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Bank of England

A brief history of the Bank of England

The following is based on material from the Bank of England’s website.

From the middle of the 17th century the need for a national bank became pressing. England and, in particular, London was on the brink of a tremendous expansion of trade, however, what was needed was a "fund of money" or a term familiar today - liquidity, in order to drive the trade of the country.

The emergence of a National Bank in England and a funded National Debt

In England the argument for a form of bank gathered support after the “Glorious Revolution” of 1688 when William of Orange and Queen Mary ascended to the throne of England. However, it took a London-based Scottish entrepreneur, named William Paterson to propose an idea that eventually found support. Patterson's proposal for a “Bank of England” and a “fund for perpetual Interest” (without mention of bills) was eventually passed by Parliament. Patterson was supported by two powerful personalities - Charles Montagu, Chancellor of the Exchequer and Michael Godfrey a leading merchant from the City. The public were invited to invest in the new project and it was these subscriptions totalling £1.2 million that were to form the initial capital stock of the Bank of England and were lent on to the Government in return for a Royal Charter.

In the beginning the Bank was the Government's banker; managing the Government's accounts and providing and arranging loans to the Government. It was also a commercial bank, dealing in bills - the then total equivalent of overdraft finance, furnishing finance for trade and took deposits and issued notes. The concept “credit” or “imaginary money” emerged during this period also. It was realised that money could take on new forms, possess no intrinsic value and yet still retain qualities to fulfil payment obligations. Therefore at the same time that the National Debt was born, paper money came into existence.

During the 18th and early 19th centuries great demands were placed on the Bank for finance; the National Debt grew from £12 million in 1700 to £850 million by 1815, the year of Napoleon's defeat at Waterloo. However, in creating credit-issuing notes that were not fully backed by cash (gold) in hand, but were partly supported by credit given to the Government or by commerce - rendered itself liable to its depositors wanting all their money returned at once. The Bank therefore, needed to retain a prudent reserve of gold to ensure liabilities could be met on demand. This can be seen as the beginning of a policy of monetary stability.

Eventually, though, prudence and discretion proved insufficient. The Bank was the nation's bank, and at times of natural crisis its gold reserve was needed for national purposes.

The Gold Standard: the Bank's notes backed by gold

Considered by some as the first move towards nationalisation, the 1844 Bank Charter Act was also the key move towards the Bank achieving the monopoly of the note issue. There were to be no new issuers of notes and any existing issuers that lapsed, or who were taken over, forfeited their right to issue. The crucial clause of the Act was a monetary one; it provided that, beyond the Bank's capital of £14 million, its notes were to be backed by gold or bullion. This, together with a fixed price for standard gold, laid the foundation for the gold standard, which during the 19th century, spread world-wide and created a long period of price stability.

Bank assumes responsibility for financial stability

Monetary stability alone, however was not enough and crises inevitably occurred; the 1844 Act had to be suspended in 1847, 1857 and in 1866 to prevent the Bank's collapse. A rescue operation in the form of a guaranteed fund for banks in the Square Mile was established by the Governor of the Bank and more than £17 million was promised, much of it by now powerful joint-stock banks. The Bank therefore had to fully recognise the responsibility it had come to possess for the stability of the banking system as a whole.

1931: Britain left the Gold Standard

As with the French a century before, the First World War saw the link with gold broken and the issue of low denomination notes returned once again. A vain attempt was made in 1925 to return to the discipline of the gold standard but it failed and in 1931 the United Kingdom left the standard for good. The country's gold and foreign exchange reserves were transferred to the Treasury although their day-to-day management was and still is handled by the Bank. The note issue was no longer backed by gold.

The Bank's relationship with the Treasury therefore changed. The funds which the Bank was deploying in its operations in the market were increasingly public funds. As noted earlier, the gold and foreign exchange reserves passed to the Treasury in 1931.

1946: Bank of England nationalised

Nationalisation, after the Second World War, made little immediate practical difference to the Bank. The Bank remained the Treasury's adviser, agent and debt manager. During and for years after the war it administered exchange control and various borrowing restrictions on the Treasury's behalf. However, a revival of interest in monetary policy during the high inflation period of the seventies ultimately led to a re-evaluation of the role of the Bank of England.

1997: The Bank was given responsibility for setting interest rates and it was announced that it would no longer be responsible for Government debt management

In 1997 the Government announced its intention to transfer full operational responsibility for monetary policy to the Bank of England. The Bank was given its independence as a central bank. It was also announced that the Bank would cease to be responsible for the Government’s debt management. The UK Debt Management Office was created in April 1998 as an executive agency of HM Treasury to take over responsibility for debt management. The Bank's regulatory functions passed to the Financial Services Authority.

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