4 BANKING DURING THE REIGN OF CHARLES V AND THE DOCTRINE OF THE SCHOOL OF SALAMANCA69

Banking during the reign of Charles V is a good example of the scenario we have been describing. First, the massive influx of precious metals from the Americas shifted the economic focus, at least temporarily, from the Northern Italian trading cities to Spain; specifically, Seville and the other Spanish business centers. Second, due to his imperial policy, Charles V was in constant need of funds, and he turned to the banking system for a continual source of financing. In this way, he unscrupulously took advantage of the liquidity it provided him and powerfully reinforced the traditional complicity between authorities and bankers. A more disguised collaboration between the two was already the norm at that time. Furthermore, Charles V was unable to keep the royal treasury from going bankrupt, which, as could be expected, had very negative effects on the Spanish economy and on the bankers who had financed his projects. All of these events motivated the most brilliant minds of the time, the scholars of the School of Salamanca, to reflect on the financial and banking activities they witnessed. These theorists left us with some very valuable analyses worthy of being studied in detail. We will now examine each of the historical events in order.

THE DEVELOPMENT OF BANKING IN SEVILLE

Ramon Carande deserves credit for uncovering in some detail the development of private banking in Seville during the reign of Charles V.⁷⁰ According to Carande, his research was aided by the discovery of a list of bankers compiled prior to the confiscation of precious metals by Seville's Casa de Contratación (Trading House) in 1545. An impoverished treasury prompted Charles V to disregard the most basic legal principles and seize funds where he could find them: i.e., deposited in the vaults of Seville's bankers. Granted, these bankers also violated the basic legal principles governing the monetary irregular deposit and employed in their own private dealings a large share of the money deposited. However, the emperor's policy of directly confiscating whatever funds remained in their vaults incited bankers to routinely loan to third parties most money on deposit. If there was ultimately no guarantee that public authorities would respect bank reserves (and bankers' own experience taught them that, when short of money, the emperor had no qualms about forcibly appropriating those funds in the form of compulsory loans to the Crown), it seemed wiser to invest most deposited money in loans to private industry and commerce, thus evading expropriation and earning higher profits.

The practice of confiscating deposits is perhaps the most extreme example of public authorities' traditional tendency to capitalize on banking profits by expropriating the assets of those who have a legal duty to better guard the deposits of others. It is therefore understandable that rulers, being the main beneficiaries of bankers' dubious activities, ended up justifying them and granting bankers all kinds of privileges to allow them to continue operating with a fractional reserve, on the fringes of legality.

In his chief work, Carlos V y sus banqueros, Ramón Carande lists the most important bankers in the Seville of Charles V, namely the Espinosas, Domingo de Lizarrazas, and Pedro de Morga, along with the less prominent Cristóbal Francisquín, Diego Martínez, Juan Íñiguez, and Octavio de Negrón. All of them inexorably went bankrupt, for the most part due to a lack of liquidity with which to satisfy depositors' withdrawals of demand deposits. This demonstrates they were operating with a fractional reserve, aided by a license or privilege obtained from the city of Seville and from Charles V himself.⁷¹ We do not have information on their exact reserve ratio, but we do know that on many occasions they made personal investments in the fleet used for trading with the Americas, in the collection of taxes, etc. Such risky ventures were always tremendously tempting, because when they went reasonably well they yielded enormous profits. Moreover, as mentioned above, the repeated confiscation of bank deposits of precious metals only further encouraged bankers to carry on their illegitimate activities. Consequently, the Espinosas' bank failed in 1579 and the senior partners were imprisoned. The bank of Domingo de Lizarrazas failed on March 11, 1553, when he was unable to make a payment of more than six and a half million maravedis, while the bank of Pedro de Morga, who began his operations in 1553, failed in 1575, during the second bankruptcy of Philip II. The less prominent banks suffered the same fate. Thomas Gresham made an interesting comment on this issue. He had traveled to Seville with instructions to withdraw three hundred twenty thousand ducats in cash, for which he had obtained the necessary license from the emperor and Queen Mary. Gresham marveled that in the very city that received the treasures of the Indies money could be so extremely scarce. The same was true for the markets, and Gresham feared that all the city's banks would suspend payments as soon as his withdrawal was completed.⁷² It is unfortunate that Ramón Carande uses such inadequate analytical tools and that his interpretation of these bank failures derives mainly from anecdotal information, such as the greed for metals, which constantly threatened banks' solvency; bankers' daring personal business ventures (their involvement in the chartering of vessels, overseas merchant shipping, insurance, various types of speculation, etc.), which continually placed them in serious predicaments; and the royal treasury's repeated confiscation of valuables and its want of liquidity. He never once mentions the following chain of events: Fractional-reserve banking led to an artificial credit expansion unsupported by sufficient real savings; this, along with the inflation of precious metals from the Americas, generated an artificial boom; the boom, in turn, produced an economic crisis and inevitable recession; and this was the true cause of the bank failures.

