economics banking finance corporate finance history victorian
11
LATE VICTORIAN – BANKS AND INDUSTRIAL FINANCE BANKS AND INDUSTRIAL FINANCE BANKS AND INDUSTRIAL FINANCE I. BANKING SYSTEM 1. Structure of British b!"i!# s$ste% By 18 th century, had extensive and sophisticated banking system BoE founded 1694; 1banks in !ondon, 1private banks in "# by ear$y 18s 11% &oint stock banks '1841( after 18)6 Banking *ct B!"i!# Acts 1&'&( 1&)* a$$o+ed $imited $iabi$ity 'befor e, partners of companies tota$$y $iab$e for their debts mismanagemen t cou$d $ead to perso na$ bankru ptcies no+ shareho$ders instead of partners - $iab$e for the va$ue of shares, not for the debts of companies( .hese $imited $iabi$ity cou$d try to raise more capita$ / attract shareho$ders, but sti$$ main$y through fami$y, friends / pub$ish prospectuses0 A++o,e- %+#%tio! to +r#er b!"s o ver the years, massive reduction in no0 of individua$ banks B". become $arger sca$e o 2Big 3 ive!$oyds, 5id$an d, Barc $ays, ationa$ 7ro vincia $, estmi nster '8deposits, 19)( But banks - not main source *. B!" fi+ure/ 0iDe2osit b!" or c+eri!# b!"s/ :id not pro vide $ongterm $oans to any sig degr ee0 <riticise over attitudes and faci$ities for domestic c$ient s=nancia$ panic banks mai ntain higher $eve$ of $i> uidity as a cus hion aga inst any =nanc ia$ tur moi$ / maintain pub$ic con=dence in th eir abi$ity to pay cash on demand0 ? &ust a c risis constituted a ma&or turning point in banking practice e0g0 1886, 18@80 e0g0 !i>uidityconscious banks or over cautiousmid 189sbanks he$d 1%ratio ofcash to deposits bankss ba$ance sheets had a $i>uidity ratio of A0 'oodhart(0 B! "s i!c resi! #+$ 2+ce- fu!-s i! +i3 ui- ss etse0g0 for eign bi$ $s / ca$ $ money to either money market or CE E4A/ Go5t ro+ eBy right, customers are entit$ed to money back on demand from c$earing banks 'high $i>uidi ty( <onstr ains c$e arin g banks to sho rt term $oans bc$ongt erm investment are risky and not the returns are not >uick$y rea$iDab$e E4A/ I%2ct of crisis*rgument banks +ere rationa$ and right in being cautious this +as not a fai$ure0 .here +ere many $i >uidity crises over mid 19 th e0g0 in 184@, 18%@, 1866, 18@80 <o$$ins duri ng th ese c rises, the pub$ic $ost con=dence in the b anks and t here +as +orries that banks might co$$apse Coa fter these crises, banks dra+ t he $esson that it +as important to maintain pub$ic con=dence by ho$ding $arge amount of $i>uidity e0g0 reserves, $i>uid assets, cash etc and avoid any $ongterm industria$ =nance - genera$$y be$ieved as risky 0 n f act, the crisis 18@8 has been cited as the most sev er e +hich has contributed $arge$y to changing bankersattitudes to+ards industria$ =nance0 Fo+ever, fe+ empirica$ evidence on this0 *nd the argument is tota$$y theoretica$0 *$so, to the extent that bankscautious approach ensured a more stab$e banking system, industries shou$d have bene=ted to some degree0 Because, after pub$ic con=dence has been restored banks shou$d have $ent to industries Cocounter argumentit +as rationa$ for banks to be cautious but maybe overcaut ious / over conservative0 Indust rie s don’t get fun ds from banks or SE but from: personal contacts/informal re sources (fr iends , biz associates); retained prots; (/! of nance ori inates
tota$$y $iab$e for their debts mismanagement cou$d $ead to persona$ bankruptciesno+ shareho$ders instead of partners - $iab$e for the va$ue of shares, not for the debtsof companies(
.hese $imited $iabi$ity cou$d try to raise more capita$ / attract shareho$ders, but sti$$
main$y through fami$y, friends / pub$ish prospectuses0A++o,e- %+#%tio! to +r#er b!"s
o ver the years, massive reduction in no0 of individua$ banks B". become $arger
*. B!" fi+ure/0i De2osit b!" or c+eri!# b!"s/ :id not provide $ongterm $oans to any sig degree0
<riticise over attitudes and faci$ities for domestic c$ients =nancia$ panic banks
