LONG RUN TRENDS IN

FINANCIAL
INTERMEDIATION
Objectives
• Banks in the middle ages and early modern era

• Development of Corporations in the modern era and the South

Sea Bubble

• Banks and bank mergers in Britain until 1924

Banks in the Pre-Industrial World

• Local Deposit Banks:

• Payment Services
• Deposit Services
• Loan Services

• International Banks and Bills of Exchange:

• Payment Services in Long Distance Trade
• Hidden Loans
 Usury
From the Inferno, Canto XI:

"Once more go back a little to the point,"

I said, "where you state usury offends
The divine goodness, and untie the knot."
(Dante Alighieri)

God is the only owner of time

Charging for the use of time is a sin

Dante places the usurers in the lowest sub-circle of the seventh circle of hell,
with others whose sins are regarded as doing violence against nature and
nature's God; many people have noted that usurers are placed deeper into hell
than violent murderers, violent suicides, and blasphemers
A Caveat… Usury
• But how do we define usury in real terms?
• Two types of problems:

• Is a transaction a loan?
• Is the compensation an Interest?
• A voluntary loan with certain monetary
compensation was clear usury
Usury: Trickier Situations
• Compensation in kind
• Uncertain compensation
• Loan free of compensation, but a “fee” for late
payment
• “Voluntary gifts”
• Loan in different currencies
Reformation
• Protestant countries became more indulgent
on usury

• Henry VIII in England legalized interest rate in

1545, setting a maximum rate of 10%
Deposit Banks
• Usually local banks acting within a city

• Payment services
• Transactions were cleared in the books

• Deposits Service
• Especially from Merchants in Checking account
• An interest rate was paid… but it was connected to the
bank’s profits (to avoid of being accused of usury)
Deposit Banks
• Lending Services…
• The bank was also lending money…
• Small Loans to Merchants going to Fairs
• Silent Participations in Commercial Ventures
• Municipalities and Governments

• Loans were secured by:

• Jewelry
• Third Parties Personal Guarantees
Merchant Bankers
• While deposit bankers were specialized in finance,
merchant bankers did not abandon trading (in goods)
• A successfull merchant wealth found it necessary to
devote more time to managing his wealth
• Opportunities for further investment in his own business were
limited…
• …and considerations of diversification made it anyhow
undesirable

• In many cases, the wealthy merchant’s best alternative

was to lend his capital
Merchant Bankers
• Funds:
• Own Funds (Corpo)
• Borrowed Money (Sopracorpo)

• Lending
• Commercial Credit
• Sovereign Lending
Sovereign Lending
➢One reason merchant banks could borrow more
cheaply than governments was that their “credit
rating” was better

➢ The debt of a territorial government was essentially

the personal debt of the prince:

➢if he died, his successor had no obligation to honor it

➢ if he defaulted, there was no recourse against him in his

own courts
Sovereign Lending
➢Intermediation by merchant banks transformed illiquid
government debt into circulating bills

➢ The liabilities of merchant banks came in relatively small denominations,

in contrast to the underlying government loans which were sometimes
very large

➢ So intermediation broke sovereign debt down into pieces of a size that

appealed to a much wider class of investor

➢Crucial Factors to understand the 1720 Mississippi and

South Sea Bubble
Sovereign Lending
➢Intermediation by merchant banks transformed
“complicated forms” if government debt into something
“standard” and “easy to understand”

➢ Government debt was illiquid because it was ‘relationship’ debt: its value
depended on the ability of the lender to ensure repayment

➢ Government debt was also highly heterogeneous: each loan had

differing security, the value of which was generally hard to assess

➢Intermediation by merchant banks effectively transformed

illiquid government debt into circulating bills
An Example: The Tontine
• A tontine is an investment plan devised in the 17th century

• It combines features of a group annuity and a lottery

• Each subscriber pays an agreed sum into the fund, and

thereafter receives an annuity

• As members die, their shares devolve to the other

participants, and so the value of each annuity increases. On
the death of the last member, the scheme is wound up
Sovereign Lending