Fortunately, Ramón Carande's omission of theory has been at least partially compensated for by Carlo M. Cipolla's interpretative study of the economic and bank crisis of the second half of the sixteenth century. Though this analysis refers strictly to Italian banks, it is also directly applicable to the Spanish financial system, due to the intimate relationship existent at the time between the financial and trade routes of the two countries.⁷³ Cipolla explains that in the second half of the sixteenth century, the money supply (what we refer to today as M1 or M2) included a large amount of “bank money,” or deposits created out of nowhere by bankers who did not maintain possession of 100 percent of the cash on demand deposit. This gave rise to a period of artificial economic growth, which began to reverse in the second half of the sixteenth century, when depositors nervously started to experience economic difficulties and the most important Florentine banks began to fail.

According to Cipolla, this phase of expansion was set in motion in Italy by the directors of the Ricci Bank, who used a very large share of their deposits to buy government securities and grant loans. The other private banks were obliged to adopt the same policy of credit expansion if their managers wanted to be competitive and conserve their profits and market share. This process gave rise to a credit boom which led to a phase of great artificial expansion that soon began to reverse. In 1574, a proclamation accused bankers of refusing to return deposits in cash and denounced the fact that they only “paid with ink.” It became increasingly more difficult for them to return deposits in ready cash, and Venetian cities began to experience a significant money scarcity. Craftsmen could not withdraw their deposits nor pay their debts and a severe credit squeeze (i.e., deflation) followed, along with a serious economic crisis analyzed in detail by Cipolla in his interesting paper. From a theoretical standpoint, Cipolla's analysis is stronger than Ramón Carande's, although it is not completely adequate either, as it places more emphasis on the crisis and credit squeeze than on the prior stage of artificial credit expansion, wherein lies the true root of the evil. The credit expansion phase, in turn, is rooted in the failure of bankers to comply with the obligation to safeguard and maintain intact 100 percent of the tantundem. ⁷⁴

Of international relevance were the long-standing relations between Charles V and members of the prominent Fugger banking family (known in Spain as the Fúcares). The Fuggers of Augsburg started out as wool and silver merchants and also traded spices between their city and Venice. Later they concentrated on banking, and in their heyday they operated eighteen branches in different parts of Europe. They granted loans to help finance the election of Charles V as emperor and later funded his exploits on many occasions, receiving as collateral both the silver shipments from the Americas and the authorization to collect taxes. Their business came to a standstill and barely escaped bankruptcy in 1557 when Philip II de facto suspended payments, and in fact they continued to lease the lands belonging to military orders until 1634.⁷⁵

THE SCHOOL OF SALAMANCA AND THE BANKING BUSINESS

These financial and banking phenomena did not go unnoticed by the illustrious minds of members of the School of Salamanca who, according to the most reliable research, paved the way for the modern subjectivist theory of value, developed by the Austrian school of economics.⁷⁶

Chronologically speaking, the first work to consider, and perhaps the most relevant to our thesis, is Instrucción de mercaderes (Instruction to merchants), written by Doctor Luis Saravia de la Calle and published in Medina del Campo in 1544. Saravia de la Calle criticizes bankers harshly, calling them “voracious gluttons who swallow everything, destroy everything, confuse everything, steal and soil everything, like the harpies of Phineus.”⁷⁷ He says bankers “go out into the street and square with their table and chair and cash-box and book, like harlots to the brothel with their chair,” and having obtained the necessary license and guarantee required by the laws of the kingdom, they set about acquiring deposits from clients, to whom they offer bookkeeping and cashier services, making payments from clients' accounts as ordered and even paying interest on such deposits.