maintain higher $eve$ of $i>uidity as a cushion against any =nancia$ turmoi$ /maintain pub$ic con=dence in their abi$ity to pay cash on demand0 ? &ust a crisisconstituted a ma&or turning point in banking practice e0g0 1886, 18@80
e0g0 !i>uidityconscious banks or over cautious mid 189s banks he$d 1% ratio of cash to deposits bankss ba$ance sheets had a $i>uidity ratio of A0 'oodhart(0 B!"s i!cresi!#+$ 2+ce- fu!-s i! +i3ui- ssets e0g0 foreign bi$$s / ca$$
money to either money market or CE E4A/ Go5t ro+e By right, customers are entit$ed to money back on demand from c$earing
banks 'high $i>uidity( <onstrains c$earing banks to short term $oans bc $ongterminvestment are risky and not the returns are not >uick$y rea$iDab$e
E4A/ I%2ct of crisis *rgument banks +ere rationa$ and right in being cautious this+as not a fai$ure0
.here +ere many $i>uidity crises over mid 19th e0g0 in 184@, 18%@, 1866, 18@80 <o$$ins during these crises, the pub$ic $ost con=dence in the banks and there +as
+orries that banks might co$$apse
Co after these crises, banks dra+ the $esson that it +as important to maintainpub$ic con=dence by ho$ding $arge amount of $i>uidity e0g0 reserves, $i>uid assets,cash etc and avoid any $ongterm industria$ =nance - genera$$y be$ieved as risky0
n fact, the crisis 18@8 has been cited as the most severe +hich hascontributed $arge$y to changing bankers attitudes to+ards industria$ =nance0
Fo+ever, fe+ empirica$ evidence on this0 *nd the argument is tota$$y
theoretica$0 *$so, to the extent that banks cautious approach ensured a morestab$e banking system, industries shou$d have bene=ted to some degree0Because, after pub$ic con=dence has been restored banks shou$d have $entto industries
Co counter argument it +as rationa$ for banks to be cautious but maybeovercautious / over conservative0
Industries don’t get fundsfrom banks or SE but from:personal contacts/informalresources (friends, bizassociates); retained prots; (/! of nance ori inates
-i5ersi9e- ssets -i- !ot uti+ise these #reter resources to e!##e i!#reter ris":t"i!# +o!#:ter% +e!-i!# to i!-ustr$ A+so/ +r#er b!"s %ore stb+e !- secure 2ositio!s shou+- 2ro5i-e
+r#er r!#e of ser5ices to %eet custo%ers the fct tht the$ co!9!e-
to !rro, r!#e of ser5ices 8 -here!ce to s2eci+i;tio! 2oi!te- outto the fi+ure to t"e -5!t#e of their #ro,th 8 i!crese i! sc+e tobeco%e <u!i5ers+ b!"s= +i"e US or Ger%!$.
scienti=c and technica$ industries +ere not invested in, banks specia$iDed in
retai$ing service
E4A/ E-e+stei! banks +ere rationa$ and right to specia$ise in $arge and safe issues -+hich +ere found in foreign investment in gov bonds and rai$+ay securities if invo$ved in other $ongterm industria$ $ending activities harmed the reputation of banks0
b0 E!- of 2er%!e!t o5er-rfts in G, +ere unoHcia$$y Iexib$e and a$$o+ed2permanent overdrafts because country banks and industry have tight connectionsthrough intermarriagesJsocia$ circ$es Bank ama$gamation demise of $oca$ banks break do+n of persona$ $inkages /
connection bt+ $oca$ banks and businesses0 *$though former $oca$ bankers mightsti$$ be hired they had to obey the ru$es and regu$ations set up from !ondonhead>uarters0 *$so, +hen those $oca$ bankers retired the ne+ generation +ou$dnot have any persona$ connection +ith biD0
Banking becomes bureaucratiDed profession +ith standardiDed ru$es about $ending
po$icies as country banks absorbed by !ondonbased banks !ess >e?ib+e 8co!cer! %ore bout +i3ui-it$/ br!ch %!#ers !o -iscretio! o! ,ho to+e!- to cos@ ru+es set b$ hi#her uthorities bankers refused to $end to ne+
=rms +hich did not have suHcient capita$ and so uncredit+orthy, $o+ pro=tabi$ity,unsecurity0
:ying out of provision of $ongterm industria$ $oans
E4A/ E5i-e!ce of b!"s@ i!5o+5e%e!t i!to i!-ustries/ short:ter% +o!s sti++5i+b+e !- usefu+ resources for 9r%s/
Co++i!s/ '!$oyds bank( evidence that overdrafts 'shortterm capita$ $oans( +ere
