Bills of Exchange

March 6, 2020

Once the Crusades began,
people began to move in greater numbers between
Northwestern Europe, on the one hand, and the Mediterranean
world on the other. And what they discovered, what
people in the Mediterranean learned and people in
Northwestern Europe learned, was that each side of
that geographical equation had things that the
other side wanted, things that it would be profitable to
move from one place to another. And that introduces two problems. One is the physical problem of
actually moving those goods. To some extent, this
depended on the creation of more efficient kinds of transport,
particularly water transport, as goods were sent
increasingly around Spain, up into what is today the Netherlands
and Britain and Belgium and France and so on. But some of that trade still had
to happen over land in wagons and mule trains and things like that. That was inevitably
going to be the case. But at the same time, the trade
also introduces the problem of how are you going to transport the
payment from one place to another? Because pure barter simply wasn’t
going to work, even as goods were moving back and forth. So what the Italian merchants of
cities like Genoa, Florence, and Venice began to use is a technique that almost
certainly comes from the Middle East, and maybe even before
that from India and China. And that is the bill of
exchange, and this, in a way, is the foundation,
certainly the ancestor, of our system not only of paper money
but more broadly our system of credit and long distance exchange of money. Let me give you an
example that illustrates how these new techniques of
trade helped to stimulate the growth of the economy in both the
Mediterranean and Northwestern Europe. And this example might
sound a little simplistic, but it actually describes some
real historical practices, some things that really happened. So imagine two sets of merchants,
originality from Florence in Italy. In each case, one of the
merchants in the partnership moves up to Belgium,
to the city of Antwerp, which becomes a core of the
trade and in wool cloth, which is being made in Northwestern
Europe by these early centuries in the first Millennium. And there’s a market for it
down in the Mediterranean. People are willing to pay more for
it than those farmers in Belgium, and at the same time,
the Mediterranean has goods that people want
in Northwestern Europe. Let’s say, in this
case, the merchants have access to a lot of spices, which come
from Asia through the Middle East to the Mediterranean world. So each side in these potential
trades, Northwestern Europe and Italy, has something to gain. And the merchants want to be able to
gain some piece of the profit that possible if you can connect those two
sets of supply and demand together. But they don’t want to send huge
quantities of gold and silver coins back and forth around Spain by sea
or across France by mule trains or anything like that. That’s very inconvenient, and they’d
be subject to potential robbery. So let’s talk about how
this actually works. So the first partnership, we’ll
call them A and B, but let’s give them names. We’ll call them Alberto and Bartolomeo. They want to get wool from
Northwestern Europe, from Belgium, and they want to send
it back to Florence. And the other partnership, C and D,
let’s call them Carlo and Dominic, they want to get their spices up
to Northwestern Europe to Belgium, and they all want to make some
profit in these transactions. So the first set of partners,
Alberto and Bartolomeo, Alberto writes Bartolomeo and says,
please, buy 95 pieces of cloth and you can pay up to
100 florins for them. So Bartolomeo goes to Carlo, and
says, I’m giving you a document. This is the bill of exchange,
which is payable in Florence by my partner, Alberto, in
six months for 100 florins, and in exchange, I want you
to give me 95 pieces of cloth. Let’s say a cloth
usually could be bought for about 1 florin per piece of cloth. So what is being built in immediately
there is an interest rate. It’s an extra little bit
of cash about 5% or 6%, in this case, which is going to be
paid in return for the privilege of not paying until a later date and
not paying in physical money. So Carlo, C, gives
Bartolomeo that cloth. Bartolomeo ships the cloth back Alberto. Alberto is going to sell
the clock in Florence, and maybe he’s going to make much
more than 1 florin on the exchange. Maybe he’s going to make 1 and
1/2 for each piece of cloth, which means that potentially
he’s looking at a big profit. Maybe he’s going to make 50
florins on the whole exchange. Meanwhile, Carlo has
this piece of paper, which he sends to his partner down
in Florence, to Dominic, and says, here’s this bill of exchange. You can get the money from Alberto, who
lives right down the street from you in Florence, and has promised
to pay in six months, with this built in exchange, or
interest rate, of about 5% or 6%. In return, I want you to send
me 100 florins worth of spice, which I will then sell hopefully, for
a big profit in Northwestern Europe. Potentially, everybody in this system
of exchange is making a profit. Both partnerships are making
a profit, and consumers at both ends of the exchange are getting
something that they want or even need. They’re getting spices in
Belgium, and in Florence they’re getting this wool cloth from the north. Now, that is all very important, and
the way in which the bills of exchange lubricate the trade, they
make it happen more easily. They make it possible for
people to make profit out of credit, out of essentially
loaning people money. That’s very important, and there’s one
more thing that’s important as well, and this is crucial to understand. Because the credit is available, because
the exchanges happen relatively easily through this medium, through this
instrument of the bill of exchange, what also happens is that producers
are stimulated to make more. They know that they can– if they
find more efficient ways to make cloth or more efficient
ways to get spices, they’re going to be able
to find a ready market. And so credit and it’s ready
availability, paper money, if you will, but what we’re really
talking about here is credit, that stimulates not
just trade but production and increased efficiency as well.

You Might Also Like

No Comments

Leave a Reply