King Banker Market

• Various classes • Acquired the • Acquired the

of bonds government bankers bonds
• Complicated debt • The bankers is a
terms • Issue smaller credible
• Large denomination borrower
denomination bonds to to the • Bonds are of
• Uncertain public small
repayment denomination.
• Charge the King They can be
10% traded and be
• Yield if issued
• He is charged by part of a
to the public
the market 7% diversified
14%
portfolio
How does the King pay back?
• The main reward, especially for large loans, came in the form
of favors the government granted the merchant bank in return
for its lending
• commercial concessions, monopolies, and tax collections

• Earlier in the period, loans were often interest-free, it being

understood by both parties that there would be a different
quid pro quo

• The great Italian merchant banks of the thirteenth and

fourteenth century gained access to the grain of Naples and
Sicily and to the wool of England through their lending to the
respective rulers
Risk Management
• Any guarantee underlying Sovereign debt was not really
credible:
• The King could always renege on his promises

• Way to assure repayment:

• Keep short maturities
• Third parties guarantees from private individuals
• The repayment was based on a safe streams of money due to the crown
but as I told you so this management worked fairly well this did not prevent crowns and governments from default. so here England for instance
Austria, the Habsburg defaulted in 1796 which were basically Napoleon who was really kicking them badly because of sinking and losses on the
battlefield they didn't have any more money to pay back their creditors. I would say this is very important so the 1340s, the major default that's the
beginning of the end of the Republic of Florence France defaulted many times you see even Germany former Prussia deported Portugal only one
and Spain, that's why I keep on having Spain in my mind so Philip II was a serial defaulter and in fact two important German houses the Cougars and

the Western
went past because they were very exposed
to the Spanish crown
and Philip II didn't pay them back
and these are also his descendants
of course, Philip II
okay so this is general overview of merchant banking questions guys
okay
THE BANK OF ENGLAND AND
THE SOUTH SEA BUBBLE
The Beginnings
1694 Foudation of the Bank of England
• Byproduct of the Glorious Revolution
• The Government had to substitute unfunded debt
with funded debt
• The Bank was one of the main providers of long
term finance to the governement
• In exchange the bank received a periodic
compensation
The Beginnings
• In 1708, during the war of Spanish Succession, and in
a exchange for a fresh loan, the bank obtained from
the Parliament its most significant protection from
competition:

The prohibition of the legal associations of more

than six individuals from conducting banking
business

• The same Act gave the monopoly for note issuance

Background
• East Indies Company VOC, 1602
• West Indies Company WIC, 1621
• British East India Company EIC, 1600 –funding 1708
• Royal Africa Company, 1660
• Bank of England, 1694 funding of debt
• Royal Exchange Company and the London Assurance , 1719
• John Law, Banque, Company Des Indes, 1719
• 1720’s New Issues in London
• South Sea Company, 1711 Asiento, funding
• Rotterdam Insurance Company, 1720
The South Sea Company and its crash
• The South Sea Company was founded to trade with South
America
• The Peace Treaty of Utrecht in 1713 granted Britain the right to
send trading ships periodically to Spain’s possessions in the
Americas
• The company took over some of the government’s debt in
exchange for the trading privileges
• Its mercantile operations never amounted to much
• By the late 1710s, the South Sea Company amounted to little
more than a shell company distributing interest payments on
government debt to its shareholders
The South Sea Company
• In 1719, the Company took over another part of the national
debt, referred to as the “lottery loan”
• While paying a high rate of interest, the loan was highly illiquid
• Bonds could not readily be transferred; price discounts were substantial

• The operation that swapped the lottery loan for equity in the
South Sea Company was widely considered a success:
• the investors gained a more liquid asset
• the government lowered the interest charges on its debt
• the company made a profit
The South Sea Company

British Government South See Market

Company

• Various classes • Acquired the • Acquired the

of Bonds/Debt government shares
instruments debt • Traded the
• Illiquid • Issue shares to Shares in
• Complicated the public financial
terms markets
• Large • The value of its • Share were a
denomination shares depends liquid and
• Uncertain on the capability “homogenous”
repayment to induce the financial
government to instrument
repay
The South Sea Company
• The 1720 scheme was vastly more ambitious
• – and it contained one crucial difference with the 1719 operation