With sound legal reasoning, Saravia de la Calle indicates that interest is incompatible with the nature of the monetary deposit, and that in any case, the banker should receive a fee for the custody and safekeeping of the money. He even severely rebukes customers who enter into such deals with bankers, and states:

And if you say, merchant, that you do not lend the money, but that you deposit it, that is a greater mockery; for who ever saw the depositary pay? He is usually paid for the trouble of safeguarding the deposit. Furthermore, if you now entrust your money to the profiteer as a loan or deposit, just as you receive a part of the profit, you also earn a portion of guilt, even a greater portion.⁷⁸

In chapter 12 of his book, Saravia de la Calle makes a neat distinction between the two radically different operations bankers carry out: demand deposits and time “deposits.” In the first case, customers entrust their money interest-free to bankers

so the money will be safer, and more accessible for making payments, and to avoid the hassle and trouble of counting and guarding it, and also because, in gratitude for this good deed they do the moneylender in giving him their money, if it so happens they have no money left under his charge, he will also accept some overdrafts without interest.⁷⁹

The second operation, the time “deposit,” is very different from the first and is in fact a true loan or mutuum which is granted the banker for a fixed term and yields interest. Saravia de la Calle, in compliance with the traditional canonical doctrine on usury, condemns these transactions. Furthermore, he clearly states that in the case of the demand-deposit contract, customers should pay the banker

for if they deposit money, they should pay for the safekeeping and should not derive as much profit as the laws permit when depositing money or property that requires safeguarding.⁸⁰

Saravia de la Calle goes on to censure those clients who selfishly try to capitalize on the illicit activity of bankers, making deposits and expecting bankers to pay interest. As he vividly puts it,

He who deposits his money with someone he knows will not guard it, but will spend it, is not free from sin, at least venial sin. He acts as one who turns over a virgin to a lecher or a delicacy to a glutton.⁸¹

Moreover, the depositor cannot ease his conscience by thinking the banker will loan or use other people's money but not his own.

He believes the banker will probably guard the money he deposits and not do business with it, when this cannot be expected of any of these profiteers. On the contrary, the banker will soon invest the deposit for profit and try to earn money with it. How could bankers who pay 7 and 10 percent interest to those who provide them with money to do business with possibly refrain from using deposits? Even if it had been clearly demonstrated that you do not sin (which is not the case, quite the opposite), the moneylender very certainly sins when he does business with your money and he definitely uses your money to steal the property of your neighbors.⁸²

Saravia de la Calle's doctrine is very coherent, inasmuch as the self-interested use (via the granting of loans) of money placed on demand deposit with bankers is illegitimate and implies a grave sin. This doctrine coincides with the one originally established by the classical authors of Roman law, a doctrine which derives naturally from the very essence, purpose, and legal nature of the monetary irregular-deposit contract, which we studied in chapter 1.

Saravia de la Calle also vividly describes the disproportionate profits bankers obtain through their illegitimate practice of appropriating deposits instead of being satisfied with the more modest earnings they would receive for the simple custody or safekeeping of deposits. His explanation is quite descriptive:

If you receive a wage, it should be moderate and adequate for your support, not the excessive loot with which you build superb houses, buy lavish estates, pay servants and provide extravagant luxuries for your families, and you give great feasts and dress so splendidly, especially when you were poor before you began your dealings, and you left humble trades.⁸³

In addition, Saravia de la Calle explains that bankers are quite prone to bankruptcy, and he even carries out a cursory theoretical analysis which demonstrates that the expansionary phase brought on by the artificial expansion of credit granted by these “profiteers” is inevitably followed by a period of recession, during which the non-payment of debts produces a chain of bank failures. He adds that

the merchant does not pay the profiteer, he causes him to go bankrupt, and he suspends payments and all is lost. As is common knowledge, these moneylenders are the beginning, occasion and even the cause of all this, because if they did not exist, each person would use his money to the extent he could and no more, and things would cost what they are worth and more than a fair cash price would not be charged. Therefore it would be very worthwhile for princes to stop tolerating these profiteers in Spain, since no other nation in the world tolerates them, and to banish this pestilence from their court and kingdom.⁸⁴

