Banks have Changed and Evolved

The growth of the banking sector since its creation in the 1600’s has allowed for banks to change and evolve into being more than just a business. Critically discuss how, through the ages, banks have changed and evolved. Make reference in your answer to how regulation, financial crisis and societies needs have aided this banking evolution. B. 1. What is a bank? There is no comprehensive legal definition of the term ‘bank’, ‘banker’ or ‘banking’. So to define these concepts, people has to look at the particular circumstances in which the precise meaning of them arises. The most common circumstances are: the area of bank regulation; where rights and duties are granted to banks; and where there is an effort to eschew a payment obligation that it arose on an illegal contract, which is void or unenforceable because it is owed by or to an unlicensed bank.[1] There are two reasons why the common law definition of these concepts remains important. The first one is under law, certain rights and duties are only conferred on a ‘bank’ or ‘banker’, e.g. the banker’s duty of confidentiality. The second one is some rules use the term ‘bank’, ‘banker’ or ‘banking’ without an accurate definition. We can see it clearer in the case of Kirkwood:[2] Kirkwood’s defence was that UDT could not recover on a debt because they were neither an unregistered moneylender nor a bank and the loan was illegal as it infringed the provisions of the Moneylenders Act 1990. Lord Denninghas stated that: ‘Parliament has conferred many privileges on “banks” and “bankers”, but it has never defined what is a “bank” and who is a “banker”. It has said many times that a banker is a person who carries on “the business of banking”, but it has never told us what the business of banking is. It has imposed penalties on persons who describe themselves as a “bank” or “bankers” when they are not, but it has never told us how to decide whether or not they are bankers.’[3] To determine if a person is a banker or not, the Court specified three elements: the nature of the banking services provided; the fame of the organization; the importance of these services in relation to business as a whole.[4] The characteristics of banking was: accepting money and collecting cheques for their customers and place them to the credit of the customers’ accounts; honouring cheques or orders drawn on bankers by their customers when presented for payment and debiting their customers accordingly; keeping current accounts, or something of that nature, in which debits and credits were entered.[5] Hsiao enounced that a bank must have only two distinctive elements, namely deposit taking and cheque collection.[6] However he then rejected the possibility of this definition in answering the question: ‘what is a bank?’ Because banks are classified in different ways, some institutions will fall into the banking category despite not having two elements stated in the Kirkwood case.[7] The answer for this problem can be found in some statutes. According to the European Union, a bank can be understood as ‘an undertaking the business of which is to receive deposits or other repayable funds from the public and to grant credits for its own account’.[8] The Banking Act 2009 defines that ‘bank means a UK institution which has permission under of the Financial the regulated activity of accepting deposits.’[9] Pursuant to The Bills of Exchange Act 1882, a ‘banker includes a body of persons whether incorporated or not who carry on the business of banking’[10] 2. The invention of banking in United Kingdom Galbraith argues the ambiguous beginnings of the bankers. He claims that banks are ‘an exceedingly old idea. Banking has a substantial existence in Roman times… So far as any business can be given ethnic association, banking belongs to the Italians.’[11] In United Kingdom, the banking system extensively developed without the interference by government. It started due to the renting-vault of the goldsmith’s banker.[12] They had been recognized as reliable keepers of money for people without their own safe vault. At this beginning time, the goldsmith banks were only for wealthy people.[13] In 1640, Charles I seized the gold of the Royal Mint. This action made the trust and belief in goldsmith banks grew up so fast, although later Charles I repaid all the money. In 1660, the bank notes were first introduced as the goldsmith drawn notes, by which a depositor sent his goldsmith a letter to authorize the acquittance to his creditor of the sum owed. The creditor would take this ‘note’ to the depositor’s goldsmith and received the payment in cash. They have been compared with modern day cheuqes. This function promoted bank lending and goldsmiths could perform both position of borrowers and depositors. In 1664, Charles II borrowed £1,300,000 from the goldsmiths to build a sailing armada. But later he failed to repay this debt and the Exchequer suspended the repayment. This juncture raised an anxiety about the lender policies of the goldsmiths. This industry was becoming a risk business, so goldsmiths decided to have ‘bank’ separately developed from their usual business. They called themselves ‘bankers’ but indeed they were still goldsmiths. Goldsmith bankers had created an infallible system of private banking, which were developed into the famous banking firms, some of them still exist today. Orsinger wrote that ‘in 1801 one could count sixty-eight private banks which were their direct descendants’.