inde=nite$y extended 'backdoor methods( for credit+orthy =rms 'as good as $ongterm $ending( - comparab$e to continenta$ European banks
Co++i!s/ in a study of ) banks $ocated in 5id$ands bankers se$dom refused there>uests for faci$ities form industria$ customers and among those +ho +ere refused,most +ere uncredit+orthy0
Cottre++ evidence that by 189s British commercia$ banks did he$p priDed industria$
accounts +hen they ran into diHcu$ties and +$d provide advice or even shorttermbridging =nance +hen a customer re>uired capita$ funds
c. B!" !ot fi+ure/De%!- si-e 0the %ost co!5i!ci!# r#u%e!t / Kery $itt$e evidence that industria$ists +ere demanding money from banks 'instead
using p$oughed back J retai$ pro=ts and informa$ net+orks e0g0 friends, re$ativesL ( $d estab$ished industries found enough credit through $oca$ and informa$ net+ork
a$so they had reach a maturity state did not need $umpy investment but on$y
sma$$sca$ed investment0 e+ industries a$so found easy to get access to credit through $oca$ funding0
)JA of the =nance of =rms raised +ithin 1 mi$es of +here they +ere $ocated0
nstead of focusing on the supp$y side e0g0 if the =nancia$ sector had responded to a
greater extent to domestic customers then gro+th of econ cou$d have been greater ask if domestic demand had been greater =nancia$ sector +ou$d have respondedaccording$y more institutions +ou$d have been set up0
<onc$usion the banking system +as high$y eHcient in providing shortterm $oans,
advances and overdrafts to =rms these shortterm $oans cou$d a$so be rene+ed inrea$ity, =rms cou$d use these funds for their $ongterm investment
II. STCK ECANGE1. Fcts/ Stoc" E?ch!#e !ot 9!!ci!# i!-ustr$/
- f shres o! Stoc" E?ch!#e 01&&( 1 re i!-ustri+ 05er$ fe, 2ub+ic +i%ite-co%2!iesH 161/ & !- o!+$ o+- estb+ishe- 9r%s 0iro!( stee+( bre,eries (!e, 9r%s !ot usi!# stoc" e?ch!#e s source of fu!-i!# most =rms +ere sma$$ sca$e, fami$y o+ned or partnership0
Examp$es Bre+ing industry number of bre+eries >uoted on !ondon rising from 49 in
189% to 16 by 19140 .he supp$y of capita$ to industries not persistent$y de=cient - for o$d estab$ished stap$esfound easy access to credit0
- 6 money going into industry to buy out origina$ o+ners not into ne+ venture- 7rovincia$ stock exchanges 'e0g0 Bristo$, Birmingham etc0(
By 1914, not providing more than 11% of a$$ needs for industria$ capita$
<hanne$ed provincia$ MMM to !ondons CE to invest overseas instead
*. SE@s fi+ure/. C2it+ e?2ort bis -i5erte- fu!-s fro% Briti!
n$y 1 of =nance need for industries from CE 'e0g0 Go$$ Goyce( N A +hat sent
abroad0 motor, e$ectricity supp$y and e$ectrica$ engineering =rms set up but fe+ =nanced
E4A/ a $itt$e biased to+ards Empires since returns +ere guaranteed by gov - +hich +as
paid for by taxpayers this +as actua$$y distortion caused by gov po$icy - outside thecapita$ market itse$f not due to fai$ure of CE0
b. S%++ !- %e-iu% si;e- 9r%s cou+-!@t #et 9!!ce #2 i! the %r"et SE !ot fi+ure/
CE biased against domestic industry or specia$isation due to demand of investors
- These 9r%s@ stoc"s re !ot of the Jri#ht t$2e@ tht -o%estic i!5estors ,!t
investors +anted $arge and safe issues gov conso$s +ere idea$ bit from mid 18%s,vo$ume of nationa$ debt dec$ined due to preva$ence of peace $imited supp$y of conso$ stock market $ooked for c$ose substitutes e0g0 foreign rai$+ays bonds, preference shares /debentures0
- I!5estors ,!te- +r#e issues those issues e0g0 conso$s or rai$+ay bonds hadestab$ished secondary share market more ready to se$$ those shares in the secondarymarket0B". industria$ shares did not have secondary share market took time to =nd buyers investors had to ho$d those shares for $ong time0
- By 191A domestic industria$, commercia$ and shipping companies accounted for 1 of nomina$ va$ue of a$$ securities >uoted on !CE a$most on par +ith nationa$ debt Lo!-o!@s #ro,i!# ro+e i! i!-ustri+ !- co%%erci+ 9!!ce.
