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The London Goldsmith-Bankers’ Institutionalization of Trust
Jongchul Kim
Political Science, York University, Canada
jazzchul@hotmail.com
Number of words: 10409
Abstract
London goldsmith-bankers’ development of paper credit-money in the seventeenth
century ushered in the era of modern banking. This essay argues that this innovation
of paper credit-money by goldsmith-bankers was the institutionalization of the
double-ownership scheme known as trust. This trust scheme was at the centre of the
custom or morality that underlay the political struggle between the Crown,
landowners, and the bourgeoisie in early modern England, the struggle from which
goldsmith-banking and, later, joint-stock banking developed. This double ownership
remains a central feature of the present banking system. And during the financial
boom of the late twentieth century, which ended in the present world financial crisis,
the trust scheme was used extensively by many financial firms, such as mutual funds,
pension funds, and asset-securitization trusts.
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The legal concept of a trust, which defines fiduciary responsibilities and beneficiaries’
rights with respect to a particular asset, has been identified by economic historians as an
important instrument that financed British domestic industry and its overseas investment during
the eighteenth, nineteenth and early twentieth centuries.1 Even in the late twentieth century the
trust form of organization was used extensively by many financial firms, such as mutual funds,
pension funds, and asset-securitization trusts, in order to raise funds and limit liability.
Going further back to the seventeenth century, this paper analyzes how this trust scheme
played a central role in originating modern banking. London goldsmith-bankers in the second
half of the seventeenth century were the first bankers in the West to loan the funds deposited
with them in the form of transferable paper money (Clark, 1941, pp. 4-5). This paper argues that
this innovation, which ushered in the era of modern banking, was a trust scheme. This trust is a
double-ownership scheme: two individuals are the exclusive owners of one and the same thing:
one at law, and the other simultaneously in equity. Similarly, in goldsmith-banking, two groups –
the holders of the bankers’ notes and depositors – were the exclusive owners of one and the same
cash that was kept safely in the bankers’ vaults; and one amount of cash created two cash
balances of the same amount, one for the holders and the other for depositors. This double
ownership remains a central feature of the present banking system. Demand deposits with
commercial banks as well as commercial banks’ notes, which are issued based on those demand
deposits, create money supply.
This trust – a double-ownership scheme – has been distinguished sharply from the abstract
concept of trust implied when we say “I trust you,” the concept that exists in all forms of
business relations and networks. This paper uses the term “trust” exclusively in the former sense.
1 Neale 1974, p. 94; Hudson 1986; Michie 1983.
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However, these two trusts cannot be sharply distinguished because the former has affected the
nature of the latter. The wide spread of the double-ownership scheme in business relations has
tended to depersonalize the abstract concept of trust, that is, to make business relations more
impersonal based on formal rules and professionalism. The settlers of trust schemes no longer
rely on a personal relationship with, and no longer need to personally know, trustees; instead, the
settlers rely on formal rules that bind trustees’ behaviour and on the impersonal professionalism
of trustees.2 Thus, an examination of the use of trust schemes in the modern credit economy
contributes to the understanding of the changing nature of the abstract concept of trust.
Furthermore, trust schemes are not merely legal and economic instruments, but also political
concepts. The political doctrine of trust, especially that of John Locke, has been the dominant
ideology in explaing the origin of modern representative democracy in England. Thus, trust in its
origin and evolution was an interdisciplinary concept rather than a strictly legal concept. By
including modern banking in the concept of trust, this paper contributes to an understanding of
the interdisciplinary nature of trust.
To include goldsmith-bankers’ credit-money under the concept of trust extends our
understanding of the cultural and political motives behind modern credit-money. Goldsmith-
banking and trust, as shall be demonstrated, originated from the same historical context and
motive and were uniquely English phenomena. Goldsmith-banking and later joint-stock banking
have grown within the context of the legal and political culture of trust in England. Thus,
2 The double-ownership scheme promotes representative organization, separating “control” from
“ownership,” and “manage” from “enjoy.” It grants trustees the autonomous power to manage a property
independent of the intervention of settlers and beneficiaries. But at the same time it charges a group of
trustees with a strict moral and legal obligation to exclude their own interest and promote the interest of
the settler. Here, trust promotes the professionalism of representatives. This role of the trust scheme has
contributed to the divorce of ownership from management, that is, of shareholding owners from
management controllers in business relations. Leslie Hannah briefly comments on such role of trusts
when he examines the global trend of the divorce of ownership from control beginning around 1900
(2007, p. 411).
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arguably, understanding the cultural and political implications of trust is critical to understanding
the cultural and political implications of modern credit-money.
Moreover, including goldsmith-bankers’ credit-money within the concept of trust helps
explain the origin and nature of modern paper money. This explanation is the main focus of this
paper.
The present literature often overstates the role of the development of transferable credit
instruments in originating modern paper money, and, as a result, it often mistakenly believes that
modern credit-money evolved from simple credit instruments, bills of exchange. This
overstatement and the consequent mistake are demonstrated by Geoffrey Ingham in The Nature
of Money (Ingham, 2004). He argues that two pre-existing economic developments were
necessary for the origin of modern credit-money. The first was the evolution of bills of exchange
into pure credit instruments and their depersonalization (that is, the emergence of bills “payable
to X or bearer”). The second was the emergence of deposit banking. He believes that the
integration of these two developments – deposit-bankers loaning their deposits in the form of
depersonalized credit instruments – transformed simple credit instruments, bills of exchange,
into credit-money.
Historically, however, the depersonalization of bills of exchange was not a necessary
condition for the origin of modern credit-money. In the second half of the seventeenth century,
when English goldsmith-bankers introduced paper credit-money, bills of exchange with a bearer
clause were known and transferred, but were not established as the custom among merchants.3
According to a common law court in Hodges v. Steward in 1692, there was no custom of
3 Rather, the custom tended to establish “the rule of endorsements in the formula ‘A or order’” to improve
the negotiability of bills of exchange.
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merchants to enable the bearer clause of bills of exchange to give a bearer the same creditor’s
right as the first holder. The court’s view can be accepted as an adequate description of reality.
Common law courts carefully observed the custom of merchants, and they had been trying to
adopt the customs into the common law since the early seventeenth century.4 Furthermore, even
the full practical development of the transferability of bills of exchange with an order clause was
not a precondition for the origin of modern credit-money. In England during the latter half of the
seventeenth century, bills of exchange “tended … to be used for single transactions rather than
pass[ed] from hand to hand” (Horsefield, 1960, p. xiii). Economic historian R. Richards also
confirms that in England the transferability of bills of exchange developed in parallel with the
development of goldsmith-banking rather than prior to it (1965, pp. 237-8).
