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European Financial Thought in the Early Twentieth Century

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European Financial Thought in the Early Twentieth Century European Financial Thought in the Early Twentieth Century Abstract Corporate Finance is a fashionable field in schools of Economics throughout the World. Al- though the main epistemological break to identify its scientific character may be established in the decade of the 1950s, this paper demonstrates how much developed financial thought there was in Europe before the First World War. Thanks to considerable growth of interna- tional trade, corporations, and multinationals (i.e. rising globalization) during this phase of European civilization, Stock Exchanges flourished in all European countries. Philosophers, businessmen, professors, and lawyers disseminated their burgeoning erudition in financial knowledge, and several authors made large contributions in books devoted to legal features of human economic actions, and in textbooks devoted to political economy. Word count: 6, 551 1. Introduction Dealing with important issues that are related to wealth and revenue, corporate finan- cial literacy and knowledge may determine an individuals’ success in life, or even their sur- vival in old age. Finance is usually considered to be a complex science, among common people, often driven by the perception that it consists of unsatisfactory explanations of the mystery and volatility of financial markets. Corporate Finance is a scientific field today, as the need to understand financial mar- kets is widespread, and receives a great deal of attention. All over the world Finance has carved out a large space in schools of Economics and Management in recent decades. Spe- 1 cialized departments of Finance in most Economics and Management schools have devel- oped extensive scientific knowledge on financial markets.1 Professors of Finance and scho- larly journals in the field offer considerable scientific advances, and financial markets’ so- phistication benefit from ever greater financial literacy. The history of Corporate Financial Thought is also a well cultivated field today, led by experts who made great efforts to identify its main contributors. The 1950s have been identified by many as the breakthrough moment for the birth of the science of Finance. Mo- tivating this paper is the aim of recalling contributors from the late nineteenth century and the early 1900s, before the First World War, as major cases of literacy and erudition in Finance, who provided much literature in this field. Section 2 will describe the sophisticated financial culture of the early twentieth cen- tury in Europe, revealing how accumulated expertise in domestic production and trade, in international commercial links, insurance contracts, currency transactions, share trading, bond issuance, and derivatives operations, brought the pressing need for sophisticated finan- cial markets. Section 3 will deal with the existence of local, regional, and national Stock Exchanges, which were part of a world network of financial relationships in which London, Paris, Berlin, Vienna, Milan, Madrid, Lisbon, and New York were the leading global mar- kets.2 Family financial culture and erudition in some social circles could stimulate a scientif- ic approach to finance, and mathematics were also applied to the concept of stochastic processes, by Louis Bachelier in his doctoral dissertation The Theory of Speculation, de- scribing stock price evolution.3 Section 3 also addresses the issues that were current in text- books from this time, responding to the fact that local and regional exchanges permitted im- 1 Miller, 1999: p. 95. 2 Cassis, 2006. 3 Bachelier, 1900. 2 provement in the liquidity and visibility of listed corporations’ share and bond issues, also promoting reduced transaction fees. Section 4 presents the conclusions. 2. Late Nineteenth-Century Globalization and Financial Markets Investment strategies to manage diversified portfolios are intimidating concepts for most people even today, but, a vast financial elite operating businesses in the late nineteenth century developed practical expertise in portfolios management.4 With operations that un- derpinned the urban centers and their role in the broad networking system of information, expectations, investment, and transactions, they belonged to wealthy social circles.5 Indu- strialization in the British Iles and on the European Continent had brought large corporations to the fore of economic activity, having large volumes of commodities to consume, sell, and export, while a number of spot and term (derivatives) contracts were established among dis- tant economic agents.6 Individual wealth could rarely supply enough capital for such large businesses, but financial institutions could provide a mechanism for gathering capital and rewarding private savings, whatever the amount to be made available and involved in those businesses.7 Banks and Stock Exchanges gathered the available savings and could help to channel them to useful financial applications, providing attractive rewards to capital owners who were interested in their services.8 Shareholding positions in corporations could provide good rewards to (small) private investors. Safety, confidence, and low information costs 4 Jones, 1994. 5 Foreman-Peck, 2011. 6 Hertner; Jones, 1986. 7 Cassis, 1997. 8 Bordo et alli, 2003. 3 were top values to fuel this mechanism of transforming savings into investment.9 Informa- tion costs had decreased dramatically. Not only were transports and posts working efficiently thanks to railroads and sail and steam shipping, but also telegraphs were installed. Press provided daily information on Stock Exchange transactions and asset quotations. Transparency was considered an essential feature for advertising stocks. Stock Exchanges published daily bulletins containing infor- mation about the listed issues, bids and ask offers, and prices of the executed transactions. Specialized newspapers devoted attention to corporations operating on all continents, even in the most remote regions of the world. Capital gains and dividend pay-outs were an- nounced worldwide.10 The telegraph was a powerful instrument in decreasing information costs, and a world network was made available thanks to submarine cable technology. Throughout the last decades of the century all Stock Exchanges were in touch with each other, and telephones also began to offer yet another information network.11 Dealers, accountants, brokers, bankers, and finance experts in general, formed a technical staff that operated according to behavioral rules derived from codes of honor in- tended to inspire confidence, transparency, and trust. Foreign and domestic Treasury Bonds, as well as corporation shares and debentures were very attractive. Because of superior Euro- pean technology this period led to the exploitation of business opportunities on all other con- tinents.12 Mining (including precious metals), agribusiness, railroad building, shipping, banking and insurance, as well as trading and commerce in general were transferred from the European business environment context to all other endeavors.13 European investment 9 Jones, 1996. 10 O’Rourke; Williamson, 1999. 11 Foreman-Peck, 2001. 12 Jones, 2010. 13 Jones, 2005. 4 and capital moved to North, Central, and South America, as well as to Asia and Africa (es- pecially after the Berlin Conference of the late 1880s). In most cases emigration accompa- nied the transfer of savings and other flows of capital, leading to a universal spread of Euro- pean economic culture and international financial expertise. Thanks to the gold-standard regime, the monetary context was favorable to interna- tional business, foreign direct investment (FDI), and financial connections. Free capital movements, including repatriation of profits and dividends, and fixed exchange rates pro- vided an excellent business background, minimizing transfer risk because of minimizing exchange-rate volatility to the gold-entrance and gold-exit points that arbitrage could man- age.14 This financial system broke up in August 1914, when the Austrian empire declared war on Serbia, and all other European nations decided to support one side or the other in this conflict.15 Nevertheless, before 1914, a European financial civilization circled the planet, from the UK to Southern Europe, Canada and the USA, from Germany to Eastern European regions and Russia, from continental European countries to Malaysia and the Philippines, and even from the UK and Belgium to Portugal, Angola, and Mozambique.16 As Keynes (1924) says, “What an extraordinary episode in the economic progress of man that age was which came to an end in August 1914! (…) The inhabitant of London could order by tele- phone, sipping his morning tea in bed, the various products of the whole earth, in such quan- tity as he might see fit, and reasonably expect their early delivery upon his doorstep; he could at the same moment and by the same means adventure his wealth in the natural re- sources and new enterprises of any quarter of the world, and share, without exertion or even trouble, in their prospective fruits and advantages; or he could decide to couple the security 14 Officer, 1989. 15 Hardach, 1987. 16 Foreman-Peck, 2001(a). 5 of his fortunes with the good faith of the townspeople of any substantial municipality in any continent that fancy or information might recommend.”17 Considerable expertise existed in creating management boards, writing statutes for corporations, and listing issuers on Stock Exchanges. Law and (commercial) codes were published in all European countries to regulate all of the many activities and to
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