Bank of Amsterdam

Read this page about the founding of the Bank of Amsterdam. Take note of the concept of privileged lending.


After a second layer of money emerged, governments moved to take control of the pivotal position between the first and second layers. In the seventeenth and eighteenth centuries, the Bank of Amsterdam and Bank of England inserted themselves into the money pyramid, giving their governments unprecedented power over the peoples' monetary affairs. By mandating the use of their own second- layer monies, governments and their new central bank charters removed the ability for people to have freedom of currency denomination. Governments and currencies are inextricably linked today because governments established a monopoly on second-layer money and used it to their own benefit, starting with the Bank of Amsterdam in 1609. When examining these two central banks that invented practically every aspect of what we today think of as central banking, it is essential to consider to what degree their monetary innovations served only to advance the agenda of their governments. These banks also gave us a look at what it meant to issue what the rest of the world considered to be its reserve currency. Central banks, world reserve currencies, and the arrival of third-layer money will be explored further in this chapter.

Instant Settlement

The Bank of Amsterdam (BoA) was only created thanks to the world's first joint-stock company, the Dutch East India Company (Vereenigde Oostindische Compagnie, or VOC). The VOC's tale begins in 1585 when the Dutch swiftly ended Antwerp's position as the center of international trade by closing off the Scheldt River and blocking access to the sea. The blockade occurred amidst the Dutch Revolt, an eighty- year struggle for Dutch freedom from the Spanish monarchy. Politically motivated, the Dutch Revolt is credited with inspiring a shift away from monarchy toward more representative forms of government in England, France, and the United States of America. The revolt resulted in the formation of the United Provinces of the Netherlands, commonly called the Dutch Republic. The founding of this new republic preceded a financial centralization that changed the face of money and business forever. The next century of the money market and all of finance concentrated in Amsterdam.

At the turn of the seventeenth century, Dutch traders were commissioning ships to the Indonesian island of Java in order to buy spices and sell them back in Europe at handsome profits. Profits attracted additional entrepreneurs, and soon a collective of international merchants started to identify with each other. Subsequent pursuits of cinnamon and ginger led to deeper profits, and soon these merchants realized their efforts could greatly multiply by joining forces and attracting capital as a unified body. The result was the first ever joint-stock company formed in 1602, the VOC. We take it for granted today, but the VOC was the first example of equity investors providing capital in exchange for a share of ownership in the form of a paper certificate. The Dutch government gave the VOC a monopoly on trade in Asia as well as the authority to hire troops and wage war on its mission to extract profit from foreign trade. The company's ability to pool capital gave it leverage to compound on its trading success. Shares in the VOC were extremely sought- after assets. As the shares increased in value, original investors wanted to realize gains by selling them for cash to new investors, and that is how the first stock market was born. The Amsterdam Bourse, named after its predecessor in Antwerp, was founded shortly after the first signs of a market for VOC shares. It was created by the VOC itself in order to facilitate the exchange of its shares on a secondary market, and with it came the ability to surveil all trading activity. Creating the Bourse allowed the VOC to observe, under its own roof, the trafficking of its shares.

The inception of the stock market led to an enormous increase in financial transactions, which demanded a settlement mechanism superior to anything that then existed. As general interest in VOC shares increased, trading increased. All share sales were simultaneous purchases of money, but what money would shareholders accept in return? They would demand cash, but accepting a bag full of random gold and silver coins wouldn't be conducive to a smoothly functioning  exchange. Up to a thousand different types of coinage circulated in the new international trade hub of Amsterdam, a monetary situation too cumbersome for a city with the world's first stock market. A monetary instrument was desperately desired for payment and settlement for all these trading transactions. In 1609, the Bank of Amsterdam, or Wisselbank, was founded as an organic progression of financial institutions following the rise of the Amsterdam Bourse; the circulation of VOC shares necessitated an advancement in the settlement of money. Using the unit of account guilder, also called the Dutch florin, the Bank of Amsterdam launched a platform for free and instant settlement for all its depositors. The newly formed Dutch Republic needed its own second-layer money to support its ragingly successful colonial venture.

