State Intervention and Financial System Development in the 19th Century

State Intervention and the Financial System in the 19th Century

The Role of the State

There are two primary perspectives on the role of the state in the economy:

• The State Does Not Intervene: This approach was predominantly observed in Britain and, to a lesser extent, the United States. It was rooted in the classical schools of thought, whose proponents advocated for liberalism. They believed that state intervention should be confined to activities that were not attractive to the private sector but were beneficial to society, adhering to the doctrine of "Principles of Liberalism."
• The State Intervenes: State intervention can be motivated by a country's economic backwardness, the late unification of certain nations in the 19th century (such as Italy and Germany), or the private sector's inability to undertake specific challenges. In these cases, the state assumes an entrepreneurial role, albeit differently compared to countries where it operates directly. There are two forms of intervention:
  • Direct: The state acts as an employer, establishing steel mills, operating mines and railways, generating spillovers, etc. (Public Enterprises).
  • Indirect or Indicative: The state fosters an environment conducive to completing the transformation process.

The Financial System

Two significant aspects characterize the evolution of the financial system:

Expansion of the Money Supply

The growth of the money supply was propelled by:

• Increasing the Money Supply: This resulted from the discovery of gold mines (e.g., Brazil, California) and silver mines, which augmented the flow of precious metals.
• Emergence of Paper Money: Initially, bank receipts were issued for gold deposited in banks. Over time, multiple receipts were issued for a single deposit, eventually evolving into paper money.
• Bank Money: Cash deposits were dedicated to investment. This increase in the money supply would typically lead to higher prices. However, as there was a concurrent increase in supply, prices remained stable.
• Interest Rate: The money supply influences interest rates, leading to a decrease. Consequently, credit becomes cheaper, stimulating consumer spending and business investment.

Modernization of Banking

The development of financial products spurred a process of modernization and specialization within banks. Three main groups can be distinguished:

• Industrial or Business Bank: Prevalent in Germany, these banks provided long-term loans to businesses, financed through bonds.
• Commercial or Deposit Bank: These banks focused on short-term operations.
• Mixed Banking: These entities engaged in both long and short-term operations (e.g., Spain).

Currently, most banks incorporate elements of all three types, effectively becoming mixed banks.