Simple credit instruments, such as bills of exchange, cannot evolve into credit-money
because the former differ by nature from the latter. Unlike bills of exchange, credit-money is
inherently self-contradictory because the concept of money is contradictory to the concept of
credit. The transfer of a credit instrument creates a creditor-debtor relation in which the
transferor becomes a debtor and the transferee becomes a creditor. The transfer imposes a
payment obligation on a transferor. In contrast, money is defined as anything that is generally
acceptable in final settlement of a debt. For a credit instrument to become money, a transferor
must be free from the payment obligation. That is, to become money, credit must stop being
credit, while still remaining credit. This becoming of credit into credit-money is logically
impossible and has never occurred historically. Rather, the origin of credit-money should be
found in the innovation of goldsmith-bankers, who made their paper money self-contradictory by
4 James Rogers properly criticises the traditional account of the English history of the laws of bills.
According to the traditional account, the merchant practice of transferring bills had struggled against the
common law principle that choses in action are not assignable. Criticising this account, he demonstrates
that since the early seventeenth century common law courts had accommodated the transferability of bills
with relatively little difficulty (1995, pp. 170-2).
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making it simultaneously into money and credit. And the transferability of modern paper credit-
money should also be understood as part of goldsmith-bankers’ innovative scheme rather than as
something that evolved from the transferability of bills of exchange.
This paper argues that the two characteristics of goldsmith-bankers’ credit-money – self-
contradiction and transferability – must be understood as parts of one and the same scheme, a
trust scheme. Both characteristics are essential to a trust scheme. Trust is self-contradictory
because it is simultaneously a credit transaction and not a credit transaction. The paper argues
that this self-contradiction explains the self-contradictory nature of goldsmith-bankers’ credit-
money. And it also argues that the transferability of bankers’ paper money should be considered
the same thing as the transferability of the beneficiary's rights in trust. Finally, the paper further
argues that, like the transferability and self-contradiction of trust, the transferability and self-
contradiction of goldsmith-banking helped satisfy property owners’ desire to keep their interest
in property free from the Crown’s interference.
The paper begins by comparing goldsmith-bankers’ promissory notes with bills of
exchange in order to clarify the distinctive form of creditor-debtor relations that goldsmith-
bankers exploited. The paper then examines how bankers exploited the trust scheme to create the
self-contradictory nature of modern paper money. It finally examines how this innovation on the
part of bankers shared the identical concept, motive, and historical context as the origin of trust.
I. Bills of Exchange and the London Goldsmith-Bankers’ Notes
Goldsmith-bankers began their role of financial intermediaries as creditors. Around the
early seventeenth century, some London goldsmiths began to exchange foreign and domestic
coins, and they exploited the discrepancies in the weights and values of the coins (Richards,
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1965, p. 36). Using the profit earned from this money exchange, these goldsmiths began to loan
money to private persons and to discount various debt instruments, including bills of exchange
and government debts like tallies. After the Civil War, and especially after the Restoration of
1660, goldsmith-bankers were transformed from creditors into the biggest debtors in London,
and soon afterwards in all of England, as they started massively taking deposits and issuing paper
debts.
Goldsmith-bankers issued notes in the form of loans, usually when discounting bills of
exchange. The Bank of England replicated goldsmith-bankers’ discounting business as a means
of issuing the Bank’s paper debt. This discounting business marked a striking difference between
the Bank of England and the Continental public deposit banks of the late seventeenth century.
Merchants in Amsterdam, for example, were legally obliged to present their bills of exchange to
the Bank of Amsterdam, where the debts of the bills were cleared among merchants; and for this
clearance the deposited funds of the merchants in the Bank were used. Thus the financial role of
public deposit banks on the Continent was to clear the creditor-debtor relations of bills of
exchange. In contrast, the discounting business of the Bank of England and goldsmith-bankers,
as shall be seen, transformed and extended those creditor-debtor relations.
Goldsmith-bankers’ notes often used the bearer clause. In contrast, the merchant custom
for bills of exchange in seventeenth century England often used the order clause. Here, we
compare the bills of exchange payable to “X or order” with goldsmith-bankers’ promissory notes
payable to “X or bearer.” The time period for this comparison is the second half of the
seventeenth century through to the early eighteenth century.5 The order clause of the bills
5 Goldsmith-bankers’ notes gave way to the notes of the Bank of England, especially after 1708, when it
became illegal for any group exceeding six persons, except the Bank, to issue notes or bills payable at
demand, or at any time less than six months from the borrowing.
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required specifying a payee when they were transferred; while the bearer clause of the notes did
not. Thus the bearer clause of the notes let the bankers payable to whoever presented them.
We discuss five differences in the creditor-debtor relations of goldsmith-banker’s notes and
bills of exchange: (1) the number of debtors, (2) finality, (3) the distance between original
debtors and transferees, (4) demandability, (5) the expansion of credit.
[1] The first difference was the number of debtors involved in the transfers of notes or
bills. As a bill of exchange was transferred from hand to hand, transferors became additionally
included as liable parties. Figure 1 describes how the transfers of a typical bill of exchange that
was used for international trade would redefine creditor-debtor relations. In part (a), merchant
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Tom in London purchased a bill of exchange from
merchant-banker John in London and then paid Paul
with the bill. The purchase of the bill was an
imposition on John of a debt obligation. Here, the
drawer of the bill, John, was the original debtor of
the bill. To settle this debt obligation, however, John
ordered merchant-banker Jack in Amsterdam to honour the bill and pay Paul. If Jack accepted
the bill and promised to pay the sum of money, he was established as the new debtor to Paul.
And then John, according to the common law, was established as a warrantor to Paul.6 A
warrantor here was someone who would be liable when Jack could not pay. Here John and Jack
composed a group of debtors to Paul. In part (b), Paul used the accepted bill as a means of
payment by endorsing it to Martin. Here, Paul became, according to the common law, another
warrantor to Martin,7 and the group of debtors to Martin was expanded to include Paul. In part
(c), the second endorsement by Martin added another warrantor, Carly, to the group of debtors of
the bill.
In contrast, as seen in Figure 2, goldsmith-banker John remained the sole debtor as his note
transferred between Tom, Paul, Jack, and Martin. When John issued a note payable to Tom and
bearer, John became an original debtor to the holder of the note, Tom. Even when Tom
transferred the note to Paul, John still remained the only debtor to Paul. Why were transferors
free from the debt obligation of the note? To explain the reason we need to discuss the second
difference between notes and bills of exchange.
6 Starke v. Cheeseman (1700)
7 Anon. (1694), Holt, K.B. 115.
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[2] The second difference was that goldsmith-bankers’ notes enjoyed finality legally.
Unless debt instruments were endorsed by the transferor, transferees could not sue the transferor,
because a transfer of debt instruments without endorsement, by the common law, was regarded
as a plain sale rather than the making of a debt contract.8 Common law courts made a legal
distinction between a sale and a debt contract because they wanted to establish the rule of
endorsements for the negotiability of bills of exchange. The bankers’ notes exploited a loophole
in this common law distinction. Because bankers’ notes payable to bearer did not necessarily
require endorsement in transfer, their transferors were no longer legally liable for the notes.9
[3] The third difference was the distance between original debtors and transferees. The
necessary consequence of the transfer of bills of exchange was that transfers led a bill to be
farther and farther removed from its original debtor, the drawer. This growing distance was
legally acknowledged by common law courts. In Lambert v. Pack (1700), the court declared that
when a holder of a bill made a charge on an endorser, “there is no need to prove the drawer’s
hand… though it be a forged bill.”10 The addition of liable parties through endorsements as
described above was largely due to the growing distance between the original debtor and the
transferees (Quinn 1994, p. 48).11 In order for a debt to be transferable without the diminution of
value, transferees should possess at least the same degree of confidence in an original debtor as
transferors. However, this requirement was rarely possible due to the growing distance between
transferees and original debtors.