[14] C. The banking evolution through ages in UK 1. In 17th Century An important step towards the modern banking was the founding of The Bank of England by the enactment of The Bank of England Act 1694. Its original purpose was to raise money for the war with France, along with another intention was to ‘act as the Government’s banker and debt-manager’. The original capital of the bank was £1,200,000. It provided a same amount loan to the Government with the interest was about £100,000 per year. The Government did not repay the loan until 1706, but in exchange the bank was awarded a Royal Charter. It exactly did the same kind of business goldsmiths were doing already: printing their own notes and lending money of their own creation. Parliament brought out an act to regulate financial activity in the United Kingdom occurred on 1697 that gave heavy penalties, both financial and physical to those worked within the ‘City of London’ without a license annually by the Court of Alderman.[15] This regulation only had effect until the early eighteenth century.[16] According to Gilligan, the 1697 Act was ‘a crucial legislative initiative because it was the first attempt by any government to impose certain standards of probity and competence upon those dealing in the embryonic securities market’.[17] The creation of the Bank of England prescribed an entirely new backbone and regulatory mechanism to the modern banking sector. Even though, it was a long and hard process, the Government still tried to bring banking to the majority of society. They also started to manage a transparent financial market as well. 2. In 18th Century Banks’ services kept increasing: such as clearing facilities, security investments and over draft protections. Due to the appropriateness of depositing their surplus balances, the Bank of England changed it owner and became the Government’s bank. A new Charter of Parliament in 1708, which clause prohibited note issue to any banks with more than six partners, did not trammel individual goldsmiths bankers. But detained the establishment of joint-stock banking in England until the following century. It was recognized as a solution to keep private bank as small partnerships. The Industrial Revolution further helped to enlarge the number of banks in United Kingdom, especially within London. Moreover, it changed the idea that the banks were not only for the upper classes but also for ordinary people.[18] In a parallel development, there was a separate system of banking was evolving in the provinces. Since the transport and communications in Midland and Northern regions did not exist, the London goldsmiths bankers had failed to develop their system outside London. The Industrial Revolution created a need for financial service, especially at growing industrial and port cities such asBirmingham,Liverpool Manchester,and Newcastle. These countryside bankers were local industrialists and traders, who already had experiences in monetary transaction. There were some similar between ‘industrialist bankers’ and the early goldsmith bankers. By 1784, there were 119 provincial banks outside London. The Industrial Revolution had done a lot of things. Firstly, it broadened the popular of banks in industrial society but they were still not an approachable facility for everyone. They absolutely focused on the upper class and merchant. Just because the bankers still think about the ‘making-money’ purpose more than their responsibility towards society as a whole. Secondly, with the enlargement the scope of enterprise, it was necessary for banks with more than six partners, so that larger resources could be gathered. The Charter in 1708 should be abolished. 3. In 19th Century The banking sector in United Kingdom started to transform. The banking industry and legislators finally understood that ordinary people also had the need to use the banks’ facilities.[19] In 1810, The Rothwell Savings Bank, the first saving bank initiated by Henry Duncan, was created. It was the pioneer in encouraging the poor to save and later France as well as Holland also applied this banking model due to its success in Britain.[20] In the 18th century, it was illegal to form a bank with more than six partners. But a Newcastle timber merchant, Thomas Joplin disagreed with that regulatory. Joplin believed that the increasing in number of financial undertakings’ partners would gather greater resources and reduce risks. That opinion was rejected by Parliament. Fortunately, a banking crisis in 1825, which led to new Act in 1826,[21] made Joplin’s opinion came true. The new Act permitted ‘the establishment of co-partnerships with any number of shareholders and right of note issue outside a radius of sixty-five miles from the City of London’.[22] The first joint-stock bank was Lancaster Banking Company in 1826. With the advantage in large amounts of capital, the joint-stock banks began to absorb the private banks, making larger businesses. They then developed more branches, a huge system which attempted to bring a more stable structure that suited to the needs of the Industrial Revolution. In this period, the banks completely adopted the idea appeared during the Industrial Revolution, that the ordinary people could use banks as well as wealthy people.[23] It attracted a lot of people who had already owned accounts and who had just used these financial services for the first time. The development of branches had their own benefits, but also showed the limit in poor communications and lack of skilled men. Robert Paul described about this problem: ‘that branches were accompanied with so much hazard, required such constant watching and inspection, and involved us altogether in such a degree of superintendence that, upon the whole, my general impression is that the branches are not the most advantageous part of our business.’ 4. In Modern Era The banking system during this time was affected by two World Wars. A group of bank in control of government performed a series of takeovers and mergers. They were called ‘Big Five’, including these well-known banks: Barclay, Lloyds, Midland, National Provincial, and Westminster. Along with it was the global financial crisis of 1929-1932, many banks experienced serious difficulties at that time. To deal with it, they used the strategy to accost less wealthy customers and introduce small saving packages. It was not until 1950 for a recovery which showed a large extend in provincial branch offices and the appearance of the high street banks. From the 17th century to this century, there wasn’t any direct legislation applied to the financial services industry until 1939.