:ue to greater use of 2refere!ce shres e.#0 shares +hich had priority in dividenddistributions / greater use of debentures - =xedinterest $oans $ike <onso$s by 191Apreference shares comprised of A of companies securities and debentures ))040
7reference shares and debentures more appea$ing to riskadverse Ob$indP investors
guaranteed return at the expense of issuing companies as they had to generategreater revenues to service these0
But these ho$ders of preference shares or debentures had no voting rights
management contro$ sti$$ in hand of o+ners - +ho he$d a ma&ority of ordinary shares0This may be reason why large staple frms + industries were able to get unds
rom capital market: since able to launch preerence shares + debentures.E.g. iron, steel, brewers but small and medium frms were less well served.Its not that capital market was biased against industries and avoured
oreign investment but bc investors wanted typical types o investment that domestic industries did not o!er.
i#h costs of $aunching on stock exchange CE concentrate on $arger issues cou$d
deve$op massse$$ing techni>ues so that expenses, comprising $ega$ fees, under+ritingcommissions sma$$ cos dea$t + issues of ?Q1m ; 61 commission on $oanship andhigh Iotation costs ? Q)k in 199
mpersona$ mkt bias not re$ated to nationa$ity of borro+ers 'e0g0 British =rms +ere not
discriminated against foreign =rms ( but re$ated to the vo$ume of individua$ issues inhibit potentia$ domestic Iotation 'the commence of a =rm(0
This e"plained why in #$%&: lots o new issues in electrical engineering
companies all ailed within ' years ( not )Es ault.- *rovincial stock e"change: Even by 1914 not providing more than 1 - 1% of a$$
needs for industria$ capita$ channe$ =nance through !ondon CE to overseas investment not invo$ved +ith domestic industries either0
E"amples o industries that did not get fnance rom )E:- o++r- '198%( 3red Fopper bicyc$es 'successfu$ manufacturing =rms - export market as
+e$$( - expanding company that $aunched on CE t+ice but unsuccessfu$$y and bankrupted
due to high costs 'after being refused by Fa$ifax( 3red Fopper on$y 1 =rm; other successfu$ =rms +hich can manage to $aunch and get
funds cant genera$iDe 'maybe something pecu$iar about this =rm(- *$so, e$ectricity supp$y and e$ectrica$ engineering and motor industry0
E4A/ Lc" of -e%!- for i!5est%e!t fro% i!-ustries/ most of =nance came from
informa$ sources e0g0 friends, $oca$ net+orks, or retained pro=ts, +orking partners =rmsdid not demand funds from banks or CE
- n fact, @6 of companies capita$ being raised +ithin 1 mi$es of their registered oHcesin 186, and 61 in 188%0
c. Ke!!e-$/ I!ecie!t c2it+ %r"et bise- #i!st !e, i!-ustries/s$%%etric i!for%tio! fi+ure of i!-ustries to ttrct fu!-s :iHcu$t to get good information and monitor ne+ industries eRective$y
sma$$ and medium =rms are not advertised to the $ayman investors bc Ob$indPinvestors cou$d on$y respond to security issues p$aced before them by prospectusesL
o B$ind investors +ho are riskaverse
A, of them in 19@ survey, 6 +ere riskadverse
o :omestic investment $ooks risky to them
ot at a$$ he$ped by the gro+th of =nancia$ press from 188s
ot because they +ere industria$ =rms but peop$e +erent sure of their
viabi$ity 7erfect$y understandab$e on$y 18 of ne+ &ointstock companies survived
for ? 1 yrs 'tho improved vs 186s +hen a$$ co$$apsed +Jin A yrs(o So e5e! if K -i5erte- fro% os to ho%e( ,o!@t #o to !e, i!-ustries