8 Bank of England v. Newman (1700), 1 Ld. Raym. 442.
9 “Transfer without liability, ‘by bearer,’ created finality for someone at the time the banknote was used”
(Quinn, 2004, p. 154).
10 1 Salk. 127.
11 “The more signatures a bill had, the more secure the bill was (Quinn, 2004, p. 154).”
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In contrast, transfers of bankers’ notes did not increase the distance between their original
debtors – goldsmith-bankers – and transferees. As S. Quinn has demonstrated, goldsmith-
bankers’ notes circulated mainly in the London community, where transferees knew the bankers’
reputation well (1994, p. 53). Important London goldsmith-bankers were famous men whose
reputations were well known in the community.12
[4] The fourth difference was demandability. A demand clause was widely used in
bankers’ notes: the holders of the notes could demand payment from the bankers at any time.
This liquidity was what made the notes most attractive to small investors (Roseveare, 1962, p.
260). In contrast, bills of exchange generally had a fixed payment date, usually three months
after the acceptance of the bills, and a demand clause was rarely used.13
The demandability of bankers’ notes was not characteristic of credit transactions. What
essentially differentiates credit transactions from other economic transactions is the transfer of
the present availability of funds against their future availability. But “payable on demand” did
not entail this transfer. In contrast, bills of exchange payable in a fixed period were credit
transactions because the creditors ceded the present availability during the period. The
demandability of goldsmith-bankers’ notes – and the legal enjoyment of finality – seemed to be
the reason that contemporary merchants regarded payment with notes as actual payment
finalizing their debt obligations. Demandability seemed to give the holders of the notes the
impression that their notes were equivalent to gold that was safely kept in goldsmith’s vaults. In
12 “Alderman Blackwell was banker to King Charles II, the Queen Mother, the Duke of York. Sir Thomas
Vyner was Lord Major in 1654 and made a baron in 1660 and was followed by his son Sir Robert Vyner.
James Hoare was Comptroller of the Mint in 1661 and from 1679-1682 he was Warden of the Mint. The
Martins, an established goldsmith family on Lombard Street, claimed direct ancestry to Sir Thomas
Gresham, the renowned goldsmith of a century before. Sir Charles Duncombe inherited much of
Blackwell’s business after 1672 and became Secretary of the Treasury” (Quinn, 1994, p. 53).
13 Still, bills payable on demand “are rarely met with in practice” (Holden, 1955, p. 130)
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Tassell and Lee v. Lewis (1695) a common law court described how goldsmith-bankers’ notes
were considered among merchants in comparison to bills of exchange: “The notes of goldsmiths
… are always accounted among merchants as ready cash, and not as bills of exchange.”14
In contrast to merchants’ opinion, however, common law courts regarded the bankers’
notes as credit. In Ward v. Evans (1702), in which the endorsee sued the first endorser of a
goldsmith-banker’s note, Chief Justice Holt stated: “I am of opinion, and always was
(notwithstanding the noise and cry, that is the use of Lombard street, as if the contrary opinion
would blow up Lombard Street) that the acceptance of such a note is not actual payment.”15
What made goldsmith-bankers’ notes a promise to pay was the fact that the bankers
maintained a fractional reserve. The cash ratio varied, according to contemporary financier
Richard Cantillon, from ten percent to around sixty-six percent, depending on the practice and
conduct of his clients (1755 [1959], pp. 299-303). This fractional reserve in part broke the direct
representation between the notes being circulated from hand to hand and the cash kept in vaults.
And it then in part transformed the notes into paper credit.
[5] Here the fifth difference between notes and the bills of exchange occurred: the
expansion of credit. By maintaining a fractional reserve (and by mutually accepting other
London goldsmith-bankers’ notes at par), goldsmith-bankers created credit out of thin air.16 In
14 Tassell and Lee v. Lewis (1695) I Ld. Raym. 743 at p. 744.
15 2 Ld. Raym, 928 at p. 930
16 An individual goldsmith-bank maintaining a fractional reserve enjoyed very little room to expand
credit. However, goldsmith-bankers’ mutual acceptance of bankers’ notes at par allowed them, as a
group, to create credit-money out of thin air.
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contrast, in the case of bills of exchange there was no credit expansion: the credit amount of the
bills was exactly the same as the sum that the purchasers trusted in the drawers.17
II. Methods of Maintaining a Fractional Reserve
Mutual Indebtedness & the Discounting Business
One of the methods that goldsmith-bankers exploited to maintain a fractional reserve was
to establish mutual indebtedness. The bankers issued the notes to those who came to borrow
money, mainly those who brought bills of exchange to discount them. Here these debtors to the
bankers became the first holders of the notes. But because the bankers’ notes were bankers’
promises to pay, the bankers became debtors to the holders of the notes as well. This mutual
indebtedness made the trustworthiness of the bankers’ notes depend on the trustworthiness of the
persons to whom the bankers’ debts were loaned.
17 Another difference between bills of exchange and goldsmith-bankers’ promissory notes was that while
the former grew from the custom of merchants, the latter was largely an invention of the bankers.
According to Rogers, this difference led Chief Justice Holt to object to treating the bankers’ promissory
notes under the same rules as bills of exchange in the cases of Clerke v. Martin (1702) and Buller v. Crips
(1703). In Clerke v. Martin, Holt complained that attempts to sue on notes in the form of actions on the
custom of merchants “amounted to the setting up a new sort of specialty, unknown to the common law,
and invented in Lombard Street, which attempted in these matters of bills of exchange to give laws to
Westminster Hall” (2 Ld Raym. at 758). The traditional view regarded Holt’s decisions as a reactionary
and unthinking objection to mercantile innovations. Rogers refutes this traditional view by arguing that
there was ample reason for Holt’s decisions (1995, pp. 170-186). As mentioned, common law courts
adopted both the custom of merchants into the common law beginning in the early seventeenth century
and shorter and simpler pleadings for actions on bills of exchange. A main reason for these adoptions was
that the courts regarded bills of exchange as more than mere loan transactions. The bills were for trade,
and, thus, called bills of exchange. Thus, the court had distinguished between the special commercial
rules governing bills of exchange and the general principles of monetary obligations. “Unless some way
could be found to define the limits of the law of bills, a creditor might attempt to bring an action on the
custom of merchants in any case where he could find some written evidence of the debt”; and thus this
attempt could be unfair to debtors (ibid., p.183). For Holt, goldsmith-bankers’ promissory notes were
mere loan transactions, did not grow in the custom of merchants, and, thus, could not be treated in the
same manner as bills of exchange. Rogers concludes that those decisions by Holt were “an effort, albeit
unsuccessful, to deal with the inherent problem of defining the limits of commercial laws” (ibid. p.186).