The BoA's first order of business was to outlaw cashiers and their notes and mandate all gold and silver coins throughout the city be deposited at the bank. Cashiers, until their activities were made illegal, were the money changers of Amsterdam. They held custody of gold and silver coins and issued paper claims against it. Cashiers were the principal actors between first- and second-layer money in Amsterdam, so in order for the BoA to attract capital, it had to do so by decree. All cashiers were forced to surrender precious metal to the Bank of Amsterdam and were issued BoA deposits in return. Cashiers were allowed to reopen business years after their ban but were only allowed to have possession of coins for a single day before being required to deposit them at the Bank of Amsterdam. The BoA was able to successfully monopolize the issuance of second-layer money by eliminating public access to first-layer money.

The BoA's deposits became a preferred money through- out Europe, especially due to Amsterdam's status as the inter- national hub of commerce. The VOC's commodity conquests in Asia and the subsequent popularity of its groundbreaking joint-stock corporate structure unleashed a flood of capital into the city. This enabled the first true innovation of the Bank of Amsterdam: its ability to effect instant transfers among its depositors. For transactions small and large, transfers between BoA depositors became thoroughly frictionless. In order to increase the likelihood of use, the BoA didn't charge a fee for internal transfers. Transfers also did not require any exchange of coins or paper. They were solely Bank of Amsterdam accounting ledger adjustments. This all meant that with a growing number of denomination subscribers from within and outside of the Netherlands, money transfers became unimaginably easy when compared to using coins or even paper. Due to the innovation of instant settlement on the second layer of money, the Bank of Amsterdam was the first central bank, because by law the bank was central to all money dealings. The task of clearance, or settling transfers between depositors, was the foundation of central banking. The Bank of Amsterdam was a regulatory response to stock trading and a way for the government to monitor every single transaction taking place amongst its depositors. It had absolute financial surveillance over the economy because it centrally routed all of its transactions and gained a purview into the financial relationships between its patrons.

Demand for the BoA's denomination grew from around Europe while Amsterdam elevated its position as the continent's axis of capital. The guilder was considered the world reserve currency during the seventeenth century because merchants and businesses from all over Europe held it in reserve due to uncompromising trust in its issuer. Its status as world reserve currency lasted well into the eighteenth century.


Privileged Lending

On the Bank of Amsterdam's agenda was more than just a subtle advance in financial settlement. A closer examination suggests that the VOC positioned itself at the top of the money pyramid in order to extract power and resources. Shortly after its founding, the Bank of Amsterdam lent money to the VOC and classified the loans as assets on its balance sheet, a standard double-entry accounting practice. The BoA credited the VOC with deposits, essentially creating money and issuing it to a borrower of privilege. These loans landed right alongside gold and silver coins on the first layer of money. The VOC's creditworthiness existed on par to precious metal itself. The money created on the second layer was fractionally reserved because its corresponding first-layer asset was a loan to the VOC instead of precious metal deposited at the Bank of Amsterdam. In Figure 6, take a look at the money pyramid under the influence of the Bank of Amsterdam, portraying loans to the VOC on the first layer of money. This was a critical moment for the evolution of layered money; for the first time ever, precious metals weren't alone atop the money pyramid.

Figure 6

With a monopolization of the second layer, the BoA eventually eliminated the ability to withdraw precious metal altogether yet managed to maintain the public's trust in its second-layer money. The significance of this cannot be understated. By suspending convertibility to first-layer money, the Bank of Amsterdam proved that precious metal wasn't necessarily required to operate a monetary and financial system. It depended on its own disciplinary constraint to stay sufficiently reserved, and more importantly it depended on the peoples' trust in that discipline. People of Europe did trust that the Bank of Amsterdam was properly reserved and didn't issue deposits in egregious excess of its holdings of precious metal, and that trust underpinned demand for BoA deposits as money.

The Bank of Amsterdam was able to suspend convertibility by inventing another hallmark of modern-day central banking called open market operations, market activities by the BoA to ensure a consistent and liquid market for its deposits. By maintaining a healthy market between its deposits and other high-quality forms of cash, the BoA was able to support the value of its liabilities without ever having to surrender precious metal. This potent and unprecedented combination of instant settlement, privileged lending, and convertibility suspension had astronomic implications for the future of finance and directly influenced the creation of the Bank of Amsterdam's successor as issuer of the world's reserve currency, the Bank of England.

Source: Nik Bhatia: Layered Money
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Last modified: Tuesday, April 26, 2022, 7:22 PM