Not fi+ure/ Co%2!$ 2ro%oters u!co!tro++e-S Being more interested in their o+n pro=ts than the
successfu$ conversion into a $imited company0o <onduct stock $aunches '5arketing Exercise(
o :etrimenta$ for stockso Exaggerate ho+ good the =rm is; thus $arge markup on $aunch prices to ensure
that an issue is fu$$y subscribed manipu$ate the stock mkt so that shares of embryonic companies +ere >uoted at premium price Ob$indP investors broughtin subscriptions
*rti=cia$ premium price inc$uded @% domestic and foreign company formation0
o 7eop$e bene=t are company o+ners and promoters; but va$uations are too high and
diHcu$t to generate dividendso Geinforces 2dangerous impressions of domestic investments make investors $ess
interested in domestic industries0 !CE reacted in 1864 by not recogniDing share dea$ings before a$$otment but this on$y
$asted 1 year CE members neg$ected the ru$es / promoters turns to outside market /created grey price for nascent securities reported in the press0
- ALso( $ack of ade>uate $egis$ation on auditing / disc$osure of infor about =rms morediR for investors to assess the performance / activities of =rms0
Co!ser5ti5e o,!ers/
" *fter 188, though there +as a surge in the number of =rms >uoting their shares on CE,the heads of those =rms +ere very re$uctant to $ose contro$ of their businesses0
" Co even +hen a partnership turned into a &ointstock company, the partners +ou$d retainmost of those shares a$$o+ on$y a minority to fa$$ into the hands of the pub$ic resu$t invery high share prices yie$d poor returns to investors0
" .hus the fact that British industria$ists might have $acked =nance +as b$amed on theiro+n conservative stance, rather than CE0
• Ede$stein test the bias of capita$ mkt to see +hether capita$ mkt biased
to+ards 'i( overseas borro+ers and 'ii( $arge borro+ers0T N f 'U, Cc(T N rate of return of assetU N nationa$ origin if domestic, 1 N overseasCc N $argesca$e or sma$$ sca$e if sma$$ sca$e and 1 if $arge sca$e
3ound neither domesticJ non domestic nor $arge sca$e J sma$$ sca$e variab$e
oRers any statistica$ sig for the movement of the return index0 Fo+ever, Ede$stein assumed perfect mkt conditions e0g0 perfect kno+$edge,
competitive, assets N c$ose substitutes etc0
E?%2+es of fi+i!# !e, i!-ustries
E+ectric+ e!#i!eeri!# 'erman and "C succeeded; Britain fai$ed to invest(
- 188) $ots of ne+ issues in e$ectrica$ engineering companies on CE get =nance'investors see potentia$s(
- But near$y a$$ fai$ed +ithin % years no $onger set up or get investment in "# because of risk most of the time foreign =rms provide
- : Ke!!e-$/ 3ai$ure because CE fai$ed to provide accurate information for investors,
hence information comes from =rms themse$ves 'inaccurate, poor, on$y c$aim( investors unab$e to distinguish good or bad =rms
once buying shares dont kno+ any information about the =rms / peop$e investing
in =rms +here o+ners sti$$ retain $arge ma&ority of shares unab$e to inIuence ormonitor
orre++/ u!co!5i!ce- becuse u!c+er ,ho shou+- be res2o!sib+e for
s$%%etric i!for%tio! 0%r"et( 9r%s( #o5t( SE o E-e+stei! dispute - fai$ure +as unre$ated to capita$ market bias but due to +oc+
#o5 re#u+tio!s/o the %i! source of 2o,er ,s co+ #s !- !ot e+ectricit$
most to+ns have municipa$ gas+orks set up by $oca$ govts +ho borro+ed MM to do so
f5our #s su22+$ +oc+ #o5s -i- !ot #i5e 2er%its to +et 9r%s set u2 soe+ectricit$ e!#i!eeri!# i!-ustries -i- !ot -e5e+o2 !ot bc of +c" of i!5est%e!tbut bc of +c" of e+ectricit$ su22+$.
