The Ascent of Money Part 1 to 5

8/4/2019 The Ascent of Money Part 1 to 5

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TheAscentofMoneyTheEvolutionofMoneyandtheBanks


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Historical

What the Spaniards in Bolivia did wrong was theyexcavated more and more of silver which they were

using as their currency for money and started using it as

their ,the silver was in such excess that it lost value

In Pisa the problem was there was seven different coins

in circulation.

The roman numerical were very difficult to do complex

calculations for the Europeans and then entered

Fibonacci

.


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Credit&debitsystem

Credit derived from Latin word credo

which means I believe

Since early times the merchants were

charged interest for the money given to

them for voyages

The Church condemned the charging of

interest so taking interested for money

given for credit was prohibited.


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In the early 14th century, Italy was the main financial hub of the

world.

One family, the Mediccis in particular, made a huge impact on theRenaissance. They were foreign exchange dealers who started to

use the Bills of Exchange in a big way.

If a sum could not be paid in cash until the conclusion of a

transaction, the creditors could draw a bill on the debtors. Creditors

could use the bill as a means of payment or obtain cash at a discountfrom a banker willing to act as a broker.

The Church condemned the charging of interest, but accepted bill

discounting transactions. Indeed, bill discounting proved to be a

good source of profit

CONCEPT OF BANKS


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Despite the hostility and resistance the Mediccis rode tosuccess by making their banks bigger and more diversified.

The Italian banking system soon became a model for othercountries in Northern Europe

The next wave of financial innovation occurred inAmsterdam, London and Stockholm. The AmsterdamExchange Bank, set up in 1609, pioneered the system of

cheques and direct debits/transfers. A merchant could make a payment to another simply by

arranging for his account at the bank to be debited and thecounterpartys account to be credited


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The Bank of England was set up in 1694 to assist theBritish government with war finance. The bank had apartial monopoly on the issue of bank notes.

These were promissory notes that did not bear interestand were designed to facilitate payments without the

need for both parties in a transaction to have currentaccounts. The Bank of Englands discount rate soonbecame the benchmark money market interest rate.

With the increasing acceptance of cashless transactions,fractional reserve banking and central bank monopolieson note issue, the nature of money changed as didbanking.

Credit was quite simply the total of the banks assets.Several kinds of banks emerged in Europe. Some bankshelped finance domestic and international trade bydiscounting the bills of exchange drawn by one

merchant on another.


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TheUSdidnothaveacentralbankforalongtime.ThecountryfollowedalaissezfairemodeltilltheFederalReserveSystemwassetupinthe1913.

Thisfragmentedsystemwithlargenumbersofundercapitalizedbankswasarecipeforfinancialinstability.

PanicswerearegularfeatureofAmericaneconomiclife,especiallyintheGreatDepression,whenamajorbankingcrisiswasaggravatedbywrongmonetarypolicy.

Theintroductionofdepositinsurancein1939wentalongwaytowardspreventingbankruns.However,theAmericanbankingsectorremainedfragmentedtill1976wheninterstatebankingwaslegalized.


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Whypeoplestillhavenotlostfaithinmoney It'ssimple:Becausepapermoneyis

soeasytouse.Itgivespeopleanexchangeablecommodityandamathematicalunitthatis

standardizedandgenerallyaccepted.That'ssomethingwe'rewillingtoacceptacertainamountofinflation

for.


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Whynomorerelationbetweengoldandcurrencies Becauseitprovedtobeanextremely

inflexiblesystem.Iftheoverallvolumeofmoneydependsontheavailabilityofpreciousmetals,itcan'tsimplybeincreased.Soashortageofgoldorsilvercanlimiteconomicgrowth.Thelinktogoldbrings

withitadangerofdeflation,inotherwordsaconstantdropinpriceswhichwouldhobbletheeconomy.ThegoldstandardwasoneofthecausesofthedeflationGermanysufferedintheearly1930s,forexample


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TheAscentofMoneyTheBondMarket


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TimetogetintoBOND-AGE Birthofthebondmarket

Todaybondmarketsplayacentralroleinthemanagementoftheeconomy longterminterestratesfortheeconomyasa

whole.

Relativelyliquid SafeOptions

Mostofoursavingslandsupinthebond

market.


