The Line of Diocletian, the Byzantine Empire, Italian City-States, Banking, Usury and the Protestant Reformation

Posted by PITHOCRATES - January 3rd, 2012

History 101

Europe began to Awake from its Slumber of the Dark Ages in about 1300 Italy

Once upon a time the only lending was to help someone in need.  Such as someone with a poor harvest to survive the winter.  We did it out of the goodness of our hearts to help others in need.  So to charge interest for a loan like this would have been cruel.  Taking advantage of someone’s misfortune wasn’t the Christian thing to do.  Or the Jewish.  Or the Muslim.  That’s why no one then charged interest for loaning money.  You just didn’t kick a person when he or she was down.  And if you did you could expect some swift justice from the religious authorities.  As well as the state.

Rome was once the center of the civilized world.  All roads led to Rome, after all.  Then Diocletian split the Empire into two in 285.  Along the Line of Diocletian.  Into East (Greek) and West (Latin). The West included Rome and fell around 486, ushering in the European Dark Ages.  Meanwhile the Eastern half, the Byzantine Empire, carried on.  And skipped the Dark Ages.  Its capital was Constantinople (named in 330) .  Formerly Byzantium.  Modern day Istanbul.  Where all Asian overland trade routes led to.  This city of Emperor Constantine.  His city.  Who reunited East and West.  And adopted Christianity as the Empire’s new religion (381).  Located at the crossroads between Europe and Asia, trade flourished and made the Byzantine Empire rich.  And long lasting.  Until weakened by the Venetian-financed Fourth Crusade (1202–1204).  (The Latin Christians’ attack on the Greek Christians was fallout from the Great Schism of 1054 where Christianity split between Latin Catholic and Greek Orthodox).  And then falling to the Ottomans in 1453.

Europe began to awake from its slumber in about 1300 Italy.  Great city-states arose.  Genoa.  Pisa.  And Venice.  Like those early Greek city-states.  Great ports of international trade.  Rising into trade empires with the decline of the Byzantine Empire.  Where these Italian merchants bought and sold all of those Asian goods.  Putting great commercial fleets to sea to bring those Asian goods into Genoa, Pisa and Venice.  Getting rich.  But to make money they had to have money.  Because in the international trade game you had to first buy what you sold.  Which included the cost of those great merchant fleets.  And how did they pay for all of this?  They borrowed money from a new institution called banking.

That Europe that Slumbered during the Dark Ages Arose to Rule International Trade

Modern finance was born in Italy.  Everything that makes the commercial economy work today goes back to these Italian city-states.  From international banking and foreign exchange markets to insurance to the very bookkeeping that kept track of profits and losses.  It is here we see the first joint-stock company to finance and diversify the risk of commercial shipping.  London would use the joint-stock company to later finance the British East India Company.  And Amsterdam the Dutch East India company.  Where the Dutch and the English sent ships across oceans in search of trade.  Thanks to their mastery of celestial navigation.  And brought back a fortune in trade.  Putting the great Italian city-states out of business.  For their direct sea routes were far more profitable than the overland routes.  Because the holds of their ships could hold far more than any overland caravan could.

The Catholic opposition to usury (charging interest to borrow money) opened the new banking industry to the oppressed Jews in the European/Christian cities.  For it was one of the few things the Christian rulers let the Jews do.  Which they did.  Even though it was technically against their religion.  And they did it well.  For they had an early monopoly.  Thanks to that same Catholic Church.  Then came another schism in the Christian church.  The Protestant Reformation.  Where, among other things, Protestants said the Old Testament did not bind them to all rules that the Jews had to follow.  Then John Calvin took it a step further and said commercial loans could charge interest.  And, well, the rest is banking history.

Europe was then the dominant region of the world.  That region that slumbered during the Dark Ages arose to rule international trade.  Thanks to their navigational abilities.  And their banking centers.  Which financed their trade.  And the great things to come.

The Enlightenment led to the Modern World, Limited Government, the Industrial Revolution and Beyond

With the fall of the Byzantine Empire and the rise of the Italian city-states, Greek thinkers left the Byzantine Empire and went West.  To those rich Italian city-states.  Bringing with them great books of Greek knowledge.  The intellectual remnants of the Roman Empire.  Translated them.  And massed produced them on the new printing press.  And kicked off the Enlightenment.  Which then spread throughout Europe.