• The South Sea Company proposed to take over the entire

remaining national debt (except for the parts held by the Bank
of England and the East India Company)

• This corresponded to about £31.5 millions

The South Sea Company
Problems with the Scheme:
1. The Company overbid. It faced competition from the Bank
of England
• The South See company should have paid £7.6 millions to the UK
government in case of complete full conversion of the government
debt
2. The Company paid a large amount of briberies to get the
backing of the government and parliament

To maintain the business profitable:

1. Trading with the Americas should revive (not really an option)
2. Maintain a high South Sea Share price. So that Debt/Equity
conversions will be done at a favorable term
Incentives to raise share prices
1. The government allowed the company to raise the
31.5 million shares
nominal capital of £31.5 million to finance the
acquisition of the debt

2. Any leftover could be used to make an SEO

3. The swap debt vs. equity was based on market prices

4. Higher prices:
➢The company could use less equity to buy debt
➢The company could issue more equity to the market at high prices
 so in both cases u can issue 31.5 o-in capital

share price= 100 bond= 100

share price= 200 bond= 100 > two bonds for one share and u are allowed to issue 31.5 shares (given
shares nominaal is 100) so

Example
• CASE 1
• The nominal value of the South Sea Company shares was £100
• The nominal value of the various issues of government debt was about
£100
• If the conversion was done at nominal values, the new issue would have
just bought the government debt
• CASE 2
• But if the conversion is made at market price and the price of the SSC
shares is £200 for £100 of government debt
• £15.75 million of nominal equity could be used to buy the debt
• £15.75 million of nominal equity could be issued in the market (at the
price of £200)
The South Sea Company
• The company issued new shares at steadily rising prices – for
£300 in early April, £400 in late April, £1,000 in June, and
£1,000 in August
• These were known as “subscriptions”:
• Investors could buy them on installment plans
• To make the subscription shares more attractive:
• Actual down payments amounted to only £40-200 (10-20% of the total
cost of the shares)

• Bribe the Press

South Sea Company Issues of New Shares
The Bubble
• Throughout the spring and summer of 1720, the stock price
moved up, reaching nearly £1,000 by June
• Many inexperienced investors entered the market, often in the
expectation of a quick profit

• The company initially did not use all the proceeds from share
issues to actually buy back government bonds, as from the
original scheme

• Instead, it lent generously against its own shares

• Lent to who? Prospective shareholders/investors
This is how the news
of the bubble is spreading
around Europe. This is taken from
a Dutch satirical newspaper
in the same time.
And what is spreading
the bubble is Medevir,
a South Sea company that is
leading all the crazy people to buy
shares
at a price of
1,000 pounds per share.
The news is spreading all over Europe.
Something really crazy is happening in
London.
 The Crash
So once in bubble,
let's talk about the crash.
And notice the crash wasn't funny, like many
other crashes. So people
lost lots of money. This is how again I was
described by this
satirical pamphlet
here in the netherlands.
-slide 37:
So this is a plot of the prices of a South Sea company starting January 1st, 1720,
around December 131.
And you see that, as I told you, right before the scheme is approved
in March, before the scheme is approved, the price of the South Sea is in the order
of 100
pounds, a bit more. This is the government of the South Sea company agreed on
the plan.
The price goes up already to 300. And this is the spring up here, this is the
max, and then we haven't talked about this. But if you are in December 1720, that's
what you
get. So if you bought here, you sold
here, you didn't see the bubble.
If you are
newton, you bought here, and
oh yeah, newton bought around
here, around here,
and sold here. The best thing are the two souls who bought here, and then ended
up here.
This is all in less than one year, right?Yeah, it's one year. So, actuallythe bubble for
me is March 1720, October 1720. October is over. It is relatively quick.Okay.
The Crash: The Mississippi Company
• In France, the Mississippi Company was running a
similar scheme that crashed in the Spring of 1720
• Liquidity Crisis
• Fall in Confidence
The Crash: The Bubble Act
• The South Sea speculation had triggered an upsurge in the
prices of other Companies along with the creation of
numerous "bubble companies.“