[24] The Prevention of Fraud (Investment) Act 1939 was the first major piece of legislation that had object to protect the right of investors. Unlicensed dealing was treated as a criminal offence. The 1939 Act was altered by the Prevention of Fraud (Investment) Amendment Act 1958, which provided the Board of Trade the competence to appoint surveyors to investigate the administration of unit trusts.[25] Gillian complimented that these two legislations ‘were notable for the improvements they brought in licensing standards’.[26] But according to Fisher and Bewey, these two were only regulated a small part of investment business and their practical were limited.[27] In the wake of the secondary banking crisis of 1973-1975, the Parliament of the United Kingdom promulgated the Banking Act 1979. The Bank of England’s regulatory powers over banks was extended and their depositors were provided better protections. However, this 1979 Act did not have enough deterrence to stop the influence of the secondary banking crisis. The omission of banking regulation under the 1979 Act was clearly showed in the bankruptcy of Johnson Matthey Bank. The Bank of England took over the running of JMB and supplied it a financial rescue package of £245m. Ellinger enounced that ‘if JMB had been subjected to the more stringent supervision applies to licensed deposit-takers; its financial difficulties would have been discovered earlier… following the JMB affair, the question of bank supervision was reviewed by a Committee set up by the Chancellor 1984 and chaired by the governor of the Bank of England’.[28] Between 1974 and 1976, the Labour Government conducted complete statutory overhaul of the Prevention of Fraud (Investments) Acts and led to the Financial Services Act 1986. In 1981 with the need for a new system of financial regulation, this reform process started and Professor Gower was appointed to undertake a detailed review of the legislative protection. On his report in 1983, Professor Gower propounded that a new Investor Protection Act should be enacted to replace the Prevention of Fraud (Investment) Acts, based upon self-regulation, subject to government surveillance.[29] In October 1984, the government endorsed a majority of the recommendations made by Professor Gower and published a White Paper.[30] The 1986 Act came into effect on 29 April 1988. It had wider scope than the Prevention of Fraud (Investments) Acts.[31] However, the 1986 Act did not regulate all aspect of the financial services sector, such as banking sector.[32] Along with it, the bankruptcy of JMB gave rise to the promulgation of the Banking Act 1987. It mostly abolished and substituted the 1979 Act. The 1987 Act had aim to provide a strict supervision in banking activities and to protect depositor’s interest. But it did not manage the banker’ transactions, consumer protection or technological advancements. Arora enounced that the Banking Act 1987 ‘considerable reinforced the powers of the Bank of England to advise, supervise and control the banking sector.’[33] The Banking Act 1998 transferred the Bank of England’s powers and responsibilities for the supervision of the banking sector and wholesale money market institutions to the Financial Services Authority (FSA), which was previous held by the 1987 Act.[34] Taylor took an opinion that ‘the Bank of England Act 1998 amounts to one of the most significant changes to the Bank’s governance, role and functions in its 300-year history. It is certainly the most significant legislative change to affect the Bank since nationalization in 1946’.[35] In 1997, the Government changed from Conservative to Labour and led to the introduction of many new financial regulations. The first one was the Financial Services and Markets Act (FSMA) 2000. It provided an adequate statutory framework for the FSA replacing the different frameworks under which the various regulators would operate.[36] The main function of the Act was ‘to create a unified system of statutory regulation to preside over the financial services market’,[37] in which the regulation of mortgages and general insurance business is also covered. But the enactment of FSMA was not effective enough to stop the bankruptcy of Northern Rock[38] and the financial crisis in 2007. All of this event revealed the uncertainty of the UK banking sector and the disadvantages in financial regulation. The Bank of England had to offer a loan to Northern Rock. Lord Lawson criticized that ‘maintaining Northern Rock is simply exposing the taxpayer to risk, raising issues of unfair competition and continuing a bad reputation for the UK in this field.’[39] Because the old Banking Acts couldn’t stop the crisis, the Parliament has issued the new Banking Act 2009. It regulates new aspects: the special resolution regime; the bank administration procedure; the new bank insolvency procedure; inter-bank payments systems; financial services compensation scheme; and to strengthen the role of the Bank of England. The Economist declaimed that the Act ‘shows a change in philosophy by the Government and regulators alike.’[40] Its purpose is to give the bank time to react internally before the media and the customers become aware of the bank troubles. The 2009 Act is just a solution to a single situation but not a cure for future problems.

The Financial Services Act 2010 increases FSA statutory power in different aspects, including: consumer awareness, recovery plans for banks and remuneration policies.