As we know, it is not true that the authorities of other nations had controlled the activity of bankers more successfully than Spanish authorities. Instead, the same thing happened more or less everywhere, and rulers eventually granted bankers privileges to allow them to make self-interested use of their depositors' money, in exchange for the ability to capitalize on a banking system which provided much faster and easier financing than taxes.

To conclude his analysis, Saravia de la Calle affirms that

a Christian should under no circumstances give his money to these profiteers, because if he sins in doing so, as is always the case, he should refrain from it to avoid sinning; and if he does not sin, he should refrain to avoid causing the moneylender to sin.

Furthermore, he adds that if bankers' services are not used, the following additional advantage will result: the depositors

will not be shocked if the moneylender suspends payments; if he goes bankrupt, as we see so often and Our Lord God permits, let him and his masters be lost like dishonest gains.⁸⁵

As we see, Saravia de la Calle's analysis, along with his cleverness and humor, is impeccable and free from contradictions. However, in his criticism of bankers, he perhaps places too much emphasis on the fact that they charged and paid interest in violation of the canonical prohibition of usury, instead of emphasizing that they misappropriated demand deposits.

Another writer who examines the monetary irregular-deposit contract is Martín de Azpilcueta, better known as “Doctor Navarro.” In his book, Comentario resolutorio de cambios (Resolutory commentary on exchanges), first published in Salamanca at the end of 1556, Martín de Azpilcueta expressly refers to “banking for safekeeping,” which consists of the bank contract of monetary demand-deposit. For Martín de Azpilcueta, banking for safekeeping, or the irregular deposit contract, is fully just and means that the banker is

guardian, depositary and guarantor of the money given him or exchanged for whatever purpose by those who give or send him money, and that he is obliged to make payments to merchants or persons to whom depositors want payments made in such and such a way, [for which] he may legitimately charge a fair fee to the republic or the depositors, as this trade and responsibility are useful to the republic and free from iniquity; for it is fair for a worker to earn his wages. And it is the moneychanger's job to receive, safeguard and keep the money of so many merchants ready, and to write and keep their accounts, with great difficulty and at times risk of error in their records and in other things. This arrangement could be formalized in a contract by which a person commits himself to hold other people's money in deposit, make payments and keep records as arranged by them, etc., since this is an agreement to hire a person for a job, which is a well-known, just and blessed contract.⁸⁶

As we see, Martín de Azpilcueta regards the monetary irregular-deposit contract as a completely legitimate contract by which people entrust the custody of their money to a professional (the banker), who must safeguard it like a good parent and keep it constantly available to the depositors, providing whatever cashier services they ask of him; and he has a right to charge the depositors a fee for his services. As a matter of fact, Martín de Azpilcueta feels it is the depositors who must pay the depositary or banker and never the reverse, so depositors “pay in compensation for the trouble and worries the moneychanger has in receiving and safeguarding their money,” and bankers must conduct

their business honestly and be satisfied with a fair wage, receiving it from those who owe it to them and whose money they safeguard and whose accounts they keep, and not from those who are not indebted to them.⁸⁷

Moreover, in an effort to clarify matters and avoid confusion, Martín de Azpilcueta (using the same reasoning as Doctor Saravia de la Calle) expressly condemns clients who wish to pay nothing for the custody of their deposits and try to even earn interest on them. Doctor Navarro concludes that

in this sort of exchange, not only the moneychangers sin, but also... those who entrust their money to them for safekeeping as above. They later refuse to pay a fee, claiming the profits earned with their money and received from those they pay in cash is enough of a wage. And if the moneychangers request a fee, the customers leave them and take their business elsewhere. So, to keep these clients, the bankers renounce their fee and instead take money from those who owe them nothing.⁸⁸