• The channeling of capital into these companies alarmed the

directors of the South Sea Company
• The South See Company was facing competition to acquire financial
capital

• Parliament passed the Bubble Act in June 1720 to ban the

formation of unauthorized corporations or the extension of
existing corporate charters into new, unauthorized ventures
Bubble Companies
• For trading in hair • For importing walnut-trees
• For assuring of seamen’s from Virginia
wages • For making of rape-oil
• For importing pitch and tar, • For paying pensions to
and other naval stores, from widows and others, at a
North Britain and America small discount
• For insuring of horses • For making iron with pit coal
• For improving the art of • For the transmutation of
making soap quicksilver into a malleable
• For improving of gardens fine metal
• For insuring and increasing • For carrying on an
children’s fortunes undertaking of great
• For a wheel for perpetual advantage
motion
The Crash: The Bubble Act
• When the act was enforced against some of the Company's
competitors on August 18, 1720, immediate downward
pressure was placed on the price of shares of the affected
companies

• Most of this shares were held as collateral to purchase other

shares (among them the shares of the South See Company)

• The Fall of the collateral value forced investors to sell their

positions

• General selling hit the shares of all companies, including South

Seas, in a scramble for liquidity
Was there a bubble?
• Bubble: the stock prices do not reflect the fundamental value
of the underlying firms
• In principle:

(1 + 𝑔)𝐹𝐶𝐹 (1 + 𝑔)2 𝐹𝐶𝐹 𝐹𝐶𝐹

𝑃= + 2
+⋯=
(1 + 𝑟) (1 + 𝑟) 𝑟−𝑔

But what if
𝐹𝐶𝐹 𝐹𝐶𝐹
𝑃> or 𝑃 <
𝑟−𝑔 𝑟−𝑔
Importance for understanding finance
There are various elements that make the South Sea Bubble and
important historical episode that can help us to understand
better financial markets:

1. The role of “financial innovation”: joint stock company,

widespread use of equity and securitization
2. The role of credit:
1. The Bank of England and the South Sea Company provided lots of
credit to investor
2. The role of margin loans in amplifying the movement of share prices
Trading Data: BOE
Bank Of England Index Entry
Transfer Files
Loan Data: South Sea Company
Herd Behavior
Investor Brain Disorder
Madness of Crowds
INTRODUCTION TO
ENGLISH BANKING
1694-1925
Later XVIII Century
• The lobbying power of the Bank of England eroded as the
government resorted to other forms of finance... In particular
Treasury Bonds

• As a result the proportion of loans directly obtained from the

Bank of England diminshed
 % of Gov Debt owed to the
Year
Bank of England
1700 15%
1743 20%
1762 10%
1784 5%
1808 2%
Scottish Banking
• The Bank of Scotland was chartered in 1695
• Bank of Scotland had no fiscal connection with the
government
• It was forbidden to lend to the State by its charter
• It had no role as governemnt fiscal agent

• The Bank of Scotland obtained a monopoly privilege

for Twenty-one years... Not renewed
• Royal Bank of Scotland founded in 1727
• British Linen Company in 1746
The Beginnings
• Other than the BoE... Banking in England and Wales
remained a “private matter”
• Especially in the provinces (where the competition of
the BoE was not that strong) private banking
flourished
• But Private Banks remained small...
• No private bank could have more than 6 partners
• They were allowed to issue notes only with big
denomination
XIX Century
• Wave of Banking Crises and Panics
• 1783, 1793, 1797, 1816, 1818, 1825
• The underlying causes are more or less the
same:
• Bank Notes (even though of relatively big
denominations were an important source of
funding for banks)
• An adverse shock generated a panic... People
got to the banks to have their notes converted
into gold
XIX Century
• The Small dimension of the provincial (and
private) banks were also blamed for the
fragility of the system
• Small banks have smaller scale operations
• Less possibility of diversifying
XIX Century
• 1826: Banking corporations with more than six
partners were allowed to be constituted outside of a
65 miles radius from London
• No other particular regulation on Banking
(i.e. Deposit insurance, Capital and reserve requirments)
• Bank of England was allowed to branch outside London