  • What the Act aims to do is to give the bank time to react internally before the media and the customers become aware of the bank troubles. This clause causes controversy. Peter Thal-Larsen propounded that the Act will basically allow financial authorities to take early action to move savers’ deposits from a failing bank before tackling other problems without causing widespread panic. “The idea is that, if there is a bank that gets into trouble, to insulate it and make the wider impact of that less, but I don’t think they can actually stop banks from getting into trouble in the future”.[41]
  • There is still a dichotomy here. The FSA and the respective financial legislation is meant to be transparent and customer focusing. By withholding information so that the banks can act quickly without bank runs, you are not allowing customers to chose what to do with theirown savings, in a timely fashion. This cloak of secrecy goes against the FSA ethos.
  • Conversely, by withholding this information and throwing the cloak of secrecy around the banks shoulders you may be able to inhibit the panic that we saw in the Northern Rock case.
  • Another point of view that could be entertained here is that with consumer confidence at an all time low, having a clause like this only heightens the mistrust of the banks.
  • Consumers may feel even more isolated and excluded from being the master over their own monetary destiny. See lecture 12 on financial exclusion.

[1] Ross Cranston, Principles of Banking Law (2002), 2nd edition, 5 [2] Case United Dominions Trust Ltd v Kirkwood [1966] 2 QB 431, Court of Appeal [3] ibid [4] ibid [5] ibid [6] Michael Hsiao, ‘Legitimised interference with private properties: Banking Act 2009’ (2010), 25(5) Journal of International Banking Law and Regulation, 227 [7] Ibid, 230 [8] EU Banking Directive 2006/48/EC, Article 4 [9] Banking Act 2009, section 2 [10] Bills of Exchange Act 1882, section 2 [11] John Kenneth Galbraith, Money whence it came, where it went (1975), London, Andre Deutsch Limited, 18. [12] Glyn Davies, A history of money – From ancient times to the present day (1994) Cardiff, University of Wales. [13] ibid [14] Richard Orsinger, Banks of the world (1967), London, Macmillian & Co Ltd, 40 [15] Jonathan Fisher and Jane Bewsey, The Law of Investor Protection (1997), London, 13 [16] Ibid [17] George Gillian, ‘The origins of UK financial services regulation’ (1997), 18(6) Company Lawyer 167, 171 [18] Dr Clare Chambers, Financial Education and Banking Regulation in the United Kingdom: A template Analysis (2004), Bournemouth University [19] Glyn Davies, A history of money – From ancient times to the present day (1994) Cardiff, University of Wales. [20] John Kenneth Galbraith, Money whence it came, where it went (1975), London, Andre Deutsch Limited [21] ibid [22] Ronald Myles Fitzmaurice, British Banks and Banking (1975), D Bradford Barton Ltd [23] John Kenneth Galbraith, Money whence it came, where it went (1975), London, Andre Deutsch Limited [24] Nicholas Ryder, Margaret Griffiths and Lachmi Singh, Commercial Law principles and policy (2012), Cambridge University Press, 408. [25] ibid [26] George Gillian, ‘The origins of UK financial services regulation’ (1997), 18(6) Company Lawyer 167, 176 [27] Jonathan Fisher and Jane Bewsey, The Law of Investor Protection (1997), London, 13 [28] Peter Ellinger, Eva Lomnicka and Richard Hooley, Ellinger’s Modern Banking Law(2006), Oxford, 33 [29] Review of Investor Protection, Cmnd.9125 (1984) [30] Financial Services in the UK: A New Framework for Investor Protection, Cmnd.9432 [31] Jonathan Fisher and Jane Bewsey, The Law of Investor Protection (1997), London, 16 [32] Nicholas Ryder, Margaret Griffiths and Lachmi Singh, Commercial Law principles and policy (2012), Cambridge University Press, 410 [33] Anu Arora, The Banking Act 1987: Part 1, The Company Lawyer (1998), 9(1) 10 [34] Bank of England Act 1998, s. 21. The Act transferred to the FSA the Bank of England’s supervision powers under the Banking Act 1987, the Banking Coordination (Second Council Directive) Regulations, s.101(4) of the Building Societies Act 1985, s.43 of the Financial Services Act 1986 and the Investment Services Regulations 1995. [35] Michael Blair, Ross Cranston, Chris Ryan and Michael Taylor,Blackstone’s guide to the Bank of England Act 1998 (1998, London), 17. [36] FSA (2000). Legal Framework. London: FSA. [37] Professor Lorne Crerar,The Law of Banking in Scotland (2007), Tottel Publishing Ltd, Edinburgh,50 [38] The Economist. Greed & Mash; and Fear. 22 January 2009. [39] David HenckeandNicholas Watt, Audit office launches inquiry into rescue,The Guardian, 21-2-08, 26. [40] The Economist, Barbarians at the vault, 15th May 2008. [41] BBC News. Banking Act comes into Affect. 21 February 2009.

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