Che%ic+s/ 'fai$ing in "#(
- *$ka$i manufacturers using !eb$anc process merged in 1891 "nited *$ka$i $aunch on CE investment negative pro=ts due to sticking to the o$d process and not adopted thene+ process Co$vay0
-
Brunner 5ond set up using Co$vay process› But no interest by CE to fund due to no returns from o$d =rms investors +ere afraidof $osing money again not see the potentia$s of Brunner 5ond0
› Brunner had to borro+ from friend and became successfu$ =rm drove do+n "nited *$ka$is pro=ts further fa$$ in returns to shareho$ders in "*
- SE fi+ures 0b+i!- to 2ro9tbi+it$( $oans to "* +hi$e refusa$ to Ioat Brunner 5ond'examp$e of bias against ne+ industry( inabi$ity to get good information and monitorne+ industries eRective$y company promoters massive marketing exercise but notregu$ated overinIating va$ue of =rms so$d, cover up Ia+s, exaggerate success riskyshares reinforces 2dangerous impressions of domestic investments
EK* investors might be a+are of the fact that "* did not use the most recent / eHcient
method but since "* merged and became a monopo$y investors thought that theycou$d sti$$ be ab$e to reap bene=ts / pro=ts by raising their prices0 *nd not ready toinvest in Brunner 5ond bc not so sure if Brunner cou$d compete against "*0
*utomobi$e
- #eynes argued that O the <ity of !ondon and its =nancia$ institutions +ere the greatestthreat to the prosperity of Eng$andP as it sho+ed no interest in ne+ industries0
- Fo+ever, it +as diHcu$t to see ho+ a Iexib$e and gro+ing centra$ capita$ market fai$ed tosee ne+ pro=tab$e investment opportunities in ne+ industries0
- British *utomobi$e $agged behind "C bc of regu$ations of gov - +hich impeded theexpansion of the industry not due to CEs fai$ure0
-
*fter 1896 , +hen regu$ations re$axed
automobi$e received immediate attention of CE
respond positive$y to re>uests for funds0
Co!c+usio!/
- .he =nancia$ market before 19 +as not so imperfect as it +as sti$$ evo$ving0 <apita$market directed to+ards investors preferences e0g0 nationa$ debt, and other c$osesubstitutes such as rai$+ay debentures from 186s, municipa$ stocks from 18@s, andindustria$ debentures and preference shares from mid 188s0
- .he s$o+ deve$opment of ne+ industries might be due more to $egis$ative restrictions thanthe $ack of support from =nancia$ market0
III. CMARISN OIT GERMAN SYSTEM F IN4ESTMENT BANKING
1. Tr-itio!++$ Asserte- a =rms =nancia$ position +$d have been diRt if +ithin a ermancredit banks #onDern or a customer of the "# 2Big 3ive
British entrepreneurs +ere starved of investment funds as a resu$t of capita$ market
imperfections dea is that banks a$$ocate credit according to information on prospective borro+ers
nformationa$ asymmetries $ead to potentia$$y successfu$ entrepreneurs being
denied credit !i>uidity constraints therefore exc$ude individua$s +ith insuHcient funds at their
disposa$ from entrepreneurship or prevent those +ho do enter intoentrepreneurship from exp$oiting the opportunities avai$ab$e
f +ou$dbe entrepreneurs cant borro+ on credit market, then they continue
+orking +ith paid +ages, or start enterprise +ith $o+er $eve$ of capita$ Come charge that ermanys rapid industria$ transformation from 188s +as due to
assistance and guidance that bankers gave to manufacturers by transforming theirundertakings into pub$ic companies, and by taking seats on their boards0
But !ot "e$ r#u%e!t because it is not kno+n +hether ermanJ*merican banks
treated c$ients diRerent$y; so this argument shou$d be given sma$$er +eightage
*. A-5!t#es of nvestment banks in ermany-
ro5i-e LT i!5est%e!t in industries +ith $ess defau$t risk / take $ongterm vie+ oninvestment Kre-itb!"e! Iourished +ith the industries they served0 nstitutions $ike Bank fur
Fande$ und ndustrie +ere ma&or sources of investment capita$ for rai$road /meta$$urgica$ deve$opment
ut 5er$ +r#e %ou!t of both 9?e- !- ,or"i!# c2it+ to i!-ustri+ 9r%s
tht ,ere either strti!# u2 or e?2!-i!# ,i++i!# to t"e ris"s. Kre-itb!"e! expanded >uick$y / absorbed private banks became dominant
force +ithin erman banking / key force +ithin the econ0 3ocus on one type of industry per bank
Emp$oy technica$ expertise to assess viabi$ity of ideas