• Tha Bank of Liverpool was founded in 1826

• Stuckey Banking company shortly after
XIX Century
• 1833 Banking Act
• Joint Stock Banks could be established also in
London
• But they were not allowed to issue Banknotes

• Banknotes issued by the Bank of England were

given legal status
• London and Westminster Bank (1834)
• London Joint Stock Bank (1836)
• Union Bank of London (1839)
XIX Century
• 1857 Banking Act
• Banks are regulated as any commercial
companies
• In 1858 also limited liability is allowed
A look at the US in the twentieth century
COMPETITION AND M&AS IN UK
BANKING, 1885-1925
This part of the lecture…
• A Study of the relationships between competition in
the Banking Sector and the Real Economy…

• ... in a environment with no banking regulation

• What happens to banks’ loan provision and risk taking?

Banks and Risk Taking
• Do banks become more or less risky when banking
competition is low?
• Charter Value Hypothesis (Keeley, 1990)

• In a less competitive market, banks should become safer

• The opportunity cost of bankruptcy becomes higher
• If the banks fails, it will lose future streams of monopoly
profits… as a result failing is very costly!!!!
Banks and Risk Taking
• Moral Hazard/Too Big to fail

• In a less competitive environment banks will take

more risk

• Each bank commands a large part of the deposit

market… in case of distress, the government will
have an incentive to bail them out and keep the
depositors safe
Motivations
• Testing these theories is difficult as regulation is a
confounding factor

• An example: Community Reinvestment Act

• In order to get regulatory approvals for acquisitions or mergers, banks
must lend to “sensitive” borrowers
• Usually underperforming, riskier borrowers

• Imagine we found that after a merger, banks take more risk… we don’t
know whether this is an effect of
1. The Decline in Competition
2. Or the Community investment act
UK at the Turn of the XX century
• Since 1857, banks were treated as “normal commercial firms”

• No Capital Requirements
• No Reserve Requirements
• No Community Responsibility Act
• No Deposit Insurance
• No Anti-Trust
• No Restriction on Branching
• No Tax Advantage of Debt

• Unclear possibility of Bail-out

A look at the US in the twentieth century
big increase

little change

big decrease
What do we do?
1. We check the relationships between local bank
concentration and lending practices using
• Detailed Loan Data…
• …and Banks Balance Sheets Data

2. We provide evidence of the “Macro” impact of

increased concentration
Data
• Original Internal Loan records of Banks/Branches
• We hand-collected information on about 30,000 loans
granted by 43 banks between 1885 and 1925

• Branch Locations
• All branches of all commercial banks, every year,
1885-1925

• Accounting data (profits, balance sheet info)

Well, another example of a company which is reputed to be a good borrower with another bank, J.A. Wood & Company,
which is applying to extend the credit of an extra more thousand pounds.
So these guys already have a loan with the bank.
They apply to borrow an extra 100 pounds on top of what they already have.
So what's the arrangement?
So this is also an overdraft. The total turnover of this overdraft is about 15,000 pounds. Interesting, how interest rates were given. This is quite common
arrangement. It would have been a markup in this case, 1% over Bank of England rate. So take the interest rate of a Bank of England plus 1%, that's
the interest rate applied to this. Minimum 5%, so if a Bank of England rate becomes 2%,
so the interest rate should be 3%,
the window for us stays 5.So there's a bottom.

