The Cambridge Economic History of Modern Britain

INTRODUCTION

The Victorians associated the City with a particular part of London and all the diverse activities that took place there; a hundred years later the Financial Times regarded the City as ‘no longer a postal address’ but as shorthand for the ‘finance function’ (Michie 1992: 12). Today the City comprises the largest international banking centre in the world, the largest foreign exchange market, the fourth largest stock market, the largest centre for Eurobond trading, the London International Financial Futures and Options Exchange, the largest asset management business in Europe, Lloyd's of London and finally a shadow banking sector comprising hedge funds, private equity groups, money market funds, commodity funds and securitised investment vehicles.

For over a hundred years from 1870 the British financial system, with the City at its centre, adopted a ‘separation of activities’ model whereby each financial institution specialised in a particular activity and in general complemented rather than competed with each other. On the London Stock Exchange (LSE), stockbrokers took orders to buy and sell securities from investors and passed them to stock jobbers who made a price in the securities and filled the orders; neither brokers nor jobbers were owned by a bank or other corporation. Commercial banks took in deposits and lent short-term to industry. Merchant banks advised sovereign issuers and large industrial clients and were surrounded by a multitude of discount brokers, specialist finance houses and smaller private banks. In this chapter, we are concerned with the interaction between the City and the corporate economy and therefore concentrate on those institutions most engaged in servicing the needs of the corporate sector.

Before plunging headlong into a discussion of the historical development of the UK financial system, it is worth briefly considering the main features of the German universal banking model; this offers an important and instructive contrast to the separation of activities model.