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TriggersForEvolutionOfBond Itwaswarsthatfuelledtheriseofbondmarkets

Italiancities14thCentury Financingwarthroughcitizen'smoney

forGovernmentdebt

Bythemid18thcentury,Londonhadathrivingbondmarket


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MR BOND: NATHAN ROTHSCHILD Preferredinvestmentbanktoplacemanybond

issuesofEuropeangovernments

BuyingofatrancheofbondsoutrightfromagovernmentandchargingacommissionfordistributingthesebondstoanetworkofbrokersandinvestorsthroughoutEurope

AnimportantroleindecidingtheoutcomeoftheAmericanCivilWar,bysittingonthesidelinesanddecidingnottobackthesouth


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DoesBondhaspresenceonlyincriticaltimesforGOVT.

NathanRothschild:FundManagerforwarofwaterlooashehadstrongbanknetworkthen

Collectionsofpilesofcash

Ratherthansellinggolddecidedtobuygovernmentbonds

After1yearsoldat40%profit


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DynamicsOfBond ArgentinaCottontradedbondsinmiddleof18th

century

EfforttomanipulatethecostofBondbyrestrictingsupplyofcottontoBritishclothindustry

PressureonBritainonothersideriseinpriceofBonds

DiscoveryofNewcottonmarketsinIndia,Maleshiya

LossofmonopolybyArgentinaandpricefallinBondMarket

HyperInflationinArgentina


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WhatisBond Abondisadebtsecuritywhenyoupurchaseabond,youare

lendingmoneytoagovernment,municipality,corporation,federalagencyorotherentityknownastheissuer.

Theissuer Principalamount Specifiedinterestrate Dateofmaturity

VariablesthatEffectValue

MaturityShortTermandLongTerm RedemptionFeatures-CALLOptionandPUTOption CreditQuality- InterestRate-Fixed,FloatingandPayableatMaturity Price-discountandpremium

Yield-CurrentandYieldtomaturity


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EvolutionofBond

IncertainareaslikeIndiaBand

Marketisnotyetevolved IDBI,InflationBond

SomeotherareaslikeU.S.ithas

evolvedsubstantially.


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Year Event

1963Competitive bidding by syndicates of securities dealers and banks was introduced for Treasury bonds. Only 2 such

syndicate sales were conducted, both in 1963.

1971

Congress provided $10 billion of relief from 4 -1/40 interest rate ceiling on bonds maturing in more than 7 years.

For the first time since 1965, when longer-term market interest rates rose above 4-1/4%, Treasury issued a bond

maturing in more than 7 years. Since then, the bond authority has been increased several times, and an issue of

bonds has been a regular feature of Treasury mid-quarter coupon refunding.

197815-year, 1-month bond issues began at the beginning of each calendar quarter to mature on regular mid-quarterrefunding dates as an alternate for regular quarterly issues of 5-year notes. Depending on market conditions, a 5-

year or a 15-year issue was sold.

198120-year, 1-month bond issues replaced regular issues of 15-year bonds for settlement early in the first month of

each calendar quarter, to mature on mid-quarter refunding dates.

1981Mid-quarter refunding operations were standardized to regular issues of 3, 10, and 30-year area maturities. The 30-

year bonds were callable after 25 years.

1982 Bearer form was eliminated for new Treasury notes and bonds in connection with 1982 changes in the tax law.

1985

Noncallable 30-year bonds, which are more attractive for stripping than callable bonds, became a regular feature

of mid-quarter refunding operations.

1986 Regular quarterly issues of 20-year Treasury bonds were eliminated.

1988Congressional restrictions on the par amount of Treasury bonds held by the public with interest rates exceeding 4-

1/4% were eliminated.

1991 The noncompetitive award limit for Treasury notes and bonds was increased to $5 million from $1 million.

1993May 3, 1993: Offerings of 30-year bonds were pared back to semi-annually from quarterly, with offerings in August

and February, but not in May or November.

1998 April 1998: Begin offering of 30-year inflation indexed bond.

1999August 4, 1999: Treasury announced that the 30-year bond will no longer be issued in November, but will continueto be issued in February and August.

2000 30-year bond issuance was changed. Original issues were offered in February and then later reopened in August.

