The Ascent of Money: A Financial History of the World

Chapter 1 tells the story of the rise of money and money-lending, along with the history of the banking system. Ferguson begins by asking the reader to “[i]magine a world with no money,” presenting such a scenario as the reality for primitive peoples of the past and as the dreams of communists (17). He says that even communist societies, however, rely on money.

“The Money Mountain”

Ferguson begins with a tale about money during the Age of Exploration. In the 16th century, the Inca Empire in present-day Peru was both moneyless and the most advanced society in South America. A Spanish force under Francisco Pizarro crossed the Atlantic seeking fortune in the form of gold and silver. The Incas had considerable quantities of both metals, which they did not use for money but for other purposes, including decoration. After two years of fighting, the Spanish obtained their objective in 1532, taking tens of thousands of pounds of gold and silver. Pizarro himself died in 1541, but the Spanish conquistadors (“conquerors”) remained, and when a mountain full of silver ore was found in 1545, they extracted all they could using the forced labor of the Incans. The silver mined from Cerro Rico (Spanish for “the rich hill”) was formed into bars and coins before being shipped back to Spain.

The author then gives an overview of the long history of using metals like bronze, silver, and gold for money. The earliest coins found date back to 600 BC, near what is today Turkey, and Roman coins were still used even after the empire had ceased to exist. By 800 AD, however, there was a shortage of silver in Europe. Because the Islamic Empire in the Mediterranean and Near East was more advanced commercially, a greater demand arose there for money, drawing precious metals away from Europe. The Crusades were fought, in part, to plunder some of this money for Europe.

Thus, the Spanish discovery of Cerro Rico seemed to be a solution to this problem, and by fighting wars with a number of European nations, Spain helped to disseminate money throughout the region. Their good fortune also had a negative side though: in effect, they found too much silver and by flooding the market with it, the relative worth of money became less. That is, from the mid-16th to the mid-17th centuries, this inflation caused food prices to rise. “What the Spaniards had failed to understand,” writes Ferguson, “is that the value of precious metal is not absolute. Money is worth only what some­one else is willing to give you for it” (26). Thus, increasing the money supply tends to increase prices.

Ferguson ends this section by demonstrating that precious metal in itself has no intrinsic value. He discusses the use of clay tablets to record commercial transactions in Mesopotamia, about 5,000 years ago, and gives the example of one surviving tablet that states “the bearer” should receive a certain quantity of silver. Ferguson compares this to the paper money that we use today, and even electronic transactions, which use nothing tangible; what they have in common is our belief that whatever is being used for money will be honored as such.

“Loan Sharks”

Ferguson next turns to credit, and its creation in the small, feuding city-states of northern Italy in the 13th century. Compared to the East, Western Europe was backward in terms of math and numbers. The Roman Empire had left its system of numerals, which was unwieldy for use in complex business. A mathematician named Leonardo of Pisa, or Fibonacci, changed this in 1202 with his book Liber Abaci (“The Book of Calculation”). He described fractions and decimals, but more importantly, introduced Hindu-Arabic numerals capable of rendering them. This could be applied to calculating interest, for example, which turned out to have significant consequences for Italy’s city-states.

The greatest impact might be said to have occurred in Venice, where, Ferguson writes, “the most famous moneylender in Western literature” lived. He then relates the story of Shakespeare’s The Merchant of Venice and Shylock the moneylender. Many of Shakespeare’s observations were based on reality. Shylock was a Jew, for example, and at that time in Europe only Jews were allowed to loan money at interest (called “usury”) because the Bible forbade Christians from doing so. The Jews’ Old Testament had a similar prohibition, but only between “brothers,” which allowed them to loan to Christians. As a result, cities like Venice had Jewish areas where those who lent money were allowed to live. In Venice, they did business in front of a building called the “Banco Rosso,” sitting on banci, or benches, which gives us the word “bank,” used today for lending institutions.

Ferguson next discusses why borrowers don’t default on their debts more often, using his hometown of Glasgow, Scotland, as an example. There, a notorious loan shark (someone who loans money at exorbitant rates) named Gerard Law loaned money to the poor residents of a housing development. People paid rates as high as 25% a week–and actually repaid such loans. Law succeeded because his borrowers were credit risks to mainstream institutions as well as because of his ruthless reputation.

