In Germany, direct regulation of commercial banks was only introduced in 1934 with the Credit Control Act, while in Belgium, banking regulation was only introduced in 1935, with the establishment of the Banking Commission.[95]
Today, the central bank – with its note-issue monopoly, money market intervention and lender-of-last-resort function – is regarded as a cornerstone of a stable capitalist economy. There is a heated debate on how politically independent the central bank should be, as well as on its appropriate goals, targets and instruments.[96] Heated though the debate may be, few people dispute the need for a central bank. However, this was not the case in the early days of capitalism.
From as early as the eighteenth century, dominant banks, such as the Bank of England or the large New York banks, were forced to play the role of lender-of-last-resort in times of financial crisis. The increased ability of such institutions to deal with systemic financial panic in the short term, and the consequent stability that this helped bring about in the long run, naturally pointed to the creation of a fully-fledged central bank.
However, many people at the time believed that creating a central bank would encourage excessive risk-taking by bailing out imprudent borrowers in times of financial turmoil (or what we these days call ‘moral hazard’).[97] This sentiment is best summed up in Herbert Spencer’s observation that ‘[t]he ultimate result of shielding man from the effects of folly is to people the world with fools’ .[98] As a result, the development of central banking was a very slow and halting process in the NDCs.[99]
The Swedish Riksbank (established in 1688) was nominally the first official central bank in the world. However, it could not function as a proper central bank until the mid-nineteenth century because it did not have, among other things, monopoly over note issue, which it gained only in 1904.[100]
The Bank of England was established in 1694 and from the eighteenth century onward began to assume the role of lender-of-last-resort (although some suggest that this only really took place in the first half of the nineteenth century). However, it did not become a full central bank until 1844. The French central bank, Banque de France, was established in 1800, but only gained monopoly over note issue in 1848. Until 1936, however, the Banque de France was basically controlled by the bankers themselves rather than the government. The central bank of the Netherlands, the Nederlandsche Bank, was established in 1814 by King William I, modelled on the Bank of England. However, ·it struggled to circulate its notes widely until the 1830s, and remained an Amsterdam-based ‘local’ bank until the 1860s.[101]
The Bank of Spain was established in 1829 but did not gain monopoly over note issue until 1874, and was privately owned until 1962. The Bank of Portugal was created in 1847, but its note-issue monopoly was restricted to the Lisbon region. It legally gained full note-issue monopoly in 1887 but, due to the resistance of the other note-issuing banks, it was only in 1891 that the monopoly was achieved in practice. The Bank of Portugal is still completely privately owned and cannot intervene in the money market.[102]
The Belgian central bank, Banque National de Belgique, was created as late as 1851; it was however one of the first genuine central banks with note-issue monopoly, which was conferred at the time of its creation.[103] Among the 11 countries we cover in this section, only the British (1844) and the French (1848) central banks gained note issue monopoly before Belgium’s did. The German central bank was only established in 1871, gaining monopoly over note issue in 1905. In Italy, the central bank was only set up in 1893 and did not get monopoly over note issue until 1926. The Swiss National Bank, not founded until 1907, was formed by merging the four note-issue banks.
In the USA, the development of central banking was even slower. Early attempts to introduce even a limited degree of central banking failed quite spectacularly. The First Bank of the USA (80 per cent of which was privately owned) was established in 1791 with strong support from Alexander Hamilton, then Treasury Secretary, over opposition from the then Secretary of the State, Thomas Jefferson. However, it failed to get its charter renewed in the Congress in 1811, and the Second Bank of the USA that was established in 1816 met the same fate twenty years later. In 1863, the USA finally adopted a single currency through the National Banking Act, but a central bank was still nowhere to be seen.[104]
Given this situation, as mentioned earlier, the large New York banks were compelled to perform the function of lender-of-last-resort to guarantee systemic stability, but this had obvious limitations. Finally, in 1913, the US Federal Reserve System came into being through the Owen-Glass Act, which was prompted by the spectacular financial panic of 1907. Until 1915, however, only 30 per cent of banks (with 50 per cent of all banking assets) were in the system and as late as 1929 65 per cent were still outside the system, although by this time they accounted for only 20 per cent of total banking assets. This meant that in 1929 the law ‘still left some sixteen thousand little banks beyond its jurisdiction. A few hundred of these failed almost every year’.[105] Also, until the Great Depression, the Federal Reserve Board was de facto controlled by Wall Street.[106]
In table 3.3 below, we present a summary of the above descriptions of the evolution of central banking in the NDCs. The first column represents the year when various central banks were established; the second indicates when they became proper central banks by gaining note-issue monopoly and other legal endorsements. The table shows that the majority of the 11 countries in the table nominally had central banks by the late 1840s. However, it was not until the early twentieth century that these banks became true central banks in the majority of these countries. It was only in 1891, with the establishment of note-issue monopoly for the Bank of Portugal, that the majority of the 11 central banks in the table gained such monopoly.
| Table 3.3 | ||
| Development Central Banking in the NDCs | ||
| Year of establishment | Year when note-issue monopoly was gained | |
|---|---|---|
| Sweden | 1688 | 1904 |
| UK | 1694 | 1844 |
| France | 1800 | 1848[1] |
| Netherlands | 1814 | After the 1860s |
| Spain | 1829 | 1874 |
| Portugal | 1847 | 1891[2] |
| Belgium | 1851 | 1851 |
| Germany | 1871 | 1905 |
| Italy | 1893 | 1926 |
| Switzerland | 1907 | 1907 |
| USA | 1913 | After 1929[3] |
1. Controlled by the bankers themselves until 1936.
2. Legally note-issue monopoly was established in 1887. but de facto monopoly was only achieved in 1891 due to the resistance of other note-issuing banks. The bank is still wholly privately owned and cannot intervene in the money market.
96
Grabel 2000, is a lucid review of this debate; Helleiner 2001, is a fascinating review of the history of this debate in the context of developing countries.
97
And indeed this is the line taken by Friedrich von Hayek, when he proposes the scrapping of central banks and argues for free competition among note-issue banks.
98
Quoted in Kindleberger 1996, p. 146. The original source is H Spencer, ‘State Tampering with Money and Banks’ in
100
Kindleberger 1984, p. SO; Larsson 1993, pp. 47-8; Swedish Central Bank website: http://www.riksbank.se.
101
For the Bank of England, see Kindleberger 1984, pp. 90-2, pp. 277-80; for Banque de France, see Plessis 1994; for the Nederlandische Bank, see ‘T Hart et al. 1997, 4; Jonker 1997,p. 95.
104
Garraty and Carnes 2000, pp. 154-5,423; Atack and Passell 1994; Brogan 1985, pp. 266, 277.
106
Brogan 1985, p. 477. The most telling evidence is the story of Charles E Mitchell, head of the National City Bank and a director of the Federal Reserve Bank of New York. Mitchell, in an attempt to minimise damage on his speculative activities in the run-up to the Great Depression, successfully put pressure on the Federal Reserve Board to reverse its policy of monetary tightening announced in early 1929 (Brogan 1985, pp. 525-6).