Banks are better informed about =nding investment opportunities
Banks are invo$ved on biDs supervisory board of advisors get good information +at
going on Banks are so$e $enders and thus kno+ =rms debt situation +e$$ =rms cannot borro+
from other sources to pay back investment banks0
" SE cti5it$/ !ong term =nancing from inception to $aunching on CE +hen banks are notinvo$ved anymore; nvestment banks themse$ves have good kno+$edge about =rms and+i$$ing to put bank reputation on the stake Banks sho+n to he$p +ith stock market $aunches successfu$$y
5ore reputation for industries to attract funds
o $ack of information more merger activity
enera$$y =nancia$ systems in "C and ermany mitigated agency costs / reduce infoasymmetries by providing venture capita$ / supervisory advice0
<apita$ mkts and corporate governance practices stood as barriers to the gro+th of
enterprise in Brit0
. Criticis%s
I!5est%e!t b!"s re !ot cruci+ i! Ger%! e?2erie!ce- E3ui5+e!t to other b!"s
n$y have) ermany savings 'not dominate(
n$y responsib$e fro 1J4 investment 8 of investment came from retai$ed pro=ts0 Cuccessfu$ at setting up &oint stock companies but 8 of a$$ companies +ere non
ermanys universa$ banks had more support of and direct $inks +ith industry; ab$e
to Ofoster and support =rms at an ear$ier stage and more eRective$y than cou$dother types of banking institutionsP 'uinnane, ))(
contribution of universa$ banks to erman economic gro+th has been overstated
- Litt+e i!5o+5e- i! cruci+ res for i!-ustri+i;tio! rai$+ays not main$y =nanced by investment bank )JA of investment +ere state
=nanced0 put money into &oint stock companies but 8 of a$$ companies are non&ointstock
put money in sma$$ minority- Success stories !ot -ue to i!5est%e!t b!"s
ron and stee$ 'a $ot money from bank( retained pro=t remains most impt source
of funding in $arge =rms '8 of a$$ pro=ts( successfu$ stories such as chemica$s gets money from private =nance not by bank
at a$$- Mer#ers/ 'nformation advantage 'expertise, advisers( more mergers economies of
sca$es eHciencyV( ot crucia$ in encouraging mergers may have been attracted bypossibi$ity of high pro=t rather than being cause of it
-
Cuse of %er#ers/ =rms merged in order to exercise market po+er earn supernorma$pro=ts due to tariR protection and $ack of foreign competition this attracted banks toinvest in these =rms it is structure of industries that got banks invo$ved and not thatthe invo$vement of banks created this structure of industries0
a0 nhibit gro+th nvestment banks oRer $o+ interest rate and overinvest intoheavy industry 'coa$Jstee$Jiron(
i0 Neuber#er P Sto"es Fampered ne+ high pro=t $ight industries 'mostof chem industry set up +ithout investment banks(
#reditbanks in ermany used current account 'combined demanddeposit and
$ine of credit( +hich +as high$y Iexib$e banks cou$d extend $ongterm creditto industries at shortterm rates various heavy industries cou$d obtain=nancing at rates be$o+ mkt rate +hi$e other $ight industries paid high G0
But this imp$ied that capita$ +as not a$$ocated according to mkt mechanism ineHciency
f the banks +ere to contribute to econ gro+th then the costs / $oss imposed by this
credit po$icy must have been oRset by other factors the subs eRect counterba$ancedby institutiona$ / credit eRect0
<redit eRect rising avai of credit stimu$ate gro+th as $ong as did not resu$t
in inIation nstitutiona$ eRect banks assisted certain industries improve re$ations bt+
various =rms in an industry >uestionab$eV Co the subs eRect negative; credit eRect positive and institutiona$ eRect unkno+n0
Co ca$cu$ate the tota$ eRect of #reditbank came to the conc$usion that the negative
eRect out+eighed the positive one hampered the gro+th of nonagri sector asineHcient a$$ocation of capita$ favour heavy industries / biased against $ight industries0
b0 ot +hat "# needed Brit did not need investment banks 'Ede$stein(i0 Brit did not need $umpy investments '$ike for iron, stee$ =rms( but sma$$
amount for =rms0ii0 SE "# activities in CE much greater than in ermany 'A times(iii0 I!5est%e!t b!" %$ !ot sur5i5e ermany and "C* +here =rms are
