Money Changes Everything, William N. Goetzmann
"This book explores key steps in the evolution of finance in world history. My fundamental premise is that civilizations demand sophisticated tools for managing the economics of time and risk."
"Financial technology made possible not just financial contracts but also financial thinking--conceptual ways of framing economic interactions that use the financial perspective of time. Borrowing, lending, and financial planning shaped a particular conceptualization of time, quantifying it in new ways and simplifying it for purposes of calculation. This way of thinking and specialized knowledge, in turn, affected and extended the capabilities of government and enterprise."
"The invention of debt and the emergence of interest to incentivize lending is the most significant of all innovations in the history of finance. Debt allowed borrowers to use money from the future to meet obligations in the present. For example, suppose a farmer suddenly discovered that his or her store of food had spoiled and the harvest was a month away. Without lending and interest, the farmer would have to starve for a month, or depend on the vagaries of charity. However, debt allows the farmer to smooth consumption between the present and the future. In this sense it substitutes for the spoiled grain--it has the effect of moving the future harvest to the present."
"The relevance of the Assur trade and its aftermath is not simply that an extensive trade network existed--or that city politics could be organized around commercial principles, but rather that silver could be regarded as an essential input to economic life. Mesopotamia needed money as much as it needed food, clothing, and shelter. While we tend to think of precious metals as "luxury goods" and perhaps dismiss them as prestige items of the upper class, it is the seemingly arbitrary assignment of prestige to silver and gold that rendered them useful as currency. Silver's particular utility as a currency or unit of account is that it was accepted widely in the ancient Near East as money. Its value was global, not local. Grain was the "coin of the realm" within a household system that produced and distributed subsistence goods locally to its members. In contrast, silver was the medium of exchange that connected Mesopotamian cities with the broader world."
"Finance in the Greek world developed out of practices similar to those we saw in ancient Ur: loans and the financing of mercantile voyages. However, the historian Edward Cohen argues that a distinctively Greek mode of thought--a mentality based on dichotomies that pervaded both language and worldview--gave rise to a new kind of financial system. On the other hand, visible wealth such as land was something that could be seen by everyone and was part of the physical world. Abstract wealth, on the other hand, took the form of bank deposits, accounts, and contracts. These assets existed as rights defended in court, contracts between two parties, or accounts held in trust by a banker. While abstract wealth existed before the Greeks--we saw this in the ancient city of Ur, where financiers stored their loan tablets-Cohen argues that Athenian banks conceptually decoupled finance from other enterprises, making it flexible enough to accomodate the needs of distant maritime trade and ultimately the needs of an empire."
"The two big factors that distinguished Athens from most prior ancient societies were the reliance on maritime trade and the development of a unique governance system. Athens in classical antiquity was quite different from the early Sumerian city-states. Despite its magnificent Acropolis, it was not centered on a temple-based, local, agricultural redistribution system. The overseas grain trade relied in part on the invisible hand to attract risk capital--both wealth and human-risk capital. The invisible hand played an important role in creating an incentive structure to pull grain toward the city to replace the grain it could not produce on its own. That said, Athens was not simply a laissez-faire society. Strict regulatory constraints prevented grain re-exports and the financing of non Athenian grain trade. The secondary sale and storage of grain were likewise restricted. Legal and regulatory architecture played a key role."
"What all these explanations ignore is the supporting role of finance in technological development. Technology requires genius, but it also requires capital. Railroads need financing to build tracks and rolling stock. However, if successful, these investments can pay for themselves. Entrepreneurs need motivation to keep experimenting when their peers are working a steady job--patents and legal protection allow the former to capitalize on their innovations. If an entrepreneur faces state expropriation of his or her innovation, it makes little sense to invest in the human capital required. Capital markets and the protection of intellectual property rights can serve as cofactors in sustaining entrepreneurial motivation and capital investment. While the centralized Chinese government had the capacity to reward individuals for creating new technologies, it typically did not simply allow the market to provide financing for new ideas."
"The single missing ingredient in Chinese financial technology was the dimension of time. Weak European governments continually resorted to deficit financing and borrowing through the late Middle Ages and Renaissance. China did not."
"The key stages in Europe's development are first, the emergence of financial institutions; second, the development of securities markets; third, the emergence of companies; fourth, the sudden explosion of stock markets; fifth, the quantification of risk; and finally, the spillover of this system to the rest of the world. This radical reconfiguration of the financial architecture of Europe following the year 1000 solved many economic problems in stunningly novel ways, but the solutions were subtly challenging and occasionally socially disruptive. As a result, they engendered further innovation and change. Over the course of the second millennium, Europe became a vast laboratory for financial experimentation. As we shall see, the development of modern financial technology was anything but linear. Some new ideas worked well, and some failed spectacularly."
"Financial technology is redundant, adaptive, and sometimes mercurial. The institutions we take to be sacrosanct, inevitable, and indispensable are probably not. Given the random outcome of historical events, another set of institutions might have emerged to solve the same financial problems. Financial innovation is thus a series of accidents of history--the caprice of time, location, and opportunity."