2001 October 2001: Treasury announces discontinuance of 30-year bondsboth nominal and inflation-adjusted.

2009March 2009: Reopening of the 30-year bond announced at February quarterly with the fi rst auction taking place in

March.

2009

July 2009: Additional reopening of the 30-year bond announced during the May quarterly. 30 year bonds were now

issued quarterly with one reopening taking place one month after the original issue and the second reopening

taking place two months after the original issue.


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TheAscentofMoneyTheStockMarketBubbles


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Aftertheadventofbankingandthebirthofthebondmarket,thenextstepinthestory

oftheascentofmoneywastheriseofthejoint-stock,limited-liabilitycorporation.

Enablesthousandsofindividualstopool

theirresourcesforrisky,long-termprojectsthatrequiretheinvestmentofvastsumsofcapitalbeforeprofitscanberealized.


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PatternofFinancialBubbles1. Displacement:Somechangeineconomiccircumstancescreatesnewandprofitableopportunitiesforcertain

companies.

2. Euphoria or overtrading: Afeedbackprocesssetsinwherebyrisingexpectedprofitsleadtorapidgrowthinshareprices.

3. Mania or bubble: Theprospectofeasycapitalgainsattractsfirst-timeinvestorsandswindlerseagertomulctthemoftheir

money.4. Distress:Theinsidersdiscernthatexpectedprofitscannotpossiblyjustifythenowexorbitantpriceofthesharesand

begintotakeprofitsbyselling.

5. Revulsion or discredit:Assharepricesfall,theoutsidersallstampedefortheexits,causingthebubbletoburstaltogether


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TheAdventofCompany

JohnLawofEdinburgh

TheDutchEastIndiaCompany

Issueofshares

TheworldsfirstStockExchange


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TheOldestShare


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TheFirstBubble

FrenchGovernmentonthebrinkof

bankruptcyforthethirdtimeinacentury.

ThebirthoftheMississippiCompany.

TherunuptotheFrenchRevolution.


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May1719-Nov17201,500,000,001,000,000,0

1,500,000,001,000,000,00

500,000,000

12,00010,0008,000

6,0004000

2,000

May 1719 to November 1720


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TheGreatDepressionof1930 Outputcollapsedbyathird.

Employmentreachedaquarter.

Over10,000banksfailed.


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TheEnronBubble

KennethLay,chiefexecutiveof

Enron.

Thoughtofcreatinganenergybank.


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TheRecessionof2008

Overlendingbybanks.

Thehousingbubble.


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The Bombay Stock Exchange


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TheAscentofMoneyRiskManagement:Insurance,Welfare

StateandHedgeFunds


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Risk Themostbasicfinancialimpulse

WrongPlace:NewOrleans

WrongTime:hurricaneKatrina

AreyouInsured?


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RiskManagementincaseofdisaster

St.Bernard

Bluecollarcommunity

Allhomesinsured

Refusaltopayevengenuineclaims

Limitsofprivateinsuranceexposed

No Home

Insurance zone


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RootsofInsurance

1744:Settingupof1stInsuranceFunds

2MinistersoftheScotlandChurch RobertWallaceandAlexanderWebster

Unhappyonseeingthestateofwidowsandchildrenofthefellowclergymen


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ThePlan

Hugeamountofcalculations

CarefulAssumptions

Maxnumberofwidowsandorphans

TheKeyPoint:

Notjustthemoneyin-outconcept

PremiumtocreateaFund Investthefunds


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Whatwasrequiredforthisschemetowork?

AccurateProjections

ScottishMinistersWidowsFund-AmilestoneinFinancialHistory

SizeMatters

Easiertopredictpayoutsforeachyear

Precisecalculationoflife-expectancy

CalltheActuarists!!!


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TheWelfareState

Japan

Nationalizetherisk

October1947:Britisheconomist,WilliamBeveridgesIdea

Governmentwillprovide

By1970:Amiracleofeffectiveness


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TheDownside

FatalFlawindesign:

1976:MiltonFriedman

NobelPrizeinEconomics

Chile:outputcollapsing,inflationrising Welfarestatebankrupt


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TheConservativeEconomicRevolution

FriedmanandChilesEconomists

Cutgovernmentspendingby27%

BalancetheBudget

Tightenmoneysupply

LiberalizeTrade

ThePensionScheme


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Isthereanyotherway

HedgeFunds

Futures

Options

Size:$598trillion

Downside

ORInvestinahouse?


