Medieval banking

Fall of the Roman Empire in the fifth century marked the beginning of the Middle Ages, the millennial period of human history that is in the economic field labeled by disappearance of most of its trade and feudalization. Banking activities were further suppressed by the Church's teaching that lending money and charging interest were sin because it takes advantage of people’s misfortune. When applied to agriculture lending often contributed to even greater poverty of the lenders, but it was indispensable for development of international trade and large scale business activities. In such circumstances, it took centuries before banking was again re- discovered – in the late medieval Italian cities as a consequence of intensification of commercial life.

In the period from the fall of the Roman Empire until the 11th century, scope of the banking activities were mostly reduced to the changing coins. Medieval world was comprised of a multitude of states which produced their own coinage. In such an environment, the experts were necessary to exchange various currencies, as well as to determine the weight, fineness and validity of coinage. From the 9th up to the mid-13th century, the silver standard predominated with the silver "denier" as the largest denomination. In the 14th century, gold currencies emerged in Italian city-states. With the development of general economy their activities became more complex and consequently evolved in a system of coinless transaction.

The first international banking system was operated by the Order of the Knights of Temple, founded in 1118 as military and

religious order in charge for keeping the passage to Holy Land safe for pilgrims. They performed three basic functions – they guarded and managed money from nobles and rulers, made loans from their own resources, and exchanged currency for travelers. Thanks to their services, the merchant was able to give money to their office in France, and safely travel to Jerusalem where he received his money in local currency.

A miniature from Grandes Chroniques de France depicts the expulsion of Jews from France in 1182.

Another group known for its banking services were the Jews. Since the Christian prohibition on usury did not refer on them and the civil law didn’t forbid interest on loans, they were allowed to lend money at interest to Christians. Their services were especially required from rulers who always needed funds for financing their lavish lifestyle and warfare. But rulers could also be ungrateful customers, often unwilling to repay loans and causing bankruptcies. In England and France, the rulers often resorted to confiscation and eviction of the Jews to avoid paying debts. From the 13th century the Jews were gradually replaced by the Italians in the field of high finances.

The origins of modern banking lay in the rise of international trade in medieval Europe, with the epicenters in the industrializing regions of Flanders, northern France and northern Italy. The financial growth of some Italian cities that was made in trade led to the revival of banking practices.

In all probability, the great Italian banking houses of the 13th century evolved from money-changing operations. Etymology confirms this theory. The term “banchierus”, derived from the “banchus”, a carpet covered table or bench over which the exchanges were made. In the mid-12th century the term was used as a synonym for “cambitor”, or the money changer.

During the Middle Ages operated three main groups of bankers. These were pawnbrokers, local money changers and deposit bankers, and international merchant-bankers.

Medieval bankers

Pawnbrokers

pawbrokers

The lowest level of medieval credit institutions was occupied by the pawnbrokers, businessmen who granted loans on the security of movable property for a fixed rate of interest. Although it was considered “infamous profession”, it was tolerate because people actually depended on it.

The procedure was following: a customer would give an item (such as jewels, tools, or household items) to the pawnbroker who would in return provide him a loan, usually lower than the value of the item itself. The customer had an agreed amount of time to return the loan; otherwise he lost the item. Thus, to the pawnbroker the profit was assured – either through the interest payments on the loan or through the sale of the client’s item. Furthermore, many pawnbrokers practiced usury by charging excessive interest rates of 30 per cent or even more.

Medieval bankers

Money-changers and deposit bankers

The second category was represented by the local money-changers and deposit bankers. The last evolved after the money changers started to receive deposits, a practice that occurred in Genoa in the mid-12th century and in Venice during the 13th century.

The purpose of the deposit bank was to provide a means of payment that minimizes the need to use actual cash. Therefore, when the client brought the coins to the money-changer, instead of changing currency he could simply open an account in the bank. Except being a good solution for keeping money safe, deposits could also be used in making payments to creditors by giro or assignment. The usual way to give the instructions to the banker was orally. In return for this service the money changers usually charged a small fee. Eventually, they have extended their services and began offering short-time credits to their clients. Such banks were found only in the major commercial cities like Venice, and outside of Italy in Barcelona, Geneva, Bruges, and London.

Medieval bankers

International merchant-bankers

international merchant-bankers

And finally, there were the international merchant-bankers as the most prominent group involved in banking business. Successful merchants who were able to acquire large profits in trade were generally inclined to invest their capital in lending and to become financiers. Merchant-banking was predominantly Italian zone of influence – starting with merchants from Asti, Genoa, Sienna and Lucca by the beginning of the 13th century, the Florentines in 14th and 15th century, and finally Genoese in 16th century. Their services of financiers and investors were of crucial importance for supporting large scale trading activities in Middle Ages which required capital both for financing of cargoes and insuring risks.

The best representatives of the powerful medieval international merchant-banking companies with numerous branch offices across Europe were the Bardi, Peruzzi and Acciaiuoli. After their bankruptcies in the 1340s they were replaced by even more successful the Medici and Alberti Houses. The business portfolio of merchant-banking companies included large scale trading operation in luxurious and essential commodities, manufacturing activities and lending business at the service of European rulers, the highest nobles and the Papacy.