The Enlightenment led to the modern world.  From limited government.  To the Industrial Revolution.  And beyond.  All thanks to those Italian city-states.  International trade.  And banking.

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Time Value of Money, Interest, Risk, Opportunity Costs and Banking

Posted by PITHOCRATES - January 2nd, 2012

Economics 101

Entrepreneurs have to Borrow Money because their Income comes AFTER they Build Things

A lot of things came together to give us a modern civilization.  Food surpluses, division of labor, money, religion, rule of law, free trade, free labor, prices, incentive and competition.  As well as other important developments.  Such as banking.  That addressed the time value of money.  And the risk of lending.

Before farmers can sell their harvests they have to plant them first.  This takes money.  Which raises an obvious question.  How do farmers get money to plant a crop?  When their income comes AFTER the planting of that crop?  Entrepreneurs have the same problem.  They can build things to sell.  But like the farmer they have to buy materials first.  Which takes money.  So how do entrepreneurs get money to build the things they build?  When their income comes AFTER the building of these things?

Of course farmers and entrepreneurs have to borrow money.  Say from a parent.  Who has been saving up for a really nice vacation.  A parent can loan the farmer or the entrepreneur money.  But that means that they may have to postpone their plans.  Or change their plans. For the same vacation may cost more next year than it does this year.  If they loan their money and get the same amount back they won’t be able to afford that same vacation.  Unless they charge interest.  So that when they get their money back AND the interest they can then afford that same but now more expensive vacation.

A Bank collects Deposits from Numerous Depositors so they can lend it to the People who Need Capital

This is the time value of money.  Over time money buys less.  Because it’s worth less.  The same amount of money will buy more today than it will 10 years from now.  This lost value is the cost of borrowed money.  And why borrowing money typically incurs interest.  Money a borrower owes in addition to the amount borrowed.  The interest compensates the lender for the lost value of their money.  So when you repay it they don’t lose any purchasing power.  And the lender can buy the same things that they could have when they loaned you the money.  Like a postponed vacation that became more expensive over time.

As the economy became more complex it required more borrowed money to pay for the production of other things.  Things that we sell much later than when we purchased the material to make these things.  Expensive things.  Tools.  Equipment.  Factories.  Trucks.  Costs so great that a person’s parents may not have enough savings to finance these things.  But they could if we combine their savings with other people’s savings.

Alexander Hamilton said a person’s savings was just money.  But when added to the savings of other people that money became capital.  Large pools of money available to loan.  So entrepreneurs could borrow money to buy tools, equipment, factories and trucks.  This important part of business became a business in itself.  The banking business.  A bank collects deposits from numerous depositors.  So they can lend it to the people who need capital.  They pay interest to depositors to encourage them to deposit their money.  And charge interest to borrowers to pay the depositors’ interest and other costs of running the bank.

Charging Interest Compensated the Lender for the Risk they were Taking and is a Necessary Part of Capitalism

Banks get a lot of bad press these days.  Since the dawn of banking, really.  People say bankers get rich for doing nothing.  Using other people’s money to boot.  Some call it a sin.  Usury.  Making money simply by lending money.  The ancient Jews forbade it.  So did the Christians.  Even the Muslims.  (And still do.)  But without banks we wouldn’t have a modern civilization.  In fact, if we had no banks you would not recognize the world you’d be living in.  There would be no middle class.  And our economic system would probably still be based on Manorialism.  Where most of us would still be serfs.  Working the land for the Lord of the Manor like our distant ancestors did in the Middle Ages.

There would have been no Industrial Revolution.  No cell phones.  No Internet.  Because all of these things required capital.  The pooling of people’s savings.  To provide the investment capital it takes to finance these things we take for granted in our lives today.

But things changed.  First the Jews started lending money for interest.  Then the Christians followed.  Seeing that business and commerce needed to borrow money.  And that lending money incurred risk.  (Some people might not repay their loans.)  And there were opportunity costs.  (The other things they could do with that money.)  Charging interest compensated the lender for the risk they were taking.  It wasn’t usury.  It was a necessary part of capitalism.  And the modern world we take for granted today.

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