Economy, History

Money’s history — Promissory Notes

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While there’s little truth to the idea that Marco Polo brought pasta to Italy from the east, there s another marvel that the book about his travels popularized, It was an idea a radical one which is perhaps best summarized by the very title of the chapter that discusses it For in the book of the marvels of the world or as we know it The travels of Marco Polo there s a chapter titled How the Great Khan Caused the Bark of Trees Made Into Something Like Paper to Pass for Money Throughout his Realm.

In ancient china, they invented a coinage system where the coins had holes punched in them, so if you needed to measure out large denominations you could just run a string through the center of the coins and a particular length of string would hold a hundred or a thousand at once. But over time the economy evolved Transactions got bigger, and merchants found themselves needing tens or hundreds of thousands of coins to complete transactions, and of course a strand of a thousand of these wait about pounds already, So it became a real pain in the neck to transport them. So the government started saying How about we pay you pieces of paper that have the amount of coins we owe you written on them and you can come pick up your coins at the Capital whenever you want your money, And since the government bought a lot of things these paper slips started being circulated everywhere. Soon merchants realized that these slips of paper were always good That they could be turned in at the Capital for however much was written on them whenever they wanted, Thus the merchants began using these promissory notes or essentially government iou s as money and then the government caught on and simply started printing up money So by the time we got the travels of Marco Polo, paper money was widespread and this idea started to catch on even outside of China. Sometimes with little success like when Gaykhatu the corrupt akan of the Middle East, tried to introduce paper money after he d already splurged the royal money and had his economy collapse to a cow plague. He basically fell prey to the misconception that simply printing money was literally a way to print money Needless to say he was promptly strangled with a bowstring, But sometimes in other places the idea started to take stronger hold especially Italy. The Italian city states had already been playing with this idea a little they were the economic dynamos of Europe, and the first truly great trading cities on the continent since the ancient world. They were also basically always at war This made carrying around great heaping piles of cash a wee bit of a danger, So the merchants came up with a new system influenced by the tales from China, At first they began simply issuing promissory notes basically iou’s Merchants would get to a new town and stock up on supplies and trade goods, but rather than carrying the cash to pay for them across dangerous country they were just give the seller an IOU often backed by a very famous or wealthy merchant, promising to pay for the goods at a later date. But here s the trick To keep anybody from having to haul all that money around the merchants wouldn’t t ever actually end up paying the seller directly, Instead he would just pay a bank in his hometown. Here s how it would work The merchant selling the goods would take the promissory note he got for them to his local bank, which he had access to unlike most of Europe because the Crusades had accidentally created modern banking , So he would take the note down to the bank and cash it in for slightly less than its face value, Basically the bank was buying the note from him for some amount less than it was worth, Then the bank which would have branches in other cities would send a rider with a stack of these notes out to whatever specific city those notes had originally come from, When the rider got to the city he would hand them to the local branch of the bank and then the local branch would go collect from the merchant who had bought the goods, So the merchant could pay for goods in a far off location by paying his local bank after the fact.

 A pretty huge step forward for commerce But what if the bank didn’t t have a branch in the merchants hometown, Well then the bank would just sell the promissory note to another bank that did have one there. So these promissory notes sort of started to take on a value of their own People started trading these notes and soon the bank s got in on the action and just let you take out notes from the bank itself if you have the deposit to cover it, But this didn’t t reach its full form for quite some time Fast-forward about 300years, and move halfway across the continent to the little island hanging off of Italy side The year is 1640 The never popular Charles the First monarchy is deeply in debt, He had gotten into a tiff with the parliament and basically disbanded it for over a decade, But according to English law parliament is the only group allowed to levy taxes, Which you do need when you are a king and flat broke, But not Charles he had all sorts of crazy schemes for bringing in money without calling on Parliament, So miffed he was at them. and in 1640 we have one fine example, He just seized all the money in the mint And this is kind of a big deal because it wasn’t t his money in the mint, All the merchants and the goldsmith s of London deposited their hard currency at the mint, Just as a place to store it. So the king just picked up all that cash and declared it to be another one of his ever popular forced loans, And then he proceeded to also seize all of the East India Company s pepper just to add a strange if somewhat delectable twist to this tale, Needless to say his head was promptly separated from his body Which leaves us in the aftermath with a bunch of merchants and goldsmiths.

 The merchants and goldsmiths got together and the goldsmith s basically said Look we have these giant vaults for storing all of our gold, if you want to pay us a small amount you can rent a corner of the vault to put all of your money in. This rapidly evolved to the goldsmith s paying people small amount of interest to leave their money with them, in exchange for the right to lend it out.

 This basically made them into banks And in their capacity as banks when people would deposit their money the goldsmith s would basically give the depository receipt which they could turn back into claim their money, But soon these goldsmith s made a pivotal switch They changed from making out receipts which could only be redeemed by the person who originally made the deposit, to also offering receipts that could be redeemed by whomever held them, This allowed people to start using their receipts as currency. Rather, than pay for something with a pile of coins why not just put that pile of coins in the bank and pay for stuff with these far more convenient receipts. Of course as soon as they started doing this people began to ask for multiple receipts in small regular denominations, So you go to the bank you drop off 20 quid and ask the nice fellow at the register to give you 20 receipts for one pound a piece so that you could go out and buy some vegetables or something with them. As soon as you do that you basically have the banknote, The fundamental form of paper money And the goldsmiths were clever folk they started to notice the funny thing about banknotes, These banknotes were starting to get passed around from hand to hand without often getting handed back in at the bank, which meant that the bankers could keep playing around with the money those notes were supposed to represent even as they circulated through the markets. After all, so long as everybody doesn’t t try to turn in their bank notes at once the bank can lend more money than it actually has its vaults, While one bank note is circulating its way from hand to hand the bank can use the coins that note represents to cover somebody else turning their bank note in, And thus fractional reserve banking was born. Instantly expanding the money supply of England But not without introducing some dangers.

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