In his book, Suma de tratos y contratos (Compilation of deals and contracts) (Seville 1571), Tomás de Mercado performs an analysis of the banking business very much in the same line as the studies by the preceding authors. He begins by correctly stating that depositors should pay bankers for the work of safeguarding their monetary deposits, concluding that

it is a common, general rule among all bankers to be able to take wages from those who deposit money in their bank, a certain amount each year or for each thousand, because bankers serve depositors and safeguard their assets.⁸⁹

Nevertheless, Tomás de Mercado ironically points out that bankers in Seville are so “generous” they charge nothing for guarding deposits: “those of this city, it is true, are so regal and noble they ask for and take no wage.”⁹⁰ Tomás de Mercado observes that these bankers have no need to charge anything, since the large amount of currency they obtain from deposits earns them substantial profits in personal business deals. We must emphasize that, in our opinion, Tomás de Mercado simply verifies a fact here and does not imply that he considers these actions in any way legitimate, as various modern authors (among others, Restituto Sierra Bravo and Francisco G. Camacho) appear to suggest.⁹¹ Quite the opposite is true. From the standpoint of the purest Roman doctrine and the essential legal nature of the monetary irregular-deposit contract analyzed in chapter 1, Tomás de Mercado is the scholastic writer who most clearly demonstrates that the transfer of property in the irregular deposit does not imply a concomitant transfer of availability of the tantundem and therefore, for all practical purposes, there is no full transfer of property. He expresses himself quite well: “they [bankers] must understand that the money is not theirs, but belongs to others; and it is not fair that by using it, they cease to serve its owner.” Tomás de Mercado adds that bankers should obey two fundamental principles. First: they should

not strip the bank so bare they cannot then cover the drafts they receive, because if they become unable to pay them because they have spent and invested the money in shady business and other deals, they certainly sin.... Second: they should not become involved in risky business deals, for they sin even if the deals turn out successfully, because the bankers chance not being able to fulfill their responsibilities and doing serious harm to those who have trusted them.⁹²

Though one could take these recommendations as an indication that Tomás de Mercado resigns to accept a certain fractional reserve, it is important to keep in mind that he is very emphatic in expressing his legal opinion that deposited money does not ultimately belong to bankers but to depositors, and in stating, furthermore, that none of the bankers complies with his two recommendations:

however, since when business goes well, in affluent circumstances, it is very difficult to bridle greed, none of them takes heed of these warnings nor meets these conditions.⁹³

For this reason, he considers the regulations enacted by the Emperor Charles V in this respect to be very beneficial. They prohibited bankers from carrying out personal business deals and were aimed at eliminating the temptation to finance such dealings indefinitely with money obtained from depositors.⁹⁴

Also, at the end of chapter 4 of Suma de tratos y contratos, Tomás de Mercado states that the bankers of Seville hold deposits of money and precious metals belonging to merchants who traded with the New World, and that with such considerable deposits they “make great investments,” obtaining hefty profits. Here he does not openly condemn these practices, but we must remember that the passage in question is, again, more a description of a state of affairs than a judgment on its legitimacy. However, he does consider the issue of legitimacy in greater depth in chapter 14, which we have already covered. Tomás de Mercado concludes as well that bankers

are also involved in exchanging and charging; bankers in this republic engage in an extremely wide range of activities, wider than the ocean, but sometimes they spread themselves too thin and all is lost.⁹⁵

The scholastics most misguided in their doctrinal treatment of the monetary irregular-deposit contract are Domingo de Soto and (especially) Luis de Molina and Juan de Lugo. Indeed, these theorists allowed themselves to be influenced by the medieval tradition of the glossators, which we covered in section 2 of this chapter, and especially by the doctrinal confusion resulting from the depositum confessatum. De Soto and especially Molina view the irregular deposit as a loan in which both the ownership and full availability of the tantundem are transferred to the banker. Therefore, they believe the practice of loaning deposited funds to third parties is legitimate, as long as bankers act in a “prudent” manner. Domingo de Soto could be considered the first to maintain this thesis, though he did so very indirectly. In fact, in book six, topic eleven of his work, La justicia y el derecho (On justice and law) (1556), we read that bankers have the

custom, it is said, of being liable for a greater amount of money than that deposited if a merchant makes his deposit in cash. I gave the moneychanger ten thousand; so he will be liable to me for twelve, perhaps fifteen; because having cash is very profitable for the moneychanger. Neither is any evil seen in it.⁹⁶

Another typical example of credit creation which Domingo de Soto appears to accept is a loan in the form of the discount of bills, financed using clients' deposits.