After the downfall of the Medici bank, its significance would partly be replaced by the Fuggers, who represented the most developed form of late medieval family mercantile company.

The rise of the international trade beginning from the 12th century encouraged the Italian city-states to develop more advanced double entry bookkeeping system that better suited to new business challenges.

The accounting system that had previously prevailed was a single-entry bookkeeping which recorded flow of goods, but did not measure profit and loss, and made concealment of fraud easy. Therefore it was not suitable for large scale and long distance business operations.

The double entry bookkeeping system was, most likely, for the first time used by Genoese merchants. The principle of double-entry bookkeeping was simple – each transaction should be recorded twice – as a debit (left side) and a credit (right side). The total credits must equal the total debits. The double entry accounting allowed the businessmen to classify, record and cross-check their accounts, as well as to calculate their profits which gave them an insight to what they owned and how well their business was doing. The Arabic numerals that replaced the old Roman system in this period additionally simplified calculations and positively contributed to accounting methods.

The 15th century Ragusan merchant, diplomat, and humanist Bendetto Cotrugli is known as the author of the oldest known work on double-entry bookkeeping which bears the title the “Art of Trade” (“Il libro del arte del mercatura”).

Besides three main categories of bankers that operated in this period, the financial world of the Middle Ages was also composed of public banks and nonprofit pawn banks called the “Monti di Pieta” which offered financial loans at a moderate interest to those in need.

“Monti di Pieta” (literally mountains of piety) were a special nonprofit banks founded in 1461 by the Franciscan order. They were engaged in lending small amounts of money to private citizens in exchange for pawned property. A pre-determined interest rate from 5-10 percent was charged to these loan, and acquired profits were used to cover the expenses of operating the Monte and to extend the scope of their charitable work. The purpose of these banks was to offer people an alternative for “sin” of usury, especially the Jewish one. After the Fifth Lateran Council approved their activity in 1515, the branches were also opened in France, Spain, Germany, and the Netherlands.

Banca Monte dei Paschi di Siena, founded in 1472 as Monte di Pietà has been in operation without interruption to the present day and considered the oldest bank in the world still operating.

As a counterweight to the private banks, in several Mediterranean cities operated public banks that were founded to extend loans to the state and to assure stability. The “Tabula de Cambi” of Barcelona, founded during the early 15th century, was the first public bank established, and it was followed by the “Casa di San Giorgio” founded at Genova in 1407. These banks partly represented the precursors of public banks to be established in the following period, during the 16th and 17th centuries, in Venice, Milan, Amsterdam, Hamburg and Nuremberg.

Pope Gregory IX (ca. 1145-1241) declared situations when taking of interest was allowable from the canonical viewpoints.

Large companies both inherited and developed various business practices to overcome constraints posed by society and distance. The Church represented a great obstacle to banking business in those times considering the moneylending and chagrining interest as heretical. The Pope Gregory IX has even declared situations when taking of interest was allowable from the canonical viewpoints.

Therefore, the medieval businessmen first had to find a way to get round the concept of usury to be able to do business. The simplest way is that the borrowers would give the lenders some “voluntary” gifts which were in reality forced loans. Loans could also be structured as a “repurchase agreement” according to which the borrower sold goods to the lender and bought them back at higher prices. Sometimes a third party was involved to disguise the real nature of the sale. Around the 13th century the businessmen began to use concept of “interisse” (from which our word “interest” originally come from) that was legally recognized compensation for loss inflicted because of late payment. The logic was following – if a merchant made a commercial loan for some minimal period (for example, a month) it was not usurious if he charged a percentage of each month afterward, since this was a penalty, and not money received for leasing the loan. In short, it was seen as a compensation for the profit the merchant would made with that money if he placed it instead in some profitable investment.

These devices for circumventing of usurious charges resulted in, ironically, an unequal imposition of punishment for usury on pawnbrokers and small moneylenders, who did not adapt such a sophisticate banking techniques, and the merchant banks with international connections, who were accepted and worked with the Church itself, like the famous Medici family.

The greatest financial innovation of the commercial revolution was the bill of exchange introduced in the medieval business world by the Italians merchants who frequented the Champagne fairs. Perfected by the late 1200s, the bill of exchange made possible for one party to receive a sum of money in one currency in one place on one date, and repay it in another currency at another place at a later date.

The bill of exchange combined three features of great importance for running the international business. It avoided the costs of transporting specie (as the expense of tolls, security and transport could be considerable), it provided a practical device for international credit and currency exchange, and last but not least, it circumvent the Church's prohibition of usury.

The transaction involved four parties. The borrower and lender in the town of issue, and the borrower's correspondent (the payer) and the lender's representative (the payee) in the town of repayment. There were specialized courier services between Italy and Champagne from the mid-13th century for delivering of the bills.

Although interest per se was not charged, a profit often was realized through differences in exchanges rates. Since exchange-rates were subjected to fluctuations, final profit could be considerably more or less than predicted. Using the advantages of this system, the merchants could transfer their own funds from one bank to another to earn higher interests.