"Most importantly, Liber Abaci extended the analytical powers of the human mind. The term for calculation is "rationatabus"--reasoning. The commercial arithmetic of Liber Abaci literally expanded the capacity for reason. It is difficult for the mind to juggle the relative value of multiple quantities and prices, particularly when they occur at different points in time. Liber Abaci provides the technology to do this. Just as spreadsheets and the Internet have narrowed the gap between Wall Street and Main Street, the new financial tools of the Middle Ages leveled the playing field of the marketplace. It is no wonder that Liber Abaci became the basic text for successive generations of Italian reckoning schools. Fibonacci created an educational tradition grounded in quantitative methods, not erudition and religion. In the final analysis, he changed the way Europeans learned, thought, and calculated."
"Now a public rather than private enterprise, the company of the Bazacle was remarkable as a milestone in the history of capitalism. But how exactly did such a modest enterprise exist for eight hundred years? How did it survive wars and political strife? More importantly, how did it survive expropriation by the state--at least until the twentieth century? We saw in Chinese history the constant temptation of the state to take over private enterprise, to seize, on moral grounds, the rents accruing to entrepreneurs. This did not happen in Toulouse until the twentieth century. Professor Sicard attributes the firm's survival to the widespread acceptance of specified contractual property rights. Even powerful counts who conceded the use of the riverbanks to common investors were held to contract by civil law. Whether this is due to the long tradition of the feudal contract, or the near pan-European recognition of Roman Law remains open to debate."
"The inevitable conclusion to be drawn from tracing such sporadic appearances of medieval European milling and mining firms capitalized by share investment is that capitalism is an economic solution that crops up repeatedly in the historical record. Its lineage is neither linear nor unique. Rather, it is a naturally and commonly occuring "sports" in the economic biota. In fact, as we have seen, it cropped up in Republican Rome, only to fall victim to the imperial patronage system. This process of appearance and disappearance, of tenuous survival rather than instantaneous and overwhelming domination of an economy, suggest that share capitalism might in fact be a fragile thing, heavily dependent on the right environmental and political conditions to flourish. Capitalism is not technological--despite Mao's observation about its inevitability in China. It can stop just as it can start. It is one of many equilibria."
"Even when individual voyages failed, battles lost, and markets closed, the corporate form proved to be a robust paradigm--a set of rules for the game--that sustained investor interest and thus continuity of capital for years, generations, and centuries. For these two countries, corporations grew to be nearly as important as the state, and the interests of both became intertwined."
"The financial innovation of the eighteenth century in Europe set it on a distinct course from China. The century began with innovations of probabilistic thinking and mathematics. Its first great bubble involved the discovery of paper money and the use of corporations in myriad creative directions. The eighteenth century also unleashed the wild force of speculation, upsetting the social order and creating a moral backlash against financial markets and financial thinking. It engendered serious attempts at regulating and controlling the forces of finance. In Britain, this included constraining companies, markets, banks, and even mortgage finance."
"John Maynard Keynes famously asserted that the fundamental driver of economic growth is animal spirits--of the kind we saw in abundance in 1720. We shall see the pattern of hope and despair--or even anger--about the financial markets play out again and again in this part. A rush of optimism about investing in new markets and new technologies can just as suddenly reverse. When stock values crash, people lose faith in markets, and the ability to tap investor wallets ebbs with stock prices. The key lesson is that belief in the power of the stock market is vital to sustaining it."
"One might have expected that the world would divide itself along lines of religious intolerance. After all, the Crusades are still the rallying cry in parts of the Islamic World. But the notion that the theory of finance--in particular, a disagreement over the role of investors in society--could rip the world in two is difficult to conceive of ex ante. We now know that the world took two different paths. China followed Russia in a Marxist-Leninist revolution in 1949 after a similarly destructive world conflict and civil war. So did Cuba, North Korea, and Vietnam. I grew up as a child fearing the sound of bomb shelter alarms that would signal nuclear attack--echoes of the historical split between East and West over economies and the financial system."
"In contrast, index funds simply hold everything. They are so diversified that even if there were some bad stocks in the portfolio, these do not have a proportionally large effect. By weighting by the size of the company, there is no need to buy and sell stocks to rebalance the portfolio. It does so automatically as prices of individual securities go up and down. Why doesn't everyone index? Perhaps this is due to an irrepressible, unwarranted, deeply seated hope to do better (i.e., human nature)."
"Like any technology, as finance became more sophisticated, it demanded increased specialization to understand and implement. By the same token, when finance failed, it had major economic implications for everyone--not just financiers. In times of financial crises, society has tended to express a collective nostalgia for a pre-financial world. However, the many examples in this book demonstrate that civilization has always depended on financial tools to move value through time and restructure myriad economic risks. Occasionally such thinkers as Karl Marx have dreamed of eradicating financial institutions like money or corporations. Despite the visceral appeal of such suggestions, rolling back the clock on financial tools would mean reversion to a way of life before the first cities and large-scale nation-states."
"History is interesting in its own right, but it is also important as a measure of the present and a guide for the future. As the world moves toward a collective global civilization with a greater proportion of its population participating in complex society, financial tools need to keep up. The lessons from our collective financial past take on more relevance. History has shown us financial mechanisms for risk sharing and intertemporal transfers and how variations in these tools can be adapted to different kinds of societies. We are free to repurpose past successes and learn from past failures about what to avoid. The experience of five millennia of financial innovation, however, suggest that finance and civilization will forever be intertwined."