Nevertheless, the Jesuit Luis de Molina is the scholar who has most clearly maintained an erroneous doctrine on the bank contract of monetary irregular deposit.⁹⁷ Indeed, in Tratado sobre los cambios (Treatise on exchanges) (1597), he upholds the medieval doctrine that the irregular deposit is a loan or mutuum contract in favor of the banker, a contract in which not only ownership is transferred, but full availability of the tantundem as well, which means the banker can legitimately use the money in his own interest, in the form of loans or in any other manner. Let us see how he presents his argument:

Because these bankers, like all the others, are true owners of the money deposited in their banks, and they differ greatly in this way from other depositaries... so they receive the money as a precarious loan and hence, at their own risk.

Further on he indicates even more clearly that

such a deposit is really a loan, as has been said, and ownership of the money deposited is transferred to the banker, so if it is lost it is lost to the banker.⁹⁸

This position conflicts with the doctrine Luis de Molina himself upholds in Tratado sobre los préstamos y la usura (Treatise on loans and usury), where he indicates that a term is an essential element of all loan contracts, and that if the duration of a loan has not been expressly stipulated and a date for its return set, “it will be necessary to accept the decision of the judge as to the loan's duration.”⁹⁹ Moreover, Luis de Molina ignores all of the arguments presented in chapter 1 to demonstrate that the irregular deposit contract has nothing in common, in terms of legal nature and essence, with the loan or mutuum contract. Therefore, his doctrinal attempt to identify the two contracts with each other is a clear step backward, not only in relation to the much more coherent views of Saravia de la Calle and Martin de Azpilcueta, but also with respect to the true legal nature of the contract as it had already been developed by Roman juridical science. Therefore, it is strange that a mind as bright and penetrating as Luis de Molina did not realize the extreme danger of accepting the violation of the general legal principles governing the irregular deposit, and that he claimed,

it never occurs that all the depositors need their money in such a way that they do not leave many thousands of ducats deposited, with which the bankers can do business and either earn a profit or suffer a loss.¹⁰⁰

Molina does not recognize that in this way not only is the objective or essential purpose of the contract (custody and safekeeping) violated, but also that an incentive is provided for all sorts of illicit dealings and abuses which inexorably generate an economic recession and bank failures. When the traditional legal principle requiring the continual safekeeping of the tantundem in favor of the depositor is not respected, there is no clear guide to avoiding bank failures. Furthermore, it is obvious that such vague, superficial suggestions as “try to act prudently” and “do not become involved in risky business deals” are not sufficient help in preventing the very harmful economic and social effects of fractional-reserve banking. At any rate, Luis de Molina does at least bother to state,

It is important to warn that [bankers] commit mortal sin if they use in their own business dealings so much of the money they hold on deposit that they are later unable, at the right time, to hand over the quantities the depositors request or order to be paid against their deposited funds.... In addition, they commit mortal sin if they become involved in business dealings entailing a risk of not being able to return deposits. For example, if they send so much merchandise overseas that, should the ship sink or be captured by pirates, they would not be able to repay deposits even after selling all of their assets. And they are not guilty of mortal sin only when the deal turns out poorly, but also when it turns out well. This is due to the chance they take of hurting depositors and the guarantors they themselves supply for the deposits.¹⁰¹

We find this warning of Luis de Molina admirable, but at the same time we are astonished at his failure to recognize the profound contradiction that ultimately exists between his warning and his explicit acceptance of “prudent” fractional-reserve banking. The fact is, regardless of how prudent bankers are, the only surefire way to avoid risks and ensure that deposits are permanently available to depositors is to maintain a 100-percent reserve ratio at all times.¹⁰²