Essay 1

Goldsmith Bankers

Introduction
Banking in England effectively dates from the emergency of goldsmith bankers in the early 17th century. (Bollen, What is a deposit (and why does it matter?) The goldsmiths role as bankers developed naturally from their normal business activities. Edward Backwell, a pre-eminent goldsmith banker during the 17th century along with other goldsmith bankers had developed the system of banking which became a critical background for the innovations in public finance and the formation of Bank of England. (Goodman, The Formation of Bank of England)

Essential Functions of Goldsmith Bankers

Goldsmith Bankers and moneylenders were essential functions in all places where formal banking had not yet taken root. (Black, Reading 4-3, p. 2) They collected deposits and offer an interest rate of around six percent, and assumed the function of cashier to merchants. They lent gold and collected a fee or interest. In addition to the primary banking role, they were also involved in foreign exchange and discounted bills for their clients. (Black, Reading 4-3, p.4)

1.

Function of Deposit Taking and Payment:

As the mercantile revolution began and merchants flocked to the shores of England with silks and spices from the orient, goldsmith bankers were used by these entrepreneurs to store the vast amount of gold they collected (The History of Money, Wikipedia). During the earlier time the fact that purchases were settled with gold for traders in earlier times made the transportation of gold a huge burden and made the traders vulnerable to crime (i.e. attacks and robberies). Typically, the metal would have to be measured each time a transaction occurred for negotiation purposes. It became much easier for traders to deposit their gold with goldsmiths, who would store it in vaults for a fee. When gold or silver was put in storage, the goldsmith would issue a receipt to the depositor, as a record of ownership. (From Commodity to Bank Debt Money, Ingrimayne) The paper receipts that bore witness to the reality of the fund were much easier to carry than the gold or silver, especially for larger transactions. In short, little by little, the merchants began to exchange among themselves these receipts rather than the gold itself, so as not to move the gold unnecessarily and risk the attacks from robbers. In other words, a buyer, rather than getting a gold

plate from the goldsmith to pay off his creditor, gave to the latter the goldsmith's receipt, giving him a claim to the gold kept in the vault. Soon people were paying for goods with goldsmiths' receipts (Even, The Goldsmith Who Became a Banker) .This system reflects the primitive stages of banking.

2.

Function of Money Lending

After the goldsmiths began issuing paper receipts that circulated as money, they quickly noticed that the gold deposited in their vaults was rarely withdrawn because the gold-backed paper receipts were a popular way of making payments. They saw an opportunity to profit from this situation by lending gold to merchants in need of capital in exchange for interest. (From Commodity to Bank -Debt Money, Ingrimayne) As long as the goldsmith bankers didn't use all the gold at once, but reserved enough gold to pay up with whenever someone who had a receipt for it asked for it, there was no problem. Another way that borrowing could take place would be that someone accepted the paper IOUs of the goldsmith issued instead of taking the loan in the form of gold. Since people accepted these paper IOUs as money, this transaction increased the amount of money in circulation. (From Commodity to Bank -Debt Money, Ingrimayne)This is when goldsmiths began to create money based on public trust.

3.

Functions of foreign currency exchange

From the historically famous diary of Samuel Pepys, we have learned that the goldsmith Edward Backwell was not only taking deposits, loaning money to individuals and the royalty, but also changing foreign currency. (Black, Reading 4-3, p. 4) As the networks of European trade developed and the number of European merchants dealing with foreign markets increased, financial agents for the supply of bills of exchange became more and more important. Bills were orders to pay in a foreign port in a foreign currency at some time in the future. Instead of merchants arranging all the elements required for a bill, third-party intermediaries supplied credit or other services. In London, these services became concentrated in the hands of bankers. To reduce their risks in dealing with international bills of exchange, they created a network of responsible agents overseas. From the mid-seventeenth century, such economic actors were transforming themselves from being goldsmiths to undertaking purely financial business. (Neal

and Quinn, Networks of information, markets, and institutions in the rise of London as a financial centre, 16601720.)

Advantages and Disadvantages of a Formal Banking System

The present banking system can be seen as the successors to goldsmiths. Although money can no longer be redeemed for gold, the way banks now operate is basically the same. According to Halley Goodman, the modern banking system was developed at the result of economic growth which emphasized the growing need for a stable and affordable credit. Banking organization and techniques are also regulated by the government. The advantage of the present banking system is that credit-based standard facilitates productions and trades because of the easier access to capitals. It contributes to the economic prosperity if it is run properly. However, Banks now lend without concern for how much they have on deposit also post serious problems. They are motivated to lend more for the pure pursuit of greater profit by reducing the quality of loan portfolios. To compensate for lending at a great risk to borrowers of lower quality, banks increases interest rate even more. Existing borrowers are locked and have to pay higher interest costs. The effect of all of this is business overheads increase; leading to increased prices of products and increased taxes because corporations and government have to bring back to the banks more money they are borrowing, then inflation results and society as a whole is poorer.

Conclusion
The goldsmiths of yesterday became the bankers of today and although paper money took over from gold, essentially the same functions and even same fraud are being run. Our financial system as today will continue evolving to remove the unacceptable by-products of bank success while providing economic services society as a whole really needs.

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