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The goldsmith-bankers’ discounting business shares some of the effects generated by
recent “asset-backed securitization.” First, the two schemes contribute to the standardization of
debt instruments and resultantly improve the transferability of the instruments. For example, to
finance debts, a bank or a nonbank intermediary, such as the General Motors Acceptance
Corporation, transfers in trust the pool of mortgage debts or automobile debts to a separate trust
company, and the trust company transforms the pool of debts into more standardized forms of
securities; as a result, this standardization further contributes to improved transferability.
Similarly, goldsmith-bankers transformed the pool of bills of exchange that were issued for
irregular sums into more standardized debts that were issued for round sums and were easily
transferable. Second, the issued transferable debts in the two cases are secured by the pool of
bills of exchange and by the pool of mortgage debts, respectively, rather than by a specific bill or
mortgage. It is now thus called “asset-backed” rather than “collateralized.” This discounting
business contrasts with the bankers’ early lending, which was typically collateralized (or
pawned) by jewellery.
The discounting business contributed to transforming the creditor-debtor relations of bills
of exchange into those of credit-money. In the last section we compare these two creditor-debtor
relations.
Permanent Indebtedness & Liquidity
Another method that goldsmith-bankers exploited to maintain a fractional reserve was a
scheme that made it possible to turn a long-term or permanent loan for a debtor into a short-term
loan for a creditor. From the standpoint of a holder of a goldsmith-banker’s debts – the banker’s
notes and deposits – the credit was offered to the banker in the short-term because the holder
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could easily transfer the banker’s debts to others or convert them into metal coins on demand or
at short notice. From the standpoint of the bankers, however, the credit could be – and usually
was – considered was a long-term one in the sense that the bankers did not need to repay it as
long as the bankers’ debts were transferred from hand to hand between the creditors.
Furthermore, a portion of the pool of the credits to the bankers remained permanently in the
hands of the bankers unless all creditors requested conversions simultaneously. Here this portion
became permanent capital that the bankers did not need to repay. It was permanent indebtedness,
due to the pooling and transferability of bankers’ debts, that allowed bankers to maintain a
fractional reserve and to create credit-money out of thin air through their mutual acceptance of
each other’s notes. Arguably, the pooling and transferability of their debts allowed bankers to
create short-term debt relations with a creditor and at the same time to create permanent debt
relations with the community at large. This scheme seemingly enhanced the security of the
bankers’ debts from both sides. From the standpoint of the holder of the debts, liquidity and
transferability could create the impression that the holder was easily able to avoid a default risk
of the debts. From the standpoint of the bankers, the appearance of long-term or permanent
indebtedness due to transferability enabled bankers to make a permanent or long-term
investment. This scheme allowed prominent goldsmith-bankers, such as Alderman Blackwell, to
earn record profits at that time: long-term investment in the Crown was the only exception to the
usury law that prohibited interest rates above five or six percent: the prominent bankers charged
an interest rate of ten percent or even more on loans to the Crown.
However, this seemingly secure scheme was, in fact, insecure. Illiquidity in the form of
bank-runs and other liquidity crunches could easily be caused by external agitation or the
defaults of goldsmith-bankers’ large debtors. For example, “the Great Fire in 1665 and [the]
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subsequent appearance of the Dutch at Chatham caused many goldsmiths to stop payment, and
while most of them later reopened there were frequent failures among them” (Horsefield, 1977,
p. 121). Charles II defaulted in 1672 on the money that goldsmith-bankers loaned him. This
default, called the Stop of the Exchequer, resulted in the failure of many London goldsmith-
bankers and made their notes unacceptable during the 1670s.
III. The Nature of the London Goldsmith-Bankers’ Deposit-Taking
The bankers could exploit these methods – the pooling of debts, mutual indebtedness, and
permanent indebtedness – because depositors transferred to the bankers an authority to re-invest
deposits at the bankers’ discretion in the bankers’ names. This transfer was a loan transaction in
which the legal ownership of the loaned property was transferred to a debtor. If depositors, rather
than bankers, had retained ownership of the loans, bankers could not have enjoyed the benefits of
permanent indebtedness and a fractional reserve, simply because this arrangement would not
have allowed the discounted bills to be pooled as assets belonging to the bankers.
During the Cromwellian period, depositors transferred authority to lend their funds to
goldsmith-bankers and allowed the bankers to own the debt claims of the loan (Richards, 1965,
p. 37). This transfer of ownership differentiated these bankers from other early modern financial
intermediaries in England. The latter intermediatires, such as money-scriveners or notaries, lent
customers’ funds at their own discretion. But after a money-scrivener had arranged a mortgage,
the customers took over the debt claim of the loans (Quinn, 1994, p. 8).
Goldsmith-bankers’ deposit-taking was self-contradictory because it was simultaneously a
loan contract and not a loan contract. Because deposits were repaid on demand, the ownership of
deposits practically remained in the hands of depositors. But bankers lent deposits at their own
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discretion and in their own names, and they attained and retained the ownership title of the loans.
Here the ownership of deposits was transferred from depositors to bankers because a person – in
this case, the goldsmith-banker – could lend property in his or her name only when he or she had
ownership of it. How could the ownership of the thing simultaneously be transferred and not
transferred? Under Continental civil law traditions “rights in rem” were so strictly divided from
“rights in personam”18 that this contradictory nature of bank deposits has long been an
embarrassing enigma to Continental legal theorists. Safekeeping service has long been
considered distinctive from loan-making; and thus depositaries have charged a safe-keeping fee
to depositors. And there has been a long moral and legal debate as to whether depositaries’
attempts to utilize deposited funds for their profit constitute a crime. In the strict Roman law
tradition, an honest depositary of fungible things, such as money and grain – called an “irregular
deposit” in the tradition – had to keep 100 percent tantundem of deposits in order to honour the
right of depositors to withdraw the deposits at any time on demand; and the honest depositary
could not issue transferable receipts of deposits to a value greater than the amount that he kept.
This rule existed even in the common law tradition. During the 1860s in the United States, grain
elevators issued deposit receipts larger than the amount that they kept, by lending the receipts to
speculators in the Chicago wheat market. Resultant dislocations in wheat prices and bankruptcies
in the wheat market were settled when the over-issue was treated as fraudulent and illegal by
common law courts (Rothbard, 1994, p. 38). An exception was made, however, in the common
law with regards to demand deposits with banks. In 1848, in Foley v. Hill and Others, the House
of Lords finally declared demand deposits with banks to be loans to the bankers. Here, in
18 In a loan transaction, the rights of a creditor are the rights against a person, “rights in personam.” The
creditor cedes legal ownership of property to a debtor and, in exchange, obtains a debt claim that goes
against a person. The creditor can oblige the debtor to fulfill an obligation to repay a principal and
interest. In a deposit transaction, by contrast, the rights of a depositor are “rights in rem,” the rights
against a thing, because the depositor retains legal ownership over the deposited property.
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addition to the issue of deposit receipts to depositors, bankers were legally allowed to
(over-)issue deposit receipts to third parties in the form of a loan.
