How to prevent fraud at banks

I was assigned a paper on the Shanxi Banks in the late Qing dynasty in China, and how they became the banking centre of their time. You can read the paper here, but I think it is worth flagging why they were so effective in preventing fraud. From the abstract:

The remote inland province of Shanxi was late Qing dynasty China’s paramount banking center. Its remoteness and China’s almost complete isolation from foreign influence at the time lead historians to posit a Chinese invention of modern banking. However, Shanxi merchants ran a tea trade north into Siberia, travelled to Moscow and St. Petersburg, and may well have observed Western banking there. Nonetheless, the Shanxi banks were unique. Their dual class shares let owners vote only on insiders’ retention and compensation every three or four years. Insiders shares had the same dividend plus votes in meetings advising the general manager on lending or other business decisions, and were swapped upon death or retirement for a third inheritable non-voting equity class, dead shares, with a fixed expiry date. Augmented by contracts permitting the enslavement of insiders’ wives and children, and their relative’s services as hostages, these governance mechanisms prevented insider fraud and propelled the banks to empire-wide dominance.

Skin in the game? Let’s continue…

Modern civil libertarians might question some of these governance innovations, but others provide lessons to modern corporations, regulators, and lawmakers.

Well, maybe some of the enforcement…

Financial innovation, Rockefeller style

Reading through papers and books of economic history of early financial innovations, I came across this nice little setup.

The year was 1899. Henry Rogers and William Rockefeller wanted to buy Anaconda Copper Company without the expenditure of a single dollar. Here’s how to do that:

  1. Rogers and Rockefeller gave a check for $39 million to Marcus Daly for the Anaconda properties, on the condition that he would deposit it in the National City Bank and leave it untouched for a specified period.
  2. They then set up a paper organization known as Amalgamated Copper Company, with their own clerks as dummy directors, and caused Amalgamated to buy Anaconda — not for cash, but for $75 million in Amalgamated stock which was conveniently printed for the purpose.
  3. From the National City Bank, Rogers and Rockefeller now borrowed $39 million to cover the check they had given to Marcus Daly, and as collateral for this loan they used the $75 million in Amalgamated stock.
  4. They now sold the Amalgamated stock on the market (first haven touted it through their brokers) for $75 million.
  5. With the proceeds, they retired the $39-million loan from National City Bank, and pocketed $36 million as their own profit on the deal.

Simplicity itself, albeit with a fair amount of “staggeringly dishonesty,” as Robert L. Heilbroner writes. This story is from his excellent book, the Worldly Philosophers.

Cyprus deposit tax reading [updated]

Much has been written today on the deal from last night, and I don’t have anything to add, except to say that the deposit tax on small depositors is a very, very dangerous route to take… Here are the best links to explain why:

Will update. Links in ~chronological order. In pictures [hat tips Mark Dow and Aurelija Augulyte]:Graphed Cyprus deposit tax reading [updated]   Learn to swim Cyprus deposit tax reading [updated]

Happy Pi day!

I didn’t know this was a thing, but it is awesome. Today is Pi day in the US (3.14) and Europe will have it’s Pi day on July 22 (22/7). It’s also Albert Einstein’s birthday today. Here’s Climateer with more:

We first used this on March 14, 2009:

Also known as Talk Like a Physicist Day. A reader emails:

image 807 Happy Pi day!

From: TalkLikeAPhysicist.com

Thanks doc!

Much more here:
March 14: It’s Albert Einstein’s Birthday! (it’s also Pi day) — Climateer