And then we also have a commission of one third on the turnover. Comments of this company. We are supposed to ask for an extension of an extra
thousand pounds. This firm is doing a very good business, and the extension asked for will be a convenience C, a convenience to monetize.
Sanction signed was given. So imagine we're able to get thousands of these loans, everything said, no, we can send this to India. We got PhD students
in history in Edinburgh who love to type these things. We typed all this information in Excel. And then we use it to run regressions.
So this is information about loans.
Remember, you may have a bank with multiple branches,
so you may have a branch in CTA, BC,
and CTA, BC have a different degree of competition
in the local banking market.
 Loan
Analysis

Balance Sheets
Analysis
Loan Analysis
𝑌𝑖,𝑗,𝑘,𝑡 = 𝛼 + 𝛼𝑘 + 𝛼𝑡 + 𝛽𝐶𝑜𝑢𝑛𝑡𝑦 𝐻𝐻𝐼𝑗,𝑡−1 + 𝐶𝑜𝑛𝑡𝑟𝑜𝑙𝑠𝑖,𝑗,𝑘,𝑡 + 𝜀𝑖,𝑗,𝑘,𝑡

• Yi,j,k,t: Amount, Spread, Collateral (0/1),Collateral/Amount,

Duration of a Loan i granted by a branch located in county j of

bank k at time t

• County HHI: Herfindhal Index of the county where the branch

operates
Results County HHI (LAG) -4.555***
Loan Amount
-4.108*** -3.928*** -2.340***
(0.627) (0.675) (1.111) (0.642)
Renewal 0.373*** 0.392*** 0.216***
(0.092) (0.098) (0.076)
Overdraft -0.106 -0.093 -0.090
(0.101) (0.091) (0.090)
Log (Loan Number) 0.105 0.103 0.183***
(0.082) (0.086) (0.046)
Metropolitan Branch 0.321*** 0.290** -0.157***
(0.116) (0.133) (0.047)
Borrower Company 0.625*** 0.613*** 0.583***
(0.063) (0.070) (0.096)
Borrower Woman -0.649*** -0.653*** -0.708***
(0.146) (0.145) (0.114)
Log (County Population) 0.133*** 0.129*** -0.279* -0.077
(0.019) (0.016) (0.160) (0.083)
R2 0.420 0.420 0.453 0.918
Obs 29581 23496 23496 15306
Bank Controls No Yes Yes Yes
Year FE Yes Yes Yes Yes
Bank FE Yes Yes Yes No
County FE No No Yes No
Borrower FE No No No Yes
Econ Sig. (County HHI) -0.296 -0.272 -0.261 -0.165
Results Loan Spread Loan
Secured
Collateral /
Amount
Loan
Duration
County HHI (LAG) 0.002 0.135 4.360*** -0.505*
(0.002) (0.143) (0.803) (0.249)
Renewal 0.000*** -0.094 -0.391* -0.011
(0.000) (0.064) (0.211) (0.046)
Overdraft 0.000 -0.078*** -0.226** -0.111***
(0.000) (0.008) (0.089) (0.034)
Log (Loan Number) -0.000 0.083*** 0.029 -0.007
(0.000) (0.011) (0.085) (0.028)
Metropolitan Branch -0.001*** -0.036*** -0.453*** 0.026
(0.000) (0.011) (0.115) (0.041)
Borrower Company -0.001** -0.066*** -0.193*** -0.014
(0.000) (0.014) (0.053) (0.010)
Borrower Woman 0.001*** 0.145*** 0.392*** -0.000
(0.000) (0.025) (0.020) (0.030)
Log (County Population) -0.000** -0.027** 0.112 -0.022***
(0.000) (0.012) (0.098) (0.006)
2
R 0.128 0.131 0.059 0.117
Obs 10251 23496 18534 12116
Bank Controls Yes Yes Yes Yes
Year FE Yes Yes Yes Yes
Bank FE Yes Yes Yes Yes
Econ Sig. (County HHI) 0.000 0.059 0.260 -0.038
 Loan
Analysis

Balance Sheets
Analysis
Balance Sheets Analysis
𝑌𝑖,𝑡 = 𝛼 + 𝛼𝑖 + 𝛼𝑡 + 𝛽𝐵𝑎𝑛𝑘𝐻𝐻𝐼𝑖,𝑡−1 + 𝐶𝑜𝑛𝑡𝑟𝑜𝑙𝑠 + 𝜀𝑖,𝑡