In Western history, private banks on the Continent abused the belief of depositors by
loaning deposited funds to one of their customers. Governments on the Continent established
public deposit banks to exact credit for public expenses, especially international wars. But these
abuses by private and public deposit banks were frequently the object of public accusation. And
unlike the Bank of England, the Continental public deposit banks were strictly forbidden to loan
deposited funds to private individuals (de Roover R. , 1974, p. 228). The Bank of Amsterdam, a
highly respected Continental public bank during the seventeenth century, was established to put
an end to the abuse of deposited funds; and thus it maintained a 100-percent reserve ratio for
over one hundred and fifty years after its foundation in 1609 (de Soto, 2006, p. 99).19 Thus, on
the Continent, where bills of exchange payable to bearer and deposit banking developed earlier
than in England, the combination of deposit and loan never developed as freely as in the case of
goldsmith-bankers and the Bank of England.
During the seventeenth century, one justification for interest-gaining on a loan was what
economics today calls opportunity cost (Nevin & Davis, 1970, p. 11). Demand deposits with
goldsmith-bankers did not entail an opportunity cost because they were paid at any time on
demand. In spite of this lack of opportunity cost, interest-gaining was one of the purposes of
goldsmith-bankers' demand deposits. This coexistence of two disparate purposes – interest
gaining, which characterizes a loan transaction, and liquidity, which characterizes a deposit
19 However, in the 1780s the Bank began to systematically violate this principle of maintaining a full
reserve ratio: during the fourth Anglo-Dutch war, it made large loans to the Dutch East India Company
and the City of Amsterdam; hence, the reserve ratio of the Bank “had been cut from 100 percent to less
than 25 percent (de Soto, 2006, p. 106; Quinn & Roberds, 2005, p. 43).
-18-
transaction – was well described by an anonymous contemporary author in The Mystery of the
New Fashioned Goldsmiths or Bankers in 1676:
This new practice giving hopes to everybody to make Profit of their money until the
hour they spent it, and the conveniency as they thought, to command their money
when they please, which they could not do when lent at interest upon personal or reall
Security.
The self-contradictory nature of goldsmith-bankers’ demand deposit taking20 was a result
of the double-ownership scheme of goldsmith banking. This double ownership differs from
fragmented or shared ownership. While in fragmented ownership each owner has exclusive
ownership of only part of the property, in double ownership each owner has exclusive ownership
of the whole property. While in shared ownership each owner cannot use or sell a shared
property without the consent of other owners, in double ownership each owner has the free right
to use and sell the property without the consent of the other owner.
Economists’ Understandings of Goldsmith-Bankers’ Deposit-Taking
Economic historians regard goldsmith-bankers’ deposit-taking as a loan transaction,
usually without providing logical reasons for it (Nevin & Davis, 1970, p. 17; Richards 1965, p.
223; Powell, 1966). But a recent debate between Austrian economists of the “free banking
school” raises some issues relevant to the nature of the bankers’ deposit-taking. We identify
these issues as: the fungibility argument, the legal-impossibility argument, the certificate
argument, and the fraud argument. The debate pits the fractional-reserve free banking school
(hereafter fractional-reserve school), especially Lawrence White, against the so-called 100
20 Ben-Oliel makes a similar argument about the nature of modern banks’ demand deposit. He argues that
“A bank deposit is a deposit strict sensu, being neither an irregular deposit nor a loan, nor even a
combination of both, but rather a contract sui generis” (1979, p. 164).
-19-
percent-reserve free banking school (hereafter full-reserve school), which includes M. Rothbard,
Jesús de Soto, Hans-Hermann Hoppe, and J. Hűlsmann.
Fungibility Argument The fungibility of money units allows depositaries to return
deposits in genre rather than in specie. The fractional-reserve school argues that this fungibility
makes modern deposit-taking, including that of goldsmith-bankers, a loan transaction by
effectively transferring ownership of deposits from depositors to depositaries (White, 2003, p.
427). In contrast, the full-reserve school argues that fungibility does not entail the transference of
ownership and that therefore modern deposit-taking with fractional-reserve is a fraud betraying
the traditional safekeeping principle of deposit-taking.
In Western European history, the idea of fungibility was often used, unsuccessfully, to
justify the depositories’ personal use of deposited funds. In England around the late sixteenth and
early seventeenth centuries, the same rationale – the maxim that “money has no earmark” – was
often used in common law courts to characterize the deposit-taking of money as a loan
transaction. For example, in Bretton v. Barnet (1598), Justice Walmseley “took a difference
between goods and money: for if a horse be delivered to be redelivered, there the property is not
altered, and therefore a detinue lies, for they are goods known: but if money be delivered, it
cannot be known, and therefore the property is altered, and therefore a debt will lie.”21 The
maxim of “no earmark” was no longer used in Foley v. Hill and Others (1848) when common
law courts finally settled the issue of bank deposits as loans to banks. Instead of the maxim, it
adopted the bankers’ custom that bankers considered themselves debtors.22 Lord Cottenham in
that case did not explain why the maxim was no longer used, but the reason can be inferred from
21 Owen 86. The maxim was used also in Higgs v. Holiday in 1600.
22 2. H.L.C., pp. 36-37.
-20-
the earlier decision made in Miller v. Race (1758), where the fungibility argument was dismissed
as justification for why a bona fide holder of money for valuable consideration can keep the
ownership of the money that had previously been stolen. As Lord Mansfield declared in that
case: “It has been quaintly said, ‘that the reason why money can not [sic] be followed is, because
it has not earmark:’ but this is not true.”23 An implication of this declaration was that the
fungibility of monetary units did not result in a transfer of ownership. This implication can be
applied to banks’ deposit-taking: fungibility does not entail the transfer of ownership in deposits
from depositors to banks. Even though the court did not explain why fungibility does not result
in the transfer of ownership, it is easy for us to reason it out. As legal theorist Benjamin Geva
rightly argues, “Fungibility of money… explains the depositary’s right to mix the deposited
money instead of keeping it separate. It does not necessarily explain the depositary’s right to use
the money” (2001, p. 67). A depositary is still required to keep an equivalent amount of money
deposited.
Legal Impossibility Argument For the full-reserve school, deposit-taking is so distinct
from a loan transaction that an economic transaction cannot be both a deposit transaction and a
loan transaction. For this school, if an economic transaction has these characteristics
simultaneously, double ownership titles would be established on the same fund. But, according
to this school, this double ownership is from the juridical point of view impossible because “two
individuals cannot be the exclusive owner of one and the same thing at the same time” (Hoppe,
Hűlsmann, & Block, 1998, p. 21).
In contrast, the fractional-reserve school does not acknowledge the establishment of double
ownership in modern banking. This lack of acknowledgement, as de Soto argues (2006, pp. 252-
23 Miller v. Race (1758), 1 Burr. 457.
-21-
3), repeats the mistake that the currency school made when it played a leading role in
establishing the Peel’s Act of 1844, which founded the modern banking system. The Act did not
realize that an “on demand” clause made demand bank deposits constitute a part of the money
supply, much as bank notes do, and thus that bank deposits with a fractional reserve – “issuing”
unbacked deposits – have “exactly the same economic nature and produce… the same damaging
effects as the issuance of unbacked banknotes prohibited” by the Act (de Soto, 2006, p. 253).24
Certificate Argument. For the full-reserve school, unbacked modern bank notes,
including those of goldsmith-bankers, are basically the receipt or certificate (Rothbard, 1994). In
contrast, for the fractional-reserve school, bankers’ notes have differed by nature from deposits-
certificates. To justify the latter argument, White insists that the circulating deposit-certificates,
which had a bearer clause and were backed by a 100 percent reserve, and thus upon which the
bank notes would be modelled, never existed (2003, p. 425).