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TheAscentofMoneyThe Real Estate Market


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Infinance,theconventionalwisdomisthatthereisnothingsaferthanlendingmoneytopeoplewithproperty.

Bytheendof2006,Americanowneroccupiersowedasumequalto99%ofUSGDP,comparedto38%,about50yearsback.

Beforethe1930s,onlyabout40%ofAmericanhouseholdsbelongedtoowneroccupiers.


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ROOSEVELTS NEW DEAL AnewHomeOwnersLoanCorporationwassetupto

refinancemortgageonlongertermsupto15years.

AFederalHomeLoanbankBoard,setupinthe1932. ThisgavebirthtoanewbreedofinstitutionscalledSavings

andLoansthattookdepositsandlenttohomebuyers.

FederalHousingAdministration(FHA)soughttoencourage

largefullyamortizedandlowinterestloanswhichlaidthefoundationforanationalsecondarymarket.

Astheaveragemonthlypaymentonamortgagereduced,homeownershipbecamearealizabledreamformany

Americans.


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CONTINUING REFORMS GovernmentSponsoredEnterprises(GSE)wassetup.

AsapertofGSE,FannieMaewassetuptoissuebonds

andusetheproceedstobuymortgagesfromSavingsandLoans.In1968,FannieMaewassplitinto:-

GinniMaetoservepoorborrowerslikemilitaryveterans.

RedefinedFannieMaewhichcouldbuyconventionalaswellasgovernmentguaranteedmortgages .

In1970,theFederalHomeLoanMortgageCorporation(FreddieMac)wassetup.

CommunityReinvestmentActof1977putAmericanbanksundergovernmentpressuretolendtothepoorerminority

communities.


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FALLOF S&LS UnderPaulVolcker,inabidtocutinflation,theS&Lswere

atthereceivingend.

Startedlosingmoneyonlongtermfixedmortgages. Startedlosingfixeddepositstohigherinterestpaying

moneymarketfunds.

ManyS&Lscollapsedbecauseofrecklesslending.

ThefinalcostoftheS&Lcrisisbetween1986and1995was$153billionor3%ofGDPofwhichtaxpayershadtofoot$124billion.

Thiswasthemostexpensivefinancialcrisissincethe

Depression.


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SECURITIZATION LewisRanieriofSalomonBrotherspioneeredtheconceptby

bundlingthousandsofmortgagestogetherasthebackingfornewsecuritiesthatcouldbesoldasalternativestogovernmentandcorporatebonds.

SinceamajorityofthemortgagesenjoyedanimplicitguaranteefromFannieMae,FreddieMacandGinnieMae,thebondsusedtosecuritizewereperceivedasgovernmentorinvestmentgrade

bonds. Between1980and2007,thevolumeofGSEbackedmortgage

backedsecuritiesgrewfrom$200millionto$4trillion.

In1980,only10%ofthehomemortgagemarkethadbeensecuritized.By2007,thishadrisento56%.


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ROLEOF POLITICS PresidentGeorgeBushsignedtheAmericanDreamDown

paymentActof2003tosubsidisefirsttimehousepurchasesbylowerincomegroups.

Lenderswereencouragednottopressborrowersforfulldocumentation.

PressurewasalsoputonFannieMaeandFraddieMactosupportthesubprimemarket.


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THE FINAL WORDS Itlookedasthoughsecuritizationwasallocatingrisktothose

bestabletobearit.Butactually,itwasbeingpassedontopeoplewhounderstoodtheleastaboutit.

Therealestatemarketsawabigbubblewhichhadtoburstatsomepointoftime.

Incitiesallovertheworld,housepricessoaredabovelevelsandpoliticiansfuelledtheboombyencouraginghome

ownershipandintroducingsuitablepolicymeasures. Thetendencyofmanymiddleclasshouseholdstoputvirtually

alltheirincomeintoahighlyleveragedinvestmentdefiesthebasicprinciplesofriskmanagement.

Thekeytofinancialsecurityshouldbeaproperlydiversified

The Ascent of Money Part 1 to 5

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