Finance academic William Goetzmann shows that by letting us move value backward and forward in time, finance has made the modern world possible.
By Saul Eslake
In what is now desert, 30km east of the Iraqi city of Samawa, lie the ruins of a Sumerian city called Uruk. In 3100 BCE, it was the largest settlement in its region, perhaps the largest city in the world. In this city, we find the earliest known forms of writing.
What is it that was written in these first documents? Records of who owed what to whom – 30 sheep, 20 jars of honey and so on. These were accounting records and financial contracts.
From them evolved numbers, necessary to record large quantities of items. These in turn provided the earliest building blocks for the development of mathematics. So, too, came writing, enabling the people of Uruk to produce the world’s first known literary work, The Epic of Gilgamesh.
These and other stories are recorded in finance academic William Goetzmann’s new book Money Changes Everything: How Finance Made Civilization Possible. The book contains much to interest those who want to learn more about the origins of money, those pieces of metal and paper which have long served as a means of exchange, or units of account, in most of the world’s cultures.
In the main, however, it is a history of finance, which to Goetzmann is something very different. In his view, finance is a technology, an enabler. Without finance, society as we know it would not exist – or at least, would have evolved in very different ways.
In Goetzmann’s telling, the principal purpose and achievement of finance has been to enable value to be transmitted through time.
Without the capacity to make payments at different points in time from those at which income is received, humankind might never have evolved beyond a form of existence in which each family or household was entirely self-sufficient in everything it needed – in particular, food, clothing and shelter.
Urban societies could not have emerged in the way in which they began to – in Mesopotamia 5000 years ago and in China perhaps 4000 years ago – without some means whereby people could specialise in different activities.
For their differing specialities to keep them clothed and fed and housed, people needed a way to make exchanges. When they had more of what they produced than they needed for themselves at the time, they needed to swap it for things they needed but which were produced by others, at different times. Finance provided that.
"In Uruk, we find the earliest known forms of writing. These were accounting records ... from them evolved numbers."
Rulers and states could not have come into existence without some means of extracting tribute, or taxes, from subjects at intervals required by the former but not necessarily coinciding with the capacity of the latter. Finance provided that, too.
Finance facilitated the development of trade between peoples living in geographically separate entities. It allowed people to share the risks associated with long journeys over land or sea, and defray the costs involved in arranging them, before the merchandise that traders sought to procure could be sold. In much the same way, finance enabled the conversion of ideas into new products.
Then there is the notion of interest as a form of payment for borrowing and lending – derived, according to Goetzmann, from the multiplication of herds of livestock. Compound interest, which Albert Einstein once described as “the most powerful force in human nature”, was understood by Sumerians in 2400 BCE.
The prospect of earning interest, in turn, provided the incentive for those who had immediate access to money, or “capital”, to lend it to those who had an immediate need for it.
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Foundation for empires
Beyond this, Goetzmann argues that the evolution of financial technology had broader effects than just underwriting commerce or even kickstarting the development of writing in ancient Sumer.
He suggests that “the roots of democracy” as it emerged in Athens “lay in financial literacy”, by enabling the development of a fiscal system that “engaged citizens in a direct economic relationship with the state”; and that “Rome became an empire because of financial technology” that underwrote its wars of conquest and the management of a far-flung polity.
However, these political outcomes of the evolution of financial technology were by no means pre-ordained. Goetzmann shows that, although the basic elements of money and finance developed independently in ancient China much as they did in Mesopotamia, and played a similarly important role in the development of written Chinese language, finance evolved much more directly as a tool of the state than it did in the Middle East, and subsequently in Europe.
Paper money was invented during China’s Song Dynasty and became “a primary instrument of state finance”.
For centuries before and after the Song Dynasty, China was, on most measures, the world’s most advanced society. As Goetzmann puts it, “the sheer volume and detail of Chinese scientific and technical knowledge from the centuries before direct contact with Europe makes it virtually impossible to argue that Western societies were the world’s sole source of light and truth”.
"Finance enabled the conversion of ideas into new products."
Why, then, did the Industrial Revolution happen in Europe, rather than China? Why was it Europe, rather than China, that gained the technology to dominate the world in the 18th, 19th and early 20th centuries? What was the cause of the world-shaping event that economic historians have dubbed “The Great Divergence”?
Goetzmann’s answer is twofold. China, he says, “had fewer organised means to bring private investors with capital together with enterprises having technological advantage”.
Beyond that, he argues, China’s state kept control of the returns to the private sector and sometimes expropriated them. In Western nation-states, private sector property rights became more powerful.
The rise of Western finance
Part of the fascination of the tale of Western European finance is in finding out how long has been the history of financial development. Goetzmann shows that the Knights Templar developed a system for long-distance remittances during the First Crusade at the end of the 11th century; that the first government bond markets emerged in Venice in the 12th century; and that the first European corporation was neither the Dutch nor the British East India Company, but a group of 12 small mills located along the Garonne River in Toulouse, France, which merged and were formally incorporated as the Honor del Bazacle in 1372.
Goetzmann also traces the interactions between advances in mathematics – in particular, the analytical treatment of probability – and financial technologies such as insurance and annuities. A third issue raised by Goetzmann is the capacity for financial technology to be used for ill as well as good. The first loan contracts in ancient Mesopotamia may have made the economy more efficient, but they also “made life miserable for the working man or woman”, including by allowing people to sell themselves into slavery as collateral for debt.
Slavery was the core business of the South Sea Company (by one calculation cited by Goetzmann, it shipped 64,000 slaves to Spanish America over its lifetime) before it engineered the asset bubble for which it is now best remembered.
"The first government bond markets emerged in Venice in the 12th century."
Goetzmann documents the role of finance in the opium trade, which was fundamental to the humiliation of China in the 19th century. And, of course, the abuse of financial technologies has been at the core of recurring financial crises, from the Roman financial crisis of 33CE through to the Crash of 1929 and the global financial crisis of 2007-09, all of which Goetzmann explores, along with others. As he shows, when finance fails, everyone – not just financiers – must deal with the damage.
There are undoubtedly aspects of finance that many people will feel we could, and should, live without. Yet without finance and financial technology, for better and for worse, humankind would not be what it is today.
Saul Eslake is a consulting economist and a former chief economist at several financial institutions, including the ANZ Banking Group and Bank of America Merrill Lynch.
William Goetzmann: finance meets history
William Goetzmann is a noted finance academic – professor of finance and management studies at Yale University’s School of Management, lecturing in behavioural finance, portfolio theory and investment management. But he is also a sometime archaeologist, a student of Chinese language and history, and an economist whose interests have ranged from the South Sea Bubble to the economics of movie scripts.
He is also the eldest son of a Pulitzer Prize-winning historian. His father, William H. Goetzmann, was reputedly drawn to the study of history as “a dramatic narrative populated by colourful individuals and sweeping movements”, partly as a result of having lived in an apartment previously occupied by bank robber John Dillinger. His son clearly shares that perspective – and has put it into practice with Money Changes Everything.
Money Changes Everything: How Finance Made Civilization Possible
By William N. Goetzmann
Princeton University Press, US$35
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