The Accounting System #9: Checking and Credit Card Virtualization

Previous: The Accounting System #8

It is really not much of a leap from letters of credit and a system of loans and deposits backed by a reserve of coin or cash to a checking system. Checking accounts did not become common until the 20th century, but they extended the accounting system in a very convenient way. Most people, most of the time, did not write checks for more money than they had on deposit. Merchants had ways of deciding whether or not to trust the check writer. Long before the advent of credit cards it was possible to make do with almost no cash or coin, if you were willing to use a check book for purchases.

This again added portability to the accounting system. Many people kept a careful record of the checks they wrote, the deposits they made, and their balances, thus manually doing their own accounting. That helped the banks and merchants by reducing the number of bad checks that had to be dealt with. At the same time, with checks being written all the time by millions of people, the number of transactions banks had to process became a major factor in the cost of banking. First adding machines, then tabulating machines, and finally computers were used to speed up the accounting process. At the national level the Federal Reserve System facilitated the transfer of checks so that you could send a check to anywhere in the nation and eventually it would be turned into your bank for collection.

With a systematic, universal checking system it would have been possible to eliminate coin and cash from the economy. The accounting system would have been universal, at least for monetary transactions. A dollar would have been whatever the central bankers at the Fed said it was, unrelated to the antiquated silver dollars of yesteryear. But many people did not have checking accounts. The banks did not want to deal with untrustworthy or unprofitable customers, so the cash system remained in use.

People who are used to modern credit cards, which are used to make transactions through point of sale terminals, personal computers, and smartphones, may not realize that for years credit cards were part of a system that still relied on paper. While a card could be checked for available credit by telephone, a credit card purchase was made on a receipt with a copy for the purchaser, one for the merchant, and one for the bank. The receiving bank then debited the card holders account and credited the merchants account. By the time credit cards were coming into general use, so were computers (mainframe computers). Again the accounting system extended its tentacles. A credit transaction was a small loan. If not paid off immediately it carried a high rate of interest. But it meant that the customer need do no bookkeeping: if there was no credit left, the merchant would decline the card. Shop 'till you drop took on a new meaning.

Again, with credit cards you did not need coins or cash, at least until your credit limit was reached.

Next: #10: The Federal Reserve and Accounting Money

The Accounting System #6: Coin, Counting, and Crashes

previous: Physical Money as Portable Accounting

If the money value bids for a particular set of assets can crash in a bubble, then if almost everyone decides to cling to their money, all asset classes can crash. That is what happened in the depressions of the 1800s and the Great Depression between 1930 and 1932, and came close to happening in the Great Recession of 2008-2010.

Cash and coin are not magical stores of idealized value. Nor is gold. The sense they created during the Coin Age was due to their countability and their portability. Coins are easy to count. You don't need any higher math to do it. Countability also equates to accountability. Is the bank's accounting right? Then the count of the coins in the safe should match the cash balance in the ledger.

Portability, however, was not exactly perfect. Gold is heavy. Paying for a chicken and some turnips in a local market is not a weight issue, but what if you want to buy a shipload of silk in China? The coin required would be heavy, but at least it went by ship. Overland transfers of large sums required pack animals and soldiers to guard them.

During the great expansion of global trade between 1400 and 1900 a lot of gold ended up at the bottom of the sea. Better systems were already available. They were extensions of the commercial accounting systems of that era, and they would evolve into The Accounting System.

Keep in mind that physical money, either coins or cash, amounted to a local, physical, and (except in cases of fraud, like gold-plated lead coins and counterfeit notes) undeniable accounting. If you had cash you could buy whatever was for sale despite your credit rating, criminal record, or cultural preferences.

During the Coin Age, the coins were the key physical part of accounting system.  People could forget that the ultimate basis of human economy is real goods and services. Accounting systems track who has rights to real goods and services. Coins were a primitive accounting system. Today they are disappearing along with paper money. They have lost their utility for accounting. But accounting has grown, evolved, and absorbed many new functions, to become The Accounting System.

next: Virtualization in early banking

[The Accounting System, Your Fate is in the Cloud, is a work in progress by William P. Meyers, ©2013]

The Accounting System #7: Virtualization in early Banking

previous: #6, Coin, Counting and Crashes

We know that credit and debt are early historical phenomenon because they were recorded in ancient documents. The Bible requires the returning of borrowed land and goods, as well as the liberation of slaves, every 50th year [Leviticus chapter 25]: "ye shall return every man unto his possession, and shall return every man unto his family." Laws regulating loans may pre-date writing.

Credit requires a tracking system, which of course is an accounting. A written record had considerable merit over human memory.

Trade, as indicated earlier, is facilitated by an accounting system. The portable accounting system that used coins came to be supplemented at a very early date (certainly by the time of the Roman Republic) by systems based on the letter of credit.

It was a simple enough system. A wealthy Roman, wanting to send his son to receive an education in Athens, could go to a merchant banker who would write a letter of credit. This light, paper document would be taken to Athens and presented to an associate of the Roman banker, who would issue coin, up to the amount stated in the letter, to the travelling student. Because citizens of Athens often travelled to Rome carrying letters of credit, to a large extent the two-way flow of credit might cancel out. Each of the banking associates kept careful records. At intervals, if flows were lopsided, then could even up their mutual accounts by shipping coin or by sending desirable merchandise.

Letters of credit are an early example of the portability of accounting combined with its virtualization. A letter of credit, in the coin age, would be thought of as virtual coin. In fact, once we drop the coin blinders from our eyes, we see that it accounted for goods and services up to the point when coin was issued.

The most remarkable discovery that allowed accounting systems and trade in real goods and services) to escape the limitations of coin systems probably evolved among Italian city-state proto-bankers in the late middle ages. No, not double-entry bookkeeping (we'll get to that in Chapter 3). They discovered that they only needed a small reserve of coins to do business and make a profit through loans.

Next: To be continued

[The Accounting System, Your Fate is in the Cloud, is a work in progress by William P. Meyers, ©2013]