“The Birth of Banking”

This section examines the way moneylenders can overcome their inherent weakness: by becoming big. The classic example from Renaissance Italy was the Medici family. Though early on they “were more gangsters than bankers,” Giovanni di Bicci de’ Medici began to turn the family’s fortunes – and reputation – around in the 14th century (42). He began as a currency trader in Rome, making money on the conversion of one currency to another, before returning to Florence, his hometown. There, he took advantage of something called a “bill of exchange” to really make his fortune. This was a way of making money on loans by skirting the prohibition on charging interest. In essence, an existing loan could be used to draw an advance of cash from a bank, for a fee, with the original loan acting as collateral to guarantee payment.

As the Medici wealth grew, decentralizing their bank helped ensure their continued success. Where other lenders had met failure by one large debtor that defaulted, the Medici bank was set up as a partnership, in which a partner could fail without taking down the entire bank. The Medici family grew so powerful in Florence that the Pope remarked of Giovanni’s son, Cosimo, “He is King in everything but name” (46).

In the 17th century, countries of northern Europe based their banking systems on those in Italy, but took financial innovation even further. In 1609, the Amsterdam Exchange Bank solved the problem of having numerous currencies by setting up accounts in a standard currency and creating paper checks for moving money in and out of them. In the middle of the century, the Swedish Riksbank first began the practice of keeping only a fraction of deposits on reserve, on the assumption that depositors would not withdraw all their money at once. Finally, the Bank of England, founded in London in 1694, obtained a partial monopoly on issuing banknotes, a “form of prom­issory note that did not bear interest,” which aided transactions because both parties were no longer required to have accounts at the bank (49).

“The Evolution of Banking”

This section discusses the growth of banking from the late 18th century to the turn of the 20th century. Ferguson begins by noting that the early part of this period included the boom in economic growth fueled by the Industrial Revolution. While the “financial revolution” preceded the Industrial Revolution, historians disagree as to whether (or how much) the former caused the latter. It’s possible, Ferguson states, that “the two processes were interdependent and self-reinforcing” (53).

Meanwhile, the Bank of England expanded its functions. Initially created to finance the government’s wars, it now took on more public responsibilities, setting up branches throughout the country and becoming more dominant in issuing banknotes. The main question throughout the middle of the 19th century was what the proper ratio ought to be of the bank’s reserves to banknotes in circulation. The ratio remained fairly restrictive, which would have limited the money supply, had other kinds of banks not sprung up. Especially significant were savings banks, which grew rapidly at the turn of the century.

Most other advanced countries followed England’s lead of having a strong central bank and a smaller number of fairly-large commercial banks, but not the United States. Only in 1913 was its central system set up, called the Federal Reserve System. The reserve requirements were low and regulations discouraged interstate banking, resulting in a large number of small banks in each state. This led to more instability and more frequent financial panics, culminating in the Great Depression in the 1930s.

Ferguson ends the section with a brief overview of the gold standard, the system in which money is valued at a certain amount of gold. This has the benefit of keeping exchange rates stable, as they are fixed by the amount of gold each currency represents. One drawback, however, “is that policymakers are then forced to choose between free capital movements and an independent national monetary policy” (58). Britain left the gold standard early in the 20th century, and the United States did so in 1971.

“Bankrupt Nation”

The chapter ends with a discussion of the policy of the United States regarding bankruptcy. As Ferguson notes, “[t]he ability to walk away from unsustainable debts and start all over again is one of the distinctive quirks of American capitalism” (60). He begins with a description of Memphis, Tennessee as ground zero for the number of annual bankruptcies at the time the book was written (2007). But it’s not a new phenomenon, as all Americans have had the legal right to file for bankruptcy since 1898.

Rather than jailing debtors, as other nations did, the United States tried to encourage entrepreneurship, which entails a certain amount of risk. The most famous case of this may be Henry Ford, who founded the Ford Motor Company only after starting over following bankruptcy. Today, however, almost all bankruptcies in America are non-business in nature. Ferguson states that to understand this burgeoning debt, it is necessary to examine other components of the financial system. But a link to the banking system cannot be denied, and he argues that abandoning the gold standard in the 1970s led to an unprecedented credit boom.