between 1980 and 1988, and the subsequentfailure of the Federal Savings and Loan InsuranceCorporation(FSLIC) whose obligations were assumed by theFederal Deposit Insurance Corporation (FDIC) in 1989.1.3.3 Evolution of Banking in Asia :Soon after independence, the governments of Central Asiarecognized that the transition to a market economy would requirethe supportive development of their banking and financial system,involving considerable capacity building in a sector that needed tobe reestablished virtually from scratch. As a result reform programswere designed and implemented throughout the 1990s, aimed atrestructuring and modernizing the components of a financialsystem so as 10 create conditions for sustainable economicgrowth.Essentially, the reform programs took place in two pluses. Inthe first phase, between 1993 and 1997, monetary Stabilizationexcept for Tajikistan became a priority. During this phase,1.14

Evolution of Bankinggovernments also tried to implement ambitious privatisationprograms in the small scale area and to develop a legal frameworksupporting a market economy, In the second phase, governmentfocused on strengthening the banking system, developing financialand legal infrastructure and fiscal stabilisation.a) The First Phase :During the first phase, the introduction of sovereign currencieswas accompanied by restrictive monetary politics, to containinflation. As a result high interest rate policies and formal andinformal restriction on convertibility were introduced andimplemented. High interest rates, low level of reserves, lack ofliquidity, economic and political instability and devaluationcontinued throughout 1995-96, together with consistentdollarisation of the financial system and an outflow of funds.b) The Second Phase :The combination of improved monetary policies structural andinstitutional reforms, and improved fiscal discipline eventuallybrought economic stability to the Central Asia region by themid-1990s. Inflation was contained and dropped fromhyperinflationary levels in 1993 to around 15-20 percent in 199798, sloping the devaluation of local currencies, which remainedrelatively viable until the Russian financial crisis of 1998. Inaddition, it the end of 1997 real gross domestic product (GDP)began to grow in the region.1.3.4 Evolution of Banking in England :Crowther has most succinctly described the evolution ofmodern banking. According to him, modern banking developed inEngland. Modern Banker, he adds, has three ancestors - themoneylender, the trader and the most typical of all, the English1.15

Fundamental of BankingGoldsmith. What he means by this is that modern bankingcombines the functions of these three businesses.Stages in Evolution of Banking in the England :1) The Moneylenders :As stated earlier, every society has moneylenders. Thoughhated, they are to be found in every society because theyperform the essential function of giving loans to the needy. Thereare people whose expenditure sometimes exceeds theirincome. The moneylender helps them to tide over their difficulty.Experience taught moneylenders how to assesscreditworthiness of a borrower and how to recover loans.However, they did the business of lending on their own capitaland often exploited the borrowers. Modern banks’ primaryfunction is lending and giving more loans. For productivepurpose, they collect deposits. Then banks normally give loanswhich benefit the borrowers, other banks and the societyas well.2) Merchants or Traders :They act as intermediaries between producers and consumers.The grain merchant buys grains from the farmers and sells itto the consumers. Similarly, banks are said to deal in money.They collect deposits from common people and lend them outto some borrowers. They act as intermediaries between thesavers and the producers. In the middle ages, journeys wererisky. Therefore, small merchants would keep money with awell-known rich trader and get receipts for the deposit. Onstrength of these receipts, they transacted business. Today’s1.16

Evolution of Bankingbanks issue letters of credit which makes transactions possiblebetween unknown parties. Previously bankers were calledmerchant bankers who mainly exchanged coins for tradingpurposes.3) The English Goldsmith :Modern banks do not only deal in money but they, in a specialsense, create money. This typical heritage comes from theEnglish goldsmith. In the mediaeval London, there was notmuch safety against thefts and dacoity. The English goldsmithshad big safes and perhaps guards. The common people wouldkeep their valuable jewellery and gold coins for safety with thegoldsmiths who used to charge rent for this service. Thegoldsmiths also gave receipt for the deposit of valuables. Thedepositors were sure to get back their deposits any time onproduction of the receipts. Later on, the faith in the honesty ofthe goldsmiths increased. The depositors were sure to get backtheir deposits any time on production of receipts. Later, insteadof personally withdrawing deposits, they started giving writtendirections to the goldsmiths to pay a part of the deposit to thebearer of the letter. This was the beginning of modern cheque.When goldsmiths realised that their receipts were used to settletransactions, i.e. used as money, they started giving loans byissuing more receipts than the deposits they had and thesereceipts were also accepted by people because they werebacked by the credit of the goldsmith. Goldsmiths took care toreturn deposit on demand which increased trust in them.4) Establishment of Various Banks :In the 16th century, many public banks are established in thecountries of Europe. e.g. Bank of Venice established in the1.17

Fundamental of Bankingyear 1515, Bank of Sweeden established in the year 1556. Inthe year 1676, banking functions are carried out by theGoldsmiths in England by providing loans to English rulers.British ruler Charles III refused to repay the loan to theGoldsmiths. This was the reason for the public distrust ofGoldsmith. Public started demand their deposits from theGoldsmiths. In the same way, the banking business was to beasked to be handed over to the companies. It was essential forthe protection of public money and to regulate rate of interest.It was resulted in the establishment of the Bank of England inthe year 1694. In the year 1700, a right of issue of notes wasgiven to this bank. It started accepting deposits from public.Joint stock banks were established in the year 1823. Thesebanks were given permission to do banking business outsideLondon from 1827. These banks are established on the principleof limited responsibility after 1858. In the beginning of 19thcentury, the banking business was developed in the othercountries also.Later on banks were allowed to issue paper notes. In the duecourse of time, this right was restricted to the Central Bankonly. This is how modern banking has evolved over a long periodof time.1.4 Evolution of Banking in India :Modern banking as evolved in England was introduced by theBritish during their rule in India. Naturally, today’s Indian banking issimilar to British banking. However, it does not mean that bankingwas unknown to India. The essence of banking is lending for1.18

Evolution of Bankingproductive purposes. In fact, India was a major partner ininternational trading and was a big producer of steel, cloth, spicesand luxurious articles. There are references to rate of interest,security of the loans in the Manusmrity. Kautilya in the ‘ArthaShastra’ mentions regulation of

Evolution of Banking 1 1.1 Introduction : Banking is an integral part of the modern economy. But the nature and functions of modern banks have evolved over a long period of time. The idea of banking evolved with the idea of money.Banking business is mainly linked to lending. Moneylen