It seems to be true that in Western history deposit-certificates did not circulate freely
outside the circle of depositors of an issuing bank before goldsmith-bankers exploited both
fractional-reserve deposit banking and transferable notes payable to bearer. However, this
historical fact does not exclude the possibility that bank notes with a fractional reserve have had
the characteristics of deposit-certificates. The following is the oldest preserved sample of a
London goldsmith-banker’s note. “November 28th 1684. I promise to pay unto the Rt Honble Ye
Lord North & Grey or bearer ninety pounds at demand. For Mr Francis Child & myself John
Rogers” (qtd. in Richards 1965, p. 41, italics added). This sample demonstrates the coexistence
of disparate characteristics: “promise” can be considered a loan characteristic;25 and “at demand”
24 For the details, see de Soto, 2006, pp. 182-231.
25 There is an ambiguity as to whether the term promise, on its own, means the credit characteristic. But
because the bankers were allowed the personal use of money deposited, the term could mean the credit
-22-
is certainly the characteristic of deposit-certificate that provides the holder of deposit-certificates
the present availability of deposited funds. According to economic historian Hartley Withers,
London goldsmith-bankers’ original notes were deposit receipts; and the epoch-making
innovation that founded modern banking occurred when some ingenious goldsmith-bankers
issued these deposit receipts to those who came to borrow them (1921, p. 24). The form that the
receipts originally took, according to economic historian A. Feavearyear, was the same as the
above example, having the clause of “a promise to pay the named person, on demand, or with so
many days’ notice” (1963, p. 107). To conclude, the following two facts seem to have occurred
together. First, goldsmith-bankers’ notes with a fractional reserve were basically deposit-
certificates. And, second, the certificates were a hybrid from the beginning, having
characteristics of both loans – “promise” – and deposit-certificates – “on demand.”
Fraud Argument. For the full-reserve school, there generally exist two kinds of fraud
committed by modern bankers. The first fraud is embezzlement committed by a bank against
depositors. According to Rothbard, modern bankers, including the London goldsmith-bankers
fraudulently use the money entrusted to their care for their own gain (2008, pp. 88-90).
This rebuke of goldsmith-bankers for embezzlement seems incorrect because bankers
loaned deposits to third parties with the explicit or implicit permission of depositors. Economic
historian Richards confirms that the bankers were fully authorized to use deposited money as
loans to third parties (1965, p. 37). Strangely, depositors intended to keep their deposited funds
safe by allowing the bankers to utilize them for their own profit. Here, the two disparate purposes
of deposits and loans - safekeeping and the making of profit – existed together, satisfying each
other’s motives. In the next part we will discuss how this dual existence happened.
characteristic.
-23-
The second fraud, according to the full-reserve school, is made by a bank and its depositors
against third parties. When depositors allow a bank to loan their deposits to third parties, they
“have in fact contracted to create additional titles and claims to the same existing quantity of
property” (Hoppe, Hűlsmann, & Block, 1998, p. 22). This creation is a fraud because no one can
loan what she/he does not have (ibid.). Furthermore, the creation of additional titles and claims
has brought about economic booms and recessions. Because recessions generate high costs for
third parties who are innocently involved in the transaction of the bankers’ credit-money,
including workers, suppliers, and consumers, the contract between bankers and depositors is a
criminal act damaging the common good (de Soto, 2006, p. 394).
The historical innovation of goldsmith-banking contributed to this fraud. Earlier deposit-
bankers loaned deposited funds mainly in the form of overdrafts that a depositor would use in
order to settle a payment with other depositors. That is, in the system of book transfers,
additional titles and claims that the bankers created were not extensively offered to third parties
outside the circle of depositors and clients. In contrast, goldsmith-bankers’ notes payable to
bearer were transferred from hand to hand between any person in a community and thus
introduced a wide range of third parties. What the bankers supposedly offered to third parties
was “ready cash,” the present availability – ownership – of deposited cash. But due to a
fractional reserve, what the bankers offered in effect was merely credit, a fraudulent creation of
additional titles and claims. This credit creation exposed third parties to a new form of risk that
did not exist in the traditional safekeeping business: the risk of illiquidity in the form of bank-
runs and other forms of liquidity crunches. This risk was like a risk in a “musical parcels” game
in which “the loser is the one holding the parcel when the music stops” (Horsefield, 1977, pp.
124-5).
-24-
IV. Goldsmith-Banking as a Trust Scheme
The idea of trust in England made possible that which is logically impossible – double
ownership and the self-contradiction of deposit-taking. Trust is a double-ownership scheme and
is self-contradictory by nature because it is simultaneously a loan contract and not a loan contact.
These two characteristics of trust – double ownership and self-contradiction – enable us to think
of trust as the key factor underscoring goldsmith-banking in particular and modern banking in
general. Surprisingly, though, trust has never been used to explain modern banking, an omission
that is all the more perplexing since deposit-taking by goldsmith-bankers, on the one hand, and
trust, on the other, seem to have originated from the same historical context.
After the Restoration of 1660, goldsmith-bankers extensively started exploiting the self-
contradiction of deposit-taking and the issue of negotiable paper. At the very same time, trust
became free from the legal restraints imposed by the 1535 Statute of Uses26 and began to be
transformed “from a jurisdiction based upon the personal interference of the Chancellor into a
system of established rules and principles” (Martin, 2001, p. 12).
In their origin, trust and goldsmith-banking share the same scheme. As in the case of
goldsmith-bankers’ deposit-taking, a trust exists when the settler of a trust transfers legal
ownership for safekeeping. That is, the purpose of safekeeping is satisfied by a loan transaction.
Trust – and the use of land – was motivated by an individual’s desire to make his/her interest in
property endure when the endurance is impossible, for example, after death or due to external
interference. The use had been exploited for various reasons, for example, because an individual
wanted “to escape from his creditors; or feared that a conviction for felony would result in the
26 Trust evolved from the use of land. The use dates back to at least the reign of Henry III in the early
thirteenth century. And in the late fourteenth century, the Courts of Chancery began to enforce the use. In
medieval times, if land was given to “A” to the use of “B,” “A” owned a legal title to the land but should
use the land for the benefit for “B.” But the Statute of Uses 1535 restricted the use.