o$igopo$istic, protected by tariR barriers and have supernorma$ pro=ts'"# more competitive, free trade, no $arge sca$e mon pro=ts( "# environment $ess attractive to banks8 A+so( banks re>uested that they +ere the so$e $enders of =rms can
charge high rates diHcu$t for British =rms to pay since they +ere sma$$competitive =rms0
1. Do co%2riso!s ,ith the Ger%! s$ste% of 9!!ci!# i!-ustr$ -uri!# 1&Q7:161 su##est -e9cie!cies i! the British s$ste% o5er the s%e 2erio- 0*77
- 3irst discuss the diRerence bt+ erman and British =nancia$ sector
erman investment banks invo$ved +ith $ongterm investment in industries- +hereas British banks hard$y get invo$ved +ith industria$ investment - gapin the market - not invest in ne+, sma$$ and medium siDed industries0
Getai$ and deposit banking - overcautious - high $i>uidity ratio - ho+ever,
this does not suggest de=ciency of the sector - rationa$ to maintain $i>uidassets - restore pub$ic con=dence after the crisis of 18@8
Bank ama$gamation fai$ure in the sense more secure positions - but notinvo$ve +ith industries - specia$iDation / end of permanent overdrafts -counterargument <o$$ins / rationa$ to specia$iDe 'Ede$stein reputation(0
<ounterargument no de=ciency bc simp$y no demand from industries and
- Bank ama$gamation big 3our ho+ever, remained specia$iDed in $arge and safe issuese0g0 rai$+ay securities, $ongterm gov bonds fai$ed to take advantage of siDe / moresecure positions to diversify portfo$ios / engage in $ongterm of industries/ end ofpermanent overdrafts argue that $oss of persona$ connections bt+ $oca$ bank managers+ith businesses exhaustion of provision of $ongterm funds for industries0
<ounterargument- <o$$ins!$oyds banks shortterm overdrafts rene+ed can be used as permanent
overdrafts0- ) banks $ocated in 5id$ands on$y re&ected re>uests of uncredit+orthy borro+ers0- *$so no demand from =rms )JA =nance came from +ithin 1 mi$es =rms found funds
from informa$ socia$ net+ork e0g0 partners, friends or $oca$ funding0
♦ CE
- 1 - 1% capita$ re>uired by industries raised from CE- *rgue that capita$ market biased to+ards foreign investment - direct funds to+ards $arge
and safe issues0- Figh cost of $aunching in the CE on$y dea$ +ith issues more than 1m cost N 6 - 8
commission - more than )k0- Evidence 3red Fopper - bicyc$es - attempts to gain capita$ from CE - but fai$ed -
bankrupt0
<ounter argument- Fo+ever, most of o$d stap$es - gained suHcient funds from CE - e0g0 bre+ing, iron and
stee$0- *$dcroft for ne+ industries most cou$d =nd access to capita$ mkt - on$y A examp$es of
fai$ing e$ectrica$ engineering - but due to $oca$ gov / regu$ations of restriction ofe$ectrica$ supp$y / chemica$ industry - Brunner - had to turn to friends - but rationa$ forinvestors to do so / motor - due to regu$ations0
'b( nvestment banks- ot +hat "# needed- #ennedy asymmetric informations $ack of intermediate banks to provide infor about
=rms and ne+ industries to investors investors risk - adverse consider investment inindustries as risky - una+are of pro=tab$e investment opportunities - not ready to $end toindustries0
- nvestment banks $ike #reditbank in ermany c$ose re$ation +ith industries - take $ongterm vie+s / on$y dea$t +ith one industry - hire expert in that =e$d as advisor / takeseats on boards / supervise activities of =rms / re>uire that so$e $ender ho$d inforabout debt state of =rms / he$p =rms to $aunch on CE - put their reputation on =rms0
- Co aided erman industria$iDation0
-But not +hat "# needed mature industries - not need $umpy investment / sma$$, fami$yrun =rms perfect competition cannot aRord high G charged by so$e $ender / not earnabnorma$ pro=ts did nto attract investment banks0 / no need for investment banks had set up before - but a$$ go bankrupt0
- Even not aid much +ith erman industria$iDation - on$y ho$d ) savings / =rms raised8 of capita$ from other informa$ sources
- ot he$p crucia$ industries rai$+ay - 8 N state =nanced / iron and stee$ most$y fromsocia$ net+ork
- ot stimu$ate gro+th - even inhibit gro+th - favoured heavy industries - against $ightindustries - chemica$ - a very successfu$ one not aided at a$$ by investment banks0