• Yi,t: Cash/Assets, Investments/Assets, Loans/Assets, Capital

Ratio, Standard Deviation of Returns

• Bank HHI: Herfindhal Index of the main county of operation of

the bank
• Main County of Operation: the county where the bank has the largest
number of branches
 Panel A : Fixed Effects
Authorized
Investments Capital Standard Dev.
Cash/Assets /Assets Loans/Assets / Assets (Equity Returns)
Bank Fixed Effects Yes Yes Yes Yes Yes
Years Fixed Effects Yes Yes Yes Yes Yes

Bank HHI (LAG) -0.082 0.321** -0.283* 0.063 0.058

(0.076) (0.147) (0.160) (0.098) (0.036)
ROA (LAG) -0.934 -2.009* 3.145** 4.721*** 0.110
(1.180) (1.179) (1.430) (0.940) (0.318)
Bank Returns (LAG) -0.008 -0.053 0.024 -0.000 -0.036***
(0.033) (0.032) (0.036) (0.026) (0.011)
Log Assets (LAG) -0.007 -0.035** 0.021 -0.007 -0.007
(0.014) (0.017) (0.017) (0.013) (0.005)
Log Number of Branches (LAG) 0.015** 0.000 0.001 -0.023* -0.002
(0.006) (0.014) (0.014) (0.012) (0.003)
Log County Population (LAG) 0.010 -0.006 0.000 0.012 -0.001
(0.007) (0.015) (0.019) (0.011) (0.002)
Log # of Acquisitions, past 5 -0.006 -0.007 0.007 -0.006 -0.001
(0.008) (0.010) (0.015) (0.006) (0.002)
Growth of Assets, past 5 -0.003 -0.002 -0.001 -0.006 0.000
(0.008) (0.007) (0.009) (0.010) (0.003)
R2 0.235 0.279 0.303 0.758 0.303
Obs 1298 1298 1298 1291 1318
What did we learn?
What did we learn?
• We find support for the classic view
• In More concentrated markets, banks:
• Extend smaller loans and loans have shorter maturities
• Demand more collateral
• Invest more in ‘safe’ marketable securities

To the extent the large banks operates in less competitive environment,

our study suggests that size (alone) or lack of competition (alone) does
lead banks to take less risk

What about regulation?

Third parties guarantees from private
individuals
• Lenders generally insisted on guarantees from individuals or
bodies against whom they could obtain a judgment if the
sovereign defaulted

• For, example, in Bruges in the fifteenth century, the Duke of Hainault was
able to borrow only after he obtained guarantees from various noblemen
and towns in Brabant as well as a personal guarantee from a banker from
Lucca

• In Antwerp in the sixteenth century, Henry VIII provided guarantees from

the London branches of the Bonvisi and Vivaldi merchant banks; they, in
turn, were indemnified by English merchants
Sovereign loans were also secured by the
pledge of specific government revenue
• Mines of copper and silver owed royalties to the territorial sovereign
in the form of a fraction of their output

• Duke Sigmond of Tyrol borrowed from the Fuggers, starting in 1487,

against his expected royalties from the Schwaz mines; in exchange
for their advances, the Fuggers collected the royalties until the debt
was paid in full

• Loans to the King of Portugal from the Welsers and other German
bankers in the early sixteenth century took the form of forward
purchases of spices imported by the royal monopoly from the Indies
Margin Loans
• Margin Loans

Margin buying refers to the buying of securities with cash

borrowed from a broker, using other securities as collateral

Buy 100 dollars shares

80 dollars borrowed by a broker (shares used as collateral)

20 dollars of my own cash
Margin Loans
• Implications:
• The collateral value crucially depends on the share prices
• If market prices are going up... The borrowing capacity
increaes
• If market prices go down... The bank may ask to post
additional cash to maintain the margin
• In my example, if the stock price falls to 60 dollars, the lender
could ask the borrower to post an additional 20 dollars of cash
• How do you get this cash? By selling shares! Depressing share
prices even further
Bank Notes
Liabilities Assets
• Equity • Loans
• Deposits • Cash
• Loans • Bullion
• Bank Notes
• Receipt payable to the bearer.
The bank was obliged to pay
the amount of gold or silver
indicated in the note to
whoever requested it