The word bank has its origins in the word for the table or bench on which bankers did their transactions. Originally, the table or bench may have been an altar. The Templars, a military order of religious knights dedicated to the task of liberating the Holy Lands from the Infidels, can lay claim to being the first truly global financial supermarket.
Modern banking practice began in Italy in the Renaissance. Great banking families in Venice, Florence, Genoa, and Pisa profited from financing growing trade. To avoid religious prohibitions on usury, the banks dealt in bills of exchange—documents, traditionally arising from trade, that order the payment of a known sum of money to a designated person at a specified time and place. Banks bought and sold these documents, effectively lending (buying a bill of exchange with money) and borrowing (selling a bill and receiving money). Bills of exchange overcame the need to transport gold. They were faster and more secure. The bills circulated as an early form of pure money.
Banks allowed idle gold or money to circulate freely. It would be deposited with a bank or used to buy a bill (a debt collectable at a future date with interest). The original holders of $100 still had their money, but the bank and whoever it lent to also had the $100. The money that was lent would come back to the bank or another bank as a deposit. The money could then be re-lent and recirculated in a continuing, endless process.
This process—reserve or fractional banking—is the quintessential element of modern finance. Banks keep only a fraction of their deposits in reserve to meet the needs of withdrawals by depositors and lend out the rest. The practice expands the supply of money, allowing merchants, businesses, and investors to increase the scale and scope of their activities. The only limit is the requirement for banks to keep a minimum fraction of their deposits as reserves.
The banking system that evolved in the Renaissance survives remarkably unchanged to this day. It is the basis of money machines—a financial perpetual motion device. John Kenneth Galbraith summed it up:
- The study of money, above all other fields in economics, is one in which complexity is used to disguise truth or to evade truth, not to reveal it. The process by which banks create money is so simple that the mind is repelled.24
Not everybody supported these developments. In 1802, Thomas Jefferson in a letter to Albert Gallatin, secretary of the Treasury, warned:
- If the American people ever allow private banks to control the issue of their money, first by inflation and then by deflation, the banks and corporations that will grow up around them will deprive the people of their property until their children will wake up homeless on the continent their fathers conquered.25