-25-
loss” of his/her property and lands (ibid., p. 8). However, the most important external force that
the exploitation of trust or the use tried to escape was taxation by the rulers or the state. Note
that, in traditional English law, if an inheritor in a direct or collateral line did not exist when a
landowner died, the Crown took the land as bona vacantia [unclaimed goods]; and “the lord was
entitled to a payment when an heir succeeded feudal land, and to other valuable rights arising
when the land was held by an under-age heir” (ibid., p. 9). To evade this taxation, landowners or
tenants transferred the ownership of land to a number of feoffees, but let the heirs retain
equitable interest in the land. Even in the present day, tax avoidance is the motive that
“dominates all others in the context of the creation of trusts in modern law” (ibid., p. 43).27
A similar motive – to escape interference from rulers, especially the Crown, in order to
keep safe an individual owner’s interest in property – was crucial in the emergence of goldsmith-
banking. The historical event that allowed goldsmiths to become the biggest deposit-takers in
London was Charles I’s appropriation of cash deposited in the London Mint. In 1638, shortly
before the outbreak of the Civil War, Charles I appropriated 200,000 pounds in coin and bullion
deposited by London merchants in the Mint. Even though the Crown returned the sum on
condition that the depositors loaned him 40,000 pounds, this event destroyed the Mint’s
reputation as a safe depositary (Richards, 1965, pp. 35-36). Many economic and legal historians,
such as Richards, argue that this event “paved the way towards a system of private banking”
(1965, p 36). According to these historians, merchants sought places where their money could be
deposited safely without interference from the Crown or Parliament. A number of London
goldsmiths’ establishments were chosen as safe places, and they finally developed into deposit
27 Recently, however, to protect their tax base, many jurisdictions, including the UK, are enacting rules
that make traditional trust structures less effective vehicles for tax avoidance.
-26-
bankers. These historians, however, do not explain why depositing in goldsmiths was more
secure than in the Mint and other places.
No place seemed physically safer than the Mint. In history, the two most commonly used
places for safekeeping of surplus money were temples and governmental institutions. At temples
in ancient times, deposit-taking and primitive banking began (de Soto, 2006, p. 41). A similar
situation existed in England in the late medieval era. Monasteries were often used as safe
depositaries (Bisschop, 1968, p. 42). They also acted as banks, providing small farmers with
credit to ease their seasonal deficiencies in purchasing power (Nevin & Davis, 1970, p. 10).
However, this form of safe-keeping and credit disappeared when Henry VIII dissolved the
monasteries and subsequently when Edward VI confiscated their guild lands with the support of
landowners greedy for those lands. The only remaining places for safe deposit were
governmental institutions, such as the mints where money was coined (Bisschop, 1968, p. 42).
These institutions acted as safe depositaries in Queen Elizabeth’s time. And during the first half
of the seventeenth century, the London Mint was chosen for safekeeping extensive amounts of
cash (ibid.). But when Charles I appropriated money deposited in the Mint, the only remaining
place for a safe deposit disappeared.
Goldsmith-bankers provided a safekeeping service in a non-physical way. They certainly
were equipped with sturdy vaults, but there is no historical evidence to demonstrate that their
vaults were safer than the vaults in the Mint. The advantage of goldsmiths was different: they
safely kept money deposited by loaning it to numerous third parties while still offering
depositors the right of withdrawal on demand, that is, by transferring the ownership of deposited
money to numerous third parties while letting depositors retain the ownership. This use of loans
-27-
for safekeeping was not unique in history. Around the middle of the seventeenth century, bankers
in Seville loaned most deposited money to private industry and commerce to escape Charles V’s
attempt to confiscate funds remaining in their vaults (de Soto, 2006, p. 79). But goldsmith-
bankers were more innovative: instead of emptying their vaults, they introduced transferable
bank notes. As mentioned, this introduction was very successful in “merging” the interests of
numerous third parties in the same funds. Creating simultaneous ownership interests by third
parties and depositors would make it harder for the Crown to appropriate the funds and would
elicit greater opposition when the Crown actually did so.28
This innovation on the part of goldsmith-bankers – loaning funds deposited with them in
the form of bankers’ transferable paper debts – was a trust scheme. A trust scheme has two
essential characteristics: the permanent indebtedness of the trust and the transferability of the
beneficiary’s right. As described in Figure 3, the settlers of a trust transfer legal ownership to a
group of replaceable trustees and in so doing solve the problem of an individual trustee whose
death can terminate a trusted interest. As long as trustees are permanently replaceable, the trust
28 This point is argued by Raghuram Rajan, who explains how goldsmiths offered better security than the
Mint: “a hoard dispersed among many goldsmiths, and in large part further dispersed to borrowers, is
both harder [for the Crown] to seize and elicits more opposition when seized” (1998, p. 532).
-28-
can persist and can be placed in a permanent credit-debt relation with the settlers or beneficiaries
of the trust.
This permanent indebtedness places a trusted property on the borderline between debt and
property. It is a debt to the trustees insofar as they must pay a benefit to the beneficiaries. But at
the same time, it is permanent capital to the trustees because they do not need to repay the
principal of the debt. Here, trust transforms debt into permanent capital or property, but with a
condition to pay a benefit to the beneficiaries. The permanent indebtedness of trustees is also
possible because the beneficiary’s right is transferable between replaceable beneficiaries. These
two central characteristics of trust – permanent indebtedness and transferability – were exploited
by goldsmith-bankers. The permanent indebtedness of goldsmith-bankers, as mentioned, allowed
them to transform a portion of the bankers’ debts into permanent capital and to maintain a
fractional reserve. And like the transferable right of a beneficiary in trust, the transferability of
goldsmith-bankers’ note made it possible for goldsmith-bankers to be indebted permanently. But
there is one difference between the general trust scheme described here and the specific situation
of goldsmith-banking. A general trust scheme does not offer liquidity – the open-endedness of a
trust contract – because the termination of trust on demand makes it impossible for trust to be
permanent. Goldsmith-banking overcomes this illiquidity by pooling numerous trust contracts
-29-
(Figure 4). By becoming a bigger debtor by taking deposits from and issuing promissory notes to
numerous individuals, goldsmith-bankers could offer liquidity to a banknote holder; at the same
time, goldsmith-bankers could also enjoy permanent indebtedness in the aggregate because
normally not all holders would demand repayment simultaneously. This method remains the
foundation of modern finance: the widespread use of the trust in finance in the late twentieth
century, in the form of mutual funds, pension funds, and asset-securitization schemes, among
others, offers open-endedness – liquidity – by which investors can quickly exit from an
investment pool by redeeming their shares or securities (Hansmann & Mattei, 1988, p. 477).
This scheme that goldsmith-bankers exploited fits the origin of the term trust. The Statute
of Uses (1535) was intended to reduce the range of the use extensively by returning legal
ownership to equitable owners. To avoid this restriction, landowners made the double use: a
settler of the use transferred legal ownership “to A to the use of B to the use of C.” The settler
expected that if the Statute executed the first use – to A to the use of B – and returned legal
ownership to B, the second use, “to the use of C” still remained, that is, B still had legal
ownership for the benefit of C. But this double use was soon nullified by the courts of equity and
common law courts. In Tyrrel’s Case (1557), for example, the Statute returned the legal interest
held by A to the equitable owner B and did not allow any legal or equitable interest for C.29 Here
29 73 ER 336.
-30-
the Statute did not allow the equitable interest to be separated from the legal interest by
executing the first and second use together. But beginning in the mid-1600s, courts of equity
began to decide not to execute the second use: they began to make the double use effective by
returning legal ownership to B while allowing the equitable ownership to move to C. This
practice was firmly established in 1700 by Symsom v. Turner (1700).30 Here in effecting this
double use, the two transfers of legal ownership occurred: the first was made by a settler of the
use to A, and the second was made by the Statute of Uses that returned ownership from A to B.
By around 1700, the second use was called a trust. Goldsmith-banking exploited double transfers
of ownership as happened in effecting the double use. The first transfer of ownership was from
depositors to goldsmith-bankers; and the second was from the bankers to third parties. The
making of loans to third parties – in the form of transferable instruments – for the purpose of
safekeeping can be called the second use, trust.
Like trust,31 goldsmith-banking was a distinctively English phenomenon. This Englishness
was demonstrated by the demographical distribution of bankers and customers. At this time
many wealthy Dutch Calvinists and Jews immigrated to England. However, they were never
conspicuous in goldsmith-banking. The majority of goldsmiths and their powerful customers
were Anglican rather than Calvinist or Jewish (Richards, 1965, pp. 212-222).32
30 1 Eq. Ca. Abr. 383.
31 The development of trust as an important legal system was, as F. Maitland argues, a distinctively
English phenomenon (1911, p. 272).
32 England, as Herman Van der Wee (1993, ch. 8) argues, learned and borrowed from the continent,
especially from Antwerp, many financial techniques, such as, the assignment of bills of exchanges and
the discounting of the bills and other credit instruments. This fact does not contradict my argument of the
English uniqueness of goldsmith-banking. Rather, the goldsmith-bankers’ unique combin ation of deposit-
taking with loan-making – that is, the massive issue of unbacked deposit certificates in the form of loans
to the private sector in London – developed those borrowed techniques on a different level. Discounting,
in the modern sense, is to lend money on commercial paper before its due date after deducting the
interest. Discounting on the Continent before goldsmith-bankers, R. de Roover argues, was not of the
modern type: the dealing, negotiation, or exchange of bills of exchange on the Continent was not a form
of a loan; rather it was a speculation exploiting the discrepancies of rates of exchange, and thus was not
-31-
We do not mean to suggest that goldsmith-bankers consciously thought that what they
exploited was a trust scheme. There was no ready-made form of trust that they could adopt from
without. Rather, we mean that what they adopted was an ethos that had yet to be systematized
but that pervaded the upper and middle classes at that time in England. Trust was at the centre of
that ethos.
The law of trust began to be systematized in the late seventeenth century and occupied the
centre of English law by the end of the nineteenth century. However, modern banking has not
been categorized under the law of trust by lawyers or legal theorists. One reason for this is that
the development of the law of trust has tended to emphasize a fiduciary obligation of trustees that
modern banking lacks. This trend is shown in the definition of trust in contemporary law
textbooks: for example, G. Bogert in his Trusts defines a trust as “a fiduciary relationship”
(1987, p. 1). The lack of a fiduciary relationship between bankers and depositors is a central
reason why the common law regarded, and continues to regard, the relationship between bankers
and depositors as a creditor-debtor relationship rather than one based on trust. When Lord
Cottenham in Foley v. Hill and Others (1848) finally established the legal principle that demand
deposits in banks are loans to the bankers, he explained the principle as follows:
opposed by the theologians’ usury question (1974, p. 229). The discounting of bills of exchange in
England, in contrast was, according to Roover, a form of loan; and a discounting rate is a form of interest
rate. De Roover concludes that discounting “appeared in England long before it took root on the
Continent. Its originators were apparently the London goldsmiths” (ibid., p. 230) and that “Banking on
the European Continent, prior to 1800, was not based upon discount, but upon foreign and local
exchange” (ibid. p. 236). De Roover’s argument might be controversial. But it is evident that goldsmith-
bankers’ lending on bills of exchange as a means of issuing their paper debts was an innovation that
differentiated it from its parent. Furthermore, on the Continent, the assignment of bills of exchange
developed away from the early use of a bearer clause to the establishment of the rule of endorsement,
because bills of exchange with a bearer clause were troubled with negotiability. (The principle of
negotiability is to guarantee “the new holder of a title the right to greater recourse than that to which the
earlier bearer had been entitled” (Van der Wee, 1993, pp. 154-5)). But goldsmith-bankers, as seen,
succeeded in making the bearer type of their promissory notes prosperous without harm to negotiability.
-32-
The money placed in the custody of a banker is, to all intents and purposes, the money
of the banker, to do with it as he pleases; he is guilty of no breach of trust in
employing it; he is not answerable to the principal if he puts it into jeopardy, if he
engages in a hazardous speculation; he is not bound to keep it or deal with it as the
property of his principal; but he is, of course, answerable for the amount, because he
has contracted.33
Lord Chancellor said the same in Parker v. Marchant (1843): “If it is merely a sum of money
paid to a factor or paid to an agent, the party has a right to recall it – he has a right to deal with
the factor or agent in his fiduciary character. But the banker does not hold that fiduciary
character.”34
The lack of a formal fiduciary relationship in modern banking, however, does not prevent
us from considering modern banking as a trust scheme. The fiduciary duty of trustees has not
been a central concern for the use of trust in economic and financial spheres. According to
Hansmann and Mattei, for recent trust funds, such as mutual funds and pension funds, “the trust
form clearly is not being used … to take advantage of the particular fiduciary duties that are the
default rule in trust law (1988, p. 468). Rather, the trust form is being used to avoid a fiduciary
aspect that the corporate form of business organization must impose on itself. As Hansmann and
Mattei argue, the trust form
easily permits the creation of an entity managed by persons who are not subject to
direct control by the residual claimholders. …For example, trusts need not adopt the
internal governance structures that are generally imposed on business corporations,
such as the requirement that the entity be managed by a board of directors, elected
annually by shareholders at a meeting held for that purpose (1988, pp. 472-3).
Here we can do what strict legal theorists cannot do because they tend to emphasize the fiduciary
duty of trustees: we can categorize modern banking under the concept of trust.
33 Foley v. Hill and Others (1848) 2. H.L.C., pp. 36-37.
34 Parker v. Marchant, 1 Phillips, p. 361.
-33-
V. Summary
This paper has demonstrated the following. First, modern credit-money cannot be considered to
have evolved from bills of exchange; rather the origin of credit-money should be found in a
specific innovation of goldsmith-bankers. Second, demand deposits with goldsmith-bankers and
bankers’ notes were by nature self-contradictory: demand deposits were simultaneously loans to
and deposits with bankers; banker’s notes were simultaneously deposit-certificates and debts to
the bankers. Third, this self-contradiction made it possible for a double ownership title to exist in
one and the same fund deposited with goldsmith-bankers. This double ownership was a
fraudulent creation of additional titles and claims to the fund. The critical historical innovation of
goldsmith-banking – transferable paper payable to bearer – contributed to this fraud by
introducing the interests of numerous third parties into the fund. Fourth, pooling demandable and
transferable debts allowed bankers to enter into short-term debt relations with each creditor while
simultaneously entering into permanent debt relations with the community at large. Permanent
indebtedness transformed a portion of the bankers’ debts into their permanent capital. Fifth, I
argue that the most suitable concept to cover all these goldsmith-bankers’ innovative schemes –
self-contradictoriness, double ownership, transferability, and permanent indebtedness – is trust.
Finally, trust and goldsmith-banking emerged from the identical historical context and motive,
i.e., from property owners’ individualistic desire to keep their property interests safe from their
rulers, especially the Crown.
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